Back to GetFilings.com
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
[X] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934
FOR THE FISCAL YEAR ENDED OCTOBER 31, 1999
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 0-21236
APPLIED SIGNAL TECHNOLOGY, INC.
------------------------------
(Exact name of registrant as specified in its charter)
CALIFORNIA 77-0015491
---------- ----------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
400 WEST CALIFORNIA AVE., SUNNYVALE, CA 94086
---------------------------------------------
(Address of principal executive offices)
(408) 749-1888
--------------
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Exchange Act: Not
Applicable.
Securities registered pursuant to Section 12(g) of the Exchange Act: Common
Stock, without par value.
Indicate by a check 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 periods that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes /X/ No / /
Indicate by a check mark if disclosure by delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this form 10-K or any amendment to this
Form 10-K. [ ]
Aggregate market value of the voting stock held by non-affiliates of the
registrant:
Common Stock, without par value -- $79,772,491 as of January 3, 2000.
Number of shares of registrant's common stock outstanding:
Common Stock, without par value -- 8,330,956 shares as of January 3, 2000.
DOCUMENTS INCORPORATED BY REFERENCE
The registrant's Proxy Statement for the Annual Meeting of Shareholders
to be held on March 9, 2000 is incorporated herein by reference
in Part III to the extent stated herein.
This Annual Report on Form 10-K consists of 59 pages, including exhibits; the
exhibit index is on page 57.
INDEX
APPLIED SIGNAL TECHNOLOGY, INC.
PART I.
Item 1. Business Pg. 4
Item 2. Properties 20
Item 3. Legal Proceedings 20
Executive Officers of Registrant 21
PART II.
Item 5 Market for Registrant's Common Equity and Related
Shareholder Matters 23
Item 6. Selected Financial Data 25
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations 26
Item 7A. Quantitative and Qualitative Disclosure about Market Risk 34
Item 8. Financial Statements and Supplementary Data 35
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure 50
PART III.
Item 10. Directors and Executive Officers of the Registrant 51
Item 11. Executive Compensation 51
Item 12. Security Ownership of Certain Beneficial Owners and
Management 51
Item 13. Certain Relationships and Related Transactions 51
PART IV.
Item 14. Exhibits, Financial Statement Schedules, and Reports on
Form 8-K 52
Signatures 53
PART I
ITEM 1: BUSINESS
Forward-looking statements in this Report are made pursuant to
the safe harbor provisions of Section 21E of the Securities Exchange
Act of 1934. In this report, the words "anticipates," "believes,"
"expects," "future," "intends," and similar expressions identify
forward-looking statements. Shareholders are cautioned that all
forward-looking statements pertaining to the Company involve risks and
uncertainties, including, without limitation, those contained under
the caption, "Summary of Business Considerations and Certain Factors
that May Affect Future Results of Operations and/or Stock Price" and
other risks detailed from time to time in the Company's periodic
reports and other information filed with the Securities and Exchange
Commission. Actual events and results may differ materially from the
Company's current expectations and beliefs.
DESCRIPTIOM OF BUSINESS
Applied Signal Technology, Inc. (Applied Signal Technology or the
Company) designs, develops, and manufactures signal processing equipment to
collect and process a wide range of telecommunication signals. This
equipment is used for reconnaissance of foreign telecommunications
predominantly by the United States Government and allied foreign
governments, for certain industrial applications and for defense
communications systems. Signal reconnaissance systems are composed of
collection equipment and processing equipment. Collection equipment
consists of sophisticated receivers that scan the radio frequency (RF)
spectrum (cellular telephone, microwave, ship-to-shore, and military
transmissions) to collect certain signals from, potentially, thousands of
signals within the RF spectrum. Signal processing equipment, using
sophisticated software and hardware, evaluates the characteristics of the
collected signals and selects signals that are likely to contain relevant
information. Industrial applications include commercial communication
system quality monitoring and data network intrusion detection. Defense
communication equipment provides reliable, high-speed data transfer for
military applications. Since inception, the Company has focused its efforts
primarily on processing equipment, but also provides specialized collection
equipment, as well as complete systems.
Signal Reconnaissance
In recent years, accurate and comprehensive information
regarding foreign affairs and developments has become increasingly
important to the United States Government. The reduction of United
States military tactical forces overseas, coupled with political
instability in certain regions such as the Middle East, Eastern
Europe, Africa and Central and South America, has heightened the
United States Government's need to be able to monitor overseas
activities. In order to obtain information about activities within
foreign countries, the United States Government gathers and analyzes
telecommunication signals emanating from those countries.
Additionally, the use of established telecommunication
technologies has increased throughout the world and new
telecommunication technologies, supplementing rather than replacing
prior technologies, have been developed and commercialized. These
trends have led to a significant increase in the overall volume of
information communicated and an increase in the density of signals
transmitted throughout the radio frequency spectrum. This increase can
be seen in the proliferation of facsimile, cellular, and digital
signal telecommunications equipment and the global information network
(e.g., the Internet) in the last decade, resulting in a significant
increase in the amount of information being communicated. These trends
have required the development of signal reconnaissance equipment
capable of collecting and processing an increased volume of signals as
well as new types of signals.
Traditionally, organizations within the United States Government
have satisfied their signal reconnaissance needs by first identifying
their specific requirements and then contracting with government
contractors to provide equipment. Contractors typically designed and
built custom signal processing systems optimized to satisfy the
particular needs of various agencies. Development of custom systems
usually required many years of effort and involved great expense. The
time required to develop these systems often meant that when a system
was delivered, it did not address new telecommunications technologies
that had evolved during the development process. These factors,
combined with growing budgetary constraints, have caused many agencies
to search for more flexible and cost-effective signal reconnaissance
solutions that can be deployed promptly.
The Company devotes significant resources toward understanding
the United States Government's signal reconnaissance goals,
capabilities and perceived future needs. The Company obtains
information about these signal reconnaissance needs through frequent
marketing contact between its employees and technical and contracting
officials of the United States Government. The Company believes that
it has much more marketing contact with customers and potential
customers than is customary among its competitors. In addition, the
Company invests in research and development (R&D) which it anticipates
will enable it to develop signal reconnaissance equipment that meets
these needs. The Company believes that it invests a greater percentage
of its revenues in R&D than is typical among its competitors. (See
"Research and Development.")
The Company's signal reconnaissance products can be used, with
or without further modification, to satisfy requirements of a variety
of customers. The Company believes its products can be readily
deployed in a wide variety of circumstances to meet current United
States Government signal reconnaissance requirements. The Company
designs its products to use advanced circuitry and highly integrated
components. This enables the Company to offer products that are
smaller, consume less power, and cost customers less when multiple
units are built than equipment of similar functionality that use fewer
advanced designs and materials.
Industrial Applications
The volume of data transferred and made available to individuals
is growing exponentially worldwide. This trend dictates maximum
efficiency of frequency spectrum usage by the commercial
telecommunication companies. The spectrum usage is especially critical
in the band-limited radio frequency (RF) environment that personal
communication systems (e.g., cellular systems) and communication
satellite systems (e.g., PanAmSat, Intelsat, and InMarSat) utilize. As
these systems attempt to maximize this usage, there is an increasingly
higher probability that data transfer will be impaired. This creates
demand for sophisticated data quality monitoring.
The Company believes that its signal processing prowess in non-
intrusive signal reconnaissance developed over the years, positions
the Company to capitalize on this quality monitoring requirement. In
addition, as the Company continues to stay abreast of the United
States Government's future signal reconnaissance needs, it should stay
abreast of trends in telecommunication technology. The Company
believes its knowledge and experience will permit the Company to
understand the data transfer techniques that will require quality
monitoring in the future.
As the world becomes more reliant upon data transfer and data
access for its day-to-day activities (i.e., e-commerce), it also
becomes more vulnerable to unauthorized data access or manipulation.
This creates a requirement for data system intrusion detection. This
intrusion detection must be performed without impact upon the data
transfer.
The Company believes that the technological expertise it has
developed for signal reconnaissance, positions the Company to develop
and market intrusion detection technology. In particular, the
Company's signal processing prowess provides the fundamentals for the
development of intrusion detection equipment.
Defense Communications
Just as the civilian world is becoming increasingly dependent
upon data transfer and access, so is the military. The military
branches utilize data transfer for guidance, computer-to-computer
battlefield planning, high quality communications, and other
applications. Many times this data transfer must occur under non-ideal
transport modes. The transport invariably is in the radio frequency
spectrum and must occur under sub-optimum conditions such as minimal
frequency planning for interference mitigation, inaccurate antenna
pointing, and moving platforms. These defense communication systems
must be able to mitigate these data transfer anomalies in an automated
or semi-automated manner in order to provide reliable, rapidly
deployed communications.
The military branches are committed to adopting to advancing
state-of-the-art data transfer technologies. As they adopt these new
technologies, they are faced with added complexities not confronted in
commercial applications. Accordingly, the United States Government is
investing in research and development to overcome these complexities,
with the goal of providing a reliable all-digital battlefield by 2010.
The Company believes that the technological expertise it has
developed for signal reconnaissance systems to adequately process data
collected in non-ideal situations positions the Company to capitalize
in developing products that satisfy these defense communication system
requirements. In particular, the Company's experience in adaptive
equalization/demodulation of sophisticated data telecommunication
signals enable the Company to develop equipment that overcomes these
data transport anomalies.
STRATEGY
Applied Signal Technology's objective is to anticipate the needs
of the telecommunication processing marketplace and to invest in
research and development in an effort to provide solutions before the
Company's competitors. In some cases, this involves the development of
equipment to address new telecommunications technologies. In other
cases, it involves the development of equipment that offers smaller
size, lower power consumption, and lower cost than potentially
competitive products. The Company's strategy to accomplish its
objective includes the following elements:
- Anticipate Marketplace Needs. The Company devotes significant
resources in order to understand perceived future
telecommunication processing needs. The Company monitors
technological and commercial advances in telecommunications
to identify advances it believes will create new
opportunities. The Company obtains information about
marketplace needs through frequent contact with employees and
technical and contracting officials. In contrast, the Company
believes that its competitors often wait until potential
customers request competitive proposals for equipment to
satisfy specific requirements and then respond to these
requests.
Many times, sole source contracts are granted by the United
States Government when a single contractor is deemed to have
an expertise or technology that is superior to that of
competing contractors. Since the Company's inception, a
significant portion of its revenues have been from sole
source contracts. The Company believes that the large number
of sole source contracts it obtains demonstrates that it
often anticipates marketplace needs correctly. There can be
no assurance, however, that the Company will anticipate
correctly the marketplace needs in the future.
- Invest in Research and Development. The Company invests in
research and development it believes will enable it to
develop equipment that will satisfy the telecommunication
processing needs of the future. The Company believes that it
invests a greater percentage of its revenues in R&D than is
typical among its competitors. The Company believes its R&D
investments often enable it to offer superior products before
its competitors.
- Develop Flexible Products. The Company develops products that
can be used, with or without further modification, to satisfy
the needs of a variety of customers. The Company uses its
prior product development efforts to offer customers cost-
effective solutions and to offer these solutions promptly.
The Company believes that custom equipment developed by many
of the Company's competitors generally cannot be as readily
deployed in as wide a variety of circumstances as the
Company's products.
- Develop Highly Integrated Products. The Company designs its
products to use advanced circuitry and highly integrated
components. This enables the Company to offer products that
are smaller, consume less power, and cost customers less when
multiple units are built than equipment of similar
functionality that use fewer advanced designs and materials.
The lower cost of many of the Company's products appeals to
customers with budget constraints, and the smaller size and
low power consumption of many of the Company's products
appeal to customers with physical installation constraints.
- Focus on Signal Processing. Since inception, the Company has
focused much of its attention on developing signal processing
equipment. The Company believes that there have been and will
continue to be opportunities to develop specialized signal
processing equipment to satisfy emerging technological
requirements.
- Increase Penetration and Broaden Customer Base. The Company
believes that its current customers offer significant
opportunities for sales growth, both in terms of additional
units of developed products and the development of new
products and, accordingly, directs much of its marketing
efforts toward these customers in order to increase the
Company's penetration of these markets. In addition, more
recently, the Company has been attempting to broaden its
customer base through the aggressive pursuit of new markets
relating to quality monitoring of commercial satellite
communications, data network intrusion protection and defense
communications.
PRODUCTS
The Company's products consist of signal collection and
processing equipment that use software and hardware developed over
many years by the Company in the course of performing development
contracts to provide signal reconnaissance equipment to the United
States Government. This software and hardware enable the Company's
processing equipment to evaluate large numbers of radio frequency
signals and to select the relatively small proportion which contain
information likely to be useful in the signal reconnaissance programs
of the United States Government. More recently, the Company has
leveraged its product and technology base into some products outside
the traditional signal reconnaissance market.
The Company offers a variety of signal reconnaissance products,
which can be categorized as follows:
- Voice Grade Channel Processors. These processors are designed
to process voice grade channels (VGCs) which carry audio and
other signals. The standard telecommunication systems used
throughout the world put a large number of VGCs on a single
carrier channel to increase the number of signals that can be
transmitted at a particular frequency. VGC processors can
scan thousands of signals in less than one second and use
sophisticated processing technology to detect and record
relevant data, which is then analyzed by United States
Government personnel. These processors evaluate the
characteristics of collected signals and select those signals
that are likely to contain relevant information. The
Company's VGC processors currently range in price from
approximately $40,000 to approximately $200,000.
- Wideband Processors. These processors "clean"
telecommunication signals for further processing by VGC
processors by adjusting for signal distortions that commonly
occur during transmission. The two primary types of
distortion these processors correct are multipath
interference (caused by the reception of a signal and its
reflections) and cochannel interference (caused by the
reception of multiple interfering signals). Commercial
telecommunications companies overcome these distortions with
careful alignment and tuning which requires interruption of
the telecommunication signals. The Company's wideband
processors perform this alignment independently and
automatically by adjusting processing parameters using
proprietary adaptive algorithms that let the processors
"learn" how to process the incoming signals. One of the
Company's wideband processors processes signals that carry
thousands of VGCs in a digital format which is rapidly being
proliferated through the world and is particularly
susceptible to distortions. The Company's wideband processors
currently range in price from approximately $80,000 to
approximately $150,000.
- Processing Systems. Although the Company has emphasized
subsystem or "product" development since its inception, it
has also developed and delivered signal processing systems in
situations where the capabilities of its products have
enabled it to obtain a system development contract on a sole
source basis from the United States Government. The Company's
two largest system installations, for which the Company
developed custom systems software, integrated a number of the
Company's standard VGC processors and were developed to
exacting United States Government software and documentation
standards. Pricing for processing systems can vary widely
depending on the system requirements. Prices may range from
$100,000 to millions of dollars.
- Collection Products. The Company offers a limited number of
signal collection products designed to complement certain of
the Company's processing products. The Company's collection
products include a low-cost, small-size receiver that
collects very complex signaling formats and a receiver that
overcomes cochannel interference and certain forms of
multipath interference by optimizing multiple antenna inputs.
The Company's collection products currently range in price
from approximately $20,000 to approximately $60,000.
Over the last 24 months, the Company has entered into the
industrial telecommunication processing equipment and defense
communications equipment marketplaces with the following categories:
- Communication Satellite Quality Monitors. These products
collect a variety of radio frequency signals emitted from
satellites and perform precise signal parameter measurements,
using advanced digital signal processing techniques, to
monitor signal quality. The equipment interfaces with system
control networks to provide total system quality monitoring.
These products are priced in a range of approximately $50,000
to $100,000.
- Telephone Intrusion Detection Equipment. This equipment is a
variant of the voice grade channel processor using the multi-
channel processing capability to detect unusual channel
activity within a telephone network. This activity could be
indicative of attempts at unauthorized data network entry.
These products currently range in price from approximately
$40,000 to $150,000.
- Defense Communication Products. This equipment is based on
the wideband processor technology. The communication products
not only "clean" the signals for subsequent processing, but
also include the signal generation capability to provide the
complete function of an adaptive equalization wideband modem.
These products currently range in price from approximately
$20,000 to $40,000.
CUSTOMERS, CONTRACTS, AND MARKETING
CUSTOMERS
To date, purchases by the United States Government have accounted
for almost all of the Company's revenues. Most of the Company's
revenues have come from contracts directly with the United States
Government. The Company also has subcontracts under which it supplies
products or services to prime contractors that have contracts with the
United States Government. Subcontract revenues accounted for
approximately 46%, 34%, and 29% of the Company's revenues for its
fiscal years 1999, 1998, and 1997 respectively. In addition, the
Company occasionally sells small quantities of equipment to foreign
governments. Foreign revenues have accounted for approximately 5%, 9%,
and 2% of the Company's revenues in fiscal years 1999, 1998, and 1997,
respectively.
The Company's United States Government customers consist of
approximately six military and intelligence agencies with signal
reconnaissance needs. Within these six major customers, the Company
has contracts with approximately 20 different offices, each with
separate budgets and contracting authority. Concentration of revenue
sources is significant for the United States Government. The Company's
largest contract accounted for 21%, 18% and 22% of the Company's
revenues in fiscal years 1999, 1998, and 1997, respectively.
Two intelligence agencies accounted for approximately 42% and
34%, respectively, of revenues in fiscal year 1999; approximately 39%
and 34%, respectively, of revenues in fiscal year 1998; and
approximately 57% and 29%, respectively, of revenues in fiscal year
1997.
CONTRACTS
Most of the Company's business is conducted under contracts that
include United States Government security requirements. The Company's
contracts with United States Government agencies can be categorized in
several ways.
Sole source contracts are let by the United States Government
when a single contractor is deemed to have an expertise or technology
that is superior to that of competing contractors. Potential suppliers
compete informally for sole source contracts through R&D investment and
marketing efforts. This competition requires a contractor to identify
the United States Government's requirements early and invest in
developing potential solutions so that the contractor can demonstrate a
distinguishing expertise or technology promptly after the United States
Government has identified a signal reconnaissance requirement.
Competitive bid contracts are awarded based on objective proposal
evaluation criteria established by the procuring agency. Interested
contractors prepare a bid and proposal that responds to the agency's
request for proposal. A bid and proposal is usually prepared in a
short period of time (for example, 45 days) in response to a deadline
and requires the extensive involvement of numerous technical and
administrative personnel.
Competitive bid contracts are awarded after a formal bid and
proposal competition among suppliers and sole source contracts are
awarded without a formal competition. During fiscal years 1999, 1998,
and 1997, approximately 59%, 62%, and 69%, respectively, of the
Company's revenues were from sole source contracts, and approximately
41%, 38%, and 31%, respectively, were from competitively bid contracts.
During fiscal years 1999, 1998 and 1997, the Company experienced
a continued increase in the percentage of revenues from contracts
awarded on a competitive basis. Management believes this increase is
primarily due to a continuing diversification of the customer base as
the Company grows. Management does not believe this shift towards a
higher percentage of revenues from sole source to competitive bidding
will have a material impact on future operating results of financial
condition on the Company.
Competitive bid or sole source contracts can be either fixed-
price contracts, pursuant to which the Company agrees to deliver
equipment for a fixed price and assumes the risk of cost overruns, or
cost-plus contracts, pursuant to which the Company is reimbursed for
its direct and indirect costs and paid a negotiated profit. During
fiscal year 1999, approximately 45% of the Company's revenues were from
fixed-price contracts and approximately 55% were from cost-plus
contracts. During fiscal year 1998, approximately 46% of the Company's
revenues were from fixed-price contracts an approximately 54% were from
cost-plus contracts. During fiscal year 1997, approximately 50% of the
Company's revenues were from fixed-price contracts and approximately
50% were from cost-plus contracts.
Most of the Company's fixed-price contracts are for the
manufacture of multiple units of its products, rather than the
development of new products. The Company believes that the risk of
cost overruns is much less in the case of fixed-price manufacturing
contracts, where the product already has been developed and at least a
prototype made, than in the case of fixed-price development contracts.
The Company is subject to price redetermination on certain fixed-
price U.S. Government contracts if it is determined that the Company
did not price its products and services consistent with the
requirements of the Federal Acquisition Regulations. As of October 31,
1999, the Company has not had a material claim sustained against it for
noncompliance.
Almost all of the Company's contracts contain termination clauses
that permit contract termination upon the Company's default or for the
convenience of the other contracting party. In either case,
termination could adversely affect the Company's operating results.
Although the Company has not experienced any material cancellations in
the past, there can be no assurance such cancellations will not occur
in the future.
MARKETING
The Company's primary marketing efforts consist of personal
contact between technical representatives of customers and potential
customers and technical personnel of the Company. The Company involves
all technically qualified staff members in its marketing program. The
Company believes it is extremely important to have technically
knowledgeable staff make marketing contacts since an initial system
concept is often developed during the first such contact. The Company
believes that it has much more marketing contact with customers and
potential customers than is customary among its competitors generally,
and that this contact enables the Company to anticipate
telecommunication signal processing needs, thereby giving the Company a
potential advantage over its competitors.
In addition to its primary technical marketing, the Company also
conducts marketing activities designed to increase its visibility with
existing and potential customers. Each year the Company conducts two
equipment shows in the Washington, D.C. area demonstrating the
operation of many of its signal reconnaissance products. The Company
uses direct mail and magazine advertising from time to time to inform
potential customers of available products. Annually the Company
updates a signal reconnaissance product summary catalog, and produces a
quarterly, technical newsletter for direct mailing. The Company's
mailing list includes contacts at private sector companies that may
purchase the Company's products for their own use or for inclusion in
systems they are developing, as well as contacts at United States
Government agencies that buy products but do not contract for
development efforts.
BACKLOG
The Company`s backlog, which consists of anticipated revenues
from the uncompleted portions of existing contracts, was $64.9 million,
$49.4 million and $83.3 million at October 31, 1999, 1998, and 1997,
respectively. Anticipated revenues included in backlog may be realized
over a multi-year period. The Company includes a contract in backlog
when the contract is signed by both the Company and the customer. The
Company believes the backlog figures are firm, subject only to the
cancellation and modification provisions contained in its contracts.
(See Item 7 - Management's Discussion and Analysis of Financial
Condition and Results of Operations: "Backlog.")
RESEARCH AND DEVELOPMENT
The Company conducts research and development (R&D) pursuant to
United States Government R&D contracts and as part of its own R&D
program. United States Government R&D contracts generated
approximately $76.l million of revenues in fiscal year 1999,
approximately $60.9 million of revenues in fiscal year 1998, and
approximately $48.0 million of revenues in fiscal year 1997.
The Company's R&D program is funded by the billing rates charged
to its customers. The Company's R&D expenditures as a percentage of
revenues in fiscal years 1999, 1998, and 1997 were 11.2%, 11.1%, and
10.5%, respectively. Research and development conducted by the Company
was approximately $12.9 million for fiscal year 1999, $12.2 million for
fiscal year 1998, and $10.1 million for fiscal year 1997. The Company
believes that its investment in R&D provides it with a significant
competitive advantage.
The Company seeks to develop technology capable of addressing new
telecommunication signal processing requirements before its
competitors. In addition, the Company focuses its R&D on developing
products that can be used, with or without further modification, to
satisfy various needs of a variety of customers, thereby permitting the
Company to offer a solution promptly. The Company attempts to allocate
its R&D funds among projects intended to yield revenues within one to
two years, projects intended to yield revenues in two to five years,
and projects intended to yield revenues in more than five years. Most
of the Company's R&D expenditures are for projects intended to yield
revenues within one to two years.
An important aspect of the Company's R&D efforts is understanding
telecommunication trends to anticipate the future signal processing
needs of its customers. Not only does this allow the Company to direct
its R&D engineering efforts to produce solutions promptly once a
customer expresses a need, but it often allows the Company to educate
the customer about its potential needs and simultaneously present a
conceptual solution to those needs.
COMPANY DIVISIONS
The Company is organized into a Technical Operations Group and a
finance division. The Technical Operations Group has four divisions.
Three of these divisions - Communication Systems, Multichannel Systems
and Personal Communications Systems - are engineering divisions which
are primarily responsible for conducting all R&D activities as well as
the initial development of products. The fourth division is the
Operations Division which is primarily responsible for manufacturing
multiple units of products. All divisions work together to ensure that
production-related issues such as manufacturability, reliability and
maintainability are addressed from initial product definition through
final product shipment. The Company's technical staff includes
personnel with systems development expertise, which the Company applies
not only to systems development but also to its product development in
order to ensure the compatibility of its products with a variety of
system requirements. As of January 3, 2000, there were 319 employees
in the engineering divisions and 168 employees in the operations
division. (See "Employees.")
Engineering. The engineering divisions are responsible for all
R&D. The Company's R&D activities include both United States
Government R&D contracts and the Company's R&D projects. The
engineering division activities are directed toward developing products
that will ultimately be produced by the Operations Division. The
engineering divisions work in conjunction with the Operations Division
to assure that the development efforts will culminate in a product able
to be manufactured efficiently in quantity.
In addition to corporate headquarters in Sunnyvale, California,
the Company maintains engineering offices in Herndon, Virginia;
Annapolis Junction, Maryland; Salt Lake City, Utah; and Hillsboro,
Oregon. As of January 3, 2000 there were 55 employees in these
locations. Most of the personnel staffing these offices are technical
personnel and, in addition to marketing activities, are involved in
research and development and customer support (for example,
installation, training, and troubleshooting).
Operations. The Operations Division is responsible for
completing final product development and manufacturing multiple units
of products. By combining engineering and production expertise within
the Operations Division, the Company believes it is able to maximize
manufacturing efficiency and, therefore, reduce overall production
costs. Operations manufactures products using batch production
methods. The division achieves labor efficiency by extensive cross-
training of its personnel, which permits these personnel to participate
in the production of all the Company's products. The division is also
responsible for managing the Company's purchases of goods and services,
including third party manufacturing and assembly services. (See
"Suppliers.")
SUPPLIERS
The Company uses suppliers in order to obtain quality goos and
services without incurring the costs of providing those goods and
services in-house. The Company purchases from suppliers nearly all
circuit boards, integrated circuits, and other components used in its
products. In addition, the Company contracts with suppliers to
assemble some of its products. The Company's reliance on suppliers
involves several risks, including the possibility of a shortage of
certain key components and assemblies and reduced control over delivery
schedules, manufacturing yields, quality, and cots. If the Company
experiences significant availability or quality control problems in the
future, its operating results could be adversely affected.
Although the Company procures most of its parts and components
from multiple sources or believes that these components are readily
available from numerous other sources, certain components are available
only from sole sources or from a limited number of sources. A number
of the Company's products contain critical components like single board
computers available solely from Motorola, Inc. and Force Computers,
Inc. and field programmable gate arrays available solely from Xilinx,
Inc. While the Company believes that substitute components or
assemblies could be obtained, use of substitutes would require
development of new suppliers or would require the Company to re-
engineer its products, or both, which could delay the Company's
shipment of its products and could have a material adverse effect on
the Company's operating results.
COMPETITION
The telecommunication signal processing equipment market is
highly competitive and the Company expects that competition will
increase in the future. Some of the Company's current and potential
competitors have significantly greater technical, manufacturing,
financial, and marketing resources that the Company. The Company's
current competitors include L-3 Communications Corporation; Boeing-
North America; E-Systems, Inc. (a subsidiary of Raytheon Corporation);
General Dynamics Corporation; Harris Corporation; Lockheed Martin
Corporation; Motorola Government Electronics Group (a subsidiary of
Motorola, Inc.); SAT Corporation; Comsat Corporation; TRW, Inc.; and
ITT Corp. Substantial competition could have a material adverse effect
on the Company's results of operations.
The competition for competitive bid contracts differs from the
competition for sole source contracts. Companies competing for
competitive bid contracts prepare bids and proposals in response either
to a commercial or government request and typically compete on price.
Potential suppliers compete informally for sole source contracts
through R&D investment and marketing efforts. Companies competing for
sole source contracts attempt to identify the customer's requirements
early and invest in solutions so that they can demonstrate a
distinguishing expertise or technology promptly after the customer has
identified a signal processing requirement. The principal factors of
competition for sole source contracts include investments in R&D; the
ability to respond to government needs promptly; product price relative
to performance, quality, and customer support. The Company believes
that it competes favorably on each of these factors.
PROPRIETARY RIGHTS
The United States Government has rights to most of the technology
developed by the Company under government contracts, including rights
to permit other companies, including the Company's competitors, to use
this technology to develop products for the United States Government.
The Company is not aware that the United States Government has
exercised these rights.
The Company has filed patent applications for certain of its
technology. As of October 31, 1999, three patents have been granted to
the Company. The Company believes that given the rapidly changing
nature of signal collection and processing technology, its future
success will depend primarily upon the technical competence and
creative skills of its personnel. The Company attempts to protect its
trade secrets and other proprietary information through agreements with
customers, employees, and consultants and other security measures.
There can be no assurance that the measures adopted by the Company for
the protection of its intellectual property will be adequate.
Although the Company does not believe and has not received notice
that it is infringing upon the intellectual property rights of others,
there can be no assurance that such a claim will not be asserted
against the Company. In the event any third party made a valid claim
against the Company and a license was not made available to the Company
on commercially reasonable terms, this could have a material adverse
effect on the Company's results of operations.
GOVERNMENT REGULATIONS
Many of the Company's operations are subject to compliance with
regulatory requirements of federal, state and municipal authorities,
including regulations concerning employment obligations and affirmative
action, workplace safety, and protection of the environment. While
compliance with applicable regulations has not adversely affected the
Company's operations in the past, there can be no assurance that the
Company will continue to be in compliance in the future or that these
regulations will not change.
In particular, the company must comply with detailed government
procurement and contracting regulations and with United States
Government security regulations, certain of which carry substantial
penalty provisions for nonperformance or misrepresentation in the
course of negotiations. Failure of the Company to comply with its
government procurements or contracting obligations or security
obligations could result in penalties or suspension of the Company form
government contracting, which would have a material adverse effect on
the Company's results of operations. (see Item 1 - Business:
"Customers, Contracts, and Marketing.")
EMPLOYEES
As of January 3, 2000, the Company had approximately 642 full-
time employees, 160 of whom hold advanced technical degrees (master
and/or doctoral degrees), including 19 with doctoral degrees.
The Company's business requires that a large number of its
technical employees obtain security clearances from the United States
Government, which limits the available pool of eligible candidates for
such positions to those who can satisfy the prerequisites to obtaining
these clearances. In particular, the personnel involved in signal
reconnaissance marketing require the appropriate clearances to meet
with government technical representatives and discuss the government's
needs. The Company has a United States Government-sanctioned security
program that allows staff members to obtain appropriate clearances.
Approximately 45% of the Company's staff have security clearances. The
success of the Company is dependent on attracting, retaining, and
motivating qualified key management and technical personnel, the loss
of whom, could adversely affect the Company's business. Such personnel
are in great demand and limited supply.
The Company believes its employees are its most valuable resource
and that its workforce possesses a strong feeling of dedication to and
pride in the Company. This dedication is reinforced through incentive
compensation arrangements based on Company performance. The Company's
employees are not represented by any collective bargaining agreements,
and the Company has never experienced a work stoppage.
SUMMARY OF BUSINESS CONSIDERATIONS AND CERTAIN FACTORS THAT MAY AFFECT FUTURE
RESULTS OF OPERATIONS AND/OR STOCK PRICE
The Company's future operating results and stock price may be
subject to volatility, particularly on a quarterly basis, due to the
following:
Customer Concentration: Historically, defense and intelligence
agencies of the United States Government have accounted for almost all
of the Company's revenues. Future reductions in United States
Government spending on signal reconnaissance and communications
equipment or future changes in the kind of signal reconnaissance and
communications products or services required by the United States
Government agencies could limit demand for the Company's products which
would have a material adverse effect on the Company's operating results
and financial condition. In addition, as a supplier of these agencies,
the Company must comply with numerous regulations, including
regulations governing security and contracting practices. Failure to
comply with these regulations could disqualify the Company as a
supplier of these agencies, which would have a material adverse effect
on the Company's operating results and financial condition.
Revenue Concentration: Due to the award of certain larger
contracts the Company has experienced a significant concentration of
revenues from a single contract in recent periods. Revenue related to
a single contract comprised of 21% of revenue for fiscal 1999. This
compares to 18% and 22% attributable to the same contract in fiscal
1998 and 1997, respectively. This contract may be terminated at the
sole discretion of the United States Government. If this contract or
other larger contracts of the Company were terminated, this could have
a material adverse effect on the Company's operating results and
financial condition.
Competition: The telecommunication signal processing market is
highly competitive and the Company expects that competition will
increase in the future. Some of the Company's current and potential
competitors have significantly greater technical, manufacturing,
financial, and marketing resources than the Company. Substantial
competition could have a material adverse effect on the Company's
operating results and financial condition.
Dependence Upon Personnel: The Company's ability to execute its
business plan is contingent upon successfully attracting and retaining
qualified employees. During the last few years, the Company has
experienced difficulty in attracting new talent due to an increasingly
competitive market for qualified personnel. Management believes this
effect continues to be attributable to the expanding U.S. economy and,
in particular, the local California economy where the Company must
compete for new talent in the rapidly expanding telecommunications
sector and due to the difficulty in recruiting new staff capable of
obtaining the necessary security clearance. (See "Employees.") The
Company has taken step to bolster its ability to attract and retain
staff by opening additional offices in Salt Lake City, Utah and in
Hillsboro, Oregon. The Company believes these new offices, in addition
to the increased investment made in the Company's human resources
activities during fiscal 1999, should allow it to successfully attract
and retain qualified employees. Failure to do so could have a material
adverse effect on the Company's operating results and financial
condition.
Risk of Fixed Price and Contract Terminations: A significant
portion of the Company's revenues are derived from fixed-price
contracts. Under fixed-price contracts, unexpected increases in the
cost to develop or manufacture a product, whether due to inaccurate
estimates in the bidding process, unanticipated increases in materials
costs, inefficiencies or other factors, are borne by the Company. The
Company has experienced cost overruns in the past that have resulted in
losses on certain contracts. There can be no assurance that the
Company will not experience cost overruns in the future or that such
overruns will not have a material adverse effect on the Company's
operating results and financial condition.
In addition, almost all of the Company's contracts contain
termination clauses which permit contract termination upon the
Company's default or for the convenience of the other contracting
party. In either case, termination could adversely affect the
Company's operating results. Although the Company has not experienced
any material contract terminations to date, there can be no assurance
that such terminations will not occur in the future.
Potential Fluctuations in Quarterly Results and Market
Volatility: The Company has experienced significant fluctuations in
operating results from quarter to quarter and expects that it will
continue to experience such fluctuations in the future. These
fluctuations are caused by, among other factors, conditions inherent in
government contracting and the Company's business, such as the timing
of cost and expense recognition for contracts and the United States
Government contracting and budget cycles. Fluctuations in quarterly
results, shortfalls in revenues or earnings from levels forecast by
securities analysts, changes in estimates by analysts, competition, or
announcements of extraordinary events such as acquisitions or
litigation may cause the price of the Company's common stock to
fluctuate substantially. In addition, there can be assurance that an
active trading market will be sustained for the Company's common stock.
The sock market in recent years has experienced extreme price and
volume fluctuations that have particularly affected the market prices
of many technology companies. These fluctuations, as well as general
economic and market conditions, may adversely affect the future market
price of the Company's common stock.
Rapid Technological Change: The market for the Company's
products is characterized by rapidly changing technology. The company
believes that it has been successful to date in identifying certain
signal reconnaissance and industrial marketplace needs early, investing
in research and development to meet these needs, and delivering
products before the Company's competitors. The Company believes that
its future success will depend upon continuing to develop and
introduce, in a timely manner, products capable of collecting or
processing new types of telecommunications signals. There can be no
assurance that the Company will be able develop and market new products
successfully in the future or respond effectively to technological
changes, such as data encryption technology, network intrusion
detection and others, or that new products introduced by others will
not render the Company's products or technologies noncompetitive or
obsolete.
Dependence Upon Certain Suppliers: Although the Company procures
most of its parts and components from multiple sources or believes that
these components are readily available from numerous other sources,
certain components are available only from sole sources or from a
limited number of sources. A number of the Company's product contain
critical components like single board computers available solely from
Motorola and Force Computers and field programmable gate arrays
available solely from Xilinx, Inc. While the Company believes that
substitute components or assemblies could be obtained, use of
substitutes would require development of new suppliers or would require
the Company to re-engineer its products, or both, which could delay the
Company's shipment of its products and could have a material adverse
effect on the Company's operating results and financial condition.
Business Disruption: The Company's corporate headquarters,
including most of its research and development operations and
production facilities, are located in the Silicon Valley area of
Northern California, a region known for seismic activity. A
significant earthquake could materially affect operating results. The
Company is not insured for most losses and business interruptions of
this kind.
Year 2000 Y2K Risks: The Company has implemented a program over the
last two and a half years to define and minimize risks related to
transitioning to the year 2000 and beyond. The program and associated
risk assessment was segregated into three main areas: 1)Product
Readiness Program, 2)Internal Infrastructure Readiness Program and, 3)
Business Partners Readiness Program. For each of the three areas, the
Company systematically performed risk assessments, conducted tests and
implemented remediation activities.
The Company's efforts in this area have been successful to date. The
Company has transitioned all of its systems to the new millennium
without experiencing significant problems in any of its product,
infrastructure or business partner programs.
Further, the Company believes it has identified, tested and developed a
plan to handle all known Year 2000 concerns in accordance with its
contractual obligations and operational requirements. Thus, management
believes that the risk related to future exposure of Year 2000 issues
is minimal.
All costs related to Year 2000 readiness have been borne by the Company
and recovered in the product prices and therefore, have not had a
material impact on its operating results.
ITEM 2: PROPERTIES
The Company's corporate offices that also serve as its primary
research and development, engineering, production, marketing, and
administrative offices are located in Sunnyvale, California. The
Company leases and occupies six buildings of approximately 273,000
square feet whose term expires in March 2012. Under the terms of the
lease, the Company has options to lease three additional buildings.
The first option was exercised in July 1998 for which the construction
of a 69,000 square foot building started in January 2000; occupancy is
anticipated in November 2000. The second option for a 58,000 square
foot building was exercised in September 1999; occupancy is targeted
for November 2001. The third option for another 58,000 square foot
building can be exercised anytime through February 2001; the Company
has not taken any action on this option.
In addition, the Company maintains four offices within the United
States for small development, marketing and administrative functions.
The Company leases: 29,121 square feet of a 90,000 square foot
building in Annapolis Junction, Maryland that expires in April 2004; a
15,520 square foot building in Herndon, Virginia that expires in
January 2006; 11,000 square feet of a 40,000 square foot building in
Hillsboro, Oregon that expires in October 2004; and 9,500 square feet
of a 28,000 square foot building in Salt Lake City, Utah that expires
in April 2004.
The Company's business requires that it maintain at each of its
offices a facility clearance sponsored and approved by the United
States Government. This approval could be suspended or revoked if the
Company is found not to have complied with security regulations
applicable to such facilities. Any revocation or suspension of such
approval that materially delayed the Company's delivery of its products
to customers would materially adversely affect the Company's results of
operations. Although the Company has adopted policies directed at
assuring its compliance with relevant regulations, there can be no
assurance that the approved status of the Company's facilities will
continue without interruption.
ITEM 3: LEGAL PROCEEDINGS
The Company from time to time is engaged in various legal actions
including but not limited to wrongful termination allegations,
governmental agency investigations and employee discrimination
allegations. The Company, believes that these legal actions will not,
either individually or in aggregate, have a material adverse effect on
the operating results or financial condition of the Company.
EXECUTIVE OFFICERS OF THE REGISTRANT
As of January 3, 2000, set forth below is certain information with
respect to age and background for each of the executive officers of the Company:
NAME AGE POSITION
---- --- -------
Gary L. Yancey 54 President, CEO and Chairman of the Board
Brian M. Offi 46 Vice President-- Finance, Chief Financial Officer and Secretary
Bani M. Scribner, Jr. 55 Executive Vice President, General Manager--
Technical Operations Group
Richard Gooch 43 Vice President-- Personal Communications Systems Division
Al Ovadia 59 Vice President-- Multichannel Systems Division
Ken Snow 59 Vice President-- Operations Division
Kenway Wong 50 Vice President-- Communication System Division
Gary L. Yancey, a co-founder of the Company, has served the Company as
President, CEO and Chairman of the Board since the Company's incorporation
in January 1984. Prior to co-founding the Company, he was employed for
10 years by ARGOSystems, a manufacturer of electronic reconnaissance
systems.
Brian M. Offi joined the Company in October 1990 as Chief Financial
Officer and was elected Vice President-Finance in May 1991. From May
1987 to October 1990, he served as Chief Financial Officer of S-Tron,
Inc., a manufacturer of life-support equipment worn by military
personnel.
Bani M. Scribner, Jr. joined the Company in 1992 as senior staff
reporting to the President. In November 1996 he was elected Vice
President of the Strategic Systems Division.
Richard Gooch joined the Company in May 1985 as an Engineer. He was
promoted to Department Manager in 1989. In November 1999, he was elected
Vice President of Personal Communications System Division.
Al Ovadia joined the Company in April 1993 as a Senior Engineer and
was promoted to Department Manager in October 1994. In November 1999, he
elected Vice President of Multichannel Systems Division.
Ken Snow joined the Company in January 1990 as a senior staff
engineer. He was promoted to the position of Deputy Director of
Engineering in 1991. In October 1994 he became the Director of the
Operations Division and in March 1995 he was elected Vice President of
Operations.
Kenway Wong joined the Company in 1988 as a senior engineer. He was
promoted to Department Manager in 1989, and Engineering Director in
1994. In November 1997, he was elected Vice President of the
Communication Systems Division.
PART II
ITEM 5: MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS
Selected Common Stock Data:
Applied Signal Technology, Inc. Common Stock was first offered to the public
on March 26, 1993. Since the initial public offering, the stock has been
traded on The Nasdaq National Market under the symbol "APSG". As of
January 5, 1999, the Company had approximately 570 shareholders of record.
The following table sets forth the range of high, low and closing sale
prices for the Company's Common Stock over the last eight quarters
ending October 31, 1998. The "last" price per share in the table represents
the closing price on the last trading day of the quarter. The quotations
represent inter-dealer quotations, without retail markups, markdowns, or
commissions and may not necessarily represent actual transactions. The
Company's line of credit agreement prohibits the Company from making
dividend payments without the lender's approval which has been granted.
Share
Volume
High Low Last (in 000'S)
-------- -------- -------- ----------
Fiscal year ended October 31, 1998
First quarter $13.63 $13.38 $13.50 5,647.1
Second quarter $11.75 $11.06 $11.50 10,255.8
Third quarter $12.88 $11.63 $11.63 3,765.6
Fourth quarter $11.88 $11.25 $11.31 2,080.0
Fiscal year ended October 31, 1999
First quarter $14.18 $9.00 $9.50 2,757.8
Second quarter $9.75 $5.00 $6.50 3,686.8
Third quarter $11.00 $6.38 $10.31 1,743.1
Fourth quarter $10.63 $8.75 $9.81 1,063.7
In the third quarter of fiscal 1999, the Board of Directors declared
a $0.25 per share dividend, payable over four quarters at the rate of
$0.625 per share per quarter. Payments are made to shareholders of
record at July 30, 1999; October 31, 1999; January 28, 2000; and
April 28, 2000 during the month following the record date. The
Company plans to continue its dividend program; however, dividend
payments beyond those authorized by the Board of Directors are contingent
upon future earnings, capital investment requirements, strategic
initiatives and the Company's financial condition.
Nasdaq Market Makers:
As of December 31, 1999, the following firms were registered market
makers of the Company's Common Stock on the Nasdaq National Market:
SG Cowen Securities; Mayer & Schweitzer Inc.; Sherwood Securities Corp.;
Herzog, Heine, Geduld, Inc.; Knight Securities L.P.; Weeden and Co., Inc.;
Spear, Leads & Kellogg; and Riley & Co.
Item 6. SELECTED FINANCIAL DATA
All data is in thousands except per common share data.
Summary of Operations: Year Ended October 31,
1999 1998 1997 1996 1995
--------- --------- --------- --------- ---------
Revenues from contracts $115,541 $110,087 $96,259 $77,410 $67,664
Operating expenses:
Contract costs 70,109 67,840 60,404 53,333 45,418
Research and development 12,913 12,208 10,137 9,380 9,873
General and administrative 17,245 14,262 13,642 11,954 11,221
--------- --------- --------- --------- ---------
Total operating expenses 100,267 94,310 84,183 74,667 66,512
--------- --------- --------- --------- ---------
Operating income 15,274 15,777 12,076 2,743 1,152
Interest income/(expense), net 672 584 190 49 187
--------- --------- --------- --------- ---------
Income before provision for income taxes 15,946 16,361 12,266 2,792 1,339
Provision for income taxes 6,059 6,217 4,600 977 435
--------- --------- --------- --------- ---------
Net income $9,887 $10,144 $7,666 $1,815 $904
========= ========= ========= ========= =========
Earnings per Share:
Basic $1.17 $1.20 $0.94 $0.23 $0.12
Diluted $1.14 $1.15 $0.91 $0.23 $0.12
Average Shares:
Basic 8,433 8,468 8,128 7,754 7,754
Diluted 8,696 8,859 8,438 7,919 7,635
Financial Position at End of Fiscal Year: 1999 1998 1997 1996 1995
--------- --------- --------- --------- ---------
Working capital $45,009 $39,716 $34,936 $26,477 $24,269
Total assets 84,034 72,463 64,161 52,103 49,030
Retained earnings 46,504 37,711 27,569 19,866 18,052
Shareholders' equity 64,433 56,866 49,766 39,965 36,947
Book value per common share $7.63 $6.77 $5.96 $5.08 $4.90
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Overview
Applied signal Technology, Inc. designs, develops, and manufactures
signal processing equipment to collect and process a wide range of
telecommunication signals for reconnaissance and industrial application.
Signal reconnaissance equipment is used for the monitoring of foreign
telecommunications, predominantly by the United States Government and
allied foreign governments. Industrial applications include spectrum
monitoring equipment for commercial communication satellite systems, and
data intrusion detection equipment for data network protection.
Signal reconnaissance systems are composed of collection equipment
and processing equipment. Signal collection equipment consist of
sophisticated receivers that can scan the radio frequency (RF) spectrum
(cellular telephone, microwave, ship-to-shore, military transmissions,
etc.) to collect certain signals from potentially thousands of signals
within the RF spectrum. Process equipment, using sophisticated software
and hardware, evaluates the characteristics of collected signals and
selects those signals likely to contain relevant information.
Spectrum monitoring equipment evaluate a communication satellite's
frequency spectrum usage to detect any misuse that could cause substandard
service. Data intrusion detection equipment monitor commercial data
networks to detect unauthorized system entry for the purpose of altering
or pirating data.
Since inception, the Company has focused its efforts primarily on
processing equipment, but also provides specialized collection equipment,
as well as complete signal processing systems. The Company's business
involves risks and uncertainties, including, without limitation, those
contained in this report in "Business Considerations and Certain Factors
That May Affect Future Results of Operations and/or Stock Prices."
The Company's revenues are primarily generated from sales of its
products and services to two agencies of the United States Government.
The two agencies accounted for 42% and 34%, respectively, of revenues in
fiscal 1999. In fiscal 1998, the two agencies accounted for 39% and 34%,
respectively, of revenues and in fiscal 1997, the percentages of revenues
derived from these two agencies were 57% and 29%, respectively.
The Company's revenues are derived from either fixed price
contracts, which provide that the Company perform a contract for a fixed
price and assume the risk of any cost overruns or cost plus reimbursement
contracts, which provide that the Company receive the direct and indirect
costs of performance plus a negotiated profit. In fiscal 1999,
approximately 45% of the Company's revenues were derived from fixed price
contracts, and approximately 55% of the Company's revenues were derived
from cost plus reimbursement contracts. In fiscal 1998, approximately 46%
of the Company's revenues were derived from fixed price contracts, and
approximately 54% of the Company's revenues were derived from cost plus
reimbursement contracts. In fiscal 1997, approximately 50% of the
Company's revenues were derived from fixed price contracts, and
approximately 50% of the Company's revenues were derived from cost plus
reimbursement contracts.
Under fixed price contracts, unexpected increases in the cost-to-
develop or manufacture a product, whether due to inaccurate estimates in
the bidding process, unanticipated increases in material costs,
inefficiencies or other factors, are borne by the Company, and could have
a material adverse effect on the Company's results of operations.
In accounting for cost plus reimbursement type contracts, all costs
are charged to operations as incurred (including allowable administrative
expenses), and revenues are recognized based on costs incurred plus
estimated fee rates at the date of evaluation. In accounting for fixed
price type contracts, revenue is recognized using the percent completion
method which is substantially the same as that used for cost type
contracts described above.
All costs are charged to operations (including allowable
administrative expenses) as incurred, and revenues are recognized based on
estimated costs and profits at completion on a contract by contract basis.
Losses on any individual contracts are provided for at the time they
become known. (See Note 1 to Financial Statements.)
Operating Results-Fiscal Years Comparison
The following table sets forth, for the periods indicated, statements of
operations data as a percentage of revenues from contracts and, at the
end of each period indicated, the Company's backlog:
Year Ended October 31,
--------------------------------------
1999 1998 1997
------------ ------------ ------------
Revenues from contracts 100.0% 100.0% 100.0%
Operating expenses:
Contract costs 60.7% 61.6% 62.8%
Research and development 11.2% 11.1% 10.5%
General and administrative 14.9% 13.0% 14.2%
------------ ------------ ------------
Total operating expenses 86.8% 85.7% 87.5%
------------ ------------ ------------
Operating income 13.2% 14.3% 12.5%
Interest income/(expense), net 0.6% 0.6% 0.2%
------------ ------------ ------------
Income before provision for income taxes 13.8% 14.9% 12.7%
Provision for income taxes 5.2% 5.7% 4.7%
------------ ------------ ------------
Net income 8.6% 9.2% 8.0%
============ ============ ============
Backlog (thousands of dollars) $64,905 $49,380 $83,268
Revenues
Revenues from contracts increased by 5% from approximately
$110,087,000 in fiscal 1998 to approximately $115,541,000 in fiscal 1999.
Revenues increased by 14% from approximately $96,259,000 in fiscal 1997 to
approximately $110,087,000 in fiscal 1998. The increase in revenues
during fiscal 1999 is primarily due to an increase in revenue generated by
the Company's development and engineering services contracts generated by
the Company's development and engineering services contracts which were
partially offset by a decrease in sales of off-the shelf products.
Management believes the decrease in revenues resulting from lower off-the-
shelf product sales has adversely impacted the fiscal 1999 revenue growth.
The revenue increase in fiscal 1998 is due, in part, to increased contract
activity experienced in the military marketplace and, in part, due to an
increasing demand from the intelligence agencies for development
contracts.
The following table identifies the source of the Company's revenues for
fiscal years 1999, 1998 and 1997 by major market:
FY99 FY98 FY97
----- ----- -----
Intelligence Agencies 80% 81% 91%
Military 12% 9% 7%
Foreign 5% 9% 2%
Commercial 3% 1% --%
Backlog
The Company's backlog, which consists of anticipated revenues from
the uncompleted portions of existing contracts (excluding unexercised
options), was approximately $64,905,000 at the end of fiscal 1999. This
represents an increase of 31.4% from the prior year's ending backlog of
approximately $49,380,000. The increase in orders in fiscal 1999 is in
part due to receiving orders delayed from the previous year and, in part,
to a resurgence in the need for signal reconnaissance capabilities by the
United States Government. The decrease in backlog between fiscal 1997 and
fiscal 1998 was due in part to a delay in specific contract awards from
the United States Government and, in part, due to a reduced number of
awards for the Company's off-the-shelf products. While management believes
that the demand for global intelligence and tactical communications
systems should continue, there can be no assurances that the Company will
continue to experience growth in its backlog or its revenues.
Contract Costs
Contract costs consist of direct costs on contracts, such as labor,
materials and manufacturing overhead costs. Contract costs, as a
percentage of revenues, decreased to 60.7% in fiscal year 1999 from 61.6%
in fiscal year 1998. As a percentage of revenues, contract costs in
fiscal year 1998 were lower than contract costs of 62.8% of revenues in
fiscal year 1997. The decrease in contract costs as a percentage of
revenues in fiscal year 1999 compared to fiscal year 1998 is in part
attributable to lowering of reserves related to a government investigation
which commenced during fiscal 1994 and in part, due to a reduction in
estimated losses on certain fixed price contracts. Both reductions
reflect management's belief that the risk of loss has been mitigated. The
reserve reduction recorded during fiscal 1999 totaled approximately
$595,000. The decrease in contract costs as a percentage of revenues
in fiscal year 1998, compared to fiscal year 1997, is attributable, in
part, to higher contract fees and, in part due to the lower manufacturing
overhead applied to contracts during fiscal 1998 compared to fiscal 1997.
Research and Development Expenses
Company directed investment in research and development consists of
expenditures recoverable from customers through the Company's billing
rates and expenditures funded by the Company from earnings. Research and
development expenses as a percentage of revenues were 11.2%, 11.1% and
10.5% for fiscal years 1999, 1998, and 1997, respectively. Research and
development expenses increased by approximately $706,000 in fiscal 1999
from $12,208,000 in fiscal 1998, and grew as a percentage of revenues in
fiscal 1999 when compared to the percentage of revenue in fiscal 1998.
The increase in research and development spending during both fiscal year
1999 and fiscal year 1998 are due to management's decision to increase
research and development activities for the benefit of future business.
As a percentage of revenues, research and development spending was low in
fiscal year 1997 primarily due to the greater demand of contract work
which limited the availability of staff to work on research and
development contracts.
General and Administrative Expenses
General and administrative expenses include administrative salaries, costs
related to the Company's marketing and proposal activities, and other
administrative costs. General and administrative expenses were
approximately $17,245,000 or 14.9% of revenues in fiscal 1999 compared to
approximately $14,262,000 or 13.0% of revenues in fiscal 1998 and
approximately $13,642,000 or 14.2% of revenues in fiscal 1997. The
increase from fiscal 1998 to fiscal 1999 in general and administrative
expenses of approximately $2,982,000, and as a percentage of revenues is
primarily attributable to increased efforts in marketing, and bid and
proposal activity. In recent years, management has continued to emphasize
the marketing component of general and administrative expenses in an
effort to generate revenues in future periods. The decrease in general
and administrative expenses as a percentage of revenues in fiscal 1998
relative to fiscal 1997 is primarily attributable to the higher profit
recognized on contracts during fiscal 1998 compared to fiscal 1997.
Interest Income/Expense (Net)
Net interest income/(expense) for fiscal 1999 increased approximately
$88,000 to approximately $672,000 from approximately of $584,000 net
interest income in fiscal 1998. Net interest income in fiscal 1998
increased approximately $394,000 over net interest income in fiscal 1997
of approximately $190,000. The continued increase in interest income
during the fiscal years 1999 and 1998 is due primarily to investing higher
cash balances generated from operations.
Provision for Income Taxes
Income taxes as a percentage of income before provision for income taxes
have been provided for at a combined federal and state rate of 38% for
both fiscal years 1999 and 1998 and 37.5% for fiscal year 1997. The 1999
and 1998 effective tax rates are lower than the combined federal and state
statutory income tax rates primarily due to the benefit derived from
federal and state income tax credits. The increase in the effective tax
rate from fiscal 1997 to fiscal 1998 is primarily a result of the increase
in federal and state tax liabilities as a result of the lower impact of
federal and state tax credits on increased profitability.
Analysis of Liquidity and Capital Resources
The Company's primary source of liquidity has been the cash flow
generated from operations, as well as the issuance of common stock through
its employee stock plans.
The Company has a $3,000,000 unsecured, revolving line of credit for
short-term cash requirements bearing interest at the bank's reference rate
(8.25% as of October 31, 1999). Outstanding amounts on the line of credit
were zero at October 31, 1999 and 1998. The line expires on March 15,
2001.
Net cash from operating activities: Net cash provided by operating
activities has varied significantly from year to year. For fiscal years
1999, 1998 and 1997, cash provided by operating activities was
approximately $10,316,000, $16,035,000, and $9,806,000, respectively. The
year-to-year variances are primarily the result of changes in net income,
changes in accounts receivable, changes in the level of accrued
liabilities and the change in inventories held by the Company.
During fiscal year 1999 net income was approximately $9,887,000, a
decrease from approximately $10,144,000 in fiscal year 1998. The decrease
in net income for fiscal year 1999 was primarily due to the application of
a higher general and administrative rate in fiscal year 1999 as compared
to fiscal year 1998. The improvement in net income for fiscal year 1998
over fiscal year 1997 is primarily due to an increase in the average gross
margin profitability recorded on contracts during the year, and, in part,
due to a reduction in general and administrative expenses recorded as a
percentage of revenue for the fiscal year.
During fiscal 1999, accounts receivable increased by approximately
$6,158,000 when compared to a decrease of approximately $2,068,000 for
fiscal year 1998. The increase in accounts receivable in fiscal year 1999
is primarily due to the strong revenues and associated billings in the
fourth quarter. The decrease in accounts receivable in fiscal 1998 is
due, in part to greater collection efforts and, in part, due to
collections received from a one-time billing modification authorized by
the United States Government in the fourth quarter of fiscal 1997.
Cash used by the increased levels of inventories, prepaid expenses
and other current assets of approximately $1,472,000 in fiscal year 1999
is primarily due to the increase in purchases for anticipated future
production contracts. Cash used by the increased levels of inventories,
prepaid expenses and other current assets of approximately $1,589,000 in
fiscal 1998 is primarily due to the increase in work-in-progress for
engineering and production contracts and, in part, due to the increase in
prepaid income taxes related to higher profits.
Cash provided by the increased levels of liabilities for fiscal year
1999 approximated $3,372,000 and was primarily due to an increase in
accrued employee related benefits, the accrual for the fourth quarter
dividend payment, and an increase in trade accounts payable resulting from
the higher revenue volume recorded during the last quarter of fiscal 1999.
This increase in accrued liabilities was partially offset by a reduction
in the reserves recorded for previously anticipated losses (see Management
Discussion and Analysis - Contract Costs). Cash provided by the increased
levels of liabilities for fiscal 1998 approximated $1,203,000 and was
primarily due to increased tax liabilities associated with higher profit
margins.
Net cash from investing activities: Net cash used in investing
activities was approximately $5,867,000, $5,925,000 and $5,822,000
during fiscal years 1999,1998 and 1997, respectively. The use of cash
for investing activities in each of the last three fiscal years was
primarily for additions to property and equipment. The Company's
capital investment continues to be driven by an increase in the number
of new employees and by the level of development-type contracts that
have required test and computing equipment. Cash provided by investing
activities throughout fiscal year 1999 was due to the maturity of
short-term investments, primarily in U.S. Government treasuries and was
approximately $1,000,000. Cash provided by investing activities was
approximately $300,000 during fiscal year 1998 related to net the
purchases and maturities of short-term investments in U.S. Government
treasuries.
Net cash from financing activities: Net cash used in financing
activities was approximately $1,854,000 during fiscal year 1999 compared
to approximately $3,429,000 used in financing activities during fiscal
year 1998 and approximately $1,860,000 provided by financing activities
during fiscal year 1997. During fiscal year 1999, the $1,854,000 used in
financing activities is primarily attributable to approximately $3,773,000
repurchases of common stock and an approximately $534,000 dividend payment
partially offset by the issuance of approximately $2,453,000 of common
stock under the employee stock purchase plan and stock option plan.
During fiscal 1998, the $3,429,000 used in financing activities is
attributable to approximately $6,207,000 of common stock repurchases
initiated under the Company's stock repurchase program offset by the
issuance of approximately $2,778,000 of common stock under the employee
stock purchase plan and stock option plan. The cash provided by financing
activities of approximately $1,860,000 in fiscal year 1997 was
predominately due to the issuance of common stock under the Company's
employee stock purchase plan and stock option plan.
The Company believes that the funds generated from operations,
existing working capital, and amounts available under existing lines of
credit will be sufficient to meet its cash needs for at least the next 12
months.
Year 2000 Risks
A complete discussion of the impact of Year 2000 issues on the
Company and the Company's Year 2000 readiness programs is set forth in
Item 1: Summary of Business Considerations and Certain Factors That May
Affect Future Results of Operations and/or Stock Price.
Quarterly Results
The following table sets forth certain unaudited quarterly financial data for
the eight quarters ending October 31, 1998. In the opinion of the Company's
management, the unaudited information set forth below has been prepared on
the same basis as the audited information and includes all adjustments
necessary to present fairly the information set forth herein. The operating
results for any quarter are not indicative of results for any future period.
All data is in thousands except per common share data.
FISCAL YEAR 1998 FISCAL YEAR 1999
---------------------------------------------- ------------------------------------------
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4
---------- ---------- ---------- ---------- --------- --------- --------- ---------
Revenues from contracts $24,361 $27,732 $27,373 $30,621 $22,848 $27,590 $27,555 $37,548
Operating expenses
Contract costs 15,095 17,327 16,695 18,723 14,628 16,500 17,410 21,571
Research and development 2,137 3,114 3,050 3,907 2,728 3,477 2,554 4,154
General and administrative 3,661 3,233 3,296 4,072 3,401 3,247 4,535 6,062
---------- ---------- ---------- ---------- --------- --------- --------- ---------
Total operating expenses 20,893 23,674 23,041 26,702 20,757 23,224 24,499 31,787
---------- ---------- ---------- ---------- --------- --------- --------- ---------
Operating income 3,468 4,058 4,332 3,919 2,091 4,366 3,056 5,761
Interest income/(expense) net 147 145 140 152 202 123 152 195
---------- ---------- ---------- ---------- --------- --------- --------- ---------
Income before provision for
income taxes 3,615 4,203 4,472 4,071 2,293 4,489 3,208 5,956
Provision for income taxes 1,410 1,639 1,621 1,547 871 1,706 1,219 2,263
---------- ---------- ---------- ---------- --------- --------- --------- ---------
Net income $2,205 $2,564 $2,851 $2,524 $1,422 $2,783 $1,989 $3,693
========== ========== ========== ========== ========= ========= ========= =========
Net income per common share
Basic $0.26 $0.30 $0.34 $0.30 $0.17 $0.33 $0.24 $0.44
Diluted $0.25 $0.28 $0.32 $0.29 $0.16 $0.32 $0.23 $0.42
Average share outstanding
Basic 8,480 8,580 8,429 8,388 8,480 8,439 8,446 8,462
Diluted 8,954 9,000 8,776 8,708 8,793 8,640 8,707 8,714
The Company has at times experienced fluctuations in its quarterly results
due to both seasonal and nonseasonal factors inherent in its business. These
have included costs associated with uneven flows of incoming material, the
level of research and development spending during any given quarter, fee
recognition on development contracts in the early phases of contract
performance where the financial risk is not entirely known until the contract
is further along in the development cycle, the United States Government
and the timing of contract awards. Management expects these fluctuations
to continue into the future.
ITEM 7A: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
ITEM 8: FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
Board of Directors and Shareholders
Applied Signal Technology, Inc.
We have audited the accompanying balance sheets of Applied Signal Technology,
Inc. as of October 31, 1999 and 1998, and the related statements of income,
shareholders' equity and cash flows for each of the three years in the period
ended October 31, 1999. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Applied Signal Technology, Inc.
at October 31, 1999 and 1998 and the results of its operations and its cash
flows for each of the three years in the period ended October 31, 1999 in
conformity with generally accepted accounting principles.
/s/ ERNST & YOUNG LLP
San Jose, California
December 8, 1999
STATEMENTS OF INCOME
Year Ended October 31,
----------------------------------------
1999 1998 1997
------------- ------------- ------------
Revenues from contracts $115,541,283 $110,087,178 $96,258,831
Operating expenses:
Contract costs 70,109,422 67,840,318 60,403,961
Research and development 12,913,212 12,207,696 10,137,304
General and administrative 17,244,475 14,261,998 13,641,613
------------- ------------- ------------
Total operating expenses 100,267,109 94,310,012 84,182,878
------------- ------------- ------------
Operating income 15,274,174 15,777,166 12,075,953
Interest income/(expense), net 672,206 583,863 189,953
------------- ------------- ------------
Income before provision for income taxes 15,946,380 16,361,029 12,265,906
Provision for income taxes 6,059,624 6,217,191 4,599,715
------------- ------------- ------------
Net income $9,886,756 $10,143,838 $7,666,191
============= ============= ============
Net income per common share
Basic $1.17 $1.20 $0.94
Diluted $1.14 $1.15 $0.91
Number of shares used in calculating
net income per common share
Basic 8,433,447 8,468,463 8,128,062
Diluted 8,696,010 8,858,662 8,435,191
See accompanying notes.
BALANCE SHEETS
October 31,
-------------------------
1999 1998
------------ ------------
ASSETS
Current assets:
Cash and cash equivalents $16,680,178 $14,084,727
Short term investments -- 1,029,223
Accounts receivable:
Billed 19,746,085 14,298,029
Unbilled 16,992,047 16,282,067
------------ ------------
Total accounts receivable 36,738,132 30,580,096
Inventory 6,746,209 5,551,312
Prepaid expensesand other current assets 3,311,784 3,034,544
------------ ------------
Total current assets 63,476,303 54,279,902
Property and equipment, at cost:
Machinery and equipment 37,719,084 31,653,925
Furniture and fixtures 4,418,532 4,010,924
Leasehold improvements 7,316,492 5,812,967
Construction in process 328,712 1,438,036
------------ ------------
49,782,820 42,915,852
Accumulated depreciation and amortization (29,268,448) (24,775,359)
------------ ------------
Net property and equipment 20,514,372 18,140,493
Other assets 43,143 42,221
------------ ------------
Total Assets $84,033,818 $72,462,616
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $4,838,273 $3,841,929
Accrued payroll and related benefits 7,505,059 6,330,405
Other accrued liabilities 2,293,324 2,091,566
Income taxes payable 3,830,993 2,300,098
------------ ------------
Total current liabilities 18,467,649 14,563,998
Deferred income taxes 1,132,831 1,032,910
Commitments
Shareholders' equity:
Preferred stock, no par value: 2,000,000 shares
authorized; none issued and outstanding
Common stock, no par value: 20,000,000 shares
authorized; issued and outstanding
shares - 8,442,239 at October 31, 1999
and 8,393,526 at October 31, 1998 17,929,157 19,154,309
Retained earnings 46,504,181 37,711,399
------------ ------------
Total shareholders' equity 64,433,338 56,865,708
------------ ------------
Total Liabilities and Shareholders' Equity $84,033,818 $72,462,616
============ ============
See accompanying notes.
STATEMENTS OF CASH FLOWS
Year Ended October 31,
-------------------------------------
1999 1998 1997
------------ ------------ -----------
Operating activities:
Net income $9,886,756 $10,143,838 $7,666,191
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Depreciation and amortization 4,493,089 3,795,512 3,781,431
Tax benefit related to stock plans 95,308 385,895 238,114
Changes in:
Accounts receivable (6,158,036) 2,068,310 (2,630,098)
Inventory, prepaid expenses and other current assets (1,472,137) (1,589,228) (1,553,618)
Other assets (922) 28,352 47,560
Accounts payable, taxes payable and accrued expenses 3,372,436 1,120,964 2,132,001
Deferred income taxes 99,921 81,538 123,944
------------ ------------ -----------
Net cash provided by (used in) operating activities 10,316,415 16,035,181 9,805,525
Investing activities:
Purchases of available-for-sale securities -- (6,000,000) --
Maturity of available-for-sale securities 1,000,000 6,300,000 800,000
Additions to property and equipment (6,866,968) (6,224,829) (6,621,535)
------------ ------------ -----------
Net cash provided by (used in) investing activities (5,866,968) (5,924,829) (5,821,535)
Financing activities:
Issuance of common stock 2,452,728 2,777,870 1,866,925
Repurchase of common stock (3,773,188) (6,206,623) (6,999)
Dividends paid (533,536) -- --
------------ ------------ -----------
Net cash provided by financing activities (1,853,996) (3,428,753) 1,859,926
------------ ------------ -----------
Net increase (decrease) in cash and cash equivalents 2,595,451 6,681,599 5,843,916
Cash and cash equivalents at beginning of year 14,084,727 7,403,128 1,559,212
------------ ------------ -----------
Cash and cash equivalents at end of year $16,680,178 $14,084,727 $7,403,128
============ ============ ===========
Supplemental disclosures of cash flow information:
Interest paid $31,814 $33,509 $49,089
Taxes paid $4,424,400 $5,574,000 $4,374,800
============ ============ ===========
See accompanying notes.
Total
Common Retained Shareholders'
Stock Earnings Equity
------------ ------------ ------------
Balance at October 31, 1996 $20,099,127 $19,865,625 $39,964,752
Issuance of 483,259 common shares to
employees under stock purchase
agreements and stock option plan 1,866,925 -- 1,866,925
Repurchase of 4,977 common shares (6,999) -- (6,999)
Tax benefit related to stock plans 238,114 -- 238,114
Net change in unrealized loss on securities
available for sale -- 37,177 37,177
Net income -- 7,666,191 7,666,191
------------ ------------ ------------
Balance at October 31, 1997 22,197,167 27,568,993 49,766,160
Issuance of 529,397 common shares to
employees under stock purchase
agreements and stock option plan 2,777,870 -- 2,777,870
Repurchase of 487,500 common shares (6,206,623) -- (6,206,623)
Tax benefit related to stock plans 385,895 -- 385,895
Net change in unrealized loss on securities
available for sale -- (1,432) (1,432)
Net income -- 10,143,838 10,143,838
------------ ------------ ------------
Balance at October 31, 1998 19,154,309 37,711,399 56,865,708
Issuance of 414,213 common shares to
employees under stock purchase
agreements and stock option plan 2,452,728 -- 2,452,728
Repurchase of 365,500 common shares (3,773,188) -- (3,773,188)
Cash dividends declared ($.0625 per share) -- (1,064,632) (1,064,632)
Tax benefit related to stock plans 95,308 -- 95,308
Net change in unrealized loss on securities
available for sale -- (29,342) (29,342)
Net income -- 9,886,756 9,886,756
------------ ------------ ------------
Balance at October 31, 1999 $17,929,157 $46,504,181 $64,433,338
============ ============ ============
See accompanying notes.
NOTES TO FINANCIAL STATEMENTS OCTOBER 31, 1999
NOTE 1: ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization
Applied Signal Technology, Inc. (the Company) was incorporated in
California on January 12, 1984. The Company designs, develops,
manufactures signal processing equipment to collect and process a wide
range of telecommunication signals. This equipment is used for
reconnaissance of foreign telecommunications predominantly by the
United States Government and allied foreign governments, for certain
industrial applications and for defense communications systems. For
the three years ended October 31, 1999, substantially all of the
Company's revenues were from contracts with the U.S. Government, its
agencies, or prime contractors for the U.S. Government.
The Company currently operates in only one business segment.
Use of Estimates
The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make
estimates and assumptions that affect the amounts reported in the
financial statements and accompanying notes. Actual results could
differ from those estimates.
Contracts and Contract Accounting
Approximately 55% of contract revenues in fiscal year 1999 (54%
in fiscal year 1998 and 50% in fiscal year 1997) is represented by cost
reimbursement type contracts. In accounting for these contracts, all
costs are charged to operations as incurred (including allowable
administrative expenses) and revenues are recognized based on costs
incurred plus estimated effective fee rates. Estimated fee rates are
determined on a contract-by-contract basis according to the type of fee
(e.g., fixed, incentive, or award) and the most recent estimated cost
of completion of the individual contract.
Approximately 45% of contract revenues in fiscal year 1999 (46%
in fiscal year 1998 and 50% in fiscal year 1997) is represented by
fixed price type contracts. In accounting for these contracts, the
Company uses the percentage-of-completion method which is substantially
the same method as that used for cost reimbursement type contracts as
described above. All contract costs (including administrative
expenses) are charged to operations as incurred and revenues are
recognized based on estimates of costs and profits at completion on a
contract-by-contract basis.
Losses on any individual contract are provided fro at the time
they become known.
A significant portion of the company's revenues is derived from
fixed price contracts. Under fixed price contracts, unexpected
increases in the cost to develop or manufacture a product, whether due
to inaccurate estimates in the bidding process, unanticipated increases
in material costs, inefficiencies or other factors, are borne by the
Company, and could have a material adverse effect on the Company's
results of operations.
Accounts receivable are segregated between billed and unbilled
accounts. The Company bills incurred costs and ratable portions of
fees regularly under its cost reimbursement type contracts. Under
fixed price contracts, the Company either regularly progress bills 90%
of incurred costs or bills contract costs on a milestone or unit of
delivery basis. Unbilled amounts result from recognition of contract
revenue in advance of contractual billing or progress billing terms.
The Company regards the credit risk of its business to be minimal.
Price Redetermination
As a government contractor, the Company is subject to price
redetermination on certain fixed price contracts if it is determined
that the Company did not price its products and services consistent
with the requirements of the Federal Acquisition Regulations.
Cash Equivalents and Short-Term Investments
The Company considers all highly liquid debt investment purchased
with a maturity of three months or less to be cash equivalents. Short-
term investments, when acquired, are comprised of U.S. Government
treasury bills and notes.
Management determines the appropriate classification of debt
securities at the time of purchase and reevaluates such designation as
of each balance sheet date. The Company's debt securities, which
consist of U.S. Treasury securities, are classified as available-for-
sale and are be carried at fair market value in short-term investments
and long-term investments. Unrealized gains and losses, net of tax,
are reported in shareholders equity as part of retained earnings and
were immaterial as of October 31, 1999. Realized gains and losses on
available-for-sale securities have not bee material. The cost of
securities sold is based on the specific identification method.
Property and Equipment
Machinery and equipment as well as furniture and fixtures are
depreciated using the straight-line method over the estimated useful
lives of the assets, ranging up to five years. Leasehold improvements
are amortized using the straight-line method over the lesser of the
useful of the assets or the lease term.
Per Share Data
Basic earnings per share is based on the weighted effect of all
common shares issued and outstanding, and is calculated by dividing net
income available to common stockholders by the weighted average shares
outstanding during the period. Diluted earnings per share is
calculated by dividing net income available to common shareholders by
the weighted average number of common shares used in the basic earnings
per share calculation, plus the number of common shares that would be
issued assuming conversion of all potentially dilutive securities
outstanding using the treasury stock method.
Per Share Data
(in thousands, except per share amounts)
Year Ended October 31,
--------------------------------------
1999 1998 1997
------------- ----------- -----------
Numerator:
Net Income $9,887 $10,144 $7,666
============= =========== ===========
Denominator:
Share used to compute net income per
common share - basic 8,433 8,468 8,128
Effect of dilutive stock options 263 391 307
------------- ----------- -----------
Share used to compute net income per
common share - diluted 8,696 8,859 8,435
------------- ----------- -----------
Net income per common share - basic $1.17 $1.20 $094
------------- ----------- -----------
Net income per common share - diluted $1.14 $1.15 $0.91
------------- ----------- -----------
COMPREHENSIVE INCOME
As of October 31, 1999, the Company adopted Statement of Financial Accountin
Standards No. 130 ("SFAS 130"), "Reporting Comprehensive Income." FAS 130
establishes new rules for the reporting and display of comprehensive income
its' components, however, it has no material impact on the Company's net inc
or shareholders' equity. SFAS 130 requires changes in fair value for
available-for-sale securities and foreign currency translation adjustments,
prior to adoption were reported in shareholders' equity, to be included in
comprehensive income.
The components of comprehensive income, net of tax, are as follows:
Year Ended October 31,
-------------------------------------
1999 1998 1997
----- ----- -----
Net income $9,886,756 $10,143,838 $7,666,191
Unrealized gain (loss) on securities (29,342) (1,432) 37,177
------------ ------------------------
Comprehensive income $9,857,414 $10,142,406 $7,703,368
============ ========================
Reclassifications
Certain prior year amounts have been reclassified to conform to
the current year presentation.
NOTE 2: INVENTORY
The Company manufactures product subassemblies in inventory to be able
to quickly meet the requirements of future contracts. Inventories are
stated at the lower of average cost or market and consisted of the following:
October 31,
--------------------------
1999 1998
----------- -----------
Raw materials $ 1,261,628 $ 1,101,992
Work-in-process 4,327,879 4,113,729
Finished goods 927,207 244,869
----------- -----------
6,516,714 5,460,590
Precontract costs 229,495 90,722
----------- -----------
$ 6,746,209 $ 5,551,312
=========== ===========
Precontract costs represent costs incurred in connection with ongoing
level-of-effort type contracts for which contract modifications have not been
definitized ($225,897 at October 31, 1999 and $87,424 at October 31, 1998) and
production costs incurred in anticipation of specific expected future contract
awards. The production items in the latter group generally would be usable if
the expected contract awards did not occur. Allocable administrative expenses
included in precontract costs have not been material.
NOTE 3: LINES OF CREDIT
As of October 31, 1999, the company has a $3,000,000 revolving
line of credit available with a bank. Borrowings under the line of
credit bear interest at the bank's reference rate (8.25% at October 31,
1999), payable monthly and expires on March 15, 2001; the Company
intends to renew this line of credit. At both October 31, 1999 and 1998
this facility was unused. Under this credit facility, the Company is
subject to certain commitment and utilization fees on the unused
portion of the committed amount. Fees incurred were not material
during the last three fiscal years. The line of credit agreement
requires compliance with certain financial covenants and restricts
dividend payments, stock repurchases and any loans or advances made to
any third parties without the prior written consent of the lender. At
both October 31, 1999 and 1998, the Company was in compliance with the
Bank's required covenants and restrictions.
NOTE 4: COMMITMENTS
Facility Commitment
The Company leases its facilities under noncancelable lease agreements
which expire at various dates between fiscal years 2000 and 2012.
Certain of the leases contain escalation clauses and requirements for
the payment of property taxes, insurance and maintenance expenses. The
aggregate minimum annual lease commitments at October 31, 1999 under
long-term operating leases are as follows:
Fiscal Year:
-----------
2000 $ 4,150,117
2001 4,277,132
2002 4,313,977
2003 4,348,379
2004 4,284,120
Thereafter 27,464,244
-----------
$48,837,969
===========
Rent expense under operating leases was $4,313,166 in fiscal 1999
($4,013,335 in fiscal 1998; $3,296,185 in fiscal 1997).
The Company had outstanding letters of credit at October 31, 1999 of $1,000,000
of which $218,250 and $11,755 are used as security deposits for its leased
operating facilities.
The Company had no noncancelable purchase commitments for materials as of
October 31, 1999 and as of October 31, 1998.
NOTE 5: SHAREHOLDERS' EQUITY
Employee Stock Purchase Plan
Under the Company's 1993 Employee Stock Purchase Plan ("1993 Plan"), a total of
1,600,000 shares of common stock have been reserved for issuance. The 1993 Plan
permits eligible employees to purchase common stock through payroll deductions
(which cannot exceed 10% of any employee's compensation) at 85% of the lower of
its fair market value at the beginning or end of the purchase period. As of
October 31, 1999, 512,985 shares remain eligible for purchase under the
1993 Plan.
Stock Option Plan
The Company's 1991 Stock Option Plan ("1991 Plan") provides for the granting
of incentive stock options and non-qualified stock options to employees,
directors, and consultants of the Company at prices ranging from 85% to 110%
(depending on the type of grant) of the fair market value of the common stock on
the date of grant. Some options are only exercisable at the end of a two-year
vesting period and some options are exercisable at the rate of 1/5 per year
over five years.
A summary of the option activity under the 1991 Plan is as follows:
Options Outstanding
--------------------------------------------------
Options
Available Weighted
for Number of Aggregate Average
Grant Shares Price Exercise Price
------------- ----------- ----------- ------------
Balance at October 31, 1996 197,497 1,086,739 $4,803,057 $4.42
Additional Authorizatio 500,000
Granted (20,000) 20,000 90,000 $4.50
Exercised -- (179,173) (800,821) $4.47
Canceled 203,183 (203,183) (997,799) $4.91
------------- ----------- -----------
Balance at October 31, 1997 880,680 724,383 3,094,437 $4.27
Granted (295,900) 295,900 4,593,950 $15.53
Exercised -- (229,985) (1,119,663) $4.87
Canceled 10,168 (10,168) (135,860) $13.36
------------- ----------- -----------
Balance at October 31, 1998 594,948 780,130 6,432,864 $8.25
Granted (275,938) 275,938 3,345,748 $12.13
Exercised -- (60,492) (240,339) $3.97
Canceled 29,850 (29,850) (428,419) $14.35
------------- ----------- -----------
Balance at October 31, 1999 348,860 965,726 $9,109,854 $9.43
============= =========== ===========
Accounting for Stock-Based Compensation
The following table summarizes information about options outstanding at
October 31, 1999:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
--------------------------------- ------------------------
Weighted
Average Weighted Weighted
Number Remaining Average Number Average
Range of of Shares Contractual Exercise of Shares Exercise
Exercise Prices Outstanding Life(years) Price Exercisable Price
- ------------- ----------------------- ----------- ----------- ------------
$2.50 126,905 1.46 $2.50 126,905 $2.50
$4.50 159,583 1.61 $4.50 159,583 $4.50
$4.63 125,500 0.97 $4.63 125,500 $4.63
$5.50 20,000 1.35 $5.50 20,000 $5.50
$12.13 265,788 7.10 $12.13 -
$15.50 261,950 6.05 $15.50 7,840 $15.50
$16.75 6,000 7.35 $16.75 1,200 16.75
-------- ------------- ----------- ----------- ------------
$2.50 - $16.75 965,726 4.25 $9.43 441,028 $4.23
The Company applies Accounting Principles Board Opinion No. 25,
and related interpretations in accounting for its stock option plans
The Company has opted under Statement of Financial Accounting Standards No.
123, "Accounting for Stock-Based Compensation" (SFAS 123") to disclose
its stock-based compensation with no financial statement effect. The pro
forma effects of applying SFAS 123 in this initial phase-in period are not
necessarily representative of the effects on reported net income or loss
for future years. Had compensation expense for the Company's stock
options plans been determined based upon the fair value at the grant date
for awards under these plans consistent with the methodology prescribed
under SFAS 123, the Company's pro forma net income and net income per
share would have been as follows:
Year Endend October 31,
------------------------------------------
1999 1998 1997
------- ------- -------
Net income
As reported $9,886,756 $10,143,838 $7,666,191
Pro forma 7,649,852 8,416,194 5,984,637
Net income per share
Basic -As reporte $1.17 $1.20 $0.94
-Pro forma 0.91 0.99 0.74
Diluted-As report $1.14 $1.15 $0.91
-Pro forma 0.88 0.95 0.71
The weighted average fair value of the options granted during fiscal
years 1999, 1998 and 1997 were $6.26, $8.78, and $3.17 per option,
respectively. The weighted average fair value at date of grant for
shares purchased through the employee stock purchas plans during fiscal
year 1999, 1998, and 1997 were $3.89, $4.01, and $2.51 per share,
respectively.
The fair value of options at the date of grant was estimated using Black
Scholes model with the following weighted average assumptions:
Employee Stock Employee Stock
Option Plans Purchase Plan
---------------------------- ----------------------
1999 1998 1997 1999 1998 1997
-------- -------- -------- -------- -------- --------
Risk-free interest rate 6.7% 4.9% 6.0% 5.3% 4.0% 6.0%
Expected lives (in years) 5.5 4.7 2.5 .5 .5 .5
Expected volatility .62 .63 .84 .62 .63 .84
Expected dividends 2% 0% 0% 2% 0% 0%
NOTE 6: INCOME TAXES
The provision for income taxes for the years ended October 31, 1999, 1998 and
1997 consists of the following:
Year Ended October 31,
------------------------------------------
1999 1998 1997
------------- ----------- -----------
Federal: $5,205,608 $5,759,182 $3,921,838
Current (2,980) (515,097) 44,731
Deferred (prepaid) ------------- ----------- -----------
5,202,628 5,244,085 3,966,569
State: 844,995 933,639 218,788
Current 12,001 39,467 414,358
Deferred (prepaid) ------------- ----------- -----------
856,996 973,106 633,146
------------- ----------- -----------
$6,059,624 $6,217,191 $4,599,715
============= =========== ===========
The tax benefits associated with disqualifying dispositions of stock options or
employee stock purchase plan shares reduce taxes currently payable as shown by
$95,308; $385,895; and $238,114 for fiscal 1999, 1998, and 1997, respectively.
Such benefits are credited to additional paid-in-capital when realized.
The provision for income taxes differs from the amount computed by applying the
statutory federal income tax rate of 35% to income before provison for income
taxes as follows:
Year Ended October 31,
-------------------------------------
1999 1998 1997
------------- ----------- -----------
Computed expected tax provision $5,581,233 $5,726,360 $4,293,067
State income tax,
net of federal benefit 557,047 632,519 411,545
Other individually immaterial
items (78,656) (141,688) (104,897)
------------- ----------- -----------
$6,059,624 $6,217,191 $4,599,715
------------- ----------- -----------
Effective Tax Rate 38.0% 38.0% 37.5%
============= =========== ===========
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components
of the Company's deferred tax assets and liabilities are as follows:
October 31,
-----------------------
1999 1998
----------- -----------
Deferred tax assets:
Accrued expenses and reserves $1,842,302 $1,694,481
Deferred revenue 19,825 32,906
State taxes and other 178,977 222,817
----------- -----------
$2,041,104 $1,950,204
=========== ===========
Deferred tax liabilities:
Tax over book depreciation (1,132,831) (1,032,910)
----------- -----------
$908,273 $917,294
=========== ===========
During fiscal 1999, the Company made total cash payments, net of refunds, of
approximately $4,424,000 ($5,574,000 during fiscal 1998 and
$4,375,000 during fiscal 1997) for income tax purposes.
NOTE 7: RETIREMENT PLAN
All employees who perform at least 1,000 hours of service per year are
covered under the Company's retirement plan ("Retirement Plan").
Contributions to the Retirement Plan by the Company are discretionary
and currently are at the rate of 4% of qualified compensation up to
$160,000. The Company accrues for the accumulated contributions which
are payable bi-weekly to the Retirement Plan's administrator. The
Company has expensed approximately $2,006,000 in fiscal 1999
($1,655,000 in fiscal 1998 and $1,524,000 in fiscal 1997), which is
included in general and administrative expenses.
NOTE 8: SEGMENT REPORTING
The Company adopted SFAS 131, "Disclosure about Segments of an
Enterprise and Related Information," at October 31, 1999. SFAS 131
establishes annual and interim reporting standards for an enterprise's
operating segments and related disclosures about its products,
services, geographic areas and major customers. The Company's
operations are treated as one operating segment - the design,
development and manufacturing of signal processing equipment - as it
only reports profit and loss information on an aggregate basis to chief
operating decision makers of the Company.
ITEM 9: CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE
None.
PART III
ITEM 10: DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by Item 10 of Form 10-K with respect to
identification of directors is incorporated by reference from the
information contained in Applied Signal Technology, Inc.'s Proxy
Statement for the Annual Meeting of Stockholders to be held March 9,
2000 (the "Proxy Statement"), a copy of which will be filed with the
Securities and Exchange Commission before the meeting date. For
information with respect to the executive officers of the Registrant,
see "Executive Officers of Registrant" at the end of Part 1 of this
report.
ITEM 11: EXECUTIVE COMPENSATION
The information required by Item 11 of Form 10-K is incorporated
by reference from the information contained in the section captioned
"Executive Compensation and Other Matters" in the Proxy Statement.
ITEM 12: SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by Item 12 of Form 10-K is incorporated
by reference from the information contained in the section captioned
"Security Ownership of Certain Beneficial Owners and Management" in the
Proxy Statement.
ITEM 13: CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Not applicable.
PART IV
ITEM 14: EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) (1) AND (2) -- The following documents of Applied Signal Technology, Inc.
are filed as part of this report under Item 8.
Balance Sheets -- October 31, 1999 and 1998
Statements of Income -- Years ended October 31, 1999, 1998, and 1997
Statement of Shareholders' Equity -- Years ended October 31, 1999,
1998, and 1997
Statements of Cash Flows -- Years ended October 31, 1999, 1998, and
1997
Notes to Financial Statements -- October 31, 1999
Report of Ernst & Young LLP, Independent Auditors.
All schedules for which provision is made in the applicable accounting
regulations of the Securities and Exchange Commission are not required
under the related instructions or are inapplicable, and therefore have been
omitted.
(3) -- Listing of Exhibits -- See Exhibit Index on page 57 of this Report
on Form 10-K.
(b) Reports on Form 8-K filed in the Company's fiscal year ended October 31,
1999:
None.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, therewith duly authorized.
APPLIED SIGNAL TECHNOLOGY, INC.
(Registrant)
Dated January 28, 1998 /s/ Gary L. Yancey
------------------------------
Gary L. Yancey, President,
Chief Executive Officer and
Chairman of the Board
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
SIGNATURE DATE TITLE
--------- ---- -----
/s/ Gary L. Yancey ____________ President, Chief Executive Officer and
- ----------------------------- Chairman of the Board
(Principal Executive Officer)
/s/ Brian M. Offi ____________ Vice President of Finance and Chief
- ----------------------------- Financial Officer (Principal Financial and
Accounting Officer), Secretary
/s/ James F. Collins ____________ Director
- ----------------------------
/s/ John P. Devine ____________ Director
- ----------------------------
/s/ David D. Elliman ____________ Director
- ----------------------------
/s/ John R. Treichler ____________ Director
- ----------------------------
/s/ Stuart G. Whittelsey, Jr. ____________ Director
- ----------------------------
APPLIED SIGNAL TECHNOLOGY
INDEX TO EXHIBITS
EXHIBIT DESCRIPTION OF DOCUMENT
NUMBER ----------------------
- - ------
3.1(1) Second Amended and Restated Articles of Incorporation
3.2(1) Amended and Restated Bylaws
4.1(1) Specimen Common Stock Certificate
4.2(1) Rights Agreement dated January 25, 1991
10.1(1) Form of Indemnification Agreement for directors and officers
10.2(1) 1984 Stock Purchase Plan and form of agreement thereunder
10.3(1) 1991 Stock Option Plan and forms of agreements thereunder
10.4(1) 1993 Employee Stock Purchase Plan
10.5(1) Profit Sharing Policy
10.6(1) Summary Plan Description of 401(k) Retirement Plan
10.7(1) Warrant to Purchase Common Stock dated June 27, 1990 issued to
Owenoake Partners, L.P. ("Owenoake"), Letter Agreement with
Owenoake dated September 20, 1990, and Amendment Number One to
Warrants to Purchase Common Stock with Owenoake and certain
warrant holders dated February 8, 1993
10.8(1) Warrants to Purchase Common Stock dated September 25, 1990 issued
to certain warrant holders
10.9(2) Line of Credit Agreement dated June 10, 1993 with Sanwa Bank
California and related Equipment Purchase Line of Credit
Agreement dated June 10, 1993
10.10(1) Lease Agreement dated August 21, 1985 with Lincoln Mathilda
Associates, Ltd. and Patrician Associates, Inc., and amendments
thereto
10.11(3) Lease agreements dated November 23, 1994 with Lincoln Property
Company Management Services, Inc. for Buildings H and I
10.12(4) Amendment to Commercial Credit Agreement dated March 7, 1995 with
Sanwa Bank California and related Equipment Purchase Line
Agreement dated March 10, 1995
10.13(5) Amendments to Commercial Credit Agreements dated March 1, 1996
with Sanwa Bank California
10.14(6) Lease agreement dated May 31, 1996 with Constellation Real
Estate, Inc., for 135 National Business Parkway
10.15(6) Amendments to lease agreements dated November 23, 1994 with
Lincoln Property Company Management Services, Inc.
10.16 Commercial Credit Agreement dated March 3, 1997 with Sanwa Bank
California
10.17 Lease agreement dated May 29, 1996 with Constellation Real
Estate, Inc.
23.1 Consent of Independent Auditors
27.1 Financial Data Schedule
(1) Incorporated by reference to corresponding Exhibit filed as an Exhibit to
Registrant's Registration Statement on Form S-1 filed January 29, 1993
(File No. 33-58168).
(2) Incorporated by reference to corresponding Exhibit filed with the
Registrant's Form 10-K for fiscal year 1993 dated January 22, 1994.
(3) Incorporated by reference to corresponding Exhibit filed with the
Registrant's Form 10-K for fiscal year 1994 dated January 27, 1995.
(4) Incorporated by reference to corresponding Exhibit filed with the
Registrant's Form 10-K for fiscal year 1995 dated January 26, 1996.
(5) Incorporated by reference to corresponding Exhibit filed with the
Registrant's Form 10-Q for fiscal year 1996 dated August 2, 1996.
(6) Incorporated by reference to corresponding Exhibit filed with the
Registrant's Form 10-K for fiscal year 1996 dated January 26, 1997.