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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934.
For the Quarterly Period Ended April 1, 2005
_______________
Commission File Number 1-9309
__________________
Versar Inc.
____________________________________________________________________
(Exact name of registrant as specified in its charter)
DELAWARE 54-0852979
__________________________________ ________________________________
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) No.)
6850 Versar Center
Springfield, Virginia 22151
__________________________________ ________________________________
(Address of principal executive (Zip Code)
offices)
Registrant's telephone number, including area code (703)750-3000
__________________
Not Applicable
____________________________________________________________________
(Former name, former address and former fiscal year, if changed
since last report.)
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months
(or for such shorter period that the registrant was required to
file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
______ ______
Indicate by the check mark whether the registrant is an
accelerated filer (as defined in Rule 12b-2 of the Exchange Act).
Yes No X
______ ______
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practical date.
Class of Common Stock Outstanding at April 29, 2005
_____________________ _____________________________
$.01 par value 7,923,066
VERSAR, INC. AND SUBSIDIARIES
INDEX TO FORM 10-Q
PAGE
____
PART I - FINANCIAL INFORMATION
ITEM 1 - Financial Statements
Consolidated Balance Sheets as of
April 1, 2005 and June 30, 2004 3
Consolidated Statements of Operations
for the Three-Month and Nine-Month
Periods Ended April 1, 2005 and
March 31, 2004 4
Consolidated Statements of Cash Flows
for the Nine-Month Periods Ended April 1,
2005 and March 31, 2004 5
Notes to Consolidated Financial Statements 6-10
ITEM 2 - Management's Discussion and Analysis
of Financial Condition and Results of
Operations 11-16
ITEM 3 - Quantitative and Qualitative Disclosures
About Market Risk 16
ITEM 4 - Procedures and Controls 16
PART II - OTHER INFORMATION
ITEM 1 - Legal Proceedings 16-17
ITEM 6 - Exhibits and Reports on Form 8-K 17
SIGNATURES 18
EXHIBITS 19-22
2
VERSAR, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(In Thousands)
April 1, June 30,
2005 2004
_______________ _______________
ASSETS (Unaudited)
Current assets
Cash and cash equivalents $ 1,793 $ 817
Accounts receivable, net 12,554 14,144
Prepaid expenses and other
current assets 2,131 1,013
Deferred income taxes 168 168
_______________ _______________
Total current assets 16,646 16,142
Property and equipment, net 1,985 2,108
Deferred income taxes 501 501
Goodwill 776 776
Other assets 511 558
_______________ _______________
Total assets $ 20,419 $ 20,085
=============== ===============
LIABILITIES AND STOCKHOLDERS EQUITY
Current liabilities
Accounts payable $ 3,979 $ 4,520
Billing in excess of revenue 276 433
Accrued salaries and vacation 1,931 1,967
Other liabilities 1,934 1,728
_______________ _______________
Total current liabilities 8,120 8,648
Other long-term liabilities 1,055 1,163
Liabilities of discontinued
operations, net 58 209
_______________ _______________
Total liabilities 9,233 10,020
_______________ _______________
Stockholders' equity
Common stock, $0.01 par value;
30,000,000 shares authorized;
7,924,116 shares and 7,837,033
shares issued at April 1, 2005
and June 30, 2004, respectively;
7,908,611 and 7,821,528 shares
outstanding at April 1, 2005 and
June 30, 2004, respectively 79 78
Capital in excess of par value 22,029 21,835
Accumulated deficit (11,776) (10,850)
Treasury stock (72) (72)
_______________ _______________
Total stockholders' equity 11,186 10,065
_______________ _______________
Total liabilities and
stockholders' equity $ 20,419 $ 20,085
=============== ===============
The accompanying notes are an integral part of these consolidated
financial statements.
3
VERSAR, INC. AND SUBSIDIARIES
Consolidated Statements of Operations
(Unaudited - in thousands, except per share amounts)
For the Three-Month For the Nine-Month
Periods Ended Periods Ended
_________ _________ _________ _________
April 1, March 31, April 1, March 31,
2005 2004 2005 2004
_________ _________ _________ _________
GROSS REVENUE $ 14,937 $ 15,130 $ 53,098 $ 43,023
Purchased services and
materials, at cost 6,101 6,683 26,204 18,094
_________ _________ _________ _________
NET SERVICE REVENUE 8,836 8,447 26,894 24,929
Direct costs of services
and overhead 7,198 6,956 21,350 19,877
Selling, general and
administrative expenses 1,516 1,427 4,571 4,192
_________ _________ _________ _________
OPERATING INCOME 122 64 973 860
OTHER EXPENSE
Interest expense 24 43 47 130
_________ _________ _________ _________
INCOME BEFORE TAX 98 21 926 730
Income tax expense --- --- --- ---
_________ _________ _________ _________
NET INCOME $ 98 $ 21 $ 926 $ 730
========= ========= ========= =========
NET INCOME PER SHARE -
BASIC $ 0.01 $ --- $ 0.12 $ 0.10
========= ========= ========= =========
NET INCOME PER SHARE -
DILUTED $ 0.01 $ --- $ 0.11 $ 0.10
========= ========= ========= =========
WEIGHTED AVERAGE NUMBER
OF SHARES OUTSTANDING -
BASIC 7,914 7,304 7,879 7,275
========= ========= ========= =========
WEIGHTED AVERAGE NUMBER
OF SHARES OUTSTANDING -
DILUTED 8,302 7,737 8,306 7,583
========= ========= ========= =========
The accompanying notes are an integral part of these consolidated
financial statements.
4
VERSAR, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(Unaudited - in thousands)
For the Nine-Month
Periods Ended
____________________
April 1, March 31,
2005 2004
_________ _________
Cash flows from operating activities
Net income $ 926 $ 730
Adjustments to reconcile net income to net
cash used in operating activities
Depreciation and amortization 555 489
Loss on sale of property and equipment --- 1
Provision for doubtful accounts
receivable 15 21
Changes in assets and liabilities
Decrease in accounts receivable 1,575 131
(Increase) decrease in prepaids and
other assets (1,038) 369
(Decrease) increase in accounts payable (541) 712
Decrease in accrued salaries and
vacation (36) (474)
Increase (decrease) in other liabilities (59) (1,011)
_________ _________
Net cash provided by continuing
operations 1,397 968
Changes in net assets/liabilities of
discontinued operations (151) (4)
_________ _________
Net cash provided by operating
activities 1,246 964
_________ _________
Cash flows used in investing activities
Purchase of property and equipment (432) (394)
Increase in life insurance cash surrender
value (33) (42)
_________ _________
Net cash used by investing activities (465) (436)
_________ _________
Cash flows from financing activities
Net payments on bank line of credit --- (706)
Proceeds from issuance of the Company's
common stock 195 141
_________ _________
Net cash provided by (used in)
financing activities 195 (565)
_________ _________
Net increase (decrease) in cash and cash
equivalents 976 (37)
Cash and cash equivalents at the beginning
of the period 817 81
_________ _________
Cash and cash equivalents at the end of
the period $ 1,793 $ 44
========= =========
Supplementary disclosure of cash flow
information:
Cash paid during the period for
Interest $ 54 $ 120
Income taxes 41 39
The accompanying notes are an integral part of these consolidated
financial statements.
5
VERSAR, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(A) Basis of Presentation
The accompanying consolidated financial statements are
presented in accordance with the requirements of Form 10-Q and
consequently do not include all of the disclosures normally
required by generally accepted accounting principles or those
normally made in Versar, Inc.'s Annual Report on Form 10-K filed
with the United States Securities and Exchange Commission. These
financial statements should be read in conjunction with the
Company's Annual Report filed on Form 10-K for the year ended
June 30, 2004 for additional information.
Effective July 1, 2004, the Company changed its fiscal
reporting period from the last day of the calendar month end to
the last Friday closest to the calendar month end. As such, the
first three quarters of fiscal year 2005 ended on October 1 and
December 31, 2004, and April 1, 2005.
The accompanying consolidated financial statements include
the accounts of Versar, Inc. and its wholly-owned subsidiaries
("Versar" or the "Company"). All significant intercompany
balances and transactions have been eliminated in consolidation.
The financial information has been prepared in accordance with
the Company's customary accounting practices. In the opinion of
management, the information reflects all adjustments necessary
for a fair presentation of the Company's consolidated financial
position as of April 1, 2005, and the results of operations for
the three and nine-month periods ended April 1, 2005 and March
31, 2004. The results of operations for such periods, however,
are not necessarily indicative of the results to be expected for
a full fiscal year.
(B) Accounting Estimates
The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results may differ
from those estimates.
(C) Contract Accounting
Contracts in process are stated at the lower of actual cost
incurred plus accrued profits or net estimated realizable value
of incurred costs, reduced by progress billings. The Company
records income from major fixed-price contracts, extending over
more than one accounting period, using the percentage-of-
completion method. During performance of such contracts,
estimated final contract prices and costs are periodically
reviewed and revisions are made as required. The effects of
these revisions are included in the periods in which the
revisions are made. On cost-plus-fee contracts, revenue is
recognized to the extent of costs incurred plus a proportionate
amount of fee earned, and on time-and-material contracts, revenue
is recognized to the extent of billable rates times hours
delivered plus material and other reimbursable costs incurred.
Losses on contracts are recognized when they become known.
Disputes arise in the normal course of the Company's business on
projects where the Company is contesting with customers for
collection of funds because of events such as delays, changes in
contract specifications and questions of cost allowability or
collectibility. Such disputes, whether claims or unapproved
change orders in the process of negotiation, are recorded at the
lesser of their estimated net realizable value or actual costs
incurred and only when realization is probable and can be
reliably estimated. Claims against the Company are recognized
where loss is considered probable and reasonably determinable in
amount. Management reviews outstanding receivables on a regular
basis and assesses the need for reserves taking into
consideration past collection history and other events that bear
on the collectibility of such receivables.
(D) Income Taxes
At April 1, 2005, the Company had approximately $4.5 million
in deferred tax assets which primarily relate to net operating
loss and tax credit carryforwards. Since the Company had
experienced losses in previous years, management recorded a
valuation allowance of approximately $3.8 million against the net
deferred tax asset.
6
VERSAR, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
The valuation allowance is adjusted periodically based upon
management's assessment of the Company's ability to derive
benefit from the deferred tax assets.
(E) Debt
In September 2003, Versar entered into a new line of credit
facility with United Bank (the Bank) that provides for advances
up to $5,000,000 based upon qualifying receivables. Interest on
the borrowings is based on prime plus one and a half percent
(6.75% as of April 1, 2005). The credit facility is guaranteed
by the Company and each subsidiary individually and is
collectively secured by accounts receivable, equipment and
intangibles, plus all insurance policies on property constituting
collateral. There were no outstanding borrowings on the credit
facility as of April 1, 2005. The credit facility is subject to
renewal in November 2005 and is subject to certain covenants
related to the maintenance of financial ratios. These covenants
require a minimum tangible net worth of $6,500,000, a maximum
total liabilities to tangible net worth ratio not to exceed 2.5
to 1; and a minimum current ratio of at least 1.25 to 1. Failure
to meet the covenant requirements gives the Bank the right to
demand the amount due under the credit facility, which may impact
the Company's ability to finance its working capital
requirements. At April 1, 2005, the Company was in compliance
with such financial covenants.
(F) Discontinued Operations
In fiscal year 1998, the Company discontinued a significant
portion of the operations of Science Management Corporation (SMC).
As such, the Company disposed of portions of SMC and disposed of
substantially all of the remaining assets and liabilities. The
remaining liability at April 1, 2005 of $58,000 is primarily related
to settling the remaining benefit plans obligations of SMC.
(G) Contingencies
Versar and its subsidiaries are parties to various legal
actions arising in the normal course of business. The Company
believes that the ultimate resolution of these legal actions will
not have a material adverse effect on its consolidated financial
condition and results of operations. (See Part II, Item 1 -
Legal Proceedings).
In September 2002, the Company recorded a non-recurring
charge of $800,000 to reduce the Company's overall cost structure
and to reduce costs in non-performing divisions. The costs
included $450,000 for severance payments to terminated employees
and $350,000 for costs to restructure certain leased facilities.
Approximately $148,500 and $192,200 in severance payments were
made in fiscal years 2003 and 2004, with a remaining liability
balance of $109,200, which will be disbursed in fiscal year 2005.
In addition, $82,000 and $131,000 of the facilities restructure
reserve was reduced as a result of modifying existing long term
leases in Texas, Chicago, and California facilities in fiscal
years 2003 and 2004. On April 1, 2005, the reserve balance of
$137,000 is expected to be utilized to reduce the facility costs
for vacant space at the Company's headquarters in Springfield,
Virginia in early fiscal year 2006.
Versar Board of Directors approved a two-year employment
agreement of Mr. Theodore M. Prociv as the Chief Executive
Officer, President and Director of the Company effective December
31, 2004. The agreement is filed as an exhibit in the Form 10Q
for period ended December 31, 2004.
(H) Goodwill and Other Intangible Assets
On January 30, 1998, Versar completed the acquisition of The
Greenwood Partnership, P.C. (subsequently renamed Versar Global
Solutions, Inc. or VGSI). The transaction was accounted for as a
purchase. Goodwill resulting from this transaction was
approximately $1.1 million. In fiscal year 2003, the
Company adopted the Statement of Financial Accounting Standards
(SFAS) No. 142, "Goodwill and Other Intangible Assets" which
7
VERSAR, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
eliminated the amortization of goodwill, but requires the Company
to test such goodwill for impairment annually. Currently, the
carrying value of goodwill is approximately $776,000 relating to
the acquisition of VGSI, which is now part of the Engineering &
Construction (E&C) reporting unit. In performing its goodwill
impairment analysis, management has utilized a discounted cash flow
model to determine the estimated fair value of the E&C reporting unit.
This model requires management, among other things, to estimate future
revenue and expenses of the E&C reporting unit based upon current
contract backlog and projected growth resulting from new business.
Management engages outside professionals and valuation experts,
as necessary, to assist in performing this analysis.
For fiscal years 2004 and 2003, management concluded, based
upon its impairment analysis, that goodwill relating to the E&C
reporting unit was not impaired. Goodwill impairment testing for
fiscal year 2005 will be performed in the fourth fiscal quarter.
(I) Net Income Per Share
Basic net income per common share is computed by dividing
net income by the weighted average number of common shares
outstanding during the period. Diluted net income per common
share also includes common stock equivalents outstanding during
the period if dilutive. The Company's common stock equivalents
shares consist of stock options.
For the Three-Month For the Nine-Month
Periods Ended Periods Ended
____________________ ____________________
April 1, March 31, April 1, March 31,
2005 2004 2005 2004
_________ _________ _________ _________
Weighted average common
shares outstanding -
basic 7,914,442 7,303,828 7,879,293 7,275,386
Assumed exercise of
options (treasury stock
method) 387,129 432,894 426,660 307,763
_________ _________ _________ _________
Weighted average common
shares outstanding -
basic/diluted 8,301,571 7,736,722 8,305,953 7,583,149
========= ========= ========= =========
(J) Common Stock
The Company issued 87,083 shares of common stock upon the
exercise of stock options during the first nine months of fiscal
year 2005. Total proceeds from the exercise of such stock
options were approximately $196,000.
Effective January 1, 2005, the Company implemented an
Employee Stock Purchase Plan (ESPP) to allow eligible employees
of Versar the opportunity to acquire an ownership interest in the
Company's common stock. Through the Plan, employees may purchase
shares of Versar common stock from the open market at 90% of its
fair market value. The Plan qualifies as an "employee stock purchase
plan" under Section 423 of the Internal Revenue Code.
(K) Recently Issued Accounting Standards
In December 2004, Financial Accounting Standard Board
("FASB") issued Statement of Financial Accounting Standard
("SFAS") 123 (Revised 2004), "Shared-Based Payment". Revised
SFAS 123 addresses the requirements of an entity to measure the
cost of employee services received in exchange for an award of
equity instruments based on the grant-date fair value of the
award. The cost of such award will be recognized over the period
during which an employee is required to provide services in
exchange for the award. The Company will be required to adopt
this Statement during the first quarter of fiscal year 2006.
The Company is currently evaluating the impact that this
pronouncement will have on its future operations.
8
VERSAR, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
(L) Stock Based Compensation
The Company accounts for employee stock option grants using
the intrinsic method in accordance with Accounting Principles
Board (APB) Opinion No. 25 "Accounting for Stock Issued to
Employees" and related interpretations. Accordingly compensation
expense, if any, is measured as the excess of the underlying
stock price over the exercise price on the date of grant. The
Company complies with the disclosure option of Statement of
Financial Accounting Standards (SFAS) No. 123 "Accounting for
Stock-Based Compensation", as amended by SFAS No. 148 "Accounting
for Stock-Based Compensation - Transition and Disclosure" which
requires pro-forma disclosure of compensation expense associated
with stock options under the fair value method.
The Company's pro forma information follows (in thousands,
except per share data):
For the Three-Month For the Nine-Month
Periods Ended Periods Ended
____________________ ____________________
April 1, March 31, April 1, March 31,
2005 2004 2005 2004
_________ _________ _________ _________
Net income, as reported $ 98 $ 21 $ 926 $ 730
Less: Total Stock-Based
Compensation determined
under the fair-value
based method (130) (103) (334) (259)
Pro-forma net income (32) (82) 592 471
Net income per share -
basic, as reported $ 0.01 $ --- $ 0.12 $ 0.10
Pro-forma net income per
share - basic --- (0.01) 0.08 0.06
Net income per share -
diluted, as reported $ 0.01 $ --- $ 0.11 $ 0.10
Pro-forma net income
per share --- (0.01) 0.07 0.06
(M) Business Segments
Effective July 1, 2004, the Company renamed and made minor
organizational changes to its business segments. The
Environmental Business segment has been renamed the
Infrastructure and Management Services segment and now includes
the Company's Pennsylvania, Ohio, and Arizona offices which were
formerly part of the Architecture and Engineering business segment.
The Architecture and Engineering business segment has been renamed
the Engineering and Construction segment and is now focused on larger
construction projects. The Defense segment has been renamed the
National Security segment. Previous year segment information has
been reclassified to conform to the current presentation.
The Infrastructure and Management Services segment provides
a full range of services including remediation/corrective
actions, site investigations, professional and management
services. The Engineering and Construction segment provides
engineering, design and construction management to government and
commercial facilities. The National Security segment provides
expertise in developing, testing and providing personal
protection equipment, and detecting and destroying biological and
chemical agents.
Management evaluates and measures the performance of its
business segments based on net service revenue and operating
income. As such, selling, general and administrative expenses,
interest and income taxes have not been allocated to the
Company's business segments.
9
VERSAR, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
Summary financial information for each of the Company's
segments follows:
For the Three-Month For the Nine-Month
Periods Ended Periods Ended
____________________ ____________________
April 1, March 31, April 1, March 31,
2005 2004 2005 2004
_________ _________ _________ _________
GROSS REVENUE
_____________
Infrastructure and
Management Services $ 10,509 $ 11,526 $ 31,816 $ 33,210
Engineering and
Construction 2,465 1,923 15,089 4,556
National Security 1,963 1,681 6,193 5,257
_________ _________ _________ _________
$ 14,937 $ 15,130 $ 53,098 $ 43,023
========= ========= ========= =========
NET SERVICE REVENUE
___________________
Infrastructure and
Management Services $ 6,729 $ 6,662 $ 19,550 $ 18,880
Engineering and
Construction 420 674 2,703 2,318
National Security 1,687 1,111 4,641 3,731
_________ _________ _________ _________
$ 8,836 $ 8,447 $ 26,894 $ 24,929
========= ========= ========= =========
OPERATING INCOME(A)
___________________
Infrastructure and
Management Services $ 1,638 $ 1,474 $ 4,404 $ 4,124
Engineering and
Construction (252) 66 656 384
National Security 252 (49) 484 544
_________ _________ _________ _________
1,638 1,491 5,544 5,052
Selling, general and
administrative expenses 1,516 1,427 4,571 4,192
_________ _________ _________ _________
$ 122 $ 64 $ 973 $ 860
========= ========= ========= =========
(A)Operating income is defined as net service revenue less direct costs
of services and overhead.
IDENTIFIABLE ASSETS April 1, 2005 June 30, 2004
___________________ __________________________________
Infrastructure and Management
Services $ 9,524 $ 10,856
Engineering and Construction 4,154 3,762
National Security 1,864 2,997
Corporate and Other 4,877 2,470
_____________ _____________
$ 20,419 $ 20,085
============= =============
(N) Subsequent Event
On April 15, 2005, the Company acquired the Cultural
Resources Group from Parsons Infrastructure & Technology Group,
Inc., a subsidiary of Parsons Corporation for a purchase price of
approximately $260,000 in cash. The Cultural Resources Group,
based in Fairfax County, Virginia provides archaeological,
cultural and historical services to federal, state and municipal
clients across the country. The acquisition will expand the
Company's existing and future capabilities in cultural resources
work. Their expertise will enhance and compliment Versar's
environmental core business. The Cultural Resources Group will
be incorporated into the Company's Infrastructure and Management
Services (IMS) segment. Currently, the Company is working on the
allocation of purchase price to identifiable assets. It is
anticipated that the eleven Cultural Resources employees will be
relocated to the Company's Springfield facility in the middle of
May 2005.
10
ITEM 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations
Financial trends
________________
From fiscal year 2002 to 2004, the net service revenue of
the Company continued to decline as the Company wound down the
Army STEPO suit production contract in the National Security
business segment. With increased funded contract backlog in the
fourth quarter of fiscal year 2004 and the first quarter of
fiscal year 2005, the Company began to reverse that trend. Multi-
million dollar contracts were awarded to the Engineering and
Construction business segment. These included roofing projects
in San Diego in support of Defense Logistic Agency and hurricane
emergency response in various locations in Florida. Recently,
the Company was awarded $4 million for construction oversight
work in Iraq. The Company achieved significant gross revenue
growth in the first nine months of fiscal year 2005 as a result
of increased Engineering and Construction work. Such continued
growth is dependent upon winning additional follow-on projects
and additional new contracts in order to keep the funded contract
backlog at levels that would support continued growth.
Management continues to pursue many business opportunities to
continue such growth, but can give no assurances that this will
be achieved.
During the third quarter of fiscal year 2005, gross revenues
on the Engineering and Construction business segment declined
from the first half of the fiscal year due to delays in obtaining
follow-on projects. The reduction in gross revenues along with
the delay in resolution of several construction change orders
negatively impacted the operating results for the quarter.
Additional delays in contract funding for the Environmental
Protection Agency and certain civilian agencies also experienced
delays because of the diversion of funds for the war effort.
Management expects that trend to reverse in the fourth quarter of
fiscal year 2005.
There are a number of risk factors or uncertainties that
could significantly impact our financial performance including
the following:
* General economic or political conditions;
* Threatened or pending litigation;
* The timing of expenses incurred for corporate initiatives;
* Employee hiring, utilization, and turnover rates;
* The seasonality of spending in the federal government and
commercial clients;
* Delays in project contracted engagements;
* Unanticipated contract changes impacting profitability;
* Reductions in prices by our competitors;
* The ability to obtain follow on project work;
* Our failure to properly manage projects resulting in
additional costs;
* The cost of compliance for the Company's laboratories;
* The impact of a negative government audit potentially
impacting our costs, reputation and ability to work with
the federal government;
* Loss of key personnel;
* The ability to compete in a highly competitive
environment; and
* Federal funding delay due to war in Iraq.
Results of Operations
_____________________
Third Quarter Comparison of Fiscal Year 2005 and 2004
_____________________________________________________
This report contains certain forward-looking statements
which are based on current expectations. Actual results may
differ materially. The forward-looking statements include those
regarding the continued award of future work or task orders from
government and private clients, cost controls and reductions, the
expected resolution of delays in billing of certain projects, and
the possible impact of current and future claims against the
11
ITEM 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations (continued)
Company based upon negligence and other theories of liability.
Forward-looking statements involve numerous risks and
uncertainties that could cause actual results to differ
materially, including, but not limited to, the possibilities that
the demand for the Company's services may decline as a result of
possible changes in general and industry specific economic
conditions and the effects of competitive services and pricing;
the possibility the Company will not be able to perform work
within budget or contractual limitations; one or more current or
future claims made against the Company may result in substantial
liabilities; the possibility the Company will not be able to
attract and retain key professional employees; changes to or
failure of the Federal government to fund certain programs in
which the Company participates; and such other risks and
uncertainties as are described in reports and other documents
filed by the Company from time to time with the Securities and
Exchange Commission.
Gross revenues for the third quarter of fiscal year 2005
were $14,937,000, a $193,000 (1%) decrease over that reported in
the third quarter of fiscal year 2004. The decrease in gross
revenues is attributable to decreased revenues in the Company's
Infrastructure and Management Services segment due to project
funding delays with the Environmental Protection Agency as a
result of budget delays and the reallocation of funds for the war
efforts in Iraq as well as reduced mold remediation work. The
decrease was in part offset by increased revenues in the
Engineering and Construction business segment.
Purchased services and materials decreased by $582,000 (9%)
in the third quarter of fiscal year 2005 compared to that
reported in the third quarter of fiscal year 2004. The decrease
was primarily the result of a reduction in mold remediation work
in the Infrastructure and Management Services segment which in
part were offset by the higher subcontracted efforts in the
Engineering and Construction group.
Net service revenue is derived by deducting the costs of
purchased services from gross revenue. Versar considers it
appropriate to analyze operating margins and other ratios in
relation to net service revenue, because such revenues reflect
the actual work performed by the Company's labor force. Net
service revenues increased by 5% in the third quarter of fiscal
year 2005 primarily as a result of improved operating performance
in the National Security business segment.
Direct costs of services and overhead include the cost to
Versar of direct and overhead staff, including recoverable and
unallowable costs that are directly attributable to contracts.
The percentage of these costs to net service revenue decreased to
81.5% in the third quarter of fiscal year 2005 compared to 82.3%
in the third quarter of fiscal year 2004. The decrease was
primarily attributable to improved labor utilization over that
reported in the prior fiscal reporting period.
Selling, general and administrative expenses approximated
17.2% of net service revenue in the third quarter of fiscal year
2005, compared to 16.9% in the third quarter of fiscal year 2004.
The increase in the percentage is due to additional staffing
costs with the addition of a corporate compliance function to the
company.
Operating income for the third quarter of fiscal year 2005
was $122,000, a $58,000 increase over that reported in the prior
fiscal quarter. The increase is primarily due to the decrease in
direct costs of services and overhead as a percentage of net
service revenue as mentioned above.
Interest expense for the third quarter of fiscal year 2005
was $24,000, a decrease of $19,000 (44%) over that reported in
the prior fiscal quarter. The decrease was due to the Company's
improved cash management efforts to pay off the Company's line of
credit in fiscal year 2004 and significantly reduce the Company's
reliance on its working capital line to manage the Company's
working capital requirements.
Versar's net income for the third quarter of fiscal year
2005 was $98,000 compared to $21,000 in the prior fiscal quarter.
The improved earnings were primarily attributable to the decrease
in direct costs and services and overhead and reduced utilization
of the Company's line of credit resulting in less interest expense.
The improved performance in the Infrastructure and Management
Services and National Security business segments were in part
12
ITEM 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations (continued)
offset by the lower financial performance in the Engineering and
Construction business segment. (See Note M. Business Segments)
Nine Months Comparison of Fiscal Years 2005 and 2004
____________________________________________________
Gross revenues for the first nine months of fiscal year 2005
increased by $10,075,000 (23%) compared to gross revenue in the
first nine months of fiscal year 2004. The increase is
attributable to higher construction work in the Engineering and
Construction business segment, which is discussed further under
the heading "Financial Trends". The increase in gross revenue in
the Engineering and Construction business segment is attributable
to roof replacement work in San Diego and the construction of a
specialized material handling facility in support of the Air
Force and other government agencies.
Purchased services and materials increased by $8,110,000
(45%) in the first nine months of fiscal year 2005 compared to
that reported in the first nine months of fiscal year 2004. As
mentioned above, the increase was due to increased subcontractor
activity related to the work in the Engineering and Construction
business segment in support of the Air Force and other government
agencies.
Net service revenues increased by 8% in the first nine
months of fiscal year 2005 primarily due to the profit on the
higher subcontracted construction activities as mentioned above.
Direct costs of services and overhead include the cost to
Versar of direct and overhead staff, including recoverable and
unallowable costs that directly attributable to contracts. The
percentage of these costs to service revenue for the first nine
months of fiscal year 2005 decreased slightly to 79.4% compared
to 79.7% in the first nine months of fiscal year 2004.
Selling, general and administrative expenses approximated
17.0% of net service revenue for the first nine months of fiscal
year 2005, compared to 16.8% in fiscal year 2004.
Operating income for the first nine months of fiscal year
2005 was $973,000, a 13% increase over that reported in the prior
fiscal year. The increase is primarily due to the improved
operating results in the Engineering and Construction business
segment, which were in part offset by lower operating results in
the Infrastructure and Management Services business segment.
Interest expense for the first nine months of fiscal year
2005 was $47,000, a decrease of $83,000 (64%) over that reported
in the prior fiscal year. The decrease was due to the improved
cashflows from operations and improved cash management efforts,
which resulted in the Company paying off the Company's line of
credit during the fourth quarter of fiscal year 2004.
Versar's net income for the first nine months of fiscal year
2005 was $926,000 compared to $730,000 in the prior fiscal year.
The improved earnings were primarily attributable to the increase
in gross revenue as well as the reduced interest costs in fiscal
year 2005.
Liquidity and Capital Resources
_______________________________
The Company's working capital as of April 1, 2005
approximated $8,526,000, an increase of $1,032,000 (14%). The
increase is primarily due to improved earnings in the first nine
months of fiscal year 2005. In addition, the Company's current
ratio at April 1, 2005 was 2.05, which was slightly increased
over that reported on June 30, 2004 due to the improved cash
position and increase in other assets in the first nine months of
fiscal year 2005.
In September 2003, Versar entered into a new line of credit
facility with United Bank (the Bank) that provides for advances
up to $5,000,000 based upon qualifying receivables. Interest on
the borrowings is based on prime plus one and a half percent
(6.75% as of April 1, 2005). The credit facility is guaranteed
by the Company and
13
ITEM 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations (continued)
each subsidiary individually and is collectively secured by
accounts receivable, equipment and intangibles, plus all
insurance policies on property constituting collateral. The
credit facility is subject to renewal in November 2005, and is
subject to certain covenants related to the maintenance of
financial ratios. These covenants require a minimum tangible net
worth of $6,500,000, a maximum total liabilities to tangible net
worth ratio not to exceed 2.5 to 1; and a minimum current ratio
of at least 1.25 to 1. Failure to meet the covenant requirements
gives the Bank the right to demand the amount due under the line
of credit, which may impact the Company's ability to finance its
working capital requirements. At April 1, 2005, the Company was
in compliance with the financial covenants.
We believe that our cash and cash equivalents on hand and
current borrowing capacity, together with anticipated cash flows
from operations, is sufficient to meet the Company's liquidity
needs for the next twelve months. There can be no assurance,
however, that amounts available in the future from existing
sources of liquidity will be sufficient to meet future capital
needs.
Critical Accounting Policies and Related Estimates That Have a
______________________________________________________________
Material Effect on Versar's Consolidated Financial Statements
_____________________________________________________________
Below is a discussion of the accounting policies and related
estimates that we believe are the most critical to understanding
the Company's consolidated, financial position, and results of
operations which require management judgments and estimates, or
involve uncertainties. Information regarding our other
accounting policies is included in the notes to our consolidated
financial statements included in our annual report filed on Form
10-K.
Revenue recognition: Contracts in process are stated at the
lower of actual costs incurred plus accrued profits or net
estimated realizable value of costs, reduced by progress
billings. On cost-plus fee contracts, revenue is recognized to
the extent of costs incurred plus a proportionate amount of fee
earned, and on time-and material contracts, revenue is recognized
to the extent of billable rates times hours delivered plus
material and other reimbursable costs incurred. The Company
records income from major fixed-price contracts, extending over
more than one accounting period, using the percentage-of-
completion method. During the performance of such contracts,
estimated final contract prices and costs are periodically
reviewed and revisions are made as required. Fixed price
contracts can be significantly impacted by changes in contract
performance, contract delays, liquidated damages and penalty
provisions, and contract change orders, which may effect the
revenue recognition on a project. Losses on contracts are
recognized in the period when they become known.
From time to time we may proceed with work based on customer
direction pending finalizing and signing of contract funding
documents. We have an internal process for approving any such
work. The Company recognizes revenue based on actual costs
incurred to the extent that the funding is assessed as probable.
In evaluating the probability of funding being received, we
consider our previous experiences with the customer,
communications with the customer regarding funding status, and
our knowledge of available funding for the contract or program.
If funding is not assessed as probable, costs are expensed as
they are incurred.
There is the possibility that there will be future and
currently unforeseeable significant adjustments to our estimated
contract revenues, costs and margins for fixed price contracts,
particularly in the later stages of these contracts. It is most
likely that such adjustments could occur in our Engineering and
Construction business segment. Such adjustments are common in
the construction industry given the nature of the contracts.
These adjustments could either positively or negatively impact
our estimates due to the circumstances surrounding the
negotiations of change orders, the impact of schedule slippage,
subcontractor claims and contract disputes which are normally
resolved at the end of the contract. Adjustments to the
financial statement are made when they are known.
Allowance for doubtful accounts: Disputes arise in the normal
course of the Company's business on projects where the Company is
contesting with customers for collection of funds because of events
such as delays, changes in contract specifications and questions of
cost allowability or collectibility. Such disputes, whether claims
14
ITEM 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations (continued)
or unapproved change orders in process of negotiation, are
recorded at the lesser of their estimated net realizable
value or actual costs incurred and only when realization is
probable and can be reliably estimated. Claims against the
Company are recognized where loss is considered probable and
reasonably determinable in amount. Management reviews
outstanding receivables on a regular basis and assesses the need
for reserves, taking into consideration past collection history
and other events that bear on the collectibility of such
receivables.
Deferred tax valuation allowance: The Company has
approximately $4.5 million in deferred tax assets of which a $3.8
million valuation allowance has been established against such
assets. Management provides for a valuation allowance until such
time as it can conclude more likely than not that the Company
will derive a benefit from such assets. The valuation allowance
is adjusted as necessary based upon the Company's ability to
generate taxable income, including management's ability to
implement tax strategies that will enable the Company to benefit
from such deferred tax assets.
In the first quarter of fiscal year 2003, management
implemented a cost restructure plan to improve the operating
performance of the Company. The cost reductions, along with
stronger revenue, resulted in $1.3 million operating income in
fiscal year 2004, a $1 million improvement from the prior year
operating income of $262,000. As the likelihood of utilizing
deferred tax assets increased, management reduced the tax
valuation allowance from $4.1 million to $3.8 million in fiscal
year 2004.
Goodwill and other intangible assets: On January 30, 1998,
Versar completed the acquisition of The Greenwood Partnership,
P.C. subsequently renamed (Versar Global Solutions, Inc. or
VGSI). The transaction was accounted for as a purchase.
Goodwill resulting from this transaction was approximately $1.1
million. In fiscal year 2003, the Company adopted the Statement
of Financial Accounting Standards (SFAS) No. 142, "Goodwill and
Other Intangible Assets" which eliminated the amortization of
goodwill, but does require the Company to test such goodwill for
impairment annually. Currently, the carrying value of goodwill
is approximately $776,000 relating to the acquisition of VGSI,
which is now part of the Engineering and Construction (E&C)
reporting unit. In performing its goodwill impairment analysis,
management has utilized a discounted cash flow model to determine
the estimated fair value of the E&C reporting unit. This model
requires management, among other things, to estimate future
revenue and expenses of the E&C reporting unit based upon current
contract backlog and projected growth resulting from new
business. Management engages outside professionals and valuation
experts, as necessary, to assist in performing this analysis.
Should the E&C reporting unit financial performance not meet
estimates, then impairment of goodwill would have to be further
assessed to determine whether the write down to the asset would
be warranted. If such a write down were to occur, it would
negatively impact the Company's financial position and results of
operations. However, it would not impact the Company's cash flow
or financial debt covenants.
During fiscal years 2004 and 2003, management concluded,
based upon its impairment analysis, that goodwill relating to the
E&C reporting unit was not impaired.
Impact of Inflation
___________________
Versar seeks to protect itself from the effects of
inflation. The majority of contracts the Company performs are
for a period of a year or less or are cost plus fixed-fee type
contracts and, accordingly, are less susceptible to the effects
of inflation. Multi-year contracts provide for projected
increases in labor and other costs.
Commitments and Contingencies
_____________________________
In September 2002, the Company recorded a non-recurring
charge of $800,000 to reduce the Company's overall cost structure
and to reduce costs in non-performing divisions. The costs
included $450,000 for severance payments to terminated employees
and $350,000 for costs to restructure certain leased facilities.
Approximately $148,500 and $192,200 in severance payments were
made in fiscal years 2003 and 2004, with a remaining liability
15
ITEM 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations (continued)
balance of $109,200, which will be disbursed in fiscal year 2005.
In addition, $82,000 and $131,000 of the facilities restructure
reserve was reduced as a result of modifying existing long term
leases in Texas, Chicago, and California facilities in fiscal
years 2003 and 2004. The balance of $137,000 is expected to be
utilized to reduce the facility costs for vacant space at the
Company's headquarters in Springfield, Virginia in early fiscal
year 2006.
Item 3 - Quantitative and Qualitative Disclosures About Market
Risk
There have been no material changes regarding the Company's
market risk position from the information provided on Form 10-K
for the fiscal year end June 30, 2004.
Item 4 - Procedures and Controls
As of the last day of the period covered by this report, the
Company carried out an evaluation, under the supervision of the
Company's Chief Executive Officer and Chief Financial Officer, of
the effectiveness of the design and operation of the Company's
disclosure controls and procedures pursuant to Exchange Act Rule
13a-15. Based upon that evaluation, the Chief Executive Officer
and Chief Financial Officer concluded that the Company's
disclosure controls and procedures are effective, as of such
date, to ensure that required information will be disclosed on a
timely basis in its reports under the Exchange Act.
Further, our Chief Executive Officer and Chief Financial
Officer concluded that our disclosure controls and procedures
have been designed to ensure that information required to be
disclosed in reports filed by us under the Exchange Act is
accumulated and communicated to our management, including the
Chief Executive Officer and Chief Financial Officer, in a manner
to allow timely decisions regarding the required disclosure.
There were no changes in the Company's internal control over
financial reporting during the last quarter that have materially
affected, or are reasonably likely to materially affect, the
Company's internal control over financial reporting.
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings
In August 1997, Versar entered into a contract with the
Trustees for the Enviro-Chem Superfund Site, which provided that,
based upon an existing performance specification, Versar would
refine the design, and construct and operate a soil vapor
extraction system. During the performance of the contract,
disputes arose between Versar and the Trustees regarding the
scope of work. Eventually, Versar was terminated by the Trustees
for convenience. The Trustees then failed to pay certain
invoices and retainages due Versar.
On March 19, 2001, Versar instituted a lawsuit against the
Trustees and three environmental consulting companies in the U.S.
District Court of the Eastern District of Pennsylvania, entitled
Versar, Inc. v. Roy O. Ball, Trustee, URS Corporation,
Environmental Resources Management and Environ Corp., No.
01CV1302. Versar, in seeking to recover amounts due under the
remediation contract from the Trustees of the Superfund Site,
claimed breach of contract, interference with contractual
relationships, negligent misrepresentations, breach of good faith
and fair dealing, unjust enrichment and implied contract. Mr.
Ball and several defendants moved to dismiss the action or, in
the alternative, transfer the action to the U.S. District Court
for the Southern District of Indiana, where, on April 20, 2001,
the two Trustees had filed suit against Versar in the U.S.
District Court for the Southern District of Indiana, entitled,
Roy O. Ball and Norman W. Bernstein, Trustees v. Versar, Inc.,
Case No. IPO1-0531 C H/G. The Trustees alleged breach of
contract and breach of warranty with respect to the remediation
contract and asked for a declaratory judgment on a number of the
previously stated claims.
On July 12, 2001, the Federal District Court in Pennsylvania
granted defendants' motion to transfer the Pennsylvania lawsuit and
consolidate the two legal actions in Indiana. The Company filed an
answer and
16
counterclaim to the Indiana lawsuit. The plaintiffs and third-party
defendants filed Motions to Dismiss the Company's counterclaim. The
court granted the motions in part and denied them in part. Versar
amended its answer and counterclaim. In the meantime, plaintiffs filed
a Motion for Partial Summary Judgment which the Judge granted in part
and denied in part. The Judge held that certain agreements entered
into by the parties prevented Versar from recovering certain amounts
under its counterclaim but that Versar could pursue its claim for
fraud in other areas. Written and oral discovery has commenced and
has continued for several years. The court granted Versar's demand
that the Trustees supply requested information and documents. Versar
continues to seek additional discovery compliance by the Trustees.
Motions for summary judgement are expected to be filed by both
parties later this year. The trial, which had been set for May 2005,
will be rescheduled. Based upon discussions with outside counsel,
management does not believe that the ultimate resolution under the
Trustees' lawsuit will have a materially adverse effect on the
Company's consolidated financial condition and results of operations.
Versar and its subsidiaries are parties from time to time to
various other legal actions arising in the normal course of
business. The Company believes that any ultimate unfavorable
resolution of these legal actions will not have a material
adverse effect on its consolidated financial condition and
results of operations.
Item 6 - Exhibits and Reports on Form 8-K
(a) Exhibits
31.1 and 31.2 - Certification pursuant to Securities
Exchange Act Section 13a-14.
32.1 and 32.2 - Certification under Section 906 of the
Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K
Form 8-K, which reported the Company's Employee Stock
Purchase Plan Definitive Agreement, was filed with the
Securities and Exchange Commission on November 17, 2004.
Form 8-K, which reported the acquisition of the Cultural
Resources Group of Parsons Corporation, was filed with the
Securities and Exchange Commission on April 19, 2005.
17
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of
1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned thereunto duly authorized.
VERSAR, INC.
____________
(Registrant)
/S/ Theodore M. Prociv
By:_______________________
Theodore M. Prociv
Chief Executive Officer,
President, and Director
/S/ Lawrence W. Sinnott
By:_______________________
Lawrence W. Sinnott
Senior Vice President,
Chief Financial Officer,
Treasurer, and Principal
Accounting Officer
Date: May 11, 2005
18