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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 [FEE REQUIRED]
For the fiscal year ended December 31, 1996
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from_______to_______
Commission file number 1-8191
PORTA SYSTEMS CORP.
(Exact name of registrant as specified in its charter)
Delaware 11-2203988
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
575 Underhill Boulevard, Syosset, New York 11791
- ------------------------------------------ -----
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (516) 364-9300
Securities registered pursuant to Section 12(b) of the Act:
Common Stock, par value $.01 American Stock Exchange
- ---------------------------- -----------------------
(Title of Class) (Name of Exchange on
which registered)
Securities registered pursuant to Section 12(g) of the Act:
None
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 check mark if disclosure of 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 10K or any amendment to this
Form 10K. [X]
State aggregate market value of the voting stock held by non-affiliates of
the registrant: $3,560,570 as of March 14, 1997.
Indicate the number of shares outstanding of each of the registrant's class
of common stock, as of the latest practicable date: 2,191,120 shares of Common
Stock, par value $.01 per share, as of March 14, 1997.
DOCUMENTS INCORPORATED BY REFERENCE
The registrant's definitive proxy statement in connection with its 1997 Annual
Meeting of Stockholders to be filed within 120 days of the close of the
registrant's fiscal year is incorporated by reference into Part III of the
Report.
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Item 1. Business
Porta Systems Corp. (the "Company") develops, designs, manufactures and
markets a broad range of proprietary and standard telecommunications equipment
and systems for sale in the United States and abroad. The Company's core
products fall into three categories:
Computer-based operational support systems ("OSS") which automate the
operational, administrative, maintenance and testing functions within telephone
companies. These systems are marketed principally to foreign telephone operating
companies in developing countries and Europe.
Telecommunications connection equipment and systems which are used both to
connect copper-wired telecommunications networks and to protect
telecommunications equipment from voltage surges. The copper connection
equipment and systems are marketed to telephone operating companies in the
United States and foreign countries, with the largest customer being British
Telecommunications plc ("BT"), and manufacturers and owners of
telecommunications equipment.
To a significantly lesser extent, signal processing, which are radio-based
communications systems sold principally for military uses.
In March, 1996 the Company sold its fiber optics connector business. See
Item 7 Management Discussion and Analysis of Financial Condition and Results of
Operations.
Porta Systems Corp. is a Delaware corporation incorporated in 1972 as the
successor to a New York corporation incorporated in 1969. The Company's
principal offices are located at 575 Underhill Boulevard, Syosset, New York
11791; telephone number, 516-364-9300. References to the Company include its
subsidiaries, unless the context indicates otherwise.
Products
Operations Support Systems. The Company's OSS systems are used primarily by
telephone operating companies. The Company's principal OSS system is its
computer-based testing system--the Line Condition Report ("LCR")--which is a
major item of capital equipment and typically sells for prices ranging from
several hundred thousand to several million dollars. The Company also
manufactures and sells a number of other products which are used in testing,
maintenance and repair of telephone equipment.
1
The LCR, introduced in the mid-1970's, was the first computer-controlled
electronic system used to automatically test for and diagnose problems in
customer lines and to notify service personnel of required maintenance. The
associated Mechanized Line Report ("MLR") data base system provides automated
record keeping (including repair and disposition records) and analyzes these
records for identification of recurring problems and equipment deterioration.
The Company's LCRs are sold to telephone operating companies in a number of
foreign countries as well as in the United States.
The Company's software, which can be packaged and integrated with the LCR,
provides additional OSS functions, such as the automated assignment of telephone
company facilities for the provision of service. In addition, pursuant to
certain contract with customers, the Company develops software to meet those
specific customer requirements.
The Company's OSS systems are complex systems which, in most applications,
incorporate features designed to respond to the purchaser's operational
requirements and the particular characteristics of the purchaser's telephone
system. As a result, the negotiation of a contract for an OSS system is an
individualized and highly technical process. In addition, contracts for OSS
systems frequently provide for manufacturing, delivery, installation, testing
and purchaser acceptance phases which take place over periods ranging from
several months to a year or more. Such contracts typically contain performance
guarantees by the Company and clauses imposing penalties on the Company if
"in-service" dates are not met. The installation, testing and purchaser
acceptance phases of these contracts may last longer than contemplated by the
contracts and, accordingly, amounts due under the contracts may not be collected
for extended periods. Delays in purchaser acceptance of the systems and in the
Company's receipt of final contract payments have occurred in connection with a
number of foreign sales. In addition, the Company has experienced no steady or
predictable flow of orders for OSS systems.
Telecommunications Connection Equipment. The Company's telecommunications
copper connection/protection equipment and systems are used by telephone
operating companies, by owners of private telecommunications equipment and by
manufacturers and suppliers of telephone central office and customer premises
equipment. Products of the types comprising the Company's line of
telecommunications connection equipment are included as integral parts of all
domestic and foreign telephone and telecommunications systems. Such products are
sold in a worldwide market which grows generally in proportion to increases in
the number of telephone subscribers and owners of private telecommunications
equipment, as well as to increases in upgrades to modern digital switching
technology.
2
The Company's traditional connection equipment consists of connector blocks
and protection modules used by telephone companies to interconnect copper-based
subscriber lines to switching equipment lines. The protector modules protect
central office personnel and equipment from electrical surges. The need for
protection products has increased as a result of the worldwide move to digital
technology, which is extremely sensitive to damage by electrical overloads, and
because private owners of telecommunications equipment now have the
responsibility to protect their equipment from damage from electrical surges.
Line connecting/protecting equipment usually incorporates protector modules to
safeguard equipment and personnel from injury due to power surges. Currently,
these products include a variety of connector blocks, protector modules and
frames used in telephone central switching offices, PBX installations and
multiple user facilities.
The Company also has developed an assortment of frames for use in
conjunction with the Company's traditional line of connecting/protecting
products. Frames for the interconnection of copper circuits are specially
designed structures which, when equipped with connector blocks and protectors,
interconnect and protect telephone lines and distribute them in an orderly
fashion, allowing access for repairs and changes in line connections. One of the
Company's frame products, the CAM frame, is designed to permit computer-assisted
analysis and recording of the optimum placement of connections for telephone
lines on the connector blocks mounted on the frame.
The Company's telecommunications copper connection/protection equipment,
including its line connecting/protecting products, is used by several of the
operating companies of the seven regional Bell holding companies, as well as by
independent telephone operating companies in the United States and owners of
private telecommunications equipment. These products are also purchased by other
companies for inclusion within their systems. In addition, the Company's
telecommunications connection products have been sold to telephone operating
companies in various foreign countries. This equipment is compatible with
existing telephone systems both within and outside the United States and can
generally be used without modification, although the Company can design
modifications to accommodate the specific needs of its customers.
3
The table below shows, for the last three fiscal years, the contribution
made to the Company's sales by each of its major segments of the
telecommunications industry:
Sales by Product Category
Years Ended December 31,
------------------------
1996 1995 1994
---- ---- ----
(Dollars in thousands)
OSS Systems 26,804 46% 28,988 47% $21,516 31%
Line Connect-
ing/Protecting
Equipment (*) 23,249 40% 26,867 44% 40,800 59%
.
Signal Processing 7,597 13% 4,857 8% 5,221 8%
Other 337 1% 469 1% 1,448 2%
------- --- ------- --- ------- ---
Total $57,987 100% $61,181 100% $68,985 100%
======= === ======= === ======= ===
(*) Includes sales of fiber optics products of $447,000 in 1996, $6,513,000 in
1995, and $12,150,000 in 1994. The net assets of the fiber optics business
unit were sold in March 1996.
Markets for the Company's Products
The Company supplies equipment and systems to telephone companies for use
in providing telecommunications services to their customers and to businesses
for use with their internal telecommunication systems. The markets served by the
Company are described below:
Telecommunications Systems. Telephone networks in certain regions of the
world, notably Latin America, Eastern Europe and certain areas in the
Asia/Pacific region, utilize telephone switching systems which use analog
technology. These networks were designed to carry voice traffic and are not well
suited for high speed data transmissions or for other forms of
telecommunications that operate more effectively with digital telecommunications
equipment and lines. The telephone networks in these countries are also
characterized by a very low ratio of telephone lines to population.
4
A country with an emerging telecommunications network may want to rapidly
add access lines in order to increase the availability of telephone service
among its population and to significantly upgrade the quality of the lines
already in service. The Company's OSS systems are designed to meet many of the
needs of a rapidly growing telephone network. OSS systems facilitate rapid
expansion without a comparable increase in the requirement for skilled
technicians, while the computerized line test system insures increased quality
and rapid maintenance and repair of subscriber local loops. The automated data
base which computerizes the inventory and maintenance history of all subscriber
lines in service helps to keep the rapid growth under control.
As a telephone company expands the number of its subscriber lines, it also
requires connection equipment to interconnect and protect those lines in its
central offices. The Company provides a line of copper connection equipment for
this purpose. In the more advanced countries, the movement towards fiber optic
circuits has resulted in a stagnation or decline in the market for copper
connection equipment, while the less developed countries, such as those with
emerging networks or those upgrading to digital switching systems, provide a
growing market for copper connection and protection equipment.
During 1996, approximately 46% of the Company's sales were made to
customers in emerging markets. Such sales include both OSS and copper connection
products.
Digital Systems. In regions such as Western Europe, telephone networks have
achieved a higher ratio of available telephone lines to population. However, the
switching systems may utilize analog technology which are suited more to
carrying voice transmissions than data transmissions. These telephone companies
are upgrading their networks by replacing the older analog switching systems
with newer digital systems.
The increased sensitivity of the newer digital switches to small amounts of
voltage requires the telephone company which is upgrading its systems to digital
switching systems to also upgrade its central office connection/protection
systems in order to meet these more stringent protection requirements. The
Company supplies central office connection/protection systems to meet these
needs.
During 1996, approximately 40% of the Company's sales were made to
customers in this category.
5
Signal Processing. The Company's line of signal processing products is
supplied to customers in the military and aerospace industry as well as
manufacturers of medical equipment and video systems. The primary communication
standard in new military and aerospace systems is the MIL-STD-1553 Command
Response Data Bus, and applications require an extremely high level of
reliability and performance. Products are designed to be application specific to
satisfy the requirements of each military or aerospace program.
The Company's wideband transformers are required for ground noise
elimination in video imaging systems and are used in the television and
broadcast, medical imaging and industrial process control industries. If not
eliminated, ground noise caused by poor electrical system wiring or power
supplies, results in significant deterioration in system performance (poor
picture quality, process failures in instrumentation, etc.). The wideband
transformers provide a cost effective and quick solution to the problem without
the need of redesign of the rest of the system.
During 1996, signal processing equipment accounted for approximately 13% of
the Company's sales.
Marketing and Sales
The Company operates through three business units which are organized by
product line and with each having responsibility for the sales and marketing of
its products.
When appropriate to obtain sales in foreign countries, the Company may
enter into arrangements and technology transfer agreements covering its products
with local manufacturers and participate in manufacturing and licensing
arrangements with local telephone equipment suppliers.
In the United States and throughout the world, the Company uses independent
distributors in the marketing of Company products to the customer premises
equipment market. All distributors marketing copper-based products also market
directly competing products. In addition, the Company continues to promote the
direct marketing relationships it forged in the past with telephone operating
companies.
6
In November 1996, the Company amended its supply agreement with British
Telecommunications plc ("BT") for the Company's line connecting/protecting
products. The amended agreement will expire on August 31, 2001, and provides,
among other things, that the Company may no longer be the exclusive supplier to
BT for these products. During 1996, 1995, and 1994, BT purchased $9,296,000 (16%
of sales), $8,060,000 (13% of sales), and $11,743,000 (17% of sales),
respectively, of the Company's line connecting/protecting products. During these
years, additional sales of the Company's products were also made at the
direction of BT to certain unaffiliated suppliers to BT for resale to BT. The
amended contract also provides for a cross license which, in effect, enables BT
to use certain of the Company's proprietary information to modify or enhance
products provided to BT and permits those products to be manufactured by BT or
others for its own purposes.
The Company's OSS systems have primarily been sold to foreign telephone
operating companies (which are sometimes controlled by foreign governments), and
the contracts relating to OSS systems are principally negotiated directly
between the Company and these purchasers.
The Signal Processing line of products is sold primarily to US military and
aerospace prime contractors, and domestic OEMs and end users.
7
The following table sets forth for the last three fiscal years the
Company's sales to customers by geographic region:
Sales to Customers By Geographic Region (1)
Year Ended December 31,
-----------------------
1996 1995 1994
---- ---- ----
(Dollars in thousands)
United States
and Puerto Rico 17,644 30% $16,445 27% $24,150 35%
United Kingdom 16,000 28% 22,230 36% 17,761 26%
Other Europe 5,416 9% 2,831 5% 4,344 6%
Latin America 1,738 3% 4,743 8% 7,917 11%
Asia/Pacific 15,812 27% 13,470 22% 12,909 19%
Middle East 1,248 2% 899 1% 1,009 2%
Other 129 1% 563 1% 895 1%
------- --- ------- --- ------- ---
Total Sales $57,987 100% $61,181 100% $68,985 100%
======= === ======= === ======= ===
(1) For information regarding the amount of sales, operating profit or loss and
identifiable assets attributable to each of the Company's geographic areas,
see Note 23 to the Consolidated Financial Statements.
In selling to customers in foreign countries, there are inherent risks not
normally present in the case of sales to United States customers, including
increased difficulty in identifying and designing systems compatible with
purchasers' operational requirements; extended delays under OSS systems
contracts in the completion of testing and purchaser acceptance phases and the
Company's receipt of final payments; and political and economic change. In
addition, to the extent that the Company establishes facilities in foreign
countries, the Company faces risks associated with currency devaluation,
inability to convert local currency into dollars, local tax regulations and
political instability.
8
Manufacturing
The Company's computer-based testing products include the Company's
proprietary testing circuitry and computer programs, which provide
platform-independent solutions based on UNIX-type operating systems. The testing
products also incorporate disk data storage, data terminals ("CRTs"),
teleprinters and minicomputers purchased by the Company. These products are
installed and tested by the Company on its customers' premises.
At present, the Company's manufacturing operations are conducted at
facilities located in Glen Cove, New York; Kingsville, Texas; Matamoros, Mexico
and Korea. The Company from time to time also uses subcontractors to augment
various aspects of its production activities and periodically explores the
feasibility of conducting operations at lower cost manufacturing facilities
located abroad. In pursuing sales opportunities with foreign telephone
companies, the Company may locate its production activities in foreign countries
which require domestic involvement in the production of equipment purchased for
their telephone systems and in foreign countries which, in addition, require
full or partial technology transfers to domestic enterprises.
Source and Availability of Components
The Company generally purchases the standard components used in the
manufacture of its products from a number of suppliers. The Company attempts to
assure itself that the components are available from more than one source. The
Company purchases the minicomputers used in its OSS systems from Digital
Equipment Corporation ("DEC'). However, the Company could use other computer
equipment in its systems if the Company were unable to purchase DEC products.
Other components, such as CRTs and teleprinters, used in connecting with the
Company's electronic products could be obtained from alternate sources and
readily integrated with the Company's products.
Backlog
At December 31, 1996, the Company's backlog was $18,296,000 compared with
approximately $22,569,000 at December 31, 1995. Of the December 31, 1996
backlog, approximately $15,670,000 represented orders from foreign telephone
operating companies, including $5,383,000 attributable to the contract with BT.
See "Marketing and Sales". The Company expects to ship substantially all of its
December 31, 1996 backlog during 1997. However, certain of the Company's OSS
contracts provide for deliveries subsequent to December 31, 1997.
9
Patents
The Company is the owner of a number of utility and design patents and
patent applications. In addition, the Company has sought foreign patent
protection for a number of its products.
From time to time the Company enters into licensing and technical
information agreements under which it receives or grants rights to produce
certain specified subcomponents used in certain of the Company's products or in
connection with products developed by the Company. These agreements are for
varying terms and provide for the payment or receipt of royalties or technical
license fees.
While the Company considers patent protection important to the development
of its business, and produces certain subcomponents of its products under
licensing agreements, the Company believes that its success depends primarily
upon its engineering, manufacturing and marketing skills. Accordingly, the
Company does not believe that a denial of any of its pending patent
applications, expiration of any of its patents, a determination that any of the
patents which have been granted to it are invalid or the cancellation of any of
its existing license agreements would have a material adverse effect on the
Company's business.
Competition
The telephone equipment market in which the Company does business is
characterized by intense competition, rapid technological change and a movement
to private ownership of telecommunications equipment. In competing for telephone
operating company business, the purchase price of equipment and associated
operating expenses have become significant factors, along with product design
and long-standing equipment supply relationships. In the customer premises
equipment market, the Company is functioning in a market characterized by
distributors and installers of equipment and by commodity pricing.
The Company competes directly with a number of large and small telephone
equipment manufacturers in the United States, with AT&T continuing to be the
Company's principal United States competitor. AT&T's greater resources,
extensive research and development facilities, long-standing equipment supply
relationships with the operating companies of the regional holding companies and
history of manufacturing and marketing products similar in function to those
produced by the Company continue to be significant factors in the Company's
competitive environment.
10
Currently, AT&T and a number of companies with greater financial resources
than the Company produce, or have the design and manufacturing capabilities to
produce, products competitive with the Company's products. In meeting this
competition, the Company relies primarily on the performance and design
characteristics of its products of comparable performance or design, endeavors
to offer its products at prices and with warranties that will make its products
competitive.
In connection with overseas sales of its line connecting/protecting
equipment, the Company has met with significant competition from United States
and foreign manufacturers of comparable equipment and expects this competition
to continue. In addition to AT&T, a number of the Company's overseas competitors
have significantly greater resources than the Company.
The Company competes directly with a limited number of substantial domestic
and international companies with respect to its sales of OSS systems. In meeting
this competition, the Company relies primarily on the features of its line
testing equipment and endeavors to offer such equipment at prices and with
warranties that will make it competitive.
Significant Customers
During 1996 four customers each accounted for 5% or more of the Company's
sales. Sales made to BT amounted to $11,308,000, or approximately 20% of the
Company's 1996 sales. Sales made to the Philippines Long Distance Telephone
amounted to $7,034,000, or approximately 12% of the Company's 1996 sales. Sales
to Korea Telecommunications Authority amounted to $4,749,000 or 8% in 1996
sales. Sales to SPT Telecom (Czech Republic) amounted to $3,116,000 or 5% in
1996 sales. No other customers account for 5% of the Company's sales in 1996. In
addition, the former Bell operating companies continue to be the ultimate
purchasers of a significant portion of the Company's products sold in the United
States, while sales to foreign telephone operating companies constitute the
major portion of the Company's foreign sales. The Company's contracts with these
customers require no minimum purchases by such customers. Significant customers
for the Signal Processing products include the major US Aerospace companies,
Department of Defense service depots and OEMs in the medical imaging and process
control equipment. Both catalog and custom designed products are sold to these
customers. Some contracts are multi-year procurements.
Research and Development Activities
During the fiscal years ended December 31, 1996, 1995 and 1994, the Company
spent approximately $3,848,000, $6,103,000, and $3,959,000, respectively, on its
research and development activities. All research and development was company
sponsored.
11
Employees
As of February 28, 1997, the Company had 416 employees of which 167 were
employed in the United States, 163 were employed in Mexico, 43 were employed in
the United Kingdom, and 43 were employed in Korea. The Company believes that its
relations with its employees have been good, and it has never experienced a work
stoppage. The Company's employees are not covered by contracts with labor
unions, except for its hourly employees in Mexico who are covered by a contract
with the union representing such hourly employees that expires on December 31,
1998.
Item 2. Properties
The Company currently leases approximately 20,400 square feet of executive,
sales, marketing and research and development space located in Syosset, New
York; 5,300 square feet of office space used for software development located in
Charlotte, North Carolina; and 27,000 square feet of manufacturing and
warehousing space at two locations in Kingsville, Texas. The Company owns a
31,000 square foot manufacturing and research and development facility located
in Glen Cove, New York. These facilities represent substantially all of the
Company's office, plant and warehouse space in the United States. The Syosset,
New York lease expires June 1998; the Charlotte, North Carolina lease expires in
April 1999 and the Kingsville, Texas leases expire in July 1997 and December
1999. The aggregate annual rental is approximately $400,000.
The Company's wholly-owned Mexican subsidiary, Systems, S.A. de C.V., owns
its approximately 40,000 square foot Matamoros, Mexico facility. A wholly-owned
subsidiary of the Company located in the United Kingdom owns a 34,261 square
foot facility located in Coventry, England, which facility comprises all of the
Company's office, plant and warehouse space in the United Kingdom.
The Company believes its properties are adequate for its needs.
12
Item 3. Legal Proceedings
In July 1996, an action was commenced against the Company and certain
present and former directors in the Supreme Court of the State of New York, New
York County by certain stockholders and warrant holders of the Company who
acquired their securities in connection with the acquisition by the Company of
Aster Corporation. The complaint alleges breach of contract against the Company
and breach of fiduciary duty against the directors arising out of an alleged
failure to register certain restricted shares and warrants owned by the
plaintiffs. The complaint seeks damages of $413,000; however, counsel for the
plaintiff have advised the Company that additional plaintiffs may be added and,
as a result, the amount of damages claimed may be substantially greater than the
amount presently claimed. The Company believes that the defendants have valid
defenses to the claims. Discovery is proceeding.
In July 1996, the Securities and Exchange Commission (the "SEC") issued an
order (the "Order") directing a private investigation of the Company to
determine whether there has been a violation of Federal securities laws. The SEC
indicated to counsel for the Company that the investigation relates to the
position of the SEC staff that the independence of the Company's auditors for
1995, KPMG Peat Marwick LLP ("Peat Marwick"), was adversely impacted by certain
relationships involving Peat Marwick, on the one hand, and KPMG BayMark
Strategies LLC ("BayMark") and Edward R. Olson, the President of BayMark and the
Company's former interim president and chief operating officer, on the other
hand. Although the Company does not agree with the position of the SEC staff
with respect to the independence of Peat Marwick, the Company is cooperating
with the SEC's investigation. The Company retained BDO Seidman, LLP to reaudit
the Company's 1995 financial statements, which reaudit resulted in no changes to
the Company's 1995 financial statements as audited by Peat Marwick. The Company
does not believe that the investigation will result in any material liability on
the part of the Company.
Item 4. Submission of Matters to a Vote of Securities Holders
During the fourth quarter of 1996, there were no matters required to be
submitted to a vote of security holders of the Company.
13
Item Pursuant to Instruction 3 of Item 401 (b) of Regulation S-K:
Executive Officers of the Company as of March 31, 1997
Name and Position Age
- ----------------- ---
William V. Carney 59
Chairman of the Board
Chief Executive Officer
Seymour Joffe 67
President and
Chief Operating Officer
Michael A. Tancredi 67
Senior Vice President
Secretary and Treasurer
Edward B. Kornfeld 53
Senior Vice President - Operations
Chief Financial Officer
John J. Gazzo 53
Senior Vice President
Prem G. Chandran 44
Vice President
Edmund Chiodo 42
Vice President
David Rawlings 53
Vice President
William Novelli 65
Vice President
All of the Company's officers serve at the pleasure of the Board of
Directors. Of the executive officers listed above, Messrs. Carney, Joffe and
Tancredi are also members of the Board of Directors. There is no family
relationship between any of the executive officers listed above.
14
Mr. Carney was elected as Chairman of the Board of Directors and Chief
Executive Officer in 1996 and has served as a director since 1970. Previously,
Mr. Carney had served as Secretary since 1970, Senior Vice President since
November 1989 and Chief Technical Officer from December 1990. He was elected
Vice Chairman in January 1988. He was Senior Vice President-Mechanical
Engineering from January 1988 to November 1989 and was Senior Vice
President-Manufacturing from March 1984 to February 1985, Senior Vice
President-Operations from June 1977 to February 1984 and Vice President from
1970 to June 1977.
Mr. Joffe was elected President and Chief Operating Officer in 1996. Mr.
Joffe, who served as director of the Company from 1987 to 1992, has most
recently served the Company as senior consultant to its Operations Support
Systems (OSS) business. Mr. Joffe has been Chairman of JSI International, Inc.
which represents companies in the marketing and positioning of high-tech
products and serves in the Asia Pacific area. Mr. Joffe has also served as an
officer and director of a number of public and private companies involved in the
computer and telecommunications industries.
Mr. Tancredi was elected Senior Vice President and Secretary in 1996. He
has been Treasurer since April 1978 and Director since 1970. He had served as
Vice President between March 1984 to October of 1996. He was Vice President from
April 1978 to February 1984 and Comptroller from April 1971 to March 1978.
Mr. Kornfeld was elected a Senior Vice President-Operations in 1996. He has
served as Vice President-Finance and Chief Financial Officer of the Company
since October 1995. Prior to his election to this position, Mr. Kornfeld held
positions with several companies for more than five years, including Excel
Technology Inc. (Quantronix Corp.) and Anorad Corporation.
Mr. Gazzo was elected Senior Vice President in March 1996. He has been Vice
President-Marketing of the Company since April 1993 and was general manager of
its Porta Electronics Division from November 1989 to April 1993; he was the
Company's Vice President-Research and Development from March 1984 to November
1989 and was Vice President-Engineering from February 1978 to February 1984.
Prior to that time, he was Chief Engineer of the Company.
Mr. Chandran was elected Vice President in December 1995. Mr. Chandran had
been with the Company as Assistant Vice President of Engineering since 1991.
Mr. Chiodo was elected Vice President in March 1996. Mr. Chiodo had been
with the Company since 1980. During that time he has held various positions with
in the Company, most recently as Assistant Vice President of OSS operations.
15
Mr. Rawlings was elected Vice President in March 1996. Mr. Rawlings has
been the Assistant Vice President of Research and Development - Copper products
since 1992.
Mr. Novelli was elected Vice President in December 1996. Mr. Novelli has
been the Assistant Vice President of Sale and Marketing - Copper products since
1989.
16
Part II
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters
The Company's Common Stock is traded on the American Stock Exchange, Inc.
under the symbol PSI. The following table sets forth, for the period January 1,
1995 through December 31, 1996, the quarterly high and low sales prices for the
Company's Common Stock on the consolidated transaction reporting systems for
American Stock Exchange listed issues. Share prices listed below have been
restated to give effect to the one for five reverse stock split which became
effective on August 2, 1996.
High Low
---- ---
1995 First Quarter 31 1/4 16 7/8
Second Quarter 23 1/8 13 1/8
Third Quarter 21 7/8 5
Fourth Quarter 12 1/2 3 1/8
1996
First Quarter 6 9/16 3 7/16
Second Quarter 4 11/16 3 1/8
Third Quarter 3 3/4 1 7/8
Fourth Quarter 2 1/2 1 1/4
The Company did not declare or pay any cash dividends in 1996 or 1995. It
is the present policy of the Company to retain earnings to finance the growth
and development of the business and therefore, the Company does not anticipate
paying cash dividends on its Common Stock in the foreseeable future. In
addition, the Company's Amended and Restated Loan and Security Agreement
prohibits the Company from paying cash dividends on its Common Stock.
As of March 14, 1997, the number of holders of record of the Company's
Common Stock was approximately 500.
Item 6. Selected Financial Data
The following table sets forth certain selected consolidated financial
information of the Company. All share and per share data have been restated to
give affect to the one for five reverse stock split which became effective on
August 2, 1996. For further information, see the Consolidated Financial
Statements and other information set forth in Item 8 and Management's Discussion
and Analysis of Financial Condition and Results of Operations set forth in Item
7:
17
Year Ended December 31,
-----------------------------------------------
1996 1995 1994 1993 1992
---- ---- ---- ---- ----
(In thousands, except per share data)
Income Statement
Data:
Sales $ 57,987 $ 61,181 $ 68,985 $ 68,141 $ 68,993
Operating
income (loss) 3,982 (19,884) (17,541) (3,916) (11,466)
Income (loss) before
discontinued
operations and
extraordinary item 1,252 (29,297) (39,995) (7,493) (8,539)
Net Income
(loss) 5,174 (31,041) (39,995) (9,545) (14,977)
Income (loss)
per share from
continuing
operations $ 0.23 $ (20.05) $ (28.05) $ (5.40) $ (6.20)
Cash dividends
declared -- -- -- -- --
Number of shares
used in calcu-
lating net in-
come (loss) per
share 5,381 1,461 1,427 1,382 1,378
Balance Sheet
Data:
Total Assets $ 50,658 $ 60,591 $ 84,963 $109,948 $130,345
Long-term debt
excluding current
maturities $ 45,804 $ 55,389 $ 57,310 $ 49,931 $ 34,205
Stockholders' equity
(deficit) $(20,704) ($29,323) $ 1,525 $ 39,841 $ 49,486
18
Item 7. Management Discussion and Analysis of Financial
Condition and Results of Operations.
The Company's consolidated statements of operations for the three years
ended December 31, 1996 as a percentage
of sales follows:
Years Ended December 31,
-------------------------
1996 1995 1994
---- ---- ----
Sales 100% 100% 100%
Cost of sales 63% 92% 90%
--- --- ---
Gross Profit 37% 8% 10%
Selling, general and
administrative expenses 23% 27% 29%
Research and development expenses 7% 10% 6%
Litigation settlement -- 2% --
Write down of net assets sold -- 1% --
--- --- ---
Operating income (loss) 7% (33%) (25%)
Interest expense (9%) (14%) (8%)
Gain on sale of assets 4% -- --
Other 1% (1%) (3%)
--- --- ---
Income (loss) from continuing
operations before income
taxes and minority interest 3% (47%) (36%)
Income tax expense and minority interest 1% -- 22%
--- --- ---
Income (loss) before discontinued
operations and extraordinary gain 2% (48%) (58%)
Provision for loss on disposal
of discontinued operations -- 6% --
Extraordinary gain on early
extinguishment of debt 7% 3% --
--- --- ---
Net income (loss) 9% (51%) (58%)
=== === ===
19
Liquidity and Capital Resources
As indicated in the Report of Independent Certified Public Accountants, the
accompanying consolidated financial statements have been prepared assuming that
the Company will continue as a going concern. As discussed in Note 2 of Notes to
Consolidated Financial Statements, the Company's continuing losses before
non-recurring gains and net capital deficiencies combined with the need to
refinance or restructure certain existing long-term notes payable beyond January
2, 1998 raise substantial doubt about its ability to continue as a going
concern. The consolidated financial statements do not include any adjustments
that might result from the outcome of this uncertainty.
At December 31, 1996 the Company had cash and cash equivalents of
$2,584,000 compared with $1,109,000 at December 31, 1995. The Company's working
capital at December 31, 1996 was $4,100,000, compared to a working capital
deficit of $8,200,000 at December 31, 1995. However, at of December 31, 1996 the
Company's long-term debt includes $25,855,000 of Zero coupon convertible
subordinated notes (the Notes), all of which are due and payable on January 2,
1998. At December 31, 1996 the Company does not have sufficient resources to pay
the Notes when they mature and it is likely that it cannot generate such cash
from its operations. Although the Company is seeking to refinance or restructure
the Notes, no assurance can be given that it will be successful in these
efforts. If the Company is unable to refinance or restructure the Notes and the
holders of the Notes do not convert such notes, the Company's business mat be
materially and adversely affected.
The improvement in working capital from December 31, 1995 to December 31,
1996 reflected
(i) The continued exchange of the Company's 6% convertible subordinated
debentures due 2006 in the principal amount of $5,045,000, net of unamortized
original issue discount, plus accrued interest for Notes in the principal amount
of $3,871,000, which resulted in a reduction of short-term liabilities of
$5,203,000 and an increase in long-term liabilities of $3,871,000.
(ii) The sale of the Company's fiber optics business unit, which generated
cash of $7,396,000 during 1996, substantially all of which was used to reduce
the Company's obligations to its senior lender.
(iii) The sale of common stock received in connection with the sale of the
Company's discontinued Israeli operation, which generated cash of $3,456,000,
which was used to reduce the Company's obligations to its senior lender.
(iv) The effect of the cost reductions and manufacturing efficiencies which
contributed to the Company's ability to sustain, during 1996, positive cash flow
from operations of $736,000.
20
Liquidity and Capital Resources (continued)
During 1996, the Company's loan and security agreement with its senior
secured lender, Foothill was amended. Pursuant to the amendment, the Company's
obligations were extended from November 1996 to November 1998 and defaults at
December 31, 1995 and through the date of the amendment, were waived by
Foothill. As part of the consideration to Foothill for the amendment, the
Company is obligated to pay a monthly facility fee of $50,000 commencing
November 30, 1996. As of December 31, 1996, the Company's availability under its
$2,000,000 revolving line of credit is approximately $700,000.
As of December 31, 1996, the Company had remaining outstanding $2,096,000
of the 6% Debentures, net of original issue discounts amortized to principal
over the term of the debt using the effective interest rate method, of $209,000.
The face amount of the outstanding 6% Debentures was $2,305,000.
The interest accrued on the 6% Debentures is payable on July 1 of each year
and as of December 31, 1996 was $387,000. At December 31, 1996, the Company has
failed to make the interest payments due in 1996 and 1995. Accordingly, the 6%
Debentures are classified as a current liability at December 31, 1996 and 1995.
21
Results of Operations
Years Ended December 31, 1996 and 1995
The Company's sales for 1996 were $57,987,000 compared to $61,181,000 in
1995, a decrease of $3,194,000 (5%). The 1995 sales include sales of $6,513,000
from the Company's fiber optics business unit which was sold in March 1996.
Sales of fiber optics products were $447,000 in 1996 prior to the sale.
Therefore, sales, exclusive of fiber optics products, increased by $2,872,000
(5.3%) from 1995. OSS net revenue decreased by $2,184,000 for 1996. This reduced
volume reflects lower levels of sales of our Korea joint venture partner, as
well as reduced sales to BT. This decline in sales was partially offset by
increased sales in Asia and Europe. Line connection/protection equipment revenue
for 1996 increased approximately $2,448,000. This increase relates to improved
domestic sales, as well as, increased sales to BT during 1996. Signal processing
revenue for 1996 increased by $2,740,000. Due to the Company's improved cash
position in 1996, signal processing was able to complete orders from backlog on
an accelerated basis which resulted in higher sales.
As a result of the sale of the fiber optics business unit, the Company was
able to extend its credit agreement with its senior lender which provided funds
to enable the Company to procure materials to satisfy outstanding orders in the
backlog during 1996. This positively affected revenue for all operating units in
1996.
Cost of sales for the year ended December 31, 1996, as a percentage of
sales compared to 1995, decreased from 92% to 63%. This improvement in gross
margin is attributed to improved manufacturing efficiencies created by the
ability to obtain raw materials on a consistent basis, improved management and
more efficient utilization of personnel, and the elimination of under utilized
facilities associated with the fiber optics business. The Company's gross margin
improved from 8% in 1995 to 37% in 1996.
Selling, general and administration expenses decreased by $2,990,000 (18%)
from $16,556,000 to $13,566,000 from December 31, 1996 compared to 1995. This
decrease is due to the elimination of the expenses as related to the fiber
optics business unit and the Company's continuing efforts to reduce costs and
expenses.
Research and development expenses decreased by $2,255,000 (37%) from
$6,103,000 to $3,848,000 from 1996 compared to 1995. This reduced cost reflects
the Company's efforts to streamline its operations by focusing on those projects
with the highest potential for success and to a lesser extent, the elimination
of those expenses related to fiber optics business unit.
22
Results of Operations (continued)
On a whole, the sale of the fiber optics business benefited the Company by
allowing it to close two facilities, with a resultant decrease in personnel and
overhead costs. The sale also enabled the Company to amend and extend its
agreement with Foothill, and make a significant payment to Foothill, which
reduces its ongoing interest costs as described below.
As a result of the above, the Company had operating income of $3,982,000 in
1996 versus an operating loss of $19,884,000 in 1995. The Company's operating
improvement for the year ended December 31, 1996, when compared to the year
ended December 31, 1995, were the results of its continuing efforts to bring its
costs and expenses in line with its current level of sales and the sale of the
fiber optics business unit.
Interest expense decreased for the year ended December 31, 1996 by
$3,156,000 from $8,484,000 the year ended December 31, 1995 to $5,328,000 in
1996. This change is attributable primarily to a decrease in interest expense
related to the exchange of the Company's 6% Debentures and repayment of
principal to the Company's senior lender from the proceeds of the sale of the
fiber business and the sale of the rights to common stock received in respect of
the sale of discontinued operations.
During 1996, the Company received $3,456,000 from the sale of the rights to
common stock received in respect of the obligations of the purchaser of the
discontinued Israeli operation resulting in a gain on the sale of assets of
$2,264,000. During 1995, the Company recorded a $3,500,000 loss from the sale of
this discontinued Israeli operation.
During 1996, the Company recorded a $3,922,000 extraordinary gain from the
early extingushment of approximately 94% of its Debentures. During 1995, the
Company recorded an extraordinary gain of $1,756,000 arising from the Company's
repurchase from its senior lender and retirement of $3,900,000 of its
Debentures.
As the result of the foregoing, the Company generated net income of
$5,174,000, $0.96 per share, for the year ended December 31, 1996, compared with
a net loss of $31,041,000, $21.25 per share, for 1995. The calculation of the
weighted average shares for the year ended December 31, 1996, assumes the
conversion of the Notes which are considered to be a common stock equivalent.
The significant improvement in the operations of the Company in 1996 is the
result of several factors including: the sale of the non-profitable fiber optics
business unit, renewal and extension of the Company's borrowing arrangement with
its senior lender, restructuring of the management team, as well as, overall
efficiencies in the Company's manufacturing operations.
23
Results of Operations (continued)
Years Ended December 31, 1995 and 1994
The Company's continued shortage of working capital has had a material
adverse effect upon its operations during 1995. The effects of the working
capital shortage were compounded by the Company's defaults during 1995 under its
agreement with Foothill, which resulted in curtailment of certain advances and
letter of credit facilities. Although the defaults were waived as a result of a
March 1996 amendment to the agreement with Foothill, during most of 1995, the
Company was in default under its agreement with Foothill. Although Foothill
provided the Company with cash to meet its immediate needs, its failure to
provide additional advances and letter of credit facilities adversely affected
the Company's operations. In March 1996, the Company sold its fiber optics
business. Substantially all of the proceeds from the sale were used to reduce
the Company's obligations to Foothill.
The Company's sales for 1995 decreased by 11% from 1994 sales, as the
Company experienced continuing liquidity problems which adversely affected the
Company's operations. Sales of OSS products were $29,000,000, a 35% increase
from OSS sales of $21,500,000 in 1994, principally as a result of increased
sales to BT and sales in the Asian market. Sales of copper connection products
decreased by $8,200,000, or 29%, from $28,600,000 in 1994 to $20,400,000 in
1995. The reduction in such sales reflects a reduction in sales to Telefonos de
Mexico, which accounted for sales of $4,600,000 in 1994 and virtually no sales
in 1995, a $1,600,000 reduction in sales of copper connection products to BT, as
well as the effects of reduced production resulting from the Company's working
capital problems. The Company believes that the significantly reduced sales to
Telefonos de Mexico is due in part to the continuing Mexican financial crisis.
However, no assurance can be given that any improvement in the Mexican economy
will result in increased sales of the Company's products.
Sales of fiber optics products declined by $5,700,000, or 47%, from
$12,200,000 in 1994 to $6,500,000 in 1995. The decline reflects the Company's
inability to produce fiber optics products as a result of its financial
problems, as the Company allocated its resources principally to the OSS and
copper connection businesses. This allocation of resources also reflected the
Company's decision late in 1995 to sell the fiber optics business. Sales of
fiber optics products in the fourth quarter of 1995 were less than $1,000,000.
Sales from signal processing products, representing approximately 8% of
1995 sales, were also hampered by the Company's ongoing financial difficulties.
24
Results of Operations (continued)
Cost of sales in 1995, as a percentage of sales, increased slightly from
1994, from 90% of sales in 1994 to 92% of sales in 1995. As a result of the high
cost of sales, the gross profit for 1995 was $4,700,000, which was significantly
less than selling, general and administrative expenses and research and
development expenses. The high cost of sales reflected (i) a lower volume of
sales, (ii) the inability of the Company to purchase efficiently and to obtain
materials from certain suppliers, (iii) the under-absorption of overhead costs,
(iv) modification of inventory in order to fulfill customer orders, and (v)
significant write down of fiber optics inventory reflecting the value of such
inventory in connection with the sale of the fiber optics business in March
1996. In addition, as part of the Company's ongoing evaluation of its inventory
and based on its 1995 level of sales, the Company increased its inventory
reserve by approximately $1,800,000 for slow-moving or obsolete inventory. Steps
taken to reduce manufacturing labor costs by reductions in direct and indirect
manufacturing personnel were not implemented until late in the second quarter of
1995 and are reflected in cost of sales in the third and fourth quarters. The
reduction of facility, personnel and overhead costs from the sale of the fiber
optics business will first be reflected in the second quarter of 1996.
Selling, general and administrative expenses decreased by $3,400,000, or
17%, from $20,000,000 in 1994 to $16,600,000 in 1995. The expense decrease
reflects the Company's efforts to reduce personnel costs, as well as a reduced
level of sales and marketing activities. To some extent, the effects of the
personnel reduction were offset by severance costs incurred during 1995.
Research and development expenses increased by $2,100,000, from $4,000,000
in 1994 to $6,100,000 in 1995, or 53%. The increase reflected a reduction in the
amount of software development costs which qualified for capitalization.
In 1995, the Company incurred expenses of $1,100,000, reflecting the value
of the Company's common stock to be issued as a result of the settlement of
class actions. In addition, in 1995, the Company wrote down the net assets of
its fiber optics business to net realizable value to reflect the price at which
the assets were sold in March 1996.
As a result of the foregoing, the Company sustained an operating loss of
$19,900,000, an increase of 14% from the operating loss of $17,500,000 in 1994.
25
Results of Operations (continued)
Interest expense increased $2,900,000, or 52%, from $5,600,000 in 1994 to
$8,500,000 in 1995. The increase in interest expense reflects substantially
higher average interest rates and increased borrowings under the Company's
agreement with Foothill as compared with the interest rate and borrowings under
the Company's prior agreement with Chemical Bank. Although most of the increased
borrowings reflect additional borrowings for operations, $2,500,000 of the
additional borrowings result from the purchase by the Company of Debentures
which were purchased from Foothill in connection with the March 1995 amendment
to the Foothill agreement.
Other expenses of approximately $900,000 include costs associated with the
modification of the Company's agreement with Foothill in March 1995. Other
expenses in 1994 related to the restructuring of the Company's secured debt when
Foothill took over Chemical Bank's note from the Company and the terms of the
financing were modified.
Income tax expense for 1995 was nominal, reflecting primarily offshore and
Delaware corporate taxes. The $14,900,000 tax expense in 1994 results from
providing a valuation allowance for deferred income taxes.
The $3,500,000 loss from the sale of discontinued operations reflects a
reduction in the amount of the expected recovery from the sale by the Company in
1993 of its Israeli subsidiaries which were engaged in the manufacture of data
communications connecting equipment. As a result of a receivership and
liquidation proceedings involving the purchaser of the subsidiaries, the
estimated recovery from the sale of such operations was reduced from $4,500,000,
which was the estimated recovery at December 31, 1994, to $1,000,000, which is
the estimated recovery at December 31, 1995.
In connection with the February 1995 amendment to the Company's agreement
with Foothill, the Company repurchased from Foothill and retired $3,900,000
principal amount of Debentures for approximately $2,500,000 through an increase
of $3,000,000 in the term loan to Foothill and the repricing of certain warrants
granted to Foothill. The Company recorded an extraordinary item, a gain of
$1,800,000 on early extinguishment of this debt, representing the difference
between the book value of the debt and the approximate market value of the debt
on the date of the transaction.
As a result of the foregoing, the Company sustained a loss from continuing
operations in 1995 of $29,300,000, or $20.05 per share, as compared with a loss
from continuing operations in 1994 of $40,000,000, or $28.05 per share. After
giving effect to the loss on sale of discontinued operations and the gain on
early extinguishment of debt, the Company sustained a net loss of $31,000,000,
or $21.25 per share, for 1995, as compared with a net loss of $40,000,000, or
$28.05 per share, in 1994.
26
Results of Operations (continued)
In March 1996, the Company sold the net assets of its fiber optics
business, amended its agreement with Foothill and reduced its indebtedness to
Foothill. In addition, through March 22, 1996, the Company issued its zero
coupon notes in the principal amount of $22,000,000 and issued 2,800,000 shares
of Common Stock in exchange for $28,800,000 principal amount of Debentures and
accrued interest of $1,600,000 at December 31, 1995, pursuant to the Exchange
Offer. These transactions enabled the Company to reduce its facilities and
personnel expenses, reduce the indebtedness to Foothill and reduce ongoing
interest costs. The effects of these transactions will not be realized until the
second quarter of 1996. However, the benefits to the Company from the reduction
in operating costs, including reductions resulting from the sale of the fiber
optics business, and the reduced interest expense will not enable the Company to
operate profitably unless it is able to significantly reduce its cost of goods
sold or increase its sales margins and reduce its general overhead, as to which
no assurance can be given.
Item 8. Financial Statements and Supplementary Data.
See Exhibit I
Item 9. Changes In and Disagreements With Accountants On
Accounting and Financial Disclosure.
Not Applicable
Part III
Item 10, 11, 12, and 13.
The information called for by Item 10 (Directors and Executive Officers),
Item 11 (Executive Compensation), Item 12 (Security Ownership of Certain
Beneficial Owners and Management), and Item 13 (Certain Relationships and
Related Transactions) is incorporated herein by reference from the Company's
definitive proxy statement for the Annual Meeting of Shareholders to be filed
with the Securities and Exchange Commission not later than 120 days after the
close of the year ended December 31, 1996.
27
Part IV
Item 14. Exhibits, Financial Statements Schedules and Reports
on Form 8-K.
(a) Document filed as part of this Annual Report on Form 10-K:
(i) Financial Statements.
See Index to Consolidated Financial Statements under Item 8 hereof.
(ii) Financial Statement Schedules.
None
Schedules not listed above have been omitted for the reasons that they were
inapplicable or not required or the information is given elsewhere in the
financial statements.
Separate financial statements of the registrant have been omitted since
restricted net assets of the consolidated subsidiaries do not exceed 25% of
consolidated net assets.
(b) Reports on Form 8-K
None
(c) Exhibits
Exhibit
No. Description of Exhibit
- ------- ----------------------
3.1 Certificate of Incorporation of the Company, as amended to date,
incorporated by reference to Exhibit 4 (a) of the Company's Annual
Report on Form 10K for the year ended December 31, 1991.
3.2 Certificate of Designation of Series B Participating Convertible
Preferred Stock, incorporated by reference to Exhibit 3.2 of the
Company's Annual Form 10K for the year ended December 31, 1995.
3.3 By-laws of the Company, as amended to date, incorporated by reference
to Exhibit 3.3 of the Company's Annual Form 10K for the year ended
December 31, 1995.
4.1 Amendment dated as of December 16, 1993 to the Warrant Agreement among
the Company, Aster Corporation and Chemical Bank as successor to
Manufacturers Hanover Trust Company as Warrant Agent, incorporated by
reference to Exhibit 4.2 of the Company's Annual Report on Form 10-K
for the year ended December 31, 1993.
28
Exhibits (continued)
Exhibit
No. Description of Exhibit
- ------- ----------------------
4.2 Form of Rights Amendments, dated as of March 22, 1989 between the
Company and Manufacturers Hanover Trust Company, as Rights Agent,
incorporated by reference to the Company's Registration Statement on
Form 8-A dated April 3, 1989.
4.2.1 Amendment No. 1 to Rights Agreement, dated July 28, 2993 between the
Company and Chemical Bank (as successor by merger to Manufacturers
Hanover Trust Company) as Rights Agent, incorporated by reference to
the Company's Registration Statement on Form 8-A/A filed August 4,
1993.
4.3 Warrant issued to Aspen Grove Financial Corporation to Purchase 87,500
Shares of Common Stock dated as of June 13, 1994, incorporated by
reference to Exhibit 4 (d) to the Company's Quarterly Report on Form
10-Q for the quarter ended June 30, 1994.
4.4 Warrant issued to Banque Scandinave en Suisse to Purchase 100,000
shares of Common Stock dated as of June 13, 1994, incorporated by
reference to Exhibit 4 (f) to the Company's Quarterly Report on Form
10-Q for the quarter ended June 30, 1994.
4.5 Stock Option Agreement dated as of May 15, 1994 between the Company
and Stanley Kreitman, incorporated by reference to Exhibit 4 (a) to
the Company's Quarterly Report on Form 10-Q for the quarter ended
September 30, 1994.
4.6 Amended and Restated Loan and Security Agreement dated as of November
28, 1994, between the Company and Foothill Capital Corporation,
incorporated by reference to Exhibit 2 to the Company's Current Report
on Form 8-K dated November 30, 1994.
4.7 Amendment Number One dated February 13, 1995 to the Amended and
Restated Loan and Security Agreement dated as of November 28, 1994
between the Company and Foothill Capital Corporation, incorporated by
reference to Exhibit 4.7 of the Company's Annual Form 10K for the year
ended December 31, 1995.
4.7.1 Letter Agreement dated as of February 13, 1995, incorporated by
reference to Exhibit 4.7.1 of the Company's Annual Form 10K for the
year ended December 31, 1995.
4.7.2 Amendment Number Two dated March 30, 1995 to the Amended and Restated
Loan and Security Agreement dated as of November 28, 1994 between the
Company and Foothill Capital Corporation, incorporated by reference to
Exhibit 4.7.2 of the Company's Annual Form 10K for the year ended
December 31, 1995.
29
Exhibits (continued)
Exhibit
No. Description of Exhibit
- ------- ----------------------
4.8 Secured Promissory Note dated November 28, 1994 made by the Company in
favor of Foothill Capital Corporation, incorporated by reference to
Exhibit 4 to the Company's Current Report on Form 8-K dated November
30, 1994.
4.9 Amended and Restated Secured Promissory Note dated February 13, 1995,
incorporated by reference to Exhibit 4.9 of the Company's Annual Form
10K for the year ended December 31, 1995.
4.10 Deferred Funding Fee Note dated November 28, 1994 made by the Company
in favor of Foothill Capital Corporation, incorporated by reference to
Exhibit 5 to the Company's Current Report on Form 8-K dated November
30, 1994.
4.11 Amendment Number Three to Amended and Restated Loan and Security
Agreement dated March 12, 1996, between the Company and Foothill
Capital Corporation, incorporated by reference to Exhibit 4.11 of the
Company's Annual Form 10K for the year ended December 31, 1995.
4.12 Warrant to Purchase Common Stock of the Company dated November 28,
1994 executed by the Company in favor of Foothill Capital Corporation,
incorporated by reference to Exhibit 6 to the Company's Current Report
on Form 8-K dated November 30, 1994.
4.12.1 Amendment Number One to Warrant to Purchase Common Stock of the
Company dated as of February 13, 1995 executed by the Company in favor
of Foothill Capital Corporation, incorporated by reference to Exhibit
4.12.1 of the Company's Annual Form 10K for the year ended December
31, 1995.
4.13 Assignment of Loans, Liens and Loan Documents dated November 28, 1994
between Chemical Bank, The Bank of New York, Foothill Capital
Corporation, the Company and certain of the subsidiaries of the
Company, incorporated by reference to Exhibit 3 to the Company's
Current Report on Form 8-K dated November 30, 1994.
4.14 Warrant to Purchase Common Stock of the Company dated November 28,
1994 executed by the Company in favor of Chemical Bank, incorporated
by reference to Exhibit 12 to the Company's Current Report on Form 8-K
dated November 30, 1994.
30
Exhibits (continued)
Exhibit
No. Description of Exhibit
- ------- ----------------------
4.15 Warrant to Purchase Common Stock of the Company dated November 28,
1994 executed by the Company in favor of The Bank of New York,
incorporated by reference to Exhibit 13 to the Company's Current
Report on Form 8-K dated November 30, 1994.
4.16 Indenture dated as of July 1, 1992 between the Company and the Bank of
New York as trustee, incorporated by reference to Exhibit 4 (a) of the
Company's Quarterly Report on Form 10-Q for the quarter ended June 30,
1992.
4.17 Form of Warrant to Purchase Common Stock of the Company dated as of
June 1, 1993 between the Company and Mallory Factor, incorporated by
reference to Exhibit 4 (f) of the Company's Quarterly Report on Form
10-Q for the quarter ended September 30, 1993.
4.18 Form of Warrant Agreement dated as of August 12, 1993 between the
Company and Berenson Minella & Company, incorporated by reference to
Exhibit 4 (e) of the Company's Quarterly Report on Form 10-Q for the
quarter ended September 30, 1993.
4.19 Lockbox Operating Procedural Agreement dated as of November 28, 1994
among Chemical Bank, the Company and Foothill Capital Corporation,
incorporated by reference to Exhibit 7 to the Company's Current Report
on Form 8-K dated November 30, 1994.
4.20 Security Agreement, dated as of July 16, 1993, made by Woo Shin
Electro-Systems Company to Chemical Bank, incorporated by reference to
Exhibit 4 (b) (iv) of the Company's Quarterly Report on Form 10-Q for
the quarter ended June 30, 1993.
4.21 Indenture dated as of November 30, 1995, between the Company and
American Stock Transfer & Trust Company, incorporated by reference to
Exhibit 4.21 of the Company's Annual Form 10K for the year ended
December 31, 1995.
10.1 Form of Split Dollar Agreement--more than ten years, incorporated by
reference to Exhibit 19 (d) of the Company's Quarterly Report on Form
10-Q for the quarter ended September 30, 1985.
10.2 Form of Split Dollar Agreement--less than ten years, incorporated by
reference to Exhibit 19 (e) of the Company's Quarterly Report on Form
10-Q for the quarter ended September 30, 1985.
31
Exhibits (continued)
Exhibit
No. Description of Exhibit
- ------- ----------------------
10.3 Form of Amendment No. 1 to Split Dollar Agreement--less than ten
years--Acceleration upon change of control, incorporated by reference
to Exhibit 10 (i) (i) of the Company's Annual Report on Form 10-K for
the year ended December 31, 1988.
10.4 Form of Executive Salary Continuation Agreement, incorporated by
reference to Exhibit 19 (cc) of the Company's Quarterly Report on Form
10-Q for the quarter ended September 30, 1985.
10.5 Agreement dated as of January 1, 1990 between the Company and Alpha
Risk Management, Inc., incorporated by reference to Exhibit 10 (k) of
the Company's Annual Report on Form 10-K for the year ended December
31, 1990.
10.6 Agreement dated May 25, 1988 between British Telecommunications plc
and the Company, incorporated by reference to Exhibit 19 (a) of the
Company's Quarterly Report on Form 10-Q for the quarter ended June 30,
1988. Confidential Treatment granted; document filed separately with
the SEC.
10.6.1 Amendment to agreement of May 25, 1988, dated September 1, 1996,
between British Telecommunications plc and the Company.
10.7 Lease dated December 17, 1990 between the Company and LBA properties,
Inc., incorporated by reference to Exhibit 10 (d) of the Company's
annual report on Form 10-K for the year ended December 31, 1990.
10.8 Asset Purchase Agreement dated as of March 6, 1996 by and among Augat
Inc., Porta Systems Corp. and certain of its subsidiaries,
incorporated by reference to Exhibit 10.8 of the Company's Annual Form
10K for the year ended December 31, 1995.
10.9 Form of Employment Contract dated October 2, 1995 between the Company
and KPMG BayMark Strategies LLC's Crisis Management Group,
incorporated by reference to Exhibit 10.9 of the Company's Annual Form
10K for the year ended December 31, 1995.
10.9.1 Amendment dated December 18, 1996 between the Company and KPMG Bay
Mark Strategies LLC's Crisis Management Group.
32
Exhibits (continued)
Exhibit
No. Description of Exhibit
- ------- ----------------------
10.10 Form of Employment Contract dated October 16, 1995 between the Company
and Edward B. Kornfeld, incorporated by reference to Exhibit 10.10 of
the Company's Annual Form 10K for the year ended December 31, 1995.
10.11 (Deleted)
10.12 Form of Executive Salary Continuation Agreement dated October 16, 1995
between the Company and Edward B. Kornfeld, incorporated by reference
to Exhibit 10.12 of the Company's Annual Report on Form 10-K for the
year ended December 31, 1995.
10.13 Form of Employment Contract dated October 9, 1996 between the Company
and Seymour Joffe.
10.14 1996 Stock Option Plan filed as Exhibit A to the Proxy Statement for
the 1996 Annual Meeting to Stockholders and incorporated herein by
reference.
22.1 Subsidiaries of the Company, incorporated by reference to Exhibit 22.1
of the Company's Annual Form 10K for the year ended December 31, 1995.
23 Consent of Independent Auditors.
33
SIGNATURES
Pursuant to the requirements of Section 13 or 15(b) 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.
PORTA SYSTEMS CORP.
Dated March 25, 1997 By/s/ William V. Carney
-----------------------------
William V. Carney
Chairman of the Board
Pursuant to the requirements of the Securities Exchange Act of 1934,
as amended, the report has been signed by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated. Each person whose
signature appears below hereby authorizes William V. Carney and Edward B.
Kornfeld or either of them acting in the absence of the others, as his true and
lawful attorney-in-fact and agent, with full power of substitution and
resubstitution for him and in his name, place and stead, in any and all
capacities to sign any and all amendments to this report, and to file the same,
with all exhibits thereto and other documents in connection therewith, with the
Securities and Exchange Commission.
Signature Title Date
--------- ----- ----
By /s/William V. Carney Chairman of the Board March 25, 1997
--------------------------- and Director(Principal
William V. Carney Executive Officer)
By /s/Edward B. Kornfeld Chief Financial Officer March 25, 1997
--------------------------- (Principal Financial and
Edward B. Kornfeld Accounting Officer)
By /s/Seymour Joffe Director March 25, 1997
---------------------------
Seymour Joffe
By /s/Howard D. Brous Director March 25, 1997
---------------------------
Howard D. Brous
By /s/Herbert H. Feldman Director March 25, 1997
---------------------------
Herbert H. Feldman
By /s/Stanley Kreitman Director March 25, 1997
---------------------------
Stanley Kreitman
By /s/Michael A. Tancredi Director March 25, 1997
---------------------------
Michael A. Tancredi
34
Exhibit I
Item 8. Financial Statements and Supplementary Data
Index Page
Report of Independent Certified Public Accountants F-2
Independent Auditors' Report F-3
Consent of Independent Certified Public Accountants F-4
Consent of Independent Auditors F-5
Consolidated Financial Statements and Notes:
Consolidated Balance Sheets,
December 31, 1996 and 1995 F-6
Consolidated Statements of Operations
for the Years Ended
December 31, 1996, 1995 and 1994 F-7
Consolidated Statements of Stockholders'
Equity (Deficit) for the Years
Ended December 31, 1996, 1995 and 1994 F-8
Consolidated Statements of Cash Flows
for the Years Ended December 31, 1996,
1995 and 1994 F-9
Notes to Consolidated Financial Statements F-10
F-1
Report of Independent Certified Public Accountants
The Board of Directors and
Stockholders of Porta Systems Corp.:
We have audited the accompanying consolidated balance sheets of Porta Systems
Corp. and subsidiaries as of December 31, 1996 and 1995, and the related
statements of operations, stockholders' equity (deficit), and cash flows for
each of the two years in the period ended December 31, 1996. These consolidated
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated 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 consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Porta Systems Corp.
and subsidiaries as of December 31, 1996 and 1995, and the results of their
operations and their cash flows for each of the two years in the period ended
December 31, 1996, in conformity with generally accepted accounting principles.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 2 to the
consolidated financial statements, the Company's continuing losses before
non-recurring gains and net capital deficiencies combined with the need to
refinance or restructure certain existing long-term notes payable beyond January
2, 1998 raise substantial doubt about its ability to continue as a going
concern. Management's plans in regard to these matters are also described in
Note 2. The consolidated financial statements do not include any adjustments
that might result from the outcome of this uncertainty.
/s/BDO SEIDMAN, LLP
-------------------
BDO SEIDMAN, LLP
Mitchel Field, New York
March 18, 1997
F-2
Independent Auditors' Report
The Board of Directors and Stockholders
Porta Systems Corp.:
We have audited the accompanying consolidated statements of operations,
stockholders' equity (deficit), and cash flows of Porta Systems Corp. and
subsidiaries for the year ended December 31, 1994. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audit.
We conducted our audit 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 audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the results of operations and cash flows of
Porta Systems Corp. and subsidiaries for the year ended December 31, 1994, in
conformity with generally accepted accounting principles.
/s/KPMG PEAT MARWICK LLP
------------------------
KPMG PEAT MARWICK LLP
Jericho, New York
March 31, 1995
F-3
Consent of Independent Certified Public Accountants
Board of Directors
Porta Systems Corp.:
We consent to the incorporation by reference in the registration statements:
(Reg. No. 2-95117) on Form S-8, (Reg. No. 2-65375) on Form S-8, (Reg. No.
33-12146) on Form S-8 and (Reg. No. 33-41992) on Form S-8 of Porta Systems Corp.
and subsidiaries of our report dated March 18, 1997, relating to the
consolidated balance sheets of Porta Systems Corp. and subsidiaries as of
December 31, 1996 and 1995 and the related consolidated statements of
operations, stockholders' equity (deficit) and cash flows for the years ended
December 31, 1996 and 1995, which report appears in the Porta Systems Corp.
annual report on Form 10-K. Our report contains an explanatory paragraph
regarding the Company's ability to continue as a going concern.
/s/BDO SEIDMAN, LLP
-------------------
BDO SEIDMAN, LLP
Mitchel Field, New York
March 26, 1997
F-4
Consent of Independent Auditors
Board of Directors
Porta Systems Corp.:
We consent to the incorporation by reference in the registration statements;
(Reg. No. 2-95117) on Form S-8, (Reg. No. 2-65375) on Form S-8, (Reg. No.
33-12146) on Form S-8 and (Reg. No. 33-41992) on Form S-8 of Porta Systems Corp.
and subsidiaries of our report dated March 31, 1995, relating to the
consolidated statements of operations, stockholders' equity (deficit) and cash
flows of Porta Systems Corp. and subsidiaries for the year ended December 31,
1994, which report appears in the Porta Systems Corp. 1996 annual report on Form
10-K.
/s/KPMG PEAT MARWICK LLP
------------------------
KPMG PEAT MARWICK LLP
Jericho, New York
March 26, 1997
F-5
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Consolidated Balance Sheets
December 31, 1996 and 1995
(Dollars in thousands)
Assets 1996 1995
---- ----
Current assets:
Cash and cash equivalents $ 2,584 1,109
Accounts receivable - trade, less
allowance for doubtful
accounts of $1,550 in 1996
and $1,251 in 1995 16,034 12,626
Inventories 7,424 8,979
Prepaid expenses 782 659
Other receivables 531 --
Receivable from sale of
discontinued operations -- 1,000
------- -------
Total current assets 27,355 24,373
------- -------
Assets held for sale, net - 7,893
Property, plant and equipment, net 5,422 6,911
Deferred computer software, net 1,676 3,188
Goodwill, net of amortization of $2,503
in 1996 and $2,265 in 1995 11,555 11,793
Other assets 4,650 6,433
------- -------
Total assets $50,658 60,591
======= =======
Liabilities and Stockholders' Equity (Deficit)
Current liabilities:
Convertible subordinated debentures $ 2,096 6,564
Current portion of long-term debt 750 --
Accounts payable 6,056 8,302
Accrued expenses 9,004 9,886
Accrued interest payable 583 3,534
Accrued commissions 2,708 2,016
Accrued deferred compensation 1,232 1,120
Income taxes payable 780 780
Short-term loans 31 368
------- -------
Total current liabilities 23,240 32,570
------- -------
Long-term debt 16,835 26,645
Convertible subordinated debentures -- 25,660
Zero coupon senior subordinated
convertible notes 25,885 --
Notes payable net of current maturities 3,084 3,084
Income taxes payable 802 811
Other long-term liabilities 653 385
Minority interest 863 759
------- -------
Total long-term liabilities 48,122 57,344
------- -------
Commitments and contingencies
Stockholders' equity (deficit):
Preferred stock, no par value;
authorized 1,000,000 shares,
none issued -- --
Common stock, par value $.01;
authorized 40,000,000 and 20,000,000
shares, issued 2,223,861 and 1,492,361
shares in 1996 and 1995, respectively 22 15
Additional paid-in capital 36,561 33,308
Foreign currency translation adjustment (4,014) (4,199)
Accumulated deficit (50,900) (56,074)
------- -------
(18,331) (26,950)
Treasury stock, at cost, 33,340 shares (2,066) (2,066)
Receivable for employee stock purchases (307) (307)
------- -------
Total stockholders'
equity (deficit) (20,704) (29,323)
------- --------
Total liabilities and
stockholders' equity (deficit) $50,658 60,591
======= =======
See accompanying notes to consolidated financial statements.
F-6
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Consolidated Statements of Operations
Years ended December 31, 1996, 1995 and 1994
(in thousands, except per share amounts)
1996 1995 1994
---- ---- ----
Sales $57,987 61,181 68,985
Cost of sales 36,591 56,444 62,530
------- ------- -------
Gross profit 21,396 4,737 6,455
------- ------- -------
Selling, general and administrative
expenses 13,566 16,556 20,037
Research and development expenses 3,848 6,103 3,959
Litigation settlement -- 1,100 --
Write-down of net assets held for sale
to net realizable value -- 862 --
------- ------- -------
Total expenses 17,414 24,621 23,996
------- ------- -------
Operating income (loss) 3,982 (19,884) (17,541)
Interest expense (5,328) (8,484) (5,617)
Interest income 136 87 251
Gain on sale of assets 2,264 -- --
Other income (loss), net 402 (884) (2,022)
------- ------- -------
Income (loss) from continuing
operations before income taxes
and minority interest 1,456 (29,165) (24,929)
Income tax expense 100 30 14,920
Minority interest 104 102 146
------- ------- -------
Income (loss) before
discontinued operations 1,252 (29,297) (39,995)
Provision for loss on disposal of
discontinued operations -- (3,500) --
------- ------- -------
Income (loss) before
extraordinary item 1,252 (32,797) (39,995)
Extraordinary gain on early
extinguishment of debt 3,922 1,756 --
------- ------- -------
Net income (loss) $ 5,174 (31,041) (39,995)
======= ======= =======
Per share amounts:
Continuing operations $ 0.23 (20.05) (28.05)
Discontinued operations -- (2.40) --
Extraordinary item 0.73 1.20 --
------- ------- -------
Net income (loss) per share
of common stock $ 0.96 (21.25) (28.05)
======= ======= =======
Weighted average shares of
common stock outstanding 5,381 1,461 1,427
======= ======= =======
See accompanying notes to consolidated financial statements.
F-7
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Consolidated Statements of Stockholders' Equity (Deficit)
Years ended December 31, 1996, 1995 and 1994
(In thousands)
Receivable Total
Common Stock Foreign Retained for Stock-
----------------- Additional Currency Earnings Employee holders'
No.of Par Value Paid-in Translation (Accumulated Treasury Stock Equity/
Shares Amount Capital Adjustment Deficit) Stock Purchases (Deficit)
---------------------------------------------------------------------------------------
Balance at December 31, 1993 1,416 $ 14 $ 30,210 $ (2,909) $ 14,962 $ (1,938) $ (498) $ 39,841
Net loss 1994 -- -- -- -- (39,995) -- -- (39,995)
Stock issued 76 1 2,138 -- -- -- -- 2,139
Warrants issued -- -- 600 -- -- -- -- 600
Write off of receivable for
employee stock purchases -- -- -- -- -- -- 62 62
Foreign currency translation
---------------------------------------------------------------------------------------
adjustment -- -- -- (1,122) -- -- -- (1,122)
Balance at December 31, 1994 1,492 15 32,948 (4,031) (25,033) (1,938) (436) 1,525
Net loss 1995 -- -- -- -- (31,041) -- -- (31,041)
Warrants issued -- -- 360 -- -- -- -- 360
Write off of receivable for
employee stock purchases -- -- -- -- -- (128) 129 1
Foreign currency translation
adjustment -- -- -- (168) -- -- -- (168)
---------------------------------------------------------------------------------------
Balance at December 31, 1995 1,492 15 33,308 (4,199) (56,074) (2,066) (307) (29,323)
Net income 1996 -- -- -- -- 5,174 -- -- 5,174
Stock issued 732 7 2,873 -- -- -- -- 2,880
Warrants issued -- -- 380 -- -- -- -- 380
Foreign currency translation
adjustment -- -- -- 185 -- -- -- 185
---------------------------------------------------------------------------------------
Balance at December 31, 1996 2,224 $ 22 $ 36,561 $ (4,014) $(50,900) $ (2,066) $ (307) $(20,704)
=======================================================================================
See accompanying notes to consolidated financial statements
F-8
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Consolidated Statements of Cash Flows (Note 22)
Years ended December 31, 1996, 1995 and 1994
(Dollars in thousands)
1996 1995 1994
-------- -------- --------
Cash flows from operating activities:
Net income (loss) $ 5,174 (31,041) (39,995)
Adjustments to reconcile net income
(loss) to net cash provided by
(used in) operating activities:
Loss on disposal of discontinued
operations -- 3,500 --
Gain on sale of assets (2,264) -- --
Gain on extinguishment or refinancing
of indebtedness (3,922) (1,756) (913)
Non-cash financing costs 2,280 2,698 600
Deferred income taxes -- -- 13,955
Realized gain on litigation settlement (174) -- --
Depreciation and amortization 3,941 7,015 5,580
Write off of employee notes receivable -- 1 62
Amortization of discount on convertible
subordinated debentures 104 603 442
Minority interest 104 102 163
Changes in operating assets and liabilities:
Accounts receivable (3,408) 1,338 2,598
Inventories 1,555 9,700 8,047
Prepaid expenses (123) (773) (328)
Other assets (743) 1,916 (330)
Accounts payable, accrued expenses
and other liabilities (1,788) 4,167 10,414
------- ------- -------
Net cash provided by (used in)
operating activities 736 (2,530) 295
------- ------- -------
Cash flows from investing activities:
Proceeds from disposal of assets held
for sale, net 7,393 -- --
Proceeds from sale of assets 3,456 -- --
Capital expenditures, net (125) (1,749) (1,107)
------- ------- -------
Net cash provided by (used in)
investing activities 10,724 (1,749) (1,107)
------- ------- -------
Cash flows from financing activities:
Proceeds from long-term debt 1,343 5,781 24,212
Repayments of long-term debt 10,403) (2,500) (22,299)
Proceeds from issuance of common stock -- -- 2,139
Repayments of notes payable/short-term loans (337) -- (1,162)
------- ------- -------
Net cash provided by (used in)
financing activities (9,397) 3,281 2,890
------- ------- -------
Effect of exchange rate changes on cash (588) (225) (1,473)
Increase (decrease) in cash and cash equivalents 1,475 (1,223) 605
Cash and equivalents - beginning of year 1,109 2,332 1,727
------- ------- -------
Cash and equivalents - end of year $ 2,584 1,109 2,332
======= ======= =======
See accompanying notes to consolidated financial statements.
F-9
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 1996 and 1995
(1) Summary of Significant Accounting Policies
Nature of Operations and Principles of Consolidation
Porta Systems Corp. (the "Company") designs, manufactures and markets
systems for the connection, protection, testing and administration of
public and private telecommunications lines and networks. The Company
has various patents for copper and software based products and systems
that support voice, data, image and video transmission. The Company's
principal customers are the U.S. regional telephone operating
companies and foreign telephone companies.
The accompanying consolidated financial statements include the accounts of
Porta Systems Corp. (the "Company") and its majority-owned or
controlled subsidiaries. All significant intercompany transactions and
balances have been eliminated in consolidation.
Revenue Recognition
Revenue, from other than contracts for specialized products, is recognized
when a product is shipped. Revenues and earnings relating to long-term
contracts for specialized products are recognized on the
percentage-of-completion basis primarily measured by the attainment of
milestones. Anticipated losses, if any, are recognized in the period
determined.
Concentration of Credit Risk
Financial instruments which potentially subject the Company to
concentrations of credit risk consist principally of cash and accounts
receivable. At times such cash in banks are in excess of the FDIC
insurance limit.
As discussed in Note 19, a substantial portion of the Company's sales are
to customers in foreign countries. The Company's credit risk with
respect to these customers is mitigated by obtaining letters of credit
for a substantial portion of the contract price, and by monitoring
credit exposure with each customer. The Company has no other
significant customers.
Cash Equivalents
The Company considers investments with original maturities of three months
or less at the time of purchase to be cash equivalents. Cash
equivalents consist of commercial paper.
Inventories
Inventories are stated at the lower of cost (on the average or first-in,
first-out methods) or market.
(Continued)
F-10
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
Property, Plant and Equipment
Property, plant and equipment are carried at cost. Leasehold improvements
are amortized over the term of the lease. Depreciation is computed
using the straight-line method over the related assets' estimated
lives.
Deferred Computer Software
Software costs incurred for specific customer contracts are charged to
cost of sales at the time revenues on such contracts are recognized.
Software development costs relating to products the Company offers for
sale are deferred in accordance with Statement of Financial Accounting
Standards (SFAS) No. 86 "Accounting for the Costs of Computer Software
to Be Sold, Leased, or Otherwise Marketed". These costs are amortized
to cost of sales over the periods that the related product will be
sold, up to a maximum of four years. Amortization of computer software
costs, which all relate to products the Company offers for sale,
amounted to approximately $1,551,000, $3,171,000 and $1,847,000 in
1996, 1995, and 1994, respectively.
Goodwill
Goodwill represents the difference between the purchase price and the fair
market value of net assets acquired in business combinations treated
as purchases. Goodwill is amortized on a straight-line basis over 20
to 40 years. At December 31, 1996, $7,136,000 of the goodwill is being
amortized over approximately 20 years and $4,419,000 is being
amortized over 40 years. The Company assesses the recoverability of
unamortized goodwill using the undiscounted projected future cash
flows from the related businesses.
Income Taxes
Deferred income taxes are recognized based on the differences between the
tax bases of assets and liabilities and their reported amounts in the
financial statements that will result in taxable or deductible amounts
in future years. Further, the effects of enacted tax law or rate
changes are included in income as part of deferred tax expense or
benefit for the period that includes the enactment date (see note 9).
Foreign Currency Translation
Assets and liabilities of foreign subsidiaries are translated at year-end
rates of exchange, and revenues and expenses are translated at the
average rates of exchange for the year. Gains and losses resulting
from translation are accumulated in a separate component of
stockholders' equity. Gains and losses resulting from foreign currency
transactions (transactions denominated in a currency other than the
functional currency) are included in net income or loss.
(Continued)
F-11
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
Earnings (Loss) Per Share
Earnings (loss) per share are based on the weighted average number of
shares outstanding and common equivalent shares. The calculation of
the weighted average shares for the year ended December 31, 1996,
assumes the conversion of the Zero coupon senior subordinated
convertible notes which are considered to be a common stock
equivalent. Fully diluted earnings per share information is not
presented as it is anti-dilutive. All share and per share information
have been restated to give effect to the one for five reverse stock
split effective August 2, 1996.
Reclassifications
Certain reclassifications have been made to conform prior years'
consolidated financial statements to the 1996 presentation.
Accounting for Stock-Based Compensation
In 1996, the Company adopted the Statement of Financial Accounting
Standard No. 123, "Accounting for Stock-Based Compensation". The
Company has elected not to implement the fair value based accounting
method for employee stock options, but has elected to disclose the
pro-forma net income and earnings per share as if such method had been
used to account for stock-based compensation cost as described in the
Statement.
Accounting for the Impairment of Long-Lived Assets
In 1996, the Company adopted the Statement of Financial Accounting
Standard No. 121, "Accounting for the Impairment of Long-Lived Assets
and for Long-Lived Assets to be Disposed Of." The effect of adopting
this standard was insignificant.
Use of Estimates
The preparation of financial statements in accordance with generally
accepted accounting principles requires management to make estimates
and assumptions that affect 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. Among the more significant estimates
included in these consolidated financial statements are the estimated
allowance for doubtful accounts receivable, inventory reserves, and
the deferred tax asset valuation allowance. Actual results could
differ from those and other estimates.
New Accounting Standard
On March 3, 1997, the FASB issued Statement of Financial Accounting
Standard No. 128, "Earnings Per Share." This pronouncement provides
for the calculation of Basic and Diluted earnings per share which is
different from the current calculation of Primary and Fully Diluted
earnings per share in accordance with APB 15. The effect of adopting
this new standard is not expected to be material.
(Continued)
F-12
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
(2) Liquidity
The accompanying consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. The
Company's continuing losses before non-recurring gains and net capital
deficiencies combined with the need to refinance or restructure
certain existing long-term notes payable beyond January 1998 raise
substantial doubt about the Company's ability to continue as a going
concern. The consolidated financial statements do not include any
adjustments that might arise from the outcome of this uncertainty.
During 1996, the Company sold the net assets related to its fiber optics
business in March 1996 (Note 4). This sale raised approximately $8
million of cash and the acquiring company assumed approximately
$1,400,000 of liabilities. The sale of this business, which in 1995
and prior years sustained significant losses, eliminated a
considerable operating cash drain. A majority of the proceeds from the
sale were used to pay down a portion of the Company's debt to its
senior lender, which in turn reduced ongoing interest costs and
provided the Company with working capital through the ability to then
restructure its senior debt. In addition, through December 31, 1996,
the Company exchanged approximately 94% of its 6% Subordinated
Convertible Debt for non-interest bearing notes. This has reduced
interest expense by approximately $1,900,000 per year. Furthermore,
the Company implemented various management and operational changes in
1996 which have streamlined operations and reduced operating expenses
to enhance the Company's ability to attain profitable operations.
Management's plans for 1997 include a continuation of the expense
reduction and operations consolidation program which began in 1996.
For the year ended December 31, 1996, the Company has operating income
and positive working capital. Although the Company, during 1996, had
adequate cash to fund its operations, there is no assurance that this
will continue. The consolidated financial statements for 1996 do not
include any adjustments that might arise from any liquidity
uncertainty.
As of December 31, 1996 the Company's long-term debt includes $25,855,000
of Zero coupon convertible subordinated notes (the Notes) which mature
on January 2, 1998. At December 31, 1996 the Company does not have
sufficient resources to pay the Notes when they come due. The Company
will require either financing to enable such payment of this
obligation or induce the conversion of the Notes. If the Company
is unable to satisfy this obligation, the Company's operations and
working capital could be materially and adversely affected.
(3) Discontinued Operations
In 1992 the Company sold its network communications business. As a result
of an insolvency procedure involving the purchaser of this business,
the Company reduced its receivable due from the purchaser of
$4,500,000 to $1,000,000 in 1995, and recorded an additional provision
for loss on disposal of discontinued operations of $3,500,000.
Pursuant to the sale of the business out of receivership, the
Company's receivable was represented by rights to shares of common
stock of the entity which now owns the discontinued operation. In
1996, the Company sold its rights to the shares of this common stock
for $3,456,000 and recorded a gain of $2,264,000. The gain represented
an adjustment in the estimated value of the shares previously received
and accordingly was reflected in continuing operations. As part of an
agreement with the Company's senior lender, the net proceeds from the
sale were applied to reduce the outstanding principal balance of the
Company's term loan.
(Continued)
F-13
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
(4) Assets Held for Sale
On March 13, 1996, the Company sold certain assets and the buyer assumed
certain liabilities and severance obligations related to the
operations of the Company's fiber optics management and component
business for $7,893,000, subject to certain adjustments. As of
December 31, 1995, in conjunction with this transaction, the Company
accrued approximately $700,000 for certain obligations in connection
with the closing of its fiber optics facility in Ireland. These
obligations were settled during 1996, along with other adjustments
related to the sale of the fiber business. The net proceeds
approximated the carrying value of the assets held for sale. The
difference was recorded as other expenses in the accompanying
statement of operations.
The Company received $6,793,000 at closing of the sale of the fiber
business and the remainder was placed into two escrow funds to be
released over the next year, subject to certain conditions, including
a final valuation of the net assets transferred. As of December 31,
1996, the remainder, $531,000, has remained in escrow and is reported
as an "Other receivable" in the accompanying consolidated balance
sheet. The proceeds were primarily used to repay long-term debt. As a
result of the transaction, the Company recorded a charge to operations
in 1995 of $862,000 to write down the net assets sold to net
realizable value. Net sales of the fiber optics business approximated
$447,000, $6,513,000, and $12,150,000 for 1996, 1995 and 1994,
respectively.
Net assets held for sale at net realizable value as of December 31, 1995
consists of the following:
Inventory $ 1,467,000
Fixed assets 1,510,000
Deferred computer software 319,000
Goodwill 5,897,000
Other assets 115,000
Accounts payable and accrued liabilities (1,415,000)
-----------
$ 7,893,000
===========
(5) Joint Venture
The Company entered into a joint venture agreement as of April 24, 1986
with a Korean partner. Unless otherwise terminated in accordance with
the joint venture agreement, the joint venture will terminate on
December 31, 2010. In addition, the Company has entered into an
agreement with its joint venture partner whereby the Company has
obtained an option, exercisable for approximately $2,300, to purchase
an additional 1% interest in Woo Shin Electro-Systems Co. (Woo Shin),
which would increase the Company's ownership percentage to 51%. The
Company consolidates the operations of Woo Shin since the Company can
obtain a controlling interest at its election for a nominal sum and
Woo Shin is entirely dependent on the Company for the products it
sells as well as receiving management assistance from the Company. The
interest in the joint venture not owned by the Company is shown as a
minority interest.
(Continued)
F-14
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
(6) Inventories
Inventories consist of the following:
December 31,
--------------------
1996 1995
---- ----
Parts and components $4,557,000 5,370,000
Work-in-process 515,000 849,000
Finished goods 2,352,000 2,760,000
---------- ---------
$7,424,000 8,979,000
========== =========
(7) Property, Plant and Equipment
Property, plant and equipment consists of the following:
December 31
------------------ Estimated
1996 1995 useful lives
---- ---- ------------
Land $ 246,000 246,000 --
Buildings 2,358,000 2,358,000 20-50 years
Machinery and equipment 8,038,000 8,426,000 5-8 years
Furniture and fixtures 3,830,000 3,379,000 5-10 years
Transportation equipment 213,000 240,000 4 years
Tools and molds 3,064,000 4,233,000 8 years
Leasehold improvements 855,000 827,000 Term of lease
---------- ----------
18,604,000 19,709,000
Less accumulated depreciation
and amortization 13,182,000 12,798,000
---------- ----------
$5,422,000 6,911,000
========== ==========
Total depreciation and amortization expense for 1996, 1995 and 1994
amounted to approximately $1,746,000, $3,610,000 and $3,242,000,
respectively.
(8) Accounts Receivable
Accounts receivable included approximately $900,000 and $1,146,000 at
December 31, 1996, and 1995, of revenues earned but not yet
contractually billable relating to long-term contracts for specialized
products. All such amounts at December 31, 1996, are expected to be
billed in the subsequent year. The allowance for doubtful accounts
receivable was $1,550,000 and $1,251,000 as of December 31, 1996 and
1995 respectively. The allowance for doubtful accounts was increased
by provisions of $553,000, $864,000, and $318,000 and decreased by
write-offs of $254,000, $198,000, and $144,000 for the years ended
December 31, 1996, 1995, and 1994, respectively.
(Continued)
F-15
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
(9) Income Taxes
Included in income (loss) from continuing operations is income (loss) from
foreign operations of $(584,000), $1,272,000 and $(920,000), for 1996,
1995 and 1994, respectively.
The provision for income taxes consists of the following:
1996 1995 1994
---- ---- ----
Current Deferred Current Deferred Current Deferred
------- -------- ------- -------- ------- --------
Federal $ -- -- (98,000) -- 800,000 12,670,000
State and foreign 100,000 -- 128,000 -- 165,000 1,285,000
-------- ------ -------- ------ -------- ----------
Total $100,000 -- 30,000 -- 965,000 13,955,000
======== ====== ======== ======= ======== ==========
A reconciliation of the Company's income tax provision and the amount
computed by applying the statutory U.S. federal income tax rate of 34%
to income (loss) from continuing operations before income taxes is as
follows:
1996 1995 1994
---- ---- ----
Tax expense (benefit) at
statutory rate $495,000 (9,916,000) (8,526,000)
Increase (decrease) in income tax
benefit resulting from:
Increase (decrease) in
valuation allowance (495,000) 10,103,000 22,219,000
Benefit of Puerto Rico industrial
tax exemption -- -- 813,000
State and foreign taxes, less
applicable federal benefits 100,000 132,000 147,000
Other -- (289,000) 267,000
-------- ---------- ----------
$100,000 30,000 14,920,000
======== ========== ==========
The Company has unused United States tax net operating loss carryforwards
of approximately $70,735,000 expiring at various dates between 2003
and 2011. No tax benefit or expense was apportioned to either the loss
from discontinued operations or the extraordinary gains as such
amounts are immaterial. In addition, the Company has net operating
loss carryforwards arising from acquired companies of approximately
$9,878,000. The carryforward amounts are subject to review by the
Internal Revenue Service (IRS). The effect of the sale of the
Company's fiber optics business (note 4) in March, 1996 on the net
operating loss carryforwards and acquired net operating loss
carryforwards was not material. In addition, there are capital loss
carryforwards of approximately $11,396,000 and investment, research
and development and job tax credit carryforwards of approximately
$1,300,000 expiring at various dates between 1997 and 2001.
(Continued)
F-16
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
The Company's net operating loss carryforwards expire in the following
years:
2003 $ 187,000
2007 13,062,000
2008 17,291,000
2009 18,125,000
2010 20,634,000
2011 1,436,000
-----------
$70,735,000
===========
The components of the deferred tax assets and liabilities as of December
31, 1996 and 1995 are as follows:
1996 1995
Deferred tax assets:
Inventory allowances $ 2,064,000 4,157,000
Allowance for doubtful accounts receivable 457,000 359,000
Benefits of tax loss carryforwards 27,233,000 27,755,000
Benefit plans 869,000 1,593,000
Alternative minimum taxes -- 293,000
Accrued Commissions 1,043,000 --
Depreciation -- 122,000
Other 128,000 30,000
Benefits of tax loss carryforwards of
acquired business 3,479,000 3,479,000
Differences between tax basis and book basis
of net assets of businesses acquired -- 3,165,000
Benefit of investment tax credit carryforwards 1,300,000 --
Benefit of capital loss carryforwards 4,387,000 --
----------- -----------
40,960,000 40,953,000
Valuation allowance (39,444,000) (39,604,000)
------------ ------------
1,516,000 1,349,000
----------- -----------
Deferred tax liabilities:
Capitalized software costs (1,479,000) (1,349,000)
Depreciation (37,000) --
----------- -----------
(1,516,000) (1,349,000)
----------- -----------
$ -- --
=========== ===========
In the third quarter of 1994, the Company, after reviewing the deferred
tax asset in the context of its results of operations for such third
quarter, recorded a valuation allowance in the entire amount of its
then existing deferred tax asset, which is included in income tax
expense. This decision was based on the criteria contained in SFAS No.
109, generally requiring a valuation allowance when cumulative losses
have been experienced and there is a lack of sufficient objective
offsetting evidence to conclude that it is more likely than not that
the deferred tax asset will be utilized.
(Continued)
F-17
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
The income tax returns of the Company and its subsidiary operating in
Puerto Rico were examined by the IRS for the tax years ended December
31, 1989 and 1988. As a result of this examination, the IRS increased
the Puerto Rico subsidiary's taxable income resulting from
intercompany transactions, with a corresponding increase in the
Company's net operating losses. The settlement amounted to
approximately $953,000. During 1994, the Company entered into a
structured settlement with the IRS, which was amended in 1996, whereby
monthly payments will be made to liquidate the settlement. The amended
agreement calls for a financial review by the IRS in November 1997.
Aggregate annual amounts payable by the Company, including interest on
the unpaid amounts at a current rate of 7%, is $240,000 in 1997. As of
December 31, 1996, the Company has made all the required payments
through that date under the settlement and approximately $1,000,000
remains outstanding.
(10) Notes Payable and Short-Term Loans
The Company has outstanding $3,084,000 of non-interest bearing deferred
funding fee notes payable with its senior lender, included in notes
payable at December 31, 1996 and 1995, which are due on November 30,
1998 (see Note 11). The Company's Korean subsidiary also has
short-term borrowings with banks at December 31, 1996 and 1995 of
$31,000 and $368,000, respectively, bearing interest at 11%.
(11) Long-Term Debt
On December 31, 1996 and 1995, the Company's long-term debt consisted of
senior debt under its credit facility in the amount of $16,835,000 and
$26,645,000, respectively. The credit facility is secured by
substantially all of the Company's assets. All obligations except
undrawn letters of credit, letter of credit guarantees and the
deferred fee notes will bear interest at 12%. The Company will incur a
fee of 2% on the average balance of undrawn letters of credit and
letter of credit guarantees outstanding.
(Continued)
F-18
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
As of December 31, 1995, the Company violated certain financial covenants
and was in default of its agreement with its senior lender. On March
13, 1996, the Company entered into an agreement to extend its Loan and
Security Agreement with its senior lender from November 30, 1996 to
November 30, 1998, which also provided for a waiver of all specified
events of default. The revised agreement provides for loan principal
payments of $250,000 on each of June 30, 1997, September 30, 1997 and
December 31, 1997, and $325,000 commencing March 31, 1998 and on the
last day of each quarter thereafter during the term of the agreement.
Commencing June 30, 1997, the agreement also requires the Company to
pay additional principal payments if its cash flow exceeds certain
amounts. The March, 1996 amendment also required that certain proceeds
from the Company's sale of its fiber optics business (note 4),
including $6,793,000 received at closing, the first $100,000 disbursed
from escrow to the Company and 50% of any additional amounts disbursed
to the Company, be paid to the senior lender. The $6,793,000 received
at closing was paid to the senior lender to (i) pay accrued interest
through March 31, 1996, (ii) repay a $3,000,000 line of credit and
(iii) partially repay the principal balance of the term loan. Upon the
payment on March 13, 1996, the lender made available to the Company a
$2,000,000 revolving line of credit. Simultaneously, and in accordance
with the amended agreement, the revolving line of credit maximum
amount was reduced from $10,000,000 to $2,000,000 and the maximum
available for letters of credit or guarantees was reduced from
$8,000,000 to $7,000,000. The outstanding balance of the term loan and
revolving line of credit was approximately $20 million and
approximately $900,000, respectively, after all the above
transactions. In addition, the Company repaid $3,456,000 of term loan
from the proceeds of the sale of assets associated with its
discontinued Israeli operation (note 3). As of December 31, 1996, the
Company's availability under its $2,000,000 revolving line of credit
was approximately $700,000.
Through December 31, 1996, the Company incurred the following fees, in
connection with this credit facility: In 1994, a one-time $2,474,000
deferred funding fee for the revolving line and term loan evidenced by
a non-interest bearing promissory note due and payable on November 30,
1998. The Company incurred a $300,000 fee on February 13, 1995,
evidenced by a non-interest bearing note due November 30, 1998 and a
$310,000 facility fee on November 30, 1995, which amount has been
added to the outstanding principal balance of the deferred funding fee
note and is also due November 30, 1998. In consideration of the
extension of the facility term to November 30, 1998, the agreement
requires a monthly facility fee payment of $50,000, commencing
November 30, 1996, and continuing to the end of the agreement.
Additionally, in 1994, the Company incurred a $550,000 investment
banking fee and attorney and filing fees amounting to approximately
$319,000.
(Continued)
F-19
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
In connection with the credit facility, in November, 1994 the Company
issued warrants to its senior lender to purchase 55,000 shares of
common stock, immediately exercisable at $17.20 per share and expiring
in November 1999, together with warrants to purchase 27,500 shares of
the Company's common stock on the same economic terms that became
exercisable on March 13, 1996. In connection with the extended
agreement in March 1996, the Company granted additional warrants to
the lender to purchase 200,000 shares of common stock at $5 per share
that expire in March 2001. All such warrants provide the senior lender
demand and "piggyback" registration rights. The value of the warrants,
$380,000, was recorded as deferred financing expense and additional
paid in capital.
Financial debt covenants include an interest coverage ratio measured
quarterly commencing with the quarter ending June 30, 1996,
limitations on the incurrence of indebtedness, limitations on capital
expenditures, and prohibitions on declarations of any cash or stock
dividends or the repurchase of the Company's stock. As of December 31,
1996, the Company was in compliance with the above covenants.
In connection with an amendment to the credit facility agreement on
February 13, 1995, the Company purchased from the senior lender $3.9
million principal amount of its 6% Subordinated Debentures for
approximately $2.5 million, including accrued interest. Such payment
was financed with funds received from the senior lender as an increase
in the term loan. In connection with this transaction, the Company
recorded an extraordinary gain on the early extinguishment of the debt
of $1,756,000, which gain represented the excess of the book value
over the market value of the debt. Moreover, the $782,000 premium paid
in excess of the market value of the debt was reflected as additional
borrowing costs over the remaining term of the facility.
Maturities of the Company's long-term debt, including convertible
subordinated debentures (exclusive of $2,096,000 which are in default
and have not been exchanged as described in note 12 and are classified
as a current liability) and notes payable net of current maturities,
are as follows:
1997 $ 750,000
1998 45,804,000
-----------
$46,554,000
===========
(12) 6% Convertible Subordinated Debentures and
Zero Coupon Senior Subordinated Convertible Notes
As of December 31, 1996 and 1995 the Company had outstanding $2,096,000
and $32,224,000 of its 6% convertible Subordinated Debentures due July
1, 2002 (the Debentures), net of original issue discounts amortized to
principal over the term of the debt using the effective interest rate
method, of $209,000 and $3,851,000, respectively. The face amount of
the outstanding Debentures was $2,305,000 and $36,075,000 at December
31, 1996 and 1995, respectively. The Debentures are convertible at any
time prior to maturity, unless previously redeemed, into Common Stock
of the Company at a conversion rate of 8.333 shares for each $1,000
principal amount at maturity of Debentures, subject to adjustment
under certain circumstances.
(Continued)
F-20
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
The Debentures are redeemable at the option of the Company, (a) in whole
or in part, at redemption prices ranging from 89.626% of principal
amount at maturity beginning July 1, 1995 to 100% of principal amount
at maturity beginning July 1, 2001 and thereafter, together with
accrued and unpaid interest to the Redemption Date, and (b) in whole
at any time, at a redemption price equal to the issue price plus
interest and that portion of the original issue discount and interest
accrued to the redemption date, in the event of certain changes in
United States taxation or the imposition of certain certification,
information or other reporting requirements.
Interest on the Debentures is payable on July 1 of each year. The interest
accrued as of December 31, 1996 and 1995 amounted to $387,000 and
$3,244,000, respectively. As of December 31, 1996 the Company is in
default under the interest payment provisions of the Debentures.
On November 30, 1995, the Company offered the holders of its Debentures
an exchange of such debt for common stock and zero coupon senior
subordinated convertible notes (the Notes) due January 2, 1998. The
exchange ratio is 19.4 shares of common stock and $767.22 of principal
of Notes in exchange for $1,000 principal amount of Debentures.
Accrued interest on the Debentures would also be eliminated.
The unsecured Notes do not bear interest and there are no sinking fund
requirements. Each Note is convertible into common stock at a
conversion price of $6.55. Accordingly, in addition to the 699,855
maximum common shares issuable from the exchange of the Debentures,
the maximum number of common shares that could be issued upon
conversion, if all Debentures are exchanged, is 4,225,600. The Notes
are redeemable at the option of the Company at 90.32% of the principal
balance increasing periodically to 100% of the principal balance on
November 1, 1997.
Subsequent to December 31, 1995 and through March 22, 1996, the Company
exchanged approximately $28,725,000 principal amount of the
Debentures, net of unamortized discount of $3,065,000, for 557,265
shares of the Company's common stock and $22,038,000 principal amount
of Notes pursuant to the Exchange Offer. Accordingly, the Debentures
exchanged, which were outstanding at December 31, 1995, were
classified as a long-term liability, consistent with the payment terms
of the Notes. Since the remaining principal amount of $7,350,000 with
a carrying value of $6,564,000 of Debentures not exchanged were in
default, such debt was classified as a current liability at December
31, 1995.
As of December 31, 1996, the Company had exchanged approximately
$33,770,000 principal amount of the Debentures, net of related
unamortized discount and accrued interest expense, for 655,000 shares
of stock and $25,909,000 of Notes. This represents 94% of the
outstanding balance of the 6% Debentures prior to any conversion to
the Notes. In addition, as of December 31, 1996, $24,000 of Notes have
been converted, at the option of the holder and in accordance with the
conversion rights of the Notes, for 3,639 shares of stock. As of
December 31, 1996 $25,885,000 Notes are outstanding net of such
conversions.
(Continued)
F-21
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
The exchange of the Debentures for the Notes and common stock was
accounted for as a troubled debt restructuring in accordance with
Statement of Financial Accounting Standards No. 15. Since the future
principal and interest payments under the Notes is less than the
carrying value of the Debentures, the Notes were recorded for the
amount of the future cash payments, and not discounted, the common
stock issued was recorded at the market value at the time of issuance,
and an extraordinary gain on restructuring of approximately $3,922,000
was recorded.
Accordingly, no future interest expense will be recorded on the Notes.
(13) Leases
At December 31, 1996, the Company and its subsidiaries leased
manufacturing and administrative facilities, equipment and automobiles
under a number of operating leases. The Company is required to pay
increases in real estate taxes on the facilities in addition to
minimum rents. Total rent expense for 1996, 1995, and 1994 amounted to
approximately $871,000, $1,277,000 and $1,397,000, respectively.
Minimum rental commitments, exclusive of future escalation charges,
for each of the next five years are as follows:
1997 $ 526,000
1998 343,000
1999 102,000
2000 8,000
2001 0
(14) Incentive Plans
Under the Company's 1984 Employee Incentive Plan, the Company provided an
opportunity to acquire subordinated convertible debentures to certain
employees of the Company and its subsidiaries. This plan was suspended
when the Company's stockholders approved the Company's 1986 Stock
Option Plan. As of December 31, 1996, there is $307,000 of employee
promissory notes receivable outstanding, of which the maturity date
has been extended to April 1997. During 1995, the Company wrote off
$128,000 of notes receivable and took possession of the related shares
held as collateral. Accordingly, treasury stock account has been
increased by the amount of such write-off.
In 1986, the stockholders of the Company approved the Company's 1986
Stock Incentive Plan (1986 Plan), which expired in March 1996,
although options granted prior to the expiration date remain in effect
in accordance with their terms. Options granted under the 1986 Plan
may be incentive stock options, as defined in the Internal Revenue
Code, or options which are not incentive stock options. The exercise
price for all options granted was equal to the fair market value at
the date of grant.
(Continued)
F-22
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
In 1996, the stockholders of the Company approved the Company's 1996
Stock Incentive Plan (1996 Plan), which is authorized for 100,000
shares of Common Stock. Incentive stock options cannot be issued
subsequent to ten years from the date the Plan was approved. Options
under the 1996 Plan may be granted to key employees, including
officers and directors of the Company and its subsidiaries, except
that members and alternative members of the stock option committee are
not eligible for options under the 1996 Plan. In addition, the Plan
provides for the automatic grant to non-management directors of
non-qualified options to purchase 2,000 shares on May 1st of each year
commencing May 1, 1996, based upon the average closing price of the
last ten trading days of April of each year.
The Company applies APB Opinion 25, "Accounting for Stock Issued to
Employees". and related Interpretations in accounting for the 1996 and
1986 Plans. Under APB 25, for options granted to employees at exercise
prices equal to fair market value of the underlying common stock at
the date of grant, no compensation cost is recognized.
Statement of Financial Accounting Standard No. 123, "Accounting for
Stock-Based Compensation" ("SFAS No.123") requires the Company to
provide, beginning with 1995 grants, pro forma information regarding
net income and net income per common share as if compensation costs
for the Company's stock option plans had been determined in accordance
with the fair value method prescribed in SFAS No.123. Such pro forma
information has not been presented because management has determined
that the compensation costs associated with options granted in 1996
and 1995 are not material to net income or net income per share.
A summary of the status of the Company's 1986 stock option plan as of
December 31, 1996, 1995, and 1994, and changes during the years ending
on those dates is presented below:
1996 1995 1994
------------------------ ----------------------- ----------------------
Shares Weighted Shares Weighted Shares Weighted
Under Average Under Average Under Average
Option Exercise Price Option Exercise Price Option Exercise Price
------ -------------- ------ -------------- ------ --------------
Outstanding beginning
of the year 56,360 $58 80,775 $63 80,330 $63
Granted -- 6,000 5 2,000 49
Exercised -- -- (200) 37
Forfeited (39,963) 58 (30,415) 63 (1,355) 76
------- ------- ------
Outstanding end of year 16,397 57 50,360 58 80,775 63
======= ======= ======
Options exercisable
at year-end 16,397 50,360 55,575
======= ======= ======
(Continued)
F-23
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
The following table summarizes information about stock options outstanding
under the 1986 Plan at December 31, 1996:
Options Outstanding Options Exercisable
----------------------------------------------- -----------------------------
Range of Outstanding Remaining Weighted-average Exercisable Weighted-Average
Exercise Prices at 12/31/96 Contractual Life Exercise Price at 12/31/96 Exercise Price
- --------------- ----------- ---------------- ---------------- ----------- ----------------
$ 5 to 25 3,000 5.8 years $ 5 3,000 $ 5
25 to 50 5 .1 38 5 38
50 to 75 10,595 2.7 65 10,595 65
75 to 100 2,797 2.3 86 2,797 86
------ ------
$ 5 to 100 16,397 3.2 58 16,397 58
====== ======
A summary of the status of the Company's 1996 stock option plan as of
December 31, 1996, and changes during the year is presented below:
1996
--------------------------
Shares Weighted
Under Average
Option Exercise Price
------ --------------
Outstanding beginning of the year -0- $ 0.00
Granted 79,448 2.45
Exercised --
Forfeited --
------
Outstanding end of year 79,448 2.45
======
Options exercisable at year-end 63,050
======
The following table summarizes information about stock options outstanding
under the 1996 Plan at December 31, 1996:
Options Outstanding Options Exercisable
------------------------------------------------ -----------------------------
Range of Outstanding Remaining Weighted-average Exercisable Weighted-Average
Exercise Prices at 12/31/96 Contractual Life Exercise Price at 12/31/96 Exercise Price
- --------------- ----------- ---------------- ---------------- ----------- ----------------
$ 1 to 5 79,448 5.7 years $ 2.45 63,050 $ 2.57
====== ======
(15) Employee Benefit Plans
The Company has deferred compensation agreements with certain officers and
employees, with benefits commencing at retirement equal to 50% of the
employee's base salary, as defined. Payments under the agreements will
be made for a period of fifteen years following the earlier of
attainment of age 65 or death. During 1996, 1995 and 1994, the Company
accrued approximately $180,000, $203,000 and $191,000, respectively,
under these agreements.
(Continued)
F-24
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
In 1986, the Company established the Porta Systems Corp. 401(k) Savings
Plan (Savings Plan) for the benefit of eligible employees, as defined
in the Savings Plan. Participants contribute a specified percentage of
their base salary up to a maximum of 15%. The Company will match a
participant's contribution by an amount equal to 25% and 75% in 1996
and 1995, respectively, of the first six percent contributed by the
participant. A participant is 100% vested in the balance to his
credit. For the years ended December 31, 1996, 1995 and 1994, the
Company's contribution amounted to $90,000, $379,000 and $417,000,
respectively.
The Company does not provide any other post-retirement benefits to any of
its employees.
(16) Stockholders' Equity
On June 6, 1996, the stockholders of the Company approved (a) an
amendment to the Company's certificate of incorporation to increase
the number of authorized shares of Common Stock from 20,000,000 to
40,000,000 shares and (b) a one-for-five reverse split (the "Reverse
Split") of the Company's common stock. As a result of the Reverse
Split, each share of common stock outstanding at the effective time
of the Reverse Split, without any action on the part of the holder
thereof, became one-fifth share of common stock. The par value of
the common stock was not affected by the Reverse Split. In conjunction
with the Reverse Split, the Company has reclassified approximately
$84,000 from common stock to additional paid-in capital. All share
and per share data have been restated to give effect to the Reverse
Split.
As of December 31, 1996, the Company has outstanding warrants to purchase
27,000 shares of Common Stock to certain consultants as partial
remuneration for services provided during 1993. Such warrants to
purchase shares were issued at an exercise price approximating the
fair market value at the date of grant of $33.10 per share and expire
in August 1998.
During 1996, the Company settled its previously disclosed class action.
The settlement includes a cash payment by the Company's insurers and
issuance by the Company of 220,000 shares of its common stock. As of
December 31, 1996, approximately 73,000 shares have been issued
pursuant to such settlement. The remaining liability of $773,000 is
included in accrued expenses.
During 1994, the Company issued warrants to purchase 82,500 shares of
common stock at an exercise price of $17.20 per share to its senior
lender that expire in November, 1999, and warrants to purchase 53,000
shares of common stock at an exercise price of $17.50 per share to its
former lenders in return for a discount with respect to the repayment
of its debt. In connection with the issuance of these warrants, the
Company recorded deferred financing costs of $360,000 and an expense
of $600,000, respectively. In March 1996, the Company, in connection
with an agreement to amend and extend certain long-term debt, issued
warrants to purchase 200,000 shares of common stock at an exercise
price of $5.00 per share that expire March, 2001 (note 11). As of
December 31, 1996, all warrants issued to lenders are exercisable.
(Continued)
F-25
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
(17) Stockholder Rights Plan
The Company has adopted a Stockholder Rights Plan in which preferred stock
purchase rights were distributed to stockholders as a dividend at the
rate of one right for each common share. Each right entitles the
holder to buy from the Company one one-hundredth of a newly issued
share of Series A junior participating preferred stock at an exercise
price of $175.00 per right.
The rights will be exercisable only if a person or group acquires
beneficial ownership of 20 percent or more of the Company's Common
Stock or commences a tender or exchange offer upon consummation of
which such person or group would beneficially own 20 percent or more
of the Common Stock.
If any person becomes the beneficial owner of 20 percent or more of the
Company's Common Stock other than pursuant to an offer for all shares
which is fair to and otherwise in the best interests of the Company
and its stockholders, each right not owned by such person or related
parties will enable its holders to purchase, at the right's then
current exercise price, shares of Common Stock of the Company (or, in
certain circumstances as determined by the Board of Directors, a
combination of cash, property, common stock or other securities)
having a value of twice the right's exercise price. In addition, if
the Company is involved in a merger or other business combination
transaction with another person in which its shares are changed or
converted, or sells more than 50 percent of its assets to another
person or persons, each right that has not previously been exercised
will entitle its holder to purchase, at the right's then current
exercise price, common shares of such other person having a value of
twice the right's exercise price.
The Company will generally be entitled to redeem the rights, by action of
a majority of the continuing directors of the Company, at $.01 per
right at any time until the tenth business day following public
announcement that a 20 percent position has been acquired.
(18) Fair Values of Financial Instruments
Cashequivalents, accounts receivable, accounts and notes payable, accrued
expenses and short-term loans are reflected in the consolidated
financial statements at fair value because of the short term maturity
of these instruments.
The carrying amount of the Company's long-term debt approximates fair
value as the extension of the Loan and Security Agreement was
re-negotiated on March 13, 1996 with similar terms to those that
existed at December 31, 1996.
Due to the inherent uncertainty regarding the conversion of the Zero
coupon convertible subordinated notes or their status at maturity as
discussed in Note 2, it is impractical to estimate the fair value of
this financial instrument.
(Continued)
F-26
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
The carrying amount and estimated fair value of the Company's additional
financial instruments are summarized as follows:
December 31, 1996 December 31, 1995
--------------------- ---------------------
Carrying Estimated Carrying Estimated
amount fair value amount fair value
-------- ---------- -------- ----------
Receivable from sale of
discontinued operations $ -- -- 1,000,000 1,370,000
========== ======= ========== ==========
6% Convertible subordinated
debentures $2,096,000 511,000 32,224,000 12,626,000
========== ======= ========== ==========
The estimated fair value of the receivable from the sale of discontinued
operations is based upon the quoted market price of the shares of
common stock collateralizing the receivable. Management's estimated
fair value of the 6% convertible subordinated debentures is based on
estimated market prices of the Company's common stock as of December
31, 1996 assuming conversion as 94% of the 6% debentures holders have
elected to convert.
(19) Major Customers
Consolidated sales made to a Korean telephone company amounted to
$4,749,000, $7,651,000 and $9,599,000 in 1996, 1995 and 1994,
respectively. Sales made to a United Kingdom telephone company in
1996, 1995 and 1994 amounted to $11,308,000, $17,252,000 and
$11,566,000, respectively. Sales made to a Philippine telephone
company amounted to $7,034,000, $581,000 and $9,000 in 1996, 1995 and
1994, respectively. Sales made to a Czech Republic telephone company
in 1996, 1995 and 1994 amounted to $3,116,000, $1,997,000 and $22,000,
respectively Sales made to a Mexican telephone company in 1996, 1995
and 1994 amounted to $0, $41,000 and $4,987,000, respectively.
Approximately 33% and 28% of the Company's accounts receivable are due
from the above customers as of December 31, 1996 and 1995,
respectively.
(20) Contingencies
At December 31, 1996, the Company was contingently liable for outstanding
letters of credit aggregating approximately $5,880,000 as security for
the performance of certain long-term contracts and the borrowing from
a bank of its Korean subsidiary.
The Company is a party to various lawsuits arising out of the ordinary
conduct of its business. Management believes that the settlement of
these matters will not have a materially adverse effect on the
financial position of the Company.
(Continued)
F-27
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
(21) Legal Matters
In July 1996, an action was commenced against the Company and certain
present and former directors in the Supreme Court of the State of New
York, New York County by certain stockholders and warrant holders of
the Company who acquired their securities in connection with the
acquisition by the Company of Aster Corporation. The complaint alleges
breach of contract against the Company and breach of fiduciary duty
against the directors arising out of an alleged failure to register
certain restricted shares and warrants owned by the plaintiffs. The
complaint seeks damages of $413,000; however, counsel for the
plaintiff have advised the Company that additional plaintiffs may be
added and, as a result, the amount of damages claimed may be
substantially greater than the amount presently claimed. The Company
believes that the defendants have valid defenses to the claims.
Discovery is proceeding.
In July 1996, the Securities and Exchange Commission (the "SEC") issued
an order (the "Order") directing a private investigation of the
Company to determine whether there has been a violation of Federal
securities laws. The SEC indicated to counsel for the Company that the
investigation relates to the position of the SEC staff that the
independence of the Company's auditors for 1995, KPMG Peat Marwick LLP
("Peat Marwick"), was adversely impacted by certain relationships
involving Peat Marwick, on one hand, and KPMG BayMark Strategies LLC
("BayMark") and Edward R. Olson, the President of BayMark and the
Company's former interim president and chief operating officer, on the
other hand. Although the Company does not agree with the position of
the SEC staff with respect to the independence of Peat Marwick, the
Company is cooperating with the SEC's investigation. The Company
retained BDO Seidman, LLP to reaudit the Company's 1995 financial
statements, which reaudit resulted in no changes to the Company's 1995
financial statements as audited by Peat Marwick. The Company does not
believe that the investigation will result in any material liability
on the part of the Company.
(22) Cash Flow Information
(1) Supplemental cash flow information for the years ended December 31, is
as follows:
1996 1995 1994
---- ---- ----
Cash paid for interest $ 2,751 2,915 4,196
======= ===== =====
Cash paid for income taxes $ 105 73 128
======= ===== =====
(Continued)
F-28
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Continued
(2) Non cash transactions:
(i) During 1996, the Company exchanged approximately $33,770,000
principal amount of its 6% convertible subordinated debentures, net of
unamortized discount and accrued interest, for 655,000 shares of
Common stock and $25,909,000 of Zero coupon convertible subordinated
notes (see Note 12).
(ii) During 1996, the Company issued 3,600 shares of common stock as a
result of the conversion of Zero coupon convertible notes (see Note
12).
(iii) During 1996, the Company issued 73,000 shares of common stock to
satisfy a portion of the final settlement of a previously disclosed
class action lawsuit (see Notes 16).
(iv) In connection with the Company's March 1996 amendment to its
credit facility, the Company granted its senior lender warrants to
purchase 200,000 shares of common stock (see Note 11). The value of
the warrants were recorded as deferred financing expense and
additional paid in capital.
(23) Segment Disclosure
The Company operates exclusively in the telecommunications industry.
Customers include telephone operating companies and others within and
outside the United States and its possessions.
In the following table, intercompany sales are accounted for at cost plus
a reasonable profit. Identifiable assets for the geographic areas are
those assets identified with the operations in each area. Corporate
assets consist principally of cash and cash equivalents, debt issuance
costs, employee loans for debentures and patents. The Company does not
allocate costs for product development, marketing or management to
each segment. Thus, the information may not be indicative of the
extent to which geographic areas contributed to the Company's
consolidated results of operations.
(Continued)
F-29
PORTA SYSTEMS CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements, Concluded
Geographic area data for the years ended December 31, 1996, 1995 and
1994 are as follows:
1996 1995 1994
---- ---- ----
Sales made from:
United States to:
U.S. customers $17,644,000 16,445,000 23,831,000
Foreign customers 18,418,000 12,875,000 11,069,000
Intercompany 16,726,000 14,849,000 25,102,000
----------- ----------- -----------
52,788,000 44,169,000 60,002,000
----------- ----------- -----------
Korea-to customers 4,749,000 7,651,000 9,599,000
----------- ----------- -----------
Europe-to customers 17,176,000 24,174,000 19,847,000
Intercompany 3,228,000 3,735,000 690,000
----------- ----------- -----------
20,404,000 27,909,000 20,537,000
Other-to customers - 36,000 4,639,000
Intercompany 1,878,000 2,410,000 3,796,000
----------- ----------- -----------
1,878,000 2,446,000 8,435,000
----------- ----------- -----------
Intercompany eliminations (21,832,000) (20,994,000) (29,588,000)
------------ ------------ -----------
Consolidated sales $57,987,000 61,181,000 68,985,000
=========== =========== ===========
Operating income (loss)
United States 4,310,000 (22,549,000) (16,621,000)
Europe (666,000) 2,279,000 (1,465,000)
Korea 236,000 288,000 387,000
Other 102,000 98,000 158,000
----------- ----------- -----------
Consolidated operating income (loss) $ 3,982,000 (19,884,000) (17,541,000)
=========== =========== ===========
Identifiable assets:
United States 33,993,000 39,600,000 63,200,000
Europe 9,182,000 11,414,000 10,505,000
Korea 2,324,000 2,540,000 2,491,000
Other 544,000 623,000 1,248,000
----------- ----------- -----------
Consolidated identifiable assets 46,043,000 54,177,000 77,444,000
Corporate assets 4,615,000 6,414,000 7,519,000
----------- ----------- -----------
Consolidated total assets $50,658,000 60,591,000 84,963,000
=========== =========== ===========
F-30