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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
_______________________________
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 29, 2002
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Transition Period from ____ to ____
______________________________
Commission File No. 0-12942
PARLEX CORPORATION
Massachusetts 04-2464749
------------- ----------
(State of incorporation) (I.R.S. ID)
One Parlex Place, Methuen, Massachusetts 01844
978-685-4341
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of Exchange on which registered
------------------- ------------------------------------
Common Stock ($.10 par value) Nasdaq National Market
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 [ ]
The number of shares outstanding of the registrant's common stock as of
November 6, 2002 was 6,303,216 shares.
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1
PARLEX CORPORATION
------------------
INDEX
-----
Part I - Financial Information Page
Item 1. Unaudited Condensed Consolidated Financial Statements:
Consolidated Balance Sheets - September 29, 2002 and June 30, 2002 3
Consolidated Statements of Operations - For the Three Months
Ended September 29, 2002 and September 30, 2001 4
Consolidated Statements of Cash Flows - For the Three Months
Ended September 29, 2002 and September 30, 2001 5
Notes to Unaudited Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 11
Item 3. Quantitative and Qualitative Disclosures About Market Risk 22
Item 4. Controls and Procedures 22
Part II - Other Information 24
Item 6. Exhibits and Reports on Form 8-K 24
Signatures 25
Certifications 26
Exhibit Index 28
2
PARLEX CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
- -----------------------------------
ASSETS September 29, 2002 June 30, 2002
CURRENT ASSETS:
Cash and cash equivalents $ 1,558,708 $ 1,785,025
Accounts receivable - net 18,090,790 17,665,808
Inventories - net 17,576,660 17,588,589
Refundable income taxes 1,810,351 1,810,102
Deferred income taxes 3,595,659 3,595,659
Other current assets 1,688,511 2,030,210
-------------------------------
Total current assets 44,320,679 44,475,393
-------------------------------
PROPERTY, PLANT AND EQUIPMENT:
Land and land improvements 1,018,822 1,018,822
Buildings 22,221,208 22,209,273
Machinery and equipment 58,409,818 58,267,902
Leasehold improvements and other 7,506,969 7,499,054
Construction in progress 7,645,566 6,467,541
-------------------------------
Total 96,802,383 95,462,592
Less accumulated depreciation
and amortization (40,943,790) (39,480,757)
-------------------------------
Property, plant and
equipment - net 55,858,593 55,981,835
-------------------------------
INTANGIBLE ASSETS - NET 1,148,226 1,155,827
GOODWILL - NET 1,157,358 1,157,510
DEFERRED INCOME TAXES 3,578,169 2,850,876
OTHER ASSETS 421,446 432,488
-------------------------------
TOTAL $106,484,471 $106,053,929
===============================
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current portion of long-term debt $ 2,251,139 $ 3,560,855
Accounts payable 13,223,824 13,729,201
Accrued liabilities 5,340,505 4,865,058
-------------------------------
Total current liabilities 20,815,468 22,155,114
-------------------------------
LONG-TERM DEBT 15,100,974 12,000,000
-------------------------------
OTHER NONCURRENT LIABILITIES 1,302,939 1,327,490
-------------------------------
MINORITY INTEREST IN PARLEX SHANGHAI 411,495 430,204
-------------------------------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Common stock 651,321 651,321
Additional paid-in capital 60,897,275 60,897,275
Retained earnings 8,520,679 9,911,794
Accumulated other comprehensive loss (178,055) (281,644)
Less treasury stock, at cost (1,037,625) (1,037,625)
-------------------------------
Total stockholders' equity 68,853,595 70,141,121
-------------------------------
TOTAL $106,484,471 $106,053,929
===============================
See notes to unaudited consolidated financial statements.
3
PARLEX CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
- -------------------------------------
Three Months Ended
September 29, 2002 September 30, 2001
----------------------------------------
REVENUES: $ 21,692,288 $ 21,635,500
COSTS AND EXPENSES:
Cost of products sold 20,684,405 21,066,131
Selling, general and administrative expenses 2,919,516 3,502,335
----------------------------------
Total costs and expenses 23,603,921 24,568,466
----------------------------------
OPERATING LOSS (1,911,633) (2,932,966)
OTHER (EXPENSE) INCOME, Net (20,182) 102,137
INTEREST EXPENSE (204,282) (194,287)
----------------------------------
LOSS FROM OPERATIONS BEFORE
INCOME TAXES AND MINORITY INTEREST (2,136,097) (3,025,116)
BENEFIT FROM INCOME TAXES 726,273 1,467,207
----------------------------------
LOSS BEFORE MINORITY INTEREST (1,409,824) (1,557,909)
MINORITY INTEREST 18,709 396,821
----------------------------------
NET LOSS $ (1,391,115) $ (1,161,088)
==================================
BASIC AND DILUTED LOSS PER SHARE $ (0.22) $ (0.18)
==================================
WEIGHTED AVERAGE SHARES - BASIC AND DILUTED 6,303,216 6,303,216
==================================
See notes to unaudited consolidated financial statements.
4
PARLEX CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
- -------------------------------------
Three Months Ended
September 29, 2002 September 30, 2001
----------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Loss $(1,391,115) $(1,161,088)
---------------------------------
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization of property,
plant and equipment and other assets 1,604,453 1,592,594
Minority interest (18,709) (396,821)
Changes in current assets and liabilities:
Accounts receivable - net (422,977) (383,974)
Inventories 47,250 132,234
Refundable taxes - (1,459,996)
Other assets and deferred taxes (372,064) 246,634
Accounts payable and accrued liabilities (1,131,889) 1,374,508
---------------------------------
Net cash used in operating activities (1,685,051) (55,909)
---------------------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of Poly-Flex subsidiary - 525,000
Maturities (purchases) of investments available
for sale, net - 2,174,519
Additions to property, plant and equipment
and other assets (345,283) (1,321,323)
---------------------------------
Net cash (used in) provided by investing activities (345,283) 1,378,196
---------------------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from bank loans 5,467,865 7,965,000
Payment of bank loans (3,676,448) (8,968,515)
---------------------------------
Net cash provided by (used in) financing activities 1,791,417 (1,003,515)
---------------------------------
EFFECT OF EXCHANGE RATE CHANGES ON CASH 12,600 64,912
---------------------------------
NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS (226,317) 383,684
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 1,785,025 3,203,990
---------------------------------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 1,558,708 $ 3,587,674
=================================
SUPPLEMENTARY DISCLOSURE OF NONCASH FINANCING AND
INVESTING ACTIVITIES:
Property, plant, equipment and other asset
purchases financed under capital lease, long-term
debt and accounts payable $ 1,041,388 $ 169,958
=================================
See notes to unaudited consolidated financial statements.
5
PARLEX CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
- ----------------------------------------------------
1. Basis of Presentation
---------------------
The consolidated financial statements include the accounts of Parlex
Corporation, its wholly owned subsidiaries ("Parlex" or the "Company") and
its 90.1% investment in Parlex(Shanghai) Circuit Co., Ltd. ("Parlex
Shanghai") (see Note 9). The financial statements as reported in Form 10-Q
reflect all adjustments which are, in the opinion of management, necessary
to present fairly the financial position as of September 29, 2002 and the
results of operations and cash flows for the three months ended September
29, 2002 and September 30, 2001. All adjustments made to the interim
financial statements included all those of a normal and recurring nature.
The Company followed the same accounting policies in the preparation of
these interim financial statements as described in its annual filing on
Form 10-K for the year ended June 30, 2002. This filing should be read in
conjunction with the Company's annual report on Form 10-K for the year
ended June 30, 2002.
For the period ended September 29, 2002, as shown in the consolidated
financial statements, the Company incurred net losses of $1,391,000 and
used $1,685,000 of cash in operations and was out of compliance with its
minimum EBITDA financial covenant of its principal external financing
agreement. The Company has received a waiver of the minimum EBITDA covenant
violation at September 29, 2002 and is in compliance with all other
financial covenants. The Company expects to be in compliance with the terms
of its principal external financing agreement for the foreseeable future
(see Note 7).
Throughout fiscal 2002 and into fiscal 2003, management has taken a series
of actions to reduce operating expenses and to restructure operations,
which consisted primarily of reductions in workforce and consolidating
manufacturing operations. Moreover, management continues to implement plans
to control operating expenses, inventory levels, and capital expenditures
as well as manage accounts payable and accounts receivable to enhance cash
flow and return the Company to profitability. Management's plans include
the following actions: 1) continuing to consolidate manufacturing
facilities, including the closing of the Salem, New Hampshire facility
during fiscal 2003; 2) continuing to transfer certain manufacturing
processes from its domestic operations to lower cost international
manufacturing locations, primarily those in the People's Republic of China;
3) expanding its products in the home appliance, laptop computer, and radio
frequency identification and smart card markets; and 4) continuing to
monitor and reduce selling, general and administrative expenses.
Furthermore, management is exploring alternative financing arrangements to
partially replace or supplement those currently in place in order to
provide the Company with long-term financing to support its current working
capital needs.
2. Comprehensive Loss
------------------
Comprehensive loss for the three months ended September 29, 2002 and
September 30, 2001 is as follows:
6
` Three Months Ended
September 29, 2002 September 30, 2001
------------------ ------------------
Net loss $(1,391,115) $(1,161,088)
Other comprehensive (loss) income:
Unrealized gain (loss) on short
term investments - (28,916)
Foreign currency translation adjustments 103,589 208,037
---------------------------------
Total comprehensive loss $(1,287,526) $ (981,967)
=================================
At September 29, 2002, the Company's accumulated other comprehensive loss
pertains entirely to foreign currency translation adjustments.
3. Intangible Assets
-----------------
Intangible assets, as of September 29, 2002, are composed of the following:
Land Use
Rights Patents Total
-------- ------- -----
Gross cost $1,145,784 $ 58,560 $1,204,344
Accumulated amortization (35,428) (20,690) (56,118)
-------------------------------------
Intangible assets, net $1,110,356 $ 37,870 $1,148,226
=====================================
The Company has reassessed the useful lives of other intangible assets and
determined the useful lives are appropriate in determining amortization
expense. Amortization expense for the quarter ended September 29, 2002 was
$7,601. The estimated amortization expense for each of the fiscal years
subsequent to June 30, 2002 is as follows:
Amortization Expense
--------------------
For year ended June 30, 2003 $ 30,403
For year ended June 30, 2004 30,403
For year ended June 30, 2005 30,403
For year ended June 30, 2006 30,403
For year ended June 30, 2007 30,403
Thereafter 1,003,812
----------
$1,155,827
==========
4. Recent Adoption of Accounting Pronouncements
--------------------------------------------
On July 1, 2002 the Company adopted SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets" ("SFAS No. 144"). SFAS No. 144
supercedes SFAS No. 121, "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to Be Disposed Of, " and the accounting
and reporting provisions of APB Opinion No. 30, "Reporting the Results of
Operations-Reporting the Effects of Disposal of a Segment of a
7
Business, and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions." SFAS No. 144 specifies accounting for long-lived assets to
be disposed of by sale, and broadens the presentation of discontinued
operations to include more disposal transactions than were included under
the previous standards.
On July 1, 2002 the Company adopted SFAS No. 145 "Rescission of FASB
Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and
Technical Corrections" ("SFAS No. 145"). This statement amends, among
others, the classification on the statement of operations for gains and
losses from the extinguishment of debt. Currently such gains and losses are
reported as extraordinary items, however, the adoption of SFAS No. 145 may
require the classification of the gains and losses from the extinguishment
of debt within income or loss from continuing operations unless the
transactions meet the criteria for extraordinary treatment as infrequent
and unusual as described in APB Opinion No. 30, "Reporting the Results of
Operations, Reporting the Effects of Disposal of a Segment of a Business,
and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions".
The adoption of SFAS Nos. 144 and 145 did not have a material effect on the
Company's financial statements.
5. Future Adoption of Accounting Pronouncements
--------------------------------------------
In June 2002, the FASB issued SFAS No. 146 "Accounting for Costs Associated
with Exit or Disposal Activities" ("SFAS No. 146"). This statement
supersedes Emerging Issues Task Force ("EITF") No. 94-3, "Liability
Recognition for Certain Employee Termination Benefits and Other Costs to
Exit an Activity". Under this statement, a liability for a cost associated
with a disposal or exit activity is recognized at fair value when the
liability is incurred rather than at the date of an entity's commitment to
an exit plan as required under EITF 94-3. The provisions of this statement
are effective for exit or disposal activities that are initiated after
December 31, 2002, with early adoption permitted.
The Company is currently evaluating the impact resulting from the adoption
of SFAS No. 146 on the Company's consolidated financial position and
results of operations, but does not expect a material impact.
6. Reclassifications
-----------------
Certain prior period amounts have been reclassified to conform to the
current period presentation.
7. Long-Term Debt
--------------
Long-term debt consists of the following:
September 29, 2002 June 30, 2002
------------------ -------------
Revolving credit agreement $12,110,000 $12,160,000
Parlex Shanghai term note 2,102,109 2,102,211
Parlex Interconnect term note 3,100,974 1,208,167
Capital lease obligations 39,030 90,477
------------------------------
Total long-term debt 17,352,113 15,560,855
Less current portion 2,251,139 3,560,855
------------------------------
Long-term debt - net $15,100,974 $12,000,000
==============================
8
Revolving Credit Agreement - On September 27, 2002 (updated as of October 31,
2002), the Company executed the Third Amendment to the Credit Agreement (the
"Third Amendment"). The Third Amendment increased the bank's security
interest in the Company's assets to include a first mortgage on the Company's
Methuen, Massachusetts facility. In addition, the total availability for
borrowings under the Credit Agreement was reduced to $14,000,000 at September
30, 2002 and will be reduced to $12,000,000 by March 31, 2003. The Company
has classified as current those borrowings under the Credit Agreement that
exceed $12,000,000. At September 29, 2002, approximately $110,000 is
classified as current. The borrowing base was amended so as to be calculated
as 80% of eligible accounts receivable plus 70% of the appraised value of the
Methuen, Massachusetts facility, less amounts outstanding through letters of
credit. The Third Amendment also amended the restrictive covenants for
periods subsequent to June 30, 2002 to remove the interest coverage ratio,
amend the definition of minimum tangible net worth, and amend the future
income targets. The Company was not in compliance with the minimum EBITDA
covenant at September 29, 2002, but has subsequently received a waiver of its
covenant violation and is in compliance with all other financial covenants as
of September 29, 2002. The Company anticipates being in compliance with the
terms of the Third Amendment for the foreseeable future.
Parlex Shanghai Term Note - On February 26, 2002, Parlex Shanghai entered
into a short-term bank note bearing interest at 5.841%. Shanghai Jinling
Co., Ltd ("Jinling"), a former minority interest partner in Parlex
Shanghai, guarantees the short-term note. Amounts outstanding under this
short-term note total $2.1 million and are included within the current
portion of long-term debt on the consolidated balance sheet for the period
ended September 29, 2002. The Company provides a cross guarantee to Jinling
for 100% of the term note.
Parlex Interconnect Term Note - In June 2002, the Company's subsidiary,
Parlex (Shanghai) Interconnect Products Co., Ltd ("Parlex Interconnect"),
executed a $5,000,000 Loan Agreement (the "Loan Agreement") with CITIC Ka Wah
Bank Limited, a Hong Kong bank. Proceeds received under the Loan Agreement
are to be used exclusively for financing land, building, plant and machinery
and other working capital requirements and to repay Parlex Interconnect's
two local short-term bank notes. Borrowings under the Loan Agreement accrue
interest at a fixed rate equal to LIBOR plus a margin of 2.2%. Interest is
payable at the end of each interest period which varies from one to six
months. As a condition of the approval of this Loan Agreement, the Company's
subsidiary, Parlex Asia Pacific Ltd., and the Company have provided a
guarantee of the payment of this loan. The Loan Agreement contains a cross
default provision that would permit the lender to accelerate the repayment of
Parlex Interconnect's obligation under the Loan Agreement in the event of the
Company's default on other financing arrangements. The Company was not in
violation of the cross default provision as of September 29, 2002. Amounts
borrowed under the Loan Agreement are payable in four installments of
$500,000, $500,000, $1,000,000 and $3,000,000 beginning in February 2004
with the final payment due February 2005. As of September 29, 2002, total
borrowings were $3.1 million. These borrowings were used to repay local
short-term bank notes of $1.2 million and fund equipment and working capital
requirements.
8. Income Taxes
------------
Income taxes are recorded for this interim period based upon an estimated
annual effective tax rate. The Company's effective tax rate is impacted by
the proportion of its estimated annual income being earned in domestic
versus foreign tax jurisdictions, the generation of tax credits and the
recording of a valuation allowance. The Company performs an ongoing
evaluation of the realizability of its net deferred tax assets. The Company
has concluded that it is more likely than not that the Company will realize
the benefits of its net deferred tax assets.
9. Joint Venture
-------------
In 1995, the Company formed a joint venture, Parlex Shanghai. At its
formation, the Company had a 50.1% controlling interest and as such has
been consolidating Parlex Shanghai's financial results within its financial
9
statements with minority interest recorded to reflect its partners' 49.9%
interest. On October 22, 2001, the Company purchased Jinling's 40% joint
venture interest in Parlex Shanghai, bringing the Company's interest to
90.1%. Minority interest in the consolidated statements of operations
represents the minority shareholder's share of the income or loss of Parlex
Shanghai. The minority interest in the consolidated balance sheets reflect
the original investment, net of any distributions, by these minority
shareholders in Parlex Shanghai, along with their proportional share of the
earnings or losses of Parlex Shanghai.
10. Inventories
-----------
Inventories of raw materials are stated at the lower of cost, first-in,
first-out or market. Work in process and finished goods are valued as a
percentage of completed cost, not in excess of net realizable value. Work
in process and finished goods inventory associated with programs cancelled
by customers are fully reserved for as obsolete. Reductions in obsolescence
reserves are recognized when realized. Inventories, net of reserves,
consisted of:
September 29, 2002 June 30, 2002
------------------ -------------
Raw materials $ 7,754,032 $ 7,240,945
Work in process 7,412,673 7,382,378
Finished goods 2,409,955 2,965,266
------------------------------
Total $17,576,660 $17,588,589
==============================
11. Revenue Recognition Policy
--------------------------
Revenue on product sales is recognized when persuasive evidence of an
agreement exists, the price is fixed and determinable, delivery has
occurred and there is reasonable assurance of collection of the sales
proceeds. The Company generally obtains written purchase authorizations
from its customers for a specified amount of product, at a specified price
and considers delivery to have occurred at the time of shipment. License
fees and royalty income are recognized when earned.
12. Accrued Liabilities - Facility Exit Costs
-----------------------------------------
In June 2002, the Company committed to a plan to consolidate and relocate
certain of its manufacturing operations. The Company accrued $755,000 for
lease costs, $625,000 for the abandonment of leasehold improvements, and
$100,000 for a lease termination penalty, all of which were reported (as
cost of sales) in its consolidated statement of operations. No amounts have
been paid as of September 29, 2002. The lease agreement, for which certain
costs have accrued under this plan, expires in 2004.
10
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The Management's Discussion and Analysis of Financial Condition and Results
of Operations should be read in conjunction with the financial information
included in this Quarterly Report on Form 10-Q and with "Factors That May
Affect Future Results" set forth on page 17. The following discussion
contains forward-looking statements that involve risks and uncertainties.
Our actual results could differ materially from the results contemplated by
these forward-looking statements as a result of many factors, including
those discussed below and elsewhere in this Quarterly Report on Form 10-Q.
Our significant accounting policies are more fully described in Note 2 to
our consolidated financial statements in our Annual Report on Form 10-K for
the year ended June 30, 2002, and in Part IV, Item 14 "Exhibits, Financial
Statement Schedule and Reports on Form 8-K". However, certain of our
accounting policies are particularly important to the portrayal of our
financial position and results of operations and require the application of
significant judgement by our management which subjects them to an inherent
degree of uncertainty. In applying our accounting policies, our management
uses its best judgement to determine the appropriate assumptions to be used
in the determination of certain estimates. Those estimates are based on our
historical experience, terms of existing contracts, our observance of
trends in the industry, information provided by our customers, information
available from other outside sources, and on various other factors that we
believe to be appropriate under the circumstances. We believe that the
critical accounting policies discussed below involve more complex
management judgement due to the sensitivity of the methods, assumptions and
estimates necessary in determining the related asset, liability, revenue
and expense amounts.
Critical Accounting Policies
- ----------------------------
The preparation of consolidated financial statements requires that we make
estimates and judgements that affect the reported amounts of assets,
liabilities, revenues and expenses, and related disclosures. On an ongoing
basis, we evaluate our estimates, including those related to bad debts,
inventories, property, plant and equipment, intangible assets, income taxes,
and other accrued expenses. We base our estimates on historical experience
and on various other assumptions that are believed to be reasonable under the
circumstances, the results of which form the basis for making judgements
about the carrying values of assets and liabilities that are not readily
apparent from other sources. Actual results will differ from these estimates
under different assumptions or conditions.
Revenue recognition and accounts receivable. We recognize revenue when
persuasive evidence of an agreement exists, the price is fixed and
determinable, delivery has occurred and there is reasonable assurance of
collection of the sales proceeds. We generally obtain written purchase
authorizations from our customers for a specified amount of product, at a
specified price and consider delivery to have occurred at the time of
shipment. License fees and royalty income are recognized when earned. We
have demonstrated the ability to make reasonable and reliable estimates of
product returns in accordance with SFAS No. 48 and of allowances for
doubtful accounts based on significant historical experience. We maintain
allowances for doubtful accounts for estimated losses resulting from the
inability of our customers to make required payments. If the financial
condition of our customers were to deteriorate, resulting in an impairment
of their ability to make payments, additional allowances may be required.
Inventories. We value our inventory at the lower of the actual cost to
purchase and/or manufacture the inventory or the current estimated market
value of the inventory. We regularly review our inventory and record a
provision for excess or obsolete inventory based primarily on our estimate
of expected future product demand. Our estimates of future product demand
may differ from actual demand and, as such our estimate of the provision
required for excess and obsolete inventory may increase, which we would
record in the period such determination was made. Reductions in inventory
reserves are recognized when realized.
11
Income Taxes. We determine if our deferred tax assets and liabilities are
realizable on an ongoing basis by assessing our valuation allowance and by
adjusting the amount of such allowance, as necessary. In the determination
of the valuation allowance, we have considered future taxable income and
the feasibility of tax planning initiatives. Should we determine that it is
more likely than not that we will realize certain of our deferred tax
assets for which, we previously provided a valuation allowance, an
adjustment would be required to reduce the existing valuation allowance.
Conversely, if we determine that we would not be able to realize our
recorded net deferred tax asset, an adjustment to increase the valuation
allowance would be charged to our results of operations in the period such
conclusion was reached. In addition, we operate within multiple taxing
jurisdictions and are subject to audit in these jurisdictions. These audits
can involve complex issues, which may require an extended period of time
for resolution. Although we believe that adequate consideration has been
made for such issues, there is the possibility that the ultimate resolution
of such issues could have an adverse effect on the results of our
operations and additional charges to reserves for deferred tax assets would
be necessary.
Overview
- --------
We are a leading supplier of flexible interconnects principally for sale to
the automotive, telecommunications and networking, diversified electronics,
aerospace and computer markets. We believe that our development of
innovative materials and processes provides us with a competitive advantage
in the markets in which we compete. During the past three fiscal years, we
have invested approximately $24.8 million in property and equipment and
approximately $17.3 million in research and development to develop
materials and enhance our manufacturing processes. We believe that these
expenditures will help us to meet customer demand for our products, and
enable us to continue to be a technological leader in the flexible
interconnect industry. Our research and development expenses are included
in our cost of products sold.
We formed a Chinese joint venture, Parlex Shanghai, in 1995 to better serve
our customers that have production facilities in Asia and to more cost
effectively manufacture products for worldwide distribution. On October 22,
2001, we purchased the 40% share of Parlex Shanghai held by one of our
joint venture partners, Jinling, increasing our equity interest in Parlex
Shanghai to 90.1%. Parlex Shanghai's results of operations, cash flows and
financial position are included in our consolidated financial statements.
We are in the process of transferring the production of our automotive
related products utilizing our PalFlex(R) technology from our Methuen,
Massachusetts facility to Parlex Interconnect, a wholly owned subsidiary of
Parlex Asia Pacific Limited, which is located in China.
12
Results of Operations
- ---------------------
The following table sets forth, for the periods indicated, selected items
in our statements of operations as a percentage of total revenue. You
should read the table and the discussion below in conjunction with our
Consolidated Financial Statements and the Notes thereto.
Three Months Ended
September 29, 2002 September 30, 2001
------------------ ------------------
Total revenues 100.0 % 100.0 %
Cost of products sold 95.3 % 97.4 %
----------------------------
Gross profit 4.7 % 2.6 %
Selling, general and administrative expenses 13.5 % 16.2 %
----------------------------
Operating loss (8.8)% (13.6)%
Loss from operations before benefit from
income taxes and minority interest (9.8)% (14.0)%
----------------------------
Net loss (6.4)% (5.4)%
===========================
Three Months Ended September 29, 2002 Compared to Three Months Ended
- --------------------------------------------------------------------
September 30, 2001
- ------------------
Total Revenues. Our total revenues were $21.7 million for the three months
ended September 29, 2002 compared to $21.6 million for the three months
ended September 30, 2001.
Revenues were flat when compared to the same period last year. However,
revenues from foreign operations were 35% of total revenues for the three
months ending September 29, 2002 compared to 23% of total revenues for the
comparable period of the prior year. The growth in our foreign sourced
revenue is a result of our efforts to transfer manufacturing processes from
our domestic operations to our lower cost international manufacturing
locations. Revenues remained strong in the appliance market with growth in
both the laundry and dishwasher segments. Growth also occurred in our broad
based computer business with significant revenues recorded from sales of
flexible interconnects for desktops and printers. However, continued price
erosion in the automotive market and further declines in telecommunications
revenues offset increases.
Cost of Products Sold. Cost of products sold were $20.7 million, or 95% of
total revenues, for the three months ended September 29, 2002, compared to
$21.1 million, or 97% of total revenues for the comparable period in the
prior year. Margins for the three months ended September 29, 2002 were
adversely impacted by approximately $225,000 in severance costs associated
with work force reductions.
Our Methuen, Massachusetts operation continued to experience low capacity
utilization and correspondingly, significant unfavorable manufacturing
variances. To improve utilization in fiscal 2003, we decided in fiscal 2002
to relocate our Salem, New Hampshire laminated cable operations to Methuen.
We expect this move to be complete by January 1, 2003. The costs associated
with the closing of our Salem, New Hampshire facility were recorded in
fiscal 2002.
13
During the past year, we have made a significant investment to improve our
margins through the transfer of labor intensive manufacturing operations to
more cost-effective locations. Even though the transfer of manufacturing
operations is costly, this investment is core to our long-term strategy for
cost effective manufacturing. Although these cost reduction measures are
expected to improve gross margins, a return to profitability is predicated
upon operational performance, a more favorable product mix, and increased
sales.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses were $2.9 million, or 14% of total revenues, for
the three months ended September 29, 2002, and $3.5 million or 16% of total
revenues for the same period in the prior year representing a decrease of
$583,000, or 17%. Continued cost controls are primarily responsible for the
reduction in costs. Headcount decreases through work force reductions and
attrition have resulted in reduced spending at the corporate level. Tight
cash flow management has resulted in the elimination of all non-core
consulting expenses and non-essential outside services. All discretionary
expenses continue to be held to a minimum.
Other (Expense) Income, Interest Expense, and Benefit from Income Taxes.
Other income was ($20,000) for the three months ended September 29, 2002,
compared to $102,000 for the three months ended September 30, 2001. Other
income for the period ended September 29, 2002 consisted primarily of
currency exchange losses for our foreign operations compared to $117,000 of
interest earned on our short-term investments during the period ending
September 30, 2001 when we had marketable securities of $3.3 million.
Interest expense was $204,000 for the three months ended September 29,
2002, compared to $194,000 for the comparable period in the prior year.
Higher borrowings offset by lower interest rates for the three months
ending September 29, 2002 compared to the three months ended September 30,
2001 resulted in an increase in interest expense. The outstanding balances
on our long-term debt, including current maturities, were $17.4 million and
$9.8 million at the quarter ended September 29, 2002 and September 30,
2001, respectively. Interest rates varied from 4.03% to 5.841% and 5.16% to
7.6875% for the three months ended September 29, 2002 and September 30,
2001, respectively.
Our loss before benefit from income taxes and for the minority interest in
our Chinese joint venture, Parlex Shanghai, was $2.1 million for the three
months ended September 29, 2002, compared to a loss of $3.0 million for the
comparable period in the prior year. We include Parlex Shanghai's results
of operations, cash flows and financial position in our consolidated
financial statements.
Our effective tax rate was approximately (34%) in the three months ended
September 29, 2002 and (49%) for the comparable period in the prior year.
Income taxes are recorded for this interim period based upon an estimated
annual effective tax rate. Our effective tax rate is impacted by the
proportion of our estimated annual income being earned in domestic versus
foreign tax jurisdictions, the generation of tax credits and changes in our
valuation allowance. Accordingly, changes to our estimated annual effective
tax rate are recorded in the period of that change. We perform an ongoing
evaluation of the realizability of our net deferred tax assets. We have
concluded that it is more likely than not that we will realize the benefits
of our net deferred tax assets.
Liquidity and Capital Resources
- -------------------------------
As of September 29, 2002, we had approximately $1.6 million in cash and
cash equivalents.
Net cash used by operations during the three months ended September 29,
2002 was $1.7 million. Operating losses of $1.4 million after adjustment
for minority interest, depreciation and amortization, generated $195,000 of
operating cash. This was offset by $1.9 million used for our working
capital requirements including payment of $1.1 million of accounts payables
and accrued liabilities. In October 2002 we received income tax refunds of
$1.5 million.
14
Net cash used by investing activities was $345,000 for the three months
ended September 29, 2002. These funds were used to purchase capital
equipment and other assets. As of September 29, 2002, we have an additional
$1.0 million of capital equipment financed under our accounts payable. We
have implemented plans to control our capital expenditures in order to
increase revenue opportunities, enhance cash flows and maintain compliance
with restrictive covenants under our Credit Agreement. Cash provided by
financing activities was $1.8 million for the three months ended September
29, 2002 which represents the net borrowings and repayments on our bank
debt. The bank borrowings include $3.1 million from Parlex Interconnect's
$5.0 million Hong Kong bank loan and payments of $1.2 million to retire their
two local short-term bank notes.
In June 2002, our subsidiary, Parlex Interconnect, executed a $5,000,000 Loan
Agreement (the "Loan Agreement") with CITIC Ka Wah Bank Limited, a Hong Kong
bank. Proceeds received under the Loan Agreement are to be used exclusively
for financing land, building, plant and machinery and other working capital
requirements and to repay Parlex Interconnect's two local short-term bank
notes. Borrowings under the Loan Agreement accrue interest at a fixed rate
equal to LIBOR plus a margin of 2.2%. Interest is payable at the end of each
interest period which varies from one to six months. As a condition of the
approval of this Loan Agreement, we and our subsidiary, Parlex Asia Pacific
Ltd., have provided a guarantee of the payment of this loan. The Loan
Agreement contains a cross default provision that would permit the lender to
accelerate the repayment of Parlex Interconnect's obligation under the Loan
Agreement in the event of our default on other financing arrangements. We
were not in violation of the cross default provision as of September 29,
2002. Amounts borrowed under the Loan Agreement are payable in four
installments of $500,000, $500,000, $1,000,000 and $3,000,000 beginning in
February 2004 with the final payment due February 2005. As of September 29,
2002, total borrowings were $3.1 million. These borrowings were used to
repay local short-term bank notes of $1.2 million and fund equipment and
working capital requirements.
On September 27, 2002 (updated as of October 31, 2002), we executed the Third
Amendment to our Loan Agreement (the "Credit Agreement") (originally dated
March 1, 2000). The Credit Agreement provided our bank with a secured
interest in all of our assets including a first mortgage on our Methuen,
Massachusetts facility. Total availability for borrowings under the Credit
Agreement was reduced to $14,000,000 at September 30, 2002 and will be
reduced to $12,000,000 by March 31, 2003. We have classified as current those
borrowings under the Credit Agreement that exceed $12,000,000. At September
29, 2002, approximately $110,000 is classified as current. The borrowing base
was amended so as to be calculated as 80% of eligible accounts receivable
plus 70% of the appraised value of the Methuen, Massachusetts facility, less
amounts outstanding through letters of credit. No further advances of
principal will be made under this Credit Agreement after December 30, 2003.
At our discretion, borrowings under the Credit Agreement accrue interest at
either a variable rate equal to the bank's prime rate (4.75% at September 29,
2002) or a fixed rate equal to LIBOR plus a margin that varies from 1.5% to
2.25%. As of September 29, 2002 we have, as provided for under our Credit
Agreement, converted $11.0 million of our Credit Agreement borrowings into
four LIBOR contracts with maturities of three months. The LIBOR plus margin
for these contracts varies between 4.03% and 4.0775%. Interest on the LIBOR
contracts is payable at the end of each LIBOR term. The Credit Agreement
carries an annual commitment fee of 1/4% to 1/2% on the average daily-unused
portion of the bank's commitment. Interest is payable monthly. The Credit
Agreement allows us to issue letters of credit, which reduce our availability
for borrowings under the Credit Agreement, and a $100,000 letter of credit is
outstanding at September 29, 2002. The Credit Agreement permits us to pay
cash dividends to the extent that such payment would not cause us to violate
the aforementioned covenants. The Credit Agreement has certain restrictive
covenants related to current ratio, tangible net worth, total liabilities to
tangible net worth, debt service coverage to EBITDA, and income, EBITDA and
capital expenditure targets. As of September 29, 2002, we were not in
compliance with the restrictive covenants related to minimum EBITDA. We have
subsequently received a waiver of our covenant violation and are in
compliance with all other financial covenants.
Throughout fiscal 2002 and into fiscal 2003, we took a series of steps to
reduce operating expenses and to restructure operations, which consisted
primarily of reductions in workforce and consolidating manufacturing
operations. We continue to implement plans to control operating expenses,
inventory levels, and capital
15
expenditures as well as plans to manage accounts payable and accounts
receivable to enhance cash flows and maintain compliance with the
restrictive covenants under the Credit Agreement. Our plan includes the
following actions: 1) consolidation of some of our manufacturing
facilities, including the closing of the Salem, New Hampshire facility
during fiscal 2003; 2) the transfer of certain manufacturing processes from
our domestic operations to our lower cost international manufacturing
operations, particularly those in the People's Republic of China; 3) expand
our products in the home appliance, laptop computer, and radio
identification frequency and smart card markets; and 4) the continued
monitoring and reduction of selling, general and administrative expenses.
Furthermore, we are exploring alternative financing arrangements to
partially replace or supplement our financing arrangements to provide us
with longer-term financing to support our current working capital needs.
We believe that our cash on hand and cash expected to be generated during
fiscal 2003 will be sufficient to enable us to meet our financing and
operating obligations for the foreseeable future. If we require alternative
external financing to repay or refinance our existing financing obligations
or fund our working capital requirements, we believe that we will be able
to obtain new external financing. However, there can be no assurance that
we will be successful in obtaining such new external financing.
Recent Adoption of Accounting Pronouncements
- --------------------------------------------
On July 1, 2002 we adopted SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets" ("SFAS No. 144"). SFAS No. 144 supercedes
SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of, " and the accounting and reporting
provisions of APB Opinion No. 30, "Reporting the Results of Operations-
Reporting the Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and Transactions".
SFAS No. 144 specifies accounting for long-lived assets to be disposed of
by sale, and broadens the presentation of discontinued operations to
include more disposal transactions than were included under the previous
standards.
On July 1, 2002 the Company adopted SFAS No. 145 "Rescission of FASB
Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and
Technical Corrections" ("SFAS No. 145"). This statement amends, among
others, the classification on the statement of operations for gains and
losses from the extinguishment of debt. Currently such gains and losses are
reported as extraordinary items, however, the adoption of SFAS No. 145 may
require the classification of the gains and losses from the extinguishment
of debt within income or loss from continuing operations unless the
transactions meet the criteria for extraordinary treatment as infrequent
and unusual as described in APB Opinion No. 30, "Reporting the Results of
Operations, Reporting the Effects of Disposal of a Segment of a Business,
and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions".
The adoption of SFAS Nos. 144 and 145 did not have a material effect on our
financial statements.
Future Adoption of Accounting Pronouncements
- --------------------------------------------
In June 2002, the FASB issued SFAS No. 146 "Accounting for Costs Associated
with Exit or Disposal Activities" ("SFAS No. 146"). This statement
supersedes Emerging Issues Task Force ("EITF") No. 94-3, "Liability
Recognition for Certain Employee Termination Benefits and Other Costs to
Exit an Activity". Under this statement, a liability for a cost associated
with a disposal or exit activity is recognized at fair value when the
liability is incurred rather than at the date of an entity's commitment to
an exit plan as required under EITF 94-3. The provisions of this statement
are effective for exit or disposal activities that are initiated after
December 31, 2002, with early adoption permitted.
We are currently evaluating the impact resulting from the adoption of SFAS
No. 146 on our consolidated financial position and results of operations,
but do not expect a material impact.
16
Factors That May Affect Future Results
- --------------------------------------
Our prospects are subject to certain uncertainties and risks. This Quarterly
Report on Form 10-Q contains certain "forward-looking statements" as defined
under the federal securities laws. Our future results may differ materially
from the current results and actual results could differ materially from
those projected in the forward-looking statements as a result of certain risk
factors, including but not limited to those set forth below, other one-time
events and other important factors disclosed previously and from time to time
in our other filings with the Securities and Exchange Commission.
Our business could continue to be materially adversely affected as a result
of general economic and market conditions.
We are subject to the effects of general global economic and market
conditions. Our operating results have been materially adversely affected as
a result of recent unfavorable economic conditions and reduced electronics
industry spending. If economic and market conditions do not improve, our
business, results of operations or financial condition could continue to be
materially adversely affected.
Our debt instrument contains restrictive covenants that could adversely
affect our business by limiting our flexibility.
Our amended and restated credit agreement imposes restrictions that
affects, among other things, our ability to incur debt, pay dividends, sell
assets, create liens, make capital expenditures and investments, merge or
consolidate, enter into transactions with affiliates, and otherwise enter
into certain transactions outside the ordinary course of business. Our
amended and restated credit agreement also requires us to maintain
specified financial ratios and meet certain financial tests. Our ability to
continue to comply with these covenants and restrictions may be affected by
events beyond our control. A breach of any of these covenants or
restrictions would result in an event of default under our amended and
restated credit agreement. Upon the occurrence of a breach, the lender
under our amended and restated credit agreement could elect to declare all
amounts borrowed thereunder, together with accrued interest, to be due and
payable, foreclose on the assets securing our amended and restated credit
agreement and/or cease to provide additional revolving loans or letters of
credit, which could have a material adverse effect on us.
If we cannot maintain compliance with certain financial covenants of our
existing credit agreements, our outstanding debt may be callable.
Our ability to maintain compliance with the financial covenants of our
existing credit agreements is dependent upon our ability to achieve certain
operating results. Failure to achieve those operating results may constitute
an event of default under the terms of our credit agreements which may allow
the lenders to accelerate repayment of all or portions of our outstanding
debt.
If we cannot obtain additional financing when needed, we may not be able to
expand our operations and invest adequately in research and development,
which could cause us to lose customers and market share.
The development and manufacturing of flexible interconnects is capital
intensive. To remain competitive, we must continue to make significant
expenditures for capital equipment, expansion of operations and research and
development. We expect that substantial capital will be required to expand
our manufacturing capacity and fund working capital for anticipated growth.
We may need to raise additional funds either through borrowings or further
equity financings. We may not be able to raise additional capital on
reasonable terms, or at all. If we cannot raise the required funds when
needed, we may not be able to satisfy the demands of existing and prospective
customers and may lose revenue and market share.
17
Our operating results fluctuate and may fail to satisfy the expectations of
public market analysts and investors, causing our stock price to decline.
Our operating results have fluctuated significantly in the past and we expect
our results to continue to fluctuate in the future. Our results may fluctuate
due to a variety of factors, including the timing and volume of orders from
customers, the timing of introductions of and market acceptance of new
products, changes in prices of raw materials, variations in production yields
and general economic trends. It is possible that in some future periods our
results of operations may not meet or exceed the expectations of public
market analysts and investors. If this occurs, the price of our common stock
is likely to decline.
Our quarterly results depend upon a small number of large orders received in
each quarter, so the loss of any single large order could harm quarterly
results and cause our stock price to drop.
A substantial portion of our sales in any given quarter depends on obtaining
a small number of large orders for products to be manufactured and shipped in
the same quarter in which the orders are received. Although we attempt to
monitor our customers' needs, we often have limited knowledge of the
magnitude or timing of future orders. It is difficult for us to reduce
spending on short notice on operating expenses such as fixed manufacturing
costs, development costs and ongoing customer service. As a result, a
reduction in orders, or even the loss of a single large order, for products
to be shipped in any given quarter could have a material adverse effect on
our quarterly operating results. This, in turn, could cause our stock price
to decline.
Because we sell a substantial portion of our products to a limited number of
customers, the loss of a significant customer or a substantial reduction in
orders by any significant customer would harm our operating results.
Historically we have sold a substantial portion of our products to a limited
number of customers. Our 20 largest customers based on sales accounted for
approximately 60% of our total revenue in fiscal 2000, 55% in fiscal 2001,
and 44% in fiscal 2002.
We expect that a limited number of customers will continue to account for a
high percentage of our total revenues in the foreseeable future. As a result,
the loss of a significant customer or a substantial reduction in orders by
any significant customer would cause our revenues to decline and have an
adverse effect on our operating results.
If we are unable to respond effectively to the evolving technological
requirements of customers, our products may not be able to satisfy the
demands of existing and prospective customers and we may lose revenues and
market share.
The market for our products is characterized by rapidly changing technology
and continuing process development. The future success of our business will
depend in large part upon our ability to maintain and enhance our
technological capabilities. We will need to develop and market products that
meet changing customer needs, and successfully anticipate or respond to
technological changes on a cost-effective and timely basis. There can be no
assurance that the materials and processes that we are currently developing
will result in commercially viable technological processes, or that there
will be commercial applications for these technologies. In addition, we may
not be able to make the capital investments required to develop, acquire or
implement new technologies and equipment that are necessary to remain
competitive. It is also possible that the flexible interconnect industry
could encounter competition from new technologies in the future that render
flexible interconnect technology less competitive or obsolete. If we fail to
keep pace with technological change, our products may become less competitive
or obsolete and we may lose customers and revenues.
A significant downturn in any of the sectors in which we sell products could
result in a revenue shortfall.
18
We sell our flexible interconnect products principally to the automotive,
telecommunications and networking, diversified electronics, aerospace, home
appliance and computer markets. Although we serve a variety of markets to
avoid a dependency on any one sector, a significant downturn in any of these
market sectors could cause a material reduction in our revenues, which could
be difficult to replace.
We rely on a limited number of suppliers, and any interruption in our primary
sources of supply, or any significant increase in the prices of materials,
chemicals or components, would have an adverse effect on our short-term
operating results.
We purchase the bulk of our raw materials, process chemicals and components
from a limited number of outside sources. In fiscal 2002, we purchased
approximately 23% of our materials from DuPont and Northfield Acquisition Co.
doing business as Sheldahl, our two largest suppliers. We operate under tight
manufacturing cycles with a limited inventory of raw materials. As a result,
although there are alternative sources of the materials that we purchase from
our existing suppliers, any unanticipated interruption in supply from DuPont
or Sheldahl, or any significant increase in the prices of materials,
chemicals or components, would have an adverse effect on our short-term
operating results.
If we acquire additional businesses, these acquisitions will involve
financial uncertainties as well as personnel contingencies, and may be risky
and difficult to integrate.
We have completed two acquisitions in the past four years and we may acquire
additional businesses that could complement or expand our business. Acquired
businesses may not generate the revenues or profits that we expect and we may
find that they have unknown or undisclosed liabilities. In addition, if we do
make acquisitions, we will face a number of other risks and challenges,
including: the difficulty of integrating dissimilar operations or assets;
potential loss of key employees of the acquired business; assimilation of new
employees who may not contribute or perform at the levels we expect;
diversion of management time and resources; and additional costs associated
with obtaining any necessary financing.
These factors could hamper our ability to receive the anticipated benefits
from any acquisitions we may pursue, and could adversely affect our financial
condition and our stock price.
The additional expenses and risks related to our existing international
operations, as well as any expansion of our global operations, could
adversely affect our business.
We own a 90.1% equity interest in our joint venture in China, Parlex
Shanghai, which manufactures and sells flexible circuits. We also operate a
facility in Mexico for use in the finishing, assembly and testing of flexible
circuit and laminated cable products. We have a facility in the United
Kingdom where we manufacture polymer thick film flexible circuits and polymer
thick film flexible circuits with surface mounted components and intend to
introduce production of laminated cable within the next year. We will
continue to explore appropriate expansion opportunities as demand for our
products increases.
Manufacturing and sales operations outside the United States carry a number
of risks inherent in international operations, including: imposition of
governmental controls, regulatory standards and compulsory licensure
requirements; compliance with a wide variety of foreign and U.S. import and
export laws; currency fluctuations; unexpected changes in trade restrictions,
tariffs and barriers; political and economic instability; longer payment
cycles typically associated with foreign sales; difficulties in administering
business overseas; labor union issues; and potentially adverse tax
consequences.
International expansion may require significant management attention, which
could negatively affect our business. We may also incur significant costs to
expand our existing international operations or enter new international
markets, which could increase operating costs and reduce our profitability.
19
We face significant competition, which could make it difficult for us to
acquire and retain customers.
We face competition worldwide in the flexible interconnect market from a
number of foreign and domestic providers, as well as from alternative
technologies such as rigid printed circuits. Many of our competitors are
larger than we are and have greater financial resources. New competitors
could also enter our markets. Our competitors may be able to duplicate our
strategies, or they may develop enhancements to, or future generations of,
products that could offer price or performance features that are superior to
our products. Competitive pressures could also necessitate price reductions,
which could adversely affect our operating results. In addition, some of our
competitors are based in foreign countries and have cost structures and
prices based on foreign currencies. Accordingly, currency fluctuations could
cause our dollar-priced products to be less competitive than our competitors'
products priced in other currencies.
We will need to make a continued high level of investment in product research
and development and research, sales and marketing and ongoing customer
service and support in order to remain competitive. We may not have
sufficient resources to be able to make these investments. Moreover, we may
not be able to make the technological advances necessary to maintain our
competitive position in the flexible interconnect market.
If we are unable to attract, retain and motivate key personnel, we may not be
able to develop, sell and support our products and our business may lack
strategic direction.
We are dependent upon key members of our management team. In addition, our
future success will depend in large part upon our continuing ability to
attract, retain and motivate highly qualified managerial, technical and sales
personnel. Competition for such personnel is intense, and there can be no
assurance that we will be successful in hiring or retaining such personnel.
We currently maintain a key person life insurance policy in the amount of
$1.0 million on each of Herbert W. Pollack and Peter J. Murphy. If we lose
the service of Messrs. Pollack or Murphy or one or more other key
individuals, or are unable to attract additional qualified members of the
management team, our ability to implement our business strategy may be
impaired. If we are unable to attract, retain and motivate qualified
technical and sales personnel, we may not be able to develop, sell and
support our products.
If we are unable to protect our intellectual property, our competitive
position could be harmed and our revenues could be adversely affected.
We rely on a combination of patent and trade secret laws and non-disclosure
and other contractual agreements to protect our proprietary rights. We own 22
patents issued and have 21 patent applications pending in the United States
and have several corresponding foreign patent applications pending. Our
existing patents may not effectively protect our intellectual property and
could be challenged by third parties, and our future patent applications, if
any, may not be approved. In addition, other parties may independently
develop similar or competing technologies. Competitors may attempt to copy
aspects of our products or to obtain and use information that we regard as
proprietary. If we fail to adequately protect our proprietary rights, our
competitors could offer similar products using materials, processes or
technologies developed by us, potentially harming our competitive position
and our revenues.
If we become involved in a protracted intellectual property dispute, or one
with a significant damages award or which requires us to cease selling some
of our products, we could be subject to significant liability and the time
and attention of our management could be diverted.
Although no claims have been asserted against us for infringement of the
proprietary rights of others, we may be subject to a claim of infringement in
the future. An intellectual property lawsuit against us, if successful, could
subject us to significant liability for damages and could invalidate our
proprietary rights. A successful lawsuit against us could also force us to
cease selling, or redesign, products that incorporate the infringed
intellectual property. We could also be required to obtain a license from the
holder of the intellectual property to use the infringed technology. We might
not be able to obtain a license on reasonable terms, or at all. If we fail to
develop a non-infringing
20
technology on a timely basis or to license the infringed technology on
acceptable terms, our revenues could decline and our expenses could increase.
We may, in the future, be required to initiate claims or litigation against
third parties for infringement of our proprietary rights or to determine the
scope and validity of our proprietary rights or the proprietary rights of
competitors. Litigation with respect to patents and other intellectual
property matters could result in substantial costs and divert our
management's attention from other aspects of our business.
Market prices of technology companies have been highly volatile, and our
stock price may be volatile as well.
From time to time the U.S. stock market has experienced significant price and
trading volume fluctuations, and the market prices for the common stock of
technology companies in particular have been extremely volatile. In the past,
broad market fluctuations that have affected the stock price of technology
companies have at times been unrelated or disproportionate to the operating
performance of these companies. Any significant fluctuations in the future
might result in a material decline in the market price of our common stock.
Following periods of volatility in the market price of a particular company's
securities, securities class action litigation has often been brought against
that company. If we were to become involved in this type of litigation, we
could incur substantial costs and diversion of management's attention, which
could harm our business, financial condition and operating results.
The costs of complying with existing or future environmental regulations, and
of curing any violations of these regulations, could increase our operating
expenses and reduce our profitability.
We are subject to a variety of environmental laws relating to the storage,
discharge, handling, emission, generation, manufacture, use and disposal of
chemicals, solid and hazardous waste and other toxic and hazardous materials
used to manufacture, or resulting from the process of manufacturing, our
products. We cannot predict the nature, scope or effect of future regulatory
requirements to which our operations might be subject or the manner in which
existing or future laws will be administered or interpreted. Future
regulations could be applied to materials, product or activities that have
not been subject to regulation previously. The costs of complying with new or
more stringent regulations, or with more vigorous enforcement of these
regulations, could be significant.
Environmental laws require us to maintain and comply with a number of
permits, authorizations and approvals and to maintain and update training
programs and safety data regarding materials used in our processes.
Violations of these requirements could result in financial penalties and
other enforcement actions. We could also be required to halt one or more
portions of our operations until a violation is cured. Although we attempt to
operate in compliance with these environmental laws, we may not succeed in
this effort at all times. The costs of curing violations or resolving
enforcement actions that might be initiated by government authorities could
be substantial.
Our business could be materially adversely affected by the recent terrorist
attacks.
Since we sell our flexible interconnect products principally to the
automotive, telecommunications and networking, diversified electronics, home
appliances, aerospace and computer markets, our future success depends upon
the viability of both the United States and global economy. As a result of
the recent terrorist attacks and the economic uncertainty created by these
events, there exist a significant number of risks which may cause a downturn
in any of our market sectors thereby creating a material reduction in our
revenues which could be difficult to replace. There can be no assurance that
a continuation of the terrorist attacks will not have a material adverse
effect upon our business, results of operations or financial condition.
Undetected problems in our products could directly impair our financial
results.
21
If flaws in design, production, assembly or testing of our products were to
occur by us or our suppliers, we could experience a rate of failure in our
products that would result in substantial repair or replacement costs and
potential damage to our reputation. Continued improvement in manufacturing
capabilities, control of material and manufacturing quality and costs and
product testing, are critical factors in our future growth. There can be no
assurance that our efforts to monitor, develop, modify and implement
appropriate test and manufacturing processes for our products will be
sufficient to permit us to avoid a rate of failure in our products that
results in substantial delays in shipment, significant repair or replacement
costs or potential damage to our reputation, any of which could have a
material adverse effect on our business, results of operations or financial
condition.
We may have exposure to additional income tax liabilities.
As a multinational corporation, we are subject to income taxes in both the
United States and various foreign jurisdictions. Our domestic and
international tax liabilities are subject to the allocation of revenues and
expenses in different jurisdictions and the timing of recognizing revenues
and expenses. Additionally, the amount of income taxes paid is subject to our
interpretation of applicable tax laws in the jurisdictions in which we file.
From time to time, we are subject to income tax audits. While we believe we
have complied with all applicable income tax laws, there can be no assurance
that a governing tax authority will not have a different interpretation of
the law and assess us with additional taxes. Should we be assessed with
additional taxes, there could be a material adverse affect on our results of
operations or financial condition.
Item 3. Quantitative and Qualitative Disclosures of Market Risk
- ---------------------------------------------------------------
The following discussion about our market risk disclosures involves
forward-looking statements. Actual results could differ materially from
those projected in the forward-looking statements. We are exposed to market
risk related to changes in U.S. and foreign interest rates and fluctuations
in exchange rates. We do not use derivative financial instruments for
speculative or trading purposes.
Our $14 million Credit Agreement bears interest, at our choice, at our
lender's prime rate or LIBOR plus a margin that varies from 1.5% to 2.25%.
Both the prime rate and LIBOR are affected by changes in market interest
rates. As of September 29, 2002, we have an outstanding balance under our
Credit Agreement of approximately $12.1 million. We have the option to
repay borrowings at anytime without penalty, other than breakage fees in
the case of prepayment of LIBOR borrowings, and therefore believe that our
market risk is not material. A 10% change in interest rates would impact
interest expense by approximately $40,000. We do not consider this to be
material or significant.
The remainder of our long-term debt bears interest at fixed rates and is
therefore not subject to market risk.
Sales of Parlex Shanghai, Poly-Flex Circuits Limited and Parlex (Europe)
Limited are typically denominated in the local currency, which is also each
company's functional currency. This creates exposure to changes in exchange
rates. The changes in the Chinese/U.S. and U.K./U.S. exchange rates may
positively or negatively impact our sales, gross margins and retained
earnings. Based upon the current volume of transactions in China and the
United Kingdom and the stable nature of the exchange rate between China and
the U.S. and the United Kingdom and the U.S., we do not believe the market
risk is material. We do not engage in regular hedging activities to minimize
the impact of foreign currency fluctuations. Parlex Shanghai and Parlex
Interconnect had combined net assets as of September 29, 2002, of
approximately $12.1 million. Poly-Flex Circuits Limited and Parlex (Europe)
Limited had combined net assets as of September 29, 2002 of approximately
$5.2 million. We believe that a 10% change in exchange rates may have a
significant impact upon Parlex Shanghai's or Poly-Flex Circuits Limited's
financial position, results of operation or outstanding debt. As of September
29, 2002, Parlex Shanghai and Parlex Interconnect had combined outstanding
debt of $5.2 million. As of September 29, 2002, Poly-Flex Circuits Limited
had no outstanding debt.
22
Item 4. Controls and Procedures
- -------------------------------
Our Chief Executive Officer and the Chief Financial Officer (our principal
executive officer and principal financial officer, respectively) have
concluded, based on their evaluation as of a date within 90 days prior to
the date of the filing of this Report (Evaluation Date), that our
disclosure controls and procedures are effective to ensure that information
required to be disclosed by us in the reports filed or submitted by it
under the Securities Exchange Act of 1934, as amended, is recorded,
processed, summarized and reported within the time periods specified in the
SEC's rules and forms, and include controls and procedures designed to
ensure that information required to be disclosed by us in such reports is
accumulated and communicated to our management, including the Chief
Executive Officer and Chief Financial Officer, as appropriate to allow
timely decisions regarding required disclosure.
There were no significant changes in our internal controls or in other
factors that could significantly affect these controls subsequent to the
date of such evaluation.
23
PART II - OTHER INFORMATION
---------------------------
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits - See Exhibit Index to this report.
(b) Reports on Form 8-K - We did not file a report on Form
8-K during the quarter ended September 29, 2002.
24
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
PARLEX CORPORATION
------------------
By: /s/ Peter J. Murphy
--------------------------
Peter J. Murphy
President and Chief Executive Officer
By: /s/ Jonathan R. Kosheff
--------------------------
Jonathan R. Kosheff
Treasurer & CFO
(Principal Accounting and Financial
Officer)
November 12, 2002
-----------------
Date
25
CERTIFICATION
I, Peter J. Murphy, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Parlex
Corporation;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant
and have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this quarterly report (the "Evaluation
Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed,
based on our most recent evaluation, to the registrant's auditors and
the audit committee of registrant's board of directors (or persons
performing the equivalent functions):
a. all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
b. any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in
this quarterly report whether there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses.
Date: November 13, 2002
* /s/ Peter J. Murphy
- ---------------------
Peter J. Murphy, Chief Executive Officer
(Principal Executive Officer)
26
CERTIFICATION
I, Jonathan R. Kosheff, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Parlex
Corporation;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant
and have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this quarterly report (the "Evaluation
Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed,
based on our most recent evaluation, to the registrant's auditors and
the audit committee of registrant's board of directors (or persons
performing the equivalent functions):
a. all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
b. any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in
this quarterly report whether there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses.
Date: November 13, 2002
* /s/ Jonathan R. Kosheff
- -------------------------
Jonathan R. Kosheff, Chief Financial Officer
(Principal Financial Officer)
27
EXHIBIT INDEX
EXHIBIT DESCRIPTION OF EXHIBIT
----------------------
10-Y Employment Agreement between Parlex Corporation and Peter J.
Murphy dated September, 2002; (filed herewith)
10-Z Third Amendment dated as of October 31, 2002 to Loan Agreement
dated as of March 1, 2000 between Parlex Corporation and Fleet
National Bank (filed as Exhibit 10-S to Form 8-K dated March
15, 2000 and filed with the Securities and Exchange Commission
on March 15, 2000.
Exhibit 99.1 Certification Pursuant To 18 U.S.C.
Section 1350, As Adopted Pursuant To
Section 906 Of The Sarbanes-Oxley Act of 2002
Exhibit 99.2 Certification Pursuant To 18 U.S.C.
Section 1350, As Adopted Pursuant To
Section 906 Of The Sarbanes-Oxley Act of 2002
28