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U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934.
For the quarterly period ended March 31, 2003
or
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934.
Commission File Number: 0-15938
Farmstead Telephone Group, Inc.
(Exact name of registrant as specified in its charter)
Delaware 06-1205743
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
22 Prestige Park Circle
East Hartford, CT 06108
(Address of principal executive offices) (Zip Code)
(860) 610-6000
(Registrant's telephone number, including area code)
___________________________________________________________________________
(Former Name, Former Address and Former Fiscal Year,
if Changed Since Last Report)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange Act
of 1934 during the proceeding 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 whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
As of April 30, 2003, the registrant had 3,305,288 shares of its $0.001 par
value Common Stock outstanding.
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
FARMSTEAD TELEPHONE GROUP, INC.
CONSOLIDATED BALANCE SHEETS
(In thousands) March 31, December 31,
2003 2002
- ------------------------------------------------------------------------------
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 718 $ 994
Accounts receivable, less allowance for
doubtful accounts 2,923 1,869
Inventories, net (Note 2) 2,217 2,309
Other current assets (Note 8) 365 69
- --------------------------------------------------------------------------
Total Current Assets 6,223 5,241
- --------------------------------------------------------------------------
Property and equipment, net 369 394
Other assets 277 238
- --------------------------------------------------------------------------
Total Assets $ 6,869 $ 5,873
==========================================================================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 1,980 $ 1,111
Debt maturing within one year (Note 3) 373 -
Accrued expenses and other current liabilities
(Note 4) 260 385
- --------------------------------------------------------------------------
Total Current Liabilities 2,613 1,496
- --------------------------------------------------------------------------
Other liabilities 372 348
- --------------------------------------------------------------------------
Total Liabilities 2,985 1,844
- --------------------------------------------------------------------------
Commitments and Contingencies (Note 8)
Stockholders' Equity:
Preferred stock, $0.001 par value; 2,000,000
shares authorized; - no shares issued and
outstanding - -
Common stock, $0.001 par value; 30,000,000
shares authorized; 3,298,958 shares issued
and outstanding at March 31, 2003
and December 31, 2002 3 3
Additional paid-in capital 12,313 12,313
Accumulated deficit (8,432) (8,287)
- --------------------------------------------------------------------------
Total Stockholders' Equity 3,884 4,029
- --------------------------------------------------------------------------
Total Liabilities and Stockholders' Equity $ 6,869 $ 5,873
==========================================================================
See accompanying notes to consolidated financial statements.
2
FARMSTEAD TELEPHONE GROUP, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three Months Ended
March 31,
---------------------
(In thousands, except per share amounts) 2003 2002
- ---------------------------------------------------------------------------
Revenues $ 4,439 $ 6,027
Cost of revenues 3,303 4,721
- --------------------------------------------------------------------------
Gross profit 1,136 1,306
Selling, general and administrative expenses 1,275 1,660
- --------------------------------------------------------------------------
Operating loss (139) (354)
Interest expense (2) (12)
Other income 2 71
- --------------------------------------------------------------------------
Loss before income taxes (139) (295)
Provision for income taxes 6 6
- --------------------------------------------------------------------------
Net loss $ (145) $ (301)
==========================================================================
Basic and diluted net loss per common share $ (.04) $ (.09)
Weighted average common shares outstanding:
Basic and diluted 3,299 3,281
==========================================================================
See accompanying notes to consolidated financial statements.
3
FARMSTEAD TELEPHONE GROUP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Three Months Ended
March 31,
----------------------
(In thousands) 2003 2002
- ------------------------------------------------------------------------------
Cash flows from operating activities:
Net loss $ (145) $ (301)
Adjustments to reconcile net loss to net cash
flows used in operating activities:
Provision for doubtful accounts receivable 9 9
Provision for losses on inventories - 21
Depreciation and amortization 45 62
Value of compensatory stock options issued - 11
Changes in operating assets and liabilities:
Increase in accounts receivable (1,063) (210)
Decrease in inventories 92 284
Increase in other assets (335) (125)
Increase (decrease) in accounts payable 869 (911)
Decrease in accrued expenses and other current
liabilities (125) (100)
Increase in other liabilities 24 21
- -----------------------------------------------------------------------------
Net cash used in operating activities (629) (1,239)
- -----------------------------------------------------------------------------
Cash flows from investing activities:
Purchases of property and equipment (20) (25)
Acquisition of InfiNet - (153)
- -----------------------------------------------------------------------------
Net cash used in investing activities (20) (178)
- -----------------------------------------------------------------------------
Cash flows from financing activities:
Borrowings under revolving credit line 373 1,268
Repayments of capital lease obligation - (28)
Issuance of common stock - 10
Capital distribution to minority interest partner - (128)
- -----------------------------------------------------------------------------
Net cash provided by financing activities 373 1,122
- -----------------------------------------------------------------------------
Net decrease in cash and cash equivalents (276) (295)
Cash and cash equivalents at beginning of period 994 1,479
- -----------------------------------------------------------------------------
Cash and cash equivalents at end of period $ 718 $ 1,184
=============================================================================
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest $ 1 $ 9
Income taxes 4 9
See accompanying notes to consolidated financial statements.
4
FARMSTEAD TELEPHONE GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
The consolidated financial statements presented herein consist of the
accounts of Farmstead Telephone Group, Inc. and its wholly owned
subsidiaries, FTG Venture Corporation (inactive) and InfiNet Systems, LLC
(inactive). The accompanying consolidated financial statements as of and
for the three months ended March 31, 2003 and 2002 have been prepared in
accordance with accounting principles generally accepted in the United
States of America and the rules and regulations of the Securities and
Exchange Commission for interim financial statements. In the Company's
opinion, the unaudited interim consolidated financial statements and
accompanying notes reflect all adjustments, consisting of normal and
recurring adjustments, that are necessary for a fair statement of results
for the interim periods presented. The results of operations for the
interim periods are not necessarily indicative of the results to be
experienced for the entire fiscal year. Certain prior year amounts on the
Consolidated Statements of Cash Flows have been reclassified to conform to
the current interim period presentation. This Form 10-Q should be read in
conjunction with the consolidated financial statements and notes thereto
included in the Company's Annual Report on Form 10-K for the year ended
December 31, 2002.
2. INVENTORIES, NET
Inventories are stated at the lower of cost or market, and are valued
on an average cost basis. Inventories, net consisted of the following (in
thousands):
March 31, December 31,
2003 2002
- ---------------------------------------------------------------------------
Finished goods and spare parts $2,232 $2,362
Work in process (a) 460 456
Rental equipment 74 53
- -----------------------------------------------------------------------
2,766 2,871
Less: reserves for excess and obsolete
inventories (549) (562)
- -----------------------------------------------------------------------
Inventories, net $2,217 $2,309
=======================================================================
(a) Work in process inventories consist of used equipment requiring
repair or refurbishing.
3. DEBT MATURING WITHIN ONE YEAR
On February 19, 2003 the Company entered into a one-year, $1.5
million revolving loan agreement (the "BACC Agreement") with Business
Alliance Capital Corporation ("BACC"), replacing the Wachovia Loan
Agreement. Under the terms of the BACC Agreement, borrowings are advanced
at 75% of eligible accounts receivable, as defined (primarily receivables
that are less than 90 days old and, in the case of system sales, the
receivable does not become "eligible" until the system has been installed),
and at 25% of the value of eligible inventory, as defined (primarily
inventory that was purchased pursuant to a firm customer order), provided
that the amount advanced against eligible inventory shall not exceed
$200,000 or 30% of all outstanding advances under the BACC Agreement.
Interest is charged at the per annum rate of one and one-half percentage
points (1.5%) above the prime rate, but not less than 5.75%, subject to a
minimum interest charge based on an average daily loan balance of $250,000
regardless of the actual average loan balance. Under the BACC Agreement,
the Company is charged an annual facility fee of 1% of the facility
($15,000) and a monthly servicing fee equal to .25% of the average
outstanding loan balance, subject to a minimum average daily loan balance
of $250,000. As additional security to BACC, the Company issued a $300,000
standby letter of credit in favor of BACC, secured by cash, which can be
drawn upon, up to the amount of the Company's outstanding obligation to
BACC, ninety days after an event of default. The BACC Agreement restricts
the Company from the payment of dividends and limits capital expenditures
during the term of the agreement to $150,000, without the consent of BACC.
The BACC Agreement contains no specific financial covenants however, it
defines certain circumstances under which the agreement can be declared in
default and subject to termination, including among others if (i) there is
a material adverse change in the Company's business or financial condition;
(ii) an insolvency proceeding is commenced; (iii) the Company defaults on
any of its material agreements with third parties; (iv) the Company fails
to comply with the terms, representations and conditions of the BACC
Agreement, and (v) there are material liens or attachments levied against
the Company's assets. In the event the BACC Agreement is terminated prior
to its expiration date, the Company shall pay a fee in an amount equal to
5% of the advance limit of $1.5 million if such termination occurs on or
prior to August 19, 2003; or 4% of the advance limit if such termination
occurs thereafter.
5
As of March 31, 2003, outstanding borrowings under the agreement
amounted to $373,000. The unused portion of the revolving credit facility
as of March 31, 2003 was approximately $1,127,000, of which approximately
$677,000 was available to borrow. The average and highest amounts
borrowed during the three months ended March 31, 2003 were approximately
$31,000 and $373,000, respectively. The Company was in compliance with the
provisions of its loan agreement as of March 31, 2003.
4. ACCRUED EXPENSES AND OTHER CURRENT LIABILITIES
Accrued expenses and other current liabilities consisted of the
following (in thousands):
March 31, December 31,
2003 2002
- ---------------------------------------------------------------------------
Salaries, commissions and benefits $144 $241
License fees 25 24
Other 91 120
- ----------------------------------------------------------------------
Accrued expenses and other current liabilities $260 $385
======================================================================
5. RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENTS
FASB INTERPRETATION NO. 45. In November 2002, the Financial
Accounting Standards Board issued Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others" ("FIN 45"). FIN 45 elaborates on the
existing disclosure requirements for most guarantees, including loan
guarantees such as standby letters of credit. It also requires that at the
time a company issues a guarantee, the company must recognize an initial
liability for the fair market value of the obligations it assumes under
that guarantee and must disclose that information in its interim and annual
financial statements. The initial recognition and measurement provisions of
FIN 45 apply on a prospective basis to guarantees issued or modified after
December 31, 2002. The Company adopted FIN 45 effective January 1, 2003.
The Company has no guarantees of the type contemplated by FIN 45 requiring
recognition of an initial liability on its books, however applicable
disclosures are reflected in Note 8 - Commitments and Contingencies.
6. STOCK OPTIONS
The Company applies the disclosure only provisions of Financial
Accounting Standards Board Statement ("SFAS") No. 123, "Accounting for
Stock-based Compensation" ("SFAS 123") and SFAS No. 148, "Accounting for
Stock-Based Compensation - Transition and Disclosure" ("SFAS 148") for
employee stock option awards. Had compensation cost for the Company's stock
option plan been determined in accordance with the fair value-based method
prescribed under SFAS 123, the Company's net loss and basic and diluted net
loss per share would have approximated the pro forma amounts indicated
below (dollars in thousands except per share amounts):
March 31, December 31,
2003 2002
- ---------------------------------------------------------------------------
Net loss, as reported $(145) $(301)
Add: Total stock-based employee compensation
expense determined under fair value based
method for all awards, net of related
tax effects (23) (44)
- ----------------------------------------------------------------------
Pro forma net loss $(168) $(345)
Pro forma net loss per share:
Basic and diluted $(.05) $(.11)
======================================================================
The fair value of stock options used to compute pro forma net loss
and net loss per share disclosures was estimated on the date of grant using
the Black-Scholes option-pricing model with the following weighted average
assumptions: dividend yield of 0% for 2003 and 2002; expected volatility of
113% for 2003 and 2002; average risk-free interest rate of 2.78% for 2003
and 3.68% for 2002; and an expected option holding period of 5.6 years for
2003 and 2002.
6
7. MAJOR CUSTOMERS AND CONCENTRATIONS OF CREDIT RISK
During the three months ended March 31, 2003, one customer accounted
for 11% of revenues. During the three months ended March 31, 2002, one
customer accounted for 10% of revenues. The Company extends credit to its
customers in the normal course of business. As of March 31, 2003, one
customer accounted for 17% of accounts receivable, and another customer
accounted for 14% of accounts receivable. As of December 31, 2002, one
customer accounted for 11% of accounts receivable. Although the Company is
subject to changes in economic conditions which may impact its overall
credit risk, the Company sells to a wide variety of customers, and does not
focus on any particular industry sector. The Company establishes its
allowance for doubtful accounts based upon factors surrounding the credit
risk of specific customers, historical trends and experience, and other
information available to it. Management considers the Company's credit
risk to be satisfactorily diversified and believes that its $58,000
allowance for doubtful accounts is adequate to absorb estimated losses as
of March 31, 2003.
8. COMMITMENTS AND CONTINGENCIES
Letters of Credit. In connection with the Company's revolving credit
agreement with BACC, the Company issued a $300,000 irrevocable standby
letter of credit ("LC") in favor of BACC. The LC can be drawn upon by BACC
to satisfy any outstanding obligations under the Company's loan agreement
ninety days after an event of default. The LC is secured by cash, and
since this cash is restricted from use by the Company during the term of
the LC, it has been classified under other current assets in the
consolidated balance sheet at March 31, 2003.
Surety Bonds. The Company on occasion is required by its customers
to acquire various types of surety bonds, such as bid and performance
bonds, which are irrevocable undertakings by the Company to make payment in
the event the Company fails to perform its obligations under a specified
sales contract. Such bonds have to date had a duration of less than one
year. As of March 31, 2003, there were two bonds outstanding, with a
maximum potential payment of approximately $159,000. Historically, no
surety bonds have been drawn down upon and there is no future expectation
that any existing bond will be drawn upon.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
The discussions set forth below and elsewhere in this Annual Report
on Form 10-Q contain certain statements, based on current expectations,
estimates, forecasts and projections about the industry in which we operate
and management's beliefs and assumptions, which are not historical facts
and are considered forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995 ("the Act"). Forward-
looking statements include, without limitation, any statement that may
predict, forecast, indicate, or imply future results, performance, or
achievements, and may contain the words "believe," "will be," "will
continue," "will likely result," "anticipates," "seeks to," "estimates,"
"expects," "intends," "plans," "predicts," "projects," and similar words,
expressions or phrases of similar meaning. Our actual results could differ
materially from those projected in the forward-looking statements as a
result of certain risks, uncertainties and assumptions, which are difficult
to predict. Many of these risks and uncertainties are described under the
heading "Risk, Uncertainties and Other Factors That May Affect Future
Results" below. All forward-looking statements included in this document
are based upon information available to us on the date hereof. We
undertake no obligation to update publicly any forward-looking statements,
whether as a result of new information, future events or otherwise. In
addition, other written or oral statements made or incorporated by
reference from time to time by us or our representatives in this report,
other reports, filings with the Securities and Exchange Commission ("SEC"),
press releases, conferences, or otherwise may be forward-looking statements
within the meaning of the Act.
RESULTS OF OPERATIONS
OVERVIEW. For the three months ended March 31, 2003, we recorded a
net loss of $145,000 or $.04 per share on revenues of $4,439,000. This
compares with a net loss of $301,000 or $.09 per share on revenues of
$6,027,000 recorded for the three months ended March 31, 2002. The
operating results for 2003 reflect the continuing uncertain economic
conditions in the United States and its negative impact on corporate
spending for telecommunications products. Although we are encouraged by an
increase in sales quotation activities, and a 24% increase in first quarter
2003 revenues over fourth quarter 2002 revenues, we are not able to predict
when corporate spending restraints will lessen. We have therefore remained
in a somewhat defensive posture, attempting to offset the financial impact
of a reduced revenue stream by reducing, more tightly
7
controlling, and deferring where possible, operating costs and expenses.
Our overall strategy has been to lower our breakeven point and return to
profitability, through a combination of operating expense reductions, and
product purchasing initiatives to improve gross profit margins, and to
generate cash to help sustain our working capital needs by better managing
assets, principally accounts receivable and inventories.
For 2003, our business focus will revolve around (1) strategies to
increase sales volume by increasing our sales force so as to provide more
coverage of existing and potential customers located within the market
areas which we serve, (2) broadening our product offerings, (3) continuing
efforts to lower our breakeven point by focusing on gross margin
improvements through improved product purchasing and outsourcing where
possible, and (4) bringing improved scalability to our business through
reducing fixed expenses where possible, so that our operating expenses are
more variable and can more quickly adjust to changes in sales volume.
Should there be continued softness in the market conditions in the
telecommunications equipment industry, however, we may experience continued
decreases in revenues and deterioration in operating results. Additional
information on major components of our operating performance for the three
months ended March 31, 2003 follows below.
REVENUES
Three Months Ended March 31,
------------------------------------
(Dollars in thousands) 2003 % 2002 %
---------------------------------------------------------------------
End-user equipment sales $3,644 82 $4,802 80
Equipment sales to resellers 405 9 883 15
Services 390 9 342 5
---------------------------------------------------------------------
Consolidated revenues $4,439 100 $6,027 100
=====================================================================
Equipment Sales
---------------
During the three months ended March 31, 2003, end-user equipment
sales revenues, consisting of sales of both new and refurbished parts and
systems sales, decreased by $1,158,000 or 24% from the comparable 2002
period. Additionally, equipment sales to resellers ("wholesale sales")
decreased by $478,000 or 54% from the comparable 2002 period. Management
attributes these sales declines primarily to continuing softness in the
U.S. economy and its negative impact on corporate spending for
telecommunications products, including both parts and systems. These
conditions have, in turn, led to increased competition and downward
pressure on sales prices. Another factor affecting sales levels has been
the transitioning of our sales force. During 2003, we have continued our
strategy of diversifying our product offerings by marketing the sale of
complete telecommunications systems to our customer base. This is a growth
strategy, designed to augment our long-established aftermarket parts
business that continues as our primary source of revenues. This strategy
necessitated the hiring of sales, service and technical design personnel
experienced in systems and applications design and sales. As a result, we
have increased our focus on selling new systems and system upgrades, which
coupled with the turnover of certain experienced parts salespersons over
the last two years, has contributed to the reduction in aftermarket parts
sales. Management remains committed to the continuing growth of its
systems business and is currently implementing strategies to increase its
parts business, including the development of on-line ordering processes and
other direct-marketing approaches. To date, orders received electronically
from customers through our on-line catalogs have not been significant. We
are, however, still in the early stages of the full implementation and
marketing of this process.
Significant portions of our sales revenues are derived from "Business
Partner" relationships with Avaya. For the past several years, Avaya has
been pursuing a strategy of more fully utilizing its dealer channel as a
revenue source. Through our relationships with various Avaya sales
personnel, we are often referred business by Avaya. Such referrals
however, have been subject to fluctuation as Avaya's direct sales business
itself fluctuates. We believe we are well positioned to benefit from our
Avaya relationships as telecommunication equipment spending improves.
Services
--------
During the three months ended March 31, 2003, service revenues
increased by $48,000 or 14% from the comparable 2002 period. The increase
was attributable to higher equipment rentals and customer equipment repair
and refurbishing revenues. Installation revenues were flat as compared
with 2002.
Management continues to remain cautious about the telecommunications
product marketplace going forward. We still expect that our future sales
revenues will improve in all of our current sales channels when corporate
spending for telecommunication products improves, although no assurances
can be given as to the timing of when this will occur.
8
COST OF REVENUES AND GROSS PROFIT. Total cost of revenues for the
three months ended March 31, 2003 was $3,303,000, a decrease of $1,418,000
or 30% from the comparable 2002 period. The gross profit for the three
months ended March 31, 2003 was $1,136,000, a decrease of $170,000 or 13%
from the comparable 2002 period. As a percentage of revenue, the gross
profit margin was 26% for 2003, as compared to 22% for the comparable 2002
period.
Our gross profit margins are dependent upon a variety of factors
including (1) product mix - gross margins can vary significantly among
parts sales, system sales and our various service offerings. The parts
business, for example, involves hundreds of parts that generate
significantly varying gross profit margins depending upon their
availability, competition, and demand conditions in the marketplace; (2)
customer mix - we sell parts to both end-users and to other equipment
resellers. In our partnering relationship with Avaya, certain customers
receive pre-negotiated discounts from Avaya which could lower our gross
margins as we do business with these customers; (3) the level and amount of
discounts and purchase rebates available to us from Avaya and its master
distributors and (4) the level of overhead costs in relation to sales
volume. Overhead costs consist primarily of materials handling,
purchasing, and facility costs. The combined effect of all of these
factors will result in varying gross profit margins from period to period.
The improvement in gross profit margin during the three months ended
March 31, 2003 was primarily attributable to the following: (1) product mix
- - a higher percentage of revenues was obtained from end-user sales than the
prior year period, which generate higher profit margins than wholesale
sales or services; (2) end-user equipment revenues showed improved margins
over the prior year period due in part to improved product purchasing costs
and to reduced license fees paid to Avaya on parts sales; and (3) lower
overhead costs per sales dollar. As a result of employee downsizing and
increased outsourcing of equipment repair and refurbishing operations, by
March 31, 2003 the Company had reduced its materials acquisition, handling
and refurbishing headcount by 60% from a year ago.
Management believes that there will continue to be pressure on gross
profit margins until market conditions and product demand in the
telecommunications industry improves, and we currently expect fiscal year
2003 profit margins to be similar to those earned in 2002.
SELLING, GENERAL AND ADMINISTRATIVE ("SG&A") EXPENSES. SG&A expenses
for the three months ended March 31, 2003 were $1,275,000, a decrease of
$385,00 or 23% from the comparable 2002 period. SG&A expenses, however,
were 29% of revenues in 2003 as compared to 28% of revenues in 2002, which
is attributable to the "fixed" nature of a significant portion of our SG&A.
In response to lower sales levels, we have been more tightly controlling
expenses, deferring expenditures where possible, and have reduced our SG&A
headcount by 26% from a year ago. As a result of this reduced headcount,
coupled with lower sales commissions due to lower sales levels,
compensation expense was $305,000 lower than the prior year period. In
addition, we incurred lower marketing, consulting, office and other
employment related expenses than in the prior year period as a result of
cost-reduction initiatives, and recorded lower depreciation expense. We
will continue to monitor SG&A expenses and where possible, make certain
expenses more variable in relation to sales volume.
INTEREST EXPENSE AND OTHER INCOME. Interest expense for the three
months ended March 31, 2003 was $2,000, compared with $12,000 for the
comparable 2002 period. The decrease in interest expense was attributable
to lower average borrowings. Other income for the three months ended March
31, 2003 was $2,000, compared with $71,000 for 2002. Other income for 2002
included $65,000 representing the fair value of common stock of Anthem,
Inc., which we received at no cost, as part of the conversion of Anthem
Insurance Companies, Inc. from a mutual insurance company to a stock
insurance company, with the balance consisting primarily of interest earned
on invested cash. Other income for the three months ended March 31, 2003
consisted of interest earned on invested cash.
PROVISION FOR INCOME TAXES. The provision for income taxes for the
three months ended March 31, 2003 and 2002 was $6,000, representing
estimated minimum state taxes in each period. We maintain a full valuation
allowance against our net deferred tax assets, which consist primarily of
net operating loss and capital loss carryforwards, and timing differences
between the book and tax treatment of inventory and other asset valuations.
Realization of these net deferred tax assets is dependent upon our ability
to generate future taxable income.
LIQUIDITY AND CAPITAL RESOURCES
Working capital, defined as current assets less current liabilities,
was $3,610,000 at March 31, 2003, a decrease of $135,000 or 4% from
$3,745,000 at December 31, 2002. The working capital ratio was 2.4 to 1 at
March 31, 2003, compared with 3.5 to 1 at December 31, 2002.
9
Operating activities used $629,000 during the three months ended
March 31, 2003. Net cash used by operating activities consisted of a net
loss of $145,000 adjusted for non-cash items of $54,000, and net cash used
by changes in operating assets and liabilities of $538,000. Net cash
generated by changes in operating assets and liabilities was primarily
attributable to an increase in accounts receivable, partly offset by an
increase in accounts payable, attributable to a higher than average level
of sales during the month of March, and the reclassification of restricted
cash (Note 8) to other current assets.
Investing activities used $20,000 during the three months ended March
31, 2003 to fund capital expenditures.
Financing activities generated $373,000 during the three months ended
March 31, 2003, attributable to working capital borrowings under our
revolving credit facility with BACC. As of March 31, 2003, outstanding
borrowings amounted to $373,000. The unused portion of the revolving
credit facility as of March 31, 2003 was approximately $1,127,000, of which
approximately $677,000 was available to borrow. The average and highest
amounts borrowed during the three months ended March 31, 2003 were
approximately $31,000 and $373,000, respectively. We were in compliance
with the provisions of our loan agreement as of March 31, 2003.
We are dependent upon generating positive cash flow from operations
and upon our revolving credit facility to provide cash to satisfy working
capital requirements. No assurances can be given that we will have
sufficient cash resources to finance future growth. Historically, our
working capital borrowings have increased during periods of revenue growth.
This is because our cash receipts cycle is longer than our cash
disbursements cycle. As our revenues from systems sales increases, as
management expects, the cash receipts cycle may lengthen, unless we can
consistently negotiate progress payments under our systems sales contracts.
Under the current lending agreement, we are prohibited from borrowing
against receivables generated by systems sales until the systems are
installed. Under these circumstances, we could run out of availability
and/or require a higher credit line. In order to obtain additional
financing, we may first need to demonstrate improved operating performance.
Since 2002, we have been engaged in a project to develop an e-
business platform, designed to enable our customers to transact business
with us electronically. Management currently estimates that it could spend
approximately $100,000 on this project during 2003. There are currently no
other material capital expenditures planned.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The discussion contained in the "Critical Accounting Policies and
Estimates" section of our Annual Report on Form 10-K for the year ended
December 31, 2002 is still considered current and is hereby incorporated
into this Quarterly Report on Form 10-Q.
RISKS, UNCERTAINTIES AND OTHER FACTORS THAT MAY AFFECT FUTURE RESULTS
The discussion included in the "Risks, Uncertainties and Other
Factors That May Affect Future Results" section included in our Annual
Report on Form 10-K for the year ended December 31, 2002 is still
considered current and applicable, and is hereby incorporated into this
Quarterly Report on Form 10-Q.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Market risks that have the potential to affect our earnings and cash
flows result primarily from changes in interest rates. Our cash
equivalents, which consist of an investment in a money market fund
consisting of high quality short term instruments, principally US
government and agency issues and commercial paper, are subject to
fluctuating interest rates. A 10 percent change in such current interest
rates would not have a material effect on our results of operations or cash
flow.
We are also exposed to market risk from changes in the interest rate
related to our revolving credit facility, which is based upon the prime
rate charged by a designated bank. Assuming an average borrowing level of
$250,000 (which amount represented the assumed minimum loan balance for
purposes of interest charges under the BACC credit facility) each 1
percentage point increase in the bank's prime rate would result in $2,500
of additional annual interest charges. Under current policies, we do not
use interest rate derivative instruments to manage exposure to interest
rate changes.
ITEM 4. CONTROLS AND PROCEDURES.
(a) Evaluation of Disclosure Controls and Procedures. Our Chief
Executive Officer and Chief Financial Officer have evaluated the
effectiveness of our disclosure controls and procedures (as such term is
defined in Rules 13a-14(c) and 15d-
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14(c) under the Securities Exchange Act of 1934, as amended (the "Exchange
Act")) as of a date within 90 days prior to the filing date of this
Quarterly Report on Form 10-Q. Based on such evaluation, such officers have
concluded that our disclosure controls and procedures are effective in
alerting them on a timely basis to material information relating to our
Company required to be included in our reports filed or submitted under the
Exchange Act.
(b) Changes in Internal Controls. There were no significant changes in our
internal controls or in other factors that could significantly affect such
controls subsequent to the date of their most recent evaluation.
PART II. OTHER INFORMATION.
ITEMS 1-5 have been omitted because there is nothing to report or they are
inapplicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K:
(a) Exhibits:
The following documents are filed as Exhibits to this Quarterly
Report on Form 10-Q:
99.1 Certification of George J. Taylor, Jr., CEO, pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
99.2 Certification of Robert G. LaVigne, CFO, pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K: No reports on Form 8-K were filed during
the quarter for which this report is filed.
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.
FARMSTEAD TELEPHONE GROUP, INC.
Dated: May 9, 2003 /s/ George J. Taylor, Jr.
------------------------------------
George J. Taylor, Jr.
Chief Executive Officer, President
Dated: May 9, 2003 /s/ Robert G. LaVigne
------------------------------------
Robert G. LaVigne
Executive Vice President, Chief
Financial Officer
CERTIFICATIONS
I, George J. Taylor, Jr., Chairman, Chief Executive Officer and
President, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Farmstead
Telephone Group, Inc. ("Registrant");
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances under
which such statements were made, not misleading with respect to the period
covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the Registrant as of, and for, the periods presented in this
quarterly report;
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4. The Registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the Registrant and we have:
a) Designed such disclosure controls and procedures to ensure that
material information relating to the Registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) Evaluated the effectiveness of the Registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) Presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The Registrant's other certifying officers and I have disclosed,
based on our most recent evaluation, to the Registrant's auditors and the
audit committee of Registrant's board of directors (or persons performing
the equivalent function):
a) All significant deficiencies in the design or operation of internal
controls which could adversely affect the Registrant's ability to record,
process, summarize and report financial data and have identified for the
Registrant's auditors any material weaknesses in internal controls; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the Registrant's internal
controls; and
6. The Registrant's other certifying officers and I have indicated in
this quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant deficiencies
and material weaknesses.
Dated: May 9, 2003
/s/ George J. Taylor, Jr.
- -----------------------------------
George J. Taylor, Jr.
Chairman, Chief Executive Officer and President
I, Robert G. LaVigne, Executive Vice President and Chief Financial Officer,
certify that:
1. I have reviewed this quarterly report on Form 10-Q of Farmstead
Telephone Group, Inc. ("Registrant");
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances under
which such statements were made, not misleading with respect to the period
covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the Registrant as of, and for, the periods presented in this
quarterly report;
4. The Registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the Registrant and we have:
a) Designed such disclosure controls and procedures to ensure that
material information relating to the Registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) Evaluated the effectiveness of the Registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
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c) Presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The Registrant's other certifying officers and I have disclosed,
based on our most recent evaluation, to the Registrant's auditors and the
audit committee of Registrant's board of directors (or persons performing
the equivalent function):
a) All significant deficiencies in the design or operation of internal
controls which could adversely affect the Registrant's ability to record,
process, summarize and report financial data and have identified for the
Registrant's auditors any material weaknesses in internal controls; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the Registrant's internal
controls; and
6. The Registrant's other certifying officers and I have indicated in
this quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant deficiencies
and material weaknesses.
Dated: May 9, 2003
/s/ Robert G. LaVigne
- -----------------------------------
Robert G. LaVigne
Executive Vice President, Chief Financial Officer
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