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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 March 30, 2003
[ ] 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
(Address of Principal Executive Offices) (Zip Code)
978-685-4341
(Registrant's Telephone Number, Including Area Code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
The number of shares outstanding of the registrant's common stock as of May
12, 2003 was 6,312,216 shares.
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PARLEX CORPORATION
------------------
INDEX
-----
Part I - Financial Information Page
----
Item 1. Unaudited Condensed Consolidated Financial Statements:
Consolidated Balance Sheets - March 30, 2003 and
June 30, 2002 3
Consolidated Statements of Operations - For the Three
Months and Nine Months Ended March 30, 2003 and
March 31, 2002 4
Consolidated Statements of Cash Flows - For the
Nine Months Ended March 30, 2003 and March 31, 2002 5
Notes to Unaudited Condensed Consolidated Financial
Statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 13
Item 3. Quantitative and Qualitative Disclosures About Market Risk 27
Item 4. Controls and Procedures 27
Part II - Other Information 29
Item 3. Defaults Upon Senior Securities 29
Item 6. Exhibits and Reports on Form 8-K 29
Signatures 30
Certifications 31
Exhibit Index 33
2
PARLEX CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
- ----------------------------------------------------------------------------
ASSETS March 30, 2003 June 30, 2002
CURRENT ASSETS:
Cash and cash equivalents $ 1,292,009 $ 1,785,025
Accounts receivable - net 15,530,267 17,665,808
Inventories - net 15,762,026 17,588,589
Refundable income taxes 303,402 1,810,102
Deferred income taxes 313,109 3,595,659
Other current assets 1,780,443 2,030,210
------------ -------------
Total current assets 34,981,256 44,475,393
------------ -------------
PROPERTY, PLANT AND EQUIPMENT:
Land and land improvements 1,014,872 1,018,822
Buildings 21,495,851 22,209,273
Machinery and equipment 61,131,591 58,267,902
Leasehold improvements and other 6,311,657 7,499,054
Construction in progress 4,737,776 6,467,541
------------ -------------
Total 94,691,747 95,462,592
Less accumulated depreciation and
amortization (42,409,995) (39,480,757)
------------ -------------
Property, plant and equipment -
net 52,281,752 55,981,835
------------ -------------
INTANGIBLE ASSETS - NET 1,153,570 1,155,827
GOODWILL - NET 1,157,358 1,157,510
DEFERRED INCOME TAXES - 2,850,876
OTHER ASSETS 56,194 432,488
------------ -------------
TOTAL $ 89,630,130 $ 106,053,929
============ =============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current portion of long-term debt $ 17,180,331 $ 3,560,855
Accounts payable 12,450,997 13,729,201
Accrued liabilities 5,185,132 4,427,753
------------ -------------
Total current liabilities 34,816,460 21,717,809
------------ -------------
LONG-TERM DEBT - 12,000,000
------------ -------------
OTHER NONCURRENT LIABILITIES 1,342,290 1,764,795
------------ -------------
MINORITY INTEREST IN PARLEX SHANGHAI 395,961 430,204
------------ -------------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Common stock 652,221 651,321
Additional paid-in capital 60,948,905 60,897,275
Retained earnings (7,308,393) 9,911,794
Accumulated other comprehensive loss (179,689) (281,644)
Less treasury stock, at cost (1,037,625) (1,037,625)
------------ -------------
Total stockholders' equity 53,075,419 70,141,121
------------ -------------
TOTAL $ 89,630,130 $ 106,053,929
============ =============
See notes to unaudited condensed consolidated financial statements.
3
PARLEX CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
- ----------------------------------------------------------------------------------------------------------
Three Months Ended Nine Months Ended
March 30, 2003 March 31, 2002 March 30, 2003 March 31, 2002
-------------- -------------- -------------- --------------
REVENUES: $ 19,438,542 $ 21,278,286 $ 64,028,080 $ 63,598,256
COSTS AND EXPENSES:
Cost of products sold 21,224,242 21,285,005 63,934,553 63,175,513
Selling, general and
administrative expenses 3,886,742 3,252,309 10,480,675 10,170,700
------------ ------------ ------------ ------------
Total costs and expenses 25,110,984 24,537,314 74,415,228 73,346,213
------------ ------------ ------------ ------------
OPERATING LOSS (5,672,442) (3,259,028) (10,387,148) (9,747,957)
OTHER INCOME, Net 6,213 8,879 (42,601) 231,368
INTEREST EXPENSE (242,932) (145,755) (670,353) (455,417)
------------ ------------ ------------ ------------
LOSS FROM OPERATIONS BEFORE
INCOME TAXES AND MINORITY INTEREST (5,909,161) (3,395,904) (11,100,102) (9,972,006)
(PROVISION FOR) BENEFIT FROM
INCOME TAXES (20,522) 1,715,852 (6,154,329) 3,988,802
------------ ------------ ------------ ------------
LOSS BEFORE MINORITY INTEREST (5,929,683) (1,680,052) (17,254,431) (5,983,204)
MINORITY INTEREST 656 12,604 34,244 472,728
------------ ------------ ------------ ------------
NET LOSS $ (5,929,027) $ (1,667,448) $(17,220,187) $ (5,510,476)
============ ============ ============ ============
BASIC AND DILUTED LOSS PER SHARE $ (0.94) $ (0.26) $ (2.73) $ (0.87)
============ ============ ============ ============
WEIGHTED AVERAGE SHARES - BASIC
AND DILUTED 6,312,216 6,303,216 6,307,337 6,303,216
============ ============ ============ ============
See notes to unaudited condensed consolidated financial statements.
4
PARLEX CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
- ------------------------------------------------------------------------------------------------
Nine Months Ended
March 30, 2003 March 31, 2002
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Loss $(17,220,187) $ (5,510,476)
------------ ------------
Adjustments to reconcile net loss to net cash
(used in) provided by operating activities:
Depreciation and amortization of property, plant and
equipment and other assets 4,929,976 4,779,170
Loss on disposition of assets - net 624,037 -
Deferred income taxes 6,133,425 (3,731,541)
Minority interest (34,243) (472,863)
Changes in current assets and liabilities:
Accounts receivable - net 2,176,638 871,753
Inventories 1,854,550 (998,429)
Refundable taxes 1,506,700 1,753,601
Other assets 284,376 685,890
Accounts payable and accrued liabilities (949,583) 1,471,391
------------ ------------
Net cash used in operating activities (694,311) (1,151,504)
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Changes in other assets 326,762 -
Purchase of Poly-Flex subsidiary - 525,000
Acquisition of minority interest in Parlex Shanghai - (3,173,283)
Maturities of investments available for sale, net - 5,498,950
Additions to property, plant and equipment and other assets (1,813,991) (4,367,584)
------------ ------------
Net cash used in investing activities (1,487,229) (1,516,917)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Exercise of stock options 52,530 -
Proceeds from bank loans 16,782,789 21,121,583
Payment of bank loans (15,163,153) (20,247,411)
------------ ------------
Net cash provided by financing activities 1,672,166 874,172
------------ ------------
EFFECT OF EXCHANGE RATE CHANGES ON CASH 16,358 28,976
------------ ------------
NET DECREASE IN CASH AND CASH EQUIVALENTS (493,016) (1,765,273)
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 1,785,025 3,203,990
------------ ------------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 1,292,009 $ 1,438,717
============ ============
SUPPLEMENTARY DISCLOSURE OF NONCASH FINANCING AND
INVESTING ACTIVITIES:
Acquisition of minority interest in Parlex Shanghai $ - $ 1,356,964
============ ============
Property, plant, equipment and other asset purchases
financed under capital lease, long-term debt and
accounts payable $ 487,065 $ 495,320
============ ============
See notes to unaudited condensed consolidated financial statements.
5
PARLEX CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED 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 March 30, 2003 and the
results of operations and cash flows for the three months and nine months
ended March 30, 2003 and March 31, 2002. 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 nine months ended March 30, 2003, as shown in the consolidated
financial statements, the Company incurred net losses of $17,220,000 and
used $694,000 of cash in operations. The Company was out of compliance
with certain financial covenants of its revolving credit agreement with
Fleet Bank (the "Credit Agreement"). As a result, the outstanding balance
under the Credit Agreement is due upon demand. Accordingly, the Company
has classified as current all borrowings under the Credit Agreement. In
addition, the Company has classified as current the borrowings of its
subsidiary, Parlex (Shanghai) Interconnect Products Co., Ltd ("Parlex
Interconnect") under a loan agreement with a bank (the "Loan Agreement").
The Loan Agreement contains a cross default provision that would permit the
lender to accelerate the repayment obligation in the event of the Company's
default on other financing arrangements.
The Company has signed a Purchase and Sale Agreement with a third party to
execute a sale lease back ("Sale Lease Back Agreement") of its corporate
headquarters and principal U.S. manufacturing facility located in Methuen,
Massachusetts and its Cranston, Rhode Island manufacturing facility. Net
proceeds principally will be used to reduce borrowings under the Company's
Credit Agreement. The Company was unsuccessful in closing its sale lease
back transaction reported last quarter due to a series of complex tax
issues, which could not be resolved by the purchasing party. The Company
has received a commitment letter from a major domestic bank for a $10
million working capital line of credit subject to the satisfactory closing
of its Sale Lease Back Agreement. The Company expects to finalize its
re-financing activities in the quarter ending June 30, 2003.
Management continues to take a series of actions to reduce operating
expenses and to restructure operations, which to date have consisted
primarily of reductions in workforce and consolidating manufacturing
operations, including the closing of the Salem, New Hampshire facility
which was completed in December 2002. Moreover, management continues to
implement plans to further 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) transfer certain
manufacturing processes from its domestic operations to lower cost
international manufacturing locations, primarily those in the People's
Republic of China; 2) expand its products in the home appliance, military
and aerospace, computer and peripherals, and radio frequency identification
and smart card markets; and 3) reduce general and administrative expenses.
In December 2002, the Company successfully completed initial product
qualification on its new smart card production line in Suzhou, People's
Republic of China. The Company has invested in excess of $4 million in this
line over the past 18 months. The Company has successfully completed
transfer, installation and qualification of its proprietary PALFlex
technology to its Shanghai, People's Republic of China operations. Transfer
of certain
6
domestic PALFlex manufacturing was completed in the quarter ended March 30,
2003, while remaining domestic obligations were terminated. The Company
recorded charges to cost of products sold related to the shut down of these
operations, including inventory reserves and fixed asset impairments.
Domestic PALFlex production represented a significant portion of the
Company's quarterly losses over the past two years. Transfer to China of
this low cost, high volume production is critical to the Company's return to
profitability.
However, there can be no assurances that management will be able to
implement all of its plans and or execute the sale lease back and bank
financing transactions or that the ultimate execution of such plans and
transactions will achieve all of the desired results. In such event,
although the Company may be able to reduce operating costs further by
reducing headcount, closing additional facilities, or scaling back current
operations until financing becomes available on terms acceptable to the
Company, a modification to the auditor's report on the Company's June 30,
2003 financial statements could result.
2. Comprehensive Loss
------------------
Comprehensive loss for the three months and nine months ended March 30,
2003 and March 31, 2002 is as follows:
Three Months Ended Nine Months Ended
March 30, 2003 March 31, 2002 March 30, 2003 March 31, 2002
-------------- -------------- -------------- --------------
Net loss $(5,929,027) $(1,667,448) $(17,220,187) $(5,510,476)
Other comprehensive (loss) income:
Unrealized gain (loss) on short
term investments - - - (34,751)
Foreign currency translation
adjustments (87,566) (46,815) 101,955 115,501
----------- ----------- ------------ -----------
Total comprehensive loss $(6,016,593) $(1,714,263) $(17,118,232) $(5,429,726)
=========== =========== ============ ===========
At March 30, 2003, the Company's accumulated other comprehensive loss
pertains entirely to foreign currency translation adjustments.
3. Intangible Assets
-----------------
Intangible assets, as of March 30, 2003, are composed of the following:
Land Use
Rights Patents Total
-------- ------- -----
Cost $1,145,784 $ 58,560 $1,204,344
Accumulated amortization (28,620) (22,154) (50,774)
---------- -------- ----------
Intangible assets, net $1,117,164 $ 36,406 $1,153,570
========== ======== ==========
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 nine months ended March 30, 2003 was
$19,367. The estimated amortization expense for each of the fiscal years
subsequent to June 30, 2002 is as follows:
7
Amortization Expense
--------------------
For year ended June 30, 2003 $ 25,822
For year ended June 30, 2004 25,822
For year ended June 30, 2005 25,822
For year ended June 30, 2006 25,822
For year ended June 30, 2007 25,822
Thereafter 1,043,827
----------
$1,172,937
==========
4. Recent Adoption of Accounting Pronouncements
--------------------------------------------
On January 1, 2003, the Company adopted 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 Company adopted
this statement on January 1, 2003.
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 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 December 30, 2002, the Company adopted the disclosure provisions of SFAS
No. 148, "Accounting for Stock-Based Compensation -- Transition and
Disclosure, an amendment of FASB Statement No. 123." This Statement amends
FASB Statement No. 123, "Accounting for Stock-Based Compensation", to
provide alternative methods of transition for a voluntary change in the
fair value based method of accounting for stock-based employee
compensation. In addition, this Statement amends the disclosure
requirements of SFAS No. 123 to require prominent disclosures in both
annual and interim financial statements about the method of accounting for
stock-based employee compensation and the effect of the method used on
reported results.
8
The adoption of SFAS Nos. 144, 146 and 148 did not have a material
effect on the Company's financial statements.
5. Future Adoption of Accounting Pronouncements
--------------------------------------------
In November 2002, the FASB issued FASB Interpretation No. 45, "Guarantor's
Accounting and Disclosures Requirements for Guarantees, Including Indirect
Guarantees". This Interpretation elaborates on the disclosures to be made
by a guarantor in its interim and annual financial statements about its
obligations under certain guarantees that it has issued. It also clarifies
that a guarantor is required to recognize, at the inception of the
guarantee, a liability for the fair value of the obligation undertaken in
issuing the guarantee. The Interpretation does not prescribe a specific
approach for subsequently measuring the guarantor's recognized liability
over the term of the related guarantee. This Interpretation also
incorporates, without change, the guidance in FASB Interpretation No. 34,
Disclosure of Indirect Guarantees of Indebtness of Others, which is being
superseded. The initial recognition and measurement provisions of this
Interpretation are applicable on a prospective basis to guarantees issued
or modified after December 31, 2002, irrespective of the guarantor's fiscal
year-end. The disclosure requirements in this Interpretation are effective
for financial statements of interim or annual periods ending after December
15, 2002. At March 30, 2003, the Company has issued no guarantees that
qualify for disclosure in this interim financial statement.
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:
March 30, 2003 June 30, 2002
--------------- -------------
Revolving credit agreement $11,180,000 $12,160,000
Parlex Shanghai term notes 2,174,596 2,102,211
Parlex Interconnect term note 3,801,194 1,208,167
Capital lease obligations 24,541 90,477
----------- -----------
Total long-term debt 17,180,331 15,560,855
Less current portion 17,180,331 3,560,855
----------- -----------
Long-term debt - net $ - $12,000,000
=========== ===========
Revolving Credit Agreement - On 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 $13,000,000 on December 30, 2002 and $12,000,000 on March 31,
2003. 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
9
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. At March 30, 2003 the Company was out of compliance with certain
financial covenants contained in its revolving credit agreement with Fleet
Bank (the "Credit Agreement"). As a result, the outstanding balance under
the Credit Agreement is due upon demand. Accordingly, the Company has
classified as current all borrowings under the Credit Agreement.
Parlex Shanghai Term Notes - On February 25, 2003, Parlex Shanghai entered
into a short-term bank note bearing interest at 5.544%. Shanghai Jinling
Co., Ltd ("Jinling"), a former minority interest partner in Parlex
Shanghai, guarantees the short-term note. Amounts outstanding under this
six month short-term note total $845,000 and are included within the
current portion of long-term debt on the consolidated balance sheet for the
period ended March 30, 2003. The Company provides a cross guarantee to
Jinling for 100% of the term note. On March 7, 2003, Parlex Shanghai
entered into a short-term bank note, due February 25, 2004, bearing
interest at 5.841%. Amounts outstanding under this short-term note total
$1.3 million and are included within the current portion of long-term debt
on the consolidated balance sheet for the period ended March 30, 2003 based
upon its scheduled repayment terms.
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. 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 August 2005. As of March 30, 2003,
total borrowings were $3.8 million. These borrowings were used to repay
local short-term bank notes of $1.2 million and fund equipment purchases and
working capital requirements. 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 also 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 is in violation of the cross default provision as
of March 30, 2003. As a result, the Company has classified all borrowings
under the Loan Agreement as current.
The Company has signed a Purchase and Sale Agreement with a third party to
execute a sale lease back ("Sale Lease Back Agreement") of its corporate
headquarters and principal U.S. manufacturing facility located in Methuen,
Massachusetts and its Cranston, Rhode Island manufacturing facility. Net
proceeds principally will be used to reduce borrowings under the Company's
Credit Agreement. In addition, the Company has received a commitment
letter from a major domestic bank for a $10 million working capital line of
credit subject to the satisfactory closing of its Sale Lease Back
Agreement. This line of credit is principally secured by eligible accounts
receivable. The Company expects to finalize its re-financing activities in
the quarter ending June 30, 2003.
8. Income Taxes
------------
Income taxes are recorded for interim periods 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 any valuation allowance.
As a result of our recent history of operating losses, uncertain future
operating results, and the current non-compliance with certain of our debt
covenants requirements, we determined that it is more likely than not that
certain historic and current year income tax benefits will not be realized.
Consequently, no tax benefit associated with U.S. operating losses has been
recognized in the current quarter, moreover we have established a valuation
10
allowance against all of our remaining net U.S. deferred tax assets. Upon
a favorable change in the operations and financial condition of the Company
that results in management's determination that it is more likely than not
that all or a portion of the net deferred tax assets will be utilized, all
or a portion of the valuation allowance previously provided for would be
eliminated.
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
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 the minority
shareholder 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. Inventory reserves were
recorded in the current quarter associated with the closing of domestic
PALFlex manufacturing operations. Reductions in obsolescence reserves are
recognized when realized. Inventories, net of reserves, consisted of:
March 30, 2003 June 30, 2002
-------------- -------------
Raw materials $ 6,442,057 $ 7,240,945
Work in process 6,718,296 7,382,378
Finished goods 2,601,673 2,965,266
----------- -----------
Total $15,762,026 $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 $1,480,000
for lease costs, the abandonment of leasehold improvements, and for a lease
termination penalty, all of which were reported (as cost of sales) in its
consolidated statement of operations. The lease agreement, for which
certain costs have accrued under this plan, expires in 2007. However, the
Company has the right, pursuant to the lease, to terminate the lease
effective as of June 30, 2004. Costs for the quarter ended March 30, 2003
and cumulative to date are as follows:
11
Exit Costs Costs Adjusted
Accrued Incurred Balance
---------- -------- --------
Lease costs $ 755,000 $(108,072) $646,928
Leasehold improvements 625,000 (573,767) 51,233
Lease termination penalty 100,000 0 100,000
---------- --------- --------
Total $1,480,000 $(681,839) $798,161
========== ========= ========
13. Related Party Transactions
--------------------------
During the nine month periods ended March 30, 2003 and March 31, 2002, the
Company recorded $580,000 and $688,000, respectively, for equipment
purchases from a company in which a former officer of Parlex has a direct
financial interest. At March 30, 2003 and March 31, 2002, the Company has
recorded within accounts payable and accrued expenses $200,000 and
$110,000, respectively, for equipment purchases from this party.
Cumulative purchases to date from this party are $1,852,000.
14. Stock Based Compensation
------------------------
At March 30, 2003, the Company accounts for stock-based compensation under
the recognition and measurement principals of APB Opinion No. 25,
"Accounting for Stock Issued to Employees", and related Interpretations.
No stock-based employee compensation cost is reflected in net income, as
all options granted had an excise price equal to the market value of the
underlying common stock on the date of grant. The following table
illustrates the effect on net income and earnings per share if the Company
had applied the fair value recognition provisions of FASB Statement No.
123, "Accounting for Stock-Based Compensation", to stock-based employee
compensation.
The following table presents combined activity for stock options for the
three months and nine months ended March 30, 2003:
Three Months Ended Nine Months Ended
March 31, 2003 March 31, 2003
--------------------- ---------------------
Weighted- Weighted-
Shares Average Shares Average
Under Exercise Under Exercise
Option Price Option Price
------ -------- ------ ---------
Outstanding options at beginning of period 573,275 $14.05 470,750 $14.63
Granted - - 126,150 11.21
Surrendered (65,500) 20.18 (80,125) 18.90
Exercised - - (9,000) 5.84
------- ------ ------- ------
Outstanding options at end of period 507,775 13.26 507,775 13.26
Exercisable options at end of period 249,240 14.54 249,240 14.54
Weighted average fair value of options
granted during the period $ 4.60
The following table presents weighted average price and life information
about significant option groups outstanding and exercisable at March 30,
2003:
Options Outstanding Options Exercisable
--------------------------------------- ---------------------
Weighted-
Average Weighted- Weighted-
Remaining Average Average
Exercise Number Contractual Exercise Exercise
Prices Outstanding Life (Years) Price Number Price
-------- ----------- ------------ -------- ------ ---------
$ 3.60 - $ 7.20 12,000 2.1 $ 6.05 12,000 $ 6.05
7.21 - 10.80 51,500 8.8 10.25 14,500 10.21
10.81 - 14.40 307,525 8.1 12.16 102,740 12.53
14.41 - 18.00 68,750 6.3 16.17 53,000 16.15
18.01 - 21.60 66,000 4.6 18.78 66,000 18.78
21.61 - 25.20 2,000 7.1 22.00 1,000 22.00
------- --- ------ ------- ------
$3.60 - $25.20 507,775 7.3 $13.26 249,240 $14.54
======= === ====== ======= ======
The following are the pro forma net loss and loss per share, as if
compensation expense for the option plans had been determined based on the
fair value at the grant date:
Three Months Ended Nine Months Ended
March 30, 2003 March 31, 2002 March 30, 2003 March 31, 2002
-------------- -------------- -------------- --------------
Net loss $(5,929,027) $(1,667,448) $(17,220,187) $(5,510,476)
Deduct: Total stock-based employee
compensation expense determined
under fair value based method
for all awards, net of related
tax effects (188,077) (244,205) (560,839) (800,118)
----------- ----------- ------------ -----------
Pro forma net income $(6,117,104) $(1,911,653) $(17,781,026) $(6,310,594)
=========== =========== ============ ===========
Earnings per share:
Basic and diluted, as reported $ (0.94) $ (0.26) $ (2.73) $ (0.87)
=========== =========== ============ ===========
Basic and diluted, pro forma $ (0.97) $ (0.30) $ (2.82) $ (1.00)
=========== =========== ============ ===========
The fair value of options at the date of grant were estimated using the
Black-Scholes option pricing model with the following assumptions:
Nine Months Ended Nine Months Ended
March 30, 2003 March 31, 2002
----------------- -----------------
Average risk-free interest rate 2.2% 3.7%
Expected life of option grants 3.5 years 2.5 years
Expected volatility of underlying stock 54% 78%
Expected dividend rate None None
12
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 21. 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, including the
status of customer purchase orders and record a provision or write-down 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. The amount of the write-down is the excess of
historical cost over estimated realizable value. Once established, these
write-downs are considered permanent adjustments to the cost basis of the
excess inventory.
13
Demand for our products may fluctuate significantly over time and actual
demand and market conditions may be more or less favorable than those
projected by management. In the event that actual demand is lower than
originally projected, additional inventory write-downs may be required.
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 remaining
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.
As a result of our recent history of operating losses, uncertain future
operating results, and the current non-compliance with certain of our debt
covenants requirements we determined that it is more likely than not that
certain historic and current year income tax benefits will not be realized.
Consequently, no tax benefit associated with the current quarter has been
recognized relating to the U.S. operating losses, and we have established a
valuation allowance against all of our remaining net U.S. deferred tax
assets. Upon a favorable change in the operations and financial condition
of the Company that result in management's determination that it is more
likely than not that all or a portion of the net deferred tax assets will
be utilized, all or a portion of the valuation allowance previously
provided for would be eliminated.
Overview
- --------
We are a leading supplier of flexible interconnects principally for sale to
the automotive, telecommunications, diversified electronics, aerospace,
appliance, electronic identification 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 have transferred 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. Qualification of this production line
was completed in December 2002.
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.
14
Three Months Ended Nine Months Ended
March 30, 2003 March 31, 2002 March 30, 2003 March 31, 2002
-------------- -------------- -------------- --------------
Total revenues 100.0 % 100.0 % 100.0 % 100.0 %
Cost of products sold 109.2 % 100.0 % 99.9 % 99.3 %
----- ----- ----- -----
Gross profit (loss) (9.2)% 0.0 % 0.1 % 0.7 %
Selling, general and administrative
expenses 20.0 % 15.3 % 16.4 % 16.0 %
----- ----- ----- -----
Operating loss (29.2)% (15.3)% (16.3)% (15.3)%
Loss from operations before
(provision) benefit from income
taxes and minority interest (30.4)% (16.0)% (17.3)% (15.7)%
----- ----- ----- -----
Net loss (30.5)% (7.8)% (26.9)% (8.7)%
===== ===== ===== =====
Three Months Ended March 30, 2003 Compared to Three Months
- ----------------------------------------------------------
Ended March 31, 2002
--------------------
Total Revenues. Our total revenues were $19.4 million for the three months
ended March 30, 2003 compared to $21.3 million for the three months ended
March 31, 2002.
Revenues decreased 9% when compared to the same period last year.
Decreases are primarily attributable to the closing of our domestic PALFlex
operations. Domestic PALFlex revenues were $1.1 million versus $4.1
million in the same period of the prior year. Domestic PALFlex production
has been a very unprofitable business over the last two years. High
manufacturing costs coupled with rapidly eroding pricing in the high volume
low cost segment of the automotive market have contributed to significant
domestic losses. Over the last 18 months, we have transferred this
production capability to China. Qualification of the PALFlex line in our
Shanghai facility was completed in December 2002. We expect to re-build a
profitable PALFlex based business in China leveraging a significantly lower
cost to manufacture model with particular focus on lower volume higher mix
business opportunities.
Revenues from foreign operations were 33% of total revenues for the three
months ending March 30, 2003 compared to 27% of total revenues for the
comparable period of the prior year. The growth in revenue from our
foreign operations is a result of our efforts to transfer manufacturing
processes from our domestic operations to our lower cost international
manufacturing locations. Domestically, revenues remained strong in the
appliance market with polymer thick film revenue growth in excess of 30%
year over year. Appliance market revenues continue to be driven primarily
by dishwasher product lines with significant growth opportunities remaining
in laundry and range segments. Growth also occurred in our broad based
computer business with growth driven primarily by increases in the printer
and peripheral markets. Revenues from the military and aerospace market
continued to grow with several significant orders expected to impact
revenues in the next 12 months. We continue to experience a very soft
market in the broader electronics industry with no expectation of short-
term improvement. Revenue opportunities will continue to be driven by
technology advancement and penetration of new or emerging markets.
Cost of Products Sold. Cost of products sold were $21.2 million, or 109%
of total revenues, for the three months ended March 30, 2003, compared to
$21.3 million, or 100% of total revenues for the comparable period in the
prior year.
15
Domestic PALFlex cost of products sold was $4.2 million on $1.1 million in
revenues for the quarter ended March 30, 2003. Expenses associated with
the closing of our domestic PALFlex manufacturing operations significantly
adversely impacted product costs. These expenses included severance for 60
people, write-offs for asset impairments and inventory reserves. All
remaining costs associated with the closing of this operation were recorded
in the quarter. In addition, in March 2003, we reduced the total leased
space of our Mexico finishing operation by approximately 50%. Headcount in
Mexico was reduced by a total of 43.
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 our
Methuen, Massachusetts facility. We completed this move in December 2002.
The costs of approximately $1,480,000 associated with the closing of our
Salem, New Hampshire facility were accrued for in fiscal 2002. Costs of
approximately $450,000 associated with the physical relocation of the
business were incurred and recorded in the current fiscal year.
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 $3.9 million, or 20% of total revenues, for
the three months ended March 30, 2003, and $3.3 million or 15% of total
revenues for the same period in the prior year representing an increase of
$634,000, or 20%. The increase in part, reflects the costs associated with
staffing our new regionally based sales organization. The regional sales
teams are responsible for marketing and selling the entire Parlex product
offering to existing and potential customers within their territories.
Further, non-reoccurring costs associated with our re-financing activities
were included in general and administrative expenses for the quarter. We
continue to implement tight cash flow management, which 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 (Provision) Benefit from
Income Taxes. Other income was $6,000 for the three months ended March 30,
2003, compared to $9,000 for the three months ended March 31, 2002. Other
income for each period consisted primarily of interest earned on our short-
term investments.
Interest expense was $243,000 for the three months ended March 30, 2003,
compared to $146,000 for the comparable period in the prior year. Higher
borrowings for the three months ending March 30, 2003 compared to the three
months ended March 31, 2002 resulted in an increase in interest expense.
The outstanding balances on our long-term debt, including current
maturities, were $17.2 million and $11.7 million at the quarter ended March
30, 2003 and March 31, 2002, respectively.
Our loss before any benefit from income taxes and for the minority interest
in our Chinese joint venture, Parlex Shanghai, was $5.9 million for the
three months ended March 30, 2003, compared to a loss of $3.4 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 zero percent in the three months
ended March 30, 2003 and (51%) for the comparable period in the prior year.
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 the recording of any valuation allowance.
As a result of our recent history of operating losses, uncertain future
operating results, and the current non-compliance with certain of our debt
covenants requirements we determined that it is more likely than not that
certain historic and current year income tax benefits will not be realized.
Consequently, no tax benefit associated with U.S. operating losses has been
recognized in the current quarter, moreover, we have established a
valuation allowance against all of our remaining net U.S. deferred tax
assets.
16
Nine Months Ended March 30, 2003 Compared to Nine Months
- --------------------------------------------------------
Ended March 31, 2002
--------------------
Total Revenues. Our total revenues were $64.0 million for the nine months
ended March 30, 2003 compared to $63.6 million for the nine months ended
March 31, 2002.
Revenues from foreign operations were 35% of total revenues for the nine
months ending March 30, 2003 compared to 25% of total revenues for the
comparable period of the prior year. The growth in revenue from our
foreign operations is a result of our efforts to transfer manufacturing
processes from our domestic operations to our lower cost international
manufacturing locations. Growth also occurred in our broad based computer
business with significant revenues recorded from sales of flexible
interconnects for desktops and printers. Revenues from our Chinese
operations increased more than 60% year over year. Domestically, revenues
remained strong in the appliance market. Appliance market revenues
continue to be driven primarily by the dishwasher segment. Revenues from
the military and aerospace market continued to grow with several
significant orders expected to impact revenues in the next 12 months.
Increases were offset by reductions in our domestic PALFlex revenues. Over
the past 18 months, we have invested in the transfer of this technology to
China. This has resulted in the winding down of PALFlex revenues
domestically with the completion of this process occurring in March 2003.
Several important customers have moved production to our Chinese facility.
Production of other PALFlex products, including several unprofitable
products, have been completed or terminated. We expect over the next
several quarters, to re-build our PALFlex business leveraging a
significantly lower cost to manufacture model. Continued price erosion in
the automotive market and declines in telecommunications revenues over the
past year have also contributed to the decreases.
Cost of Products Sold. Cost of products sold were $63.9 million, or 100%
of total revenues, for the nine months ended March 30, 2003, compared to
$63.2 million, or 99% of total revenues for the comparable period in the
prior year. Margins for the nine months ended March 30, 2003 were
adversely impacted by approximately $439,000 in severance costs associated
with work force reductions compared to $180,000 for the nine months ended
March 31, 2002.
Domestic PALFlex cost of products sold was $11.8 million on $6.2 million in
revenues for the nine months ended March 30, 2003. Expenses associated
with the closing of our domestic PALFlex manufacturing operations
significantly adversely impacted product costs. These expenses included
severance for 60 people, write-offs for asset impairments and inventory
reserves. All remaining costs associated with the closing of this
operation were recorded in the quarter. In addition, in March 2003, we
reduced the total leased space of our Mexico finishing operation by
approximately 50%. Headcount in Mexico was reduced by a total of 154.
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 our
Methuen, Massachusetts facility. We completed this move in December 2002.
The costs of approximately $1,480,000 associated with the closing of our
Salem, New Hampshire facility were accrued for in fiscal 2002. Costs of
approximately $450,000, associated with the physical relocation of the
business were incurred and recorded in fiscal 2003.
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, primarily in the People's Republic of China.
Even though the transfer of manufacturing operations is costly, this
investment is core to our long-term strategy for cost effective
manufacturing. During this transfer process, we have incurred substantial
losses supporting both the existing domestic production lines and the
developing capabilities in China. In fiscal 2003, we incurred losses on
our domestic PALFlex operations of approximately $6.2 million versus $3.7
million in the same period of the prior year. We expect the transfer of
labor intensive manufacturing operations to more cost effective locations
to result
17
in cost savings in excess of $1 million quarterly. 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 $10.5 million, or 16% of total revenues, for
the nine months ended March 30, 2003, and $10.2 million or 16% of total
revenues for the same period in the prior year representing an increase of
$310,000, or 3%. The increased costs are associated with the staffing our
new regionally based sales organization. The regional sales teams are
responsible for marketing and selling the entire Parlex product offering to
existing and potential customers within their territories. 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 (Provision) Benefit from
Income Taxes. Other expense was ($43,000) for the nine months ended March
30, 2003, compared to other income of $231,000 for the nine months ended
March 31, 2002. Other expense for the period ended March 30, 2003
consisted primarily of losses due to exchange rate fluctuations. Other
income for the period ended March 31, 2002 consisted primarily of interest
earned on our short-term investments.
Interest expense was $670,000 for the nine months ended March 30, 2003,
compared to $455,000 for the comparable period in the prior year. Higher
borrowings for the nine months ending March 30, 2003 compared to the nine
months ended March 31, 2002 resulted in an increase in interest expense.
The outstanding balances on our long-term debt, including current
maturities, were $17.2 million and $11.7 million for the nine months ended
March 30, 2003 and March 31, 2002, respectively.
Our loss before any benefit from income taxes and for the minority interest
in our Chinese joint venture, Parlex Shanghai, was $11.1 million for the
nine months ended March 30, 2003, compared to a loss of $10.0 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 55% in the nine months ended March
30, 2003 and (40%) for the comparable period in the prior year. 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 the recording of any valuation allowance. As
a result of our recent history of operating losses, uncertain future
operating results, and the current non-compliance with certain of our debt
covenants requirements, we determined that it is more likely than not that
certain historic and current year income tax benefits will not be realized.
Consequently, no tax benefit associated with U.S. operating losses has been
recognized in the current quarter, moreover, we have established a
valuation allowance against all of our remaining net U.S. deferred tax
assets.
Liquidity and Capital Resources
- -------------------------------
As of March 30, 2003, we had approximately $1.3 million in cash and cash
equivalents. As discussed below, we are currently in default on all of our
long-term debt agreements and have classified $15 million as current.
Net cash used in operations during the nine months ended March 30, 2003 was
$694,000. Operating losses of $17.2 million after adjustment for minority
interest, depreciation, amortization, loss on disposal and deferred tax
asset valuation allowances resulted in $5.5 million of cash used for
operations. This was offset by $4.8 million generated from working
capital, including $1.5 million from income tax refunds.
Net cash used by investing activities was $1.5 million for the nine months
ended March 30, 2003. These funds were used to purchase capital equipment
and other assets primarily for completion of our new smart card production
line in Suzhou, People's Republic of China. As of March 30, 2003 we have
financed the purchase of
18
$487,000 of additional capital equipment through our accounts payable. We
have implemented plans to strictly control our capital expenditures and all
significant capital investments necessary to deliver our revenue plans are
largely complete. Net cash provided by financing activities was $1.7
million for the nine months ended March 30, 2003, which represents the net
borrowings and repayments on our bank debt and $53,000 from the exercise of
stock options. The bank borrowings include $3.8 million from Parlex
Interconnect's $5.0 million Hong Kong bank loan and payments of $1.2
million to retire its 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. Amounts borrowed under
the Loan Agreement are to be paid in four installments of principal in the
amount of $500,000, $500,000, $1,000,000 and $3,000,000 beginning in February
2004 with the final payment due August 2005. As of March 30, 2003, total
borrowings were $3.8 million. These borrowings were used to repay local
short-term bank notes of $1.2 million and fund equipment purchases and
working capital requirements. 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 also 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 are in violation of
the cross default provision as of March 30, 2003. As a result, we have
classified all borrowings under the Loan Agreement as current.
On October 31, 2002, we executed the Third Amendment to our Loan Agreement
with Fleet Bank (as amended, 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 $13,000,000 on December 30, 2002 and to $12,000,000 on March 31,
2003. 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 (4.25% at March 30, 2003) or a fixed rate equal to LIBOR plus a margin
that varies from 1.5% to 2.25%. 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. 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. We are out of compliance with certain
financial covenants contained in the Credit Agreement as of March 30, 2003
and therefore have classified all borrowings under the Credit Agreement as
current.
Parlex Shanghai Term Notes - On February 25, 2003, Parlex Shanghai entered
into a short-term bank note bearing interest at 5.544%. Shanghai Jinling
Co., Ltd ("Jinling"), a former minority interest partner in Parlex
Shanghai, guarantees the short-term note. Amounts outstanding under this
six month short-term note total $845,000 and are included within the current
portion of long-term debt on the consolidated balance sheet for the period
ended March 30, 2003. The Company provides a cross guarantee to Jinling for
100% of the term note. On March 7, 2003, Parlex Shanghai entered into a
short-term bank note bearing interest at 5.841%. Amounts outstanding under
this short-term bank note, due February 25, 2004, total $1.3 million and are
included within the current portion of long-term debt on the consolidated
balance sheet for the period ended March 30, 2003.
19
We have signed a Purchase and Sale Agreement ("Sale Lease Back Agreement")
with a third party wherein we will sell our corporate headquarters and
principal U.S. manufacturing facility located in Methuen, Massachusetts and
our Cranston, Rhode Island manufacturing facility. We will then enter into
a lease of both facilities with the Purchaser. Net proceeds principally
will be used to reduce borrowings under the Credit Agreement. We were
unsuccessful in closing our sale lease back transaction reported last
quarter due to a series of complex tax issues, which could not be resolved
by the purchasing party. We have received a commitment letter from a major
domestic bank for a $10 million working capital line of credit subject to
the satisfactory closing of our Sale Lease Back Agreement. We expect to
finalize our re-financing activities in the quarter ending June 30, 2003.
We continue to take a series of actions to reduce operating expenses and to
restructure operations, which to date have consisted primarily of
reductions in workforce and consolidating manufacturing operations,
including the closing of the Salem, New Hampshire facility which was
completed in December 2002. Moreover, we continue 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. Our plans include the
following actions: 1) transfer certain manufacturing processes from our
domestic operations to lower cost international manufacturing locations,
primarily those in the People's Republic of China; 2) expand our products
in the home appliance, military and aerospace, computer and peripherals,
and radio frequency identification and smart card markets; and 3) reduce
general and administrative expenses.
In December 2002, we successfully completed the initial product
qualification on our new smart card production line in Suzhou, People's
Republic of China. We have invested in excess of $4 million in this line
over the past 18 months. Revenues, from this product are forecasted to
increase sequentially over the next several calendar quarters. We have
successfully completed transfer, installation and qualification of our
proprietary PALFlex technology to our Shanghai, People's Republic of China
operation. Transfer of certain domestic PALFlex manufacturing was completed
in the quarter ended March 30, 2003, while remaining domestic obligations
were terminated. We recorded charges to cost of products sold related
to the shut down of these operations, including inventory reserves and fixed
asset impairments. Domestic PALFlex production represented a significant
portion of our quarterly losses over the past two years. Transfer of this
low cost, high volume production is critical to our return to
profitability. Discontinuance of domestic production is expected to
improve operating results in excess of $1 million a quarter.
However, there can be no assurances that we will be able to implement all
of our plans or execute the sale lease back and bank financing transactions
or that the ultimate execution of such plans and transactions will achieve
all of the desired results. In such event, although we may be able to
reduce operating costs further by reducing headcount, closing additional
facilities, or scaling back current operations until financing becomes
available on terms acceptable to us, a modification to the auditor's report
on our June 30, 2003 financial statements could result.
Recent Adoption of Accounting Pronouncements
- --------------------------------------------
On January 1, 2003, we adopted 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. We adopted this statement
on January 1, 2003.
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
20
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 December 30, 2002, we adopted the disclosure provisions of SFAS No. 148,
"Accounting for Stock-Based Compensation -- Transition and Disclosure, an
amendment of FASB Statement No. 123." This Statement amends FASB Statement
No. 123, "Accounting for Stock-Based Compensation", to provide alternative
methods of transition for a voluntary change in the fair value based method
of accounting for stock-based employee compensation. In addition, this
Statement amends the disclosure requirements of SFAS No. 123 to require
prominent disclosures in both annual and interim financial statements about
the method of accounting for stock-based employee compensation and the
effect of the method used on reported results.
The adoption of SFAS Nos. 144, 146 and 148 did not have a material effect
on our financial statements.
Future Adoption of Accounting Pronouncements
- --------------------------------------------
In November 2002, the FASB issued FASB Interpretation No. 45, "Guarantor's
Accounting and Disclosures Requirements for Guarantees, Including Indirect
Guarantees". This Interpretation elaborates on the disclosures to be made
by a guarantor in its interim and annual financial statements about its
obligations under certain guarantees that it has issued. It also clarifies
that a guarantor is required to recognize, at the inception of the
guarantee, a liability for the fair value of the obligation undertaken in
issuing the guarantee. The Interpretation does not prescribe a specific
approach for subsequently measuring the guarantor's recognized liability
over the term of the related guarantee. This Interpretation also
incorporates, without change, the guidance in FASB Interpretation No. 34,
Disclosure of Indirect Guarantees of Indebtness of Others, which is being
superseded. The initial recognition and measurement provisions of this
Interpretation are applicable on a prospective basis to guarantees issued
or modified after December 31, 2002, irrespective of the guarantor's fiscal
year-end. The disclosure requirements in this Interpretation are effective
for financial statements of interim or annual periods ending after December
15, 2002. At March 30, 2003, we issued no guaratees that qualify for
disclosure in this interim financial statement.
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.
We are currently not in compliance with the financial covenants of our
existing financing arrangements and the debt may be callable.
We are currently not in compliance with the financial covenants of our
existing financing arrangements and the debt is callable by the lender. We
are currently negotiating with our current lender to amend our existing
financing
21
arrangements, including the financial covenants, and are negotiating with
alternative lenders to provide us with new sources of financing. Failure to
successfully negotiate alternative financing or to amend our existing
financing arrangements, including the financial covenants, may result in
significant adverse liquidity effects on us.
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 would have a material adverse effect on us.
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.
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.
22
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.
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
23
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.
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.
24
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 Peter J. Murphy. If we lose the services of Mr. 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 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,
25
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.
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.
26
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 borrowings under the 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 March 30, 2003, we have an outstanding balance under
our Credit Agreement of approximately $11.2 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
annual interest expense by approximately $50,000. 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 March 30, 2003, of approximately
$13.2 million. Poly-Flex Circuits Limited and Parlex (Europe) Limited had
combined net assets as of March 30, 2003 of approximately $5.1 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 March 30, 2003, Parlex
Shanghai and Parlex Interconnect had combined outstanding debt of $6.0
million. As of March 30, 2003, Poly-Flex Circuits Limited had no outstanding
debt.
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.
27
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.
28
PART II - OTHER INFORMATION
---------------------------
Item 3. DEFAULTS UPON SENIOR SECURITIES.
As of March 30, 2003, the Company was not in compliance with certain
financial covenants contained in its Credit Agreement with Fleet Bank. As
of May 8, 2003, the outstanding balance owed to Fleet Bank under the Credit
Agreement was approximately $10,920,000. Although Fleet Bank has not
called the debt due to such default, there is no guarantee that Fleet Bank
will not call this debt at any time. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Liquidity and
Capital Resources",on page 18.
In addition, as of March 30, 2003, the Company was technically in default
under than certain Loan Agreement by and between the Company's wholly-owned
subsidiary, Parlex (Shanghai) Interconnect Products Co., Ltd and Citic Ka
Wah Bank Limited (the "Interconnect Loan Agreement"). The sole basis of the
Company's default under the Interconnect Loan Agreement is due to a certain
cross-default provision contained therein which permits the lender to
accelerate this loan in the event of the Company's default on other financing
arrangements, such as the Credit Agreement with Fleet Bank. The Company is
a guarantor of the Interconnect Loan Agreement. As of May 8, 2003, the
outstanding balance owed to Citic Ka Wah Bank under the Interconnect Loan
Agreement was approximately $3,801,000. Although Citic Ka Wah Bank has not
called the debt due to such cross-default provision, there is no guarantee
that it will not call this debt at any time.
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 March 30, 2003.
29
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 & Chief Financial
Officer
(Principal Accounting and
Financial Officer)
May 12, 2003
------------
Date
30
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 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 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: May 12, 2003
/s/ Peter J. Murphy
---------------------------------
Peter J. Murphy, Chief Executive
Officer
(Principal Executive Officer)
31
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 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 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: May 12, 2003
/s/ Jonathan R. Kosheff
--------------------------------
Jonathan R. Kosheff, Chief
Financial Officer
(Principal Financial Officer)
32
EXHIBIT INDEX
EXHIBIT DESCRIPTION OF EXHIBIT
- ------- ----------------------
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
33