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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 28, 2004
[ ] 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
(Exact Name of Registrant as Specified in Its Charter)
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
3, 2004 was 6,422,810 shares.
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PARLEX CORPORATION
------------------
FORM 10 - Q
-----------
INDEX
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Part I - Financial Information Page
----
Item 1. Unaudited Condensed Consolidated Financial Statements:
Condensed Consolidated Balance Sheets - March 28, 2004 and
June 30, 2003 3
Condensed Consolidated Statements of Operations - Three and
Nine Months Ended March 28, 2004 and March 30, 2003 4
Condensed Consolidated Statements of Cash Flows - Nine
Months Ended March 28, 2004 and March 30, 2003 5
Notes to Unaudited Condensed Consolidated Financial
Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 17
Item 3. Quantitative and Qualitative Disclosures About Market Risk 32
Item 4. Controls and Procedures 33
Part II - Other Information
Item 3. Defaults Upon Senior Securities 34
Item 6. Exhibits and Reports on Form 8-K 34
Signatures 35
Exhibit Index 36
2
PARLEX CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
- -----------------------------------------------------------------------------
ASSETS March 28, 2004 June 30, 2003
CURRENT ASSETS:
Cash and cash equivalents $ 2,241,944 $ 1,513,523
Accounts receivable - net 16,991,098 13,835,589
Inventories - net 19,985,583 17,082,878
Refundable income taxes 134,605 279,381
Deferred income taxes 313,109 313,109
Other current assets 2,640,726 2,077,409
------------ ------------
Total current assets 42,307,065 35,101,889
------------ ------------
PROPERTY, PLANT AND EQUIPMENT - NET 45,214,127 46,893,216
INTANGIBLE ASSETS - NET 33,478 1,130,005
GOODWILL - NET 1,157,510 1,157,510
OTHER ASSETS - NET 2,223,049 1,750,061
------------ ------------
TOTAL $ 90,935,229 $ 86,032,681
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current portion of long-term debt $ 12,961,965 $ 3,813,117
Accounts payable 14,358,351 13,396,274
Accrued liabilities 4,218,453 5,170,608
------------ ------------
Total current liabilities 31,538,769 22,379,999
------------ ------------
LONG-TERM DEBT 9,737,011 10,802,275
------------ ------------
OTHER NONCURRENT LIABILITIES 1,130,355 1,187,280
------------ ------------
MINORITY INTEREST IN PARLEX SHANGHAI 515,716 415,583
------------ ------------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Preferred stock - -
Common stock 661,968 652,221
Accrued interest payable in common stock 80,050 -
Additional paid-in capital 63,988,905 61,049,486
Accumulated deficit (16,209,721) (9,605,380)
Accumulated other comprehensive income 529,801 188,842
Less treasury stock, at cost (1,037,625) (1,037,625)
------------ ------------
Total stockholders' equity 48,013,378 51,247,544
------------ ------------
TOTAL $ 90,935,229 $ 86,032,681
============ ============
See notes to unaudited condensed consolidated financial statements.
3
PARLEX CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
Three Months Ended Nine Months Ended
March 28, 2004 March 30, 2003 March 28, 2004 March 30, 2003
-------------- -------------- -------------- -------------
REVENUES $23,164,660 $19,438,542 $66,428,184 $ 64,028,080
COSTS AND EXPENSES:
Cost of products sold 21,267,316 21,224,242 59,597,291 63,934,553
Selling, general and
administrative expenses 3,817,667 3,886,742 11,517,407 10,480,675
----------- ----------- ----------- ------------
Total costs and expenses 25,084,983 25,110,984 71,114,698 74,415,228
----------- ----------- ----------- ------------
OPERATING LOSS (1,920,323) (5,672,442) (4,686,514) (10,387,148)
INTEREST AND NON OPERATING INCOME (EXPENSE)
Interest income 2,031 20,426 9,052 31,404
Interest expense (642,173) (242,932) (1,839,678) (670,353)
Non operating income 33,418 23,725 94,033 9,655
Non operating expense (24,795) (37,938) (33,243) (83,660)
----------- ----------- ----------- ------------
LOSS BEFORE INCOME TAXES
AND MINORITY INTEREST (2,551,842) (5,909,161) (6,456,350) (11,100,102)
PROVISION FOR INCOME TAXES (47,858) (20,522) (47,858) (6,154,329)
----------- ----------- ----------- ------------
LOSS BEFORE MINORITY INTEREST (2,599,700) (5,929,683) (6,504,208) (17,254,431)
MINORITY INTEREST 9,624 656 (100,133) 34,244
----------- ----------- ----------- ------------
NET LOSS $(2,590,076) $(5,929,027) $(6,604,341) $(17,220,187)
=========== =========== =========== ============
BASIC AND DILUTED LOSS PER SHARE $ (0.40) $ (0.94) $ (1.04) $ (2.73)
=========== =========== =========== ============
WEIGHTED AVERAGE SHARES - BASIC AND DILUTED 6,409,110 6,312,216 6,351,243 6,307,337
=========== =========== =========== ============
See notes to unaudited condensed consolidated financial statements.
4
PARLEX CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
- ------------------------------------------------------------------------------------------------
Nine Months Ended
March 28, 2004 March 30, 2003
-------------- --------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Loss $ (6,604,341) $(17,220,187)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization of property, plant and
equipment and intangible assets 4,127,103 4,929,976
Amortization of deferred financing costs and deferred loss 749,546 -
Minority interest 100,133 (34,243)
Deferred income taxes - 6,133,425
Interest payable in common stock 254,948 -
Lost on disposition of assets - net - 624,037
Gain on sale of China land use rights (86,531) -
Changes in current assets and liabilities:
Accounts receivable - net (2,991,203) 2,176,638
Inventories (2,739,505) 1,854,550
Refundable taxes 144,776 1,506,700
Other assets (819,826) 284,376
Accounts payable and accrued liabilities (1,339,997) (949,583)
------------ ------------
Net cash used in operating activities (9,204,897) (694,311)
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Sale of China land use rights 1,179,145 -
Additions to property, plant and equipment and other assets (484,485) (1,487,229)
------------ ------------
Net cash provided by (used in) investing activities 694,660 (1,487,229)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Exercise of stock options - 52,530
Exercise of warrants 600,000 -
Proceeds from bank loans 46,430,209 16,782,789
Payment of bank loans (43,167,484) (15,163,153)
Payment of capital lease (9,104) -
Payment of Methuen sale-leaseback financing obligation (229,452) -
Cash received for interest on Methuen sale-leaseback note receivable 99,378 -
Proceeds from convertible note, net of costs 5,472,002 -
------------ ------------
Net cash provided by financing activities 9,195,549 1,672,166
------------ ------------
EFFECT OF EXCHANGE RATE CHANGES ON CASH 43,109 16,358
------------ ------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 728,421 (493,016)
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 1,513,523 1,785,025
------------ ------------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 2,241,944 $ 1,292,009
============ ============
SUPPLEMENTARY DISCLOSURE OF NONCASH FINANCING AND
INVESTING ACTIVITIES:
Property, plant, equipment and other asset purchases
financed under capital lease, long-term debt and
accounts payable $ 1,696,044 $ 487,065
============ ============
Issuance of warrants in connection with issuance of convertible debt $ 1,139,252 $ -
============ ============
Beneficial conversion feature associated with convertible debt $ 1,035,016 $ -
============ ============
Interest payable in common stock $ 254,948 $ -
============ ============
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"). 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 28, 2004 and the results of operations and cash flows for the
nine months ended March 28, 2004 and March 30, 2003. All adjustments
made to the interim financial statements included all those of a
normal and recurring nature. The results for interim periods are not
necessarily indicative of results which may be expected for any other
interim period or for the full year.
This filing should be read in conjunction with the Company's annual
report on Form 10-K for the year ended June 30, 2003.
As shown in the consolidated financial statements, the Company
incurred net losses of $6,604,341 and $17,220,187 and used $9,204,897
($1.4 million which funded losses net of non-cash items and $7.8
million for working capital) and $694,311 ($5.6 million which funded
losses net of non-cash items offset by $4.9 million from changes in
working capital) of cash in operations for the nine months ended
March 28, 2004 and March 30, 2003, respectively. In addition, the
Company had an accumulated deficit of $16,209,721 at March 28, 2004.
As of March 28, 2004, the Company had a cash balance of $2.2 million.
At March 28, 2004, the Company was not in compliance with certain
financial covenants under its Loan and Security Agreement (the "Loan
Agreement") with Silicon Valley Bank. The Company has received a
waiver from the bank for it non-compliance at March 28, 2004.
In response to the worldwide downturn in the electronics industry,
management has taken a series of actions to reduce operating expenses
and to restructure operations, consisting primarily of reductions in
workforce and consolidation of manufacturing operations. Moreover,
management continues to implement plans to control operating
expenses, inventory levels, and capital expenditures as well as
manage accounts payable and accounts receivable to enhance cash flow
and return the Company to profitability. Management's plans include
the following actions: 1) continuing to consolidate manufacturing
facilities; 2) continuing to transfer certain manufacturing processes
from its domestic operations to lower cost international
manufacturing locations, primarily those in the People's Republic of
China; 3) expanding its products in the home appliance, laptop
computer, medical, military and aerospace, and electronic
identification markets; 4) continuing to monitor, general and
administrative expenses; and 5) evaluating opportunities to continue
to acquire additional new multilayer business in our effort to
significantly improve capacity utilization.
Furthermore, in June and July 2003, management entered into a series
of alternative financing arrangements to partially replace or
supplement those currently in place in order to provide the Company
with long-term financing to support its current working capital
needs. Working capital consumed $7.8 million of a total $9.2 million
used by operations during the first nine months of fiscal 2004.
Growth in our China operations (67% revenue growth in the third
quarter year over year) continues to require significant working
capital. The Company is pursuing standalone financing for its China
operations and expects that this will include alternative term
financing for equipment and a working capital line to support
continued growth. In addition, in May 2004 (Note 15) the Company
received approximately $2.8 million from the sale of Series A
convertible preferred stock. Management continues to evaluate
alternative financing opportunities to improve its liquidity and to
fund working capital needs. Management believes that its cash on hand
including the $2.8 million raised in May 2004 and the cash expected
to be generated will not be sufficient to enable the Company to meet
its financing and operating obligations through June 2005 based on its
current growth plans. Failure to obtain additional financing may have
a material adverse impact on our operations.
2. 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. Raw material, work in process
6
and finished goods inventory associated with programs cancelled by
customers are fully reserved for as obsolete. Reductions in
obsolescence reserves are recognized when the underlying products are
disposed of or sold. Inventories consisted of:
March 28, June 30,
2004 2003
Raw materials $ 8,090,683 $ 7,736,473
Work in process 9,477,601 8,285,396
Finished goods 5,104,849 4,034,733
----------- -----------
Total cost 22,673,133 20,056,602
Less: reserve for obsolescence (2,687,550) (2,973,724)
----------- -----------
Inventory, net $19,985,583 $17,082,878
=========== ===========
3. Property, Plant and Equipment
-----------------------------
Property, plant and equipment are stated at cost and are depreciated
using the straight-line method over their estimated useful lives.
Property, plant and equipment consisted of:
March 28, June 30,
2004 2003
Land and land improvements $ 589,872 $ 589,872
Buildings 18,543,295 18,543,295
Machinery and equipment 63,647,564 59,625,945
Leasehold improvements and other 6,662,821 6,321,658
Construction in progress 3,013,256 4,591,458
------------ ------------
Total cost 92,456,808 89,672,228
Less: accumulated depreciation and amortization (47,242,681) (42,779,012)
------------ ------------
Property, plant and equipment, net $ 45,214,127 $ 46,893,216
============ ============
4. Intangible Assets
-----------------
Intangible assets consisted of:
March 28, June 30,
2004 2003
Land use rights $ - $1,145,784
Patents 58,560 58,560
-------- ----------
Total cost 58,560 1,204,344
Less: accumulated amortization (25,082) (74,339)
-------- ----------
Intangible assets, net $ 33,478 $1,130,005
======== ==========
In July 2003, Parlex Interconnect executed an agreement to sell its
land use rights in China for approximately $1.2 million. The Company
received a deposit of approximately $1.0 million in August 2003 and
the balance in December 2003. The sale was recorded in the quarter
ending December 28, 2003, and resulted in a gain of approximately
$87,000 which is included in operating loss for the nine months
ending March 28, 2004.
7
The Company has reassessed the remaining useful lives of the
intangible assets at March 28, 2004 and determined the useful lives
are appropriate in determining amortization expense. Amortization
expense for the nine months ended March 28, 2004 and March 30, 2003
was $3,913 and $19,367, respectively.
5. Other Assets
------------
Other assets consisted of:
March 28, June 30,
2004 2003
Deferred loss on sale-leaseback of Poly-Flex Facility, net $1,156,297 $1,362,370
Deferred financing costs on sale-leaseback of Methuen facility (see Note 7) 361,700 203,353
Deferred financing costs on the Loan Security Agreement (see Note 7) 192,269 138,081
Deferred financing costs on Convertible Subordinated Note (see Note 7) 632,235 -
Other 78,341 48,019
---------- ----------
Total cost 2,420,842 1,751,823
Less: accumulated amortization (197,793) (1,762)
---------- ----------
Total Other Assets, net $2,223,049 $1,750,061
========== ==========
In June 2003, Poly-Flex sold its operating facility in Cranston,
Rhode Island for a total purchase price of $3,000,000 in cash. Under
the terms of the Purchase and Sale Agreement, Poly-Flex entered into
a five-year lease of the Poly-Flex Facility with the buyer. The
Company recorded no immediate loss on the transaction since the fair
value of the Poly-Flex Facility exceeded the net book value of the
facility at the time of sale. However, approximately $1,374,000 of
excess net book value over the sales price was recorded as a deferred
loss and included in Other Assets - Net on the condensed consolidated
balance sheets. The deferred loss is being amortized to lease expense
over the five-year lease term. Amortization of the deferred loss,
reported as a component of rent expense, was $206,000 for the nine
months ended March 28, 2004.
Amortization of deferred financing costs was $196,000 for the nine
months ended March 28, 2004.
6. Accrued Liabilities - Facility Exit Costs
-----------------------------------------
The following is a summary of the facility exit costs activity during
the Nine Months ended March 28, 2004:
Facility FY 2004 Activity Facility
Exit Costs ---------------------------------------- Exit Costs
Accrued Cash Asset Change Accrued
June 30, 2003 Payments Write-offs in Estimates March 28, 2004
------------- -------- ---------- ------------ --------------
Lease costs $439,855 $(329,311) $ - $13,499 $124,043
Facility refurbishment costs 143,666 (3,714) - - 139,952
-------- --------- ------ ------- --------
Total $583,521 $(333,025) $ - $13,499 $263,995
======== ========= ====== ======= ========
During fiscal 2004, lease costs of $329,311 for the Salem, New
Hampshire facility, consisting of rent expense and utilities for the
period July 1, 2003 through March 28, 2004, were paid and charged to
the facility exit costs accrual. The accrued facility exit costs at
March 28, 2004 represent the remaining three months of lease payments
and the estimated costs to refurbish the facility at the early lease
termination date. The Company expects the balance of accrued facility
exit costs at March 28, 2004 to be paid within the next three months.
8
7. Long-term debt
--------------
Long-term debt consisted of:
March 28, June 30,
2004 2003
Loan and security agreement $ 5,231,775 $ 3,306,150
Parlex Shanghai term notes 7,369,731 2,175,645
Parlex Interconnect term note - 3,800,000
Finance obligation on sale-leaseback of Methuen Facility 5,203,524 5,333,597
Convertible subordinated notes 4,274,974 -
Other 618,972 -
----------- -----------
Total long-term debt 22,698,976 14,615,392
Less: current portion of long-term debt 12,961,965 3,813,117
----------- -----------
Long-term debt $ 9,737,011 $10,802,275
=========== ===========
Loan and Security Agreement (the "Loan Agreement") - The Company
executed a Loan Agreement with Silicon Valley Bank on June 11, 2003.
The Loan Agreement provided the Company's bank with a secured
interest in substantially all of its assets. The Company may borrow
up to $10,000,000, based on a borrowing base of eligible accounts
receivable. Borrowings may be used for working capital purposes only.
The Loan Agreement allows the Company to issue letters of credit,
enter into foreign exchange forward contracts and incur obligations
using the bank's cash management services up to an aggregate limit of
$1,000,000, which reduces the Company's availability for borrowings
under the Loan Agreement. The Loan Agreement contains certain
restrictive covenants, including but not limited to, limitations on
debt incurred by its foreign subsidiaries, acquisitions, sales and
transfers of assets, and prohibitions against cash dividends, mergers
and repurchases of stock without prior bank approval. The Loan
Agreement also has financial covenants, which among other things
require the Company to maintain $750,000 in minimum cash balances or
excess availability under the Loan Agreement.
On September 23, 2003, the Company executed a Modification Agreement
(the "Modification Agreement") with Silicon Valley Bank. The
Modification Agreement increased the interest rate on borrowings to
the bank's prime rate plus 1.5% and amended the financial covenants.
On February 18, 2004, the Company executed a Second Modification
Agreement (the "Second Modification Agreement") with Silicon Valley
Bank. The Second Modification Agreement removed the fixed charge
coverage ratio from the Loan Agreement and required us to report
EBITDA of at least $50,000 on a three month trailing basis, beginning
January 31, 2004. The minimum EBITDA requirement will be increased to
$250,000 at June 30, 2004. The Second Modification Agreement
increased the interest rate on borrowings to the bank's prime rate
(4.0% at March 28, 2004) plus 2.0% (decreasing to prime plus 1.25%
after two consecutive quarters of positive operating income and to
prime plus 0.75% after two consecutive quarters of positive net
income, respectively) and amended the financial covenants. On March 28,
2004, the Company entered into a Third Loan Modification Agreement with
Silicon Valley Bank, which permitted certain of the Company's
subsidiaries to increase the amount of indebtedness they could incur
from $8 million to $13 million, so long as such indebtedness was
without recourse to Parlex and its principal subsidiaries. As of
March 28, 2004, the Company was not in compliance with certain Loan
Agreement financial covenants. The Company has received a waiver from
the bank of its non-compliance at March 28, 2004 and the bank has
continued to allow the Company to borrow against the Loan Agreement.
At March 28, 2004, the Company had available borrowing capacity under
the Loan Agreement of approximately $1,409,000. Since the available
borrowing capacity exceeded $750,000 at March 28, 2004, none of the
Company's cash balance was subject to restriction at March 28, 2004.
The Loan Agreement includes both a subjective acceleration clause and
a lockbox arrangement that requires all lockbox receipts to be used
to pay down the revolving credit borrowings. Accordingly, borrowings
under the Loan Agreement have been classified as current liabilities
in the accompanying condensed consolidated balance sheets as of March
28, 2004 as required by Emerging Issues Task Force Issue No. 95-22, "
Balance Sheet Classification of Borrowings Outstanding Under
Revolving Credit Agreements that include both a Subjective
Acceleration Clause and a Lockbox Arrangement". However, such
borrowings will be excluded from current liabilities in future
periods and considered long-term obligations if such borrowing are:
1) refinanced on a long-term basis, 2) the subjective acceleration
terms of the Loan Agreement are modified, or 3) will not require the
use of working capital within one year. At June 30, 2003,
9
the balance outstanding under the Loan Agreement was properly
classified as long-term debt as a result of the refinancing of such
debt on a long-term basis with the proceeds of the 7% Convertible
Notes.
Parlex Shanghai Term Notes - On August 20, 2003, Parlex Shanghai
entered into a short-term bank note, due August 20, 2004, bearing
interest at 5.841%. Amounts outstanding under this short-term note
total $1.2 million as of March 28, 2004. The note replaced a similar
short-term note that terminated on August 22, 2003. On December 15,
2003, Parlex Shanghai entered into a short-term bank note, due
December 15, 2004, bearing interest at 5.31%. Amounts outstanding
under this short-term note total $605,000 as of March 28, 2004. On
January 14, 2004, Parlex Shanghai entered into two short-term bank
notes, due October 12, 2004 and November 10, 2004, totaling $1.8
million and bearing interest at 5.31%. On February 13, 2004 and March
2, 2004 Parlex Shanghai entered into two short-term bank notes, due
January 12, 2005 and March 1, 2005 and bearing interest at 5.31%.
Amounts outstanding under these short-term notes total $3.8 million.
These notes replaced a similar short-term note that terminated on
February 25, 2004.
Parlex Interconnect Term Note - In June 2002, Parlex Interconnect
executed a $5,000,000 Loan Agreement (the "CITIC Loan Agreement") with
CITIC. The CITIC Loan Agreement contains certain restrictive covenants
and a cross-default provision that would permit the lender to
accelerate the repayment of Parlex Interconnect's obligation under the
CITIC Loan Agreement in the event the Company defaults on other
financing arrangements. As a condition of the approval of this CITIC
Loan Agreement, the Company's subsidiary, Parlex Asia Pacific Ltd., and
the Company have provided a guarantee of the payment of this loan.
Under the provisions of its guarantee, the Company is required to
comply with certain financial covenants.
At September 28, 2003, the Company was not in compliance with the
financial covenants of the guarantee; however, effective October 8,
2003, CITIC executed the CITIC Loan Agreement Amendment and the
Guarantee Agreement Amendment. Among other matters, the CITIC Loan
Agreement Amendment reduced Parlex Interconnect's total borrowing
capacity from $5,000,000 to $3,800,000, established a new repayment
schedule and added a restrictive financial covenant regarding EBITDA as
of December 31, 2003 for Parlex Interconnect. Under the new repayment
schedule, $1,300,000 is due in 2004, $1,500,000 is due in 2005 and
$1,000,000 is due in 2006. The Guarantee Agreement Amendment modified
the restrictive financial covenants with Parlex consisting of Current
Ratio, Tangible Net Worth and Total Liabilities to Tangible Net Worth.
In March 2004, Parlex Interconnect retired the remaining balance of $3
million of the CITIC Loan Agreement as amended.
Finance Obligation on Sale Leaseback of Methuen Facility - In June
2003, Parlex sold its Methuen Facility for a purchase price of
$9,000,000 which consisted of $5,350,000 in cash at the closing, a
promissory note in the amount of $2,650,000 (the "Note") and up to
$1,000,000 in additional cash under the terms of an Earn Out Clause.
Under the terms of the Purchase and Sale Agreement, Parlex
simultaneously entered into a lease agreement relating to the Methuen
Facility with a minimum lease term of 15 years.
As the repurchase option contained in the lease and the receipt of
the Note from the buyer provide Parlex with a continuing involvement
in the Methuen Facility, Parlex has accounted for the sale-leaseback
of the Methuen Facility as a financing transaction. Accordingly, the
Company continues to report the Methuen Facility as an asset and
continues to record depreciation expense. The Company records all
cash received under the transaction as a finance obligation. The Note
and related interest thereon, and the $1,000,000 in additional cash
under the terms of an Earn Out Clause will be recorded as an increase
to the finance obligation as cash payments are received. The Company
records the principal portion of the monthly lease payments as a
reduction to the finance obligation and the interest portion of the
monthly lease payments is recorded as interest expense. The closing
costs for the transaction have been capitalized and are being
amortized as interest expense over the initial 15-year lease term.
Upon expiration of the repurchase option (June 30, 2015), the Company
will reevaluate its accounting to determine whether a gain or loss
should be recorded on this sale-leaseback transaction.
Convertible Subordinated Notes - On July 28, 2003, Parlex sold an
aggregate $6,000,000 of its 7% convertible subordinated notes (the
"Notes") with attached warrants to several institutional investors.
The Company received net proceeds of approximately $5.5 million from
the transaction, after deducting approximately $500,000 in finders'
fees and other transaction expenses. Net proceeds were used to
refinance amounts borrowed under the Company's Loan and
10
Security Agreement and utilized for working capital needs. No
principal payments are due until maturity on July 28, 2007. The Notes
are unsecured.
The Notes bear interest at a fixed rate of 7%, payable quarterly in
shares of Parlex common stock. The number of shares of common stock
to be issued is calculated by dividing the accrued quarterly interest
by the 'Initial Conversion Price' (a defined term) which was
established at $8.00 per share. The initial conversion price is
subject to adjustment in the event of stock splits, dividends and
certain combinations.
Interest expense is recorded quarterly based on the fair value of the
common shares issued. Accordingly, interest expense may fluctuate
from quarter to quarter. The Company has concluded that the interest
feature does not constitute an embedded derivative as it does not
currently meet the criteria for classification as a derivative.
The Company recorded accrued interest payable on the Notes of $80,050
within stockholders' equity at March 28, 2004, as the interest is
required to be paid quarterly in the form of common stock. Based on
the conversion price of $8.00 per common share at March 28, 2004, the
Company issued a total of 22,471 shares of common stock in October
2003 and January 2004 in satisfaction of previously recorded interest
and issued 13,123 shares of common stock in April 2004 as payment for
the interest accrued in the third quarter.
The Notes contained a beneficial conversion feature reflecting an
effective initial conversion price that was less than the fair market
value of the underlying common stock on July 28, 2003. The fair value
of the beneficial conversion feature was approximately $1,035,000,
which has been recorded as an increase to additional paid-in capital
and as an original issue discount on the Notes which is being
amortized to interest expense over the 4-year life of the Notes.
After two years from the date of issuance, the Company has the right
to redeem all, but not less than all, of the Notes at 100% of the
remaining principal of Notes then outstanding, plus all accrued and
unpaid interest, under certain conditions. After three years from the
date of issuance, the holder of any of the Notes may require the
Company to redeem the Notes in whole, but not in part. Such
redemption shall be at 100% of the remaining principal of such Notes,
plus all accrued and unpaid interest. In the event of a Change in
Control (as defined therein), the holder has the option to require
that the Notes be redeemed in whole (but not in part), at 120% of the
outstanding unpaid principal amount, plus all unpaid interest
accrued.
A summary of the current portion of our long term debt described
above is as follows:
March 28, June 30,
2004 2003
Loan and security agreement $ 5,231,775 $ -
Parlex Shanghai term notes 7,369,731 2,175,645
Parlex Interconnect term note - 1,300,000
Finance obligation on sale-leaseback of Methuen Facility 360,459 337,472
----------- ----------
Total current portion of long-term debt $12,961,965 $3,813,117
=========== ==========
8. Stockholders' Equity
--------------------
The Company issued common stock warrants in connection with certain
financings. All warrants are currently exercisable and the following
table summarizes information about common stock warrants outstanding
to lenders and investors at March 28, 2004:
11
Weighted-Average
Fiscal Year Number Exercise Expiration
Granted Outstanding Price Date
----------- ----------- ---------------- ----------
2003 25,000 $6.89 June 10, 2008
2004 225,000 8.00 July 28, 2007
2004 22,500 8.00 July 28, 2008
------- -----
Total 272,500 $7.90
======= =====
Upon execution of the Loan Agreement on June 10, 2003, the Company
issued warrants for the purchase of 25,000 shares of its common stock
to the bank at an initial exercise price of $6.89 per share. The
exercise price is subject to future adjustment under certain
conditions, including but not limited to, stock splits and stock
dividends. The fair value of the warrants on June 10, 2003 was
approximately $100,600, which has been recorded as deferred financing
costs and is being amortized to interest expense over the life of the
Loan Agreement. Amortization expense for the three and nine months
ended March 28, 2004 was $12,600 and $37,700, respectively.
In connection with the sale of the Convertible Subordinated Notes,
the investors and the investment adviser received warrants to
purchase an aggregate of 322,500 shares of common stock, at an
initial exercise price of $8.00 per share. The exercise price of the
warrants is subject to adjustment in the event of stock splits,
dividends and certain combinations. The relative fair value of the
warrants issued to the investors and to the investment adviser on
July 28, 2003 was approximately $1,035,000 and $104,000,
respectively. The relative fair value of the warrants was recorded as
an increase in additional paid-in capital and as original issuance
discount recorded against the carrying value of the Notes. In
December 2003, one of the investors exercised their warrants to
purchase 75,000 shares of Parlex common stock and the Company
received proceeds of $600,000. The original issue discount is being
amortized to interest expense over the 4-year life of the Notes.
Amortization expense for the three and nine months ended March 28,
2004 was $69,900 and $186,400, respectively.
9. Revenue Recognition
-------------------
Revenue on product sales is recognized when persuasive evidence of an
agreement exists, the price is fixed or 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 title to the product passes to the customer. Title passes to the
customer according to the shipping terms negotiated between the
Company and the customer. License fees and royalty income are
recognized when earned.
10. Stock-Based Compensation
------------------------
The Company accounts for stock-based compensation to employees and
nonemployee directors in accordance with Accounting Principles Board
("APB") Opinion No. 25 "Accounting for Stock Issued to Employees"
using the intrinsic-value method as permitted by Statement of
Financial Accounting Standards ("SFAS") No. 123, "Accounting for
Stock-Based Compensation." SFAS No. 123 encourages, but does not
require, the recognition of compensation expense for the fair value
of stock options and other equity instruments issued to employees and
nonemployee directors.
Had the Company used the fair-value method to measure compensation,
the Company's net loss and basic and diluted loss per share would
have been as follows:
12
Three Months Ended Nine Months Ended
March 28, 2004 March 30, 2003 March 28, 2004 March 30, 2003
Net loss - as reported (2,590,076) (5,929,027) (6,604,341) (17,220,187)
Deduct stock-based employee compensation expense
determined under the fair-value method (158,000) (177,000) (520,000) (561,000)
---------- ---------- ---------- -----------
Net loss - pro forma (2,748,076) (6,106,027) (7,124,341) (17,781,187)
========== ========== ========== ===========
Basic and diluted loss per share - as reported $ (0.40) $ (0.94) $ (1.04) $ (2.73)
========== ========== ========== ===========
Basic and diluted loss per share - pro forma $ (0.43) $ (0.97) $ (1.12) $ (2.82)
========== ========== ========== ===========
The fair values of the options at the date of grant were estimated
using the Black-Scholes option pricing model with the following
assumptions:
Three Months Ended Nine Months Ended
March 28, 2004 March 30, 2003 March 28, 2004 March 30, 2003
Average risk-free interest rate 3.3% 4.0% 3.5% 4.0%
Expected life of option grants 3.5 years 3.5 years 3.5 years 3.5 years
Expected volatility of underlying stock 71% 78% 78% 78%
Expected dividend rate None None None None
The following table presents combined activity for stock options for
the three and nine months ended March 28, 2004:
Three Months Ended March 28, 2004 Nine Months Ended March 28, 2004
Weighted- Weighted-
Shares Average Shares Average
Under Exercise Under Exercise
Option Price Option Price
Outstanding options at beginning of period 565,025 $12.56 507,775 $13.26
Granted 6,000 8.39 91,000 8.40
Surrendered - - (27,750) 12.70
Exercised - - - -
------- ------ ------- ------
Outstanding options at end of period 571,025 $12.51 571,025 $12.51
======= ====== ======= ======
Exercisable options at end of period 343,025 $13.84 343,025 $13.84
Weighted average fair value of options
granted during the period $ 4.29 $ 4.44
The following table presents weighted average price and life
information about significant option groups outstanding and
exercisable at March 28, 2004:
13
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 1.2 $ 6.05 12,000 $ 6.05
7.21 - 10.80 138,000 8.9 9.03 41,250 10.23
10.81 - 14.40 289,275 7.1 12.17 158,525 12.34
14.41 - 18.00 66,250 5.3 16.18 66,250 16.18
18.01 - 21.60 63,500 3.6 18.78 63,500 18.78
21.61 - 25.20 2,000 6.1 22.00 1,500 22.00
------- --- ------ ------- ------
$3.60 - $25.20 571,025 6.8 $12.51 343,025 $13.84
======= === ====== ======= ======
11. 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 a valuation allowance.
The Company performs an ongoing evaluation of the realizability of
its net deferred tax assets. As a result of its operating losses,
uncertain future operating results, and past non-compliance with
certain of its debt covenant requirements, the Company determined
during fiscal 2003 that it is more likely than not that certain
historic and current year income tax benefits will not be realized.
Consequently, the Company established a valuation allowance against
all of its U.S. net deferred tax assets and has not given recognition
to these net tax assets in the accompanying financial statements at
March 28, 2004. Upon a favorable change in the operations and
financial condition of the Company that results in a 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 will be eliminated.
12. Loss Per Share
--------------
Basic loss per share is calculated on the weighted-average number of
common shares outstanding during the year. Diluted loss per share is
calculated on the weighted-average number of common shares and common
share equivalents resulting from outstanding options and warrants
except where such items would be antidilutive.
The loss utilized to calculate loss per share for the three months
ended March 28, 2004 and March 30, 2003 was equal to the reported net
loss for each period.
The reconciliation between shares used for computation of basic and
dilutive income per share is as follows:
Three Months Ended Nine Months Ended
March 28, March 30, March 28, March 30,
2004 2003 2004 2003
Shares for basic computation 6,409,110 6,312,216 6,351,243 6,307,337
Effect of dilutive stock options and warrants - - - -
--------- --------- --------- ---------
Shares for dilutive computation 6,409,110 6,312,216 6,351,243 6,307,337
========= ========= ========= =========
Antidilutive shares were not included in the per-share calculations
for the nine months ended March 28, 2004 and March 30, 2003 due to
the reported net losses for those periods. Antidilutive shares
totaled approximately 844,000 and 508,000 for the nine months ended
March 28, 2004 and March 30, 2003, respectively. All antidilutive
shares relate to outstanding stock options except for 272,500 anti-
dilutive shares at March 28, 2004 relating to warrants issued in
connection with certain debt financings (see Note 8).
14
13. Comprehensive Loss
------------------
Comprehensive loss for the three and nine months ended March 28, 2004
and March 30, 2003 is as follows:
Three Months Ended Nine Months Ended
March 28, 2004 March 30, 2003 March 28, 2004 March 30, 2003
-------------- -------------- -------------- --------------
Net loss $(2,590,076) $(5,929,027) $(6,604,341) $(17,220,187)
Other comprehensive (loss) income:
Foreign currency translation adjustments 197,048 (87,566) 340,959 101,955
----------- ----------- ----------- ------------
Total comprehensive loss $(2,393,028) $(6,016,593) $(6,263,382) $(17,118,232)
=========== =========== =========== ============
14. Related Party Transactions
--------------------------
The Company purchased $580,000 of equipment during the nine months
ended March 30, 2003 from a company in which a then executive officer
of Parlex had a financial interest. Effective February 24, 2003, the
executive officer was no longer employed by the Company. As of March
28, 2004, all amounts owed for equipment purchases from this party
had been paid.
15. Subsequent Event
----------------
Subsequent to March 28, 2004, the Company entered into the following
transactions in order to provide additional capital to fund its
operating losses and working capital requirements:
Sale of Our Series A Convertible Preferred Stock and Related Warrants
- On May 7, 2004, the Company entered into multiple Stock and Warrant
Purchase Agreements (the "Agreements") pursuant to which it sold an
aggregate $3,100,000 of its Series A Convertible Preferred Stock (the
"Preferred Stock") with attached warrants (the "Warrants") to
several investors. The Company received net proceeds of approximately
$2.8 million from the transaction, after deducting approximately
$300,000 in finders' fees and other transaction expenses. Proceeds
from the sale will be used to fund working capital requirements. The
Preferred Stock provides for an annual fixed dividend of 8.25%,
payable quarterly in shares of the Company's common stock or in cash,
at its sole discretion. In the event the Company decides not to redeem
the shares three years from the issuance date (as discussed below),
the dividend rate payable on the Preferred Stock shall be increased
to 14%.
One share of Preferred Stock may be converted at any time by the
investors, in whole or in part, into ten (10) shares of Common Stock
(the "Conversion Shares"). If the closing price of the Company's
Common Stock exceeds 150% of the initial conversion price (initially
fixed at $8.00 per share), for twenty (20) consecutive trading days,
then all outstanding shares of Preferred Stock shall be automatically
converted into Common Stock. After three years from the date of
issuance, the Company has the right to redeem, in its sole
discretion, all, but not less than all, of the Preferred Stock, at
$80.00 per share (subject to adjustment) together with all accrued
and unpaid dividends to the date fixed for redemption. In the event
the Company elects to redeem the Preferred Stock after three years,
the investors have the option to convert the shares of Preferred
Stock into Conversion Shares if they so elect within twenty (20) days
of receipt of notice of the Company's intent to redeem.
In connection with the sale of the Preferred Stock, the investors
also received common stock purchase warrants for an
15
aggregate of 193,750 shares of our common stock at an initial
exercise price of $8.00 per share. The Warrants are exercisable
commencing November 8, 2004 and expire on May 7, 2007. The conversion
price of the Preferred Stock and the exercise price of the Warrants
are subject to adjustment in the event of stock splits, dividends and
certain combinations.
16
Item 2. Management's Discussion and Analysis of Financial Condition and
- -----------------------------------------------------------------------
Results of Operations
- ---------------------
This 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 25. The
following discussion contains forward-looking statements within the meaning
of the Private Securities Litigation Reform Act of 1995, and is subject to
the safe-harbor created by such Act. Forward-looking statements express our
expectations or predictions of future events or results. They are not
guarantees and are subject to many risks and uncertainties. There are a
number of factors - many beyond our control - that could cause actual
events or results to be significantly different from those described in the
forward-looking statement. Any or all of our forward-looking statements in
this report or in any other public statements we make may turn out to be
wrong. Forward-looking statements can be identified by the fact that they
do not relate strictly to historical or current facts. They use words such
as "anticipate," "estimate," "expect," "project," "intend," "plan,"
"believe" or words of similar meaning. They may also use words such as
"will," "would," "should," "could" or "may". 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, and Part IV, Item 15 "Exhibits,
Financial Statement Schedules and Reports on Form 8-K" of our Annual Report
on Form 10-K for the year ended June 30, 2003. 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 judgment by our management which subjects them to an inherent
degree of uncertainty. In applying our accounting policies, our management
uses its best judgment 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 judgment due to the sensitivity of the methods, assumptions and
estimates necessary in determining the related asset, liability, revenue
and expense amounts.
Overview
We believe we are a leading supplier of flexible interconnects principally
for sale to the automotive, telecommunications and networking, diversified
electronics, military, home 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
$16.7 million in property and equipment and approximately $18.6 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.
In 2003 and 2002, we were adversely affected by the economic downturn and its
impact on our key customers and markets. We have incurred operating losses
during these periods of $29.8 million, and have used cash to fund operations
and working capital of $2.4 million during this time. We have taken certain
steps to improve operating margins, including closure of facilities,
downsizing of our employee base, exiting unprofitable markets, and transfer
of manufacturing operations to lower cost locations, such as the People's
Republic of China. In addition to transferring certain domestic
manufacturing processes to lower cost international manufacturing
locations, as part of our business strategy, we continue to pursue markets
and customer opportunities requiring domestic manufacturing support. We
believe there are strategic prospects available in the military/aerospace
and medical markets that represent a significant domestic manufacturing
opportunity. As evidence of our progress, the medical market two years ago
represented an insignificant portion of our overall revenues. In the
quarter ended March 28, 2004 medical related business accounted for 6% of
overall revenues.
17
In addition, we have worked closely with our lenders to manage through this
difficult time and have obtained additional capital in 2003 and in fiscal
2004 through sale leaseback transactions of selected corporate assets and the
issuance of convertible subordinated debt and convertible preferred stock. As
a result of the difficult economic environment facing us, we have had
difficulty maintaining compliance with the terms and conditions of certain of
our financing facilities. At March 28, 2004, we were not in compliance with
certain financial covenants under our Loan and Security Agreement (the
"Loan Agreement") with Silicon Valley Bank. We have received a waiver from
the bank for our non-compliance at March 28, 2004. For additional
information relating to the proposed amendment, please see "Liquidity and
Capital Resources", below.
Critical Accounting Policies
The preparation of consolidated financial statements requires that we make
estimates and judgments 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, goodwill and other intangible
assets, valuation of stock options and warrants, income taxes and other
accrued expenses, including self-insured health insurance claims. 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 judgments 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 on product
sales 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 title to
the product passes to the customer. Title passes to the customer according to
the shipping terms negotiated between the customer and us. 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 raw material inventory at the lower of the actual
cost to purchase and/or manufacture the inventory or the current estimated
market value of the inventory. Work in process and finished goods are valued
as a percentage of completed cost, not in excess of net realizable value. We
regularly review our inventory and record a provision for excess or obsolete
inventory based primarily on our estimate of expected and future product
demand. Our estimates of future product demand will differ from actual demand
and, as such, our estimate of the provision required for excess and obsolete
inventory will change, which we will record in the period such determination
was made. Raw material, work in process and finished goods inventory
associated with programs cancelled by customers are fully reserved for as
obsolete. Reductions in obsolescence reserves are recognized when realized.
Goodwill. Effective July 1, 2001, we adopted the provisions of SFAS No.142,
"Goodwill and Other Intangible Assets". Accordingly, goodwill is not
amortized but is tested for impairment, for each reporting unit, on an
annual basis and between annual tests in certain circumstances. We evaluate
goodwill for impairment by comparing our market capitalization, as adjusted
for a control premium, to our recorded net asset value. In order to compute
the control premium adjustment, we have utilized the control premium
realized by competitors or electronic manufacturers of similar size and
operating characteristics in acquisitions. If our market capitalization, as
adjusted for a control premium, is less than our recorded net asset value,
we will further evaluate the implied fair value of our goodwill with the
carrying amount of the goodwill, as required by SFAS No. 142, and we will
record an impairment charge against the goodwill, if required, in our
results of operations in the period such determination was made.
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 net deferred tax assets
for which we previously provided a
18
valuation allowance, an adjustment would be required to reduce the existing
valuation allowance. 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.
Off-Balance Sheet Arrangements. We have not created, and are not party to,
any special-purpose or off-balance sheet entities for the purpose of raising
capital, incurring debt or operating parts of our business that are not
consolidated into our financial statements. We do not have any arrangements
or relationships with entities that are not consolidated into our financial
statements that are reasonably likely to materially affect our liquidity or
the availability of capital resources, except as may be set forth below
under "Liquidity and Capital Resources."
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
Unaudited Condensed Consolidated Financial Statements and the Notes
thereto.
Three Months Ended Nine Months Ended
March 28, March 30, March 28, March 30,
2004 2003 2004 2003
Total revenues 100.0% 100.0% 100.0% 100.0%
Cost of products sold 91.8% 109.2% 89.7% 99.9%
----- ----- ----- -----
Gross profit 8.2% (9.2)% 10.3% 0.1%
Selling, general and administrative expenses 16.5% 20.0% 17.3% 16.4%
----- ----- ----- -----
Operating loss (8.3)% (29.2)% (7.0)% (16.3)%
Loss from operations before income taxes
and minority interest (11.0)% (30.4)% (9.7)% (17.3)%
----- ----- ----- -----
Net loss (11.2)% (30.5)% (9.9)% (26.9)%
===== ===== ===== =====
Three Months Ended March 28, 2004 Compared to Three Months Ended March 30, 2003
- -------------------------------------------------------------------------------
Total Revenues. Total revenues for the three months ended March 28, 2004
were $23.2 million versus $19.4 million for the three months ended March
30, 2003. This represents an increase of $3.8 million or approximately 20%.
Year over year revenue increases were in part offset by decreases in
domestic PALFlex revenues. In February 2003 we discontinued our unprofitable
domestic PALFlex business. Revenues generated from our PALFlex operations in
the third quarter of fiscal 2003 were $1.1 million. Excluding PALFlex
revenues from the prior year, total revenues for the quarter increased $4.9
million or 26%.
Quarterly revenues decreased approximately 2% when compared to the three
months ended December 28, 2003. Traditionally, our third fiscal quarter is
adversely affected by seasonal markets such as computer and peripherals.
This is particularly the case in our China operations which depends heavily
on revenues from these markets. Revenues from our China operations, despite
increasing 67% year over year, decreased approximately $2 million compared
to our second fiscal quarter. Reductions in revenue from China were largely
offset by solid increases in both our multilayer and polymer thick film
businesses. Multilayer revenue gains of $700,000 were almost exclusively
from the military / aerospace markets where we continue to see good long
term opportunities. Opportunities in the appliance and medical markets such
as disposable devices have driven the polymer thick film gains. In March
2004, we began shipping a disposable glucose monitoring device we believe
shows excellent near term prospects. Our North American laminated cable and
prototype operations have both experienced an increase in demand reflecting
a general improvement in the overall electronics market. We believe this
trend should continue in the following quarter. We anticipate a strong
recovery in revenues from our China operations during the fourth quarter
consistent with the year over year growth we have experienced during the
past nine months.
19
Cost of Products Sold. Cost of products sold was $21.3 million, or 92% of
total revenues, for the three months ended March 28, 2004, versus $21.2
million, or 109% of total revenues, for the three months ended March 30,
2003. Cost of products sold were favorably impacted year over year by the
closing of our unprofitable domestic PALFlex operations in February 2003.
The re-structuring charge in the prior year included severance, asset
write-offs and inventory reserves. Domestic PALFlex cost of products sold
was $4.2 million on $1.1 million of revenue in the third quarter of the
prior year. Margins during the quarter were adversely impacted by lower
than anticipated product yield and new program start-up costs of $300,000
associated with model year changes in our China operations. Further, the
short term decrease in China volume during the quarter resulted in under
utilized labor costs of $100,000. We believe these issues to be resolved
entering the fourth quarter. Margins continue to be unfavorably impacted by
initial production ramp on our new Smartcard manufacturing line. We
anticipate production volumes in the fourth quarter will result in at least
breakeven from this operation. Our Methuen facility continued to experience
low capacity utilization and correspondingly, significant unfavorable
manufacturing variances. Continued growth in our Multi-Layer business,
primarily in the military and medical markets, and the relocation of our
Laminated Cable operations from Salem, New Hampshire to Methuen
Massachusetts, which was completed in January 2003, are anticipated to
improve margins. To date we have been disappointed with the slow growth in
our Multi-Layer business, particularly through internal sales growth. We
have recently closed a significant new opportunity which we expect will
improve utilization. Under this new agreement, we will assume all
manufacturing of flex and rigid flex circuits while the customer will retain
finishing and assembly responsibility. Initial manufacturing will commence
in June 2004. Additional sales of Multi-layer business will, however, be
required in order for us to reach appropriate levels of utilization to
enable this business to be profitable.
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. A large portion of the final assembly,
inspection, and test procedures previously performed in our Methuen,
Massachusetts and Salem, New Hampshire facilities are now performed in
Mexico. Moreover, during fiscal 2003, we completed the transfer of our
PALFlex operations to China. Although the transfer of manufacturing
capabilities is costly, this investment is the key to our long-term
strategy for cost effective manufacturing. Although these cost reduction
measures are expected to improve our gross margins, a return to
profitability is predicated upon operational performance, a favorable
product mix and increased sales, particularly in our Multi-Layer business.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses were $3.8 million for the three months ended March
28, 2004 versus $3.9 million for the comparable period in the prior year.
Decreases can be attributed to cost containment efforts particularly in our
North American operations. These decreases of $300,000 were in part offset by
year over year infrastructure investment in China including critical
headcount additions, general insurance premium increases and increases in
professional services of approximately $185,000.
Interest Income. Interest income was $2,000 for the three months ended
March 28, 2004 compared to $20,000 for the three months ended March 30,
2003, and primarily consists of interest income on our cash balances and
interest earned on our short-term investments.
Interest Expense. Interest expense was $642,000 for the three months ended
March 28, 2004 and $243,000 for the three months ended March 30, 2003.
Interest expense represents interest incurred on our short and long-term
borrowings and interest expense associated with deferred compensation.
Interest expense for the three months ended March 28, 2004 includes
$463,000 for interest payable in common stock and amortized deferred
financing costs. The deferred financing costs are associated with the sale-
leaseback of our Methuen facility and sale of convertible subordinated
notes.
Non operating income. Non operating income was $33,000 for the three months
ended March 28, 2004 versus $24,000 for the three months ended March 30,
2003. Non operating income primarily represents currency exchange rate
gains.
Non operating expense. Non operating expense was $25,000 for the three
months ended March 28, 2004 compared to $38,000 for the three months ended
March 30, 2003. Non operating expense primarily represents currency
exchange rate losses.
20
Our loss before income taxes and the minority interest in our Chinese
venture, Parlex Shanghai, was $2.6 million in the three months ended March
28, 2004 compared to $5.9 million in the three months ended March 30, 2003.
We own 90.1% of the equity interest in Parlex Shanghai and, accordingly,
include Parlex Shanghai's results of operations, cash flows and financial
position in our consolidated financial statements.
Income Taxes. Our effective tax rate was approximately 2% for the three
months ended March 28, 2004 versus an effective tax rate of 0% for the
three months ended March 30, 2003. 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 operating losses,
uncertain future operating results, and the past 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, we recorded no income tax benefits on
our U.S operating losses during the three months ended March 28, 2004. In
the prior year, we established a valuation allowance against all of our
remaining net U.S. deferred tax assets.
Nine Months Ended March 28, 2004 Compared to Nine Months Ended March 30, 2003
- -----------------------------------------------------------------------------
Total Revenues. Total revenues for the nine months ended March 28, 2004
were $66.4 million versus $64.0 million for the nine months ended March 30,
2003. This represents an increase of $2.4 million or 4%. Increases in
revenues were substantially offset by lost revenues associated with the
discontinuation of our unprofitable domestic PALFlex operation. Excluding
PALFlex revenues from both years, total revenues increased by approximately
$8.6 million or 15% in the first nine months of fiscal 2004.
Strong revenues were recorded in our China operations for the first nine
months of fiscal 2004. China sales increased to 37% of our total
revenues versus 26% for the first nine months of fiscal 2003. Foreign
sourced revenues increased to 48% of our total revenues for the first nine
months of fiscal 2004. China revenue increases, $8.1 million, were driven
by strong sales in the computer peripheral, wireless telecom, automotive,
and electronic identification markets. Polymer thick film revenues
increased $3.4 million over the same period of the prior year with growth
occurring primarily in the medical and appliance markets. Revenue increases
were in part offset by a decrease of $900,000 in our Laminated Cable
operations. Our Laminated Cable operations experienced solid recovery in
the second and third quarter after disappointing soft North American demand
in the first quarter of fiscal 2004. Multilayer revenues were essentially
flat year over year though the most recent quarter reflected solid
improvement.
Cost of Products Sold. Cost of products sold was $59.6 million, or 90% of
total revenues, for the nine months ended March 28, 2004, versus $63.9
million, or 100% of total revenues, for the nine months ended March 30,
2003. Cost of products sold were favorably impacted year over year by the
closing of our significantly unprofitable domestic PALFlex operations in
February 2003. In addition, increases in capacity utilization in China
resulted in further margin improvements. Gross margins in China were 18%
for the first nine months of fiscal 2004 versus 9% for the comparable
period of the prior year. Polymer thick film gross margins were essentially
flat year over year at 17%. Our Methuen facility continued to experience
low capacity utilization and correspondingly, significant unfavorable
manufacturing variances. Continued growth in our Multi-Layer business,
primarily in the military and medical markets, and the relocation of our
Laminated Cable operations from Salem, New Hampshire to Methuen
Massachusetts, which was completed in January 2003, are anticipated to
improve margins in the fourth quarter of fiscal 2004. We continue to focus on
operational improvements within our multilayer operations which we believe
will reduce breakeven revenue levels. These operational improvements include
yield and process improvement programs as well as raw material cost reduction
initiatives.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses were $11.5 million for the nine months ended March
28, 2004 versus $10.5 million for the comparable period in the prior year.
Due to the reorganization of our sales force in mid-2002 and the staffing
of several open regional positions in fiscal 2003, headcount related
selling expenses increased $200,000 in the first nine months of fiscal
2004. Commission expenses increased $300,000, primarily in China where
revenues have increased 49%. Commissions were lower in the first nine
months of fiscal 2003 as no commissions were paid on a significant portion
of sales deemed a corporate account. Further, in the first quarter of
fiscal 2003, we reduced our reserves for bad debts by approximately
$360,000. We believe our reserves for bad debts to be adequate at March
28, 2004 and have historically experienced few bad debt
21
write-offs. Remaining increases in administrative expenses includes sales
tax, $100,000, China infrastructure investment, $150,000, and continued
growth in public company costs, $100,000.
Interest Income. Interest income was $9,000 for the nine months ended March
28, 2004 compared to $31,000 for the nine months ended March 30, 2003, and
primarily consists of interest income on our cash balances and interest
earned on our short-term investments.
Interest Expense. Interest expense was $1.8 million for the nine months
ended March 28, 2004 and $670,000 for the nine months ended March 30, 2003.
Interest expense represents interest incurred on our short and long-term
borrowings and interest expense associated with deferred compensation.
Interest expense for the nine months ended March 28, 2004 includes $1.4
million for interest payable in common stock and amortized deferred
financing costs. The deferred financing costs are associated with the sale-
leaseback of our Methuen facility and sale of convertible subordinated
notes.
Non operating income. Non operating income was $94,000 for the nine months
ended March 28, 2004 versus $10,000 for the nine months ended March 30,
2003. Non operating income primarily represents currency exchange rate
gains.
Non operating expense. Non operating expense was $33,000 for the nine
months ended March 28, 2004 compared to $84,000 for the nine months ended
March 30, 2003. Non operating expense primarily represents currency
exchange rate losses.
Our loss before income taxes and the minority interest in our Chinese
venture, Parlex Shanghai, was $6.5 million in the nine months ended March
28, 2004 compared to $11.1 million in the nine months ended March 30, 2003.
We own 90.1% of the equity interest in Parlex Shanghai and, accordingly,
include Parlex Shanghai's results of operations, cash flows and financial
position in our consolidated financial statements.
Income Taxes. Our effective tax rate was approximately 1% for the nine
months ended March 28, 2004 versus an effective tax rate of 55% for the
nine months ended March 30, 2003. 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 operating losses, uncertain
future operating results, and the past 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, we recorded no income tax benefits on our U.S
operating losses during the nine months ended March 28, 2004. In the prior
year, we established a valuation allowance against all of our remaining net
U.S. deferred tax assets.
Liquidity and Capital Resources
- -------------------------------
As of March 28, 2004, we had approximately $2.2 million in cash and cash
equivalents.
Net cash used by operations during the nine months ended March 28, 2004 was
$9.2 million. Net operating losses of $6.6 million after adjustment for
minority interest, interest payable in common stock, gain on sale of land
use rights, depreciation and amortization, used $1.4 million of operating
cash. Working capital consumed $7.8 million of cash. Cash used for working
capital included accounts receivable increases of $3.0 million, inventory
increases of $2.7 million, reductions in accounts payable of $1.3 million,
and $800,000 for other working capital needs.
Net cash provided by investing activities was $695,000 for the nine months
ended March 28, 2004. This included $1.2 million for the sale of our
Chinese land use rights offset with funds used to purchase capital
equipment and other assets. As of March 28, 2004, we have an additional
$1.7 million of capital equipment financed under our accounts payable that
will be paid during the next quarter. We have implemented plans to control
our capital expenditures in order to enhance cash flows and maintain
compliance with restrictive covenants under our Loan Agreement. We estimate
our capital expenditures for the remaining portion of our fiscal 2004 and
fiscal 2005 to be approximately $300,000 and $2,500,000 respectively. Cash
provided by financing activities was $9.2 million for the nine months ended
March 28, 2004 including net proceeds of $5.5 million from the sale of our
convertible subordinated notes and $3.2 million, which represents the net
repayments and borrowings on our bank debt. The bank borrowings include
$38.8 million from our
22
primary lender, Silicon Valley Bank, and $7.7 million from our Parlex
Shanghai lenders. Payments include $36.9 million to Silicon Valley Bank,
$2.5 million to retire three of Parlex Shanghai's local short-term bank
notes and $3.8 million to retire Parlex Interconnect's Citic Ka Wah Bank
Loan. In December 2003, one of the note holders of our convertible debt
exercised 100% of their warrants to purchase Parlex common stock. The
warrants were exercisable at $8.00 per share of common stock. We received
proceeds totaling $600,000 upon exercise of the warrants and subsequently
in January 2004 issued 75,000 shares of Parlex common stock.
Loan and Security Agreement (the "Loan Agreement") - We executed a Loan
Agreement with Silicon Valley Bank on June 11, 2003. The Loan Agreement
provided the bank with a secured interest in substantially all of our
assets. We may borrow up to $10,000,000, based on a borrowing base of
eligible account receivable. Borrowings may be used for working capital
purposes only. The Loan Agreement allows us to issue letters of credit,
enter into foreign exchange forward contracts and incur obligations using
the bank's cash management services up to an aggregate limit of $1,000,000,
which reduces our availability for borrowings under the Loan Agreement. The
Loan Agreement contains certain restrictive covenants, including but not
limited to, limitations on debt incurred by our foreign subsidiaries,
acquisitions, sales and transfers of assets, and prohibitions against cash
dividends, mergers and repurchases of stock without prior bank approval.
The Loan Agreement also has financial covenants which, among other things,
require us to maintain $750,000 in minimum cash balances or excess
availability under the Loan Agreement.
On September 23, 2003, we executed a Modification Agreement (the
"Modification Agreement") with Silicon Valley Bank. The Modification
Agreement increased the interest rate on borrowings to the bank's prime
rate plus 1.5% and amended the financial covenants. On February 18, 2004,
we executed a Second Modification Agreement (the "Second Modification
Agreement") with Silicon Valley Bank. The Second Modification Agreement
removed the fixed charge coverage ratio from the Loan Agreement and
required us to report EBITDA of at least $ 50,000 on a three month trailing
basis, beginning January 31, 2004. The minimum EBITDA requirement will be
increased to $250,000 at June 30, 2004. The Second Modification Agreement
increased the interest rate on borrowings to the bank's prime rate (4.0% at
March 28, 2004) plus 2.0% (decreasing to prime plus 1.25% after two
consecutive quarters of positive operating income and to prime plus 0.75%
after two consecutive quarters of positive net income, respectively) and
amended the financial covenants. On March 28, 2004, we entered into a Third
Loan Modification Agreement with Silicon Valley Bank, which permitted certain
of our subsidiaries to increase the amount of indebtedness they could incur
from $8 million to $13 million, so long as such indebtedness was without
recourse to Parlex and its principal subsidiaries. As of March 28, 2004,
we were not in compliance with certain Loan Agreement financial covenants.
We have received a waiver from the bank for our non-compliance at March 28,
2004. The bank has continued to allow us to borrow against the Loan
Agreement. At March 28, 2004, we had available borrowing capacity under the
Loan Agreement of $1,409,000. Since the available borrowing capacity exceeded
$750,000 at March 28, 2004, none of our cash balance was subject to
restriction at March 28, 2004.
The Loan Agreement includes both a subjective acceleration clause and a
lockbox arrangement that requires all lockbox receipts to be used to pay
down the revolving credit borrowings. Accordingly, borrowings under the
Loan Agreement have been classified as current liabilities in the
accompanying condensed consolidated balance sheets as of March 28, 2004 as
required by Emerging Issues Task Force Issue No. 95-22, " Balance Sheet
Classification of Borrowings Outstanding Under Revolving Credit Agreements
that include both a Subjective Acceleration Clause and a Lockbox
Arrangement". However, such borrowings will be excluded from current
liabilities in future periods and considered long-term obligations if such
borrowing are: 1) refinanced on a long-term basis, 2) the subjective
acceleration terms of the Loan Agreement are modified, or 3) will not
require the use of working capital within one year. At June 30, 2003, the
balance outstanding under the Loan Agreement was properly classified as
long-term debt as a result of the refinancing of such debt on a long-term
basis with the proceeds of the 7% Convertible Notes.
Parlex Shanghai Term Notes - On August 20, 2003, Parlex Shanghai entered
into a short-term bank note, due August 20, 2004, bearing interest at
5.841%. Amounts outstanding under this short-term note total $1.2 million
as of March 28, 2004. The note replaced a similar short-term note that
terminated on August 22, 2003. On December 15, 2003, Parlex Shanghai
entered into a short-term bank note, due December 15, 2004, bearing
interest at 5.31%. Amounts outstanding under this short-term note total
$605,000 as of March 28, 2004. On January 14, 2004, Parlex Shanghai entered
into two short-term bank notes, due October 12, 2004 and November 10, 2004,
totaling $1.8 million and bearing interest at 5.31%. On February 13, 2004
and March 2, 2004 Parlex Shanghai entered into two short-term bank notes,
due January 12, 2005 and March 1, 2005 and bearing interest at 5.31%.
Amounts outstanding under these short-term notes total $3.8 million. These
notes replaced a similar short-term note that terminated on February 25,
2004.
23
Parlex Interconnect Term Note - In June 2002, Parlex Interconnect executed
the $5,000,000 CITIC Loan Agreement with CITIC. The CITIC Loan Agreement
contains certain restrictive covenants and a cross default provision that
would permit the lender to accelerate the repayment of Parlex Interconnect's
obligation under the CITIC Loan Agreement in the event of our default on
other financing arrangements. As a condition of the approval of this CITIC
Loan Agreement, our subsidiary, Parlex Asia Pacific Ltd., and we have
provided a guarantee of the payment of this loan. Under the provisions of the
guarantee, we are required to comply with certain financial covenants.
Effective October 8, 2003, CITIC entered into the CITIC Loan Agreement
Amendment with Parlex Interconnect, and the Guarantee Agreement Amendment
with us. Among other matters, the CITIC Loan Agreement Amendment reduced
Parlex Interconnect's total borrowing capacity from $5,000,000 to $3,800,000,
established a new repayment schedule and added a restrictive financial
covenant regarding EBITDA as of December 31, 2003 for Parlex Interconnect.
Under the new repayment schedule, $1,300,000 is due in 2004, $1,500,000 is
due in 2005 and $1,000,000 is due in 2006. The Guarantee Agreement Amendment
modified certain restrictive financial covenants with us such as Current
Ratio, Tangible Net Worth and Total Liabilities to Tangible Net Worth. In
March 2004, Parlex Interconnect retired the $3 million balance of the CITIC
term note.
Convertible Subordinated Notes - On July 28, 2003, we sold an aggregate
$6,000,000 of our 7% convertible subordinated notes (the "Notes") with
attached warrants to several institutional investors. We received net
proceeds of approximately $5.5 million from the transaction, after
deducting approximately $500,000 in finders' fees and other transaction
expenses. Net proceeds were used to refinance amounts borrowed under our
Loan and Security Agreement and utilized for working capital needs. No
principal payments are due until maturity on July 28, 2007. The Notes are
unsecured.
The Notes bear interest at a fixed rate of 7%, payable quarterly in shares
of Parlex common stock. The number of shares of common stock to be issued
is calculated by dividing the accrued interest by the 'Initial Conversion
Price' (a defined term) which was established at $8.00 per share.
Interest expense is recorded quarterly based on the fair value of the
common shares issued. Accordingly, interest expense may fluctuate from
quarter to quarter. We concluded that the interest feature does not
constitute an embedded derivative as it does not currently meet the
criteria for classification as a derivative. Based on the conversion price
of $8.00 per common share at March 28, 2004, we issued a total of 22,471
shares of common stock in October 2003 and January 2004 in satisfaction of
previously recorded interest and issued 13,123 shares of common stock in
April 2004 as payment for the interest accrued in the third quarter.
The Notes are convertible immediately by the investors, in whole or in
part, into shares of common stock at an initial conversion price equal to
$8.00. The conversion price is subject to adjustment in the event of stock
splits, dividends and certain combinations. Furthermore, the Notes
contained a beneficial conversion feature representing an effective initial
conversion price that was less than the fair market value of the underlying
common stock on July 28, 2003. The fair value of the beneficial conversion
feature was approximately $1,035,000, which has been recorded as an
increase to additional paid-in capital and as an original issue discount on
the Notes which is being amortized to interest expense over the 4-year life
of the Notes.
After two years from the date of issuance, we have the right to redeem all,
but not less than all, of the Notes at 100% of the remaining principal of
Notes then outstanding, plus all accrued and unpaid interest under certain
conditions. After three years from the date of issuance, the holder of any
Notes may require us to redeem the Notes in whole, but not in part. Such
redemption shall be at 100% of the remaining principal of such Notes, plus
all accrued and unpaid interest. In the event of a Change in Control (as
defined therein), the holder has the option to require that the Notes be
redeemed in whole (but not in part), at 120% of the outstanding unpaid
principal amount, plus all unpaid interest accrued.
Land Use Rights - In July 2003, Parlex Interconnect executed an agreement
to sell its land use rights in China for approximately $1.2 million. We
received approximately $1.0 million in cash in August 2003 and the balance
in December 2003. The sale was recorded in the quarter ending December 28,
2003 and resulted in a gain of approximately $87,000, which is included in
operating loss for the nine months ending March 28, 2004.
24
Throughout fiscal 2003, we took a series of steps to reduce operating
expenses and to restructure operations, which consisted primarily of
reductions in workforce and consolidating manufacturing operations. We
continue to implement plans to control operating expenses, inventory
levels, and capital expenditures as well as plans to manage accounts
payable and accounts receivable to enhance cash flows and return to
profitability. Our plans include the following actions: 1) continuing to
consolidate some of our manufacturing facilities; 2) continuing to
transfer certain manufacturing processes from our domestic operations to
our lower cost international manufacturing operations, particularly those
in the People's Republic of China; 3) expanding our products in the home
appliance, laptop computer, medical, military and aerospace, and electronic
identification markets; 4) continuing to monitor and reduce selling,
general and administrative expenses; and 5) evaluating additional
opportunities to acquire new multilayer business in an effort to
significantly improve capacity utilization.
In addition, in May 2004 (Note 15) we received approximately $2.8 million
from the sale of Series A convertible preferred stock. We continue to
evaluate alternative financing opportunities to improve our liquidity and to
fund working capital needs. We believe that our cash on hand including the
$2.8 million raised in May 2004 and the cash expected to be generated will
not be sufficient to enable us to meet our financing and operating
obligations through June 2005 based on our current growth plans. Moreover,
we may require additional and/or alternative external financing to repay or
refinance our existing financing obligations. We believe that we will be
able to obtain new external financing. However, there can be no assurance
that we will be successful in obtaining such new external financing. Failure
to obtain additional financings may have a material adverse impact on our
operations.
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.
If we cannot obtain additional financing when needed, we may experience a
material adverse impact on our operations.
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 experience a material adverse impact on our operations.
Our business has been, and 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 on both
25
a domestic and worldwide basis. Though we have experienced some general
market spending improvement during the past quarter, should market conditions
not continue to improve, our business, results of operations or financial
condition could continue to be materially adversely affected.
We have at times relied upon waivers from our lenders and amendments or
modifications to our financing agreements to avoid any acceleration of our
debt payments. At March 28, 2004, we were not in compliance with certain
financial covenants in our Silicon Valley Bank Loan Agreement. We cannot be
certain our lenders will grant us waivers or execute amendments or
modifications on terms which are satisfactory to us. If such waivers are
not received, our debt is immediately callable.
At March 28, 2004, we were not in compliance with certain financial
covenants under our Loan Agreement with Silicon Valley Bank. We have
received a waiver for such technical default. Although we do not believe
Silicon Valley Bank will exercise any right it may have to immediately call
our debt, we cannot guarantee that they will not do so. For additional
information regarding these matters, please see "Management's Discussion
and Analysis of Financial Condition and Results of Operations - Liquidity
and Capital Resources."
The issuance of our shares upon conversion of outstanding convertible notes,
conversion of preferred stock and upon exercise of outstanding warrants may
cause significant dilution to our stockholders and may have an adverse
impact on the market price of our common stock.
On July 28, 2003, we completed a private placement of our 7% convertible
subordinated notes (and accompanying warrants) in an aggregate subscription
amount of $6 million. The conversion price of the convertible notes and the
exercise price of the warrants is $8.00 per share. In addition, on May 7,
2004, we completed a private placement of 38,750 shares of our Series A
Convertible Preferred Stock (and accompanying warrants), for $80.00 per
share, or $3.1 million in the aggregate. Each share of Preferred Stock may
be converted at any time at the Preferred Stockholder's option for 10 shares
of common stock, and the exercise price of the warrants is $8.00 per share.
The issuance of our shares upon conversion of the convertible notes and/or
Preferred Stock, and exercise of the warrants, and their resale by the
holders thereof will increase our publicly traded shares. These re-sales
could also depress the market price of our common stock. We will not
control whether or when the holders of these securities elect to convert or
exercise their securities for common stock. For additional information
relating to these transactions, please see "Management's Discussion and
Analysis of Financial Condition and Results of Operations - Liquidity and
Capital Resources - Convertible Subordinated Notes" and "Note 15 Subsequent
Event - Sale of Our Series A Convertible Preferred Stock and Related
Warrants".
The perceived risk of dilution may cause our stockholders to sell their
shares, which would contribute to a downward movement in the stock price of
our common stock. Moreover, the perceived risk of dilution and the
resulting downward pressure on our stock price could encourage investors to
engage in short sales of our common stock. By increasing the number of
shares offered for sale, material amounts of short selling could further
contribute to progressive price declines in our common stock.
Our recently completed private placement has substantially increased our
indebtedness.
As a result of our recently completed private placement of $6.0 million
aggregate principal amount of convertible subordinated notes, we have
substantially increased our indebtedness. The convertible notes may become
immediately due and payable in the event of a default by us of certain
covenants. We cannot guarantee that we will be able to meet our obligations
under the terms of the convertible notes, or that we will have sufficient
funds to repay the convertible notes in the event of a redemption or an
event of default. For additional information relating to this transaction,
please see "Management's Discussion and Analysis of Financial Condition and
Results of Operations - Liquidity and Capital Resources - Convertible
Subordinated Notes".
Servicing our existing debt may constrain our future operations.
Our ability to satisfy our obligations to pay interest and to repay debt is
dependent on our future performance. Our performance depends, in part, on
prevailing economic conditions and financial, business and other factors,
including factors beyond our control. To the extent that we use a
substantial portion of our cash flow from operations to pay the principal
and interest on our indebtedness, that cash flow will not be available to
fund our future operations and capital expenditures. We cannot be sure our
operating cash flow will be sufficient to fund our future capital
expenditures and debt service requirements or to fund future operations.
26
Our credit agreement contains restrictive covenants that could adversely
affect our business by limiting our flexibility.
Our credit agreement imposes restrictions that affect, among other things,
our ability to incur additional 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 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 credit agreement. Upon the occurrence of a breach, the lender
under our credit agreement could elect to declare all amounts borrowed
there under, together with accrued interest, to be due and payable,
foreclose on the assets securing our credit agreement and/or cease to
provide additional revolving loans or letters of credit, which would have a
material adverse effect on us.
We have incurred losses in each of the last three years and we may continue
to incur losses.
We incurred net losses in the recently completed nine months ended March
28, 2004, as well as in fiscal years 2003, 2002 and 2001. We had net losses
of $6.6 million in the nine months ended March 28, 2004, $19.5 million for
2003, $10.4 million for 2002 and $6.2 million for 2001. Our operations may
not be profitable in the future.
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.
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.
27
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 50% of total revenues in fiscal 2003, 44% in fiscal 2002 and
55% in fiscal 2001.
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. If we fail to keep pace with technological change, our products
may become less competitive or obsolete and we may lose customers and
revenues.
Competing technologies may reduce demand for our products.
Flexible circuit and laminated cable interconnects provide electrical
connections between components in electrical systems and are used as a
platform to support the attachment of electronic devices. While flexible
circuits and laminated cables offer several advantages over competing printed
circuit board and ceramic hybrid circuit technologies, our customers may
consider changing their designs to use these alternative technologies in
future applications. If our customers switch to alternative technologies, our
business, financial condition and results of operations could be materially
adversely affected. It is also possible that the flexible interconnect
industry could encounter competition from new technologies in the future that
render existing flexible interconnect technology less competitive or
obsolete.
We are heavily dependent upon certain target markets for domestic
manufacturing. A slowdown in these markets could have a material impact on
domestic capacity utilization resulting in lower sales and gross margins.
We manufacture our products in six facilities worldwide, including lower cost
offshore locations in China. However, a significant portion of our
manufacturing is still performed domestically. Domestic manufacturing may be
at a competitive disadvantage with respect to price when compared to lower
cost facilities in Asia and other locations. While historically our
competitors in these locations have produced less technologically advanced
products, they continue to expand their capabilities. Further, we have
targeted markets that have historically sought domestic manufacturing,
including the military and aerospace markets. Should we be unsuccessful in
maintaining our competitive advantage or should certain target markets also
move production to lower cost offshore locations, our domestic sales will
decline resulting in significant excess capacity and reduced gross margins.
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, military, home
appliance, electronic identification and computer markets. The worldwide
electronics industry has seen a substantial downturn since 2001 impacting a
number of our target markets. Although we serve a variety of markets to avoid
a dependency on any one sector, a significant further downturn in any of
these market sectors could cause a material reduction in our revenues, which
could be difficult to replace.
28
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 2003, we purchased
approximately 17% of our materials from DuPont and Northfield Acquisition
Co., doing business as Sheldahl, our two largest suppliers. We operate under
tight manufacturing cycles with a limited inventory of raw materials. As a
result, although there are alternative sources of the materials that we
purchase from our existing suppliers, any unanticipated interruption in
supply from DuPont or Sheldahl, or any significant increase in the prices of
materials, chemicals or components, would have an adverse effect on our short
- -term operating results.
If we acquire additional businesses, these acquisitions will involve
financial uncertainties as well as personnel contingencies, and may be risky
and difficult to integrate.
We have completed two acquisitions in the past five 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 investment 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. Although these issues have not materially impacted our revenues
or operations to date, we cannot guarantee that they will not impact our
revenues or operations in the future.
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,
29
which could adversely affect our operating results. In addition, some of our
competitors are based in foreign countries and have cost structures and
prices based on foreign currencies. Accordingly, currency fluctuations could
cause our dollar -priced products to be less competitive than our
competitors' products priced in other currencies.
We will need to make a continued high level of investment in product research
and development and research, sales and marketing and ongoing customer
service and support in order to remain competitive. We may not have
sufficient resources to be able to make these investments. Moreover, we may
not be able to make the technological advances necessary to maintain our
competitive position in the flexible interconnect market.
If we are unable to attract, retain and motivate key personnel, we may not be
able to develop, sell and support our products and our business may lack
strategic direction.
We are dependent upon key members of our management team. In addition, our
future success will depend in large part upon our continuing ability to
attract, retain and motivate highly qualified managerial, technical and sales
personnel. Competition for such personnel is intense, and there can be no
assurance that we will be successful in hiring or retaining such personnel.
We currently maintain a key person life insurance policy in the amount of
$1.0 million on 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 23
patents issued and have 14 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,
broad market
30
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.
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.
Our stock is thinly traded.
Our stock is thinly traded and you may have difficulty in reselling your
shares quickly. The low trading volume of our common stock is outside of our
control, and we cannot guarantee that trading volume will increase in the
near future.
We do not expect to pay dividends in the foreseeable future.
We have never paid cash dividends on our common stock and we do not expect
to pay cash dividends on our common stock any time in the foreseeable
future. In addition, our current financing agreements prohibit the payment
of dividends. The future payment of dividends directly depends upon our
future earnings, capital requirements, financial requirements and other
factors that our board of directors will consider. For the foreseeable
future, we will use earnings from operations, if any, to finance our
growth, and we will not pay dividends to our common stockholders. You
should not rely on an investment in our common stock if you require
dividend income. The only return on your investment in our common stock, if
any, would most likely come from any appreciation of our common stock.
We may have exposure to additional income tax liabilities.
31
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
significant additional taxes, there could be a material adverse affect on our
results of operations or financial condition.
We could use preferred stock to resist takeovers, and the issuance of
preferred stock may cause additional dilution.
Our Articles of Organization authorizes the issuance of up to 1,000,000
shares of preferred stock, of which 38,750 shares are issued and
outstanding as a result of our preferred stock offering completed in May
2004. Our Articles of Organization gives our board of directors the
authority to issue preferred stock without approval of our stockholders. We
may issue additional shares of preferred stock to raise money to finance
our operations. We may authorize the issuance of the preferred stock in one
or more series. In addition, we may set the terms of preferred stock,
including:
* dividend and liquidation preferences;
* voting rights;
* conversion privileges;
* redemption terms; and
* other privileges and rights of the shares of each authorized
series.
The issuance of large blocks of preferred stock could possibly have a
dilutive effect to our existing stockholders. It can also negatively impact
our existing stockholders' liquidation preferences. In addition, while we
include preferred stock in our capitalization to improve our financial
flexibility, we could possibly issue our preferred stock to friendly third
parties to preserve control by present management. This could occur if we
become subject to a hostile takeover that could ultimately benefit Parlex
and Parlex's stockholders.
Item 3. Quantitative and Qualitative Disclosures About 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.
We also have a $10,000,000 Loan Agreement that bears interest at our lender's
prime rate plus 2.0%. The prime rate is affected by changes in market
interest rates. As of March 28, 2004, we have an outstanding balance under
our Loan Agreement of $5,232,000. We have the option to repay borrowings at
anytime without penalty and therefore believe that our market risk is not
material. A 10% change in interest rates would impact annual interest expense
by approximately $31,000. 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, Parlex Interconnect, Poly-Flex Circuits Limited and
Parlex Europe 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
32
fluctuations. Parlex Shanghai and Parlex Interconnect had combined net assets
as of March 28, 2004, of approximately $18.4 million. Poly-Flex Circuits
Limited and Parlex Europe had combined net assets as of March 28, 2004 of
approximately $5.7 million. We believe that a 10% change in exchange rates
would not 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 28, 2004, Parlex Shanghai had outstanding debt of
approximately $7.4 million. As of March 28, 2004, Poly-Flex Circuits Limited
had no outstanding debt.
Item 4. Controls and Procedures
- --------------------------------
Evaluation of Disclosure Controls and Procedures
We maintain disclosure controls and procedures that are designed to ensure
that information required to be disclosed in the reports that we are
required to file under the Securities and Exchange Act of 1934 is recorded,
processed, summarized and reported within the time periods specified in the
SEC's rules and forms, and that such information is accumulated and
communicated to our management, including our principal executive officer
and our principal financial officer, as appropriate, to allow timely
decisions regarding required disclosure. Management necessarily applied its
judgment in assessing the costs and benefits of such controls and
procedures, which, by their nature, can provide only reasonable assurance
regarding management's control objectives. Management believes that there
are reasonable assurances that our controls and procedures will achieve
management's control objectives.
We have carried out an evaluation, under the supervision and with the
participation of our management, including our Chief Executive Officer and
our Chief Financial Officer, of the effectiveness of the design and
operation of our disclosure controls and procedures pursuant to Exchange
Act Rule 13a-15 as of March 28, 2004. Based upon the foregoing, our Chief
Executive Officer and our Chief Financial Officer concluded that our
disclosure controls and procedures are effective in timely alerting them to
material information relating to Parlex (and its consolidated subsidiaries)
required to be included in our Exchange Act reports.
Changes in Internal Controls Over Financial Reporting
Subsequent to the issuance of our condensed consolidated financial
statements for the quarter ended September 28, 2003, our management
determined that borrowings under the Loan Agreement with Silicon Valley
Bank should have been classified as short-term on the condensed
consolidated balance sheet. We will perform a thorough review of all new
loan agreements to specifically identify the proper classification
of debt.
The evaluation referred to above did not identify any other significant
change in our internal control over financial reporting that occurred
during the period covered by this Quarterly Report on Form 10-Q that has
materially affected, or is reasonably likely to materially affect, our
internal control over financial reporting.
33
PART II - OTHER INFORMATION
---------------------------
Item 3. Defaults Upon Senior Securities
- ----------------------------------------
As of September 28, 2003, we were not in compliance with certain financial
covenants under our guarantee of Parlex Interconnect's debt to CITIC. As of
September 28, 2003, the outstanding balance owed to CITIC under the
guarantee was approximately $3,800,000. Although the bank could have called
for early repayment of the debt, no such demand was made. Effective October
8, 2003, CITIC entered into an Amendment to the Loan Agreement with Parlex
Interconnect and an Amendment to the Guarantee Agreement with us. As a result
of the execution of the amendment to the Loan Agreement and the amendment to
the Guarantee Agreement, we were in compliance with the revised financial
covenants of our loan agreement with CITIC. The $3 million balance of the
CITIC loan was retired in March 2004.
As of December 28, 2003, we were not in compliance with our fixed charge
financial covenant under our Loan Agreement with Silicon Valley Bank, as
amended by our Modification Agreement with the bank. Although the bank
could have called for early repayment of the debt, no such demand was made.
We have received a waiver from the bank for our non-compliance at December
28, 2003, and we negotiated an amendment to modify certain of the
restrictive covenants under the Loan Agreement, as amended.
As of March 28, 2004, we were not in compliance with our EBITDA financial
covenant under our Loan Agreement with Silicon Valley Bank, as amended by
our Second Modification Agreement with the bank. Although the bank could
have called for early repayment of the debt, no such demand was made. We
have received a waiver from the bank for our non-compliance at March 28,
2004.
Item 6. Exhibits and Reports on Form 8-K
- -----------------------------------------
(a) Exhibits - See Exhibit Index to this report.
(b) Reports on Form 8-K
On February 10, 2004, we furnished a Current Report on Form 8-K
pursuant to Item 12 containing the press release relating to our financial
results for the quarter ended December 28, 2003.
34
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
PARLEX CORPORATION
------------------
By: /s/ Peter J. Murphy
--------------------------------
Peter J. Murphy
President and Chief Executive Officer
By: /s/ Jonathan R. Kosheff
--------------------------------
Jonathan R. Kosheff
Treasurer & CFO
(Principal Accounting and Financial Officer)
May 12, 2004
------------
Date
35
EXHIBIT INDEX
EXHIBIT DESCRIPTION OF EXHIBIT
----------------------
3.1 Certificate of Vote of Directors establishing Series A
Convertible Preferred Stock (filed as Exhibit 3.1 to the
Company's Current Report on Form 8-K dated May 7, 2004).
4.1 Form of Stock and Warrant Purchase Agreement dated May 7, 2004
between Parlex Corporation and the Investors (filed as Exhibit
4.1 to the Company's Current Report on Form 8-K dated May 7,
2004).
4.2 Form of Warrant to Purchase Common Stock (filed as Exhibit 4.2
to the Company's Current Report on Form 8-K dated May 7, 2004).
10.1 Second Loan Modification Agreement, dated February 18, 2004, by
and between the Company and Silicon Valley Bank (filed herewith).
10.2 Third Loan Modification Agreement, dated March 28, 2004, by and
between the Company and Silicon Valley Bank (filed herewith).
10.3 Fourth Loan Modification Agreement, dated May 10, 2004, by and
between the Company and Silicon Valley Bank (filed herewith).
31.1 Certification of Registrant's Chief Executive Officer required
by Rule 13a-14(a) (filed herewith)
31.2 Certification of Registrant's Chief Financial Officer required
by Rule 13a-14(a) (filed herewith)
32.1 Certification of Registrant's Chief Executive Officer pursuant
to 18 U.S.C. 1350 (furnished herewith)
32.2 Certification of Registrant's Chief Financial Officer pursuant
to 18 U.S.C. 1350 (furnished herewith)
36