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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended May 31, 2001 Commission File No. 0-1738
GENERAL KINETICS INCORPORATED
(Exact Name of Registrant as specified in its Charter)
Virginia 54-0594435
(State of Incorporation) (IRS Employer Identification No.)
10688-D Crestwood Drive, Manassas, VA 20109
(Address of principal executive offices) (Zip Code)
Registrant's telephone number (703) 331-8033
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Title of Each Class
- -------------------
Common Stock with par value of 25 cents per share
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES X NO ___
---
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein and will not be contained, to the best
of the registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K [_].
Aggregate market value of the voting stock held by non-affiliates $ 392,156*
of the Registrant as of August 20, 2001
(* Executive officers, directors, and Registrant's ESOP were considered
affiliates, solely for purposes of this item.)
The number of shares outstanding of Registrant's Common Stock,
$.25 par value, as of August 17, 2000, was 6,718,925
Documents Incorporated by Reference
-----------------------------------
Certain portions of the Registrant's Proxy Statement to be filed with the
Securities and Exchange Commission not later than 120 days after the end of the
Registrant's 2001 fiscal year are incorporated into Part III hereof.
CAUTIONARY STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION
REFORM ACT OF 1995
Statements contained in this Annual Report on Form 10-K, including without
limitation, as set forth under the caption "Management's Discussion and Analysis
of Financial Condition and Results of Operations", as well as oral statements
that may be made by the Company or by officers, directors or employees of the
Company acting on the Company's behalf, that are not historical fact may contain
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995. Forward-looking statements involve risks and
uncertainties. They are not historical facts or guarantees of future performance
or events. They are based on current expectations, estimates, beliefs,
assumptions, goals and objectives, and are subject to uncertainties that are
difficult to predict. In particular, certain risks and uncertainties may
include, but are not limited to, the risk that the Company may not be able to
obtain additional financing if necessary; the risk that the Company may not be
able to continue the necessary development of its operations, including
maintaining or increasing sales and production levels, on a profitable basis;
the risk the Company may in the future have to comply with more stringent
environmental laws or regulations or more vigorous enforcement policies of
regulatory agencies, and that such compliance could require substantial
expenditures by the Company; the risk that U.S. defense spending may be
substantially reduced; and the risk that the Company's Common Stock will not
continue to be quoted on the NASD OTC Bulletin Board services. Forward looking
statements included in this quarterly report are based on information known to
GKI as of the date of this quarterly report and GKI accepts no obligation (and
expressly disclaims any obligations) to update these forward looking statements
and does not intend to do so. Certain of these risks and uncertainties are
described in the Company's reports and statements filed from time to time with
the Securities and Exchange Commission, including this Report.
PART I
ITEM 1 - BUSINESS
(a) General Development of Business
General Kinetics Incorporated (the "Company" or "GKI"), through its Electronic
Enclosure Division (the "EED"), designs and manufactures high-quality precision
enclosures for electronic systems, principally for sale to the U.S. Department
of Defense and the U.S. Navy.
Over the years, the Company has operated a number of diversified businesses. The
Company was founded in 1954 and its Common Stock became publicly traded in
November 1961.
Beginning in December 1992, the Company's operations were financed to a
significant extent by debt and equity investments made by clients of Gutzwiller
& Partner, A.G.("Gutzwiller") or its successor, most recently in 1994. The
Company understands that shares of its Common Stock and convertible debentures,
which in past years have been reported as beneficially owned by Gutzwiller or
its successor, are held by Gutzwiller or its succesor as nominee only for
various underlying owners, none of which is a beneficial owner of five percent
or more of the Company's Common Stock. As of May 31, 2001, clients of Gutzwiller
or its successor had invested approximately $3 million in equity, and
approximately $9.0 million in convertible debentures of the Company.
As of December 5, 1996, GKI completed the sale of its Secure Communications
Division ("SCD") to Cryptek Secure Communications, LLC ("Cryptek"), a Delaware
limited liability company, the majority of whose equity interests are owned by
affiliates of Angelo Gordon & Co., L.P. As of May 30, 1997, the Company sold the
stock in its wholly owned Food Technology Corporation ("FTC") subsidiary to the
former vice president and general manager of FTC.
(b) Financial Information About Industry Segments
Due to the sale of SCD and FTC during fiscal 1997, the Company is currently
operating in a single industry segment.
(c) Narrative Description of Business
3
Electronic Enclosure Business
General
The Electronic Enclosure Division designs and manufactures high-quality
precision enclosures for sophisticated electronic systems. The EED is a
manufacturing and engineering services group which produces build-to-print as
well as custom engineered products. The EED has manufactured electronics-ready
enclosures and mounting systems for over 30 years. Products include both
standard and made-to-order racks, cabinets and kits. These products are
precision-manufactured to enclose and protect sensitive electronic communication
and detection equipment from shock and vibration. The EED's principal customer
for these products is the U.S. Navy which, directly or indirectly through its
prime contractors, accounted for 91%, 83%, and 92% of the Division's revenues in
fiscal 2001, 2000 and 1999, respectively. The EED sells these products as a
prime contractor and also as a subcontractor to major prime contractors such as
Lockheed Martin, SAIC, Northrop Grumman, and DRS Laurel Technologies.
Strategy
The Company's long-term goals for the EED are to increase market penetration
with the Department of Defense, and to expand into the non-government
marketplace by targeting build-to-print or engineering design opportunities for
enclosures and related products. In addition, the Company entered the commercial
enclosure marketplace in fiscal 1999. The current strategy for these products is
to concentrate on selling high-end precision enclosures through a small network
of U.S. sales representatives. The Company does not expect the non-government
marketplace to provide a significant portion of the Company's sales during
fiscal 2002. Management intends to use its current sales force and build on its
reputation for quality to expand sales to the U.S. Navy and other agencies
within the government.
The Company plans to finance its strategy for Fiscal 2002 through cash on hand
as of May 31, 2001, careful management of operating expenses, factoring accounts
receivable to alleviate short-term cash requirements, and cash flow generated
through operations. The Company may also look for additional sources of
financing to provide a cushion to handle variances in cash requirements if sales
and shipment levels fluctuate throughout the fiscal year.
4
Products
The EED's principal products are enclosures, such as racks, cabinets, consoles,
and mounting platforms for sophisticated electronic systems generally made in
accordance with specific client requirements. The EED has developed a series of
consoles and enclosures to offer as a commercial-off-the-shelf ("COTS") product
to be sold to prime contractors for contracts in the defense community that
require this type of enclosure. These consoles and enclosures provide an
environment that makes it possible to use commercial electronics while meeting
the need for combat ready systems.
The EED's production processes cover a wide range of operations, including high
volume production using tight tolerance, military-specified engineering
requirements. Military specifications for metal fabrication and machinery
require geometric dimensioning to and from fabricated areas to datums within ten
thousandths of an inch (.0001) of their true fabricated position, and the
machining of parts to a size of plus or minus one thousandth of an inch (.001)
of their specified dimension. Furthermore, the EED has in-plant facilities to
test for radio frequency interference (R.F. testing) as it is required to
certify certain products. The EED fabricates metal cabinets and other products
from sheet aluminum and steel and other metal components, all of which are
readily available from numerous domestic suppliers. The manufactured products
must satisfy the close-tolerance specifications of its customers and are
subjected to in-house sound testing to ensure that the levels of noise emanating
from the enclosures at various frequencies are within customer specifications.
The EED's products have high visibility in such programs as AEGIS and other
major U.S. Government programs.
Customers
During fiscal years 2001, 2000 and 1999 the EED has sold 91%, 83%, and 92%,
respectively, of its products to the U.S. Government, principally to the U.S.
Navy, either as a prime contractor or a subcontractor to major prime
contractors. Therefore, a material decline in spending by the Department of
Defense, in particular spending by the U.S. Navy, could have a material adverse
effect on the operations of the EED, unless offset by greater market penetration
or new sales to other
5
government and commercial customers. In addition, the Company's U.S. Government
contracts and, in general, its subcontracts with the U.S. Government's prime
contractors provide that such contracts may be terminated by the U.S. Government
or prime contractor for convenience ant any time. The Company considers its
relationships with the U.S. Navy and its major prime contractor customers to be
good.
Marketing and Sales
The EED currently markets its products through a direct sales force and through
outside agencies. The EED also participates in industry trade shows as a means
of contacting new and existing customers and introducing new products.
Backlog
The EED sells its products pursuant to both long and short-term contracts with
scheduled backlog and delivery orders. Amounts are not carried in backlog until
the related contracts receive government funding (in the case of government
contracts) and, in any event, delivery orders are released to the Company. Once
an order is received, production and delivery can be scheduled, but in some
instances dates can be delayed by changing requirements of government or
commercial customers.
The EED's contract backlog as of May 31, 2001 and May 31, 2000 was approximately
$4.3 million and $3.01 million, respectively. The May 31, 2001 backlog includes
$832,000(for which delivery orders have been released) of a $4.5 million
contract with a U.S. Navy prime contractor. At May 31, 2001, the government had
funded approximately $2.8 million on the contract, and the prime contractor had
released $832 thousand for shipment. The Company does not believe that seasonal
fluctuations play a significant role in the backlog for the enclosure business.
6
Competition
The EED operates in a mature, highly fragmented market with intense competition.
The principal elements of competition are price, the ability to deliver products
in accordance with major U.S. Government and prime contractor production
schedules, technical expertise, quality, service and support. The Company
believes that the EED competes with approximately 25 other manufacturers of
electronic enclosures, including, in some instances, major prime contractors,
which are also customers of the Company. Certain of the EED's competitors have
significantly greater financial, marketing and technological resources than the
Company.
Research and Development
The Company expects research and development activities to total less than
$50,000 during fiscal 2002.
The U.S. Government Procurement Process
The majority of the Company's fiscal 2001 revenue from continuing operations was
generated from sales directly to departments and agencies of the U.S.
Government, and to prime contractors reselling to the U.S. Government market,
principally to the U.S. Navy. Revenue from these sales represented approximately
91% of the Company's total revenue in fiscal 2001. The Company sells to the U.S.
Government through a wide variety of contract procurement mechanisms that
include formal solicitations and requests for quotes. The Company's sales to
U.S. Government prime contractors are typically made through contracts secured
by formal competitive bidding.
The Company's U.S. Government contracts and, in general, its subcontracts with
the U.S. Government's prime contractors, provide that such contracts may be
terminated by the U.S. Government or prime contractor for convenience at any
time. The Company estimates that substantially all of the EED's fiscal 2001
revenue was derived from contracts that are subject to termination for
convenience. In the event of such a termination, the Company is normally
entitled to receive the purchase price for delivered items, reimbursement for
allowable costs for work in process, and an allowance for profit thereon or
adjustment for loss if completion of performance would have resulted in a loss.
7
There were no terminations for convenience in fiscal 1999, 2000, or 2001. Upon
termination of a U.S. Government contract for contractor default, the U.S.
Government may seek to recover from the defaulting contractor the increased
costs of procuring the specified goods and services from a different contractor.
The U.S. Government to date has not terminated for default any contract awarded
to the Company.
In connection with its efforts to compete for U.S. Government business, the
Company has enjoyed certain statutory advantages as a consequence of its size,
location and the American-made character of its products. Such advantages may
not be available to the Company in the future. Although the Company believes
that it will continue to qualify under these statutory provisions for the
foreseeable future, the Company does not believe that the loss of such status
would be likely to have a material adverse effect upon the Company.
The Company's sales to the U.S. Government are subject to numerous other factors
beyond the Company's control that generally apply to other U.S. Government
contractors, including fluctuations and delays resulting from the appropriations
process, the outcome of competitions for contracts, and reductions in levels of
military and other agencies' spending.
Employees and Labor Agreements
As of May 31, 2001, the Company had 96 employees, all located in the United
States. Of the 96 employees, 28 were salaried and 68 were paid by the hour. At
that date, on a Company-wide basis, there were 4 employees in engineering, 1
employee in sales and marketing, 77 employees in manufacturing and assembly
operations, and 14 employees in an executive capacity or in finance and
administration. Fifty-nine of the Company's employees were represented by the
International Brotherhood of Electrical Workers Union in Johnstown,
Pennsylvania. The Company and the Union are working under a five-year collective
bargaining agreement that will expire on May 31, 2004. The Company considers its
employee relations to be good.
8
Environmental Matters
The EED uses limited amounts of hazardous materials in its production process,
primarily in the treatment of metal components. All such materials are disposed
of by independent certified carriers. The Company believes it operates its
facilities in compliance, in all material respects with, all existing federal,
state and local environmental regulations.
Pursuant to the requirements of applicable federal, state, and local statutes
and regulations, the Company believes it has received all of the environmental
permits and approvals necessary for the operations of its facilities.
Secure Communications Division
In December 1996, GKI completed the sale of SCD to Cryptek, the majority of
whose equity interests are owned by affiliates of Angelo Gordon & Co., L.P. The
SCD division had been in the business of manufacturing and selling secure
facsimile machines and secure local area network products for customers handling
classified information. The division incurred significant operating losses
during fiscal 1997 and in each of the prior three fiscal years. Management
believed that the resources likely to be involved in returning the division to
profitability could more effectively be generated and utilized in connection
with the development of the EED and other activities. In addition, the $1.75
million in cash proceeds received from the sale of the division at closing
provided the Company with operating capital for its continuing business.
In December 1998, the Company entered into a settlement agreement with Cryptek,
resolving differences arising out of it's purchase of GKI's former secure
communications business. Pursuant to such settlement, Cryptek made an immediate
principal payment of $25,000 on its outstanding promissory note to the Company
and agreed to forego sublease rent owed by the Company through November 1998.
The remaining principal amount of the Cryptek promissory note was reduced to
$550,000 and the payment schedule for such note was revised and extended through
2002. In addition, the face value of the preferred membership interest in
Cryptek held by the Company was reset at $900,000, and the
9
requirement for redemption of such interest by Cryptek was extended through
December 2002.
In October 1999, the Company entered into an agreement that amended the
settlement agreement the Company had reached with Cryptek in December 1998. The
October 1999 Agreement reduced the face amount of the promissory note payable to
the Company by Cryptek from $550,000 to $400,000 in exchange for accelerating
the payment schedule. The Company received $200,000 upon execution of the new
Agreement. In addition, the October 1999 Agreement gave Cryptek the option to
pay the remainder of the promissory note and redeem the preferred interest in
Cryptek held by the Company (with a face amount of $900,000 and a requirement
for mandatory redemption in December 2002) for an additional $488,750, if that
option were exercised within six months after the execution of the October 1999
Agreement.
At November 30, 1999, the $150,000 reduction in the face amount of the note was
offset against an existing valuation reserve related to the Cryptek promissory
note. In December 1999, Cryptek exercised its option and paid the Company
$478,800, representing a discount of $10,000 in consideration of a closing in
December 1999 rather than at the end of the six-month option period in April
2000. The $478,800 was first applied to settle the note receivable with a
carrying value of $200,000, and the excess of $278,800 is recorded in the prior
fiscal year financial statements as a non-recurring gain in non-operating
income. This gain was recognized because GKI did not attribute any value to the
preferred interest in Cryptek for financial reporting purposes due to
uncertainty over valuation at the time of the original sale transaction.
Food Technology Corporation
As of May 30, 1997, the Company sold the stock in its wholly owned FTC
subsidiary to the former vice president and general manager of FTC. FTC is a
manufacturer of high-quality texture testing instrumentation for the food
industry and optical inspection equipment for the plastics and related
industries. The Company decided to exit the Food Technology business primarily
because it was a small operation which was not related to the Company's primary
business, and had not experienced any significant growth in recent years.
10
(d) Foreign and Domestic Operations and Export Sales
The EED has not had significant foreign operations or export sales.
ITEM 2 - PROPERTIES
The Company maintains its executive offices in a leased facility in northern
Virginia.
Manufacturing facilities for the Company's EED are presently located in a
building owned by the Company, a 56,000 square foot industrial manufacturing
plant in Johnstown, Pennsylvania. A small portion of the Johnstown facility is
leased to unrelated third parties. The Johnstown facility is subject to a
mortgage held by a local banking institution.
The Company believes that its present facilities are adequate to meet its
current production requirements.
ITEM 3 - LEGAL PROCEEDINGS
As of the date hereof, there are no material pending legal proceeding, to which
the Company is a party or of which any of its property is the subject.
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SHAREHOLDERS
None
PART II
ITEM 5 - MARKET FOR GKI COMMON STOCK AND RELATED SECURITY HOLDER MATTERS
The Company's Common Stock, $.25 par value per share, is quoted in the Over the
Counter ("OTC") Bulletin Board service, under the symbol "GKIN". The table below
presents the high and low sales prices as reported for the fiscal quarters
within the two most recent fiscal years:
11
Quarter Ended High Low
- ------------- ---- ---
May 31, 2001 .08 .05
February 28, 2001 .08 .04
November 30, 2000 .09 .05
August 31, 2000 .28 .07
May 31, 2001 .49 .10
February 28, 2000 .34 .03
November 30, 1999 .10 .04
August 31, 1999 .15 .06
The approximate number of holders of record of the Company's Common Stock, $.25
par value, as of August 13, 2001, was 1,013.
The Company has not paid any dividends during the last five fiscal years and has
no present plans to pay dividends in the foreseeable future.
ITEM 6 - SELECTED FINANCIAL DATA
The following sets forth certain selected consolidated financial data for each
of the years in the five-year period ended May 31, 2001. The consolidated
statement of operations data for the fiscal years ended May 31, 2001, 2000, 1999
and the consolidated balance sheet data at May 31, 2001 and 2000 are derived
from and are qualified by reference to the consolidated financial statements of
the Company audited by BDO Seidman, LLP, the Company's independent certified
public accountants, included elsewhere, herein. The consolidated statement of
operations data for the fiscal years ended May 31, 1998 and 1997 and the
consolidated balance sheet data at May 31, 1999, 1998 and 1997 are derived from
consolidated financial statements of the Company also audited by BDO Seidman,
LLP, but not included herein. The financial data should be read in conjunction
with the consolidated financial statements and related notes and other financial
information and Management's Discussion and Analysis of Financial Condition and
Results of Operations included elsewhere herein.
12
Years ended May 31
1997 1998 1999 2000 2001
-------- -------- -------- -------- --------
(in thousands, except per share data)
- ------------------------------------------------------------------------------------------------------------------------------------
Income Statement Data:
- ------------------------------------------------------------------------------------------------------------------------------------
Net Sales $ 7,700 $ 6,739 $ 7,490 $ 8,833 $ 8,259
Cost of sales 5,542 5,013 6,429 7,828 6,736
-------- -------- -------- -------- --------
Gross profit 2,158 1,726 1,061 1,005 1,523
Selling, general,
and administrative
expenses 1,470 1,153 1,724 1,514 1,565
Product R&D, and
improvement 59 0 0 0 43
Provision for Note
Receivable 0 442 13 0 0
-------- -------- -------- -------- --------
Operating income
(loss) 629 131 (675) (509) (85)
Gain on sale of
building 0 192 0 0
Gain on Note Settlement 0 0 0 279
Other Income 0 0 0 0 175
Interest expense, net 336 250 241 299 220
-------- -------- -------- -------- --------
Income (loss) from con-
tinuing operations 293 73 (916) (529) (130)
Income (loss) from dis-
continued operations (217) 0 0 0 0
-------- -------- -------- -------- --------
Income (loss) before
extraordinary item 76 73 (916) (529) (130)
Extraordinary gain from
debt extinguishment 0 187 67 0 0
-------- -------- -------- -------- --------
Income (loss)
before income taxes 76 260 (849) (529) (130)
Provision for
income taxes 0 6 0 0 0
-------- -------- -------- -------- --------
Net Income/(Loss) $ 76 $ 254 $ (849) $ (529) $ (130)
======== ======== ======== ======== ========
Basic Earnings Per Share:
Income (loss) from
continuing operations .04 .01 (.136) (.079) (.019)
Loss from discontinued
operations (.03) .00 .000 .000 .000
Income from extraor-
dinary item .00 .03 .010 .000 .000
Basic Earnings(loss)
Per share .01 .04 (.126) (.079) (.019)
13
Weighted average common
shares outstanding 6,659 6,719 6,719 6,719 6,719
Diluted Earnings Per Share:
Income (loss) from
continuing operations .014 .005 (.136) (.079) (.019)
Loss from discontinued
Operations (.008) .000 .000 .000 .000
Income from extraor-
dinary item .000 .008 .010 .000 .000
Diluted Earnings(loss)
Per share .005 .013 (.126) (.079) (.019)
Weighted average common
shares and dilutive equi-
valents outstanding 25,509 24,909 6,719 6,719 6,719
Cash dividends
per common share 0 0 0 0 0
14
Balance Sheet and Other Data:
- --------------------------------------------------------------------------------
May 31,
1997 1998 1999 2000 2001
---- ---- ---- ---- ----
Working capital $ 2,070 $ 2,492 $1,570 $1,381 $1,351
Cash 1,482 1,923 307 958 388
Total assets 5,334 4,770 4,685 4,130 4,009
Net property, plant
& equipment 1,249 1,015 1,016 925 801
Capital
expenditures 157 288 174 93 34
Long-term
liabilities 9,964 9,646 9,580 9,570 9,551
Total Stockholders'
Deficit (6,073) (5,788) (6,638) (7,166) (7,296)
15
ITEM 7 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Results of Operations
The following table sets forth items from the Company's consolidated statements
of operations for fiscal years 1999, 2000 and 2001 (each ended May 31), as a
percentage of revenue.
Percent of Revenue
------------------
1999 2000 2001
---- ---- ----
Net sales 100.0% 100.0% 100.0%
------ ----- -----
Gross profit 14.2% 11.4% 18.4%
Operating expenses (23.2%) (17.1%) (19.4%)
------ ----- -----
Operating income (loss) ( 9.0%) ( 5.7%) ( 1.0%)
Interest expense ( 3.2%) ( 3.4%) ( 2.7%)
Gain on settlement of Cryptek Note 0.0% 3.2% 0.0%
Extraordinary item- debt extinguishment 0.9% 0.0% 0.0%
Loss from discontinued operations 0.0% 0.0% 0.0%
Other Income 0.0% 0.0% 2.1%
------ ----- -----
Net loss (11.3%) ( 5.9%) ( 1.6%)
====== ===== =====
Fiscal Year 2001 Compared to Fiscal Year 2000
Net sales for fiscal 2001 were approximately $8.3 million as compared with $8.8
million for fiscal 2000, representing a decrease of 5.7%. The decrease in sales
was due primarily to normal fluctuations in the timing of appropriations for
government spending.
The principal customer for the Enclosure Division's products is the U.S.
Government, principally the U.S. Navy, which, directly or through its prime
contractors, accounted for 91% of the EED's revenues in fiscal year 2001. The
Company's sales to the United States government and its prime contractors
represented approximately 83% and 92% of total net sales during the Company's
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fiscal years ended May 31, 2000 and May 31, 1999, respectively, and are expected
to continue to account for a substantial portion of the Company's revenues for
the foreseeable future. The Company's contracts with the United States
government are subject to the availability of funds through annual
appropriations, may be terminated by the government for its convenience at any
time and generally do not require the purchase of a fixed quantity of products.
Reductions in United States government defense spending could adversely affect
the Company's operating results. While the Company is not aware of present or
anticipated reductions in United States government spending on specific programs
or contracts pursuant to which the Company has sold material quantities of its
products, there can be no assurance that such reductions will not occur or that
decreases in United States government defense spending in general will not have
an adverse effect on sales of the Company's products in the future.
Gross profit for fiscal 2001 was approximately $1.5 million compared with
approximately $1.0 million for fiscal 2000. Gross profit as a percentage of
sales increased from 11.4% in fiscal 2000 to 18.4% in fiscal 2001. The primary
reasons for the increase in gross profit margins were the steps taken to address
production issues identified during fiscal 2000 as the Company faced large
fluctuations in shipping volume due to the timing of appropriations for
government spending.
Operating expenses for fiscal 2001 were approximately $1.6 million compared with
$1.5 million for fiscal 2000. During the fiscal year ended May 31, 2001, the
Company incurred $42,800 in Product Research, Development & Improvement costs
related to the initial development work on a new enclosure product.
During the fiscal year ended May 31 2001, the Company recorded $175,000 in
"other income" related to the payment of Notes receivable due from Link2It, LLC
that had been fully reserved in the prior fiscal year (see Note 4 to the
consolidated financial statements).
As discussed above, during fiscal 2000 the Company recorded a non-recurring gain
of $278,000 on the settlement of the Cryptek note and preferred interest.
Interest Expense
Interest expense decreased to approximately $219,700 in fiscal 2001 as compared
to approximately $298,900 in fiscal 2000. This decrease occurred principally
because interest expense from
17
factoring accounts receivable was $9,300 in fiscal 2001 as compared to $70,800
in fiscal 2000.
The overall net loss was $129,800 for fiscal 2001 as compared to a net loss of
$528,800 in fiscal 2000. The improvement was primarily due to the increase in
gross profits discussed above.
Income Taxes
The Company had no income tax provision in fiscal 2001 or fiscal 2000 due to the
net losses. Under Statement of Accounting Standards No. 109 (FAS 109), deferred
tax assets and liabilities are determined based on differences between financial
reporting and tax basis of assets and liabilities and are measured using enacted
tax rates and laws that will be in effect when the differences are expected to
reverse. The Company has provided a full valuation allowance against its net
deferred tax asset due to uncertainties of its ultimate realization in fiscal
2001 and 2000. If the Company achieves profitable operations, it will be subject
to alternative minimum taxes, which have a lower effective tax rate than the
statutory rate of 34%.
Fiscal Year 2000 Compared to Fiscal Year 1999
Net sales for fiscal 2000 were approximately $8.8 million as compared with $7.5
million for fiscal 1999, representing an increase of 17.3%. The increase in
volume was primarily attributable to increased customer demand and increased
sales and marketing efforts by the Company.
Gross profit for fiscal 2000 was approximately $1.0 million compared with
approximately $1.1 million for fiscal 1999. Gross profit as a percentage of
sales decreased from 14.2% in fiscal 1999 to 11.4% in fiscal 2000. The primary
reasons for the decrease in gross profits were production issues resulting from
a large increase in orders in the second half of fiscal 1999 and the first
quarter of fiscal 2000. This was followed by a decrease in order level during
the second half of fiscal 2000.
Operating expenses for fiscal 2000 were approximately $1.5 million compared with
$1.7 million for fiscal 1999. Operating expenses as a percentage of net sales
were approximately 17.1% in
18
fiscal 2000 compared to approximately 23.2% in fiscal 1999. The decrease in
Selling, General & Administrative expenses was principally because in fiscal
1999 there were sales, marketing, and development costs of approximately
$225,000 related to the introduction of a new commercial product line.
As discussed above, during fiscal 2000 the Company recorded a non-recurring gain
of $278,000 on the settlement of the Cryptek note and preferred interest.
Interest Expense
Interest expense increased from approximately $241,300 in fiscal 1999 to
approximately $298,900 in fiscal 2000. This increase occurred principally
because interest expense from factoring accounts receivable was $70,800 in
fiscal 2000 as compared to $22,500 in fiscal 1999.
Extraordinary Item
In fiscal 1999, the Company repurchased $100,000 of convertible debentures for
$33,000 in cash. The gain from the extinguishment of debt was recorded as an
extraordinary item in the accompanying statement of operations for the year
ended May 31, 1999.
The net loss was $528,800 for fiscal 2000 as compared to a net loss after
extraordinary item of $849,100 in fiscal 1999.
Income Taxes
The Company had no income tax provision in fiscal 2000 due to the net loss. Due
to the available net operating loss carryforwards, there was no material income
tax expense for fiscal 1999, nor were any additional income tax benefits
available from the carryback for income taxes of net operating losses. Under
Statement of Accounting Standards No. 109 (FAS 109) deferred tax assets and
liabilities are determined based on differences between financial reporting and
tax basis of assets and liabilities and are measured using enacted tax rates and
laws that will be in effect when the differences are expected to reverse. The
Company has provided a full valuation allowance against its net deferred tax
asset due to uncertainties of its ultimate realization in fiscal 2000 and 1999.
If the Company achieves profitable operations, it will be subject to alternative
minimum taxes, which has a lower effective tax rate than the statutory rate of
34%.
19
Liquidity and Capital Resources
The Company has relied upon internally generated funds and accounts receivable
financing, plus cash from sales of two of its operating companies, to finance
its operations. During fiscal 2001, the net loss totaled $129,800. In order to
generate the working capital required for operations, the Company must continue
to generate orders, increase its level of shipments, and operate profitably
during fiscal 2002.
The Company must continue to market electronic enclosure products to government
and commercial markets, enter into contracts which the Company can complete with
favorable profit margins, ship the orders in a timely manner, and control its
costs in order to recover from its liquidity problems and seek to operate
profitably in fiscal 2002.
As of May 31, 2001, the Company had cash of $388,300. The Company has faced
production issues that have contributed to losses from operations. The Company
has taken and is continuing to take steps to address these production issues
through changes and additions to plant supervision and by adding new scheduling
and planning procedures.
Management believes that cash on hand, borrowings from the factoring of accounts
receivable, and careful management of operating costs and cash disbursements can
enable the Company to meet its cash requirements through May 31, 2002. The
Company may also seek additional funding sources to provide a cushion to handle
variances in cash requirements if sales, gross profits and shipment levels
fluctuate throughout the fiscal year. However, there is no assurance the Company
will be successful in pursuing its plans or in obtaining additional financing to
meet those cash requirements. The Company must continue to maintain its level of
sales, consistently make timely shipments and produce its products at adequate
profit margins, or the Company will continue to face liquidity problems, and may
be left without sufficient cash to meet its ongoing requirements.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As explained above, the Company
sustained operating losses in fiscal 2001, 2000, and 1999. In addition, the
Company has significant short-term cash commitments, the funding of which is
limited to cash flow from operations and the factoring of certain accounts
receivable. These factors raise significant doubt about the Company's ability to
continue as a going concern. The financial statements do not contain any
adjustment that might result from the outcome of these uncertainties.
20
The Company has been party to a factoring agreement with Reservoir Capital
Corporation ("Reservoir") that provides for advances (or loans) of up to 80% of
specified accounts receivable. At May 31, 2001 there were no advances due to
Reservoir. Subsequent to May 31, 2001, Link2It Corporation, a company formed by
Larry Heimendinger and Richard McConnell, both directors of the Company, agreed
to enter into a new factoring agreement with the Company on terms substantially
identical to those of the Reservoir facility, but more favorable to the Company
in certain respects, including provision for advances at a rate of up to 85% of
specified accounts receivable. The Company expects to draw on this facility, or
a similar facility, throughout fiscal 2002 as necessary to help alleviate
liquidity problems, although, as discussed above, the Company will also need to
control expenses, maintain the sales backlog at appropriate levels, and keep
shipment levels in line with booked orders in order to meet these requirements.
The Company had significant amounts payable to trade creditors at May 31, 2001.
In addition, commitments under operating leases, net of sublessee income, amount
to $8,300 in fiscal 2002. Current maturities of long-term debt amount to $75,100
in fiscal 2002.
The Company has outstanding debentures originally issued to clients of
Gutzwiller totaling approximately $9.0 million. The debentures mature in August
2004, are convertible into common stock at a conversion price of 50 cents per
share, and bear interest at 1% per annum payable annually.
21
Analysis of Cash Flows
Operating activities used $597,500 in cash in fiscal 2001. This reflects a net
loss of $129,800 plus $509,700 in cash to fund changes in working capital items,
plus $175,000 in bad debt recovery, offset by $217,000 in non-cash expenses. The
cash use from working capital items was principally due to a increase in
inventories of $429,500 during the fiscal year ended May 31, 2001. The increase
in inventory was principally due to the increase in backlog at May 31, 2001 as
compared to May 31, 2000.
Investing activities provided $140,800 in cash in fiscal 2001. These activities
consisted of $175,000 from the collection of the Link2It note receivable less
$34,200 used for the acquisition of property, plant and equipment.
Financing activities used $113,100 in fiscal 2001. Net factored accounts
receivable advances used $44,100, and $69,000 was used to repay long-term real
estate debt.
Management believes that inflation did not have a material effect on the
operations of the Company during fiscal 2001.
22
Quantitative and Qualitative Disclosures About Market Risk
In the normal course of business, operations of the Company may be exposed to
fluctuations in currency values and interest rates. These fluctuations can vary
the cost of financing, investing, and operating transactions. Because the
Company has only fixed rate long-term convertible debentures and no foreign
currency transactions, there is no material impact on earnings from fluctuations
in interest and currency exchange rates.
Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments"
("SFAS 133"). SFAS 133 establishes accounting and reporting standards for
derivative instruments and for hedging activities. SFAS 133 requires that an
entity recognize all derivatives as either assets or liabilities and measure
those instruments at fair market value. Under certain circumstances, a portion
of the derivative's gain or loss is initially reported as a component of income
when the transaction affects earnings. For a derivative not designated as a
hedging instrument, the gain or loss is recognized in income in the period of
change. Presently, the Company does not use derivative instruments either in
hedging activities or as investments. Accordingly, the adoption of FASB 133 in
fiscal 2001 had no impact on its financial position or results of operations.
In March 2000, the FASB issued interpretation No. 44 ("FIN 44"), "Accounting for
Certain Transactions Involving Stock Compensation, and Interpretation of APB
Opinion No. 25". FIN 44 clarifies the application of APB Opinion 25 for (a) the
definition of employee for purposes of applying APB Opinion No. 25, (b) the
criteria for determining whether a plan qualifies as a noncompensatory plan, (c)
the accounting consequences of various modifications to the previously fixed
stock option award, and (d) the accounting for an exchange of stock compensation
awards in a business combination. FIN 44 became effective July 2, 2000 but
certain conclusions cover specific events that occurred after either December
15, 1988 or January 12, 2000. The adoption of FIN 44 in fiscal 2001 did not have
an effect on the Company's financial statements.
In December 1999, the Securities and Exchange Commission ("SEC") issued Staff
Accounting Bulletin No. 101, which summarizes certain of the SEC staff's views
in applying generally accepted accounting principles to revenue recognition in
financial statements. The Company adopted Staff Accounting Bulletin No. 101
effective October 1, 2000. The adoption of this guidance did not have a material
23
impact on the Company's results of operations or financial position, however,
the guidance may impact the way in which the Company will account for future
transactions.
In July 2001, the FASB issued Statement of Financial Standards No. 142,
"Accounting for Goodwill" ("SFAS 142"). SFAS 142 establishes accounting
standards for existing goodwill related to purchase business combinations. Under
the Statement, the Company would discontinue the periodic amortization of
goodwill effective with the adoption of the new Statement. Also, the Company
would have to test any remaining goodwill for possible impairment within six
months of adopting the Statement, and periodically thereafter, based on new
valuation criteria set forth in the Statement. Further, the Statement has new
criteria for purchase price allocation. The Statement becomes effective in
fiscal 2003 and the Company is considering early adoption in fiscal 2002. The
Company believes the adoption of SFAS 142 will have no material impact on the
financial statements.
ITEM 8 - FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
24
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors And Stockholders
General Kinetics Incorporated
Chantilly, Virginia
We have audited the accompanying balance sheets of General Kinetics Incorporated
as of May 31, 2001 and 2000, and the related statements of operations,
stockholders' deficit, and cash flows for each of the three years in the period
ended May 31, 2001. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
presentation of the financial statements. We believe our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of General Kinetics Incorporated
as of May 31, 2001 and 2000, and the results of its operations and its cash
flows for each of the three years in the period ended May 31, 2001 in conformity
with accounting principles generally accepted in the United States of America.
The accompanying financial statements have been prepared assuming the Company
will continue as a going concern. The Company has sustained recurring operating
losses in fiscal 2001, 2000, and 1999. In addition, the Company has significant
short-term cash commitments and funding is limited to cash flow from operations
and loans collateralized by certain accounts receivable. These factors raise
substantial doubt about the Company's ability to continue as a going concern.
Management's plans in regards to these matters are described in Note 1. The
financial statements do not contain any adjustments that might result from the
outcome of these uncertainties.
/s/ BDO Seidman, LLP
BDO Seidman, LLP
Washington, DC
July 20, 2001
25
General Kinetics Incorporated
Balance Sheets
May 31, May 31,
2001 2000
---- ----
Assets
------
Current Assets:
Cash and cash equivalents $ 388,300 $ 958,100
Accounts receivable, net of allowance of $72,700 and $75,000 1,251,600 1,130,600
Inventories 1,452,300 982,800
Prepaid expenses and other 13,100 36,200
------------ -----------
Total Current Assets 3,105,300 3,107,700
------------ -----------
Property, Plant and Equipment 2,786,100 2,751,900
Less: Accumulated Depreciation (1,984,400) (1,827,000)
------------ -----------
801,700 924,900
Patent 38,000 -
Other Assets 64,400 97,700
------------ -----------
Total Assets $ 4,009,400 $ 4,130,300
============ ===========
Liablilities and Stockholders' Deficit
--------------------------------------
Current Liabilities:
Advances from factor $ - $ 44,100
Current maturities of long-term debt 75,100 69,600
Accounts payable, trade 1,104,100 873,700
Accrued expenses and other payables 575,000 739,300
------------ -----------
Total Current Liabilities 1,754,200 1,726,700
------------ -----------
Long-Term debt - less current maturities (including
$8,793,900 and $8,732,000 of convertible debentures) 9,288,300 9,300,900
Other long-term liabilities 263,000 269,000
------------ -----------
Total Long-Term Liabilities 9,551,300 9,569,900
------------ -----------
Total Liabilities 11,305,500 11,296,600
------------ -----------
Commitments and Contingencies
Stockholders' Deficit:
Common Stock, $0.25 par value, 50,000,000 shares authorized 1,811,500 1,811,500
7,245,557 shares issued, 6,718,925 shares outstanding
Additional Contributed Capital 7,239,400 7,239,400
Accumulated Deficit (15,896,800) (15,767,000)
------------ -----------
(6,845,900) (6,716,100)
Less:
Treasury Stock, at cost (526,632 shares) (450,200) (450,200)
------------ -----------
Total Stockholders' Deficit (7,296,100) (7,166,300)
------------ -----------
Total Liabilities and Stockholders' Deficit $ 4,009,400 $ 4,130,300
============ ===========
The accompanying notes are an integral part of the financial statements.
Page 26
General Kinetics Incorporated
Statements of Operations
For the Years Ended May 31, 2001, 2000, and 1999
2001 2000 1999
---- ---- ----
Net Sales $8,258,500 $8,833,000 $7,490,200
Cost of Sales 6,735,800 7,827,500 6,428,900
----------- ----------- -----------
Gross Profit 1,522,700 1,005,500 1,061,300
----------- ----------- -----------
Selling, General & Administrative 1,565,000 1,514,200 1,723,600
Product Research, Development & Improvement 42,800 - -
Provision for Note Receivable - - 12,500
----------- ----------- -----------
Total Operating Expenses 1,607,800 1,514,200 1,736,100
----------- ----------- -----------
Operating Loss (85,100) (508,700) (674,800)
Gain on settlement of Cryptek note - 278,800 -
Other Income 175,000 - -
Interest Expense (219,700) (298,900) (241,300)
----------- ----------- -----------
Loss before extraordinary item (129,800) (528,800) (916,100)
Extraordinary item -gain from debt extinguishment - - 67,000
----------- ----------- -----------
Net Loss $ (129,800) $ (528,800) $ (849,100)
=========== =========== ===========
Basic and diluted loss per share:
Loss before extraordinary item ($0.019) ($0.079) ($0.136)
Earnings from extraordinary item - - 0.010
----------- ----------- -----------
Basic and diluted loss per share ($ 0.019) ($ 0.079) ($ 0.126)
=========== =========== ===========
Weighted Average Number of Common Shares
Outstanding 6,718,925 6,718,925 6,718,925
The accompanying notes are an integral part of the financial statements.
Page 27
General Kinetics Incorporated
Statements of Stockholders' Deficit
For the Years Ended May 31, 2001, 2000, and 1999
Additional Total
Common Stock Contributed Accumulated Treasury Stockholders'
Shares Amount Capital Deficit Stock Equity
------ ------ ------- ------- ----- ------
Balance 5/31/98 7,245,557 $ 1,811,500 $ 7,239,400 $ (14,389,100) $ (450,200) $ (5,788,400)
Net Loss (849,100) (849,100)
--------- ----------- ----------- ------------- ----------- ------------
Balance 5/31/99 7,245,557 1,811,500 7,239,400 (15,238,200) (450,200) (6,637,500)
Net Loss ($528,800) (528,800)
--------- ----------- ----------- ------------- ----------- ------------
Balance 5/31/00 7,245,557 1,811,500 7,239,400 (15,767,000) (450,200) (7,166,300)
Net Loss ($129,800) (129,800)
--------- ----------- ----------- ------------- ----------- ------------
Balance 5/31/01 7,245,557 $ 1,811,500 $ 7,239,400 $ (15,896,800) $ (450,200) $ (7,296,100)
========= =========== =========== ============= =========== ============
The accompanying notes are an integral part of the financial statements.
Page 28
General Kinetics Incorporated
Statements of Cash Flows
For the Years Ended May 31, 2001, 2000, and 1999
2001 2000 1999
---- ---- ----
Cash Flows From Operating Activities:
Net Income/(Loss) $ (129,800) $ (528,800) $ (849,100)
Adjustments to reconcile net income
to net cash used in operating activities:
Depreciation and amortization 157,400 184,000 173,100
Extraordinary gain on debt extinguishment (67,000)
Amortization of bond discount 61,900 61,900 61,900
Bad debt recovery (175,000) - -
Provision for doubtful accounts (2,300) (196,500) 87,500
Write-off of note receivable - - 216,600
Provision for inventory obsolescence 85,000 95,000 60,000
Write-off of inventory (125,000) (55,000) (162,700)
Write off of accrued liabilities - - (85,100)
(Increase) Decrease in Assets:
Accounts Receivable (118,700) 506,200 (1,233,700)
Inventories (429,500) 262,800 (442,400)
Prepaid Expenses 23,100 23,100 (54,400)
Other assets (4,700) (71,000) (25,400)
Increase (Decrease) in Liabilities:
Accounts Payable - Trade 230,400 (85,100) 741,400
Accrued Expenses and other payables (164,300) 100,500 132,100
Other Long Term Liabilities (6,000) (6,400) (1,700)
---------- ---------- -----------
Net cash provided by/(used) in Operating Activites (597,500) 290,700 (1,448,900)
---------- ---------- -----------
Cash Flows from Investing Activities:
Acquisition of property, plant and equipment (34,200) (93,000) (174,400)
Collection of notes recievable 175,000 550,000 25,000
---------- ---------- -----------
Net cash provided by/(used) in Investing Activities 140,800 457,000 (149,400)
---------- ---------- -----------
Cash Flows from Financing Activities:
Repayment of bonds payable - - (33,200)
Advances from Factor/Borrowings
on Demand Notes Payable 132,700 600,000 687,400
Repayments of Advances from Factor/
Demand Notes Payable (176,800) (634,900) (608,400)
Repayments on Long Term Debt (69,000) (62,100) (63,400)
---------- ---------- -----------
Net cash used in Financing Activities (113,100) (97,000) (17,600)
---------- ---------- -----------
Net increase (decrease) in cash and cash equivalents (569,800) 650,700 (1,615,900)
Cash and Cash Equivalents: Beginning of Period 958,100 307,400 1,923,300
---------- ---------- -----------
Cash and Cash Equivalents: End of Period $ 388,300 $ 958,100 $ 307,400
========== ========== ===========
Supplemental Disclosures of Cash Flow Information:
Cash paid during the year for:
Interest $ 151,300 $ 200,900 $ 175,100
Income Taxes $ 800 $ 800 $ 7,100
The accompanying notes are an integral part of the financial statements.
Page 29
GENERAL KINETICS INCORPORATED
NOTES TO FINANCIAL STATEMENTS
1. FUTURE PROSPECTS AND RECENT OPERATIONS:
General Kinetics Incorporated (The "Company" or "GKI") has relied upon
internally generated funds and accounts receivable financing, plus cash from
sales of two of its operating companies, to finance its operations. During
fiscal 2001, operating losses totaled $129,800. In order to generate the working
capital required for operations, the Company must continue to generate orders,
increase its level of shipments, and operate profitably during fiscal 2002.
The Company must continue to market electronic enclosure products to government
and commercial markets, enter into contracts which the Company can complete with
favorable profit margins, ship the orders in a timely manner, and control its
costs in order to recover from its liquidity problems and seek to operate
profitably in fiscal 2002.
As of May 31, 2001, the Company had cash of $388,300. The Company has faced
production issues that have contributed to losses from operations. The Company
has taken and is continuing to take steps to address these production issues
through changes and additions to plant supervision and by adding new scheduling
and planning procedures.
Management believes that cash on hand, borrowings from the factoring of accounts
receivable, and careful management of operating costs and cash disbursements can
enable the Company to meet its cash requirements through May 31, 2002. The
Company may also seek additional funding sources to provide a cushion to handle
variances in cash requirements if sales, gross profits and shipment levels
fluctuate throughout the fiscal year. However, there is no assurance the Company
will be successful in pursuing its plans or in obtaining additional financing to
meet those cash requirements. The Company must continue to maintain its level of
sales, consistently make timely shipments and produce its products at adequate
profit margins, or the Company will continue to face liquidity problems, and may
be left without sufficient cash to meet its ongoing requirements.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As explained above, the Company
sustained recurring operating losses
30
in fiscal 2001, 2000, and 1999. In addition, the Company has significant short-
term cash commitments, the funding of which is limited to cash flow from
operations and the factoring of certain accounts receivable. These factors raise
significant doubt about the Company's ability to continue as a going concern.
The financial statements do not contain any adjustment that might result from
the outcome of these uncertainties.
The Company has been party to a factoring agreement with Reservoir Capital
Corporation ("Reservoir") that provides for advances (or loans) of up to 80% of
specified accounts receivable. At May 31, 2001 there were no advances due to
Reservoir. Subsequent to May 31, 2001, Link2It Corporation, a company formed by
Larry Heimendinger and Richard McConnell, both directors of the Company, agreed
to enter into a new factoring agreement with the Company on terms substantially
identical to those of the Reservoir facility, but more favorable to the Company
in certain respects, including provision for advances at a rate of up to 85% of
specified accounts receivable. The Company expects to draw on this facility, or
a similar facility, throughout fiscal 2002 as necessary to help alleviate
liquidity problems, although, as discussed above, the Company will also need to
control expenses, maintain the sales backlog at appropriate levels, and keep
shipment levels in line with booked orders in order to meet these requirements.
2. SIGNIFICANT ACCOUNTING POLICIES:
The Company's significant accounting policies are described below.
NATURE OF BUSINESS:
The Company designs, manufactures and sells specialty metal products such as
precision enclosures and rack mounting systems for the installation of
electronics.
Cash and Cash Equivalents
The Company classifies all temporary investments purchased with a maturity of
less than three months as cash equivalents.
31
Revenue Recognition and Profit Determination
Revenues, sales, and cost of sales on fixed-price contracts are generally
recorded when units are delivered based on the profit rate anticipated on the
contracts at completion. The Company's contracts are primarily fixed price.
Sales and cost of sales from cost reimbursable and time-and-materials contracts
are recognized as costs are incurred. Profits expected to be realized on
contracts are based on total sales value and estimated costs at completion.
These estimates are reviewed and revised periodically throughout the lives of
the contracts and adjustments to profits resulting from such revisions are made
cumulative to the date of change. Amounts in excess of the agreed-upon contract
price for customer caused delays, errors, and change orders are recognized in
contract value if it is probable that the claim will result in additional
revenue and the amount can be reasonably estimated. Losses on contracts are
recorded in full as soon as they become known.
Inventories
Inventories are valued at the lower of cost (first-in, first-out method) or
market (net realizable value).
Property, Plant, and Equipment
Property, plant and equipment are recorded at cost. The Company provides for
depreciation and amortization on an accelerated basis for machinery and
equipment and furniture and fixtures and on a straight-line basis for all other
assets over the following estimated useful lives:
Buildings and improvements 18 to 45 years
Machinery and equipment 3 to 7 years
Furniture and fixtures 5 to 7 years
Transportation equipment and other 3 years
Leasehold improvements are amortized on a straight-line basis over the shorter
of the useful life of the improvement or the remaining term of the lease.
Expenditures for maintenance and repairs are charged against income as incurred;
betterments which increase the value or materially extend the life of the asset
are capitalized. When assets are sold or retired, the cost and accumulated
depreciation are removed from the accounts, and any gain or loss is included in
income.
32
In accordance with SFAS 121, the Company periodically evaluates the carrying
value of long-lived assets when events and circumstances warrant such a review.
The carrying value of a long-lived asset is considered impaired when the
anticipated undiscounted cash flow from such asset is separately identifiable
and is less than the carrying value. In that event, a loss is recognized based
on the amount by which the carrying value exceeds the fair market value of the
long-lived asset. Fair market value is determined primarily using the
anticipated cash flows discounted at a rate commensurate with the risk involved.
Product Research, Development and Improvements
Costs associated with product research, development and improvements are
expensed as incurred.
Income Taxes
The Company accounts for income taxes under the asset and liability method which
requires that deferred tax assets and liabilities be recognized for the
estimated future tax consequences attributable to differences between the
financial statement carrying amounts of existing assets and liabilities and
their respective tax bases. The recognition of net deferred tax assets is
reduced, if necessary, by a valuation allowance for the amount of any tax
benefits that, based on available evidence, are not expected to be realized.
Deferred tax assets and liabilities are measured using enacted tax rates in
effect for the year in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income tax expense in the period that
includes the enactment date.
Basic and Diluted Earnings Per Share
Earnings per share is based on the weighted average number of shares of common
stock and dilutive common stock equivalents outstanding. Basic earnings per
share includes no dilution and is computed by dividing income available to
common shareholders by the weighted average number of common shares outstanding
for the period. Diluted earnings per share reflects the potential dilution of
securities that could share in the earnings of an entity. Common stock
equivalents consist of convertible debentures
33
(see Note 9) and stock options (see Note 13). Basic and diluted earnings per
share are the same in fiscal 2001, 2000, and 1999 because the impact of dilutive
securities is anti-dilutive.
Estimates and Assumptions
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and the disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates. Certain estimates used by
management are particularly susceptible to significant changes in the economic
environment. These include estimates of inventory obsolescence, valuation
allowances for trade receivables and deferred tax assets. Each of these
estimates, as well as the related amounts reported in the financial statements,
are sensitive to near term changes in the factors used to determine them. A
significant change in any one of those factors could result in the determination
of amounts different than those reported in the financial statements. Management
believes that as of May 31, 2001, the estimates used in the financial statements
are adequate based on the information currently available.
Comprehensive Income
Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive
Income" ("SFAS 130"), establishes standards for reporting and display of
comprehensive income, its components and accumulated balances. Comprehensive
income is defined to include all changes in equity except those resulting from
investments by owners and distributions to owners. Among other disclosures, SFAS
130 requires that all items that are required to be recognized under current
accounting standards as components of comprehensive income be reported in a
financial statement that is displayed with the same prominence as other
financial statements. The Company previously adopted SFAS 130 and has no items
of comprehensive income to report.
Recent Accounting Pronouncements
34
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments"
("SFAS 133"). SFAS 133 establishes accounting and reporting standards for
derivative instruments and for hedging activities. SFAS 133 requires that an
entity recognize all derivatives as either assets or liabilities and measure
those instruments at fair market value. Under certain circumstances, a portion
of the derivative's gain or loss is initially reported as a component of income
when the transaction affects earnings. For a derivative not designated as a
hedging instrument, the gain or loss is recognized in income in the period of
change. Presently, the Company does not use derivative instruments either in
hedging activities or as investments. Accordingly, the adoption of FASB 133 in
fiscal 2001 had no impact on its financial position or results of operations.
In March 2000, the FASB issued interpretation No. 44 ("FIN 44"), "Accounting for
Certain Transactions Involving Stock Compensation, and Interpretation of APB
Opinion No. 25". FIN 44 clarifies the application of APB Opinion 25 for (a) the
definition of employee for purposes of applying APB Opinion No. 25, (b) the
criteria for determining whether a plan qualifies as a noncompensatory plan, (c)
the accounting consequences of various modifications to the previously fixed
stock option award, and (d) the accounting for an exchange of stock compensation
awards in a business combination. FIN 44 became effective July 2, 2000 but
certain conclusions cover specific events that occurred after either December
15, 1988 or January 12, 2000. The adoption of FIN 44 in fiscal 2001 did not have
an effect on the Company's financial statements.
In December 1999, the Securities and Exchange Commission ("SEC") issued Staff
Accounting Bulletin No. 101, which summarizes certain of the SEC staff's views
in applying generally accepted accounting principles to revenue recognition in
financial statements. The Company adopted Staff Accounting Bulletin No. 101
effective October 1, 2000. The adoption of this guidance did not have a material
impact on the Company's results of operations or financial position, however,
the guidance may impact the way in which the Company will account for future
transactions.
In July 2001, the FASB issued Statement of Financial Standards No. 142,
"Accounting for Goodwill" ("SFAS 142"). SFAS 142 establishes accounting
standards for existing goodwill related to purchase business combinations. Under
the Statement, the Company would discontinue the periodic amortization of
goodwill effective with the adoption of the new Statement. Also, the Company
would have to test any remaining goodwill for possible impairment within six
months of adopting the Statement, and periodically thereafter,
35
based on new valuation criteria set forth in the Statement. Further, the
Statement has new criteria for purchase price allocation. The Statement becomes
effective in fiscal 2003 and the Company is considering early adoption in fiscal
2002. The Company believes the adoption of SFAS 142 will have no material impact
on the financial statements.
3. SETTLEMENT OF CRYPTEK NOTE RECEIVABLE
In December 1996, GKI completed the sale of its secure communications division
to Cryptek, the majority of whose equity interests are owned by affiliates of
Angelo Gordon & Co., L.P. The SCD division had been in the business of
manufacturing and selling secure facsimile machines and secure local area
network products for customers handling classified information. The division
incurred significant operating losses during fiscal 1997 and in each of the
prior three fiscal years. Management believed that the resources likely to be
involved in returning the division to profitability could more effectively be
generated and utilized in connection with the development of the electronic
enclosure division and other activities. In addition, the $1.75 million in cash
proceeds received from the sale of the division at closing provided the Company
with operating capital for its continuing business.
In December 1998, the Company entered into a settlement agreement with Cryptek
Secure Communications ("Cryptek"), LLC, resolving differences arising out of
Cryptek's purchase of GKI's former secure communications business. Pursuant to
such settlement, Cryptek made an immediate principal payment of $25,000 on its
outstanding promissory note to the Company and agreed to forego sublease rent
owed by the Company through November 1998. The remaining principal amount of the
Cryptek promissory note was reduced to $550,000 and the payment schedule for
such note was revised and extended through 2002. In addition, the face value of
the preferred membership interest in Cryptek held by the Company was reset at
$900,000, and the requirement for redemption of such interest by Cryptek was
extended through December 2002.
In October 1999, the Company entered into an agreement that amended the
settlement agreement the Company had reached with Cryptek in December 1998. The
October 1999 Agreement reduced the face amount of the promissory note payable to
the Company by Cryptek from $550,000 to $400,000 in exchange for accelerating
the payment schedule. The Company received $200,000 upon execution of the new
agreement. In addition, the October 1999 agreement gave Cryptek the option to
pay the remainder of the
36
promissory note and redeem the preferred interest in Cryptek held by the Company
(with a face amount of $900,000 and a requirement for mandatory redemption in
December 2002) for an additional $488,750, if that option were exercised within
six months after the execution of the October 1999 Agreement.
At November 30, 1999, the $150,000 reduction in the face amount of the note was
offset against an existing valuation reserve related to the Cryptek promissory
note. In December 1999, Cryptek exercised its option and paid the Company
$478,800, representing a discount of $10,000 in consideration of a closing in
December 1999 rather than at the end of the six-month option period in April
2000. The $478,800 was first applied to settle the note receivable with a
carrying value of $200,000, and the excess of $278,800 is recorded in the
accompanying financial statements as a non-recurring gain in non-operating
income. This gain was recognized because GKI did not attribute any value to the
preferred interest in Cryptek for financial reporting purposes due to
uncertainty over valuation at the time of the original sale transaction.
4. - RELATED PARTY TRANSACTIONS
At May 31, 2000, the Company had a membership interest in and certain notes
receivable due from Link2It, LLC, a company formed by Larry Heimendinger and
Richard McConnell, both GKI board members. The financial statements at May 31,
2000 included a valuation reserve of $175,000, which represented the total due
under the notes receivable.
During January 2001, Link2It LLC merged into Link2It Corporation and completed a
sale of equity securities in a private transaction. The $175,000 principal
amount of the notes was repaid in full and recognized as "other income" on the
accompanying statement of operations. GKI also retained approximately 5.7% of
Link2It Corporation's currently outstanding common stock, which it accounts for
using the cost method. The Company has assigned no value to this investment due
to its speculative nature. The entire value was assigned to the note receivable.
Subsequent to May 31, 2001, Link2It entered into a factoring agreement with the
Company, intended to supplement or replace the Company's prior agreement with
Reservoir. The new agreement, which was negotiated at arms length and approved
by unanimous vote of the Company's Board or Directors, is on terms substantially
identical
37
to those of the Reservoir facility, but more favorable to the Company in certain
respects.
5. CREDIT RISK
For the years ended May 31, 2001, 2000, and 1999, the Company's net sales to the
U.S. government and/or subcontractors accounted for 91%, 83%, and 92%,
respectively, of consolidated net sales. Accounts receivable from those
customers amounted to $1.13 million and $1.05 million as of May 31, 2001 and
2000, respectively. A substantial portion of the Company's sales are to the U.S.
government and/or subcontractors, and consequently a material decline in
department of defense spending could have a material adverse effect on the
operations of the Company. Competition in the Company's electronic enclosure
business is intense as it primarily operates in a mature industry. The Company's
uncollectible receivables have historically not been material. The Company has a
cash balance with a bank in excess of the federally insured limit. The Company
minimizes the risk by placing these funds with high-quality financial
institutions.
6. INVENTORIES
Inventories consist of the following:
May 31,
------------------
2001 2000
---- ----
Work in process $1,119,000 $ 813,000
Raw materials 492,400 368,900
Valuation reserve (159,100) (199,200)
----------- ----------
Total $1,452,300 $ 982,800
=========== ==========
Work in process represents actual production costs, including manufacturing
overhead incurred to date, reduced by amounts identified with revenue recognized
on units delivered. The costs attributed to units delivered are based on the
estimated average cost of all units expected to be produced under multiunit
orders. Work in process is reduced by charging any amounts in excess of
estimated net realizable value to cost of sales as soon as they become known.
38
7. PROPERTY, PLANT AND EQUIPMENT:
Major classes of property, plant and equipment consist of the following on May
31:
2001 2000
---- ----
Machinery and equipment $ 1,266,300 $ 1,250,500
Buildings and improvements 920,000 908,700
Furniture and fixtures 510,100 503,900
Transportation equipment and other 89,700 88,800
----------- ------------
2,786,100 2,751,900
Less-Accumulated depreciation and
amortization 1,984,400 1,827,000
----------- ------------
Net property, plant and equipment 801,700 924,900
=========== ============
Depreciation expense for the years ended May 31, 2001, 2000, and 1999 was
$157,400, $184,000, and $173,100, respectively.
8. ACCRUED EXPENSES AND OTHER PAYABLES:
Accrued expenses and other payables consists of the following on May 31:
2001 2000
---- ----
Employee vacations $ 271,200 $ 257,700
Salaries and wages 105,100 78,700
Other 198,700 402,900
---------- ------------
$ 575,000 $ 739,300
========== ============
39
9. DEMAND NOTES PAYABLE AND LONG-TERM DEBT:
Demand notes payable and long-term debt consists of the following on May 31:
2001 2000
---- ----
Subordinated Debt Originally Issued to
- --------------------------------------
Clients of Gutzwiller and Partner, A.G.
- ---------------------------------------
and its successor
- -----------------
1994 Convertible Subordinated
Debentures $8,995,000 $8,995,000
Other
-----
Real estate mortgage collateralized
by first deed of trust and security
interest in certain real property.
Payable in 180 equal installments
through November 2006, plus interest
at prime plus 1.0% (9.5% at May 31, 2001). 529,500 598,500
Other notes payable with interest rates
at 1% at May 40,000 31, 2001, and
payable August 2004. 40.000 40,000
---------- ----------
$9,564,500 $9,633,500
Less: Current Maturities (75,100) ( 69,600)
Unamortized discount on
Debentures (201,100) (263,000)
---------- ----------
Long-term debt $9,288,300 $9,300,900
========== ==========
40
The amount of unamortized discount on Convertible Debentures originally issued
to clients of Gutzwiller and its successor at May 31, 2001, is as follows:
Face Unamortized Carrying
Amount Due Discount Amount
---------- -------- ------
Convertible Debentures $8,995,000 $201,100 $8,793,900
In connection with the restructuring of the debt in 1994, the Company recorded a
discount of approximately $646,000 representing the difference between the cash
proceeds and the face amount of the debt. The total amount of discount
amortization was $61,900 for each of the years ending May 31, 2001, 2000, and
1999.
In October 1998, the Company repurchased $100,000 of convertible debentures for
$33,000 in cash. The gain from the extinguishment of debt was recorded as an
extraordinary gain of $67,000 in the accompanying statement of operations for
the year ended May 31, 1999.
The convertible debentures mature in August 2004, are convertible into common
stock at a conversion price of 50 cents per share, and bear interest at 1% per
annum payable annually in arrears. The conversion feature of the financing was
approved by the Company's shareholders at an Annual Meeting of Shareholders held
in October 1994 through a motion to increase the number of authorized shares of
the Company. The convertible debentures are subject to the terms of a Pledge and
Security Agreement dated as of August 14, 1994 providing for a security interest
in substantially all the assets of the Company, with certain exceptions
(including, without limitation, exceptions for accounts receivable and other
financing), to secure the obligations in respect of the convertible debentures.
Shares issuable upon conversion of such convertible debentures are also subject
to certain rights to registration under the Securities Act of 1933, as amended.
Other Real Estate Mortgage Loans
The Company has a real estate mortgage agreement on the Company's Johnstown
facility that contains certain covenants which include restrictions on capital
expenditures and dividend payments. Additionally, the real estate mortgage
agreement contains a subjective covenant which could allow the bank to
accelerate the maturity of the debt if the bank determines that a material
adverse
41
change in the financial or business condition of the Company has occurred.
Future principal maturities of debt are as follows:
Year Ending
May 31,
2002 75,100
2003 83,400
2004 132,600
2005 9,097,800
2006 114,100
Thereafter 61,500
-----------
$ 9,564,500
===========
10. INCOME TAXES:
Due to the net losses in fiscal 2001, 2000, and 1999 and the available net
operating loss carryforwards, there was no material income tax expense for
fiscal 2001, 2000, or 1999, nor were any additional income tax benefits
available from the carryback of net operating losses. Under Statement of
Accounting Standards No. 109 (FAS 109) deferred tax assets and liabilities are
determined based on differences between financial reporting and tax basis of
assets and liabilities and are measured using enacted tax rates and laws that
will be in effect when the differences are expected to reverse. The Company has
provided a full valuation allowance against its net deferred tax assets due to
uncertainties of its ultimate realization. If the Company achieves profitable
operations, it will be subject to alternative minimum taxes, which has a lower
effective tax rate than the statutory rate of 34%. As of May 31, 2001, there are
no additional income tax benefits available from the carryback of net operating
losses.
The difference between the Federal tax rate and the effective tax rate realized
as a percent of pretax earnings for the years ended May 31, 2001, 2000, and
1999, is as follows:
2001 2000 1999
---- ---- ----
Tax provision (benefit) at
statutory rates $(44,000) $(180,000) $(289,000)
42
Non-deductible related party
interest expense 31,000 18,000 32,000
Change in valuation allowance 13,000 162,000 257,000
-------- --------- ---------
$ - $ - $ -
======== ========= =========
The primary difference between income (loss) for financial reporting purposes
and income tax purposes is the recognition of reserves for uncollectible
accounts receivable and obsolete inventory, accrued professional fees, deposits
on contracts, and research and development expenses, which are currently
deductible for income tax purposes.
Principal items comprising deferred income tax assets and liabilities, at May
31, are as follows:
2001 2000
------ ------
Net operating loss carryforward $4,268,000 $4,105,000
R & D and other credit carryforwards 380,000 380,000
Purchased R & D costs 81,000 91,000
Inventory reserves 48,000 63,000
Allowance for doubtful accounts 28,000 29,000
Excess financial statement depreciation (11,000) (17,000)
Accrued Vacations 103,000 98,000
Other accrued liabilities 102,000 93,000
Accrued professional fees 6,000 6,000
Allowance for Note Receivable - 67,000
Deferred compensation 100,000 102,000
---------- -----------
Total deferred tax assets 5,105,000 5,017,000
Valuation allowance (5,105,000) (5,017,000)
---------- -----------
Net deferred tax asset $ - $ -
========== ===========
A valuation allowance is provided as management has determined that it is more
likely than not that the deferred tax assets will not be realized.
As of May 31, 2001, the Company has net operating loss carryforwards for Federal
and state income tax reporting purposes of approximately $11,231,000, which
expire at various dates through 2011. The Company has research and development
and other credit
43
carryforwards for Federal income tax reporting purposes of approximately
$380,000.
11. COMMITMENTS:
Leases:
The Company maintains its executive offices in northern Virginia.
The Company also leases certain equipment under noncancelable operating leases
which expire at various dates through 2001.
At May 31, 2001, approximate future minimum rental commitments for all
noncancelable operating leases are as follows:
Year Ending
May 31,
2002 $ 33,200
2003 19,400
-------
$ 52,600
Less- sublease
income(through
May 31, 2002)
44,300
---------
$ 8,300
=========
Amounts charged to operations for rent expense amounted to $63,600, $90,500, and
$49,300, for the years ended May 31, 2001, 2000 and 1999, respectively. These
amounts were offset by annual sublease income of approximately $57,900, $21,200,
and $19,600, respectively.
12. RETIREMENT PLANS:
The Company has the following retirement plans at May 31, 2001:
44
Defined Contribution Plans
In 1999, the Company adopted a 401(k) plan covering its union employees. The
Company makes matching contributions of up to 5% of the individual union
employee's pretax salary deferral. This plan replaced a defined contribution
plan in effect prior to August 1999. Total related pension expense was
approximately $70,600, $71,900, and $77,300, in fiscal 2001, 2000 and 1999,
respectively.
In addition, the Company has a 401(k) plan covering its nonunion employees.
Participants can make pretax salary deferrals up to certain limitations. Company
contributions are discretionary. Total related expenses were approximately
$21,300, $25,200, and $11,900, for fiscal years 2001, 2000 and 1999,
respectively.
Employee Stock Ownership Plan ("ESOP") and Trust Agreement
The Company has a noncontributory, qualified ESOP plan covering its nonunion,
full-time employees, who are at least 21 years of age. On April 19, 1991, the
Company funded the ESOP through a borrowing with its principal bank in the
amount of $1,500,000. The ESOP used the proceeds of a $1,500,000 loan from the
Company to purchase approximately 171,500 newly issued common shares of the
Company. The shares are shown as outstanding in the consolidated balance sheet.
These shares were earned and allocated to eligible employees over a five-year
period. As of May 31, 1997, all of the shares were earned and allocated.
Deferred Compensation Retirement Plan
The Company has an unfunded deferred compensation plan under which it is
committed to provide two retired officers and one surviving spouse of a retired
officer with joint and survivor's lifetime annuity payments, beginning upon
retirement at age 65. The lifetime annuity provides the retired officer with an
annual stipend of 16 percent of base salary at the time of retirement. Upon the
officer's death, a surviving spouse is entitled to receive one-half of that
amount for such spouse's lifetime. The Company provides, on an annual basis, for
anticipated payments under this plan, using an average discount rate of 10
percent and the most recent life expectancy of each individual covered.
45
Compensation related to this plan totaled approximately $38,400, $32,100, and
$36,700, in fiscal 2001, 2000 and 1999, respectively. As of May 31, 2001, 2000
and 1999, deferred compensation recorded in the consolidated balance sheets was
approximately $263,000,, $269,000, and $275,400, and was all attributable to
retirees currently receiving benefits.
13. STOCK OPTIONS:
The Company has six incentive stock option plans under which stock options may
be granted. The Company has reserved 1,950,000 common shares for issuance under
these plans. All six plans have a ten year life and options are granted at the
fair market value at the date of grant. Options vest 50% upon grant and 50%
after one year, unless otherwise stated. Canceled options become available for
new grants upon cancellation.
The 1989 Stock Option Plan was approved by the stockholders on November 30,
1989. All options under the 1989 stock option plan expired during fiscal 2000.
The 1990 Stock Option Plan was approved by the stockholders on November 13,
1990.
The 1991 Stock Option Plan was approved by the stockholders on November 19,
1991. Under the 1991 plan, 375,000 options are available for grant through
November 18, 2001, with no more than 125,000 options granted in any one fiscal
year.
The Company adopted the 1991 Nonemployee and Directors Stock Option Plan on
November 19, 1991. This plan provides for grants to nonemployees (consultants
and advisors) and to nonemployee directors of options to purchase up to 100,000
shares of the Company's common stock. There were no options outstanding under
this plan during fiscal 2000.
The 1994 Stock Option Plan was approved by stockholders on October 28, 1994.
Under the 1994 plan, 525,000 options are available for grant through October 28,
2004, with no more than 225,000 options granted in any one fiscal year.
The 1994 Nonemployee and Directors Stock Option Plan was adopted by the Company
on October 28, 1994. This plan provides for grants to nonemployees (consultants
and advisors) and to nonemployee directors of options to purchase up to 850,000
shares of the Company's common stock. During 1995, the Company issued 325,000
46
incentive stock options to non-employees and directors under this plan. These
incentive options become vested based on the increase of the Company stock price
over the average stock price during the base period from March 8, 1994 through
October 27, 1994. Vesting begins when the stock price reaches 300% of the base
period price and the options become fully vested when the stock price reaches
600% of the base period price. This stock option arrangement is accounted for as
a variable plan and accordingly the measurement date for compensation expense is
delayed until the Company's stock price meets the initial target price. The
Company recorded no compensation expenses in 1999 through 2001, and no options
have as yet vested.
The summary of the option plans for the years ended May 31, is as follows:
2001 2000 1999
------ ------ ------
Options outstanding June 1, 774,527 752,777 714,527
Granted 42,500 42,500 42,500
Exercised 0 0 0
Canceled (4,000) (20,750) (9,250)
---------- ---------- ----------
Options outstanding at end of period 813,027 774,527 752,777
---------- ---------- ----------
Price range of
options granted $ 0.08 $ 0.25 $ 0.15
========== ========== ==========
Price range of options Exercised - - -
========== ========== ==========
Exercise price range of
Outstanding options $.06-$2.50 $.06-$2.50 $.06-$7.00
========== ========== ==========
The summary of stock options outstanding and exercisable as of May 31, 2001 is
as follows:
47
Weighted Weighted Weighted
Range of Average Average Average
Exercise Number Remaining Exercise Options Exercise
Prices Outstanding Life Price Exercisable Price
- ----------------------------------------------------------------------------------------
1991 Stock Option Plan
$0.56 - $2.50 27,250 .5 $0.92 27,250 $0.87
1994 Stock Option Plan
$0.38 - $0.56 38,277 4 0.51 38,277 0.51
1994 Non-employees and Directors Stock Option Plan UPDATE*
$0.06 - $0.09 100,000 4 0.08 78,750 0.08
$0.15 - $0.19 85,000 4 0.17 85,000 0.17
$0.25 - $0.38 75,000 4 0.30 75,000 0.30
$0.69 487,500 4 0.69 162,500 0.69
- ----------------------------------------------------------------------------------------
$0.06 - $2.50 813,027 4.8 $0.52 466,777 $0.43
========================================================================================
The Company has adopted the disclosure-only provisions of SFAS No. 123
"Accounting for Stock Based Compensation", but applies Accounting Principles
Board Opinion No. 25 and related interpretations in accounting for its stock
plans. For SFAS 123 purposes, the weighted average fair value of each option
grant has been estimated as of the date of the grant using the Black-Scholes
option pricing model with the following assumptions; Risk-free interest rate of
4.94%, 5.96%, and 5.53% and expected volatility of 95%, 60%, and 50% for the
years ended May 31, 2001, 2000 and 1999, respectively, a dividend payment rate
of zero for each year and an expected option life of five years. Using these
assumptions, the weighted average fair value of the stock options granted is
$.06, $.16, and $.04, for fiscal 2001, 2000 and 1999, respectively. There were
no adjustments made in calculating the fair value to account for vesting
provisions or for non-transferability or risk of forfeiture.
If the Company had elected to recognize compensation expense based on the fair
value at the grant dates consistent with the method prescribed by SFAS 123, net
loss and loss per share would have been changed to the pro forma amounts
indicated below.
48
2001 2000 1999
----------------------------------
Net Income(Loss):
As reported $(129,800) $(528,800) $(849,100)
Pro forma (134,500) (532,200) (851,200)
Basic Earnings(Loss) per share:
As reported $ (0.02) $ (0.08) $ (0.13)
Pro forma (0.02) (0.08) (0.13)
Diluted Earnings(Loss) per share:
As reported $ (0.02) $ (0.08) $ (0.13)
Pro forma (0.02) (0.08) (0.13)
14. MARKET VALUE DISCLOSURE OF FINANCIAL INSTRUMENTS
Statement of Financial Accounting Standards No. 107, "Disclosures About Fair
Value of Financial Instruments" ("SFAS 107"), requires all entities to disclose
the fair value of financial instruments; however, this information does not
represent the aggregate net fair value of the Company. Some of the information
used to determine fair value is subjective and judgmental in nature; therefore,
fair value estimates, especially for less marketable securities, may vary. The
amounts actually realized or paid upon settlement or maturity could be
significantly different.
Unless quoted market price indicates otherwise, the fair values of cash and cash
equivalents generally approximate market values because of the short maturity of
these instruments. The Company has estimated the fair value of bonds payable
based on the present value using interest rates of similar debt instruments.
The estimated fair values of the Company's financial instruments, none of which
are held for trading purposes, are summarized as follows (brackets denote
liability):
(000's)
May 31, 2001 May 31, 2001
------------ ------------
Carrying Estimated Carrying Estimated
Amount Fair Value Amount Fair Value
------ ---------- ------ ----------
Bonds Payable $(8,995) $(3,000) $(8,995) $(4,184)
49
15. Quarterly Financial Data (Unaudited)
Summarized quarterly financial data for 2001 and 2000 is as follows:
Quarter
--------------------------------------------------
First Second Third Fourth
----- ------ ----- ------
Fiscal Year 2001:
Net sales $2,266,600 $2,447,300 $1,526,900 $2,017,700
Gross Profit 346,800 601,200 288,200 286,500
Net income (loss) (132,000) 87,400 96,100 (181,300)
Basic earnings
(loss) per share $ (0.020) $ 0.010 $ 0.014 $ (0.030)
Diluted earnings
(loss) per share $ (0.020) $ 0.004 $ 0.004 $ (0.030)
Fiscal Year 2000:
Net sales $2,448,900 $2,602,600 $1,832,200 $1,949,300
Gross Profit 225,400 522,700 32,700 224,200
Net income (loss) (296,400) 29,800 (77,700) (184,700)
Basic earnings
(loss) per share $ (0.040) $ 0.004 $ (0.010) $ (0.030)
Diluted earnings
(loss) per share $ (0.040) $ 0.020 $ (0.010) $ (0.030)
ITEM 9 - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE MATTERS
None
50
PART III
The information required by Part III (Items 10 through 13) is hereby
incorporated by reference from the Company's definitive proxy statement to be
filed with the Commission under Section 14A of the Securities Exchange Act of
1934 not later than 120 days after the end of the 2001 fiscal year or shall be
filed by amendment to this Form 10-K not later than such 120 day period.
51
PART IV
ITEM 14 - EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) 1. Financial Statements
Included in Part II, Item 8 of this report:
Consolidated Balance Sheets as of May 31, 2001 and 2000
Consolidated Statements of Operations for the years ended May 31,
2001, 2000 and 1999
Consolidated Statements of Stockholders' Deficit for the years ended
May 31, 2001, 2000 and 1999
Consolidated Statements of Cash Flows for the years ended May 31,
2001, 2000 and 1999
Notes to the Consolidated Financial Statements
2. Financial Statement Schedule
Included in Part IV of this report:
Financial Statements and Supplementary Data
for the years ended May 31, 2001, 2000, and 1999:
Schedule II - Schedule of Valuation and Qualifying
Accounts
(b) Reports on Form 8-K
No reports on Form 8-K were filed by the Company during the fiscal quarter
ended May 31, 2001.
(c) Exhibits
Exhibit Number Description Note No.
- -------------- ----------- --------
3.1 Articles of Incorporation (1)
52
3.2 Articles of Incorporation, as amended at the Annual (7)
Meeting of GKI shareholders on November 19, 1991
3.3 Articles of Incorporation, as amended at the Annual (16)
Meeting of GKI shareholders on October 28, 1994
3.4 By-Laws (1)
3.5 By-Laws, as amended at a Board of Directors meeting (7)
on September 24, 1994
3.6 By-Laws, as amended at a Board of Directors meeting on (12)
March 2, 1994
3.7 By-Laws, as amended at a Board of Directors meeting on (16)
January 19, 1995
4.1 Agreement by and between GKI and Gutzwiller & Partner, (7)
A.G., dated October 20, 1992, and a letter of clarification
regarding such agreement from Edward J. Stucky to David A.
Shaw, dated October 23, 1992
4.2 Form of Convertible Subordinated Debentures Issued to (8)
Gutzwiller & Partner, A.G., on December 14, 1992 with an
effective date of October 20, 1992
4.3 Form of 4% Subordinated Debentures, Series A, due March (9)
30, 1994
4.4 Form of 4% Subordinated Debentures, Series B, due March (9)
30, 1995
53
4.5 Form of 4% Subordinated Debentures, Series C, due August (9)
15, 1994
4.6 Form of Convertible Debentures Issued to Gutzwiller & (14)
Partner, A.G., dated August 14, 1994.
4.7 Form of Pledge and Security Agreement dated as of August
14, 1994 with respect to Convertible Debentures
10.1* 1988 Stock Option Plan (2)
10.2 Agreement and Plan of Merger and Reorganization dated
August 31, 1990 (1)
10.3* 1991 Executive Bonus Plan (5)
10.4* 1991 Stock Option Plan (4)
10.5* 1991 Nonemployee and Directors Stock Option Plan (4)
10.6* 401(k) Retirement, Investment & Savings Plan (7)
10.7* 1989 Stock Option Plan (5)
10.8* 1990 Stock Option Plan (5)
10.9* 1994 Stock Option Plan (15)
10.10* 1994 Nonemployee and Directors Stock Option Plan (15)
10.11 Verdix Asset Purchase Agreement dated October 1, 1993 (10)
10.12 Amendment to Verdix Asset Purchase Agreement dated (11)
January 26, 1994
54
10.13 Asset Purchase Agreement between General Kinetics (18)
Incorporated and Cryptek Secure Communications, LLC, a
Delaware limited liability company, dated as of November 1,
1996
10.14 Agreement between GKI and Link2It, L.L.C. dated as of (17)
January 21, 1997
10.15 Form of Master Factoring Agreement between General Kinetics
Incorporated and Link2It Corporation, dated August
22, 2001.
16.0 Letter re Change in Certifying Accountants (3)
16.1 Letter re Change in Certifying Accountants (13)
21.1 List of Subsidiaries (16)
* Management contract, compensatory plan or arrangement
(1) Previously filed with the Securities and Exchange Commission as an
Exhibit to the Company's Annual Report on Form 10-K for the year ended
May 31, 1990, and incorporated herein by reference.
(2) Previously filed with the Securities and Exchange Commission as an
Exhibit to the Company's Annual Report on Form 10-K for the year ended
May 31, 1989, and incorporated herein by reference.
(3) Previously filed with the Securities and Exchange Commission as an
Exhibit to the Company's Current Report on Form 8-K dated April 3,
1990, and incorporated herein by reference.
(4) Previously filed with Securities and Exchange Commission as an Exhibit
to the Company's Proxy
55
Statement for the 1991 Annual Shareholders' Meeting, and incorporated
herein by reference.
(5) Previously filed with the Securities and Exchange Commission as an
Exhibit to the Company's Annual Report on Form 10-K for the year ended
May 31, 1991, and incorporated herein by reference.
(6) Previously filed with the Securities and Exchange Commission as an
Exhibit to the Company's Amendment No. 2 to the Annual Report on Form
10-K for the year ended May 31, 1991, and incorporated herein by
reference.
(7) Previously filed with the Securities and Exchange Commission as an
Exhibit to the Company's Annual Report on Form 10-K for the year ended
May 31, 1992 and incorporated herein by reference.
(8) Previously filed with the Securities and Exchange Commission as an
Exhibit to the Company's Quarterly Report on Form 10-Q for the quarter
ended November 30, 1992 and incorporated herein by reference.
(9) Previously filed with the Securities and Exchange Commission as an
Exhibit to the Company's Annual Report on Form 10-K for the year ended
May 31, 1993 and incorporated herein by reference.
(10) Previously filed with the Securities and Exchange Commission as an
Exhibit to the Company's Quarterly Report on Form 10-Q for the quarter
ended August 31, 1993 and incorporated herein by reference.
(11) Previously filed with the Securities and Exchange Commission as an
Exhibit to the Company's Current Report on Form 8-K dated February 9,
1994 and incorporated herein by reference.
(12) Previously filed with the Securities and Exchange Commission as an
Exhibit to the Company's Current Report on Form 8-K dated March 17,
1994 and incorporated herein by reference.
(13) Previously filed with the Securities and Exchange Commission as an
Exhibit to the Company's amended Current Report on Form 8-K/A dated
June 16, 1994, and incorporated herein by reference.
56
(14) Previously filed with the Securities and Exchange Commission as an
Exhibit to the Company's Annual Report on Form 10-K for the year ended
May 31, 1994, and incorporated herein by reference.
(15) Previously filed with the Securities and Exchange Commission as an
Exhibit to the Company's Proxy Statement for the 1994 Annual
Shareholders' Meeting, and incorporated herein by reference.
(16) Previously filed with the Securities and Exchange Commission as an
Exhibit to the Company's Annual Report on Form 10-K for the year ended
May 31, 1995, and incorporated herein by reference.
(17) Previously filed with the Securities and Exchange Commission as an
Exhibit to the Company's Current Report on Form 8-K dated December 20,
1996 and incorporated herein by reference (Formerly designated Exhibit
2.1).
(18) Previously filed with the Securities and Exchange Commission as an
Exhibit to the Company's Quarterly Report on Form 10-Q for the quarter
ended February 28, 1997 and incorporated herein by reference.
(d) Schedule
57
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
ON FINANCIAL STATEMENT SCHEDULE
General Kinetics Incorporated
The audits referred to in our report, dated July 20, 2001, which includes an
explanatory paragraph related to substantial doubt about the Company's ability
to continue as a going concern, relating to the financial statements of General
Kinetics, Inc. which is contained in Item 8 of this Form 10-K, included the
audits of the financial statement schedule listed in the accompanying index for
each of the three years in the period ended May 31, 2001. The financial
statement schedule is the responsibility of the Company's management. Our
responsibility is to express an opinion on the financial statement schedule
based on our audits.
In our opinion, such schedule presents fairly, in all material respects, the
information set forth therein.
/s/ BDO Seidman, LLP
Washington, DC
July 20, 2001
58
General Kinetics Incorporated
-----------------------------
Schedule of Valuation and Qualifying Accounts
---------------------------------------------
For the Years Ended May 31, 2001, 2000, and 1999
------------------------------------------------
Balance at Charged to Charged to Balance at
beginning of costs and other end of
Description period expenses accounts Deductions period
----------- ------ -------- -------- ---------- ------
FOR THE YEAR ENDED MAY 31, 2001:
Inventory Reserve 199,200 85,000 (125,000) 0 159,200
Allowance for doubtful accounts 75,000 0 (2,300) 0 72,700
Note Receivable Reserve 175,000 0 (175,000) 0 0
FOR THE YEAR ENDED MAY 31, 2000:
Inventory Reserve 159,200 95,000 (55,000) 0 199,200
Allowance for doubtful accounts 208,000 19,500 (152,500) 0 75,000
Note Receivable Reserve 237,500 87,500 (150,000) 0 175,000
FOR THE YEAR ENDED MAY 31, 1999:
Inventory Reserve 261,900 60,000 (162,700) 0 159,200
Allowance for doubtful accounts 208,000 0 0 0 208,000
Note Receivable Reserve 441,600 87,500 (291,600) 0 237,500
Page 59
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
GENERAL KINETICS INCORPORATED
By: /s/ Larry M. Heimendinger
--------------------------------------------
Larry M. Heimendinger, Chairman of the Board
(Principal Executive Officer)
Date: August 29, 2001
--------------------------------------------
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed by the following persons on behalf of the Registrant
and in the capacities and on the dates indicated.
/s/ Larry M. Heimendinger 8/29/01 /s/ Sandy B. Sewitch 8/29/01
- --------------------------------- -----------------------------
Larry M. Heimendinger, Date Sandy B. Sewitch, Date
Chairman of the Board Chief Financial Officer
(Principal Executive Officer) (Principal Accounting Officer
and Principal Financial
Officer)
60
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed by the following persons on behalf of the Registrant and in the
capacities and dates indicated.
/s/ Marc E. Cotnoir August 29, 2001
- ------------------------------ ---------------
Marc E. Cotnoir, Director Date
/s/ Richard J. McConnell August 29, 2001
- ------------------------------ ---------------
Richard J. McConnell, Director Date
/s/ Thomas M. Hacala August 29, 2001
- ------------------------------ ---------------
Thomas M. Hacala, Director Date
61