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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
(_x_) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Quarterly Period Ended March 31, 2005
or
(___) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Transition Period From To .
------------ ---------------
Commission File No. 0-25184
ENOVA SYSTEMS, INC.
(Exact name of registrant as specified in its charter)
CALIFORNIA 95-3056150
- ---------- ----------
(State or other jurisdiction of (IRS employer identification number)
incorporation or organization)
19850 South Magellan Drive Torrance, CA 90502
(Address of Principal Executive Offices and Zip Code)
Registrant's telephone number, including area code (310) 527-2800
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 periods that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes (_X_) No (___)
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes [ ] No [X]
As of May 13, 2005, there were 416,912,000 shares of Common Stock, no par value,
2,734,000 shares of Series A Preferred Stock, no par value, and 1,217,000 shares
of Series B Preferred Stock, no par value, outstanding.
1
INDEX
ENOVA SYSTEMS, INC.
Page No.
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PART 1. FINANCIAL INFORMATION
Item 1. Financial Statements............................................3
Balance Sheets:
March 31, 2005 (unaudited) and December 31, 2004................3
Statements of Operations (unaudited):
Three months ended March 31, 2005 and 2004......................4
Statements of Cash Flows (unaudited):
Three months ended March 31, 2005 and 2004......................5
Notes to Financial Statements (unaudited):
Three months ended March 31, 2005 and 2004......................7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations.............................9
Item 3. Quantitative and Qualitative Disclosure about Market Risk......23
Item 4. Control and Procedures.........................................23
PART II. OTHER INFORMATION
Item 1. Legal Proceedings .............................................24
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds....24
Item 3. Defaults upon Senior Securities................................24
Item 4. Submission of Matters to a Vote of Security Holders............24
Item 5. Other Information..............................................24
Item 6. Exhibits.......................................................24
SIGNATURE ...............................................................25
CERTIFICATIONS ...............................................................34
2
ENOVA SYSTEMS, INC.
BALANCE SHEETS
- ------------------------------------------------------------------------------------------------------------------------------------
As of As of
March 31, 2005 December 31, 2004
------------- -----------------
(unaudited)
ASSETS
Current assets
Cash and cash equivalents $ 750,000 $ 1,575,000
Accounts receivable, net 668,000 522,000
Inventories and supplies, net 1,171,000 1,036,000
Prepaid expenses and other current assets 364,000 304,000
------------- -------------
Total Current Assets 2,953,000 3,437,000
Property and equipment, net 388,000 387,000
Equity method investment 1,728,000 1,768,000
Other assets 269,000 296,000
------------- -------------
Total assets $ 5,338,000 $ 5,888,000
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities
Accounts payable $ 291,000 $ 66,000
Deferred revenues 274,000 392,000
Line of credit 228,000 229,000
Accrued payroll and related expense 193,000 194,000
Other accrued expenses 75,000 13,000
Current portion of notes payable 172,000 166,000
Current portion of capital lease obligations 4,000 6,000
------------- -------------
Total current liabilities 1,237,000 1,066,000
Accrued interest payable 1,451,000 1,378,000
Notes payable, net of current portion 3,332,000 3,341,000
------------- -------------
Total liabilities $ 6,020,000 $ 5,785,000
------------- -------------
Commitments and contingencies
Stockholders' equity (deficit)
Series A convertible preferred stock - no par value
30,000,000 shares authorized
2,734,000 and 2,748,000 shares issued and outstanding
Liquidating preference at $0.60 per share, aggregating
$1,640,000 and $1,649,000 $ 1,758,000 $ 1,774,000
Series B convertible preferred stock - no par value
5,000,000 shares authorized
1,217,000 and 1,217,000 shares issued and outstanding
Liquidating preference at $2 per share aggregating $2,434,000 2,434,000 2,434,000
Common Stock, no par value
750,000,000 shares authorized
416,473,000 and 415,265,000 shares issued and outstanding 90,644,000 90,465,000
Common stock subscribed 28,000 165,000
Stock notes receivable (1,176,000) (1,176,000)
Additional paid-in capital 6,900,000 6,900,000
Accumulated deficit (101,271,000) (100,459,000)
------------- -------------
Total stockholders' equity (deficit) (683,000) 103,000
------------- -------------
Total liabilities and stockholders' equity (deficit) $ 5,338,000 $ 5,888,000
============= =============
The accompanying notes are an integral part of these financial statements
3
ENOVA SYSTEMS, INC.
STATEMENTS OF OPERATIONS (Unaudited)
For the Three Months Ended March 31,
- ---------------------------------------------------------------------------------------
2005 2004
------------- -------------
Net revenues
Research and development contracts $ 200,000 $ 436,000
Production 492,000 672,000
------------- -------------
Total net revenues 692,000 1,108,000
------------- -------------
Cost of revenues
Research and development contracts 119,000 305,000
Production 451,000 353,000
------------- -------------
Total cost of revenues 570,000 658,000
------------- -------------
Gross profit 122,000 450,000
------------- -------------
Other costs and expenses
Research & development 217,000 128,000
Selling, general & administrative 608,000 438,000
Interest and other income/expense, net 69,000 1,000
Equity in losses of equity method investee 40,000 44,000
------------- -------------
Total other costs and expenses 934,000 611,000
------------- -------------
Net loss $ (812,000) $ (161,000)
============= =============
Basic loss and diluted loss per share $ (0.01) $ (0.01)
============= =============
Weighted-average number of
shares outstanding 415,717,000 374,644,000
============= =============
The accompanying notes are an integral part of these financial statements
4
ENOVA SYSTEMS, INC.
STATEMENTS OF CASH FLOWS (Unaudited)
For the Three Months Ended March 31,
- ------------------------------------------------------------------------------------------------------------------------------------
----------- -----------
2005 2004
----------- -----------
Cash flows from operating activities
Net loss $ (812,000) $ (161,000)
Adjustments to reconcile net loss
to net cash used by operating activities
Change in allowance for doubtful accounts 23,000 --
Depreciation and amortization 72,000 85,000
Equity in losses of equity method investee 40,000 44,000
Issuance of common stock for services 28,000 16,000
(Increase) decrease in
Accounts receivable (170,000) (155,000)
Inventory and supplies (135,000) 77,000
Prepaid expenses and other current assets (60,000) 12,000
Increase (decrease) in
Accounts payable 226,000 (94,000)
Accrued expenses 61,000 (6,000)
Deferred revenues (118,000) --
Accrued interest payable 73,000 62,000
----------- -----------
Net cash used by operating activities (772,000) (120,000)
----------- -----------
Cash flows from investing activities
Purchases of property and equipment $ (46,000) $ --
----------- -----------
Net cash used in investing activities (46,000) --
----------- -----------
Cash flows from financing activities
Net payments on line of credit $ (1,000) $ (3,000)
Payment on notes payable and
capital lease obligations (6,000) (8,000)
Proceeds from exercise of stock options -- 188,000
----------- -----------
Net cash provided by (used in) financing activities (7,000) 177,000
----------- -----------
Net increase (decrease) in cash and cash equivalents (825,000) 57,000
Cash and cash equivalents, beginning of year 1,575,000 530,000
----------- -----------
Cash and cash equivalents, end of year $ 750,000 $ 587,000
=========== ===========
The accompanying notes are an integral part of these financial statements
5
ENOVA SYSTEMS, INC.
STATEMENTS OF CASH FLOWS (Unaudited)
For the Three Months Ended March 31,
- ------------------------------------------------------------------------------------------------------------------------------------
----------- -----------
2005 2004
----------- -----------
Supplemental disclosure of cash flow information
Interest paid $ 3,000 $ 9,000
=========== ===========
Income taxes paid $ -- $ --
=========== ===========
Supplemental schedule of non- cash investing and financing activities
Conversion of preferred stock
to common stock $ 14,000 $ --
=========== ===========
The accompanying notes are an integral part of these financial statements
6
ENOVA SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
(Unaudited)
For the Three Months Ended March 31, 2005 and 2004
NOTE 1 - Basis of Presentation
The accompanying unaudited financial statements have been prepared from the
records of our company without audit and have been prepared in accordance with
accounting principles generally accepted in the United States of America for
interim financial information and with the instructions to Form 10-Q and Article
10 of Regulation S-X. Accordingly, they do not contain all the information and
notes required by accounting principles generally accepted in the United States
of America for complete financial statements. In the opinion of management, all
adjustments (consisting of normal recurring accruals) considered necessary for a
fair presentation of the financial position at March 31, 2005 and the interim
results of operations for the three months ended March 31, 2005 and cash flows
for the three months ended March 31, 2005 have been included. The balance sheet
at December 31, 2004, presented herein, has been prepared from the audited
financial statements of our company for the year then ended.
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires us to make estimates
and assumptions affecting the reported amounts of assets, liabilities, revenues
and expenses, and the disclosure of contingent assets and liabilities. The March
31, 2005 and December 31, 2004 inventories are reported at market value.
Inventories have been valued on the basis that they would be used, converted and
sold in the normal course of business. Certain reclassifications have been made
to the prior period's financial statements to conform to the current period's
presentation. The amounts estimated for the above, in addition to other
estimates not specifically addressed, could differ from actual results; and the
difference could have a significant impact on the financial statements.
Accounting policies followed by us are described in Note 1 to the audited
financial statements for the fiscal year ended December 31, 2004. Certain
information and footnote disclosures normally included in financial statements
prepared in accordance with accounting principles generally accepted in the
United States of America have been condensed or omitted for purposes of the
interim financial statements. The financial statements should be read in
conjunction with the audited financial statements, including the notes thereto,
for the year ended December 31, 2004, which are included in our Form 10-K Annual
Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 as
filed with the Securities and Exchange Commission.
Basic and diluted net loss per common share is computed using the weighted
average number of common shares outstanding. Since a loss from operations
exists, diluted earnings per share number is not presented because the inclusion
of common stock equivalents, consisting of Series A and B preferred stock,
unexercised stock options and warrants, would be anti-dilutive.
The results of operations for the three months ended March 31, 2005 presented
herein are not necessarily indicative of the results to be expected for the full
year.
Revenue Recognition
From time to time, the Company enters into arrangements with its customers where
there are multiple deliverables. In accordance with Emerging Issues Task Force
Issue No. 00-21 "Revenue Arrangements with Multiple Deliverables", when a
company enters into these types of arrangements, the contract is divided into
7
separate units of accounting based on relative fair values, and revenue
recognition criteria are assessed separately for each separate unit of
accounting. These elements will include product sales, service elements, and
fixed-price development elements.
Revenues from Component Sales
Revenues from sales of components are recognized when shipped and title passes
to the customer.
Service Revenue
Services revenues are billed and recognized in the period the services are
rendered and earned and the collection of the related receivable is probable.
Method of Accounting for Long-Term Contracts
In accordance with the American Institute of Certified Public Accountant's
Statement of Position 81-1, "Accounting for Performance of Certain
Construction-Type and Certain Product Type Contracts," the Company records its
revenues on long-term, fixed price contracts on the basis of the
percentage-of-completion method applied to individual contracts, commencing when
progress reaches a point where experience is sufficient to estimate final
results with reasonable accuracy and collection of the related receivable is
probable.
That portion of the total contract price is accrued which is allocable, on the
basis of the Company's estimates of the percentage-of-completion, to contract
expenditures and work performed. Operating expenses, including indirect costs
and administrative expenses, are charged to income as incurred and are not
allocated to contract costs.
As these long-term contracts are performed, revisions in cost and profit
estimates during the course of the work are recognized in the accounting period
in which the facts which require the revision become known.
At the time a loss on a contract becomes known, the entire amount of the
estimated ultimate loss on both short- and long-term contracts is accrued.
Recently Issued Pronouncement
In March 2005, the FASB issued FIN 47, "Accounting for Conditional Asset
Retirement Obligations - an Interpretation of FASB Statement No. 143, Accounting
for Asset Retirement Obligations." This interpretation addresses the timing of
liability recognition for legal obligations associated with the retirement of a
tangible long-lived asset when the timing and/or method of settlement of the
obligation are conditional on a future event. The interpretation requires an
entity to recognize a liability for the fair value of a conditional asset
retirement obligation when incurred if the liability's fair value can be
reasonably estimated. The adoption of this interpretation did not have any
impact on our financial statements
8
NOTE 2 - Notes Payable, Long-Term Debt and Other Financing
Notes payable and long-term debt is comprised of the following:
March 31, 2005 December 31, 2004
-------------- -----------------
(unaudited)
Secured note payable to Credit Managers Association of California, bearing
interest at 6% per annum during 2003 and at prime plus 3% per annum in 2004 and
through maturity. Principal and unpaid interest due in April 2016. A sinking
fund escrow is required to be funded with 10% of future equity financing,
as defined in the agreement 3,332,000 3,332,000
Unsecured note payable, bearing interest at 10% per annum. This
note payable is in default 120,000 120,000
Secured note payable to a Coca Cola Enterprises in the original
amount of $40,000, bearing interest at 5% per annum. Principal and
unpaid interest due in July 2005 40,000 40,000
Secured note payable to a financial institution in the original
amount of $33,000, bearing interest at 8% per annum, payable in 36
equal monthly installments 12,000 15,000
---------- ----------
3,504,000 3,507,000
Less current maturities 172,000 166,000
---------- ----------
Total $3,332,000 $3,341,000
========== ==========
NOTE 3 - Tomoe LTA Long-Term Contract
Enova has entered into a development and production contract with Tomoe
Electro-Mechanical Engineering and Manufacturing, Inc. for eight
battery-electric locomotives for the Singapore Land Transport Authority for
service vehicles for the Singapore Mass Rapid Transit Circle Line system for
maintenance, repair, shunting and recovery of passenger trains. Completion of
the contract will take approximately 15-18 months and is valued at approximately
$3,100,000. We are recording revenues for this long-term, fixed price contract
on the basis of the percentage-of-completion method. The contract contains
several deliverables over its life and therefore we will divide these
deliverables into separate units of accounting based on relative fair values.
Revenue recognition criteria will be assessed separately for each separate unit
of accounting. As of March 31, 2005, we recorded revenues of $188,000 related to
the development portion of this contract.
NOTE 4 - Shareholders' Equity/ (Deficit)
During the three months ended March 31, 2005, we recorded 272,000 shares of
restricted common stock as common stock subscribed to the Board of Directors at
an average price of $0.105 per share for full board meetings and committee
meetings during the first quarter of 2005.
9
During the three months ended March 31, 2005, 1,196,000 shares of restricted
common stock, totaling $165,000, were issued to the Board of Directors from
common stock subscribed.
NOTE 5 - Subsequent Events
On April 21, 2005, the Board of Directors of Enova Systems, Inc. approved an
Employment Agreement between the Company and Edwin Riddell, the President and
Chief Executive Officer of the Company. The agreement is effective as of May 1,
2005. Mr. Riddell is also a director of the Company. Pursuant to the agreement,
Mr. Riddell will receive a yearly salary of at least $208,000, subject to
increase upon annual reviews of his compensation and performance. In addition,
Mr. Riddell will be eligible for performance bonuses to be mutually agreed upon
by both parties. Mr. Riddell will also receive options to purchase 1,000,000
shares of the Company's common stock at an original exercise price of $0.11 per
share, representing at least the fair market value of the Companys' common stock
as of April 21, 2005 as determined in accordance with the Company's equity plan.
The stock options will vest over three years in equal monthly installments and
will expire five years from the date of issuance. Mr. Riddell shall be entitled
to all other fringe benefits to which all executives and employees of the Enova
are entitled as well as a company automobile and company apartment while
employed by the Company. Mr. Riddell's employment is at-will and may be
terminated by the Company for any reason and at any time. In the event that Mr.
Riddell's employment is terminated by the Company without cause, as defined in
the Agreement, Mr. Riddell is entitled to receive one year's salary and health
benefits as severance. If the Board should change Mr. Riddell's duties or
authority so that it may reasonably be found that Mr. Riddell is no longer
performing as the Chief Executive Officer of the Company or if the Company is
sold, merged, or closed, then, in either instance, Mr. Riddell shall have the
right to terminate the Agreement and receive the same severance payment as if
his employment had been terminated without cause. Mr. Riddell may otherwise
terminate his employment at any time but will not be entitled to any severance
benefits. In the event of a single period of prolonged inability to work due to
the result of a sickness or an injury, Mr. Riddell will be compensated at his
full rate pay for at least 6 (six) months from the date of the sickness or
injury.
On April 21, 2005, the Company also entered into a Release Agreement with Carl
Perry relating to his transition from the position of Chief Executive Officer of
the Company. The agreement is effective as of April 21, 2005. Pursuant to the
release agreement, (a) Mr. Perry will receive a lump sum payment of $75,924.18,
and (b) the Company will pay him an amount for health insurance coverage and
will continue to pay the premiums of a life insurance policy, in each case for
the period January through December 2005. Under the release agreement, Mr. Perry
also received his salary of Ten Thousand Dollars ($10,000.00) per month from
August 18, 2004 through the end of December 2004. The foregoing amounts and
benefits, among other things, are being provided to Mr. Perry in exchange for a
general release of all claims, an express release of claims for age
discrimination and a covenant not to pursue complaints with the Company. The
release agreement sets forth certain restrictions on the sale of Enova common
stock which Mr. Perry holds through the earlier of (a) January 1, 2006 or (b)
six months after Enova receives additional capital funding of at least Five
Million Dollars .
10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
The following information should be read in conjunction with the interim
financial statements and the notes thereto in Part I, Item I of this Quarterly
Report and with Management's Discussion and Analysis of Financial Condition and
Results of Operations contained in the Company's Annual report on Form 10-K for
the year ended December 31, 2004. The matters addressed in this Management's
Discussion and Analysis of Financial Condition and Results of Operations, with
the exception of the historical information presented contains certain
forward-looking statements involving risks and uncertainties. Our actual results
could differ materially from those anticipated in these forward-looking
statements as a result of certain factors, including the risks discussed in this
Item 2 and specifically discussed in this report under the heading "Certain
Factors That May Affect Future Results" following this Management's Discussion
and Analysis section, and elsewhere in this report.
In the ordinary course of business, the Company has made a number of estimates
and assumptions relating to the reporting of results of operations and financial
condition in the preparation of its financial statements in conformity with
accounting principles generally accepted in the United States of America. Actual
results could differ significantly from those estimates under different
assumptions and conditions. The Company believes that the following discussion
addresses the Company's most critical accounting policies, which are those that
are most important to the portrayal of the Company's financial condition and
results. The Company constantly re-evaluates these significant factors and makes
adjustments where facts and circumstances dictate. Historically, actual results
have not significantly deviated from those determined using the necessary
estimates inherent in the preparation of financial statements. Estimates and
assumptions include, but are not limited to, customer receivables, inventories,
equity investments, fixed asset lives, contingencies and litigation. The Company
has also chosen certain accounting policies when options were available,
including:
o Inventories are priced at the lower of cost or market using standard
costs, which approximate actual costs on a first-in, first-out (FIFO)
basis. We maintain a perpetual inventory system and continuously record
the quantity on-hand and standard cost for each product, including
purchased components, subassemblies and finished goods. We maintain the
integrity of perpetual inventory records through periodic physical
counts of quantities on hand. Finished goods are reported as
inventories until the point of transfer to the customer. Generally,
title transfer is documented in the terms of sale.
Standard costs are generally re-assessed at least annually and reflect
achievable acquisition costs, generally the most recent vendor contract
prices for purchased parts, currently obtainable assembly and test
labor, and overhead for internally manufactured products. Manufacturing
labor and overhead costs are attributed to individual product standard
costs at a level planned to absorb spending at average utilization
volumes.
We maintain an allowance against inventory for the potential future
obsolescence or excess inventory that is based on our estimate of
future sales. A substantial decrease in expected demand for our
products, or decreases in our selling prices could lead to excess or
overvalued inventories and could require us to substantially increase
our allowance for excess inventory. If future customer demand or market
conditions are less favorable than our projections, additional
inventory write-downs may be required, and would be reflected in cost
of revenues in the period the revision is made.
11
o Stock Based Compensation - we periodically issue common stock or stock
options to employees and non-employees for services rendered. For
common stock issuances, the cost of these services is recorded based
upon the fair value of our common stock on the date of issuance. SFAS
No. 123, "Accounting for Stock-Based Compensation," establishes and
encourages the use of the fair value based method of accounting for
stock-based compensation arrangements under which compensation cost is
determined using the fair value of stock-based compensation determined
as of the date of grant and is recognized over the periods in which the
related services are rendered. The statement also permits companies to
elect to continue using the current implicit value accounting method
specified in Accounting Principles Board ("APB") Opinion No. 25,
"Accounting for Stock Issued to Employees," to account for stock-based
compensation. We have elected to use the intrinsic value based method
and has disclosed the pro forma effect of using the fair value based
method to account for its stock-based compensation. For issuances of
stock options to employees and directors we measure compensation costs
using the intrinsic value method, or APB Opinion No. 25. Stock options
granted to non-employees are accounted for under the fair value method.
The fair value of stock options granted is calculated using the Black
Scholes option pricing model based on the weighted average assumptions.
o Allowance for Doubtful Accounts - we maintain allowances for doubtful
accounts for estimated losses resulting from the inability of its
customers to make required payments. A considerable amount of judgment
is required in assessing the ultimate realization of accounts
receivable including the current credit-worthiness of each customer. If
the financial condition of the Company's customers were to deteriorate,
resulting in an impairment of their ability to make payments,
additional allowances may be required.
o Contract Services Revenue and Cost Recognition - The Company is
required to make judgments based on historical experience and future
expectations, as to the reliability of shipments made to its customers.
These judgments are required to assess the propriety of the recognition
of revenue based on Staff Accounting Bulletin ("SAB") No. 101 and 104,
"Revenue Recognition," and related guidance. The Company makes these
assessments based on the following factors: i) customer-specific
information, ii) return policies, and iii) historical experience for
issues not yet identified. Under FAS Concepts No. 5, revenues are not
recognized until earned.
The Company manufactures proprietary products and other products based
on design specifications provided by its customers. Revenue from sales
of products are generally recognized at the time title to the goods and
the benefits and risks of ownership passes to the customer which is
typically when products are shipped based on the terms of the customer
purchase agreement. Revenue relating to long-term fixed price contracts
is recognized using the percentage of completion method. Under the
percentage of completion method, contract revenues and related costs
are recognized based on the percentage that costs incurred to date bear
to total estimated costs. Changes in job performance, estimated
profitability and final contract settlements may result in revisions to
cost and revenue, and are recognized in the period in which the
revisions are determined. Contract costs include all direct materials,
subcontract and labor costs and other indirect costs. General and
administrative costs are charged to expense as incurred. At the time a
loss on a contract becomes known, the entire amount of the estimated
loss is accrued. The aggregate of costs incurred and estimated earnings
recognized on uncompleted contracts in excess of related billings is
shown as a current asset, and billings on uncompleted contracts in
excess of costs incurred and estimated earnings is shown as a current
liability.
These accounting policies were applied consistently for all periods presented.
Our operating results would be affected if other alternatives were used.
Information about the impact on our operating results is included in the
footnotes to our financial statements.
12
Recently Issued Accounting Standard
- -----------------------------------
In March 2005, the FASB issued FIN 47, "Accounting for Conditional Asset
Retirement Obligations - an Interpretation of FASB Statement No. 143, Accounting
for Asset Retirement Obligations." This interpretation addresses the timing of
liability recognition for legal obligations associated with the retirement of a
tangible long-lived asset when the timing and/or method of settlement of the
obligation are conditional on a future event. The interpretation requires an
entity to recognize a liability for the fair value of a conditional asset
retirement obligation when incurred if the liability's fair value can be
reasonably estimated. The adoption of this interpretation did not have any
impact on our financial statements
GENERAL
Enova Systems, Inc., a California Corporation ("Enova" or the "Company"), was
incorporated on July 30, 1976. The Company's fiscal year ends December 31.
Enova believes it is a leader in the development and production of proprietary,
commercial digital power management systems for transportation vehicles and
stationary power generation systems. Power management systems control and
monitor electric power in an automotive or commercial application such as an
automobile or a stand-alone power generator. Drive systems are comprised of an
electric motor, an electronics control unit and a gear unit which power an
electric vehicle. Hybrid systems, which are similar to pure electric drive
systems, contain an internal combustion engine in addition to the electric
motor, eliminating external recharging of the battery system. A hydrogen fuel
cell based system is similar to a hybrid system, except that instead of an
internal combustion engine, a fuel cell is utilized as the power source. A fuel
cell is a system which combines hydrogen and oxygen in a chemical process to
produce electricity. Stationary power systems utilize similar components to
those which are in a mobile drive system in addition to other elements. These
stationary systems are effective as power-assist or back-up systems, alternative
power, for residential, commercial and industrial applications.
A fundamental element of Enova's strategy is to develop and produce advanced
proprietary software, firmware and hardware for applications in these
alternative power markets. Our focus is digital power conversion, power
management, and system integration, for two broad market applications - vehicle
power generation and stationary power generation.
Specifically, we develop; design and produce drive systems and related
components for electric, hybrid-electric, fuel cell and microturbine-powered
vehicles. We also develop, design and produce power management and power
conversion components for stationary distributed power generation systems. These
stationary applications can employ hydrogen fuel cells, microturbines, or
advanced batteries for power storage and generation. Additionally, we perform
research and development to augment and support others' and our own related
product development efforts.
Our product development strategy is to design and introduce to market
successively advanced products, each based on our core technical competencies.
In each of our product / market segments, we provide products and services to
leverage our core competencies in digital power management, power conversion and
system integration. We believe that the underlying technical requirements shared
among the market segments will allow us to more quickly transition from one
emerging market to the next, with the goal of capturing early market share.
Enova's primary market focus centers on both series and parallel heavy-duty
drive systems for multiple vehicle and marine applications. We believe
series-hybrid and parallel hybrid heavy-duty drive system sales offer Enova the
greatest return on investment in both the short and long term. Additionally,
Enova management believes that this area will see significant growth over the
next several years. As we penetrate more market areas, we are continually
refining and optimizing both our market strategy and our product line to
maintain our leading edge in power management and conversion systems for mobile
applications.
13
Management's strategy is to provide a dual path approach in offering both a
series and parallel hybrid drive systems solution. We have developed or are
developing a variety of heavy-duty drive system solutions including our series
hybrid drive system featuring our diesel generator set; a post-transmission
parallel hybrid system and two variations of a pre-transmission parallel hybrid
drive system. Many of these systems are currently being utilized in our
customer's trucks and buses such as the Mack R-11 refueler vehicle which
utilizes our post-transmission parallel hybrid and WrightBus of the United
Kingdom's 10m bus which utilizes our series hybrid drive system.
Additionally, we continue to pursue privately and governmental funded
development programs. These programs allow us to increase our revenue base, form
new alliances with major OEMs and participate in the latest trends in
alternative fuel technologies. Research and development revenues in the first
quarter of 2005 are a result of engineering services for the Mack/Volvo hybrid
drive system, the EDO minesweeper project, the First Auto Work (FAW) parallel
hybrid program and various Hawaii Center for Advanced Transportation
Technologies (HCATT) programs.
In the quarter ended March 31, 2005, we entered into contracts for several new
development efforts with both new and existing customers. Enova is teaming with
Concurrent Technologies Corporation (CTC) to provide and integrate a fuel cell
hybrid drive system for another MB4 tow tractor for the U.S. Air Force.
Additionally, we are working on a parallel hybrid drive system study for HCATT
in conjunction with the U.S. Air Force. We continue to receive greater
recognition from both governmental and private industry with regards to both
commercial and military application of our hybrid drive systems and fuel cell
power management technologies. Although we believe that current negotiations
with several parties may result in development and production contracts during
2005 and beyond, there are no assurances that such additional agreements will be
realized.
During the quarter ended March 31, 2005, we continued to develop and produce
electric and hybrid electric drive systems and components for FAW China, Wright
Bus and Eneco of the United Kingdom, EcoPower Technology (EPT) of Italy,
Tsinghua University of China, MTrans of Malaysia, Tomoe Electro-Mechanical
Engineering and Manufacturing, Inc. of Japan and several other domestic and
international vehicle and bus manufacturers.
Our various electric and hybrid-electric drive systems, power management and
power conversion systems are being used in applications, including Class 8
trucks, train locomotives, transit buses and industrial vehicles as well as in
non-transportation applications such as fuel-cell management and power
management systems, including the EDO minesweeper. We have furthered our
development and production of systems for both mobile and stationary fuel cell
powered systems with major companies such as Ford and Hydrogenics, a fuel cell
developer in Canada.
Heavy-Duty Drive Systems - Buses, Trucks, Vans and Other Industrial Vehicle
- --------------------------------------------------------------------------------
Applications
- ------------
Enova's primary market focus centers on both series and parallel heavy-duty
drive systems for multiple vehicle and marine applications. We believe
series-hybrid and parallel hybrid heavy-duty drive system sales offer Enova the
greatest return on investment in both the short and long term. Although this
market sector has developed more slowly than anticipated, management believes
that this area will see significant growth over the next several years. As the
Company penetrates more market areas, we are continually refining and optimizing
both our market strategy and our product line to enhance our power management
and conversion systems for mobile applications.
In the first quarter of 2005, we continued to market our latest hybrid, the
HybridPower Series Hybrid, to customers in Europe and Asia. Enova's new diesel
14
generator set, the power component within the hybrid drive system, delivers 60
kilowatts volts of continuous power, enabling it to integrate seamlessly with
Enova's 240kW or 120kW drive motors and other digital power management
components. The series hybrid genset consists of a 60kW electric motor, a motor
controller and a diesel engine meeting stringent Euro 3 or Euro 4 emission
specifications. The genset is distinctively designed to allow end users to
choose the engine best suited for their commercial needs, permitting a wide
variety of engine choices.
For the three months ended March 31, 2005, we received orders for six
HybridPower Series Hybrid 120kW drive systems to WrightBus of the United Kingdom
and one system to Tomoe of Japan for their Seoul Metro Railway Transit (SMRT)
project. Additionally, WrightBus has ordered our HybridPower Series Hybrid 240kW
drive system for its double-decker buses and Tomoe has ordered three of our
post-transmission parallel hybrid drive systems for its SMRT project.
Tsinghua University in China continues to order both 120kW and 240kW HybridPower
drive system for its fuel cell hybrid bus development program. During the first
quarter of 2005, we received orders for two each of these systems. Our
pre-transmission parallel hybrid drive system program with FAW for their buses
continued during the first quarter of 2005. The first vehicle was successfully
integrated and tested, and FAW has commenced integration of the second and third
buses. We anticipate an order for an additional three systems in the second
quarter of 2005 to be followed by increased demand toward the end of 2005.
Management believes that these development and initial production programs will
result in additional production contracts during 2005 and beyond; however at
this time; there are no assurances that such additional contracts will be
consummated.
Our eight drive system contract with Tomoe for Singapore Land Transport
Authority's eight battery-electric locomotives continues on target. Over the
last several years, Enova successfully integrated its HybridPowerTM drive
systems into Tomoe's heavy-duty Isuzu dump truck application, three passenger
trams and a mine tunnel crawler. It is anticipated that the hybrid drive train
components will begin being delivered in late 2005 at Tomoe's Japan-based
facilities. Enova anticipates the total contract to exceed US$3 million over the
life of the contract which is anticipated to run through the second quarter of
2006. This latest market penetration in Asia enhances not only Enova's alliances
with both Tomoe and HHI, but also advances Enova's hybrid-electric technologies
in high voltage power management components. As part of this contract, Enova
will develop a high voltage charging system to enable the locomotive to receive
a direct battery charge from the high voltage rail. Tomoe and Enova continue to
develop other commercial and industrial applications for our drive systems,
including potential light rail applications. For the quarter ended March 31,
2005 we billed approximately $108,000 for these various systems. Although we
anticipate additional orders for these systems in 2005 and beyond, there are no
assurances that such additional orders will be forthcoming.
As noted, WrightBus, one of the largest low-floor bus manufacturers in the
United Kingdom, continues to purchase our diesel genset-powered, series hybrid
drive systems for their medium and large bus applications. WrightBus ordered six
120kW drive systems and one 240kW drive system in early 2005 for a total of
$215,000 to be delivered in the 1st and 2nd quarters of 2005. In late 2004, we
entered into an exclusive three-year agreement with WrightBus for the sale of
certain Enova products for specific vehicles in the United Kingdom. WrightBus
has notified us of potential additional orders for 2005 as well as requirements
for 2006 through 2007. At this time, however, there are no assurances that such
additional orders will be forthcoming.
Eneco of the United Kingdom, a vehicle integrator which utilizes Enova's
HybridPower 120kW drive systems in its hybrid bus applications, has ordered
sixteen 120kW electric drive systems in early 2005, totaling $483,000 for
delivery in the second and third quarters of 2005. Eneco has notified us of its
plans to order additional 120kw systems in the 3rd and 4th quarter 2005 for its
bus programs. At this time, however, there are no assurances that such
additional orders will be forthcoming.
15
In Italy, our relationship with EPT continues to build as they order additional
hybrid electric HybridPowerTM 120kw drive systems for their bus customers in
Turin, Genoa, Brescia, Ferrara and Vicenza. EcoPower ordered five additional
drive systems in the first quarter of 2005 for delivery in the 2nd quarter which
totals $138,000. EPT has notified Enova of its requirements for additional drive
systems in 2005; however, there are no assurances that such additional orders
will be forthcoming.
MTrans of Malaysia continues to utilize Enova's series hybrid drive system
solutions in its hybrid bus applications. In the 1st quarter 2005, MTrans
ordered two additional drive systems, a 120kW and a 240kW, for integration into
their vehicles. MTrans has discussed the potential of utilizing Enova drive
systems for all of its hybrid and monorail requirements in 2005 and beyond. At
this time, however, there are no assurances that such additional orders will be
forthcoming.
Additionally, we are in discussions with other bus manufacturers and industrial,
commercial and military vehicle manufacturers regarding the purchase of our
heavy-duty, high performance, parallel and series hybrid drive systems in 2005.
There are no assurances, however, that these discussions will result in any
sales of the HybridPower parallel or series hybrid drive systems.
Light-Duty Drive Systems - Automobiles and Delivery vehicles
- ------------------------------------------------------------
Our 90kW controller, motor and gear unit is utilized in light duty vehicles such
as midsize automobiles and delivery vehicles. The topology of this system is
being adapted to also be utilized as a parallel hybrid motor and controller
system. We are beginning to receive more interest in our light-duty systems from
both European and Asian customers.
Our 90kW motor controller is utilized in the parallel hybrid drive system
designed for FAW. In conjunction with the 90kW motor, FAW and Enova are
evaluating this latest usage of our hybrid technologies. As noted earlier, we
anticipate additional demand for these systems. At this time, however, there are
no assurances that such additional orders will be forthcoming.
We continue to cross-sell our systems to new and current customers in the light
and medium duty vehicle markets, both domestically and globally.
Fuel Cell Technologies
- ----------------------
Due to the success of the 20kW High Voltage Energy Converter (HVEC) development
program with Ford Motor Company for their fuel cell vehicle, Ford has entered
into another development contract with Enova for a 30kW converter. The new
program is for two 30kW HVEC systems for delivery in the third quarter of 2005.
The 20kW HVEC is a key component in Ford's Focus Fuel Cell Vehicle (FCV) which
utilizes the Ballard fuel cell system. It converts high voltage power from the
fuel cell into a lower voltage for use by the drive system and electronic
accessories. There is a potential for additional production orders for HVEC
units from Ford in 2005 and beyond; however, at this time, there are no
assurances that such additional orders will be forthcoming.
Furthermore, we are applying the technology and components derived from this
program to other applications. The HVEC is a critical component of our Fuel Cell
bus programs and other fuel cell powered systems such as the Hyundai fuel cell
vehicle. Both of these projects are further detailed in the research and
development programs section set forth below.
Our latest projects with both CTC and HCATT for a fuel cell powered MB-4 tow
tractor and a step-van, respectively, both utilize our HVEC units to control and
adapt power between the fuel cells, the batteries and the power electronics of
the drive system. In heavy-duty mobile applications such as these, Enova has
developed firmware to run our HVEC units in parallel for greater power capacity.
16
Enova's fuel cell enabling components are part of the proposed fleets of fuel
cell vehicles being utilized by both Ford Motor Company - the Ford Focus FCV-
and Hyundai Motor Company - the Hyundai Tucson fuel cell hybrid electric vehicle
- - in response to the U.S. Department of Energy's solicitation, entitled
"Controlled Hydrogen Fleet and Infrastructure Demonstration and Validation
Project." This government-funded project, which commenced in late 2004, will
last over five years evaluating the economic and performance feasibility of fuel
cell vehicles and infrastructure across the U.S.
The Company will continue to explore new applications for this versatile
technology in both mobile and stationary systems.
Research and Development Programs
- ---------------------------------
We continue to pursue government and commercially sponsored development programs
for both ground and marine heavy-duty drive system applications.
Our program with Mack Truck, Inc., Powertrain division - a unit of The Volvo
Group, Sweden, for the development and manufacture of a motor controller,
electric motor and battery management systems for a new parallel hybrid drive
system continues on schedule. The new parallel hybrid vehicle program is part of
the Air Force's efforts to improve efficiency, reduce fuel and maintenance
costs, provide re-generative brake energy and reduce emissions. The refueler
fleet consists of approximately 300 vehicles and, upon successful completion and
evaluation of the refueler vehicle, there is the potential for additional
upgrades to the parallel hybrid drive system. As part of the program, Mack
Trucks will also evaluate the applicability of the drive system to commercial
vehicles commencing with its Class 8 Refuse Hauler. Mack Trucks currently
produces approximately 3,000 refuse vehicles per annum for major customers such
as Waste Management. This development program is anticipated to be completed in
mid 2005, followed by an evaluation period of approximately three to nine
months.
Our development contract with EDO Corporation of New York for the design and
fabrication of a high voltage DC-DC power conversion system utilizing a Capstone
microturbine as the primary power source for the U.S. Navy unmanned minesweeper
project was completed in the first quarter of 2005. The electronics package will
include Enova's advanced power components, including a new, enhanced 50V, 700A
DC-DC power converter, our Battery Care Unit and Hybrid Control Unit which will
power the minesweeper's electromagnetic detection system. Our power management
and conversion system will be used to provide on-board power to other
accessories on the minesweeper platform. Although this program also has the
potential for additional system sales following the demonstration phase, there
are no assurances that such additional orders will be forthcoming.
The all-electric Hyundai Santa Fe SUV demonstration project in Honolulu Hawaii
is nearing its completion in June 2005 for three of the program's vehicles.
Fast-charging capabilities and performance will be the primary focus of this
continued evaluation. This is a continuation of the State of Hawaii and Hyundai
Motor Company's program for pure electric vehicle performance.
Enova has completed its development for Hyundai Motor Company (HMC) of the fuel
cell power management and conversion components for Hyundai's latest fuel cell
hybrid electric vehicle, the Tucson, which was unveiled at the Geneva Auto Show
in March 2004. During the first quarter of 2005, Enova completed test and
evaluation of the 8 systems delivered in 2004. HMC has notified Enova of its
intent to order up to 40 more motors and controllers for additional vehicles
commencing in the second half of 2005. Although we believe there is potential
for such production in 2005, there can be no assurances at this time that such
orders will be realized.
17
We also completed our Hydrogenics fuel cell HybridPower 120kW hybrid drive
program for the Purolator step-van. In integrating this system, we utilized
several Enova power management systems, including our dual 8kW inverter and our
Mobile Fuel Cell Generator that utilizes our HVECs. This fuel cell vehicle
application utilized a Hydrogenics 20kW fuel cell power generation module
underscoring our technologies' ability to optimize fuel cell performance across
a range of fuel cell products. The program is in its final stage of evaluation.
Our HCATT fuel cell powered step-van continues on schedule to be completed in
the third quarter of 2005, ending with an evaluation phase. This vehicle is
almost identical to the Purolator step-van and utilizes the same fuel cell
powered drive systems and components. We are experiencing a notable increase in
interest from both government and military organizations for our products and
integration services. The first of these being the project with CTC for the fuel
cell powered MB-4 tow tractor. For the quarter ended March 31, 2005, we billed
approximately $139,000 for all of our HCATT programs.
Additionally, during the first quarter of 2005, we commenced a parallel hybrid
study project with HCATT which may lead to a contract for the development of a
pre-transmission parallel hybrid step-van for the U.S. Air Force in the second
half of 2005. . Although we believe there is potential for production of this
type of drive system and other development programs in 2005, there can be no
assurances at this time that such contracts will be realized.
We intend to establish new development programs with the Hawaii Center for
Advanced Transportation Technologies in mobile and marine applications as well
as other state and federal government agencies as funding becomes available.
Stationary Power Applications
- -----------------------------
Enova continues to attract new partners and customers from both fuel cell
manufacturers and petroleum companies. It is our belief that utilizing our power
management systems for stationary applications for fuel cells will open new
markets for our Company.
We believe the stationary power market will play a key role in our future. We
continue to pursue alliances with leading manufacturers in this area. There are,
however, no assurances that this market will develop as anticipated or that such
alliances will occur.
LIQUIDITY AND CAPITAL RESOURCES
The audited December 31, 2004 financial statements have been prepared on a going
concern basis which contemplates the realization of assets and satisfaction of
liabilities in the normal course of business. Over the next few years, we expect
to incur losses from operations as we continue to develop future products and
market our current products. We will need to raise additional capital through
debt or equity financings or collaborative arrangements with industry partners
to continue our business operations.
Our ability to continue as a going concern is dependent on our success at
obtaining additional capital sufficient to meet our obligations on a timely
basis, and to ultimately attain profitability. Management is actively engaged in
seeking to raise capital through product licensing, co-development programs, or
public or private equity financing. There is no assurance, however, that we will
raise capital sufficient to enable us to continue operations through the end of
the fiscal year.
In the event we are unable to successfully obtain additional capital, it is
unlikely that we will have sufficient cash flows and liquidity to finance our
business operations as currently contemplated. Accordingly, in the event
additional capital is not obtained, we will likely further downsize the
organization, defer marketing programs, reduce general and administrative
expenses and delay or reduce the scope of research and development projects
until we are able to obtain sufficient financing to do so. These factors could
18
significantly limit our ability to continue as a going concern. The balance
sheets do not include any adjustments relating to recoverability and
classification of recorded asset amounts or the amounts of classification of
liabilities that might be necessary should the Company be unable to continue in
existence.
We have experienced cash flow shortages due to operating losses primarily
attributable to research, development, marketing and other costs associated with
our strategic plan as an international developer and supplier of electric
propulsion and power management systems and components. Cash flows from
operations have not been sufficient to meet our obligations. Therefore, we have
had to raise funds through several financing transactions. At least until we
reach breakeven volume in sales and develop and/or acquire the capability to
manufacture and sell our products profitably, we will need to continue to rely
on cash from external financing sources.
We are seeking new investment capital to fund research and development and
create new market opportunities. In order to fuel our growth in the stationary
power market, we will need additional capital to further these development
programs and augment our intellectual properties. However, our current sources
of funds are not sufficient to provide the working capital for material growth,
and we will need to obtain additional debt or equity financing to support such
growth. As of March 31, 2005, there were no firm commitments for such funds.
Our operations during the quarter ended March 31, 2005 were financed by
development contracts and product sales, as well as from working capital
reserves.
During the quarter ended March 31, 2005, our operations required $825,000 more
in cash than was generated. Enova continues to increase marketing and
development spending as well as administrative expenses necessary for expansion
to meet customer demand. Accounts receivable increased by $170,000 from
$522,000, or approximately 32% from the balance at December 31, 2004 (net of
write-offs). The increase results from additional product sales in the first
quarter as well as the completion of several development contracts which were
originally scheduled to finish in late 2004. We are realizing an increase in
sales activity for our drive systems, components and development services which
commenced in the fourth quarter of 2004 and we anticipate that we will increase
receivables during the next several quarters. Inventory increased slightly by
$135,000 from $1,036,000 or 13% from December 31, 2004 balances. The increase
was due to purchases of additional raw materials and finished goods for orders
to be fulfilled in the second and third quarters of 2005.
Prepaid expenses increased by net $60,000 at March 31, 2005 from the December
31, 2004 balance of $304,000 or 20% due to the renewal of our various insurance
policies. There was an offsetting increase in insurance contracts payables as
these policies are financed in the normal course of business.
Fixed assets increased by $46,000 or 3%, before depreciation, for the quarter
ended March 31, 2005 from the prior year balance of $1,754,000 due to the
purchase of both computer and production equipment.
Investments decreased by $40,000 in the first quarter of 2005 from $1,768,000 at
December 31, 2004, which reflects our pro-rata share of losses attributable to
our forty percent investment interest in the Hyundai-Enova Innovative Technology
Center (ITC). For the quarter ended March 31, 2005, the ITC generated a net loss
of approximately $100,000, resulting in a charge to Enova of $40,000 utilizing
the equity method of accounting for our interest in the ITC.
Other assets decreased by $27,000 during the three months ended March 31, 2005
from $296,000 at December 31, 2004 as we continued to amortize the asset
relating to the Ford Value Participation Agreement and our other intellectual
property assets. Intellectual property assets, including patents and trademarks
remained unchanged at $92,000 at March 31, 2005.
19
Accounts payable increased in the first quarter of 2005 by $225,000 to $291,000
from $66,000 at December 31, 2004. The increase in accounts payable is due to
additional purchases of materials and goods for customers, as well as expenses
incurred for the 2004 audit and Form 10K. These payables were subsequently
reduced in the second quarter of 2005. Deferred revenue decreased from $392,000
to $274,000 in the first quarter of 2005 as we recognized $108,000 in revenues
on the Tomoe Singapore project based on the percentage of completion method of
revenue recognition. These deferred revenues will continue to be recognized
throughout 2005 and early 2006 as we progress on the development and production
phases of that contract. Other accrued expenses increased by $61,000 for the
three months ended March 31, 2005 from the balance of $13,000 at December 31,
2004, primarily due to an increase in insurance contracts payable associated
with our liability insurance policies.
Accrued interest increased by $73,000 for the quarter ended March 31, 2005, an
increase of 5% from the balance of $1,378,000 at December 31, 2004. The increase
was due to interest on the Note due the Credit Managers Association of
California for $3.2 million per the terms of the Note as well as the Schulz note
payable.
The future unavailability or inadequacy of financing to meet future needs could
force us to delay, modify, suspend or cease some or all aspects of our planned
operations.
RESULTS OF OPERATIONS
Net revenues for the three months ending March 31, 2005 were $692,000 as
compared to $1,108,000 for the corresponding period in 2004. Net production
sales for the quarter ended March 31, 2005 decreased to $492,000 from $672,000
in the same period in 2004. The decrease in production revenues is primarily the
result of our customers shifting orders to later in 2004 and early 2005 than
originally anticipated and extensions of integration and evaluation time lines.
We anticipate that these revenues will be generated in the second and third
quarters of 2005. Research and development revenues decreased to $200,000 in the
first quarter of 2005 from $436,000 during the same period in 2004. Our sources
of revenue for the first quarter of 2005 came predominantly from product sales
rather than development contracts. Product sales as a percentage of total
revenues of 71% for the three months ended March 31, 2005 with sales of our
HybridPower 120kW drive systems accounted for a majority of our product sales.
We believe this trend will continue to accelerate for the foreseeable future as
more current and prospective customers purchase additional drive systems for
their production vehicles. We will continue to seek out and contract for new
development programs with both our current partners such as Ford, Mack/Volvo,
FAW, Tomoe, Hyundai and our other U.S., Asian and European alliance partners, as
well as with new alliances with other vehicle manufacturers and energy companies
to enhance our technology and our product offerings. Research and development
revenues for the first quarter of 2005 are a result of engineering services for
the Mack/Volvo hybrid drive system, the EDO minesweeper project and various
HCATT programs.
Cost of revenues consists of component and material costs, direct labor costs,
integration costs and overhead related to manufacturing our products. Product
development costs incurred in the performance of engineering development
contracts for the U.S. Government and private companies are charged to cost of
sales for this contract revenue. Cost of revenues for the quarter ended March
31, 2005 decreased $88,000, or 13%, from $658,000 for the same period in 2004.
This decrease is primarily attributable to the decrease in sales for the
quarter, although we are also experiencing a reduction in integration support
costs. We anticipate there may be an increase in cost of sales for products in
2005 due to foreign exchange rate fluctuations of the U.S. dollar versus those
currencies of our primary manufacturers. We anticipate this to be offset by a
reduction in costs associated with manufacturing these products due to
increasing purchases, thereby improving our gross margins.
20
Internal research, development and engineering expenses increased in the three
months ended March 31, 2005 to $217,000 as compared with $128,000 in the same
period in 2004. Enova continues to develop several new products such as its post
transmission parallel hybrid drive system and enhancements to its diesel
generator set which account for a majority of the increase. Enova continues to
allocate increased resources to the development of its parallel hybrid drive
systems, upgraded proprietary control software, enhanced DC-DC converters and
advanced digital inverters and other power management firmware.
Selling, general and administrative expenses increased $170,000 to $608,000 for
the three months ended March 31, 2005 from the previous year's comparable
period. The increase is attributable to additional marketing, engineering and
technical staff employed in the first quarter as well as increased expense due
to stricter regulatory oversight in conjunction with the Sarbanes-Oxley Act of
2002. Management continues to implement cost reduction strategies in 2005 in its
efforts to achieve profitability, although management cannot assure that
profitability will be achieved.
Interest and financing fees remained relatively constant at approximately
$69,000 for the first quarter of 2005, up slightly from the same period in 2004
due to an increase in the interest rate charged per the terms of our long term
note.
We incurred a loss from continuing operations of $812,000 in the first quarter
of 2005 compared to a loss of $161,000 in the first quarter of 2004. The
increase was attributable to several factors, including lower revenues, higher
comparative cost of revenues due to the type of products sold in the fist
quarter of 2005, increased internal development efforts and higher general
operating costs due to factors noted above.
CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS
This Form 10-Q contains forward-looking statements concerning our existing and
future products, markets, expenses, revenues, liquidity, performance and cash
needs as well as our plans and strategies. Forward-looking statements may be
identified by the use of terminology such as "may," "anticipate," "estimate,"
"plans," "expects," "believes," "will," "potential" and by other comparable
terminology or the negative of any of the foregoing. These forward-looking
statements involve risks and uncertainties and are based on current management's
expectations and we are not obligated to update this information. Many factors
could cause actual results and events to differ significantly from the results
anticipated by us and described in these forward looking statements including,
but not limited to, the following risk factors.
Net Operating Losses. We experienced recurring losses from operations and had an
accumulated deficit of $101,271,000 at March 31, 2005. There is no assurance,
however, that any net operating losses will be available to us in the future as
an offset against future profits for income tax purposes.
Continued Losses. For the three months ended March 31, 2005 and 2004, we had
losses from continuing operations of $812,000 and $161,000 respectively on sales
of $692,000 and $1,108,000, respectively.
Our independent auditors' opinion on our audited financial statements includes a
going concern qualification. Our independent auditors have included an
explanatory paragraph in their audit report issued in connection with our
financial statements which states that our recurring operating losses raise
substantial doubt about our ability to continue as a going concern. Our
financial statements do not include any adjustments to the amounts and
classification of assets and liabilities that may be necessary should we be
unable to continue as a going concern. Our ability to continue as a going
concern is dependent upon our ability to generate profitable operations in the
future and/or to obtain the necessary financing to meet our obligations and
repay our liabilities arising from normal business operations when they come
due. The outcome of these matters cannot be predicated with any certainty at
this time.
21
The Company's ability to continue as a going concern is dependent on its success
at obtaining additional capital sufficient to meet its obligations on a timely
basis, and to ultimately attain profitability. Management is actively engaged in
seeking to raise capital through product licensing, co-promotional arrangements,
or public or private equity financing. However, there is no assurance that the
Company will raise capital sufficient to enable the Company to continue its
operations through the end of the fiscal year. In the event the Company is
unable to successfully obtain additional capital, it is unlikely that the
Company will have sufficient cash flows and liquidity to finance its business
operations as currently contemplated. Accordingly, in the event additional
capital is not obtained, the Company will likely further downsize the
organization, defer marketing programs, reduce general and administrative
expenses and delay or reduce the scope of research and development projects
until it is able to obtain sufficient financing to do so.
Nature of Industry. The mobile and stationary power markets, including electric
vehicle and hybrid electric vehicles, continue to be subject to rapid
technological change. Most of the major domestic and foreign automobile
manufacturers: (1) have already produced electric and hybrid vehicles, and/or
(2) have developed improved electric storage, propulsion and control systems,
and/or (3) are now entering or have entered into production, while continuing to
improve technology or incorporate newer technology. Various companies are also
developing improved electric storage, propulsion and control systems. In
addition, the stationary power market is still in its infancy. A number of
established energy companies are developing new technologies. Cost-effective
methods to reduce price per kilowatt have yet to be established and the
stationary power market is not yet viable.
Our current products are designed for use with, and are dependent upon, existing
technology. As technologies change, and subject to our limited available
resources, we plan to upgrade or adapt our products in order to continue to
provide products with the latest technology. We cannot assure you, however, that
we will be able to avoid technological obsolescence, that the market for our
products will not ultimately be dominated by technologies other than ours, or
that we will be able to adapt to changes in or create "leading-edge" technology.
In addition, further proprietary technological development by others could
prohibit us from using our own technology.
Our industry is affected by political and legislative changes. In recent years
there has been significant public pressure to enact legislation in the United
States and abroad to reduce or eliminate automobile pollution. Although states
such as California have enacted such legislation, we cannot assure you that
there will not be further legislation enacted changing current requirements or
that current legislation or state mandates will not be repealed or amended, or
that a different form of zero emission or low emission vehicle will not be
invented, developed and produced, and achieve greater market acceptance than
electric or hybrid electric vehicles. Extensions, modifications or reductions of
current federal and state legislation, mandates and potential tax incentives
could also adversely affect our business prospects if implemented.
Changed legislative climate. Because vehicles powered by internal combustion
engines cause pollution, there has been significant public pressure in Europe
and Asia, and enacted or pending legislation in the United States at the federal
level and in certain states, to promote or mandate the use of vehicles with no
tailpipe emissions ("zero emission vehicles") or reduced tailpipe emissions
("low emission vehicles"). Legislation requiring or promoting zero or low
emission vehicles is necessary to create a significant market for electric
vehicles. The California Air Resources Board (CARB) is continuing to modify its
regulations regarding its mandatory limits for zero emission and low emission
vehicles. Furthermore, several car manufacturers have challenged these mandates
in court and have obtained injunctions to delay these mandates.
22
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
None.
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of disclosure controls and procedures.
In accordance with Rule 13a-15(b) of the Securities Exchange Act of 1934 (the
"Exchange Act"), an evaluation was carried out by the Company's President, Chief
Executive Officer and its acting Chief Financial Officer, of the effectiveness
of the design and operation of the Company's disclosure controls and procedures
(as defined in Rule 13a-14(c) and 15d-14(c) under the Exchange Act) as of the
end of the quarter ended March 31, 2005. Based upon that evaluation of these
disclosure controls and procedures, the President, Chief Executive Officer and
acting Chief Financial Officer concluded that the disclosure controls and
procedures were effective as of the end of the quarter ended March 31, 2005 to
ensure that material information relating to the Company was made known to him
particularly during the period in which this quarterly report on Form 10-Q was
being prepared.
Changes in internal controls over financial reporting.
There was not any change in the Company's internal control over financial
reporting that occurred during the quarter ended March 31, 2005 that has
materially affected, or is reasonably likely to materially affect, the Company's
internal control over financial reporting.
23
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
We may from time to time become a party to various legal proceedings arising in
the ordinary course of business. As of May 12, 2005, the Company was not
involved in any legal proceedings.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
California law prohibits the payment of dividends unless the Company has
sufficient retained earnings or meets certain asset to liability ratios.
During the three months ended March 31, 2005, the Company has issued or accrued
common stock of Enova to the non-executive board directors in accordance with
the September 1999 Board of Directors compensation package for outside
directors. For each meeting attended in person, each outside director is to
receive $1,000 in cash and $2,000 of stock valued on the date of the meeting at
the average of the closing ask and bid prices; for each telephonic Board
meeting, each outside director is to receive $250 in cash and $250 of stock
valued on the date of the meeting at the average of the closing ask and bid
prices; for each meeting of a Board committee attended in person, the committee
members are to receive $500 in cash and $500 of stock valued on the date of the
meeting at the average of the closing ask and bid prices. During the three
months ended March 31, 2005, 272,000 shares of common stock were issued to our
outside Board members at an average price of $0.105 per share for full board
meetings and committee meetings during that period. We relied on Rule 506 of
Regulation D and Section 4(2) of the Securities Act of 1933, as amended, for the
exemption from registration of the sale of such shares. As of March 31, 2005,
3,811,602 shares had been issued under the above compensation plan for
Directors.
Item 3. Defaults upon Senior Securities: None.
Item 4. Submission of Matters to a Vote of Securities Holders: None.
Item 5. Other Information: None.
Item 6. Exhibits:
10.22* Form of Employment Agreement dated May 1, 2005 between Registrant and
Edwin Riddell, Chief Executive Officer and president of the Registrant.
10.23* Form of Release Agreement dated April 21, 2005 between Registrant and
Carl D. Perry, Vice Chairman of the Board of Directors of Registrant.
31.1* Certification of Chief Executive Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act Of 2002
31.2* Certification of Chief Financial Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
32* Certification Pursuant to 18 U.S.C. Section 1350
- ----------------------
* - filed herewith
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Date: May 16, 2005
ENOVA SYSTEMS, INC.
(Registrant)
/s/ Larry B. Lombard
- ---------------------------------------------
By: Larry B. Lombard, Chief Financial Officer
25