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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
- --------------------------------------------------------------------------------
FORM 10-Q
(Mark One)
[x] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the quarterly period ended May 30, 2003
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. 1-10655
ENVIRONMENTAL TECTONICS CORPORATION
-----------------------------------------------------
(Exact name of registrant as specified in its charter)
Pennsylvania 23-1714256
------------------------------- -----------------
(State or other jurisdiction (IRS Employer
of incorporation or organization Identification No.)
COUNTY LINE INDUSTRIAL PARK
SOUTHAMPTON, PENNSYLVANIA 18966
----------------------------------------
(Address of principal executive offices)
(Zip Code)
(215) 355-9100
--------------------------------------------------
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for at least the past 90 days.
Yes x No
---------- ----------
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Exchange Act).
Yes No x
---------- ------------
The number of shares outstanding of the registrant's common stock as of
June 30, 2003 is: 7,157,239.
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Environmental Tectonics Corporation
Consolidated Income Statements
(unaudited)
(amounts in thousands, except share and per share information)
Thirteen Weeks Ended
---------------------------------------
May 30, May 24,
2003 2002
-------- --------
Net Sales $6,130 $11,207
Cost of goods sold 3,843 7,624
-------- --------
Gross profit 2,287 3,583
Operating expenses:
Selling and administrative 1,685 2,402
Research and development 82 106
-------- --------
1,767 2,508
-------- --------
Operating income 520 1,075
-------- --------
Other expenses:
Interest expense 378 141
Other, net 9 103
-------- --------
387 244
-------- --------
Income before income taxes 133 831
Provision for income taxes 67 273
-------- --------
Income before minority interest 66 558
Loss attributable to minority interest 4 27
-------- --------
Net income $70 $585
======== ========
=====================================================================================================
Per share information:
Income available to common shareholders $70 $585
Income per share: basic $0.01 $0.08
Income per share: diluted $0.01 $0.08
Number of shares: basic 7,157,000 7,147,000
Number of shares: diluted 7,751,000 7,496,000
The accompanying notes are an integral part of the consolidated financial
statements.
2
Environmental Tectonics Corporation
Consolidated Balance Sheets
May 30, February 28,
2003 2003
---------------------------------------------
(unaudited)
-----------------------
(amounts in thousands, except share
information)
Assets
Current assets:
Cash and cash equivalents $ 2,301 $ 4,305
Cash equivalents restricted for letters of credit 3,898 3,189
Accounts receivable, net 15,309 16,193
Costs and estimated earnings in excess of billings on uncompleted
long-term contracts 6,606 5,441
Inventories 9,528 8,494
Deferred tax asset 689 689
Prepaid expenses and other current assets 1,989 983
------------ ------------
Total current assets 40,320 39,294
------------ ------------
Property, plant and equipment, at cost, net of accumulated
depreciation of $10,148 at May 30, 2003 and $9,976 at
February 28, 2003 5,009 5,086
Software development costs, net of accumulated amortization of $7,001
at May 30, 2003 and $6,819 at February 28, 2003 2,275 2,224
Goodwill and intangibles 477 477
Other assets, net 523 617
------------ ------------
Total assets $ 48,604 $ 47,698
============ ============
Liabilities and Stockholders' Equity
Liabilities
Current liabilities:
Current portion of long-term debt $ 278 $ 281
Accounts payable - trade 2,550 1,778
Billings in excess of costs and estimated earnings on uncompleted
long-term contracts 1,493 1,463
Customer deposits 3,949 3,000
Accrued liabilities 1,565 1,556
------------ ------------
Total current liabilities 9,835 8,078
------------ ------------
Long-term debt, less current portion:
Credit facility payable to banks - 600
Long-term bonds, net 4,370 4,645
Subordinated debt 7,456 7,391
Other 9 7
------------ ------------
11,835 12,643
------------ ------------
Deferred income taxes 1,022 1,022
------------ ------------
Total liabilities 22,692 21,743
------------ ------------
Minority interest 44 48
------------ ------------
Stockholders' Equity
Common stock; $.05 par value; 20,000,000 shares authorized; 7,157,239
issued and outstanding at May 30, 2003 and February 28, 2003 358 358
Capital contributed in excess of par value of common stock 9,331 9,331
Accumulated other comprehensive loss (278) (169)
Retained earnings 16,457 16,387
------------ ------------
Total stockholders' equity 25,868 25,907
------------ ------------
Total liabilities and stockholders' equity $ 48,604 $ 47,698
============ ============
The accompanying notes are an integral part of the consolidated financial
statements.
3
Environmental Tectonics Corporation
Consolidated Statements of Cash Flows
(unaudited)
Thirteen Weeks Ended
-------------------------------------
May 30, May 24,
2003 2002
--------------- -------------
(amounts in thousands)
Cash flows from operating activities:
Net income $ 70 $585
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization 480 327
Provision for losses on accounts receivable and
inventories 50 27
Minority interest (4) (27)
Changes in operating assets and liabilities:
Accounts receivable 884 (113)
Costs and estimated earnings in excess of billings on
uncompleted long-term contracts (1,165) 104
Inventories (1,084) (1,095)
Prepaid expenses and other assets (945) (479)
Other assets - 12
Accounts payable 772 173
Billings in excess of costs and estimated earnings on
uncompleted long-term contracts 30 89
Customer deposits 949 262
Accrued income taxes 1 (39)
Other accrued liabilities 7 186
-------- --------
Net cash provided by operating activities 45 12
-------- --------
Cash flows from investing activities:
Acquisition of equipment (95) (35)
Capitalized software development costs (233) (32)
-------- --------
Net cash used in investing activities (328) (67)
Cash flows from financing activities:
Borrowings under credit facility - 6,262
Payments under credit facility (600) (7,346)
Repayment of long-term bonds (275) (275)
Cash equivalents restricted for letters of credit (709) (183)
Proceeds from issuance of common stock / warrants - 20
Deferred finance charges/other (28) -
-------- --------
Net cash used in financing activities (1,612) (1,522)
-------- --------
Effect of exchange rate changes on cash (109) (52)
-------- --------
Net decrease in cash and cash equivalents (2,004) (1,629)
Cash and cash equivalents at beginning of period 4,305 2,261
-------- --------
Cash and cash equivalents at end of period $2,301 $632
======== ========
Supplemental schedule of cash flow information:
Interest paid 19 110
Income taxes paid 56 472
Supplemental information on noncash operating and
investing activities:
During the thirteen weeks ended May 24, 2002,
the Company reclassified $226 from inventory
to property, plant and equipment.
The accompanying notes are an integral part of the consolidated financial
statements.
4
Environmental Tectonics Corporation
Notes to Consolidated Financial
Statements (amounts in dollars, except where noted
and share and per share information)
1. Basis of Presentation
The accompanying consolidated financial statements include the accounts
of Environmental Tectonics Corporation ("ETC" or the "Company"), Environmental
Technology Corporation, ETC International Corporation and ETC-Delaware, its
wholly-owned subsidiaries, ETC Europe, its 99% owned subsidiary and ETC-PZL
Aerospace Industries, Ltd. ("ETC-PZL"), its 95% owned subsidiary.
The accompanying consolidated financial statements have been prepared
by Environmental Tectonics Corporation, without audit, pursuant to the rules and
regulations of the Securities and Exchange Commission, and reflect all
adjustments which, in the opinion of management, are necessary for a fair
statement of the results for the interim periods presented. All such adjustments
are of a normal recurring nature.
Certain information in footnote disclosures normally included in
financial statements prepared in conformity with accounting principles generally
accepted in the United States has been condensed or omitted pursuant to such
rules and regulations and the financial results for the period presented may not
be indicative of the full year's results, although the Company believes the
disclosures are adequate to make the information presented not misleading. These
financial statements should be read in conjunction with the financial statements
and the notes thereto included in the Company's Annual Report on Form 10-K for
the year ended February 28, 2003. Certain reclassifications have been made to
the fiscal 2003 financial statements to conform with the fiscal 2004
presentation.
5
2. Earnings Per Share
Our calculation of earnings per share in accordance with SFAS No. 128,
"Earnings Per Share", is as follows:
Thirteen Weeks Ended May 30, 2003
-------------------------------------------------------
Income Shares Per Share
(Numerator) (Denominator) Amount
------------ --------------- ------------
(amounts in thousands, except share and per
share information)
Basic EPS
Net earnings available to common stockholders $ 70 7,157,000 $0.01
Effect of dilutive securities
Options -- 11,000
Warrants -- 583,000
Diluted EPS
Net earnings available to common stockholders
plus assumed conversions $ 70 7,751,000 $0.01
At May 30, 2003 there were stock options to purchase the Company's common stock
totaling 332,000 shares which were not included in the computation of diluted
earnings per share, as the effect of such would be anti-dilutive. Additionally,
there was subordinated debt with a face value of $10,000,000 which was
convertible at an exercise price of $6.05 per share, equating to 1,653,000
shares if fully converted to common shares. Additionally, upon each conversion
of the Note, the holder is entitled to receive a warrant entitling the holder to
purchase additional shares of common stock equal to ten percent of the shares
issued pursuant to such conversion. If the entire face value of the Note is
converted into common shares, warrants for an additional 165,000 shares would be
issued, bringing the total shares to be issued to 1,818,000. None of these
shares were included in the computation of diluted earnings per share as the
effect would be anti-dilutive.
Thirteen Weeks Ended May 24, 2002
---------------------------------------------------------
Income Shares Per Share
(Numerator) (Denominator) Amount
------------- -------------- ------------
(amounts in thousands, except share and per
share information)
Basic EPS
Net earnings available to common stockholders $ 585 7,147,000 $0.08
Effect of dilutive securities
Options -- 38,000
Warrants -- 311,000
Diluted EPS
Net earnings available to common stockholders
plus assumed conversions $ 585 7,496,000 $0.08
At May 24, 2002, there were stock options to purchase the Company's common stock
totaling 301,000 shares which were not included in the computation of diluted
earnings per share as the effect of such would be anti-dilutive.
6
3. Stock Options
The Company accounts for stock options under SFAS No. 123, "Accounting
for Stock-Based Compensation," as amended by SFAS No. 148, which contains a fair
value-based method for valuing stock-based compensation that entities may use,
which measures compensation cost at the grant date based on the fair value of
the award. Compensation is then recognized over the service period, which is
usually the vesting period. Alternatively, SFAS No. 123 permits entities to
continue accounting for employee stock options and similar equity instruments
under Accounting Principles Board (APB) Opinion 25, "Accounting for Stock Issued
to Employees." Entities that continue to account for stock options using APB
Opinion 25 are required to make pro forma disclosures of net income and earnings
per share, as if the fair value-based method of accounting defined in SFAS No.
123 had been applied.
At May 30, 2003, the Company has one stock-based employee compensation
plan. The Company accounts for this plan under the recognition and measurement
principles of APB No. 25, "Accounting for Stock Issued to Employees," and
related interpretations. Stock-based employee compensation costs are not
reflected in net income, as all options granted under the plan had an exercise
price equal to the market value of the underlying common stock on the date of
grant. The following table illustrates the effect on net income and earnings per
share if the Company had applied the fair value recognition provisions of SFAS
No. 123, to stock-based employee compensation (in thousands, except per share
amounts).
Thirteen Weeks Ended
------------------------------------
May 30, 2003 May 24, 2002
------------- -------------
Net income,
as reported $70 $ 585
Less: stock-based compensation costs
determined under fair market value based
methods for all awards (5) (69)
----- -----
Net income, pro forma $65 $ 516
Earnings per share of common stock-basic:
As reported $ .01 $ .08
Pro forma $ .01 $ .07
Earnings per share of common stock--diluted:
As reported $ .01 $ .08
Pro forma $ .01 $ .07
There were no grants of stock options during the thirteen weeks ended May 30,
2003 or May 24, 2002.
7
4. Accounts Receivable
The components of accounts receivable are as follows:
May 30, February 28,
2003 2003
------- ------------
(amounts in thousands)
U.S. Government receivables billed and unbilled contract costs subject to
negotiation $ 2,539 $ 2,719
U.S. commercial receivables billed 1,057 2,002
International receivables billed and unbilled contract costs subject to
negotiation 12,159 11,918
------- -------
15,755 16,639
Less allowance for doubtful accounts (446) (446)
------- -------
$15,309 $16,193
======= =======
U.S. Government receivables billed and unbilled contract costs subject to
negotiation:
Unbilled contract costs subject to negotiation as of May 30, 2003 and
February 28, 2003, represent claims made against the U.S. Government under a
contract for a submarine rescue decompression chamber project. These costs
totaling $2,066,000 were recorded beginning in fiscal year 2002 and include
$1,691,000 recorded during fiscal year 2003 and $0 during fiscal year 2004.
International receivables billed and unbilled contract costs subject to
negotiation:
International receivables billed includes $700,000 at May 30, 2003 and
February 28, 2003, respectively, related to a contract with the Royal Thai Air
Force ("RTAF").
In October 1993, the Company was notified by the RTAF that the RTAF was
terminating a $4,600,000 simulator contract with the Company. Although the
Company had performed in excess of 90% of the contract, the RTAF alleged a
failure to completely perform. In connection with this termination, the RTAF
made a call on a $230,000 performance bond, as well as a draw on an
approximately $1,100,000 advance payment letter of credit. Work under this
contract had stopped while under arbitration, but on October 1, 1996, the Thai
Trade Arbitration Counsel rendered its decision under which the contract was
reinstated in full and the Company was given a period of nine months to complete
the remainder of the work. Except as noted in the award, the rights and
obligations of the parties remained as stated in the original contract including
the potential invoking of penalties or termination of the contract for delay. On
December 22, 1997, the Company successfully performed acceptance testing and the
unit passed with no discrepancy reports. Although the contract was not completed
in the time allotted, the Company has requested an extension on the completion
time due to various extenuating circumstances, including allowable "force
majeure" events, one of which was a delay in obtaining an export license to ship
parts required to complete the trainers. On August 30, 2001, the Company
received a payment of $230,000 representing the amount due on the performance
bond.
The open balance of $700,000 due on the contract represents the total
net exposure to the Company on this contract. On June 16, 2003, the Company's
Thai attorneys filed for arbitration in Thailand seeking recovery of the open
8
balance of $700,000 due on this contract. However, since the circumstances that
caused a delay are commonly considered "force majeure" events, and since the
contract under question allows for consideration of "force majeure" events, the
Company believes that the open balance related to this contract is collectible
and will continue to treat this balance as collectible until a final
unappealable legal decision is rendered by a competent Thai tribunal. The
Company has enjoyed a favorable relationship with the RTAF. It currently has
both maintenance and upgrade contracts with the RTAF for the trainers that are
the subject of the dispute and has sold a significant amount of additional
equipment to the RTAF since this dispute began, therefore it is not anticipated
that the initiation of legal action against the RTAF will have any material
adverse impact on future sales to the RTAF. At this point, the Company is not
able to determine what, if any, impact the extended completion period will
ultimately have upon the receipt of final payment.
Unbilled contract costs subject to negotiation represent claims made or
to be made against an international customer for two contracts covering 1997 to
the present. Trade and claims receivables and resulting revenue aggregating
$10,017,000 have been recorded. Claim costs have been incurred in connection
with customer caused delays, errors in specifications and designs, other
out-of-scope items and exchange losses and may not be received in full during
fiscal 2004. In conformity with accounting principles generally accepted in the
United States, revenue recorded by the Company from a claim does not exceed the
incurred contract costs related to the claim. The Company is currently in
arbitration with the international customer on both contracts. As a related
item, during the third quarter of fiscal 2000, this international customer,
citing failure to deliver product within contract terms, assessed liquidated
damages totaling approximately $1,600,000 on two contracts currently in
progress. The Company disputes the basis for these liquidated damages and plans
to contest them vigorously. However, following generally accepted accounting
principles, the Company has reduced contract values and corresponding revenue
recognition by approximately $1,600,000.
On July 20, 2001, the Company was notified by the international
customer that it was terminating the centrifuge contract, which was
approximately 90% complete. The termination included a request for the refund of
advance milestone payments made to date.
The Company is currently arbitrating the disputes which have arisen
under two contracts in the United Kingdom but is unable to assess the ultimate
impact of the termination of the contracts on its current operations and
financial condition. With respect to the centrifuge contract, the U.K. Ministry
of Defense has submitted its points of claim and the Company has responded with
its points of defense and counterclaim. A limited hearing was held in January
2003 to review certain threshold contractual interpretation issues related to
performance and safety. A full hearing on all issues is tentatively scheduled
for October and November 2003.
9
Based on witness statements, expert reports and other facts, the
Company believes that it has a reasonable basis to refute the safety concerns of
the U.K. Ministry of Defense. The Company has installed seven centrifuges in the
last 15 years at various locations throughout the world and the Company is
unaware of any accidents or injuries caused by the operation of these
centrifuges. The Company does not plan to reduce the carrying value of the trade
and claims receivables until all unresolved matters have been properly
adjudicated in the arbitration proceedings.
5. Inventories
Inventories are valued at the lower of cost or market using the first
in, first out (FIFO) method and consist of the following (net of reserves of
$696,000 and $646,000 at May 30, 2003 and February 28, 2003, respectively):
May 30, February 28,
2003 2003
-------- ------------
(amounts in thousands)
Raw materials $317 $322
Work in Process 6,575 5,629
Finished Goods 2,636 2,543
------ ------
Total $9,528 $8,494
====== ======
6. Stockholders' Equity
The components of stockholders' equity at February 28, 2003 and May 30,
2003 were as follows:
(amounts in thousands, except share information)
Common Stock Additional Accumulated
Paid in Other Comp. Retained
Shares Amount Capital Loss Earnings Total
---------- --------- --------- ----------- ------------ --------
Balance at February 28, 2003 7,157,239 $358 $9,331 $(169) $16,387 $25,907
Net income for the thirteen weeks
ended May 30, 2003 - - - - 70 70
Foreign currency translation adjustment - - - (109) - (109)
-------- ---- ------ ------ ------- -------
Total comprehensive loss - - - - - (39)
Balance at May 30, 2003 7,157,239 $358 $9,331 $(278) $16,457 $25,868
========= ==== ====== ====== ======= =======
10
7. Long Term Debt
The following table lists the long term debt and other long term
obligations of the Company as of May 30, 2003.
Payments due by Period
Obligation Total Less than 1 Year 1-3 Years 4-5 Years After 5 Years
- ---------- --------- ---------------- ---------- ----------- -------------
Current Portion of
Long Term Debt $ 278 $ 278 $ - $ - $ -
Capital Leases 9 3 6 - -
Subordinated debt,
net of unamortized
discount of $2,544 7,456 - - - 7,456
Long term bonds 4,370 - 825 550 2,995
--------- ---------- -------- ------- -------
Total Obligations $ 12,113 $ 281 $ 831 $ 550 $10,451
========= ========== ======== ======= =======
8. Business Segment Presentation:
The Company primarily manufactures under contract various types of
high-technology equipment that it has designed and developed. The Company
considers its business activities to be divided into two segments: Aircrew
Training Systems (ATS) and the Industrial Group. The ATS business segment
produces devices which create and monitor the physiological effects of motion,
including spatial disorientation and centrifugal forces for the medical,
training, research and entertainment markets. The Industrial Group produces
chambers that create environments that are used for sterilization, research, and
medical applications. The following segment information reflects the accrual
basis of accounting:
Industrial
ATS Group Total
------- --------------------- -------
(amounts in thousands)
Thirteen weeks ended May 30, 2003
Net Sales $2,985 $3,145 $6,130
Interest Expense 294 84 378
Depreciation and Amortization 217 263 480
Operating Income 181 647 828
Income Tax (Benefit)/Provision (57) 282 225
Goodwill and Intangibles 477 - 477
Identifiable Assets 26,219 7,499 33,718
Expenditures For Segment Assets 74 21 95
Thirteen weeks ended May 24, 2002
Net Sales $7,792 $3,415 $11,207
Interest Expense 125 16 141
Depreciation and Amortization 205 122 327
Operating Income 1,543 (135) 1,408
Income Tax Provision 468 (49) 419
Goodwill and Intangibles 477 - 477
Identifiable Assets 34,314 4,505 38,819
Expenditures For Segment Assets 31 4 35
Reconciliation to consolidated amounts 2003 2002
Corporate Assets $14,409 $ 9,024
------- -------
Total Assets $48,604 $48,320
Segment operating income $828 $ 1,408
Less interest expense (378) (141)
Less income taxes (225) (419)
------- -------
Total profit for segments 225 848
Corporate home office expenses (308) (333)
Interest and other expenses (9) (103)
Income tax benefit 158 146
Minority interest 4 (27)
------- -------
Net income $ 70 $ 585
======= =======
11
Segment operating income consists of net sales less applicable costs
and expenses relating to these revenues. Unallocated general corporate expenses,
letter of credit fees, interest expense and income taxes have been excluded from
the determination of the total profit for segments. Corporate home office
expenses are primarily central administrative office expenses. Interest and
other expenses include banking and letter of credit fees. Property, plant and
equipment are not identified with specific business segments, as these are
common resources shared by all segments.
Approximately 37% of sales totaling $2,253,000 in the thirteen weeks
ended May 30, 2003, were made to one domestic customer and one international
customer in the sterilizer and ATS segments respectively. Approximately 56% of
sales totaling $6,276,000 in the thirteen weeks ended May 24, 2002 were made to
one domestic customer in the ATS segment.
Included in the segment information for the thirteen weeks ended May
30, 2003 are export sales of $2,971,000. Of this amount, there are sales to or
relating to governments or commercial accounts in Malaysia ($815,000), Norway
($495,000), and Greece ($484,000). Sales to the U.S. Government and its agencies
aggregated $335,000 for the period.
Included in the segment information for the thirteen weeks ended May
24, 2002 are export sales of $2,687,000. Of this amount, there are sales to or
relating to commercial accounts in China of $1,512,000. Sales to the U.S.
Government and its agencies aggregated $580,000 for the period.
9. Recent Accounting Pronouncements
Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB No. 13, and
Technical Corrections:
In April 2002, the Financial Accounting Standards Board (FASB) issued
SFAS No. 145, "Rescission of FASB statements No. 4, 44, and 64, Amendment of
FASB No. 13, and Technical Corrections." SFAS No. 145 changes the accounting
principles governing extraordinary items by clarifying, and to some extent,
modifying, the existing definition and criteria, specifying disclosure for
extraordinary items and specifying disclosure requirements for other unusual or
infrequently occurring events and transactions that are not extraordinary items.
SFAS No. 145 is effective for financial statements issued for fiscal years
beginning after June 15, 2002, with early adoption encouraged. The adoption of
SFAS No. 145 is not expected to have a significant impact on the financial
condition or results of operations of the Company.
Accounting for Costs Associated with Exit or Disposal Activities:
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." This statement provides financial
accounting and reporting guidance for costs associated with exit or disposal
12
activities and nullifies Emerging Issues Task Force (EITF) Issue 94-3,
"Liability Recognition for Certain Employee Termination Benefits and Other Costs
to Exit an Activity including Certain Costs Incurred in a Restructuring." SFAS
No. 146 is effective for exit or disposal activities initiated after December
31, 2002. The adoption of the statement is not expected to have a significant
impact on the financial condition or results of operations of the Company.
In November 2002, FASB Interpretation 45, Guarantor's Accounting and
Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others (FIN 45), was issued. FIN 45 requires a guarantor entity,
at the inception of a guarantee covered by the measurement provisions of the
interpretation, to record a liability for the fair value of the obligation
undertaken in issuing the guarantee. The Company previously did not record a
liability when guaranteeing obligations unless it became probable that the
Company would have to perform under the guarantee. FIN 45 applies prospectively
to guarantees the Company issues or modifies subsequent to December 31, 2002,
but has certain disclosure requirements effective for interim and annual periods
ending after December 15, 2002. The Company has not historically issued
guarantees and does not anticipate FIN 45 will have a material effect on its
fiscal 2004 consolidated financial statements.
In January 2003, the FASB issued FASB Interpretation 46 (FIN 46),
Consolidation of Variable Interest Entities. FIN 46 clarifies the application of
Accounting Research Bulletin 51, Consolidated Financial Statements, for certain
entities that do not have sufficient equity at risk for the entity to finance
its activities without additional subordinated financial support from other
parties or in which equity investors do not have the characteristics of a
controlling financial interest ("variable interest entities"). Variable interest
entities within the scope of FIN 46 will be required to be consolidated by their
primary beneficiary. The primary beneficiary of a variable interest entity is
determined to be the party that absorbs a majority of the entity's expected
losses, receives a majority of its expected returns, or both. FIN 46 applies
immediately to variable interest entities created after January 31, 2003, and to
variable interest entities in which an enterprise acquires an interest after
that date. It applies in the first fiscal year or interim period beginning after
June 15, 2003, to variable interest entities in which an enterprise holds a
variable interest that it acquired before February 1, 2003. The adoption of FIN
46 did not have material effect on the Company's consolidated financial
position, results of operations, or cash flows.
On May 15, 2003, the FASB issued SFAS No. 150, Accounting for Certain
Financial Instruments with Characteristics of Both Liabilities and Equity. SFAS
No. 150 establishes standards for how an issuer classifies and measures certain
financial instruments with characteristics of both liabilities and equity. It
requires that an issuer classify a financial instrument that is within its scope
as a liability (or an asset in some circumstances). Many of those instruments
were previously classified as equity.
13
SFAS No. 150 affects the issuer's accounting for three types of
freestanding financial instruments:
o mandatorily redeemable shares, which the issuing company is
obligated to buy back in exchange for cash or other assets;
o instruments that do or may require the issuer to buy back some of
its shares in exchange for cash or other assets, including put
options and forward purchase contracts; and
o obligations that can be settled with shares, the monetary value of
which is fixed, tied solely or predominantly to a variable such as a
market index, or varies inversely with the value of the issuers'
shares.
SFAS No. 150 does not apply to features embedded in a financial
instrument that is not a derivative in its entirety.
Most of the guidance in SFAS No. 150 is effective for all financial
instruments entered into or modified after May 31, 2003, and otherwise is
effective at the beginning of the first interim period beginning after June 15,
2003. The adoption of SFAS No. 150 is not expected to have a material effect on
the Company's consolidated financial position, results of operations or cash
flows.
Item 2. Management's Discussion and Analysis of Results of Operations and
Financial Condition (amounts in dollars, except where noted and share and per
share amounts)
Forward Looking Statements
This Quarterly Report on Form 10-Q includes forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended. These
forward-looking statements are based on the Company's current expectations and
projections about future events. These forward-looking statements are subject to
known and unknown risks, uncertainties and assumptions about the Company and its
subsidiaries that may cause actual results, levels of activity, performance or
achievements to be materially different from any future results, levels of
activity, performance or achievements expressed or implied by these
forward-looking statements.
These forward-looking statements include statements with respect to the
Company's vision, mission, strategies, goals, beliefs, plans, objectives,
expectations, anticipations, estimates, intentions, financial condition, results
of operations, future performance and business of the Company, including but not
limited to, (i) projections of revenue, costs of raw materials, income or loss,
earnings or loss per share, capital expenditures, growth prospects, dividends,
capital structure, other financial items and the effects of currency
fluctuations, (ii) statements of plans and objectives of the Company or its
management or Board of Directors, including the introduction of new products, or
estimates or predictions of actions of customers, suppliers, competitors or
14
regulatory authorities, (iii) statements of future economic performance, (iv)
statements of assumptions and other statements about the Company or its
business, and (v) statements preceded by, followed by or that include the words
"may", "could", "should", "looking forward", "would", "believe", "expect",
"anticipate", "estimate", "intend", "plan", or the negative of such terms or
similar expressions. These forward-looking statements involve risks and
uncertainties which are subject to change based on various important factors.
Some of these risks and uncertainties, in whole or in part, are beyond the
Company's control. Factors that might cause or contribute to such a material
difference include, but are not limited to, those discussed in the Company's
Annual Report on Form 10-K for the fiscal year ended February 28, 2003, in the
section entitled "Risks Particular to Our Business." Shareholders are urged to
review these risks carefully prior to making an investment in the Company's
common stock.
The Company cautions that the foregoing list of important factors is
not exclusive. The Company does not undertake to update any forward-looking
statement, whether written or oral, that may be made from time to time by or on
behalf of the Company.
Overview
The Company is principally engaged in the design, manufacture and sale
of software driven products used to create and monitor the physiological effects
of motion on humans and equipment and to control, modify, simulate and measure
environmental conditions. These products include aircrew training systems,
entertainment products, sterilizers, environmental and hyperbaric chambers and
other products that involve similar manufacturing techniques and engineering
technologies.
The Company recognizes revenue using three methods:
On long-term contracts, the percentage-of-completion method is applied
based on costs incurred as a percentage of estimated total costs. This
percentage is multiplied by the total estimated revenue under a contract to
calculate the amount of revenue recognized in an accounting period. Revenue
recognized on uncompleted long-term contracts in excess of amounts billed to
customers is reflected as an asset. Amounts billed to customers in excess of
revenue recognized on uncompleted long-term contracts are reflected as a
liability. When it is estimated that a contract will result in a loss, the
entire amount of the loss is accrued. The effect of revisions in cost and profit
estimates for long-term contracts is reflected in the accounting period in which
the Company learns the facts which require it to revise the cost and profit
estimates. Contract progress billings are based upon contract provisions for
customer advance payments, contract costs incurred, and completion of specified
contract milestones. Contracts may provide for customer retainage of a portion
of amounts billed until contract completion. Retainage is generally due within
one year of completion of the contract. Revenue recognition under the
percentage-of-completion method involves significant estimates.
15
Revenue for contracts under $100,000, or to be completed in less than
one year, and where there are no post-shipment services included in the
contract, is recognized on the date that the finished product is shipped to the
customer.
Revenue derived from the sale of parts and services is also recognized
on the date that the finished product is shipped to the customer. Revenue on
contracts under $100,000, or to be completed in less than one year, and where
post-shipment services (such as installation and customer acceptance) are
required, is recognized following customer acceptance. Revenue for service
contracts is recognized ratably over the life of the contract with related
material costs expensed as incurred.
In accordance with accounting principles generally accepted in the
United States, recognizing revenue on contract claims and disputes related to
customer caused delays, errors in specifications and designs, and other
unanticipated causes, and for amounts in excess of contract value, is generally
appropriate if it is probable that the claim will result in additional contract
revenue and if the Company can reliably estimate the amount of additional
contract revenue the Company may receive. However, revenue recorded on a
contract claim cannot exceed the incurred contract costs related to that claim.
Claims are subject to negotiation, arbitration and audit by the customer or
governmental agency.
The Company has operating subsidiaries in the United Kingdom and
Poland, maintains regional offices in the Middle East, Asia and Canada, and uses
the services of approximately 100 independent sales organizations and agents
throughout the world. ETC International Corporation is a holding company
established for federal income tax purposes and is not an operating subsidiary.
The Company considers its business activities to be divided into two segments:
Aircrew Training Systems (ATS) and Industrial Group.
Critical Accounting Policies
The discussion and analysis of the Company's financial condition and
results of operation are based upon the Company's consolidated financial
statements, which have been prepared in accordance with accounting principles
generally accepted in the United States. The preparation of these financial
statements requires the Company to make estimates and judgments that affect the
reported amount of assets and liabilities, revenues and expenses, and related
disclosure of contingent assets and liabilities at the date of the Company's
financial statements. Actual results may differ from these estimates under
different assumptions or conditions.
Critical accounting policies are defined as those that reflect
significant judgments and uncertainties, and potentially result in materially
different results under different assumptions and conditions. The Company
believes that its critical accounting policies include those described below.
For a detailed discussion on the application of these and other accounting
policies, see Note 1 to the Consolidated Financial Statements, Summary of
Significant Accounting Policies in the Company's Annual Report on Form 10-K for
the fiscal year ended February 28, 2003, which we filed with the Securities and
Exchange Commission on May 29, 2003.
16
Revenue Recognition on Long-Term Contracts
When the performance of a contract requires a customer to pay the
Company more than $100,000 and will extend beyond a 12 month period, revenue and
related costs are recognized on the percentage-of-completion method of
accounting. Profits expected to be realized on such contracts are recognized
based on total estimated sales for the contract compared to total estimated
costs at completion of the contract. These estimates are reviewed periodically
throughout the lives of the contracts, and adjustments to profits resulting from
any revisions are made cumulative to the date of the change. Estimated losses on
long-term contracts are recorded in the period in which the losses become known
to the Company.
The Company accounts for some of its largest contracts, including its
contracts with the U.S. Government and foreign governments, using the
percentage-of-completion method. If the Company does not accurately estimate the
total cost to be incurred on this type of contract, or if the Company is
unsuccessful in the ultimate collection of associated contract claims, the
estimated gross margins may be significantly impacted or losses may need to be
recognized in future periods. Any resulting reductions in margins or contract
losses could be material to the Company's results of operations and financial
position.
Accounts Receivable
The Company performs ongoing credit evaluations of its customers and
adjusts credit limits based on payment history and the customer's current credit
worthiness. The Company continuously monitors collections and payments from its
customers and maintains a provision for estimated credit losses based on
historical experience and any specific customer collection issues that have been
identified. While the Company's credit losses have historically been within its
expectations and the provisions established, the Company cannot guarantee that
it will continue to experience the same credit loss rates that it has in the
past. Additionally, as a result of the concentration of international
receivables, the Company cannot predict the effect, if any, which geopolitical
risk and uncertainty will have on the ultimate collection of its international
receivables.
Results of Operations
Thirteen weeks ended May 30, 2003 compared to thirteen weeks
ended May 24, 2002.
Net Income.
- -----------
The Company had net income of $70,000, or $0.01 per share (diluted),
during the first quarter of fiscal 2004 versus net income of $585,000, or $.08
per share (diluted), for the first quarter of fiscal 2003, representing a
decrease of $515,000 or 88.0%. This decrease was due to a decrease in sales and
gross profit margins and an increase in interest expense, partially offset by
decreased selling and administrative expenses and estimated taxes.
17
Sales.
- ------
Sales for the first quarter of fiscal 2004 were $6,130,000 as compared
to $11,207,000 for the first quarter of fiscal 2003, a decrease of $5,077,000 or
45.3%. The primary contributor to the sales decrease was reduced revenues for
domestic entertainment due to the near completion of the major entertainment
project. Providing partial offsets were increased domestic sterilizer sales,
which benefited from a new ETO sterilizer project, increased international
Aircrew Training Systems, which benefited from a centrifuge project in
Malaysia, and higher overall simulation sales for various projects.
Domestic Sales.
- ---------------
Overall, domestic sales in the first quarter of fiscal 2004 were
$2,824,000 as compared to $7,941,000 in the first quarter of fiscal 2003, a
decrease of $5,117,000 or 64.4%. This decrease was primarily due to the decrease
in entertainment sales. Domestic sales represented 46.1% of the Company's total
sales in the first quarter of fiscal 2004, down from 70.9% for the first quarter
of fiscal 2003. Sales to the U.S. Government in the first quarter of fiscal 2004
were $335,000 as compared to $580,000 in the first quarter of fiscal 2003, a
decrease of $245,000, and represented 5.5% of total sales in the first quarter
of fiscal 2004 versus 5.2% for the first quarter of fiscal 2003.
International Sales.
- --------------------
International sales for the first quarter of fiscal 2004 were
$2,971,000 as compared to $2,686,000 in the first quarter of fiscal 2003, an
increase of $285,000 or 10.6%, and represented 48.5% of total sales, as compared
to 24.0% in the first quarter of fiscal 2003. Throughout the Company's history,
most of the sales for Aircrew Training Products have been made to international
customers. In the thirteen weeks ended May 30, 2003, international sales
totaling at least ten percent of total sales were made to Malaysia ($815,000).
In the thirteen weeks ended May 24, 2002, international sales totaling at least
ten percent of total sales were made to China ($1,512,000). Fluctuations in
sales to international countries from year to year primarily reflect revenue
recognition on the level and stage of development and production on multi-year
long-term contracts.
Gross Profit.
- -------------
Gross profit for the first quarter of fiscal 2004 was $2,287,000 as
compared to $3,583,000 in the first quarter of fiscal 2003, a decrease of
$1,296,000 or 36.2%. This decrease reflected the decrease in sales which was
only partially offset by a 5.3 percentage point increase in the gross profit
rate as a percent of sales. Increased gross profit rates as a percent of sales
were evidenced in domestic ATS and simulator sales, U.S. Government hyperbaric
sales, and international ATS sales.
18
Selling and Administrative Expenses.
- ------------------------------------
Selling and administrative expenses for the first quarter of fiscal
2004 were $1,685,000 as compared to $2,402,000 in the first quarter of fiscal
2003, a decrease of $717,000 or 29.9% as compared to the first quarter of fiscal
2003, primarily reflecting a reimbursement of prior period legal and claim
expenses associated with an arbitration hearing in January 2003. Additional
savings were evidenced in the Company's European subsidiary.
Research and Development Expenses.
- ----------------------------------
Research and development expenses, which are charged to operations as
incurred, were $82,000 for the first quarter of fiscal 2004 as compared to
$106,000 for the first quarter of fiscal 2003, reflecting a decrease of $24,000
or 22.6%. This decrease was due to decreased product development costs primarily
in the Company's Turkish operation. Most of the Company's research efforts,
which were and continue to be a significant cost of its business, are included
in cost of sales for applied research for specific contracts, as well as
research for feasibility and technology updates.
Interest Expense.
- -----------------
Interest expense for the first quarter of fiscal 2004 was $378,000 as
compared to $141,000 for the first quarter of fiscal 2003, representing an
increase of $237,000 or 168.1%. This increase reflected interest charges at a
higher effective interest rate for the Company's subordinated debt borrowed in
February 2003 (including amortization of debt discounts arising out of the
beneficial conversion option and associated warrants issued) and amortization of
deferred financing costs for the Company's February 2003 refinancing.
Provision for Income Taxes.
- ---------------------------
The Company's tax provision for the first quarter of fiscal 2004
reflected an estimated 30% rate domestically and a consolidated estimated rate
of 50%. The lower than statutory effective tax rate domestically reflects the
ongoing effect of offsetting research and development tax credits. The higher
international rate reflects a recalculation in ETC Europe, a subsidiary of the
Company, of the estimated tax loss carry-forward which will be used to offset
any current year tax liability. The consolidated rate for the first quarter of
fiscal 2003 reflected an estimated rate of 33% offset by a $100,000 research tax
credit.
Liquidity and Capital Resources
During the thirteen week period ended May 30, 2003, the Company
generated $45,000 of cash from operating activities. This was primarily the
result of accounts receivable collections and increased accounts payable and
19
customer deposits. Acting as partial offsets were increases in costs and
estimated earnings in excess of billings on uncompleted long-term contracts,
inventories (primarily for environmental and ATS projects) and prepaid expenses
(primarily reflecting a receivable for reimbursement of legal and claims
expenses).
The Company's investing activities used $328,000 during the thirteen
weeks ended May 30, 2003, which consisted of purchases of capital equipment and
capitalized software.
The Company's financing activities used $1,612,000 during the first
quarter of fiscal 2004, consisting of repayments on the Company's bank line,
long-term bonds and additions to the Company's cash collateral restricted cash
account. This account serves as security for any of the Company's international
letters of credit which are not covered under the Company's bank facility.
The Company has historically financed operations through a combination
of cash generated from operations, and bank and other debt. On February 19,
2003, the Company completed a refinancing of its indebtedness with PNC Bank,
National Association and H.F. Lenfest in the aggregate amount of $29,800,000.
The Company used a portion of the proceeds from the financing to satisfy its
existing debt obligations to Wachovia Bank, the Company's former lender, and to
permit PNC Bank to issue a letter of credit to support outstanding bonds issued
by the Company in a previous financing transaction. The transaction resulted in
net proceeds (after transaction expenses and payment of existing debt) to the
Company of approximately $3,600,000. The net proceeds have been used by the
Company for working capital and general corporate purposes.
In accordance with the terms of an amendment dated April 30, 2003, the
PNC Bank facility was increased and, as of the date of this Quarterly Report on
Form 10-Q, includes: (i) a revolving credit facility in the maximum aggregate
principal amount of $14,800,000 to be used for the Company's working capital and
general corporate purposes, including capital expenditures, with a sublimit for
issuances of letters of credit in the maximum aggregate face amount of
$10,300,000, and (ii) a standby letter of credit in the face amount of
$4,750,000 as credit support for the Company's bonds.
The terms and conditions of the revolving loan and the line of credit
are set forth in a Credit Agreement, as amended, between the Company and PNC
Bank. Availability under the facility is determined each month based on a
borrowing base consisting of a portion of the Company's receivables, inventory
and costs and estimated earnings in excess of billings, net of billings in
excess of costs and estimated earnings on uncompleted long-term contracts. As of
May 30, 2003, availability under the $14,800,000 revolving facility was
$7,770,000, which the Company had fully utilized primarily to support
international letters of credit.
The obligations of the Company to PNC Bank under the Credit Agreement
are secured by a first priority lien on and senior security interest in all of
the assets of the Company, including all real property owned by the Company.
20
In connection with the financing provided by Mr. Lenfest, the Company
entered into a Convertible Note and Warrant Purchase Agreement with Mr. Lenfest,
pursuant to which the Company issued to Mr. Lenfest (i) a senior subordinated
convertible promissory note in the original principal amount of $10,000,000 and
(ii) warrants to purchase 803,048 shares of the Company's common stock. Upon the
occurrence of certain events, the Company will be obligated to issue additional
warrants to Mr. Lenfest. The note accrues interest at the rate of 10% per annum
and matures on February 18, 2009. The note entitles Mr. Lenfest to convert all
or a portion of the outstanding principal of plus accrued and unpaid interest on
the note into shares of common stock at a conversion price of $6.05 per share.
The warrants may be exercised into shares of common stock at an exercise price
equal to the lesser of $4.00 per share or two-thirds of the average of the high
and low sale prices of the common stock for the 25 consecutive trading days
immediately preceding the date of exercise.
The obligations of the Company to Mr. Lenfest under the Convertible
Note and Warrant Purchase Agreement are secured by a second priority lien on and
security interest in all of the assets of the Company, junior in rights to the
liens and security interests in favor of PNC Bank, including all real property
owned by the Company.
Prior to the consummation of the refinancing, ETC Asset Management,
LLC, a shareholder of the Company and a holder of warrants to purchase 332,820
shares of the Company's common stock, consented to the transactions contemplated
under the Credit Agreement and the financing provided by Mr. Lenfest, including
the below market issuance of warrants to Mr. Lenfest. As a result of its
consent, ETC Asset Management waived, solely in connection with such issuance,
the anti-dilution rights contained in its warrant. In exchange for ETC Asset
Management's consent, the Company issued to ETC Asset Management warrants to
purchase an additional 105,000 shares of common stock. Except for the number of
shares issuable upon exercise of the warrants, the new ETC Asset Management
warrants have substantially the same terms as the warrants issued to Mr.
Lenfest.
To fund its operations, the Company plans to utilize cash from
operations as well as additional cash available under the revolving facility as
the borrowing base expands and international letters of credit expire.
Additionally, the Company is currently negotiating an additional $1,010,000
credit facility, which will be guaranteed by the Export-Import Bank of the
United States. This credit facility will allow the Company to add certain
foreign accounts receivable to its borrowing base and thereby increase its
revolving borrowings from the bank. The Company believes that cash generated
from operating activities as well as future availability under its credit
agreement will be sufficient to meet its future obligations through June 30,
2004.
21
The following table presents our contractual cash flow commitments on
long-term debt and operating leases.
Payments Due by Period
------------------------------------------------------------------------------------
Less Than 1
Total Year 1-3 Years 4-5 Years After 5 Years
-------- ----------- ------------ ----------- -------------
(in thousands)
Long-term debt, including
current maturities $12,113 $281 $831 $550 $10,451
Operating leases 768 238 476 54 -
------- ---- ------ ---- -------
Total 12,881 $519 $1,307 $604 $10,451
Contract Claims
- ---------------
Historically, the Company has had good experience with regard to its
contract claims in that recoveries have exceeded the carrying value of claims.
As of May 30, 2003, claims recorded against the U.S. Government totaled
$2,066,000 and claims recorded against an international customer totaled
$9,451,000.
The Company is currently arbitrating the disputes which have arisen
under two contracts with one of its international customers in the United
Kingdom but is unable to assess the ultimate impact of the arbitration on
current operations and financial condition. With respect to the centrifuge
contract, the U.K. Ministry of Defense has submitted its points of claim and the
Company has responded with its points of defense and counterclaim. A limited
hearing was held in January 2003 to review certain threshold contractual
interpretation issues related to performance and safety. A full hearing on all
issues is tentatively scheduled for October and November 2003.
Based on witness statements, expert reports and other facts, the
Company believes that it has a reasonable basis to refute the safety concerns of
the U.K. Ministry of Defense. The Company has installed seven centrifuges in the
last 15 years at various locations throughout the world and the Company is
unaware of any accidents or injuries caused by the operation of these
centrifuges. To the extent the Company is unsuccessful in further recovery of
contract costs, such an event could have a material adverse effect on the
Company's liquidity and results of operations. The Company does not plan to
reduce the carrying value of the claim until all unresolved matters have been
properly adjudicated in the arbitration proceedings.
The Company has an open receivable balance of $700,000 due from the
RTAF. This amount represents the total net exposure to the Company on this
contract. On June 16, 2003, the Company's Thai attorneys filed for arbitration
in Thailand. However, since the circumstances that caused a delay are commonly
considered "force majeure" events, and since the contract under question allows
for consideration of "force majeure" events, the Company believes that the open
balance related to this contract is collectible and will continue to treat this
balance as collectible until a final unappealable legal decision is rendered by
a competent Thai tribunal. The Company has enjoyed a favorable relationship with
the RTAF. It currently has both maintenance and upgrade contracts with the RTAF
for trainers that are the subject of the dispute and has sold a significant
amount of additional equipment to the RTAF since this dispute began, so it is
not anticipated that the initiation of legal action against the RTAF will have
any material adverse impact on future contracts with the RTAF. At this point,
22
the Company is not able to determine what, if any, impact the extended
completion period will ultimately have upon the receipt of final payment under
this contract.
Backlog
- -------
The Company's sales backlog at May 30, 2003 and February 28, 2003, for
work to be performed and revenue to be recognized under written agreements after
such dates was approximately $19,440,000 and $21,454,000 respectively. In
addition, the Company's training, maintenance and upgrade contracts backlog at
May 30, 2003, and February 28, 2003, for work to be performed and revenue to be
recognized after that date under written agreements was approximately $3,943,000
and $3,931,000 respectively. Of the May 30, 2003 backlog, approximately
$14,934,000 was under contracts for ATS and maintenance support including
$6,192,000 for the Royal Malaysian Air Force.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Not Applicable.
Item 4. Controls and Procedures.
Under the supervision and with the participation of the Company's
management, including the Company's principal executive officer and principal
financial officer, the Company has evaluated the effectiveness of the design and
operation of the Company's disclosure controls and procedures within 90 days of
the filing date of this report, and, based on their evaluation, the Company's
principal executive officer and principal financial officer have concluded that
these controls and procedures are effective. There were no significant changes
in the Company's internal controls or in other factors that could significantly
affect these controls subsequent to the date of their evaluation.
Disclosure controls and procedures are the Company's internal controls
and other procedures that are designed to ensure that information required to be
disclosed by the Company in the reports that it files or submits under the
Securities Exchange Act of 1934, as amended, is recorded, processed, summarized
and reported within the time periods specified in the Securities and Exchange
Commission's rules and forms. Disclosure controls and procedures include,
without limitation, controls and procedures designed to ensure that information
required to be disclosed by the Company in the reports that it files under the
Exchange Act is accumulated and communicated to the Company's management,
including the Company's principal executive officer and principal financial
officer, as appropriate to allow timely decisions regarding required disclosure.
23
Part II - OTHER INFORMATION
Item 1. Legal Proceedings
In April 2003, Boenning & Scattergood, Inc. ("B&S") filed suit against
the Company in the Court of Common Pleas in Philadelphia, Pennsylvania, seeking
payment of $901,843.46 for financing fees allegedly due to B&S pursuant to the
terms of an agreement for investment banking services, which was entered into
with a predecessor of B&S (the "B&S Agreement"). B&S alleges that it contacted
the investors in the Company's February 2003 financing transaction and that it
earned the claimed financing fees pursuant to the terms of the B&S Agreement.
The Company has not yet responded to the complaint but believes that it has
valid defenses to each of the claims of B&S and intends to vigorously defend
itself against these claims. At this time, however, the Company is unable to
predict the outcome of this matter.
In June 2003, Associated Mezzanine Investors, LLC ("AMI") filed suit
against the Company in the United States District Court for the Eastern District
of Pennsylvania seeking payment of $195,682.86 for costs, fees and expenses
allegedly due to AMI pursuant to the terms of an agreement which the Company
entered into with AMI (the "AMI Agreement"). AMI claims that it located suitable
investors for the Company's February 2003 financing transaction and that it
earned the claimed fees and is entitled to reimbursement of the claimed costs
and expenses pursuant to the terms of the AMI Agreement. The Company has not yet
responded to the complaint but believes that it has valid defenses to each of
the claims of AMI and intends to vigorously defend itself against these claims.
At this time, however, the Company is unable to predict the outcome of this
matter.
Certain claims, suits and complaints arising in the ordinary course of
business have been filed or are pending against the Company. In the opinion of
management, all such matters are reserved for or are adequately covered by
insurance or, if not so covered, are without merit or are of such kind, or
involve such amounts as would not have a material adverse effect on the
Company's financial position if resolved unfavorably.
Item 2. Changes in Securities and Use of Proceeds
The constituent instruments defining the rights of the holders of any
class of securities were not modified nor were the rights evidenced by any class
of registered securities materially limited or qualified during the period
covered by this report.
Item 3. Defaults Upon Senior Securities
None.
24
Item 4. Submission of Matters to Vote of Security Holders
At a Special Meeting of Stockholders held on April 24, 2003, a proposal
to ratify, adopt and approve the issuance of shares of common stock in excess of
1,430,732, or 19.99% of the issued and outstanding shares of common stock of the
Company, a portion of which will be at a price per share that is less than the
closing market price of the common stock on the date of issuance, was adopted by
the following vote:
Abstentions and
For Withheld Broker Non-votes
--------- -------- ----------------
Item: Issuance of Shares 4,846,442 24,492 0
The shares of common stock are issuable upon conversion of a convertible note
and upon exercise of warrants issued or to be issued by the Company to H.F.
Lenfest.
No other matters were submitted to a vote of security holders at the
Special Meeting.
Item 5. Other Information
None.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits:
Number Item
- ------ ----
3.1 Registrant's Articles of Incorporation, as amended, were filed as
Exhibit 3.1 to Registrant's Form 10-K for the year ended February 28,
1997 and are incorporated herein by reference.
3.2 Registrant's By-Laws, as amended, were filed as Exhibit 3 (ii) to
Registrant's Form 10-K for the year ended February 25, 1994, and are
incorporated herein by reference.
99.1 Certification dated July 14, 2003 pursuant to 18 U.S.C. Section 1350 as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 made
by William F. Mitchell, Chief Executive Officer.
99.2 Certification dated July 14, 2003 pursuant to 18 U.S.C. Section 1350 as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 made
by Duane D. Deaner, Chief Financial Officer.
(b) Reports on Form 8-K
On May 30, 2003 the Company filed a Current Report on Form 8-K
reporting its financial results for the fourth quarter of fiscal 2003 as well as
its financial results for fiscal 2003.
25
Signatures
Pursuant to the requirements of the Securities Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ENVIRONMENTAL TECTONICS CORPORATION
(Registrant)
Date: July 14, 2003 By: William F. Mitchell
-------------------------------------------
William F. Mitchell
President and Chief Executive Officer
(Principal Executive Officer)
Date: July 14, 2003 By: Duane Deaner
------------------------------------------
Duane Deaner,
Chief Financial Officer
(Principal Financial and
Accounting Officer)
26
CERTIFICATION
I, William F. Mitchell, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Environmental
Tectonics Corporation;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and
we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date
of the quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of registrant's board of directors (or persons
performing the equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant
deficiencies and material weaknesses.
Date: July 14, 2003
By: William F. Mitchell
-------------------------------------
William F. Mitchell
President and Chief Executive Officer
27
CERTIFICATION
I, Duane D. Deaner, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Environmental
Tectonics Corporation;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and
we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date
of this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of registrant's board of directors (or persons
performing the equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant
deficiencies and material weaknesses.
Date: July 14, 2003
By: Duane D. Deaner
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Duane D. Deaner
Chief Financial Officer
28
INDEX OF EXHIBITS
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99.1 Certification dated July 14, 2003 pursuant to 18 U.S.C. Section 1350 as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 made
by William F. Mitchell, Chief Executive Officer.
99.2 Certification dated July 14, 2003 pursuant to 18 U.S.C. Section 1350 as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 made
by Duane D. Deaner, Chief Financial Officer.