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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES ACT OF 1934
For the fiscal year ended December 31, 2003
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OF 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the Transition Period from ______ to _____
Commission file number 0-19944
M~WAVE, Inc.
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(Exact name of registrant as specified in its charter)
Delaware 36-3809819
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(State or other jurisdiction of (I.R.S. Employer
Incorporation or organization) Identification No.)
475 Industrial Drive, West Chicago, Illinois 60185
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(Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code (630) 562-5550
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Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock ($.005 par value)
------------------------------
(Title of class)
Indicate by check mark whether the Registrant (1) has filed all reports to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the Registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes [x] No [ ].
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [x]
Indicate by check mark whether the Registrant is an accelerated Yes No
filer (as defined by rule 12b-6 of the Act) [ ] [X]
1
The aggregate market value of the voting stock held by nonaffiliates of the
Registrant as of March 23, 2004 was approximately $12,917,000, computed on the
basis of the last reported sale price per share ($4.31) of such stock on the
NASDAQ National Market.
The Registrant has 4,443,294 common shares outstanding at March 23, 2004.
DOCUMENTS INCORPORATED BY REFERENCE
Applicable portions of the Proxy Statement for the Annual Meeting are
incorporated by reference in Part III of this Form.
2
M~WAVE, INC.
FORM 10-K
TABLE OF CONTENTS
PAGE
----
PART I
Item 1. Business ....................................................................... 5
Item 2. Properties ..................................................................... 14
Item 3. Legal Proceedings .............................................................. 15
Item 4. Submission of Matters to a Vote of Security Holders ............................ 15
PART II
Item 5. Market for the Registrants Common Equity and Related Stockholder Matters ....... 16
Item 6. Selected Financial Data ........................................................ 17
Item 7. Managements Discussion and Analysis of Financial Condition and Results
Of Operations .................................................................. 17
Item 7a. Quantitative and Qualitative Disclosures About Market Risk ..................... 28
Item 8. Financial Statements and Supplementary Data .................................... 28
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure ........................................................... 28
Item 9a. Controls and Procedures ........................................................ 28
PART III
Item 10. Directors and Executive Officers of the Registrant ............................. 30
Item 11. Executive Compensation ......................................................... 30
Item 12. Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters .................................................... 30
Item 13. Certain Relationships and Related Transactions ................................. 30
Item 14 Principal Accountants Fees and Services ........................................ 30
PART IV
Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K ................ 31
Signatures .................................................................................... 54
3
This Annual Report contains forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995. This Act provides a "safe
harbor" for forward-looking statements to encourage companies to provide
prospective information about themselves so long as they identify these
statements as forward-looking and provide meaningful cautionary statements
identifying important factors that could cause actual results to differ from the
projected results. All statements, other than statements of historical fact,
including statements regarding industry prospects and future results of
operations or financial position, made in this Annual Report are forward
looking. We use words such as "anticipates," "believes," "expects," "future,"
and "intends" and similar expressions to identify forward-looking statements.
Forward-looking statements reflect management's current expectations, plans or
projections and are inherently uncertain. Actual results could differ materially
from management's expectations, plans or projections. Readers are cautioned not
to place undue reliance on these forward-looking statements, which speak only as
of the date of this report. Certain risks and uncertainties that could cause our
actual results to differ significantly from management's expectations are
described in the section entitled "Risk Factors Affecting Business and Results
of Operations." This section, along with other sections of this Annual Report,
describes some, but not all, of the factors that could cause actual results to
differ significantly from management's expectations. We undertake no obligation
to publicly release any revisions to these forward-looking statements that may
be made to reflect events or circumstances after the date hereof or to reflect
the occurrence of unanticipated events. Readers are urged, however, to review
the factors set forth in reports that we file from time to time with the
Securities and Exchange Commission.
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PART I
In this report, the terms "M~Wave," "Company," "we," "us," and "our" refer to
M~Wave, Inc. and its subsidiary Poly Circuits, Inc.
ITEM 1. BUSINESS
During the fiscal year ended December 31, 2003 we effected a material
restructuring of our business and financial statements in the printed circuit
board industry, The following discussion relates our prior business engagement
and, as a subsequent event, our new business approach.
The Company
M~Wave, Inc., through its wholly owned subsidiary Poly Circuits, Inc., is a
value-added service provider of high performance printed circuit boards used in
a variety of digital and high frequency applications for telecommunications and
industrial electronics applications. M~Wave satisfies its customers requirements
for telecommunications and industrial electronics application by using its
50,000 square foot state-of-the-art prototype and small volume facility located
in West Chicago, Illinois and by outsourcing and coordinating the manufacture of
such boards by a global base of suppliers located primarily in the Far East
("Virtual Manufacturing"). Virtual Manufacturing contractually supplies most of
the printed circuit needs of our customers by managing the complete procurement
process. We deliver products when the customer needs them through either
consignment inventory control or just-in-time programs.
The Company began Virtual Manufacturing during 2000 by developing subcontracting
relationships with global manufacturers. The Company typically begins the
Virtual Manufacturing process by manufacturing prototypes and pre-production
pilot-run printed circuits at its manufacturing facility. The Company often
works closely with customer personnel during this stage to finalize fabrication
details and guidelines for circuit boards. As customers' requirements for
circuit boards develop into higher volumes, the Company subcontracts the
manufacture of the circuit boards to global manufacturers. The Company continues
to monitor the production and quality control of the circuit boards and works
with its customers and global manufacturers throughout the Virtual Manufacturing
process. The Company believes that Virtual Manufacturing allows the Company to
satisfy a broader range of its customers' printed circuit board requirements
without incurring substantial capital expenditures for property, plant and
equipment.
The Company produces customer specified bonded assemblies consisting of a
printed circuit board also bonded in some manner to a metal carrier or pallet.
One bonding technique used by the Company is Flexlink(TM), a patented process
granted to the Company in 1993. The Company developed an enhanced version called
Flexlink II(TM) in 1996.
The Company's printed circuit boards and bonded assemblies are used in a variety
of telecommunications and industrial electronic applications. Many of the
Company's printed circuit boards are Teflon(TM) based and are advantageous for
Radio Frequency ("RF") microwave and other wireless systems because of their
extremely low power losses, coupled with stable, predictable electrical
characteristics.
The production of Teflon(TM) based printed circuit boards and bonded assemblies
are technologically demanding due to the precise requirements of their end-use
applications and the miniaturization of the microwave frequency components. To
meet these technological demands, the Company has developed manufacturing
processes and designs, which reduce
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the cost and increase the manufacturability and reliability of customer systems.
Additionally, the Company emphasizes quality engineering and design support for
its customers. The Company is subject to stringent technical evaluation and ISO
and UL certification by many of its customers.
Our manufacturing partners maintain most certifications for quality,
environmental and safety including ISO, QS, UL, CE and others. Both the Company
and its manufacturing partners have a solid reputation for timely delivery of
products that are competitively priced, from plants operating at high levels for
worker and environmental safety both within and outside the U.S.
The Company markets its products through regional sales managers supported by
independent sales organizations. The Company's base of approximately 100
customers represents a highly sophisticated group of purchasers.
Significant Events Regarding Corporate Restructuring
During 2003 the Company began to respond to the sustained downturn in its
domestic manufacturing operations, which had begun in 2002 and had caused those
operations to become unprofitable. This effort generally occurred as follows.
April 15, 2003 Credit Support International, LLC (CSI) based in Dallas, Texas;
specifically, Jim Mayer its Managing Member, was retained by the Company,
initially serving as consultant and then Chief Restructuring Advisor to
determine the Company's viability and then facilitate a restructuring of
M-Wave's operations and financial position. The Consulting Agreement was amended
in September 2003. Mayer has 18 years of consulting, turnaround, financing
support service, and collateral control experience.
May 2003 the Company's restructuring began. Management determined that the
continued and unprecedented fall of the telecom sector, with the resultant 70%
loss of sales to large, concentrated telecom customers, necessitated a change in
the Company's core business. It was determined that the Company could not absorb
its direct and administrative costs based on then current and projected business
levels, nor could it efficiently manufacture digital and RF PCB's. Key to the
restructuring was to move out of direct manufacturing and effect an orderly sale
of assets related to manufacturing, including its plant and equipment located in
West Chicago, Illinois. (The Company had completed financing of $8,100,000 from
the Illinois Development Finance Authority to acquire the facility, with credit
enhancement by Bank One, N.A. in July 2001)
- ---In this regard we changed the Company's business model, not as a low-cost
domestic manufacturer, but a low-cost, high performance supply-chain "pipeline"
that offers middle market customers a "cradle-to-grave" approach to digital and
RF PCB procurement, beginning with the birth of a product that requires domestic
quick-turn, proto-types, pilot production runs, and that evolves into mass
production in Asia. The Company had, from its Singapore office, achieved working
partnerships with more than 22 Asian manufacturers where the Company extended
its procurement and supply-chain services for its middle-market customers, a
process referred to as "Virtual Manufacturing" (VM).
- ---In response to the challenge, the Company's management and its advisors
developed the Strategic Operating Alliance (SOA) concept under which the
Company, after significant due diligence and investigation of several local PCB
producers, has teamed with a "best-in-class" local manufacturer: American
Standard Circuits, Inc. (ASC) of Franklin Park, IL (www.asc-
6
i.com). Under the SOA agreement, within the West Chicago facility, production
transitioned from the Company to ASC.
The SOA agreement enabled ASC to immediately take over manufacturing at the
Company's facility, and, simultaneously acquire certain assets from the Company
at negotiated prices and terms, allowing the Company to free up cash and reduce
debt while assuming joint tenancy in West Chicago with ASC. In essence the SOA
is a transition vehicle that expands the Company's Far East VM model to a
domestic strategy as well. In this regard, we believe that the SOA offers the
Company increased efficiencies and flexibility by outsourcing domestic
production using our VM model from overseas, to better position ourselves to
take advantage of our strengths in marketing, sales, logistics, testing and
consulting while ASC manages the domestic manufacturing processes.
August 2003 M-Wave received $922,000 from the Illinois Department of Revenue as
a result of return of prior period taxes due to loss carry-backs. We had in
March 2003 received $2,998,000 from the U.S. Treasury as a result of return of
prior period taxes due to loss carry-backs. We used both refunds to reduce our
indebtedness to Bank One N.A. under the Industrial Revenue Bond for the West
Chicago facility.
October 1, 2003, M-Wave entered into a new $2,413,533 loan with Bank One, NA
that matured on December 31, 2003. Upon signing the new loan, the Company was no
longer in default of its obligations to the Bank arising pursuant to the IRB.
December 22, 2003, Bank One, NA extended the due date of the loan until January
31, 2004.
February 3, 2004, The SOA with ASC was completed; the West Chicago facility was
sold to an ASC affiliate and the equipment at that location was sold to a
partnership controlled by ASC in which Company is the minority member.
Additional elements of SOA transaction are:
- ---ASC will provide the domestic manufacturing required by the Company's
customers and be paid for finished product as a supplier to the Company. The
Company will maintain the sales, support, manufacturing oversight, and logistics
for its customers. The term of the SOA agreement is two years.
- ---The Company issued 5-year warrants to Gordhan Patel, owner of ASC, for the
purchase of 500,000 shares of the Company's common stock at $1.35 per share,
which vest on the first anniversary of the SOA agreement or upon an earlier sale
of the Company. Additionally, the Company was granted by ASC the right to
receive 8% of the gain over book value arising from a sale of ASC occurring on
or after the first anniversary of the SOA agreement.
- ---The Company sold its West Chicago plant to an affiliate of ASC for a cash
price of approximately $2,000,000. ASC has leased the manufacturing portion of
that plant from the new owner to enable it to manufacture as required under the
SOA.
- ---The Company leased a portion of the West Chicago facility to maintain its
offices from which it will operate its domestic and international VM, supply
chain management, and consulting businesses in close proximity to the domestic
manufacturing being performed for its customers by ASC.
- ---The Company sold the major portion of its manufacturing equipment at the West
Chicago facility to a newly formed limited liability company (LLC) for a cash
price of $800,000 and a 20% preferred and secured interest in that entity. ASC
is the other member of the LLC and has leased the use of the equipment from it.
The Company's preferred interest enables it to
7
receive, in any liquidation, the cash proceeds of the present value of the
equipment in excess of the $800,000 already received before ASC receives any
distribution, and distributions are thereafter made 80% to ASC and 20% to the
Company. M-Wave undertook no financial liabilities with respect to this LLC that
are material to its business or financial condition.
March 2004, Continuing with its restructuring strategy, the Company confirmed
its intention to sell its prior plant and improvements located in Bensenville,
Illinois as soon as practicable.
Financial Restructuring
February 2004, The balance sheet and operations of M-Wave, Inc. were
substantially restructured as a result of the foregoing transaction as follows:
- ---The Company sold its West Chicago facility to an affiliate of ASC for a cash
price of $2,000,0000. The Company also sold a major portion of its manufacturing
equipment at the West Chicago facility to a newly formed limited liability
company for a cash price of $800,000 and a 20% preferred and secured interest in
that entity. ASC is the other member of the LLC and has leased the use of the
equipment from it.
- ---Company re-evaluated its inventory and raw materials and further charged
$141,000 to reserves of $435,000. This effectively positions the Company to move
forward using its Virtual Manufacturing Model that places it more in a
distribution and supply chain supplier mode.
- ---The Company used a portion of the funds generated from the sale of its assets
to retire its debt of approximately $2,422,000 with Bank One, NA. Bank One N.A.
also released all liens on the collateral securing the note. The Company no
longer had any bank or finance company debt.
- ---The Company retired approximately $332,700 of delinquent trade debt for
$200,000.
- ---The Company entered into informal final arrangements and forbearance to
retire its remaining supplier debt with 12 former vendors for $1.1 million. The
unpaid balances totaled $1.8 million. Payments are to be made on or before May
31, 2004.
March 2004 The Company arranged a working capital facility from Silicon Valley
Bank. See Management's Discussion and Analysis of Financial Condition and
Results of Operations - LIQUIDITY AND CAPITAL RESOURCES below.
Risk Factors Affecting Our Business and Results of Operations
You should carefully consider the following factors that may affect our
business, future operating results and financial condition, as well as other
information included in this Annual Report. The risks and uncertainties
described below are not the only ones we face. Additional risks and
uncertainties not presently known to us or that we currently deem immaterial
also may impair our business operations. If any of the following risks actually
occur, our business, financial condition and operating results could be
materially adversely affected.
The report of independent auditors accompanying the consolidated financial
statements in this Annual Report on Form 10-K states that the foregoing matters
raise substantial doubt about the Company's ability to continue as a going
concern. See Note 3 in the Notes to the Consolidated Financial Statements. There
can be no assurances that the forgoing matters will not adversely impact the
Company's relationship with its suppliers and customers.
8
Fluctuations in Quarterly Operating Results - Sustained Losses in Past Two
Fiscal Years
Our quarterly results of operations are subject to significant variation for a
variety of reasons, including the following:
- The timing and volume of our customers' orders;
- Price and product competition;
- Changes in mix of products we sell; and
- Demand for our products.
Each of these factors has had in the past, and may have in the future, an
adverse effect on our quarterly operating results. In fact, we have sustained
significant operating losses in fiscal years 2002 and 2003, as reflected in our
Financial Statements included herein. Any inability to adjust spending quickly
enough to compensate for any revenue shortfalls may magnify the adverse impact
of such revenue shortfalls of our results of operations. As a result, our
operating results may vary significantly from one quarter to the next.
Liquidity
The Company's ability to fund working capital and anticipated capital
expenditures will depend on the Company's future performance, which is subject
to general economic, financial, competitive and other factors that are beyond
its control. The Company's ability to fund operating activities is also
dependent upon (a) the Company's anticipated receipt of approximately $0.8
million in Federal tax refunds in April, (b) proceeds of anticipated sales of
fixed assets no longer required at the Company's Bensenville facility, (c) the
Company's ability to effectively manage its expenses in relation to revenues,
(d) the Company's ability to continue to execute on its plans with vendors for
reduction of outstanding balances and (e) the Company's ability to access
external sources of financing.. Based upon the current level of operations and
anticipated growth, management believes that future cash flow from operations,
the anticipated receipt of the aforementioned tax refunds, proceeds from the
sale of certain fixed assets and funds from external sources of debt financing
will be adequate to meet its anticipated liquidity requirements over the next 12
months. The Company has obtained new debt financing with Silicon Valley Bank, as
discussed below under Management's Discussion and Analysis of Financial
Condition and Results of Operations - LIQUIDITY AND CAPITAL RESOURCES. There can
be no assurances that the Company's operations and access to external sources of
financing will continue to provide resources sufficient to service the Company's
indebtedness after satisfying liabilities arising in the ordinary course of
business.
Dependence on Major Customers
The Company's three largest customers accounted for 48% of the Company's net
sales in 2003. The Company expects that a small number of customers will
continue to account for a substantial majority of its sales and that the
relative dollar amount and mix of products sold to any of these customers can
change significantly from year to year. There can be no assurance that the
Company's major customers will continue to purchase products from the Company at
current levels, or that the mix of products purchased will be in the same ratio.
The loss of the Company's largest customer or a change in the mix of product
sales would have a material adverse effect on the Company.
Dependence on Domestic and Overseas Manufactures
The Company is dependent upon unaffiliated domestic and foreign companies for
the manufacture of printed circuit boards as part of its Virtual Manufacturing
process. The
9
Company's arrangements with manufacturers are subject to the risks of doing
business, such as import duties, trade restrictions, production delays due to
unavailability of parts or components, transportation delays, work stoppages,
foreign currency fluctuations, political instability and other factors, such as
satisfaction of its delinquent liabilities with certain overseas vendors, which
could have an adverse effect on the Company's business, financial condition and
results of operations. The Company believes that the loss of any one or more of
its suppliers would not have a long term material adverse effect on its
business, financial condition and results of operations because other
manufacturers would be able to increase production to fulfill its requirements.
However, the loss of certain suppliers, could, in the short term adversely
affect its business until alternative supply arrangements were secured.
********************************
M~Wave, Inc. was incorporated in Delaware in January 1992. The Company's
executive offices are located at 475 Industrial Drive, West Chicago, Illinois,
60185, and its telephone number is (630) 562-5550; its website is
http://www.mwav.com. Presently, SEC filings are not available on the Company's
website but, if requested, the Company will provide electronic or paper copies
of SEC filings free of charge.
Industry and Market
There is a concentrated and significant market for RF-related printed circuit
boards and bonded assemblies associated primarily with wireless communications.
In addition, there is a very large and varied market for lower to high
technology digital circuit boards. The technology ranges between dual-sided
circuit boards associated with applications like signaling or lighting devices
to 20-plus layer boards with complex circuitry requirements associated with
medical or military applications. Within both customer types there has been an
"outsourcing" trend whereby many end users have reduced their internal
production of printed circuit boards and bonded assemblies and moved to buying
these products from "contract manufacturing" board shops. But within
outsourcing, the domestic U.S. market has evolved to associate itself with
pre-production short runs, prototypes, and niches while mass production has
largely migrated to Asia. The total domestic market for printed circuit boards
has substantially shrunk dramatically since 1999, and is now about $2 billion
according to Company estimates.
One of the most widely recognized high frequency telecommunication systems in
commercial use is the cellular telephone. Cellular systems operate at the lower
end of the microwave spectrum and use Teflon(TM) based printed circuit boards
and bonded assemblies in power amplifier base stations. Approximately 13%, 49%
and 90% of the Company's revenues in 2003, 2002, and 2001, respectively, were
related to the cellular telephone industry.
The Company also services broadband access suppliers. Broadband access solution
companies provide broadband products, service solutions and conferencing
solutions for carriers, service providers and business enterprises around the
world. Approximately 28% of the Company's 2003 and 29% of the Company's revenue
in 2002 was related to broadband access suppliers.
Customers and Marketing
The Company's customers include microwave system contract or original equipment
manufacturers (OEM's) with sophisticated technologies and requirements. The
Company markets its products through regional sales managers supported by
independent sales organizations. The Company currently services a customer base
of approximately 100.
10
The sale of microwave printed circuit boards is technical in nature. The Company
works with customer personnel who are frequently experts in microwave design and
theory with added expertise in fabrication and design techniques for printed
circuit boards. Typically, microwave system manufacturers provide the Company
fabrication details and guidelines. The Company has the products fabricated the
products to customer specifications.
The Company has adopted a program of early supplier involvement as part of its
sales strategy. The Company has the opportunity to design-in its manufacturing
processes as a means of reducing the cost of microwave systems. The emphasis
upon a partnership underlies the Company's relationship with its customers.
The Company markets its products through regional sales managers supported by
approximately 20 independent sales organizations, which are paid a commission to
represent the Company. International sales of the Company's products have
accounted for less than 5% of revenues in each of 2003, 2002 and 2001.
In 2003, Westell, Inc., Celestica International, and Remec accounted for 28%,
12% and 8%, respectively, of the Company's revenues. In 2002, Celestica
International, Westell, Inc. and Lucent Technologies accounted for 31%, 29% and
11%, respectively, of the Company's revenues. In 2001, Lucent Technologies
accounted for 90% of the Company's revenues. On September 1, 2001, Lucent
transitioned a segment of their manufacturing operations at Columbus, Ohio to
Celestica. Celestica is based in Toronto, Canada. On September 1, 2001 Lucent
also transferred most of their open purchase orders with the Company to
Celestica. In 2001, Lucent's revenue also includes revenue shipments to
Celestica. The loss of, or a substantial reduction in or change in the mix of
orders would have a material adverse effect on the Company's results of
operations and financial condition. The Company continues to vigorously pursue a
strategy of being a source to a broader base of customers and intends to seek to
be one of a few key suppliers rather than the sole supplier.
As of December 31, 2003, the Company had an order backlog of approximately
$1,763,000 compared to $2,540,000 at December 31, 2002. Nearly all of the
Company's backlog is subject to cancellation or postponement without significant
penalty. The Company does not believe that this backlog is necessarily
indicative of the Company's future results of operations or prospects.
Products and Production
The Company has exited direct domestic manufacturing by using operating and
strategic partnerships with ASC and Asian printed circuit board manufacturers.
ASC and our Asian partners manufacture to our specifications and under our
review from management based in Chicago and Singapore.
As more fully described above, on February 3, 2004 the Company entered a
Strategic Operating Alliance (SOA) agreement with Franklin Park, Illinois based
American Standard Circuits, Inc. (ASC) Under the SOA agreement, within the West
Chicago facility, production will transition from M~Wave to ASC. The term of the
SOA agreement is two years. The result will be that both production and domestic
sales will be carried out within the same facility with joint tenants M-Wave and
ASC.
Our manufacturing partners maintain most certifications for quality,
environmental and safety including ISO, QS, UL, CE and others. The Company's
objective is to have a solid reputation for timely delivery of products that are
competitively priced, from plants operating at high levels for worker and
environmental safety both within and outside the U.S.
11
The Company markets its products through regional sales managers supported by
independent sales organizations. The Company's base of approximately 100
customers represents a highly sophisticated group of purchasers
Product Development
The Company's product development efforts have been an important part of its
ongoing activities. The Company has developed the Flexlink(TM) process, the
bonding of materials with dissimilar coefficients of thermal expansion, and the
fusion bonding of Teflon based laminate for multi-layer circuit fabrication. The
Company was granted a patent in 1993 by the United States Patent Office for its
Flexlink(TM) process. The Company developed an enhanced version called Flexlink
II(TM) in 1996.
Virtual Manufacturing
The Company out-sources the manufacture of printed circuit boards as part of its
Virtual Manufacturing process to unaffiliated manufacturers. Many of these
suppliers are ISO 9000 certified. The Company believes that it maintains good
business relationships with its unaffiliated manufacturers.
On February 3, 2004 the Company entered a Strategic Operating Alliance (SOA)
agreement with Franklin Park, IL based American Standard Circuits, Inc. (ASC)
Under the SOA agreement, within the West Chicago facility, production will
transition from M~Wave to ASC. The term of the SOA agreement is two years. This
transaction expands our Virtual Manufacturing concept to domestic manufacturing
strategic partner.
The Company's purchase orders are generally made in United States dollars in
order to maintain continuity in the Company's pricing structure and to limit
exposure to currency fluctuations.
Quality assurance is particularly important to the Company and its product
shipments are required to satisfy quality control tests established by its
internal product design and engineering department. The Company typically
performs quality control inspections prior to shipment of printed circuit boards
to its customers. The Company warrants most printed circuit boards to its
customers with a money-back guarantee for printed circuit boards and components.
Competition
The market for the Company's products is highly competitive. The Company
competes for customers primarily on the basis of quality and on time delivery of
its products and the Company's technical support. The Company faces substantial
competition from many companies, including many that have greater financial and
other resources, broader product lines, greater customer service capabilities
and larger and more established customer bases. Alternative methods of
manufacturing microwave-related boards exist, including ceramic and thick film
technologies. Also, new materials are being introduced that are not Teflon(TM)
based and are easier to manufacture. These materials fit within existing
manufacturing capabilities of other board shops. Increased competition could
cause the Company to lose market share and/or accelerate the decline in the
prices of the Company's products. These factors could have a material adverse
effect on the Company's results of operations and financial condition.
In connection with execution of the SOA agreement, February 3, 2004, the Company
has transferred most of the risks of manufacturing including raw material
acquisition, process controls, scrap, quality control, human resources
productivity, working asset absorption and
12
plant failure to ASC. This allows M-Wave to move with greater flexibility as a
marketing and service firm, less a manufacturer domestically. The Company gears
itself to market conditions to gain sales otherwise imprudent and outsource
these using the VM approach. The Company believes the SOA will offset some the
risks associated with both decline of domestic markets and prices.
Internationally, M-Wave is positioned to derive its sales increasingly from its
Asian VM activities, assisting U.S. Companies in identifying and entering into
offshore mass production activities. Nothing can assure that M-Wave can be
successful under its new business model as it competes increasingly with
brokers, distributors, and some manufacturers who adopt similar strategies.
Environmental Regulations
The Company and the industry in which it operates are subject to environmental
laws and regulations concerning, among other things, emissions into the air,
discharges into waterways, the generation, handling and disposal of waste
materials and certain record-keeping requirements. The Company periodically
generates and handles materials that are considered hazardous waste under
applicable law and contracts for the off-site disposal of these materials.
During the ordinary course of its operations, the Company has received citations
or notices from regulatory authorities that such operations may not be in
compliance with applicable environmental regulations. Upon such receipt, the
Company works with authorities to resolve the issues raised by such citations or
notices. The Company's past expenditures relating to environmental compliance
have not had a material effect on the financial position or results of
operations of the Company. The Company believes that the overall impact of
compliance with regulations and legislation protecting the environment will not
have a material effect on its future financial position or results of
operations, although no assurance can be given.
Patents
Due to rapidly changing technology, the Company believes its success depends
primarily upon the engineering, marketing, manufacturing and support skills of
its personnel, rather than upon patent protection. The Company was granted a
patent in 1993 by the United States Patent Office for its Flexlink(TM) process.
The Company developed an enhanced version called Flexlink II(TM) in 1996.
The Company was granted three patents in 1998. Two patents were granted to the
Company for a printed circuit board process using plasma spraying of conductive
metal. The plasma spraying process eliminates a significant portion of the wet
process currently used to produce printed circuit boards.
Employees
On December 31, 2003, the Company employed approximately 57 persons. The Company
closely monitors the number of employees. As of March 15, 2004, the Company
employed approximately 17 persons; most of the manufacturing employees were
terminated in February, 2004 and hired by American Standard Circuits under the
terms of the Strategic Operating Alliance.
None of the Company's employees are represented by a labor union and the Company
has never experienced a work stoppage, slowdown or strike. The Company considers
its labor relations to be very good.
13
Executive Officers of the Registrant
The following is a list of Company's executive officers as of March 31, 2004:
Name Age Position
- ---- --- --------
Joseph A. Turek 46 Chairman and
Chief Executive Officer
Paul H. Schmitt 57 Secretary and Treasurer
Chief Financial Officer
Joseph A. Turek is the founder of the Company and has acted as Chairman and
Chief Executive Officer since June 1993, and has served as director of the
Company since 1988. Mr. Turek served for more than five years in various
positions at West-Tronics, Inc., a manufacturer of low frequency circuit boards
and a contract assembler of electronic products, with his last position as
President in 1987 and 1988.
Paul H. Schmitt joined the Company in September 1992 as Treasurer. From 1990 to
1992, Mr. Schmitt was with Reynolds Products, a Division of Alco Standard
Corporation, where he held the position of Controller. From 1983 to 1990, he
served as Controller for Garden City Envelope Company.
ITEM 2. PROPERTIES
Facilities
The following table lists the manufacturing, administrative, marketing
facilities of the Company during 2003:
Lease
Location Function Square Feet Expiration Date
-------- -------- ----------- ---------------
West Chicago, Illinois Manufacturing 50,000 Owned
Bensenville, Illinois Manufacturing 14,000 Owned
Bensenville, Illinois Administrative 13,000 June 30, 2005
(Subject to option
to renew for three
years)
The Company purchased the West Chicago facility in the fourth quarter of 2000
and began manufacturing at that facility in the fourth quarter of 2001. The
Company closed its Bensenville facilities in the third quarter of 2002 and
consolidated operations at its West Chicago facility. The Company plans to sell
the owned property in Bensenville as soon as possible.
The Company has its corporate headquarters in West Chicago, Illinois.
Administration occupies approximately 5,000 square feet.
On February 3, 2004, the Company sold its West Chicago facility to an affiliate
of American Standard Circuits for approximately $2,000,000. American Standard
Circuits has leased the manufacturing portion of the facility from the new owner
to enable it to manufacture as required under the Strategic Operating Alliance.
The Company has leased a portion of the facility to maintain its corporate
offices, VM shipping inspection and warehousing of finished
14
customer goods either awaiting shipment or in connection with supply chain
services, including "just-in-time," demand pull products.
The Company is actively seeding a buyer for its Bensenville assets.
ITEM 3. LEGAL PROCEEDINGS
The Company is not a party to any litigation which is material to its business
or financial condition.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) The Company's Annual Meeting of Stockholders was held on
December 11, 2003.
(b) At the Company's Annual Meeting of Stockholders, the
Stockholders reelected to the Company's Board of Director Mr.
Joseph A. Turek. Mr. Turek is a Class II Directors and will
serve a term ending upon the election of Class II Directors at
the 2006 Annual Meeting of Stockholders. The aggregate number
of votes cast for, against or withheld, for the election of
Mr. Turek was as follows: 3,432,248 for, 0 against and 74,060
withheld.
(c) At the Company's Annual Meeting of Stockholders, the
Stockholders ratified the appointment of Grant Thornton LLP as
auditors of the Company for the 2003 fiscal year. The
aggregate number of votes cast for, against or withheld, for
the ratification of Grant Thornton LLP as auditors was
3,391,758, 12,250 and 102,300, respectively.
(d) At the Company's Annual Meeting of Stockholders, the
Stockholders also approved the adoption of the Company's 2003
Stock Incentive Plan. The aggregate number of votes cast for,
against or withheld, for adoption of the Company's 2003 Stock
Incentive Plan was 892,826, 446,586 and 111,976, respectively.
15
PART II
ITEM 5. MARKET PRICE AND DIVIDENDS ON THE REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
The Registrant's common stock is traded on the NASDAQ National Market (trading
symbol MWAV). The following table sets forth, for the calendar periods
indicated, the range of the high and low last reported sales prices of the
common stock from January 1, 2002 through December 31, 2003 as reported by the
NASDAQ.
Year Ended December 31
----------------------------------------------------------------
2002 2003
--------------------------- -----------------------------
Low High Low High
------- ----- ------- ------
First Quarter $ 5.35 $ 8.10 $ 0.78 $ 1.49
Second Quarter 3.65 6.84 0.43 1.00
Third Quarter 0.77 3.56 0.60 1.10
Fourth Quarter 0.75 2.62 0.45 1.00
As of March 25, 2004, there were approximately 700 shareholders of record owning
the common stock of the Company.
The Company did not pay any dividends on its common stock in 2002 or 2003 and
intends not to pay dividends in the foreseeable future in order to reinvest its
future earnings in the business.
Disclosure Regarding the Company's Equity Compensation Plans
The following table summarizes information about equity awards under the 1992
Stock Option Plan and the 2003 Stock Incentive Plan as of December 31, 2003
Weighted Number of Shares of
Number of shares of Average Common Stock
Common Stock to be Exercise Price Available for Future
Issued upon exercise of of Outstanding Issuances (excluding
Plan Category Outstanding Options* Options shares reflected in*)
- ------------- -------------------- ------- ---------------------
Equity compensation plans
approved by security holders 450,025 $5.29 543,800
Equity compensation plan not
approved by security holders: ------- ----- -------
450,025 $5.29 543,800
======= ===== =======
Outstanding options at December 31, 2003 includes 144,000 shares of Common Stock
issued to Credit Support International, LLC per the Consulting Agreement dated
September 1, 2003 by and between the Company and Credit Support International,
LLC.
The number of shares of Common Stock available for future issuance under the
1992 Stock Option Plan is 0. The number of shares of Common stock available for
future issuance under the 2003 Stock Incentive Plan is 543,800.
16
In 1992, the Company's Board of directors adopted the 1992 Plan. The Company's
shareholders approved the 1992 Plan in February 1992 and approved amendments to
the 1992 Plan in June 1995 and June 1997. See Exhibit 10.1 of Form 10-K for the
Plan document, as amended.
The Company also maintains the 2003 Stock Incentive Plan ("2003 Stock Incentive
Plan") pursuant to which the Company may grant option or stock awards. The 2003
Stock Incentive Plan was adopted by the Board of Directors and approved by
stockholders at the 2003 Annual Meeting of Stockholders.
See Exhibit 10.16 to Form 10-K for the 2003 Stock Incentive Plan document.
ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth selected consolidated financial information with
respect to the Company for each of the five years in the period ended December
31, 2003.
Year Ended December 31,
-----------------------------------------------------------------------------------
2003 2002 2001 2000 1999
------------- ------------ ----------- ----------- ------------
Statement of Operations Data:
Net sales $ 14,187,290 $22,467,683 $54,824,432 $57,559,962 $ 11,305,643
Gross profit (loss) (1,762,656) (2,325,855) 10,371,594 9,888,795 1,022,662
Operating Income/Loss (12,954,335) (8,076,667) 6,112,791 5,904,442 (1,106,419)
Income (loss) before income taxes (12,666,735) (8,311,353) 6,268,444 5,945,268 (1,086,391)
Net income (loss) (12,047,275) (5,027,547) 3,796,789 3,939,962 (688,905)
Weighted average shares 4,443,294 4,447,859 4,536,204 4,561,957 4,535,342
Basic earnings (loss) per share (2.71) (1.13) 0.84 0.86 (0.15)
Diluted shares 4,443,294 4,447,859 4,565,021 4,641,805 4,535,342
Diluted earnings (loss) per share (2.71) (1.13) 0.83 0.85 (0.15)
Balance Sheet Data:
Working capital $ (3,966,777) $ 706,394 $ 8,384,609 $ 6,642,608 $ 5,446,183
Total assets 8,483,290 23,327,642 28,142,718 32,390,957 15,935,799
Long-term debt 0 0 2,743,527 166,566 1,886,799
Stockholders' equity 622,047 12,669,322 17,754,760 14,505,976 10,475,577
Note: 2003 results include Impairment of Building and Equipment charges of
approximately $7,452,000. 2002 results include Restructuring expense of
approximately $1,752,000. Also, working capital includes $2,457,000 of current
debt in 2003 and $5,018,000 of current debt in 2002.
On October 24, 2000 the Board of Directors declared a two-for-one split of its
common stock, effected in the form of a stock dividend paid on November 28,
2000 to shareholders of record on November 13, 2000. All agreements concerning
stock options in shares of the Company's common stock provide for the issuance
of additional shares due to the declaration of the stock split. All references
to the number of shares, except shares authorized, and to per share
information in the consolidated financial statements have been adjusted to
reflect the stock split on a retroactive basis.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Overview
(see Item 1. Business, Significant Events Regarding Corporate Restructuring)
M~Wave is a value-added service provider of high performance circuit boards used
in a variety of digital and high frequency application for telecommunications
and industrial electronics applications.
M~Wave's business has been particularly challenging for the past two years, due
to the downturn in the telecommunication industry and the resulting decline in
customer demand. The Company continues to strive to increase its customer base
by signing new supply chain management agreements with new and existing
customers. Increasingly, the Company is serving as an intermediary for its U.S.
17
customers by brokering the purchase of circuit boards through an established
base of Asian producers with which it does business.
Critical Accounting Policies and Estimates
Management Discussion and Analysis of Financial Condition and Results of
Operations discusses the Company's financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States. The preparation of these financial statements requires us to make
estimates and assumptions that effect: (1) the reported amounts of assets and
liabilities; (2) the disclosure of contingent liabilities; and (3) the reported
amounts of sales and expenses during the reporting period. On an on-going basis,
we evaluate and update our estimates and judgments, including those related to
the collection of accounts receivable, valuation of inventory, impairment of
long-lived assets, and amount of warranty obligations. We base our estimates and
judgments on historical experience and on other factors that we believe to be
reasonable under the circumstances, the results of which form the basis for our
judgments about the carrying values of assets and liabilities that are not
readily apparent from other sources. Actual results may differ from these
estimates under different conditions. We believe the following critical
accounting policies, among other policies, effect our more significant judgments
and estimates used in the preparation of our financial statements.
Revenue Recognition and Accounts Receivable
The Company recognizes revenue upon the shipment of its products from its
manufacturers to the customer provided that the Company has received a signed
purchase order; the price is fixed, title has transferred, product returns are
reasonably estimable; collection of resulting receivable is reasonably assured;
there are no customer acceptance requirements and there are no remaining
significant obligations. We maintain an allowance for estimated product returns
based on historical experience. We also maintain an allowance for doubtful
accounts for estimated losses resulting from the inability of our customers to
make required payments. This estimate is based on historical experience, current
economic and industry conditions and the profile or our customer mix. If the
financial condition of our customers were to deteriorate, resulting in an
impairment of their ability to make payments, additional allowances may be
required.
Allowance for Doubtful Accounts
An allowance for doubtful accounts is maintained for potential credit losses.
When evaluating the adequacy of our allowance for doubtful accounts, management
specifically analyzes accounts receivable on a client-by-client basis, including
customer credit worthiness and current economic trends, and records any
necessary bad debt expense based on the best estimate of the facts known to
date. Should the facts regarding the collectability of receivables change, the
resulting change in the allowance would be charged or credited to income in the
period such determination is made. Such a change could materially impact our
financial position and results of operations.
Inventory
Inventory is valued at the lower of cost or market value and includes materials,
labor and manufacturing overhead. Reserves are provided for estimated
obsolescence or non-marketability equal to the difference between the cost of
the inventory and its estimated market value based on assumptions about future
demand and market conditions. If actual future demand or market conditions were
to be less favorable than we projected, additional inventory write-downs may be
required. The reserve for Inventory Obsolescence is $435,000 for 2003 compared
to $874,000 in 2002. The reserve was based on specific items identified in the
ending inventory.
Long-lived Assets
We review long-lived assets for impairment when circumstances indicate that the
carrying amount may not be recoverable. Factors which could trigger an
impairment review include significant decline in operating results relative to
historical or projected future operating results, significant changes in the
18
manner of our use of assets, changes in technology or significant negative or
economic trends. If this review indicates that the value of an asset may be
impaired, an evaluation of the recoverability of the net carrying value of the
asset over its remaining useful life is made. If this evaluation indicates that
the value of the asset is not recoverable, the net carrying value of the asset
will be reduced to the fair value and the remaining depreciation period may be
adjusted. Any such impairment charge could be significant and could have a
material adverse effect on our financial statements if and when an impairment
charge is recorded. The Company recorded impairment of building, plant and
equipment charges in 2003 of $7,452,000.
Warranty
We provide for the estimated cost of the product warranties at the time revenue
is recognized. The warranty obligation includes a provision based on historical
experience, as well as reserves for specific issues we identify. To the extent
actual warranty charges vary from our historical experience, revisions to the
estimated warranty liability may be required.
Accounting for Income Taxes
We use an asset and liability approach to financial accounting and reporting for
income taxes. Deferred income taxes are provided using currently enacted tax
rates when tax laws and financial accounting standards differ with respect to
the amount of income for a year and the basis of assets and liabilities.
Significant management judgment is required in determining our provision for
income taxes, deferred tax assets and liabilities and any valuation allowance
recorded against our net deferred tax assets. We have generated certain deferred
tax assets as a result of operating losses and temporary differences between
book and tax accounting. Statement of Financial Accounting Standards ("SFAS")
No. 109 "Accounting for Income Taxes," requires the establishment of a valuation
allowance to reflect the likelihood of realization of deferred tax assets. For
the year ended December 31, 2003, we recorded a full valuation allowance against
our deferred tax assets of approximately $4,301,000, as a result of operating
losses incurred and reported in 2003, and the uncertainty of the timing and
amount of future taxable income. If the realization of our deferred tax assets
in future periods is considered more likely than not, an adjustment to our
deferred tax asset would increase net income in the period such determination is
made. The amount of deferred tax assets considered realizable is based on
significant estimates. Changes in these estimates could materially affect our
financial condition and results of operations in future periods.
Stock-Based Compensation
We account for stock-based compensation using the intrinsic value method
prescribed in Accounting Principles Board ("APB") Opinion No. 25, "Accounting
for Stock Issued to Employees," and related interpretations. Compensation costs
for employee stock options is measured as the excess, if any, of the quoted
market price of the Company's common stock at the date of grant over the amount
an employee must pay to acquire the stock.
Other
Other significant accounting policies, not involving the same level of
measurement uncertainties as those discussed above, are nevertheless important
to an understanding of the financial statements. Policies relating to fair value
of financial instruments, depreciation, and income taxes require judgments on
complex matters that are often subject to multiple external sources of
authoritative guidance such as the Financial Accounting Standards Board,
Securities and Exchange Commission, etc. Although no specific conclusions
reached by these authorities appear likely to cause a material change in the
Company's accounting policies, outcomes cannot be predicted with confidence.
Also see Note 2 to the Company's Consolidated Financial Statements, which
provide a summary of the Company's significant accounting policies.
19
Results of Operations
Listed below are the related expenses for 2003, 2002 and 2001, as a percent of
sales.
2003 2002 2001
---- ---- ----
Net sales 100.0% 100.0% 100.0%
Cost of goods sold 112.4 110.4 81.1
----- ----- -----
Gross profit (12.4) (10.4) 18.9
----- ----- -----
Operating expenses:
General and administrative 16.9 11.0 5.0
Selling and marketing 9.5 6.8 2.8
Impairment of building and equipment 52.5 0.0 0.0
Restructuring expense 0.0 7.8 0.0
----- ----- -----
Total operating expenses 78.9 25.6 7.8
----- ----- -----
Operating income (loss) (91.3) (36.0) 11.1
Interest income (expense) - net 0.0 (0.6) (0.5)
Rental income 0.0 0.0 0.3
Debt forgiveness 1.9 0.0 0.0
Gain (loss) on disposal of equipment 0.1 (0.4) 0.5
----- ----- -----
Total other income (expense) 2.0 (1.0) 0.3
----- ----- -----
Income (loss) before income taxes (89.3) (37.0) 11.4
Income tax expense (benefit) (4.4) (14.6) 4.5
----- ----- -----
Net income (loss) (84.9) (22.4)% 6.9%
===== ===== =====
Subsequent Events
On February 3, 2004, the Company announced a major restructuring of its balance
sheet and its operating model that included the sale of its West Chicago plant
and equipment to firms associated with the signing of a Strategic Operating
Alliance (SOA) agreement with Franklin Park, IL based American Standard
Circuits, Inc. (ASC). In connection with the asset sales and signing of the SOA
agreement, the Company also announced retirement of its $2.422 million debt to
Bank One, NA that included releases of liens on the collateral securing the
note. The Company further indicated that delinquent balances to its trade
creditors would be reduced approximately $200,000 in line with its previously
negotiated terms.
The Company, through its wholly owned manufacturing subsidiary, Poly Circuits,
Inc., historically has been a value-added, domestic producer and international
service provider of high performance printed circuit boards (PCBs) used in a
variety of digital and RF applications.
The Company's restructuring began in May 2003, necessitated by a continued and
unprecedented fall of the telecom sector, with the resultant 70% decrease in net
sales. It was determined that the Company could not absorb its direct and
administrative costs based on then current and projected business levels, nor
could it efficiently manufacture digital and RF PCB's.
The heart of the Company's business model is not to be a low-cost domestic
manufacturer, but to operate a low-cost, high performance supply chain
"pipeline" that offers middle market customers a "cradle-to-grave" approach to
digital and RF PCB procurement, beginning with the birth of a product that
requires domestic quick-turn, proto-types, pilot production runs, and that
evolves into mass production in Asia. The Company had, from its Singapore
office, achieved working partnerships with
20
more than 20 Asian manufacturers where the Company extended its procurement and
supply-chain services for its middle-market customers, a process referred to as
"Virtual Manufacturing" (VM).
In response to the challenging time, the Company's management and advisors
developed the Strategic Operating Alliance (SOA) concept under which the
company, after significant due diligence and investigation of several local PCB
producers, has teamed with a "best-in-class" local manufacturer: American
Standard Circuits, Inc. (ASC) of Franklin Park, IL (www.asc-i.com). Under the
SOA agreement, production will transition from the Company to ASC, in a blending
of a traditional outsourcing and a joint venture in one vehicle.
The SOA agreement enables ASC to immediately take over manufacturing at the
Company's facility, and, simultaneously acquire certain assets, allowing the
Company to free up cash, reduce debt, while assuming joint tenancy in West
Chicago with ASC, in a seamless transition that expands the company's Far East
VM model to a domestic strategy as well.
Further Highlights of Restructuring
(a) Under the SOA, ASC will provide the domestic manufacturing required by
the Company's customers and be paid for finished product as a supplier to
the Company. The Company will maintain the sales, support, manufacturing
oversight, and logistics for its customers. The term of the SOA agreement
is initially two years.
(a) Under the SOA, the Company issued 5-year warrants to Mr. Gordhan
Patel, principal shareholder and CEO of ASC for the purchase of 500,000
shares of its common stock at $1.35 per share, which vests on the first
anniversary of the SOA agreement or upon an earlier sale of the Company
(if applicable), and M-Wave was granted by ASC the right to receive 8% of
the gain over book value arising from a sale of ASC to a third party
occurring on or after the first anniversary of the SOA agreement (if
applicable).
(b) The Company sold its West Chicago plant to an affiliate of ASC for a
cash price of approximately $2,000,000. ASC has leased the manufacturing
portion of that plant from the new owner to enable it to manufacture as
required under the SOA.
(c) The Company has leased a portion of the West Chicago facility to
maintain its offices from which it will operate its domestic and
international VM, supply chain management, and consulting businesses in
close proximity to the domestic manufacturing being performed for its
customers by ASC.
(d) The Company sold the major portion of its manufacturing equipment at
the West Chicago facility to a newly formed limited liability company
(LLC) for a cash price of $800,000 and a 20% preferred and secured
interest in that entity. ASC is the other member of the LLC and has leased
the use of the equipment from it. The Company's preferred interest enables
it to receive, in any liquidation, the cash proceeds of the present value
of the equipment in excess of the $800,000 already received before ASC
receives any distribution, and distributions are thereafter made 80% to
ASC and 20% to the Company.
Continuing with its restructuring strategy, the Company confirmed its intention
to sell its prior plant and improvements located in Bensenville, Illinois as
soon as practicable.
21
COMPARISON OF 2003 AND 2002
Net Sales
Net sales for 2003 decreased 37% to $14.2 million from $22.5 million in 2002.
The decrease in net sales is related to a drop in demand in the high-frequency
applications offset partially by increased demand in industrial electronic
applications. Net sales in 2002 also included two non-recurring events that
boosted net sales by $3,600,000. These events were the result of (1) a
cancellation charge of approximately $2.5 million paid by Lucent related to the
discontinuation of several products and (2) a one-time shipment of inventory for
approximately $1.0 million that the Company was holding for Westell. Had these
events not occurred the net sales for 2002 would have been approximately
$18,868,000.
The Company's three largest customers: Westell, Celestica and Remec, accounted
for 48% of the Company's net sales in 2003 compared to 62% in 2002. Net sales to
Westell decreased $2,605,000 to $3,951,000 in 2003. Celestica decreased
$5,656,000 to $1,746,000 in 2003. Net sales to Remec increased by $1,138,000 to
$1,141,000 in 2003.
Gross Profit (Loss) and Cost of Goods Sold
The Company's gross loss for 2003 was $1,763,000 compared to a gross loss of
$2,326,000 for 2002. 2002 included two non-recurring events that boosted revenue
by $3,600,000 and gross margin by $2,500,000. These events were a result of the
end of life of several products we produced for Lucent and shipment of inventory
we were holding for Westell. Had these events not occurred, the gross loss for
2002 would have been approximately $4,826,000. The gross loss for 2003 is a
result of underutilization of the manufacturing facility in West Chicago,
Illinois for the first nine months of 2003. In September 2003 the Company exited
direct manufacturing entering into an operating consulting agreement with ASC
that transferred to it oversight for manufacturing as a precursor to the
Strategic Operating Alliance agreement (see Subsequent Events) signed February
3, 2004. This resulted in a positive gross profit of approximating $250,000 in
the fourth quarter of 2003.
The Company has a total reserve for inventory obsolescence of $435,000 at
December 31, 2003 and $874,000 at December 31, 2002. Substantially all of the
reserve for inventory obsolescence is related to specific inventory. The
inventory obsolescence reserve requires the use of estimates. The Company
believes the techniques and assumptions used in establishing the reserve is
appropriate. See Financial Statement Schedules on page 31.
Operating Expenses
General and administrative expenses were $2,394,000 or 16.9% of net sales in
2003, compared to $2,471,000 or 11.0% of net sales in 2001. General and
administrative expenses consist primarily of salaries and benefits, professional
services, depreciation of office equipment, computer systems and occupancy
expenses. Legal fees were up $351,000 relating to the Strategic Operating
Alliance, refinancing of the Industrial Revenue Bond and other corporate
matters. The Company expensed $289,000 in 2002 of initial costs related to the
Industrial Revenue Bond.
Selling and marketing expenses were $1,345,000 or 9.5% of net sales in 2003,
compared to $1,528,000 or 6.8% of net sales in 2002. Selling and marketing
expenses include the cost of salaries, advertising and promoting the Company's
products and the commissions paid to independent sales organizations. Payroll
related expenses were down $94,000 with the elimination of two regional sales
managers and support staff. Commissions paid to independent sales organizations
were up $34,000.
The Company recorded impairment of building, plant and equipment charges in 2003
of $7,452,000. The charge was recorded to comply with FASB statement No. 144,
which requires the Company to (a) recognize an impairment loss when the carrying
amount of a long-lived asset is not recoverable from its undiscounted cash flows
and (b) measure the impairment losses as the difference between the carrying
amount and the fair value of the asset. On September 30, 2003, the fair value of
the West Chicago,
22
Illinois property was estimated at approximately $2,000,000 and the machinery
and equipment at $1,929,000. This resulted in a write-down of the assets of
$7,452,000, during 2003.
Restructuring expenses were $1,752,000 or 7.8% of net sales in 2002.
Restructuring expenses include costs associated with the closing, cleanup and
the future disposition of the Bensenville facilities.
Operating Loss
Operating loss was $12,954,000 or 91.3% of net sales in 2003, compared to an
operating loss of $8,077,000 or 36.0% of net sales in 2002. The change in
operating income can be summarized as follows:
Decrease in net sales $ 857,000
Decrease in gross margin (294,000)
Impairment of building and equipment (7,452,000)
Restructuring expense 1,752,000
Decrease in operating expenses 259,000
--------------
Decrease in operating income ($ 4,878,000)
==============
Interest Income
Interest income from short-term investments was $164,000 in 2003 compared to
$195,000 in 2002.
Interest Expense
Interest expense, primarily related to new borrowings for the West Chicago
facility, was $176,000 in 2003 compared to $334,000 in 2002.
Gain on disposal of fixed assets
The Company recorded a gain of $34,000 in 2003 relating to the sale of certain
assets in the Bensenville facility. The Company recorded a loss of $96,000 in
2002 relating to the certain sale of assets in the Bensenville facility.
Income Taxes
The Company had an effective tax credit of 4.4% in 2003 compared to an effective
tax credit of 39.5% in 2002. The Company's tax credit is limited to expected tax
refunds approximating $823,000 for 2003.
23
COMPARISON OF 2002 AND 2001
Net Sales
Net sales for 2002 decreased 59% to $22.5 million from $54.8 million in 2001.
The decrease in net sales is related to the telecommunication industry, which
saw demands reduced by approximately $39,700,000 from 2001 requirements. The
Company was able to offset some of the decrease in demand for telecommunication
related products by promoting its "Virtual Manufacturing" business model and
entering into the industrial electronics market. Virtual Manufacturing allows
the Company to increase its manufacturing capabilities without "bricks and
mortar" by using global suppliers to manufacture all types of high-quality
printed circuits at lower than domestic suppliers. The Company developed
sub-contracting relationships in 2002 and 2001 with Asian suppliers to create
its "Virtual Manufacturing" business. The Company begins the process by
manufacturing prototype or pre-production printed circuits at our wholly owned
subsidiary, Poly Circuits, Inc. As our customer requirements develop into higher
volumes we broaden our capability by sub-contracting PCB's to our Asian partners
while adding value to our customers for the service that may include warehousing
and logistics as well. Other value adding can include options like: supply chain
management, bonding, plating, impress storehouses, repackaging and final
inspection of specified quantities. The Company signed contracts with eleven new
virtual manufacturing customers in 2002. Virtual Manufacturing accounted for
approximately 76% of the Company's net sales for 2002 and 90% of the Company's
net sales in 2001.
The Company's three largest customers: Celestica, Westell and Lucent, accounted
for 71% of the Company's net sales in 2002 compared to 90% in 2001. Net sales to
Celestica decreased $4,218,000 to $7,055,000 in 2002. Westell was a new customer
in 2002 with sales of $6,580,000. Net sales to Lucent decreased by $35,493,000
to $2,506,000 in 2002, of which most of the sales to Lucent related to an end of
life sale. On September 1, 2001, Lucent transitioned a segment of their
manufacturing operations at Columbus, Ohio to Celestica. Celestica is based in
Toronto, Canada. On September 1, 2001 Lucent also transferred most of their open
purchase orders with the Company to Celestica.
Gross Profit (Loss) and Cost of Goods Sold
Gross profit decreased $12,697,000 in 2002 from $10,372,000 in 2001 to
$(2,326,000) in 2002. Gross margin decreased to approximately (10%) in 2002 from
approximately 19% in 2001. The decrease in gross profit is a result of the
decrease in net sales, under utilization of the manufacturing facility, the
write-down in inventory, a drop in demand in the telecommunications industry.
The closing and consolidation of the Bensenville facility into the West Chicago
facility also allowed the Company to reduce personnel from approximately 180
employees during the second quarter of 2002 to approximately 116 employees at
year ended December 31, 2002. The reduction included both hourly and salary
employees.
During 2002, one manufacturer accounted for approximately 24% of the printed
circuit boards supplied to the Company compared to 60% in 2001. The Company has
a total reserve for inventory obsolescence of $874,000 at December 31, 2002 and
$2,027,000 at December 31, 2001. Substantially all of the reserve for inventory
obsolescence is related to specific inventory. The inventory obsolescence
reserve requires the use of estimates. The Company believes the techniques and
assumptions used in establishing the reserve is appropriate. See Financial
Statement Schedules on page 31.
Operating Expenses
General and administrative expenses were $2,471,000 or 11.0% of net sales in
2002, compared to $2,722,000 or 5.0% of net sales in 2001. General and
administrative expenses consist primarily of salaries and benefits, professional
services, depreciation of office equipment, computer systems and occupancy
expenses. Payroll related expenses were down $399,000 due to a reduction in
staff and bonus paid to administrative personnel. Professional services were up
approximately $129,000. The Company also expensed $289,000 in 2002 of initial
costs related to the Industrial Revenue Bond.
24
Selling and marketing expenses were $1,528,000 or 6.8% of net sales in 2002,
compared to $1,536,000 or 2.8% of net sales in 2001. Selling and marketing
expenses include the cost of salaries, advertising and promoting the Company's
products and the commissions paid to independent sales organizations. Payroll
related expenses were up $352,000 with the addition of two regional sales
managers and support staff. Commissions paid to independent sales organizations
were down $436,000.
Restructuring expenses were $1,752,000 or 7.8% of net sales in 2002.
Restructuring expenses include costs associated with the closing, cleanup and
the future disposition of the Bensenville facilities.
Operating Loss
Operating loss was $8,077,000 or 35.9% of net sales in 2002, compared to an
operating income of $6,113,000 or 11.1% of net sales in 2001. The change in
operating income can be summarized as follows:
Decrease in net sales ($ 6,122,000)
Decrease in gross margin (6,576,000)
Decrease in operating expenses (1,492,000)
------------
Decrease in operating income ($14,190,000)
============
Interest Income
Interest income from short-term investments was $195,000 in 2002 compared to
$112,000 in 2001.
Interest Expense
Interest expense, primarily related to new borrowings for the West Chicago
facility, was $334,000 in 2002 compared to $425,000 in 2001.
Rental Income
Rental income, primarily relating to the P C Dynamics facility, was $176,000 in
2001. The Company sold the P C Dynamics facility in the fourth quarter of 2001.
Gain on Disposal of Fixed Assets
The Company recorded a loss of $96,000 in 2002 relating to the sale of assets in
the Bensenville facility. The Company recorded a gain of $291,000 relating to
the sale of the P C Dynamics facility in the fourth quarter of 2001.
Income Taxes
The Company had an effective tax credit of 39.5% in 2002 compared to an
effective tax rate of 39.4% in 2001.
LIQUIDITY AND CAPITAL RESOURCES
The Company completed a material restructuring of its balance sheet and
operations in February 2004. See Item 1. Business, above.
Net cash provided by operations was $1,315,000, $1,516,000 and $11,410,000 in
2003, 2002 and 2001, respectively. Inventories decreased $1,169,000 at year
ended December 31, 2003, as the Company exited direct domestic manufacturing by
using operating and strategic partnerships with ASC and Asian printed circuit
board manufacturers. Accounts receivable were up $449,000 due to increased sales
in the fourth quarter of 2003 compared to the fourth quarter of 2002. Days sales
25
outstanding is at 55 days, 51 days and 58 days at December 31, 2003, 2002 and
2001, respectively. Depreciation and amortization in 2003 was $592,000, down
$854,000 from 2002 and down $775,000 from 2001. The Company recorded impairment
of building, plant and equipment in 2003 of $7,452,000 that reduced depreciation
expense in 2003. Accounts Payable was up $658,000 over 2002 and $1,253,000 over
2001. The Company received Income Tax refunds of approximately $4,510,000 in
2003. Purchases of property, plant and equipment were $54,000, $2,997,000, and
$7,558,000 in 2003, 2002 and 2001, respectively. The Company purchased a new
facility located in West Chicago in 2000 at a cost of approximately $1,600,000.
Capital expenditures relating to the new West Chicago Facility were $2,856,000
in 2002 and $6,374,000 in 2001. The Company plans for minimal capital
expenditures in 2004 as a result of exiting manufacturing.
Working Capital
Recoverability of a major portion of the recorded asset amounts shown in the
accompanying balance sheet is dependent upon continued operations of the
company, which in turn is dependent upon the Company's ability to fund working
capital and anticipated capital expenditures, subject to general economic,
financial, competitive and other factors that are beyond its control. The
Company's ability to fund operating activities is also dependent upon (a) the
Company's anticipated receipt of approximately $0.7 million in Federal tax
refunds in April (b) proceeds of anticipated sales of fixed assets no longer
required at the Company's Bensenville facility, (c) the Company's ability to
effectively manage its expenses in relation to revenues, (d) the Company's
ability to continue to execute on its plans with vendors for reduction of
outstanding balances in excess of payments made and (e) the Company's ability to
access external sources of financing. In addition, the Company is continuing its
efforts to sell its prior plant and improvements located in Bensenville,
Illinois as soon as practicable.
Based upon the current level of operations and anticipated growth, management
believes that future cash flow from operations, receipt of the aforementioned
tax refunds, proceeds from the sale of certain fixed assets, vendor payable
reductions and funds obtained from a bridge receivables purchasing facility
through Silicon Valley Bank (SVB) on March 31, 2004 will be adequate to meet its
anticipated liquidity requirements over the next 12 months. In connection with
the SVB bridge receivables purchasing facility the Company expects to further
negotiate with SVB for a permanent $2.5 million revolving credit facility to
replace the bridge facility, as contemplated therein. [see details below].
Financing - Subsequent Event
On March 31, 2004 Silicon Valley Bank, N.A. (Bank) and the Company entered into
the first of a two-step financing known as "Mini ABL" that will commence with an
accounts receivable purchase facility. Under the facility, the Company can sell
to the Bank, subject to Bank approval, up to 85% of the face value of approved
invoices to a maximum of $2.5 million. The cost of the facility includes a 1/2%
one-time discount, plus Prime rate plus 2.5 percent of interest. The Company and
the Bank signed the Mini ABL agreement March 31, 2004. The initial proceeds to
the Company were is $1.27 million.
The proposed funding, if consummated, will be 85% advances against eligible
accounts receivable with a $500k sub-limit on pre-sold inventory that does not
exceed 33% of the total funding of $2.5 million. Contracts and Obligations
Contracts and Obligations
Under the terms of the Strategic Operating Alliance), so long as the Company is
outsourcing manufacturing to ASC, the Company has certain contracts and
continuing obligations to ASC, for the payment of various outsourcing expenses.
It also has a five-year lease for its administrative offices, testing and
shipping departments at the West Chicago location. In total these obligations
approximate $41,000 monthly. The SOA, itself, is a renewable two-year agreement
commencing February 2004.
Additionally, under the terms of the first receivable financing facility with
Silicon Valley Bank (SVB), known as "Mini ABL", the Company has a contract to
sell, subject to Bank approval, up to $2.5 million of its approved accounts
receivable invoices at a discount from face value of 1/2% but conditionally
reduced 0.25% upon the achievement of operating profits of $200,000 by the end
of the initial six
26
months. The contract rate of interest is SVB's prime borrowing rate plus 2%. The
term of the agreement is one year.
Inflation
Management believes inflation has not had a material effect on the Company's
operation or on its financial position.
NEW ACCOUNTING STANDARDS
In January 2003, the FASB issued Interpretation No. 46 (FIN No. 46),
"Consolidation of Variable Interest Entities." This is an interpretation of
Accounting Research Bulletin No. 51, and addresses consolidation by business
enterprises of variable interest entities, which have certain characteristics.
FIN No. 46 applies immediately to variable interest entities created after
January 31, 2003, and to variable interest entities in which an enterprise
obtains 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. FIN No. 46 applies to public enterprises as of the beginning of the
applicable interim or annual period, and it applies to nonpublic enterprises as
of the end of the applicable annual period. FIN No. 46 may be applied
prospectively with a cumulative-effect adjustment as of the date on which it is
first applied or by restating previously issued financial statements for one or
more years with a cumulative-effect adjustment as of the beginning of the first
year restated
In December 2003, FIN 46(R) was issued. There are multiple effective dates for
initially applying FIN 46(R), some of which defer the application of FIN 46 (if
it had not been applied as of December 24, 2003), based on whether the reporting
enterprise is a public or nonpublic enterprise and the nature of the variable
interest entity (VIE). For purposes of FIN 46(R), a public company is any entity
(a) whose equity securities are traded in a public market, (b) that makes a
filing with a regulatory agency in preparation for the sale of its equity
securities in a public market, or (c) is controlled by an entity covered by (a)
or (b). FIN 46(R) should be applied as follows:
- - for all enterprises:
- A disclosure is required in financial statements issued after December
31, 2003, if it is reasonably possible the reporting enterprise will
consolidate or disclose information about a VIE when FIN 46(R) becomes
effective
- - for reporting enterprises that are public entities:
- FIN 46 or FIN 46(R) should be applied to entities considered to be
special-purpose entities (SPEs) no later than as of the end of the
first reporting period ending after December 15, 2003 (as of December
31, 2003 for a calendar-year reporting enterprise). For this purpose,
SPEs are entities that would have previously been accounted for under
EITF Issue 90-15, "Impact of Nonsubstantive Lessors, Residual Value
Guarantees, and Other Provisions in Leasing Transactions," EITF Issue
96-21, "Implementation Issues in Accounting for Leasing Transactions
involving Special-Purpose Entities," EITF Issue 97-1, "Implementation
Issues in Accounting for Lease Transactions, including Those involving
Special-Purpose Entities," and EITF Topic D-14, "Transactions
involving Special-Purpose Entities." SPEs within the scope of this
transition provision include any entity whose activities are primarily
related to securitizations or other forms of asset-backed financings
or single-lessee leasing arrangements.
- FIN 46(R) should be applied to all entities within its scope by the
end of the first reporting period that ends after
- March 15, 2004, for reporting enterprises that are not small
business issuers (as defined by the SEC), that is, as of March
31, 2004 for calendar-year reporting enterprises
- December 15, 2004, for reporting enterprises that are small
business issuers (that is, as of December 31, 2004 for
calendar-year reporting enterprises).
27
The Company does not expect that adoption of this interpretation will have a
material effect on its results of operations or financial position.
In December 2002, The FASB SFAS No. 148, "Accounting for Stock-Based
Compensation -- Transition and Disclosure -- an amendment of FASB Statement No.
123. This Statement amends SFAS No. 123, "Accounting for Stock-based
Compensation," to provide alternative methods of transition for a voluntary
change to the fair value method of accounting for stock-based employee
compensation. In addition, this Statement amends the disclosure requirements of
SFAS No. 123 to require more prominent disclosures in both the annual and
interim financial statements about the method of accounting for stock-based
employee compensation and the effect of the method on reported amounts. The
amendments to SFAS 123 in paragraphs 2(a)-2(e) of this Statement are effective
for financial statements for fiscal years ending after December 15, 2002. The
Company does not expect that adoption of this statement will have a material
effect on its results of operations or financial position.
In April 2003, the FASB issued Statement of Financial Accounting Standards
("SFAS") No. 149, "Amendment of Statement 133 on Derivative Instruments and
Hedging Activities." SFAS No. 149 amends and clarifies financial accounting and
reporting for derivative instruments, including certain derivative instruments
embedded in other contracts and for hedging activities under SFAS No. 133,
"Accounting for Derivative instruments and Hedging Activities." SFAS No. 149 is
effective for contracts entered into or modified after June 30, 2003. The
Company believes that the adoption of SFAS No. 149 will not have a material
impact on the Company's results of operations or financial position.
In May 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. In
November 2003, the FASB issued FASB Staff Position Number 150-3, which deferred
indefinitely the effective date of SFAS No. 150 as it relates to certain
mandatory redeemable non-controlling interests. SFAS No. 150 was effective at
the beginning of the first interim period beginning after June 15, 2003. The
Company believes that the adoption of SFAS No. 150 will not have a material
impact on the Company's results of operations or financial position.
Foreign Currency Transactions
All of the Company's foreign transactions are negotiated, invoiced and paid in
United States dollars.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
None
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Consolidated financial statements and the related notes for each of the three
years in the period ended December 31, 2003 are filed in response to this Item
pursuant to Item 15.
The supplementary data regarding quarterly results of operations, set forth
under the caption "Selected Quarterly Financial Data (Unaudited)" following the
aforementioned consolidated financial statements, are incorporated herein by
reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
ITEM 9A. CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures
28
The Company's Chief Executive Officer, and its Chief Financial Officer, have
reviewed and evaluated the effectiveness of the Company's disclosure controls
and procedures (as defined in the Securities Exchange Act of 1934 Rules
13a-14(c) and 15d-14(c)) as of a date within 90 days of the filing date of this
annual report on Form 10-K (the "Evaluation Date"). Based on their review and
evaluation, the Chief Executive Officer, and Chief Financial Officer have
concluded that, as of the Evaluation Date, the Company's disclosure controls and
procedures were adequate and effective to ensure that material information
relating to the Company and its consolidated subsidiaries would be made known to
them by others within those entities in a timely manner, particularly during the
period in which this annual report on Form 10-K was being prepared, and that no
changes are required at this time.
29
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information required by this Item with respect to Executive Officers of the
Company is set forth in Part I, Item 4 and is incorporated herein by this
reference. Information required by this Item with respect to members of the
Board of Directors of the Company will be contained in the Proxy Statement for
the 2004 Annual Meeting of Stockholders (the "2004 Proxy Statement"), and is
incorporated herein by this reference.
ITEM 11. EXECUTIVE COMPENSATION
Information required by this Item will be contained in the 2004 Proxy Statement
and is incorporated herein by this reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information required by this Item will be contained in the 2004 Proxy Statement
and is incorporated herein by this reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information required by this Item will be contained in the 2004 Proxy Statement
and is incorporated herein by this reference.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Information required by this Item will be contained in the 2004 Proxy Statement
and is incorporated herein by this reference.
30
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) 1. Financial Statements
Page in the
Form 10-K
---------
Independent Certified Public Accountants Report 32
Consolidated Balance Sheets
December 31, 2003 and 2002 33
Consolidated Statements of Operations
Years Ended December 31, 2003, 2002 and 2001 34
Consolidated Statements of Stockholders' Equity
Years Ended December 31, 2003, 2002 and 2001 35
Consolidated Statements of Cash Flows
Years Ended December 31, 2003, 2002 and 2001 36-37
Notes to Consolidated Financial Statements 38-52
Selected Quarterly Financial Data (Unaudited) 53
Subsidiaries 60
(a) 2. Exhibits
The exhibits filed herewith are set forth on the Index to Exhibits
filed as part of this report.
(b) Reports on Form 8-K
- A current report on Form 8-K was filed on October 14, 2003, disclosing
under item 5, renewal of engagement with turnaround advisor, new
secured short-term loan with Bank One, N. A., re-negotiation of a
significant amount of delinquent trade debt and other matters.
- A current report on Form 8-K was filed on December 23, 2003,
disclosing under item 5, development in its Restructuring an other
matters.
- A current report on Form 8-K was filed on January 30, 2004, disclosing
under item 5, update in the Company's Restructuring and other matters.
- A current report on Form 8-K was filed on February 10, 2004,
disclosing under item 5, Strategic Operating Alliance, major
restructuring of the Company's Balance Sheet and other matters.
31
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors
M~Wave, Inc.
We have audited the accompanying consolidated balance sheets of M~Wave, Inc. and
Subsidiaries as of December 31, 2003 and 2002, and the related consolidated
statements of operations, stockholders' equity, and cash flows for each of the
three years in the period ended December 31, 2003. These financial statements
are the responsibility of the management of M~Wave, Inc. Our responsibility is
to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of M~Wave, Inc. and Subsidiaries
as of December 31, 2003 and 2002, and the consolidated results of their
operations and their consolidated cash flows for each of the three years in the
period ended December 31, 2003, in conformity with accounting principles
generally accepted in the United States of America.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note 3 to the
financial statements, the Company incurred a loss during year ended December 31,
2003, and as of that date, the Company's current liabilities exceeded its
current assets. These factors, among others, as described in Note 3, raise
substantial doubt about the Company's ability to continue as a going concern.
The financial statements do not include any adjustments that might result from
the outcome of this uncertainty.
GRANT THORNTON LLP
Chicago, Illinois
March 26, 2004(except for footnotes 3 and 7, as of March 31, 2004)
32
M~WAVE, Inc. and Subsidiaries
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 2003 AND 2002
2003 2002
---- ----
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 249,343 $ 1,514,509
Accounts receivable, net of $100,000 allowance
for doubtful accounts: 2,351,027 1,901,999
Inventories (net of reserves) 587,179 1,756,641
Refundable income taxes 685,418 4,446,010
Deferred income taxes 0 748,457
Prepaid expenses and other assets 21,499 31,582
Restricted cash 0 348,731
------------ ------------
Total current assets 3,894,466 10,747,929
PROPERTY, PLANT AND EQUIPMENT:
Land, buildings and improvements 2,745,939 5,522,765
Machinery and equipment 1,928,600 9,248,688
------------ ------------
Total property, plant and equipment 4,674,539 14,771,453
Less accumulated depreciation 85,715 2,760,441
------------ ------------
Property, plant and equipment - net 4,588,824 12,011,012
ASSETS TO BE DISPOSED OF 0 568,701
------------ ------------
TOTAL $ 8,483,290 $ 23,327,642
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 4,364,888 $ 3,707,327
Accrued expenses 1,039,282 1,316,579
Current portion of long-term debt 2,457,073 5,017,629
------------ ------------
Total current liabilities 7,861,243 10,041,535
DEFERRED INCOME TAXES 0 616,785
STOCKHOLDERS' EQUITY:
Preferred stock, $.01 par value; authorized, 1,000,000
shares; no shares issued 0 0
Common stock, $.005 par value; authorized, 10,000,000
shares; 6,179,112 shares issued and 4,443,294
shares outstanding at December 31, 2003 and
December 31, 2002 30,895 30,895
Additional paid-in capital 8,439,072 8,439,072
Retained earnings (deficit) (5,562,750) 6,484,525
Treasury stock, at cost, 1,735,815 shares at December 31,
2003 and December 31,2002 (2,285,170) (2,285,170)
------------ ------------
Total stockholders' equity 759,248 12,669,322
------------ ------------
TOTAL $ 8,483,290 $ 23,327,642
============ ============
See notes to consolidated financial statements.
33
M~WAVE, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
2003 2002 2001
---- ---- ----
NET SALES $ 14,187,290 $ 22,467,683 $ 54,824,432
COST OF GOODS SOLD 15,949,946 24,793,538 44,452,838
------------ ------------ ------------
Gross (loss) profit (1,762,656) (2,325,855) 10,371,594
OPERATING EXPENSES:
General and administrative 2,394,422 2,471,153 2,722,392
Selling and marketing 1,345,022 1,527,551 1,536,411
Impairment of building and equipment 7,452,235 0 0
Restructuring expense 0 1,752,108 0
------------ ------------ ------------
Total operating expenses 11,191,679 5,750,812 4,258,803
------------ ------------ ------------
Operating (loss) income (12,954,335) (8,076,667) 6,112,791
OTHER INCOME (EXPENSE):
Interest income 164,477 194,624 112,392
Interest expense (176,149) (333,678) (424,661)
Rental income 0 0 176,800
Debt forgiveness 265,000 0 0
Gain (loss) on disposal of equipment 34,272 (95,632 291,122
------------ ------------ ------------
Total other income (expense), net 287,600 (234,686) 155,653
------------ ------------ ------------
(LOSS) INCOME BEFORE INCOME TAXES (12,666,735) (8,311,353) 6,268,444
Income tax (benefit) expense (619,560) (3,283,806) 2,471,655
------------ ------------ ------------
NET (LOSS) INCOME $(12,047,275) $ (5,027,547) $ 3,796,789
============ ============ ============
Weighted average shares outstanding 4,443,294 4,447,859 4,536,204
============ ============ ============
BASIC (LOSS) EARNINGS PER SHARE $ (2.71) $ (1.13) $ 0.84
============ ============ ============
Diluted shares outstanding 4,443,294 4,447,859 4,565,021
============ ============ ============
DILUTED (LOSS) EARNINGS PER SHARE $ (2.71) $ (1.13) $ 0.83
============ ============ ============
See notes to consolidated financial statements.
34
M~WAVE, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
Additional Total
Common Paid-in Retained Treasury Stockholders'
Stock Capital Earnings (Deficit) Stock Equity
----- ------- ------------------ ----- ------
BALANCE
JANUARY 1, 2001 $ 30,895 $ 8,439,072 $ 7,715,283 $ (1,679,274) $ 14,505,976
Treasury stock purchased:
115,887 shares 0 0 0 (548,005) (548,005)
Net income 0 0 3,796,789 0 3,796,789
------------ ----------- ------------- -------------- --------------
BALANCE
DECEMBER 31,2001 $ 30,895 $ 8,439,072 $ 11,512,072 $ (2,227,279) $ 17,754,760
Treasury stock purchased:
13,000 shares 0 0 0 (57,891) (57,891)
Net loss 0 0 (5,027,547) 0 (5,027,547)
------------ ----------- ------------- -------------- --------------
BALANCE
DECEMBER 31,2002 $ 30,895 $ 8,439,072 $ 6,484,525 $ (2,285,170) $ 12,669,322
Net loss 0 0 (12,047,275) 0 (12,047,275)
------------ ----------- ------------- -------------- --------------
BALANCE
DECEMBER 31,2003 $ 30,895 $ 8,439,072 $ (5,562,750) $ (2,285,170) $ 622,047
============ =========== ============= ============== ==============
See notes to consolidated financial statements.
35
M~WAVE, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
2003 2002 2001
CASH FLOWS FROM OPERATING ACTIVITIES:
Net (loss) income $(12,047,275) $ (5,027,547) $ 3,796,789
(Gain) loss on disposal of equipment (34,272) 1,361,740 (291,122)
Depreciation and amortization 592,315 1,446,348 1,367,276
Debt forgiveness 265,000 0 0
Impairment of buildings and equipment 7,452,235 0 0
Reserve for notes receivable 0 0 195,391
Deferred income taxes 131,672 518,142 (54,165)
Changes in assets and liabilities:
Accounts receivable (449,028) 7,772,673 2,904,094
Inventory 1,169,462 (192,633) 7,295,787
Prepaid expenses and other assets 10,083 405,762 (334,741)
Restricted cash 348,731 255,758 (604,489)
Accounts payable 392,561 594,957 (3,404,171
Accrued expenses (277,297) (1,019,954) 533,059
Income taxes 3,760,592 (4,598,941) 6,664
------------ ------------ ------------
Net cash flows provided by operating
activities 1,314,779 1,516,304 11,410,352
------------ ------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property, plant and equipment (53,661) (2,997,023) (7,558,146)
Proceeds on sale of fixed assets 34,272 55,000 0
Proceeds from sale of PC Dynamics net property,
plant and equipment 0 0 2,341,376
------------ ------------ ------------
activities (19,389) (2,942,023) (5,216,770)
------------ ------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Credit line debt 0 0 (5,500,000)
Proceeds from long-term debt 0 2,302,623 3,955,859
Purchase of treasury stock 0 (57,891) (548,005)
Repayment of short and long-term debt (2,560,556) (1,407,288) (3,229,651)
------------ ------------ ------------
Net cash flows (used in) provided by
financing activities (2,560,556) 837,444 (5,321,797)
------------ ------------ ------------
NET (DECREASE) INCREASE IN CASH AND CASH
EQUIVALENTS (1,265,166) (588,275) 871,785
CASH AND CASH EQUIVALENTS:
Beginning of year 1,514,509 2,102,784 1,230,999
------------ ------------ ------------
End of year $ 249,343 $ 1,514,509 $ 2,102,784
============ ============ ============
36
SUPPLEMENTAL DISCLOSURES OF
CASH FLOW INFORMATION:
2003 2002 2001
---- ---- ----
Cash paid during the year for:
Interest $ 176,149 $ 333,678 $ 424,661
Income tax refunds (payments) 4,511,723 (720,000) (2,520,133)
See notes to consolidated financial statements.
37
M~WAVE, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
1. ORGANIZATION AND OPERATIONS
M~Wave, Inc. ("M~Wave"), a Delaware corporation, was formed on January 31,
1992.
M~Wave, Inc., currently operating through its wholly-owned subsidiary Poly
Circuits, Inc. (the "Company"), is a value-added service provider of high
performance printed circuit boards used in a variety of telecommunications
applications for wireless and internet communications and digital
applications. M~Wave satisfies its customers needs for high performance
printed circuit boards by outsourcing and coordinating the manufacture of
such boards by unaffiliated manufacturers. ("Virtual Manufacturing")
2. SIGNIFICANT ACCOUNTING POLICIES
Use of Estimates - The preparation of financial statements in conformity
with generally accepted accounting principles in the United States of
America requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements and the
reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Principles of Consolidation - The consolidated financial statements include
the accounts of M~Wave and its wholly owned subsidiaries. Significant
intercompany transactions and account balances have been eliminated.
Revenue Recognition - The Company recognizes revenue when product is
shipped to customers. The Company recognizes revenue for consignment
inventory products when the Customer uses the consigned inventory.
Cash and Cash Equivalents - Cash and cash equivalents comprise cash in
banks and highly liquid investments that are both readily convertible to
known amounts of cash or purchased with maturity of three months or less.
Accounts Receivable - The majority of the Company's accounts receivable are
due from companies in the telecommunications industries. Credit is extended
based on evaluation of a customers' financial condition and, generally,
collateral is not required. Accounts receivable are due within 30 days and
are stated at amounts due from customers net of an allowance for doubtful
accounts. The Company determines its allowance by considering a number of
factors, including the length of time trade accounts receivable are past
due, the Company's previous loss history, the customer's current ability to
pay its obligation to the Company, and the condition of the general economy
and the industry as a whole. The Company writes-off accounts receivable
when they become uncollectible, and payments subsequently received on such
receivables are credited to the allowance for doubtful accounts.
Allowance for Doubtful Accounts
2003 2002
---- ----
Beginning Balance $ 100,000 $ 100,000
Charged to Costs and Expense 22,872 5,048
Deductions (22,872) (5,048)
--------- ---------
Ending Balance $ 100,000 $ 100,000
========= =========
38
Inventories - Inventories are carried at the lower of first-in, first-out
(FIFO) cost or market. Substantially all the Company's inventories are
finished goods.
Restricted Cash - In connection with the Industrial Revenue Bond the
Company was required to make quarterly sinking fund payments of $325,000
per quarter. Beginning September 2002, and continuing each quarter
thereafter, the balance in the sinking fund was disbursed to the
bondholders. The Industrial Revenue Bond was replaced on October 1, 2003
with a short-term loan with Bank One, N.A.
Derivative Instruments - The Company entered into a $4,000,000 interest
rate swap agreement as a means of managing its interest rate exposure under
its Industrial Revenue Bond. The agreement had the effect of converting the
variable rate to a fixed rate. The interest rate swap agreement was not
designated as a hedging instrument. This contract was accounted for by
adjusting the carrying amount of the contract to market and recognizing the
gain or loss in interest expense. The swap agreement was terminated in
third quarter of 2003. In 2003, 2002 and 2001 mark to market interest
expense was $0, $92,723 and $20,308, respectively.
Property, Plant and Equipment - Property, plant and equipment are recorded
at cost. The Company calculates depreciation using the straight-line method
at annual rates as follows:
Building and improvements 3% to 20%
Machinery and equipment 10% to 20%
Fair Value of Financial Instruments - The fair value of financial
instruments are not materially different from their carrying values.
Income Taxes - Deferred tax assets and liabilities are recognized for the
future tax consequences attributable to differences between financial
statement carrying amounts of existing assets and liabilities and their
respective tax basis at enacted tax rates when such amounts are expected to
be realized or settled.
Stock Incentive Plans - The Company maintains a stock incentive plan. See
Note 11 for additional information regarding this plan. The Company
accounts for this plan under the recognition and measurement principles of
Accounting Board Opinion No. 25, "Accounting for Stock Issued to
Employees," and related interpretations. No compensation cost is recognized
for stock option grants. All options granted under the Company's plans had
an exercise price equal to the market value of the underlying common stock
on the date of the grant. The following table illustrates the effect of net
income and earnings per share if the Company had applied the fair value
recognition provisions of Financial Accounting Standards (SFAS) No. 123,
"Accounting for Stock-Based Compensation," to stock-based compensation. The
following table also provides the amount of stock-based compensation cost
included in net income as reported.
For the Years Ended December 31,
2003 2002 2001
---- ---- ----
Net income (loss) as reported $(12,047,275) $(5,027,547) $3,796,789
Deduct: Total stock-based employee
compensation expense determined
under the fair value based method
for all awards, net of related tax. 291,943 467,048 229,677
------------ ----------- ----------
Pro forma net income (loss) $(12,339,218) $(5,494,595) $3,567,112
Earnings per share:
Basic - as reported $ (2.71) $ (1.13) $ 0.84
Basic - pro forma (2.78) (1.24) 0.79
Diluted - as reported (2.71) (1.13) 0.83
Diluted - pro forma (2.78) (1.24) 0.78
39
Shipping and Handling Fees and Costs - In September 2000, the Emerging
Issues Task Force ("EITF") released Issue No.00-10, "Accounting for
Shipping and Handling Fees and Costs". The Issue requires that shipping and
handling costs be classified as costs of goods sold, and shipping and
handling fees billed to customers be classified as revenues.
Effective for the year ended December 31, 2001, the Company has classified
all shipping and handling fees billed to customers as net sales for all
periods presented.
Net Earnings (Loss) Per Share - The Company's basic net earnings (loss) per
share amounts have been computed by dividing net earnings (loss) by the
weighted average number of outstanding common shares. The Company's diluted
net earnings (loss) per share is computed by dividing net earnings (loss)
by the weighted average number of outstanding common shares and common
share equivalents relating to stock options, when dilutive, based on
cumulative year-to-date net earnings or losses.
New Accounting Standards -In January 2003, the FASB issued Interpretation
No. 46 (FIN No. 46), "Consolidation of Variable Interest Entities." This is
an interpretation of Accounting Research Bulletin No. 51, and addresses
consolidation by business enterprises of variable interest entities, which
have certain characteristics. FIN No. 46 applies immediately to variable
interest entities created after January 31, 2003, and to variable interest
entities in which an enterprise obtains 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. FIN No. 46 applies to
public enterprises as of the beginning of the applicable interim or annual
period, and it applies to nonpublic enterprises as of the end of the
applicable annual period. FIN No. 46 may be applied prospectively with a
cumulative-effect adjustment as of the date on which it is first applied or
by restating previously issued financial statements for one or more years
with a cumulative-effect adjustment as of the beginning of the first year
restated
In March 2003, FIN 46(R) was issued. There are multiple effective dates for
initially applying FIN 46(R), some of which defer the application of FIN 46
(if it had not been applied as of December 24, 2003), based on whether the
reporting enterprise is a public or nonpublic enterprise and the nature of
the variable interest entity (VIE). For purposes of FIN 46(R), a public
company is any entity (a) whose equity securities are traded in a public
market, (b) that makes a filing with a regulatory agency in preparation for
the sale of its equity securities in a public market, or (c) is controlled
by an entity covered by (a) or (b). FIN 46(R) should be applied as follows:
- - for all enterprises:
- - A disclosure is required in financial statements issued after December
31, 2003, if it is reasonably possible the reporting enterprise will
consolidate or disclose information about a VIE when FIN 46(R) becomes
effective
- - for reporting enterprises that are public entities:
- - FIN 46 or FIN 46(R) should be applied to entities considered to be
special-purpose entities (SPEs) no later than as of the end of the first
reporting period ending after December 15, 2003 (as of December 31, 2003
for a calendar-year reporting enterprise). For this purpose, SPEs are
entities that would have previously been accounted for under EITF Issue
90-15, "Impact of Nonsubstantive Lessors, Residual Value Guarantees, and
Other Provisions in Leasing Transactions," EITF Issue 96-21,
"Implementation Issues in Accounting for Leasing Transactions involving
Special-Purpose Entities," EITF Issue 97-1, "Implementation Issues in
Accounting for Lease Transactions, including Those involving
Special-Purpose Entities," and EITF Topic D-14, "Transactions involving
Special-Purpose Entities." SPEs within the scope of this transition
40
provision include any entity whose activities are primarily related to
securitizations or other forms of asset-backed financings or single-lessee
leasing arrangements.
- - FIN 46(R) should be applied to all entities within its scope by the
end of the first reporting period that ends after
- - March 15, 2004, for reporting enterprises that are not small business
issuers (as defined by the SEC), that is, as of March 31, 2004 for
calendar-year reporting enterprises
- - December 15, 2004, for reporting enterprises that are small business
issuers (that is, as of December 31, 2004 for calendar-year reporting
enterprises).
The Company does not expect that adoption of this interpretation will have
a material effect on its results of operations or financial position.
In December 2002, The FASB SFAS No. 148, "Accounting for Stock-Based
Compensation -- Transition and Disclosure -- an amendment of FASB Statement
No. 123. This Statement amends SFAS No. 123, "Accounting for Stock-based
Compensation," to provide alternative methods of transition for a voluntary
change to the fair value method of accounting for stock-based employee
compensation. In addition, this Statement amends the disclosure
requirements of SFAS No. 123 to require more prominent disclosures in both
the annual and interim financial statements about the method of accounting
for stock-based employee compensation and the effect of the method on
reported amounts. The amendments to SFAS 123 in paragraphs 2(a)-2(e) of
this Statement are effective for financial statements for fiscal years
ending after December 15, 2002. The Company does not expect that adoption
of this statement will have a material effect on its results of operations
or financial position.
In April 2003, the FASB issued Statement of Financial Accounting Standards
("SFAS") No. 149, "Amendment of Statement 133 on Derivative Instruments and
Hedging Activities." SFAS No. 149 amends and clarifies financial accounting
and reporting for derivative instruments, including certain derivative
instruments embedded in other contracts and for hedging activities under
SFAS No. 133, "Accounting for Derivative instruments and Hedging
Activities." SFAS No. 149 is effective for contracts entered into or
modified after June 30, 2003. The Company believes that the adoption of
SFAS No. 149 will not have a material impact on the Company's results of
operations or financial position.
In May 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. In November 2003, the FASB issued FASB Staff
Position Number 150-3, which deferred indefinitely the effective date of
SFAS No. 150 as it relates to certain mandatorily redeemable
non-controlling interests. SFAS No. 150 was effective at the beginning of
the first interim period beginning after June 15, 2003. The Company
believes that the adoption of SFAS No. 150 will not have a material impact
on the Company's results of operations or financial position.
Long Lived Assets - In August 2001, the FASB issued SFAS No. 144,
"Accounting for the Impairment of long-lived Assets." SFAS No. 144 is
effective for fiscal years beginning after December 15, 2001, and addresses
financial accounting and reporting for the impairment or disposal of
long-lived assets. This statement supersedes SFAS No. 121 "Accounting for
the Impairment of long-lived Assets and for long-lived Assets to Be
Disposed Of," and the accounting and reporting provisions of Accounting
Principles Board Opinion No. 30, "Reporting the Results of
Operations-Reporting the Effects of Disposal of a Segment of a Business,
and Extraordinary, Unusual and Infrequent Occurring Events and
Transactions," for the disposal of a segment of a business. In accordance
with the provisions of this standard, the Company recorded impairment of
building, plant and equipment charges in 2003 of $7,452,000.
Basis of Presentation - Certain prior year amounts have been reclassified
to conform with the 2003 presentation.
41
3 REALIZATION OF ASSETS
The accompanying financial statements have been prepared in conformity with
accounting principles generally accepted in the United States of America, which
contemplate continuation of the Company as a going concern. However, the Company
has sustained substantial losses from operations in 2002 and 2003. The financial
statements do not include any adjustments relating to the recoverability or
classification of recorded assets and liabilities that might be necessary should
the Company be unable to continue as a going concern.
In view of the matters described in the preceding paragraph, recoverability of a
major portion of the recorded asset amounts shown in the accompanying balance
sheet is dependent upon continued operations of the company, which in turn is
dependent upon the Company's ability to fund working capital and anticipated
capital expenditures, subject to general economic, financial, competitive and
other factors that are beyond its control. The Company's ability to fund
operating activities is also dependent upon (a) the Company's anticipated
receipt of approximately $0.7 million in Federal tax refunds in April (b)
proceeds of anticipated sales of fixed assets no longer required at the
Company's Bensenville facility, (c) the Company's ability to effectively manage
its expenses in relation to revenues, (d) the Company's ability to continue to
execute on its plans with vendors for reduction of outstanding balances in
excess of payments made and (e) the Company's ability to access external sources
of financing. In addition, the Company is continuing its efforts to sell its
prior plant and improvements located in Bensenville, Illinois as soon as
practicable.
Based upon the current level of operations and anticipated growth, management
believes that future cash flow from operations, receipt of the aforementioned
tax refunds, proceeds from the sale of certain fixed assets, vendor payables
reductions and funds obtained from a bridge receivables purchasing facility
through Silicon Valley Bank (SVB) on March 31, 2004 (as described below) will be
adequate to meet its anticipated liquidity requirements over the next 12 months.
Financing
On March 31, 2004, Silicon Valley Bank, N.A. (Bank) and the Company entered into
the first of a two-step financing known as "Mini ABL" that will commence with an
accounts receivable purchase facility. Under the facility, the Company can sell
to the Bank, with Bank approval, up to 85% of the face value of approved
invoices to a maximum of $2.5 million. The cost of the facility includes a .5%
one-time discount, plus Prime rate plus 2.5 percent of interest. The Company and
the Bank signed the Mini ABL agreement March 31, 2004. The estimated initial
proceeds to the Company are $1.25 million.
The proposed funding, if consummated, will be 85% advances against eligible
accounts receivable with a $500k sub-limit on pre-sold inventory that does not
exceed 33% of the total funding of $2.5 million.
Contracts and Obligations
Under the terms of the SOA, so long as the Company is outsourcing domestic
manufacturing to ASC, has certain contracts and continuing obligations to ASC
for various outsourcing expenses. The Company has a five-year lease of its
administrative offices, testing and shipping departments in the West Chicago
facility. In total, these approximate $41,000 monthly. The SOA, itself, is a
renewable two-year agreement commencing February 2004.
Additionally, under the terms of the first receivable financing facility with
Silicon Valley Bank (SVB), known as "Mini ABL", the Company has a contract to
sell, subject to Bank approval, up to $2.5 million of its approved accounts
receivable invoices at a discount from face value of 1/2% but conditionally
reduced 0.25% upon the achievement of operating profits of $200,000 by the end
of the initial six months. The contract rate of interest is SVB's prime
borrowing rate plus 2%. The term of the agreement is one year.
42
4. INVENTORY
Inventories consisted of the following:
2003 2002
---- ----
Raw Materials $ 229,422 $ 543,094
Work in Process 0 2,088,013
Finished Goods 792,712 0
---------- ----------
Total Inventory 1,022,134 2,631,107
Less reserve for obsolete inventory (434,955) (874,466)
---------- ----------
Net Inventory $ 587,179 $1,756,641
========== ==========
Inventories are valued at the lower of cost or market value and include
materials, labor and manufacturing overhead. The Company writes down
inventory for estimated obsolescence or non-marketability equal to the
difference between the cost of the inventory and it's estimated market
value based on assumptions about future demand and market conditions. If
actual future demand or market conditions were to be less favorable than
projected, additional inventory write-downs may be required.
Reserve for Inventory Obsolescence
2003 2002
---- ----
Beginning Balance $ 874,466 $ 2,027,237
Charged to Costs and Expense 452,284 1,083,271
Deductions (891,795) (2,236,042)
----------- -----------
Ending Balance $ 434,955 $ 874,466
=========== ===========
5. SALE OF PC DYNAMICS CORPORATION
On March 25, 1999, PC Dynamics Corporation, a wholly owned subsidiary of
the Company, sold substantially all of its machinery and equipment,
inventory and accounts receivable and assigned substantially all of its
outstanding contracts and orders to Performance Interconnect Corp., a Texas
Corporation ("PIC"). The purchase price paid by PIC consisted of:
(i) $893,319 Cash
(ii) a promissory note in the principal amount of $773,479, payable
in nine (9) equal monthly installments commencing on July 1,
1999.
(iii) a promissory note in the principal amount of $293,025, payable
in monthly installments of $50,000 commencing on May 1, 1999
until paid. The Company has collected the full amount of this
note.
PC Dynamics and PIC also entered into a royalty agreement which provides
for PIC to pay PC Dynamics a royalty equal to 8.5% of the net invoice value
of certain microwave frequency components and circuit boards sold by PIC
for eighteen months following the closing. PIC shall not be required to pay
PC Dynamics in excess of $500,000 in aggregate royalty payments.
In addition, PC Dynamics has leased its facility in Texas to PIC for
$17,000 per month for three years. PIC has the right under the lease to
purchase the facility from PC Dynamics for $2,000,000 at anytime during the
term of the lease. If PIC exercises its right to purchase the facility, the
remaining balance due on the royalty agreement is payable in monthly
installments of $25,000 until a minimum of $500,000 is paid.
43
This agreement was amended in the third quarter of 1999 whereas the Company
agreed to revise the payment schedule for Promissory Note I from 9 equal
monthly installments to 30 equal monthly installments in return for not
pursuing the purchase of the facility in Texas. The Company has collected
$133,000 through December 31,2000. The royalty agreement was also revised
to $500,000 payable in equal monthly installments of $25,000 until paid.
The Company has collected $145,000 through December 31,2000.
On November 8, 2001, Performance Interconnect (PIC) exercised its right and
purchased the facility located in Frisco, Texas per the terms of the
agreement dated March 25, 1999. The Company also amended the Promissory
Note with Performance Interconnect whereas PIC agreed to pay the Company
$711,649 in 29 equal monthly installments of principal and interest (prime
plus 1%) of $10,140.69 commencing December 15, 2001 with the entire unpaid
balance of principal and interest due May 15, 2004. As of December 31,
2003, the Company collected approximately $264,000 per the terms of the new
agreement. All amounts due under these notes have been fully reserved at
December 31, 2001.
6. ACCRUED EXPENSES
Accrued expenses at December 31, 2003 and 2002 were comprised of:
2003 2002
---- ----
Reserve for sales returns $ 300,000 $ 300,000
Salaries and wages 109,095 282,073
Commissions 103,931 63,662
Professional fees 177,753 140,952
Property and other taxes 128,505 179,705
Other 219,998 350,187
---------- ----------
Total accrued expenses $1,039,282 $1,316,579
========== ==========
7. DEBT
The Company debt as of December 31, 2003 is described below.
Long-term debt is comprised of the following at December 31, 2003 and 2002:
(need new line items for 2003 debt as it is no longer the IRB and need
terms)
2003 2002
----- ----
Industrial Revenue Bond, for the purpose of
financing property, machinery and equipment
located in West Chicago, Illinois. The term is
20 years with the first payment due July, 2002 $ 0 $ 4,909,889
Bank loan, secured by substantially all the
assets of the Company, at prime plus 1/2%,
payable January 31, 2003 2,413,533 -
Installment note, collateralized by certain fixed
assets, at the prime rate, payable in monthly
principal installments of approximately $4,900
due October 31, 2004. 43,540 107,740
------------- -------------
2,457,073 5,017,629
Less current portion 2,457,073 5,017,629
------------- -------------
Total long-term debt $ 0 $ 0
============= =============
44
On July 26, 2001, the Company signed an agreement with the Illinois
Development Finance Authority to borrow up to a maximum $8,100,000 to
finance its facility in West Chicago, Illinois. Borrowings were disbursed,
in accordance with the agreement, to the Company. Interest is set on a
weekly basis, based upon the interest rates of comparable tax-exempt bonds
under prevailing market conditions. The interest rate at December 31, 2002
was 1.49%. The term of the bond is 20 years with the first payment of
$1,320,000 made in July 2002 and payments are due annually thereafter.
The terms of the Company's long-term bank debt represent the borrowing
rates currently available to the Company; accordingly, the fair value of
this debt approximates its carrying amount.
The mortgage notes are cross-defaulted and cross-collateralized. The credit
agreement, as amended May 15, 2001 requires the Company to maintain a
stipulated amount of tangible net worth and cash flow coverage ratio, as
defined. The Company was in default with the covenants at December 31,
2002. On March 31, 2003, the Company entered into a Forbearance Agreement
with Bank One, N. A., formerly known as American National Bank and Trust
Company of Chicago, pursuant to which the Company agreed to comply with all
the terms and conditions contained in the Forbearance Agreement and the
Bank agreed to forbear from the date of the agreement to August 31, 2003
from pursuing its rights under the Reimbursement Agreement (including the
right to declare the bond immediately due and payable) provided the Company
complies with all the terms and conditions contained in the Forbearance
Agreement. See attached exhibit 10.11. As the Forbearance Agreement
terminates on August 31, 2003, the balance of the debt outstanding is
presented as current.
On October 1, 2003, M-Wave entered into a new $2,413,533 loan with Bank
One, NA that was to mature on December 31, 2003, and will require monthly
payments of interest at the bank's prime rate. This loan replaces the
unpaid portion of the Industrial Revenue Bonds (IRB) that were used to fund
the acquisition of the land and construction of the Company's manufacturing
plant located in West Chicago, Illinois, and a related forbearance
agreement with the bank. Upon signing the new loan, the Company is no
longer in default of its obligations to the bank arising pursuant to the
IRB. Concurrent with the new loan, M-Wave paid $350,000 toward
then-outstanding principal obligations, and Bank One released liens
covering the Company's accounts receivable and inventory. Additional terms
of the loan include assigning Bank One a lien on the Company's real estate
and improvements located in Bensenville, IL, site of its former operations.
Bank One is to receive a payment of $650,000 upon sale of the Bensenville
assets, to be applied to the loan's principal. As of December 31, 2003, the
Company has not sold the Bensenville assets.
On December 22, 2003, Bank One, N.A. extended the maturity on the loan to
January 31, 2004.
In February 2004, the Company sold the West Chicago facility and Equipment
and used a portion of the proceeds to retire the entire debt of
approximately $2,457,000 with Bank One, N.A. The amount realized on the
sale of the facility and equipment approximated the recorded amounts at
December 31, 2003.
8. INCOME TAXES
The provision (benefit) for income taxes consists of:
2003 2002 2001
---- ---- ----
Current $ (751,132) $(3,801,948) $ 2,525,820
Deferred 131,672 518,142 (54,165)
----------- ----------- -----------
Total $ (619,460) $(3,283,806) $ 2,471,655
=========== =========== ===========
45
The primary components comprising the net deferred tax assets (liabilities)
are as follows:
2003 2002 2001
---- ---- ----
Deferred tax assets
Receivable reserves $ 39,000 $ 39,000 $ 368,544
Inventory reserves 169,632 341,042 790,623
Accrued expenses and other 284,158 368,415 154,477
Net operating loss 522,500 0 0
Impairment reserve 4,157,125 0 0
Deferred tax assets 5,172,415 748,457 1,313,644
Valuation Allowance (4,195,552) 0 0
Deferred tax liabilities
Depreciation (976,863) (616,785) (543,964)
Prepaid bond costs (0) (0) (119,869)
----------- ----------- -----------
Deferred tax (976,863) (616,785) (663,830)
----------- ----------- -----------
Net deferred tax asset $ 0 $ 131,672 $ 649,814
=========== =========== ===========
The effective tax (benefit) rate differs from the Federal statutory tax
rate for the following reasons:
2003 2002 2001
---- ---- ----
Federal statutory rate (34.0%) (34.0%) 34.0%
State income taxes, net of Federal benefit (2.5) (2.5) 2.5
Valuation allowance 32.6 0 0
Other adjustments (2.1) (2.9) 2.9
---- ---- ----
Effective rate (6.0)% (39.4)% 39.4%
==== ==== ====
9. SIGNIFICANT CUSTOMERS AND SUPPLIERS
The percentages of net sales attributable to major customers by year were
as follows:
2003 2002 2001
---- ---- ----
Customer A 28% 29% 0%
Customer B 12 33 20
Customer C 8 0 0
The loss of, or a substantial reduction in or change in the mix of orders
from, any one of the Company's major customers could have a material
adverse effect on the Company's results of operations and financial
condition.
Approximately 13%, 49% and 90% of the Company's revenues in 2003, 2002 and
2001 respectively, were related to the wireless industry.
During 2003, the largest single component of the Company's cost of goods
sold was purchased printed circuit boards that accounted for approximately
65% of net sales and one manufacturer accounted for approximately 19% of
the purchased printed circuit boards. In 2002, the largest single component
of the Company's cost of goods sold was purchased printed circuit boards
that accounted for approximately 43% of net sales and one manufacturer
accounted for approximately 24% of the purchased printed circuit boards.
The company exited direct manufacturing the third quarter of 2003, and from
that point forward under the new VM business model, the company expects
substantially all of its cost of goods sold, with the exception of freight
in will be the purchase of printed circuit boards domestically and
internationally.
46
During 2003, 2002 and 2001, one manufacturer accounted for approximately
46%, 45% and 54%, respectively, of the Teflon-based laminates ("Teflon
based laminate") supplied to the Company. Teflon based laminate is a
significant cost component of the Company's cost of goods sold representing
approximately 6.3%, 4.9%, and 3.6% of net sales during 2003, 2002 and 2001,
respectively. There are only four U. S. manufacturers of Teflon based
laminate. Any disruption or termination of these sources of Teflon based
laminate could adversely affect the Company's operations. The Company
exited direct manufacturing in the third quarter of 2003 and will from that
point forward purchase raw materials.
10 STOCK OPTION PLANS
In February 1992, the Board of Directors and stockholders of the Company
approved a non-qualified Stock Option Plan (the "1992 Stock Option Plan")
under which 600,000 shares of common stock are reserved for issuance upon
exercise of stock options. The 1992 Stock Option Plan is designed as an
incentive for retaining key employees and directors.
In June 1995, the Board of Directors and stockholders of the Company
approved an amendment and restatement of the Company's 1992 Stock Option
Plan. The principal changes that resulted from the amendment are (1) an
increase in the aggregate number of shares of Common Stock of the Company
available for the exercise of options granted under the plan from 600,000
to 1,000,000; (2) a limit on the number of shares as to which options may
be granted to any grantee in any calendar year to 150,000; (3) a grant of
discretion to the Compensation Committee to extend the exercisability of
options after a grantee's termination of employment (other than for Cause,
as defined in the Plan) from 30 days to any longer period up to the full
remaining term of the option; and (4) a provision for the acceleration of
the exercisability of all outstanding options (regardless of when granted)
in the event of a Change of Control of the Company.
In June 1997 the Board of Directors and stockholders of the Company
approved an amendment and restatement of the Company's 1992 Stock Option
Plan. The principal changes that resulted from the amendment are (1) to
increase the aggregate number of shares of Common Stock of the Company
available for the exercise of options granted under the plan from 1,000,000
to 1,500,000 and (2) to increase the limit on the number of shares as to
which options may be granted to any grantee in any calendar year from
150,000 to 430,000.
The exercise price of each non-qualified stock option granted to employees
of the Company under the 1992 Stock Option Plan must equal at least 80% of
the fair market value of the underlying shares of common stock on the date
of the grant, and the maximum term of such an option may not exceed 10
years. For all options granted to date, except for 150,000 options granted
in 1995 and 420,000 shares granted in 1998, exercise price has equaled fair
market value at the date of grant, the term of the option has been 10
years, and the options vest as to 25% on each of the first four anniversary
dates of the grant. Exercise prices, as a percentage of fair market value
at date of grant, on 150,000 options granted in 1995 are 110% as to 50,000
options, 120% as to 50,000 options and 130% as to 50,000 options. These
options vest as to 33 1/3% on December 31, 1995, December 31, 1996,
December 31, 1997 and the term is ten years. Exercise prices for the
420,000 shares granted in 1998 are 100,000 shares at $2.75, 140,000 at
$6.10 and 180,000 shares at $8.80. These options vest at 40% on May 1,
1998, 35% on May 1, 1999 and 25% on May 1, 2000, and the term is ten years.
The 1992 Stock Option Plan expired in 2002.
In December 2003, the Board of Directors and stockholders of the Company
approved the "2003 Stock Incentive Plan", under which 650,000 shares of
common stock are reserved for issuance upon exercise of stock options. The
purpose of the Plan is to promote the long-term financial performance of
the Company by attracting, retaining, and motivating highly qualified
employees, directors, and consultants of the Company, its subsidiaries, and
designated affiliates through opportunities for equity-based incentive
compensation and for ownership of stock in the Company. Grants under the
Plan may be stock options, awards of stock, awards of the right to received
stock in the future, and stock appreciation rights.
47
Stock option activity was as follows:
Number of Shares Weighted Average
Under Option Exercise Price
- ---------------------------------------------------------------------------------------------------------------
Balance, January 1, 2001 236,000 $ 6.92
Granted 235,000 7.50
Forfeited (69,375) 7.44
Exercised 0 0
- ---------------------------------------------------------------------------------------------------------------
Balance, December 31, 2001 401,625 $ 7.17
Granted 92,000 4.50
Forfeited (81,050) (3.99)
Exercised 0 0
- ---------------------------------------------------------------------------------------------------------------
Balance, December 31, 2002 412,575 $ 7.20
Granted 250,200 0.86
Forfeited (212,750) (6.41)
Exercised 0 0
- ---------------------------------------------------------------------------------------------------------------
Balance, December 31, 2003 450,025 $ 4.06
Exercisable at year-end:
2001 221,000 6.45
2002 191,894 9.84
2003 269,913 5.29
The weighted average fair value of options granted in 2003 was $0.87. The
weighted average exercise price of the options granted in 2002 were $4.50.
The weighted average exercise price of the options granted in 2001 were
$7.50. The range of exercise prices of the 450,025 options outstanding at
December 31, 2003 is $0.67 to $13.78 and the weighted average remaining
contractual life is 7 years. At December 31, 2003, there were 255,800
shares available for grants.
Options outstanding and exercisable at December 31, 2003, by price range:
Outstanding
--------------------------------------- Exercisable
Range of Weighted average ----------------------------
exercise Remaining Weighted average Weighted average
prices Shares contractual life exercise price Shares exercise price
------ ------ ---------------- ---------------- ------ --------------
$ 0.67 to 1.25 250,200 9.7 $ 0.87 97,500 $ 0.96
6.74 to 7.35 110,000 2.5 7.04 105,000 7.04
7.44 9,825 7.0 7.44 4,913 7.44
7.97 to 13.78 80,000 3.6 9.47 62,500 8.91
------- -------
450,025 269,913
48
Outstanding options at December 31, 2003 includes 144,000 shares of Common
Stock issued to Credit Support International, LLC per the Consulting
Agreement dated September 1, 2003 by and between the Company and Credit
Support International, LLC.
The Company applies Accounting Principles Board Opinion No. 25 in
accounting for stock options. Accordingly, no compensation cost has been
recognized for options granted. Had compensation cost for options granted
been determined based on the fair value at the grant date, consistent with
the method prescribed by Financial Accounting Standards Board Statement No.
123, the Company's net income (loss) and related per share amounts would
have been adjusted to the following pro forma amounts:
2003 2002 2001
---- ---- ----
Net income(loss)
As reported $(12,047,275) $ (5,027,547) $3,796,789
Pro forma (12,339,218) (5,494,595) 3,567,112
Basic net income (loss) per share
As reported
Basic $ (2.71) $ (1.13) $ 0.84
Diluted (2.71) (1.13 0.83
Pro forma
Basic (2.78) (1.24) 0.79
Diluted (2.78) (1.24) 0.78
The weighted average fair value of options granted in 2003 was $0.87 and
was estimated at the grant date using the Black-Scholes options pricing
model with the following weighted average assumption: Expected volatility
of 97.68%: risk free interest rate of 2.8%; expected life of 10 years; and
no dividend yield.
11 Consulting Agreement
April 15, 2003 Credit Support International, LLC (CSI) based in Dallas,
Texas; specifically, Jim Mayer its Managing Member, was retained by the
Company, initially serving as consultant and then Chief Restructuring
Advisor to determine the Company's viability and then facilitate a
restructuring of M-Wave's operations and financial position. The Consulting
Agreement was amended in September 2003. As part of the agreement, Mayer
was granted 144,000 options to acquire the Company's common stock at a
strike price of $0.67 per share. The options vest ratably over a one year
period commencing in September 2003 and expire on April 15, 2008.
12 EMPLOYEE BENEFIT PLAN
The Company maintains a defined contribution retirement plan covering
substantially all full-time employees. The plan allows for employees to
defer up to 15% of their pretax annual compensation, as defined in the
plan. The Company will match up to 25% of the first 4% of base compensation
that a participant contributes. The Company matching contributions were
$7,543, $18,993 and $17,967 for 2003, 2002 and 2001. Additionally, the
Company may contribute discretionary amounts. There were no discretionary
contributions for 2003 and 2002. The Company discretionary contribution for
2001 was $104,531.
13 LEASE COMMITMENTS
49
The Company rents manufacturing and administrative space under operating
leases. Rent expense under these leases for the years ended December 31,
2003, 2002 and 2001 was $60,000, $71,600, and $100,2000, respectively.
Future minimum annual lease commitments at December 31, 2003 are as
follows:
Year
- ----
2003 $ 60,000
2004 $ 60,000
2005 $ 30,000
14 LITIGATION
The Company is a party to various actions and proceedings related to its
normal business operations. The Company believes that the outcome of this
litigation will not have a material adverse effect on the financial
position or results of operations of the Company.
15 ENVIRONMENTAL MATTERS
The Company periodically generates and handles materials that are
considered hazardous waste under applicable law and contracts for the
off-site disposal of these materials. During the ordinary course of its
operations, the Company has on occasion received citations or notices from
regulatory authorities that such operations may not be in compliance with
applicable environmental regulations. Upon such receipt, the Company works
with such authorities to resolve the issues raised by such citations or
notices. The Company's past expenditures relating to environmental
compliance have not had a material effect on the financial position of the
Company. The Company believes the overall impact of compliance with
regulations and legislation protecting the environment will not have a
material effect on its future financial position or results of operations,
although no assurance can be given.
16 RESTRUCTURING CHARGES
In September 2002, the Company moved its operations, including its
headquarters, from its Bensenville, Illinois location to West Chicago,
Illinois. In September, 2002 the Company recorded restructuring expenses of
$1,752,000. Restructuring expenses include costs associated with the
closing, cleanup and disposition of the Bensenville facilities. These
expenses include (1) the net write-down and disposal of approximately
$986,000 of specific assets that were not required at the West Chicago
facility, (2) cleanup, sale and related expenses of $680,000 for the
Bensenville facilities and (3) severance payments of $86,000. As of
December 31, 2003, the Company has a remaining reserve of approximately
$145,000 relating to the clean-up and disposition of the Bensenville
facilities.
Cash Balance
Restructuring Charges 2002 Charge Paid Non-Cash Dec. 31, 2002
- -------------------------- ------ ---- -------- -------------
Disposal of Assets $ 986,000 $ 0 $ 983,000 $ 0
Bensenville Cleanup 680,000 63,000 250,000 $ 367,000
Severance 86,000 86,000 0 0
---------- ---------- ---------- ----------
Total $1,752,000 $ 149,000 $1,233,000 $ 367,000
Balance Cash Balance
Restructuring Charges 2003 Dec. 31, 2002 Paid Non-Cash Dec. 31, 2003
- -------------------------- ------------- ---- -------- -------------
Disposal of Assets $ 0 $ 0 $ 0 $ 0
Bensenville Cleanup 367,000 222,000 0 $145,000
Severance 0 0 0 0
-------- -------- -------- --------
Total $367,000 $222,000 $ 0 $145,000
17 Impairment of Long-lived Assets to be Held and Used
50
The Company recorded impairment of building, plant and equipment charges in
2003 of $7,452,000. The charges were recorded to comply with FASB statement
No. 144, which requires the Company to (a) recognize an impairment loss
when the carrying amount of a long-lived asset is not recoverable from its
undiscounted cash flows and (b) measure the impairment losses as the
difference between the carrying amount and the fair value of the asset. On
September 30, 2003, the fair value of the real estate was estimated at
$2,000,000 and the machinery and equipment at $1,929,000. This resulted in
a write-down of the assets of $2,274,500 in the third quarter of 2003, and
resulting in total write-down of such assets in 2003 of $7,452,000.
18 Subsequent Events
On February 10, 2004, the Company announced a major restructuring of its
balance sheet and its operating model that included the sale of its West
Chicago plant and equipment to firms associated with the signing of a
Strategic Operating Alliance (SOA) agreement with Franklin Park, IL based
American Standard Circuits, Inc. (ASC). In connection with the asset sales
and signing of the SOA agreement, the Company also announced retirement of
its $2.422 million debt to Bank One, NA that included releases of liens on
the collateral securing the note. The Company further indicated that
delinquent balances to its trade creditors would be reduced approximately
$200,000 in line with its previously negotiated terms.
The Company, through its wholly owned manufacturing subsidiary, Poly
Circuits, Inc., historically has been a value-added, domestic producer and
international service provider of high performance printed circuit boards
(PCBs) used in a variety of digital and RF applications.
The Company's restructuring began in May 2003, necessitated by a continued
and unprecedented fall of the telecom sector, with the resultant 70% loss
of its sales. It was determined that the Company could not absorb its
direct and administrative costs based on then current and projected
business levels, nor could it efficiently manufacture digital and RF PCB's.
The heart of Company's business model is not to be a low-cost domestic
manufacturer, but to operate a low-cost, high performance supply chain
"pipeline" that offers middle market customers a "cradle-to-grave" approach
to digital and RF PCB procurement, beginning with the birth of a product
that requires domestic quick-turn, proto-types, pilot production runs, and
that evolves into mass production in Asia. The company had, from its
Singapore office, achieved working partnerships with more than 20 Asian
manufacturers where the Company extended its procurement and supply-chain
services for its middle-market customers, a process referred to as "Virtual
Manufacturing" (VM).
The Company's management and advisors developed a Strategic Operating
Alliance (SOA) concept under which the Company has teamed with a local
manufacturer, American Standard Circuits, Inc. (ASC) of Franklin Park, IL.
Under the SOA agreement, within the West Chicago facility, production will
transition from the Company to ASC, in a blending of a traditional
outsourcing and a joint venture in one vehicle.
The SOA agreement enables ASC to immediately take over manufacturing at the
Company's facility, and, simultaneously acquire certain assets, allowing
the Company to increase available cash and reduce debt.
Further Highlights of Realignment, Restructuring and SOA
(a) Under the SOA, ASC will provide the domestic manufacturing required
by the Company's customers and be paid for finish product as a supplier
to the company. The Company will maintain the sales, support,
manufacturing oversight, and logistics for its customers. The term of
the SOA agreement is initially two years.
51
(a) Under the SOA, the Company issued 5-year warrants to Mr. Gordhan
Patel, principal shareholder and CEO of ASC for the purchase of 500,000
shares of its common stock at $1.35 per share, which vests on the first
anniversary of the SOA agreement or upon an earlier sale of the Company
(if applicable), and M-Wave was granted by ASC the right to receive 8%
of the gain over book value arising from a sale of ASC occurring on or
after the first anniversary of the SOA agreement (if applicable).
(b) The Company sold its West Chicago plant to an affiliate of ASC for
a cash price of approximately $2,000,000. ASC has leased the
manufacturing portion of that plant from the new owner to enable it to
manufacture as required under the SOA.
(c) The Company has leased a portion of the West Chicago facility to
maintain its offices from which it will operate its domestic and
international VM, supply chain management, and consulting businesses in
close proximity to the domestic manufacturing being performed for its
customers by ASC.
(d) The Company sold the major portion of its manufacturing equipment
at the West Chicago facility to a newly formed limited liability
company (LLC) for a cash price of $800,000 and a 20% preferred and
secured interest in that entity. ASC is the other member of the LLC and
has leased the use of the equipment from it. The Company's preferred
interest enables it to receive, in any liquidation, the cash proceeds
of the present value of the equipment in excess of the $800,000 already
received before ASC receives any distribution, and distributions are
thereafter made 80% to ASC and 20% to the Company. The Company
undertook no liabilities material to its business or financial
condition with respect to the LLC.
In addition, the Company is continuing its efforts to sell its prior plant
and improvements located in Bensenville, Illinois as soon as practicable.
March, 2004 Silicon Valley Bank, N.A. (Bank) approved the first of a
two-step financing known as "Mini ABL" that will commence with an accounts
receivable purchase facility. M-Wave, Inc. can sell to the Bank, subject to
Bank approval, up to 85% of the face value of approved invoices to a
maximum of $2.5 million. The cost of the facility includes a .5% one-time
discount, plus Prime rate plus 2.5 percent of interest. The Company signed
the Mini ABL agreement March 31, 2004. The estimated initial proceeds to
the Company is $1.25 million.
The proposed funding, if consummated, will be 85% advances against eligible
accounts receivable with a $500k sub-limit on pre-sold inventory that does
not exceed 33% of the total funding of $2.5 million. Contracts- Obligations
Under the terms of the SOA, so long as the Company is outsourcing domestic
manufacturing to ASC, the Company has certain contracts and continuing
obligations to ASC for various outsourcing expenses. The Company has a five
year lease of its administrative offices, testing and shipping departments
at the West Chicago facility. These obligations total approximately $41,000
monthly. The SOA itself, is a renewable two-year agreement commencing
February 2004.
Additionally, under the terms of the first receivable financing facility
with Silicon Valley Bank (SVB), known as "Mini ABL", the Company has a
contract to sell, subject to Bank approval, up to $2.5 million of its
approved accounts receivable invoices at a discount from face value of 1/2%
but conditionally reduced 0.25% upon the achievement of operating profits
of $200,000 by the end of the initial six months. The contract rate of
interest is SVB's prime borrowing rate plus 2%. The term of the agreement
is one year.
52
M~WAVE, Inc. and Subsidiaries
SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
Set forth below is a summary of the Company's unaudited quarterly results for
each quarter during 2003 and 2002. In management's opinion, these results have
been prepared on the same basis as the audited financial statements contained
elsewhere herein and include all adjustments, consisting of normal recurring
adjustments, necessary for a fair presentation of the information for the
periods when read in conjunction with the financial statements and notes
thereto.
Three Months Ended
--------------------------------------------------------------------
March 31, June 30, September 30, December 31,
2003 2003 2003 2003
---- ---- ---- ----
Net sales $ 3,205,045 $ 4,141,050 $ 3,518,178 $ 3,323,017
Gross profit (loss) (1,727,826) (197,429) (95,825) 258,424
Net income (loss) (5,370,801) (2,923,522) (3,081,375) (671,576)
Weighted average shares 4,443,294 4,443,294 4,443,294 4,443,294
Basic earnings (loss) per share (1.21) (0.66) (0.69) (0.15)
Diluted shares 4,443,294 4,443,294 4,443,294 4,443,294
Diluted earnings (loss) per share (1.21) (0.66) (0.69) (0.15)
Three Months Ended
------------------------------------------------------------------------
March 31, June 30, September 30, December 31,
2002 2002 2002 2002
---- ---- ---- ----
Net sales $ 8,313,754 $ 7,296,369 $ 3,787,531 $ 3,070,029
Gross profit (loss) 1,615,781 920,001 (2,749,756) (2,111,882)
Net income (loss) 343,277 8,769 (3,332,591) (2,047,001)
Weighted average shares 4,456,294 4,448,746 4,443,294 4,443,294
Basic earnings (loss) per share 0.08 0.00 (0.75) (0.46)
Diluted shares 4,486,499 4,467,731 4,443,294 4,443,294
Diluted earnings (loss) per share 0.08 0.00 (0.75) (0.46)
53
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities Exchange
Act of 1934, the Company has duly caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized.
M~WAVE, Inc.
By: /s/ Joseph A. Turek
--------------------------
Joseph A. Turek
Chairman of the Board,
Chief Executive Officer
April 2, 2003
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated.
/s/ Joseph A. Turek /s/ Gregory E. Meyer
- ---------------------------------- -------------------------
Joseph A. Turek Gregory E. Meyer
Director Director
April 2, 2004 April 2, 2004
/s/ Lavern D. Kramer /s/ Gary Castagna
- ---------------------------------- ------------------------
Lavern D. Kramer Gary Castagna
Director Director
April 2, 2004 April 2, 2004
/s/ Paul H. Schmitt
- ----------------------------------
Paul H. Schmitt
Treasurer and Secretary
(Principal Accounting and
Financial Officer)
April 2, 2004
54
EXHIBIT INDEX
Exhibit
No. Description Page
--- ----------- ----
2.1 Exchange Agreement, dated as of January 31, 1992, among Poly *
Circuits, Inc., Joel S. Dryer, Joseph A. Turek and the Company
3.1 Certificate of Incorporation of the Company *
3.2 Bylaws of the Company *
10.1 Amended and restated M~Wave, Inc. 1992 Stock Option Plan
10.2 Construction Loan Note, dated January 10, 1996, by and among the
Company, P C Dynamics and American National Bank and Trust Company. ***
10.3 Stock Purchase Agreement dated December 18, 1998 by and between the
Company and First Chicago Equity Corporation. *****
10.4 Stock Purchase Agreement dated December 18, 1998 by and between
the Company and Cross Creek Partners II. *****
10.5 Warrant dated December 18, 1998 issued to First Chicago Equity *****
10.6 Warrant dated December 18, 1998 issued to Cross Creek Partners II *****
10.7 Employment Agreement dated January 29, 2001 between
the Company and Joseph A. Turek ******
10.8 Employment Agreement dated January 29, 2001 between
the Company and Paul H. Schmitt ******
10.9 Loan Agreement dated July 1, 2001 between the Illinois
Development Finance Authority and the Company *******
10.10 Forbearance Agreement dated November 8, 2002 between
the Company and Bank One, N.A., formerly known as
American National Bank & Trust Company of Chicago ********
10.11 Forbearance Agreement dated March 31, 2003 between
the Company and Bank One, N.A., formerly known as
American National Bank & Trust Company of Chicago *********
10.12 Employment Agreement dated January 7, 2003 between
the Company and Robert O'Connell *********
10.13 Employment Agreement dated January 29, 2003 between
the Company and Paul H. Schmitt *********
10.14 Credit Agreement dated October 1, 2003 between Bank One,
NA, the Company and Poly Circuits, Inc. **********
10.15 Consulting Agreement dated September 1, 2003 by and between
the Company and Credit Support International, LLC. **********
10.16 2003 Stock Incentive Plan
55
10.17 Asset Purchase and Sale Agreement dated February 3, 2004 by
and between the Company, Poly Circuits and AM-Wave, L.L.C.
10.18 Agreement for Strategic Operating Alliance dated February 3, 2004
by and between the Company and American Standard Circuits, Inc.
10.19 Bill of Sale dated February 3, 2004 by and between Poly Circuits and
AM-Wave, L.L.C.
10.20 Real Estate Sales Contract dated February 3, 2004 by and between the
Company and AMI Partners, L.L.C.
10.21 Limited Liability Company Operating Agreement of AM-Wave, L.L.C.
dated February 3, 2004 by and between Poly Circuits and American
Standard Circuits, Inc.
10.22 Warranty Deed dated February 3, 2004 by and between the Company
and AMI Partners, L.L.C.
10.23 Lease Agreement dated February 3, 2004 by and between the Company
and AMI Partners, LLC
10.24 Warrant to Purchase Stock dated March 31, 2004 by and between the
Company and Silicone Valley Bank
10.25 Accounts Receivable Financing Agreement dated March 31, 2004 by
and between the Company and Silicone Valley Bank
10.26 Intellectual Property Security Agreement dated March 31, 2004 by
and between the Company and Silicone Valley Bank
21 Subsidiaries
23.1 Consent of Grant Thornton LLP
31.1 Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to section 302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to section 302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to section 906 of the Sarbanes-Oxley Act of 2002.
*Incorporated herein by reference to the applicable exhibit to
Registrants Registration Statement on Form S-1 (Registration No.
33-45499)
***Incorporated herein by reference to the applicable exhibit to the
Registrant's Annual Report on Form 10-K for year ended December
31, 1995.
*****Incorporated herein by reference to the applicable exhibit report
on Form 8-K dated December 18, 1998.
******Incorporated herein by reference to the applicable exhibit report
to the Registrants quarterly report on form 10-Q for
the quarter ended March 31, 2001.
*******Incorporated herein by reference to the applicable exhibit
report to the
56
Registrants quarterly report on form 10-Q for the quarter
ended June 30, 2001
********Incorporated herein by reference to the applicable exhibit
report to the Registrants quarterly report on form 10-Q for
the quarter ended September 30, 2002
*********Incorporated herein by reference to the applicable exhibit
report to the Registrants annual report on form 10-K for the
year ended December 31, 2002
**********Incorporated herein by reference to the applicable exhibit
report to the Registrants quarterly report on form 10-Q for
the quarter ended September 30, 2003
57