SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2002
Commission File No. 0-26912
Vodavi Technology, Inc.
(Exact name of registrant as specified in its charter)
DELAWARE 86-0789350
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
4717 EAST HILTON AVENUE, SUITE 400, PHOENIX, ARIZONA 85034
(Address of principal executive offices) (Zip Code)
(480) 443-6000
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes [ ] No [X]
The number of shares outstanding of registrant's Common Stock, $.001 par value
per share, as of November 12, 2002 was 4,349,788 .
VODAVI TECHNOLOGY, INC.
QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTER ENDED SEPTEMBER 30, 2002
TABLE OF CONTENTS
Page
PART I. FINANCIAL INFORMATION
Item 1. Unaudited Financial Statements
Consolidated Balance Sheets - September 30, 2002
and December 31, 2001 3
Consolidated Statements of Operations - Three and Nine
Months Ended September 30, 2002 and 2001 4
Consolidated Statements of Cash Flows - Nine Months
Ended September 30, 2002 and 2001 5
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 8
Item 3. Quantitative and Qualitative Disclosures about Market Risk 16
Item 4. Controls and Procedures 16
PART II. OTHER INFORMATION 16
Item 1. Legal Proceedings 16
Item 2. Changes In Securities and Use of Proceeds 16
Item 3. Defaults Upon Senior Securities 16
Item 4. Submission of Matters to a Vote of Security Holders 17
Item 5. Other Information 17
Item 6. Exhibits and Reports on Form 8-K 17
SIGNATURES 18
CERTIFICATIONS 19
2
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
VODAVI TECHNOLOGY, INC.
CONSOLIDATED BALANCE SHEETS
IN THOUSANDS, EXCEPT SHARE AMOUNTS
September 30, December 31,
2002 2001
-------- --------
(Unaudited)
CURRENT ASSETS:
Cash $ 1,424 $ 340
Accounts receivable, net of reserves for doubtful
accounts and sales returns of $876 and
$730, respectively 7,620 6,996
Inventory 4,130 5,331
Income tax receivable -- 839
Prepaids and other current assets 848 574
-------- --------
Total current assets 14,022 14,080
PROPERTY AND EQUIPMENT, net 1,684 1,581
GOODWILL 734 1,638
DEFERRED TAXES 994 622
OTHER LONG-TERM ASSETS 49 193
-------- --------
$ 17,483 $ 18,114
======== ========
CURRENT LIABILITIES:
Accounts payable $ 1,092 $ 1,454
Accrued liabilities 1,892 2,014
Accounts payable to related parties 3,873 984
Revolving credit facility -- 2,593
-------- --------
Total current liabilities 6,857 7,045
-------- --------
OTHER LONG-TERM OBLIGATIONS 21 41
-------- --------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Preferred stock, $.001 par value; 1,000,000 shares
authorized, no shares issued -- --
Common stock, $.001 par value; 10,000,000 shares
authorized; 4,668,488 and 4,553,488 shares
issued, respectively 5 5
Additional paid-in capital 13,513 13,363
Accumulated deficit (2,154) (1,581)
Treasury stock, 318,700 shares at cost (759) (759)
-------- --------
10,605 11,028
-------- --------
$ 17,483 $ 18,114
======== ========
The accompanying notes are an integral part of these
consolidated financial statements.
3
VODAVI TECHNOLOGY, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
IN THOUSANDS EXCEPT PER SHARE AMOUNTS
(Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
------------------- --------------------
2002 2001 2002 2001
-------- -------- -------- --------
REVENUE, net $ 10,541 $ 9,664 $ 28,790 $ 25,327
COST OF GOODS SOLD 6,600 6,191 18,234 17,261
-------- -------- -------- --------
GROSS MARGIN 3,941 3,473 10,556 8,066
-------- -------- -------- --------
OPERATING EXPENSES:
Engineering and product development 637 514 1,696 1,505
Selling, general and administrative 2,916 2,453 7,635 8,819
-------- -------- -------- --------
3,553 2,967 9,331 10,324
-------- -------- -------- --------
OPERATING INCOME (LOSS) 388 506 1,225 (2,258)
INTEREST EXPENSE 22 84 82 353
-------- -------- -------- --------
INCOME (LOSS) BEFORE INCOME TAXES AND CHANGE IN ACCOUNTING PRINCIPLE 366 422 1,143 (2,611)
INCOME TAX PROVISION (BENEFIT) 145 169 453 (939)
-------- -------- -------- --------
INCOME (LOSS) BEFORE CHANGE IN ACCOUNTING PRINCIPLE 221 253 690 (1,672)
CHANGE IN ACCOUNTING PRINCIPLE, net of income taxes -- -- (1,263) --
-------- -------- -------- --------
NET INCOME (LOSS) $ 221 $ 253 $ (573) $ (1,672)
======== ======== ======== ========
EARNINGS (LOSS) PER COMMON SHARE:
Basic and Diluted -
Income (loss) before change in accounting principle $ 0.05 $ 0.06 $ 0.16 $ (0.39)
Change in accounting principle -- -- (0.29) --
-------- -------- -------- --------
Net income (loss) $ 0.05 $ 0.06 $ (0.13) $ (0.39)
======== ======== ======== ========
WEIGHTED AVERAGE SHARES OUTSTANDING:
Basic 4,350 4,235 4,324 4,235
======== ======== ======== ========
Diluted 4,469 4,235 4,418 4,235
======== ======== ======== ========
4
The accompanying notes are an integral part of these
consolidated financial statements.
VODAVI TECHNOLOGY, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
IN THOUSANDS
(Unaudited)
Nine Months Ended
September 30,
------------------
2002 2001
------- -------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (573) $(1,672)
Adjustments to reconcile net loss to net cash
flows provided by operating activities:
Depreciation and amortization 513 681
Rent levelization (20) (67)
Change in accounting principle 1,263 --
Changes in working capital:
Accounts receivable, net (624) 3,659
Inventory 1,221 1,020
Income tax receivable 839 (960)
Prepaids and other current assets (265) 330
Other long-term assets and deferred taxes -- 95
Accounts payable, including payables to related parties 2,527 (291)
Accrued liabilities (162) (374)
------- -------
Net cash flows provided by operating activities 4,719 2,421
------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Cash paid to acquire property and equipment (418) (93)
Cash paid to acquire DataSpeak Systems, Inc. (624) --
------- -------
Net cash flows used in investing activities (1,042) (93)
------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net payments on revolving credit facility (2,593) (2,416)
------- -------
Net cash flows used in financing activities (2,593) (2,416)
------- -------
INCREASE (DECREASE) IN CASH 1,084 (88)
CASH, beginning of period 340 564
------- -------
CASH, end of period $ 1,424 $ 476
======= =======
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid for interest $ 82 $ 353
======= =======
SUPPLEMENTAL DISCLOSURE OF NON-CASH
INVESTING AND FINANCING ACTIVITIES:
Common stock issued to acquire DataSpeak Systems, Inc. $ 135 $ --
======= =======
The accompanying notes are an integral part of these
consolidated financial statements.
5
VODAVI TECHNOLOGY, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2002
(a) INTERIM FINANCIAL REPORTING
The accompanying unaudited Consolidated Financial Statements have been
prepared by Vodavi Technology, Inc. and subsidiaries ("Vodavi" or the "Company")
pursuant to the rules and regulations of the Securities and Exchange Commission
("SEC") and, in the opinion of the Company, include all adjustments necessary
for a fair presentation of results of operations, financial position, and cash
flows as of and for the periods presented.
The preparation of financial statements and related disclosures in
conformity with accounting principles generally accepted in the United States
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 revenue and expenses
during the period reported. Actual results could differ from those estimates.
Estimates are used in accounting for, among other things, customer incentive
programs, bad debts, sales returns, excess and obsolete inventory, and
contingencies and litigation. Estimates and assumptions are reviewed
periodically and the effects of revisions are reflected in the Consolidated
Financial Statements in the period they are determined to be necessary.
The results for the nine months ended September 30, 2002 are not
necessarily indicative of financial results for the full year. These financial
statements should be read in conjunction with the audited Consolidated Financial
Statements and notes thereto included in Vodavi's latest Annual Report on Form
10-K for the year ended December 31, 2001.
(b) CALCULATION OF EARNINGS PER SHARE
In accordance with Statement of Financial Accounting Standards (SFAS) No.
128, EARNINGS PER SHARE, the Company displays basic and diluted earnings per
share (EPS). Basic EPS is determined by dividing net income by the weighted
average number of common shares outstanding. The basic weighted average number
of common shares outstanding excludes all dilutive securities. Diluted EPS is
determined by dividing net income by the weighted average number of common
shares and dilutive securities outstanding. Except for 119,000 and 94,000
dilutive securities in the three and nine-month periods ended September 30,
2002, respectively, there were no dilutive securities included in the
calculation of diluted EPS for any other period reported.
(c) SEGMENT REPORTING
The Company operates in one reportable segment, the distribution of
business telecommunications equipment. Accordingly, the Company has only
presented financial information for its one reportable segment.
(d) CHANGE IN ACCOUNTING PRINCIPLE AND RECENT ACCOUNTING PRONOUNCEMENTS
In 2001, the Financial Accounting Standards Board (FASB) issued SFAS No.
141, ACCOUNTING FOR BUSINESS COMBINATIONS, and SFAS No. 142, GOODWILL AND OTHER
INTANGIBLE ASSETS. These statements modified accounting for business
combinations after September 30, 2001 and affected the Company's treatment of
goodwill and other intangible assets effective January 1, 2002. The statements
require that goodwill existing at the date of adoption be reviewed for possible
impairment and that impairment tests be performed at least annually, with
impaired assets written-down to fair value. Additionally, existing goodwill and
intangible assets must be assessed and classified consistent with the
statements' criteria. Intangible assets with estimated useful lives will
continue to be amortized over those periods. Amortization of goodwill and
intangible assets with indeterminate lives will cease.
The Company has determined that upon adoption of these statements on
January 1, 2002, the entire $1.6 million carrying amount of the existing
goodwill was impaired. This determination was based principally on the total
market value of the Company's issued and outstanding common stock on January 1,
2002 of $5.5 million compared to the Company's book value on December 31, 2001
of $11.0 million. Accordingly, during the first quarter of 2002, the Company
recorded a goodwill impairment of $1.3 million, net of tax. The goodwill
impairment is presented in the accompanying financial statements as a change in
accounting principle in accordance with the provisions of SFAS No. 142.
6
The following table sets forth, for the periods presented, pro forma net
income (loss) as if the Company had adopted SFAS No. 142 from the earliest
period presented:
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------- --------------------
2002 2001 2002 2001
------- ------- ------- -------
Income (loss) before change in
accounting principle, as reported $ 221 $ 253 $ 690 $(1,672)
Add back goodwill amortization, net of taxes -- 25 -- 75
------- ------- ------- -------
Adjusted net income (loss) $ 221 $ 278 $ 690 $(1,597)
======= ======= ======= =======
Except as disclosed above, the adoption of these Statements did not have a
material impact on the Company's financial condition or results of operations.
In October 2001, the FASB issued SFAS No. 144 "Accounting for Impairment or
Disposal of Long-Lived Assets". SFAS No. 144 addresses financial accounting and
reporting for the impairment or disposal of long-lived assets. This statement
also extends the reporting requirements to report separately, as discontinued
operations, components of an entity that have either been disposed of or are
classified as held-for-sale. We adopted the provisions of SFAS No. 144 effective
January 1, 2002. The adoption of this statement did not have any impact on our
financial condition or results from operations.
In July 2001, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." SFAS No. 146 requires companies to
recognize costs associated with exit or disposal activities when they are
incurred rather than at the date of a commitment to an exit or disposal plan.
SFAS No. 146 replaced EITF Issue No. 94-3, "Liability Recognition for certain
Employee Termination Benefits and Other Costs to Exit an Activity (including
Certain Costs Incurred in a Restructuring)," and will apply to exit or disposal
activities initiated after December 31, 2002. We have reviewed the requirements
of SFAS No. 146 and believe the adoption of this statement will not have a
material impact on our financial statements.
(e) RECENT ACQUISITIONS
On March 4, 2002, the Company, through its wholly owned subsidiary Vodavi
Direct, Inc., acquired substantially all of the assets and assumed certain
liabilities of DataSpeak Systems, Inc., an Arizona-based dealer of the Company's
products. Under the terms of the purchase agreement, the Company paid cash of
$624,000 and issued 100,000 shares of restricted common stock valued at $135,000
based on the closing price of the Company's common stock on the date of the
acquisition. The purchase price was allocated as follows (in thousands):
Inventory $ 20
Prepaid assets 9
Property and equipment 50
Goodwill 734
Accrued liabilities (54)
-----
$ 759
=====
(f) SPECIAL CHARGES
During the first quarter of 2001, the Company implemented a restructuring
plan aimed at reducing its operating expenses to coincide with its then current
sales outlook. Pursuant to the restructuring plan, the Company reduced its
workforce, discontinued its Interactive Voice Response business, and implemented
broad-based price reductions on certain voice mail products and single-line
telephones. Additionally, in light of deteriorating economic and industry
conditions and planned introductions of new products, the Company re-evaluated
the carrying amount of certain receivables and inventory items resulting in
additional accounts receivable reserve requirements and inventory impairments.
The pre-tax financial impact of these initiatives totaled approximately $1.8
million, consisting of both cash and non-cash charges, which is included in the
accompanying statement of operations for the nine-month period ended September
7
30, 2001. See Item 2 "Management's Discussion and Analysis of Financial
Condition and Results of Operations" contained elsewhere in this quarterly
report for more information.
(g) COMMITMENTS AND CONTINGENCIES
In October 2002, the Company reached an out-of-court settlement with
Paradygm Communications Inc. and its principal owner relating to a contractual
dispute dating back to 1998. See Part II, Item 1, "Legal Proceedings" included
elsewhere in this quarterly report for more information. Pursuant to the terms
of the settlement agreement, the Company paid the plaintiffs $250,000 and
accrued $50,000 of unbilled legal fees. The $300,000 financial impact of the
settlement agreement is included in "Selling, general and administrative"
expenses in the accompanying consolidated financial statements for the quarterly
period ended September 30, 2002.
The Company is subject to certain asserted and unasserted claims
encountered in the normal course of business. The Company believes that the
resolution of these matters will not have a material adverse effect on its
financial position or results of operations. The Company cannot provide
assurance, however, that damages that result in a material adverse effect on its
financial position or results of operations will not be imposed in these
matters.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
BUSINESS OVERVIEW
We design, develop, market, and support a broad range of business
telecommunications solutions, including telephony products, voice processing
products, and computer-telephony products for a wide variety of business
applications. Our telecommunications solutions incorporate sophisticated
features, such as automatic call distribution and Internet protocol, or IP,
gateways. Our voice processing products include interactive voice response
systems, automated attendant, and voice and fax mail. Our computer-telephony
products enable users to integrate the functionality of their telephone systems
with their computer systems. We market our products primarily in the United
States through a distribution model consisting primarily of wholesale
distributors and direct dealers.
APPLICATION OF CRITICAL ACCOUNTING POLICIES
Management's Discussion and Analysis of Financial Condition and Results of
Operations discusses our consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States. The preparation of these financial statements requires us to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and the disclosure of contingent assets and liabilities at the date
of the financial statements and the reported amounts of revenues and expenses
during the reporting period. On an on-going basis, we evaluate our estimates and
judgments, including those related to customer incentives, bad debts, sales
returns, excess and obsolete inventory, and contingencies and litigation. We
base our estimates and judgments on historical experience and on various other
factors that are reasonable under the circumstances, the results of which form
the basis for making judgments about the carrying values of assets and
liabilities that are not readily apparent from other sources. Actual results may
differ from these estimates under different assumptions or conditions.
We believe the following critical accounting policies affect our more
significant judgments and estimates used in the preparation of our consolidated
financial statements:
CUSTOMER INCENTIVES
We reduce our revenue to account for customer incentive programs, including
special pricing agreements, price protection for our distributors, promotions,
and other volume-related rebate programs. Such reductions to revenue are
estimates that are based on a number of factors, including our assumptions
related to customer redemption rates, sales volumes, and inventory levels at our
8
distributors. If actual results differ from our original assumptions, revisions
are made to our estimates that could result in additional reductions to our
reported revenue in the period the revisions are made. Additionally, if market
conditions were to decline, we may take actions to increase the level of
customer incentive offerings that could result in an incremental reduction of
revenue in the period in which we offer the incentive.
BAD DEBTS
We maintain allowances for doubtful accounts for estimated losses resulting
from the inability of our customers to make required payments. If the financial
condition of our customers were to deteriorate, resulting in an impairment of
their ability to make payments, additional allowances may be required.
Additionally, we have a significant concentration of accounts receivable with
our largest distributor, Graybar Electric Company, Inc. As of September 30,
2002, Graybar accounted for 44.1% of our total accounts receivable. If Graybar's
financial condition were to deteriorate, resulting in their inability to make
payments to us, it could have a material adverse impact on our financial
condition and results of operations.
SALES RETURNS
We maintain reserves for estimated sales returns. While we have
distribution agreements with our largest distributors that limit the amount of
sales returns on active products, we generally allow unlimited returns of
products that we discontinue. Accordingly, the timing and amount of revisions to
our estimates for sales returns is largely influenced by the discontinuance of
product lines and our ability to predict the inventory levels of such products
at our largest distributors. Revisions to these estimates have the effect of
increasing or decreasing the reported amount of revenue in the period in which
the revisions are made. We generally do not accept product returns from our
direct dealers unless the product is damaged.
EXCESS AND OBSOLETE INVENTORY
We record our inventory at the lower of cost or market value. Our
assessment of market value is determined by, among other things, historical and
forecasted sales activity, the condition of specific inventory items, and
competitive pricing considerations. When the assessed market value is less than
the historical cost, provision is made in the financial statements to write-down
the carrying amount of the respective inventory items to market value. If actual
results are less favorable than our original assumptions for determining market
value, additional inventory write-downs may be required.
The discussion above is not intended to be a comprehensive discussion of
our accounting policies. See our audited consolidated financial statements and
notes thereto included in our Annual Report on Form 10-K for the year ended
December 31, 2001, which contains accounting policies and other disclosures
required by generally accepted accounting principles in the United States.
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, the percentage
of total revenue represented by certain revenue and expense items. The table and
the discussion below should be read in conjunction with the consolidated
financial statements and notes thereto that appear elsewhere in this report.
9
Three Months Ended Nine Months Ended
September 30, September 30,
----------------- ------------------
2002 2001 2002 2001
------ ------ ------ ------
Revenue, net 100.0% 100.0% 100.0% 100.0%
Cost of goods sold 62.6 64.1 63.3 68.2
------ ------ ------ ------
Gross margin 37.4 35.9 36.7 31.8
Operating expenses:
Engineering and product development 6.0 5.3 5.9 5.9
Selling, general and administrative 27.7 25.4 26.5 34.8
------ ------ ------ ------
33.7 30.7 32.4 40.7
------ ------ ------ ------
Operating income (loss) 3.7 5.2 4.3 (8.9)
Interest expense 0.2 0.9 0.3 1.4
------ ------ ------ ------
Income (loss) before income tax
and change in accounting principle 3.5 4.3 4.0 (10.3)
Income tax provision (benefit) 1.4 1.7 1.6 (3.7)
------ ------ ------ ------
Income (loss) before change in
accounting principle 2.1 2.6 2.4 (6.6)
Change in accounting principle -- -- (4.4) --
------ ------ ------ ------
Net income (loss) 2.1% 2.6% (2.0)% (6.6)%
====== ====== ====== ======
THREE MONTHS ENDED SEPTEMBER 30, 2002 COMPARED WITH THE THREE MONTHS ENDED
SEPTEMBER 30, 2001
REVENUE
Revenue totaled $10.5 million in the third quarter of 2002 compared to
revenue of $9.7 million in the third quarter of 2001. Sales to our supply house
customers accounted for approximately $6.2 million, or 58.9% of our total
revenue during the third quarter of 2002 compared with $5.9 million, or 61.1% of
our total revenue in the same period of 2001. Sales through our INFINITE direct
dealer program totaled $4.0 million, or 38.2% of our total revenue for the third
quarter of 2002 compared with $3.7 million, or 38.3% of our total revenue for
the same period a year ago. Sales through our newly acquired direct sales office
totaled $596,000, or 5.7% of our total revenue during the third quarter of 2002
compared to zero in the same period in 2001. This analysis does not include
inter-company eliminations and other adjustments to revenue of approximately
$300,000 in the 2002 quarter and $100,000 in the 2001 quarter.
Revenue for the third quarter of 2002 was negatively impacted by our
decision to exit the retail Interactive Voice Response business during the first
quarter of 2001. We did not generate any revenue from this business in the third
quarter of 2002 compared to revenue of $200,000 in the same period of 2001.
GROSS MARGIN
Our gross margin was $3.9 million during the third quarter of 2002 compared
with $3.5 million during the same period of 2001. Our gross margin as a
percentage of total revenue increased to 37.4% during 2002 compared with 35.9%
during the comparable period of 2001. The improvement in our gross margin
percentage is attributable to our newly acquired direct sales office, which
generates higher gross margins than our other channels of distribution, improved
leverage over the fixed component of costs of goods sold, which includes labor
and other warehouse and distribution costs, and the recognition of volume
purchase rebates from our largest suppliers.
ENGINEERING AND PRODUCT DEVELOPMENT
Engineering and product development expenditures increased approximately
$123,000 to $637,000 from $514,000 a year ago. We continue to invest in the
development efforts on our next generation IP Key Telephone System as well as
enhancements to our existing Key Telephone Systems and voice processing
products.
10
SELLING, GENERAL, AND ADMINISTRATIVE EXPENSES
Selling, general, and administrative expenses were $2.9 million during the
third quarter of 2002 compared with $2.5 million in the same period in 2001.
This increase is the net effect of a number of factors, including (a) an
increase in sales and marketing expenses of approximately $95,000; (b) the
settlement of litigation and related legal fees of $300,000; and (c) additional
operating expenses associated with our newly acquired direct sales office of
approximately $215,000. These expense increases were partially offset by the
elimination of approximately $150,000 of expenses associated with our
discontinued IVR business.
INTEREST EXPENSE
Interest expense decreased to $22,000 for the third quarter of 2002 from
$84,000 for the same period a year ago. Our interest expense for the current
period was positively impacted by a sharp reduction in both the average
outstanding balance and the applicable borrowing rate from a year ago.
INCOME TAXES
We provided for federal and state income taxes using an effective rate of
39.6% for the 2002 third quarter compared with an effective rate of 40.0% during
2001. The change in effective rates between periods reflects the impact of
permanent book/tax differences, primarily related to the deductibility of
goodwill amortization.
NINE MONTHS ENDED SEPTEMBER 30, 2002 COMPARED WITH NINE MONTHS ENDED
SEPTEMBER 30, 2001
2001 SPECIAL CHARGES
During the first quarter of 2001, we implemented a restructuring plan aimed
at reducing our operating expenses to coincide with our revised sales outlook.
Pursuant to the restructuring plan, we reduced our workforce, discontinued our
Interactive Voice Response product group, and implemented broad-based price
reductions on certain product lines. These actions created severance-related
obligations of $168,000, estimated shutdown costs of $265,000, and estimated
distributor price protection obligations of $432,000.
Additionally, in light of deteriorating economic and industry conditions
and planned introductions of new products, we re-evaluated the carrying amount
of certain receivables and inventory items resulting in additional accounts
receivable reserve requirements of $328,000 and inventory impairments of
$568,000.
The pre-tax financial impact of these initiatives totaled approximately
$1.8 million consisting of both cash and non-cash charges. The following table
sets forth the components of these special charges included in the accompanying
consolidated statement of operations for the nine months ended September 30,
2001:
Amount Inclusion in
($000) Statement of Operations
------ -----------------------
Non-cash Charges:
Inventory impairments $ 568 Cost of goods sold
Allowance for bad debts 328 Selling, general & administrative
expenses
Distributor price protection 151 Revenue
Property and equipment 15 Selling, general & administrative
expenses
------
1,062
------
Cash Charges:
Distributor price protection 281 Revenue
Severance-related costs 168 Selling, general & administrative
expenses
Other shut-down costs 250 Selling, general & administrative
250 expenses
------
699
------
$1,761
======
11
The following table sets forth the activity of accrued cash charges during the
nine-month period ended September 30, 2002: (IN THOUSANDS)
Balance Balance
Dec. 31, Sept. 30,
2001 Payments 2002
---- -------- ----
Distributor price protection $ 86 $ (86) $ --
Severance-related costs 54 (54) --
Other shut-down costs 144 (144) --
----- ----- -----
$ 284 $(284) $ --
===== ===== =====
REVENUE
Revenue for the nine-month period ended September 30, 2002 totaled $28.8
million, an increase of $3.5 million, or 13.8%, from revenue of $25.3 million
for the same period of 2001. Sales to our supply house customers accounted for
approximately $16.6 million, or 57.8% of our total revenue during the first nine
months of 2002 compared with $14.0 million, or 55.5% of our total revenue in the
same period of 2001, representing a year-to-date increase of $2.6 million, from
the same period in 2001. The increase in sales to our supply house customers in
the first three quarters of 2002 is principally related to inventory reductions
at the supply houses in the first nine months of 2001, the magnitude of which we
did not experience in the first three quarters of 2002.
Sales through our INFINITE direct dealer program totaled $11.2 million, or
38.8% of our total revenue for the first nine months of 2002 compared with $11.0
million, or 43.4% of our total revenue for the same period a year ago. During
2002, we continued our program to focus on selling to fewer, but larger and
better-established, dealers. Sales through our newly acquired direct sales
office totaled $1.2 million or 4.2% of our total revenue during the first half
of 2002 compared to zero in the same period of 2001.
Revenue in first nine months of 2002 was negatively impacted by our
decision to exit the retail Interactive Voice Response business in 2001. Revenue
attributable to this business totaled $135,000 during the first nine months of
2002 compared with $871,000 during the first nine months of 2001.
GROSS MARGIN
Our gross margin was $10.6 million during the first nine months of 2002
compared with $8.1 million during the same period of 2001. Our gross margin as a
percentage of total revenue increased to 36.7% during 2002 compared with 31.8%
during the comparable period of 2001. The increase in our gross margin
percentage during 2002 is a direct result of (a) inventory impairments and price
protection obligations of $1.0 million recorded during the first quarter of
2001, which we did not experience in the first nine months of 2002; (b) improved
leverage over the fixed component of costs of goods sold, which includes labor
and other warehouse and distribution costs; (c) increased sales of larger
systems, which typically carry higher profit margins; (d) higher gross margins
generated by our direct sales office; and (e) the recognition of volume purchase
rebates from our major suppliers in the 2002 period that we did not achieve in
the same period of 2001.
ENGINEERING AND PRODUCT DEVELOPMENT
Engineering and product development expenditures increased approximately
$191,000 to $1.7 million from $1.5 million for each of the respective periods.
We continue to invest in the development efforts on our next generation IP Key
Telephone System as well as enhancements to our existing Key Telephone Systems
and voice processing products.
SELLING, GENERAL, AND ADMINISTRATIVE EXPENSES
Selling, general, and administrative expenses were $7.6 million during the
first nine months of 2002 compared with $8.8 million in the same period in 2001,
a reduction of $1.2 million. Excluding special charges of approximately $761,000
recorded in the first quarter of 2001, selling, general, and administrative
expenses in the first three quarters of 2002 declined by $423,000, or 5.3%, from
the same period a year ago. This decrease is the net effect of a number of
factors, including (a) headcount reductions; (b) decreased marketing and
promotional expenses; (c) the discontinuance of our IVR business; (d) strict
12
cost controls over discretionary spending; and (e) approximately $99,000 of
goodwill amortization during 2001 that was eliminated in 2002 upon our adoption
of SFAS No. 142. These expense reductions have been partially offset by
additional expenses in 2002 for our direct sales office and the settlement of
litigation.
INTEREST EXPENSE
Interest expense decreased to $82,000 for the first nine months of 2002
from $353,000 for the same period a year ago. Our interest expense for the 2002
period was positively impacted by a sharp reduction in both the average
outstanding balance and the applicable borrowing rate from a year ago.
INCOME TAXES
We provided for federal and state income taxes using an effective rate of
39.6% for the first nine months of 2002 compared with an effective rate of 36.0%
for the same period in 2001. The change in effective rates between periods
reflects the impact of permanent book/tax differences.
LIQUIDITY AND CAPITAL RESOURCES
Our net working capital position was $7.2 million at September 30, 2002
compared with $7.0 million at December 31, 2001. We had a cash balance of $1.4
million at September 30, 2002. Changes in working capital that increased our
cash position during the first nine months of 2002 included a reduction in
inventory of $1.2 million, the receipt of an income tax refund of $843,000, and
an increase in accounts payable of approximately $2.5 million primarily related
to extended payment terms from our largest suppliers. Factors that reduced our
cash balance during the first nine months of 2002 included cash payments of $2.6
million on our revolving credit facility, $418,000 for purchases of property and
equipment, and $624,000 for the acquisition of DataSpeak Systems, Inc.
Our days sales outstanding, calculated on quarterly sales, were
approximately 63 days as of September 30, 2002 compared to 71 days at December
31, 2001. Our days sales outstanding, and our liquidity, is significantly
influenced by the timing of payments received from our largest distributors. Our
two largest distributors comprised 56% of our total accounts receivable as of
September 30, 2002 and 48% of our total accounts receivable as of December 31,
2001.
Our inventory turnover measured in terms of days sales outstanding on a
quarterly basis, improved to 51 days as of September 30, 2002 from 84 days as of
December 31, 2001. The improvement in inventory turnover reflects our ongoing
efforts to enhance the procurement process to coincide with our sales forecast
and our efforts to reduce the levels of slower moving inventory.
Trade payables and accrued liabilities, including payables to third-party
and related-party manufacturers, were approximately $6.9 million as of September
30, 2002 compared with $4.5 million as of December 31, 2001. The level of our
trade payables and accrued liabilities between periods is largely influenced by
the timing of payments we make to our largest suppliers for inventory items and
payments to cover payroll. As of August 1, 2002 we modified our payment terms
from 30 days to 60 days with our largest suppliers. We generally pay all other
trade payables within 45 days from the invoice date.
We maintain a $15.0 million credit facility with General Electric Capital
Corporation that expires during April 2003, under which we had no amounts
outstanding as of September 30, 2002. The line of credit bears interest at 2.5%
over the 30-day commercial paper rate, or 4.21% as of September 30, 2002.
Advances under the line of credit are based upon eligible accounts receivable
and inventory of our wholly owned subsidiary Vodavi Communications Systems,
Inc., and are secured by substantially all of our assets. The revolving line of
credit contains covenants that are customary for similar credit facilities,
including a minimum fixed charges coverage ratio and inventory turnover ratio.
The credit agreement also prohibits our operating subsidiaries from paying
dividends to our company without the consent of GE Capital. As of September 30,
2002, we were in compliance with all of the covenants.
13
We had total borrowing capacity of approximately $8.3 million, based on
eligible accounts receivable and inventory, under the credit facility at
September 30, 2002. Our current credit facility will expire in April 2003. We
are currently seeking a renewal or replacement facility; however, there can be
no assurance that we will be able to renew this credit facility or obtain a new
facility when our current credit facility expires.
During March 2002 we acquired substantially all of the assets and assumed
certain liabilities of DataSpeak Systems, Inc., an Arizona-based dealer of our
products. Under the terms of the purchase agreement, we paid cash of $624,000
and issued 100,000 shares of restricted common stock valued at $135,000. The
cash portion of the acquisition was funded through proceeds available under our
credit facility.
We have no special purpose entities or off balance sheet financing
arrangements, commitments, or guarantees other than certain long-term operating
lease agreements for our office and warehouse facilities and short-term purchase
commitments to our third-party suppliers.
The following table sets forth all known commitments as of September 30,
2002 and the year in which those commitments become due or are expected to be
settled (IN THOUSANDS):
Accounts
Payable &
Operating Credit Purchase Accrued
Year Leases Facility Commitments Liabilities Total
---- ------ -------- ----------- ----------- -----
2002 $ 341 $ -- $ 5,438 $ 6,857 $12,636
2003 1,008 -- -- -- 1,008
2004 1,009 -- -- -- 1,009
2005 831 -- -- -- 831
2006 814 -- -- -- 814
Thereafter 3,927 -- -- -- 3,927
------- -------- ------- ------- -------
Total $ 7,930 $ -- $ 5,438 $ 6,857 $20,225
======= ======== ======= ======= =======
From time to time we also are subject to certain asserted and unasserted
claims encountered in the normal course of business. We believe that the
resolution of these matters will not have a material adverse effect on our
financial position or results of operations. We cannot provide assurance,
however, that damages that result in a material adverse effect on our financial
position or results of operations will not be imposed in these matters.
We believe that our working capital and credit facilities are sufficient to
fund our capital needs during the next 12 months. Although we currently have no
acquisition targets, we intend to continue to explore acquisition opportunities
as they arise and may be required to seek additional financing in the future for
such opportunities.
INTERNATIONAL MANUFACTURING SOURCES
We currently obtain most of our products under various manufacturing
arrangements with third party and related-party manufacturers in Asia, a
majority of which we purchase from LGE who owns approximately 20% of our
outstanding common stock. As of the date of this report, we do not believe that
the current economic or political environment in Asia will have any adverse
impact on our operations.
Our operations are dependent on a continued source of supply of these
products from Asia. These products are transported to the United States aboard
container ships, which dock primarily in the Los Angeles, California area.
Unloading of these containers involves union workers and the current West Coast
union agreement expired on July 1, 2002. The parties have been unsuccessful in
negotiating a new contract, which has resulted in port closures. The ports are
currently operating pursuant to a court order under the Taft-Hartly Act.
Negotiations are underway for a new contract, but there can be no assurance that
an agreement will be reached without a shutdown of ports on the West Coast. A
strike, work slow down, or a lockout at any of the West Coast ports would
disrupt the flow of our products and would likely have a material adverse impact
on our sales and earnings.
14
IMPACT OF RECENTLY ISSUED STANDARDS
In 2001, the FASB issued SFAS No. 141, ACCOUNTING FOR BUSINESS
COMBINATIONS, and SFAS No. 142, GOODWILL AND OTHER INTANGIBLE ASSETS. These
statements modified accounting for business combinations after June 30, 2001 and
affected our treatment of goodwill and other intangible assets effective January
1, 2002. The statements require that goodwill existing at the date of adoption
be reviewed for possible impairment and that impairment tests be performed at
least annually, with impaired assets written-down to fair value. Additionally,
existing goodwill and intangible assets must be assessed and classified
consistent with the statements' criteria. Intangible assets with estimated
useful lives will continue to be amortized over those periods. Amortization of
goodwill and intangible assets with indeterminate lives will cease.
We have determined that upon adoption of these statements on January 1,
2002, the entire $1.6 million carrying amount of the existing goodwill was
impaired. This determination was based principally on the total market value of
our issued and outstanding common stock on January 1, 2002 of $5.5 million
compared to our book value on December 31, 2001 of $11.0 million. Accordingly,
during the first quarter of 2002, we recorded a goodwill impairment of $1.3
million, net of tax. The goodwill impairment is presented in the accompanying
financial statements as a change in accounting principle in accordance with the
provisions of SFAS No. 142.
The following table sets forth, for the periods presented, pro forma net
income (loss) as if we had adopted SFAS Nos. 142 and 141 from the earliest
period presented:
Three Months Ended Nine Months Ended
September 30, September 30,
------------------- -------------------
2002 2001 2002 2001
------- ------- ------- -------
Income (loss) before change in accounting
principle, as reported $ 221 $ 253 $ 690 $(1,672)
Add back goodwill amortization, net of taxes -- 25 -- 75
------- ------- ------- -------
Adjusted net income (loss) $ 221 $ 278 $ 690 $(1,597)
======= ======= ======= =======
Except as disclosed above, the adoption of these statements did not have a
material impact on our financial condition or results of operations.
In October 2001, the FASB issued SFAS No. 144 "Accounting for Impairment or
Disposal of Long-Lived Assets". SFAS No. 144 addresses financial accounting and
reporting for the impairment or disposal of long-lived assets. This statement
also extends the reporting requirements to report separately, as discontinued
operations, components of an entity that have either been disposed of or are
classified as held-for-sale. We adopted the provisions of SFAS No. 144 effective
January 1, 2002. The adoption of this statement did not have any impact on our
financial condition or results of operations.
In July 2001, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." SFAS No. 146 requires companies to
recognize costs associated with exit or disposal activities when they are
incurred rather than at the date of a commitment to an exit or disposal plan.
SFAS No. 146 replaced EITF Issue No. 94-3, "Liability Recognition for certain
Employee Termination Benefits and Other Costs to Exit an Activity (including
Certain Costs Incurred in a Restructuring)," and will apply to exit or disposal
activities initiated after December 31, 2002. We have reviewed the requirements
of SFAS No. 146 and believe the adoption of this statement will not have a
material impact on our financial statements.
CAUTIONARY STATEMENT REGARDING FORWARD LOOKING STATEMENTS
This report contains forward-looking statements, including statements
regarding our business strategies, our business, and the industry in which we
operate. These forward-looking statements are based primarily on our
expectations and are subject to a number of risks and uncertainties, some of
which are beyond our control. Actual results could differ materially from the
forward-looking statements as a result of numerous factors, including those set
forth in this report and in our Form 10-K for the year ended December 31, 2001,
as filed with the Securities and Exchange Commission.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We do not participate in any activities involving derivative financial
instruments or other financial and commodity instruments for which fair value
disclosure would be required.
15
We do not hold investment securities that would require disclosure of
market risk. Our market risk exposure is limited to interest rate risk
associated with our credit instruments. We incur interest on loans made under a
revolving line of credit at variable interest rates of 2.5% over the 30-day
commercial paper rate, a total of 4.21% at September 30, 2002. The principal of
loans under this line of credit is due in April 2003. At September 30, 2002 we
had no outstanding borrowings on the line of credit.
ITEM 4. CONTROLS AND PROCEDURES
As of a date within 90 days prior to the date of the filing of this report,
our Chief Executive Officer and Chief Financial Officer have reviewed and
evaluated the effectiveness of our disclosure controls and procedures, which
included inquiries made to certain other of our employees. Based on their
evaluation, our Chief Executive Officer and Chief Financial Officer have each
concluded that our disclosure controls and procedures are effective to assure
that we record, process, summarize, and report information required to be
disclosed by us in our periodic reports filed under the Securities Exchange Act
within the time periods specified by the Securities and Exchange Commission's
rules and forms. Subsequent to the date of their evaluation, there have not been
any significant changes in our internal controls or in other factors that could
significantly affect these controls, including any corrective action with regard
to significant deficiencies and material weaknesses.
PART II - OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
On November 9, 1998, Paradygm Communications, Inc. and R.C. Patel
filed a lawsuit against our subsidiary, Vodavi Communications Systems,
Inc., or VCS in the United States District Court, Northern District of
Georgia, Atlanta Division (Civil Action File No. 1:98-CV-3637-WBH). The
complaint alleged that VCS (i) breached its strategic alliance agreement
with Paradygm, as well as its warranty of product fitness under the
strategic alliance agreement; (ii) failed to provide reasonable technical
and sales training assistance to Paradygm's employees to support Paradygm
in its efforts to sell products under the agreement; and (iii) engaged in
conduct that constitutes intentional or negligent misrepresentation. The
complaint requested compensatory, punitive, incidental, and consequential
damages, attorneys' fees, plus any additional relief. We answered the
complaint denying the foregoing allegations, asserting that the complaint
fails to state a claim and, for various reasons, the relief sought by
Paradygm and Patel is barred. We also filed a counterclaim against Paradygm
alleging that Paradygm breached the agreement because of its failure to
meet its payment obligations to us. The counterclaim requested amounts due
pursuant to the strategic alliance agreement, the costs of litigation, and
reasonable attorneys' fees. During October 2002, the parties settled the
dispute. As a result, we paid Paradygm and Patel $250,000 and we accrued
$50,000 of unbilled legal fees. The financial impact of this settlement is
included in our consolidated financial statements for the three and nine
month periods ended September 30, 2002.
Item 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
Not applicable
Item 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable
16
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
We held our 2002 Annual Meeting of Stockholders on July 15, 2002. The
following nominees were elected to our Board of Directors to serve until
the next annual meeting of stockholders, until their successors are elected
or have been qualified, or until their earlier resignation or removal:
Nominee Votes in Favor Withheld
------- -------------- --------
William J. Hinz 3,779,683 83,300
Gregory K. Roeper 3,774,683 88,300
Jack A. Henry 3,776,883 86,100
Kyeong-Woo Lee 3,779,183 83,800
Stephen A McConnell 3,779,683 83,300
Emmett E. Mitchell 3,779,683 83,300
Frederick M. Pakis 3,777,183 85,800
Our stockholders approved a proposal to approve an amendment to our Amended
and Restated 1994 Stock Option Plan to increase the number of shares of our
common stock reserved for issuance pursuant to the plan from 1,100,000 to
1,600,000.
Votes in Favor Opposed Abstained Broker Non-Vote
-------------- ------- --------- ---------------
1,957,552 210,981 16,690 1,677,760
Item 5. OTHER INFORMATION
Not applicable
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
Exhibits:
99.1 Certification of the Chief Executive Officer of the Registrant,
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
99.2 Certification of the Chief Financial Officer of the Registrant,
pursuant to 18 U.S.C. Section of 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
Reports on Form 8-K:
Not applicable
17
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
VODAVI TECHNOLOGY, INC.
Dated: November 12, 2002 /s/ Gregory K. Roeper
----------------------------------------
Gregory K. Roeper
President and Chief Executive Officer
(Principal Executive Officer)
Dated: November 12, 2002 /s/ David A. Husband
----------------------------------------
David A. Husband
Chief Financial Officer and Vice
President - Finance (Principal Financial
and Accounting Officer)
18
CERTIFICATION
I, Gregory K. Roeper, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Vodavi Technology,
Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations, and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) Designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) Evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) Presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the audit
committee of the registrant's board of directors (or persons performing the
equivalent function):
a) All significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize, and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether there were significant changes in internal controls or
in other factors that could significantly affect internal controls subsequent to
the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
Date: November 12, 2002
/s/ Gregory K. Roeper
----------------------------------------
Gregory K. Roeper
Chief Executive Officer and President
19
CERTIFICATION
I, David A. Husband, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Vodavi Technology,
Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations, and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) Designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) Evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) Presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the audit
committee of the registrant's board of directors (or persons performing the
equivalent function):
a) All significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize, and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether there were significant changes in internal controls or
in other factors that could significantly affect internal controls subsequent to
the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
Date: November 12, 2002
/s/ David A. Husband
----------------------------------------
David A. Husband
Chief Financial Officer and
Vice President -- Finance
20