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UNITED STATES
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 December 31, 2003, or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from NA to NA.
Commission File Number 0-16106
APA OPTICS, INC.
(Exact name of Registrant as specified in its charter)
MINNESOTA 41-1347235
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
2950 N.E. 84TH LANE, BLAINE, MINNESOTA 55449
(Address of principal executive offices and zip code)
(763) 784-4995
(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 the filing
requirement 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
--- ---
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date:
Class: Outstanding at December 31, 2003
Common stock, par value $.01 11,872,331
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
APA OPTICS, INC.
CONSOLIDATED CONDENSED BALANCE SHEETS
(UNAUDITED)
December 31, March 31,
2003 2003
-------------- -------------
ASSETS
Current assets:
Cash and cash equivalents $ 15,040,465 $ 22,235,686
Accounts receivable, net of allowance for
uncollectible accounts of $24,838 at December 31,
2003 and $20,644 at March 31, 2003 1,407,578 468,576
Inventories 2,403,681 1,398,203
Prepaid expenses 182,897 134,045
Bond reserve funds 84,282 125,830
-------------- -------------
Total current assets 19,118,903 24,362,340
Property, plant and equipment, net 4,402,452 3,989,344
Other assets:
Bond reserve funds 335,618 340,629
Bond placement costs, net of accumulated
amortization 1,771 20,013
Patents, net of accumulated amortization 92,738 85,362
Goodwill 2,778,296 2,500,296
Other 569,386 586,542
-------------- -------------
3,777,809 3,532,842
-------------- -------------
Total assets $ 27,299,164 $ 31,884,526
============== =============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt $ 1,545,149 $ 1,846,922
Accounts payable 910,483 454,804
Accrued expenses 529,417 337,097
-------------- -------------
Total current liabilities 2,985,049 2,638,823
Long-term debt 276,831 326,760
Shareholders' equity:
Common Stock 118,723 118,723
Additional paid-in capital 51,975,345 52,001,681
Accumulated deficit (28,056,784) (23,201,461)
-------------- -------------
Total shareholders' equity 24,037,284 28,918,943
-------------- -------------
Total liabilities and shareholders' equity $ 27,299,164 $ 31,884,526
============== =============
SEE ACCOMPANYING NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
2
APA OPTICS, INC.
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended Nine Months Ended
December 31, December 31,
-------------------------- --------------------------
2003 2002 2003 2002
------------ ------------ ------------ ------------
Revenues $ 3,301,955 $ 40,674 $ 8,426,533 $ 152,025
Costs and expenses:
Cost of sales 3,314,468 554,053 8,521,606 2,030,730
Research and development 248,128 360,178 655,302 1,050,025
Selling, general and administrative 1,380,005 296,638 4,104,496 1,014,573
------------ ------------ ------------ ------------
4,942,601 1,210,869 13,281,404 4,095,328
------------ ------------ ------------ ------------
Loss from operations (1,640,646) (1,170,195) (4,854,871) (3,943,303)
Other income 38,569 44,906 98,677 300,795
Other expense (39,196) (25,705) (96,966) (79,716)
------------ ------------ ------------ ------------
(627) 19,201 1,711 221,079
------------ ------------ ------------ ------------
Loss before income taxes (1,641,273) (1,150,994) (4,853,160) (3,722,224)
Income taxes 1,163 500 2,163 1,000
------------ ------------ ------------ ------------
Net loss $(1,642,436) $(1,151,494) $(4,855,323) $(3,723,224)
============ ============ ============ ============
Net loss per share:
Basic and diluted ($0.14) ($0.10) ($0.41) ($0.31)
Weighted average shares outstanding:
Basic and diluted 11,872,331 11,872,331 11,872,331 11,874,371
============ ============ ============ ============
SEE ACCOMPANYING NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
3
APA OPTICS, INC.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
Nine Months Ended
December 31,
--------------------------
2003 2002
------------ ------------
OPERATING ACTIVITIES
Net loss $(4,855,323) $(3,723,224)
Adjustments to reconcile net loss to net cash used in operating
activities, net of acquisition:
Depreciation and amortization 672,528 512,638
Write-off of patents - 108,660
Stock based compensation expense (26,336) (44,729)
Changes in operating assets and liabilities:
Accounts receivable (345,002) (12,889)
Inventories (367,478) (66,252)
Prepaid expenses and other (124,441) (16,445)
Accounts payable and accrued expenses 647,999 (55,966)
------------ ------------
Net cash used in operating activities (4,398,053) (3,298,207)
INVESTING ACTIVITIES
Purchases of property and equipment, net (542,891) (181,793)
Cash paid for business acquisition (1,960,000) -
Investment in patents (7,376) (14,176)
------------ ------------
Net cash used in investing activities (2,510,267) (195,969)
FINANCING ACTIVITIES
Repayment of long-term debt (351,702) (437,032)
Repurchase of common stock - (5,991)
Bond reserve funds 64,801 52,291
------------ ------------
Net cash used in financing activities (286,901) (390,732)
------------ ------------
Decrease in cash and cash equivalents (7,195,221) (3,884,908)
Cash and cash equivalents at beginning of period 22,235,686 31,606,403
------------ ------------
Cash and cash equivalents at end of period $15,040,465 $27,721,495
============ ============
Noncash investing and financing activities
Contributed land - $ 67,760
Net assets held for sale $ 57,564
SEE ACCOMPANYING NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
4
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
NOTE 1. BASIS OF PRESENTATION
The accompanying condensed financial statements have been prepared pursuant
to the rules and regulations of the Securities and Exchange Commission.
Accordingly, they do not include all of the information and footnotes required
by accounting principles generally accepted in the United States of America for
complete financial statements. For further information, refer to the financial
statements and footnotes thereto included in the Company's annual report on Form
10-K for the year ended March 31, 2003.
In the opinion of management, all adjustments (consisting of normal
recurring accruals) considered necessary for a fair presentation have been
included. Certain reclassifications of previously reported amounts have been
made to conform that presentation to the current period presentation.
NOTE 2. NET LOSS PER SHARE
The following table sets forth the computation of basic and diluted net
loss per share:
Three Months Ended Nine Months Ended
December 31, December 31,
-------------------------- --------------------------
2003 2002 2003 2002
------------ ------------ ------------ ------------
Numerator for basic and diluted net loss $(1,642,436) $(1,151,494) $(4,855,323) $(3,723,224)
------------ ------------ ------------ ------------
Denominator for basic and diluted net loss per share- weighted-
average shares outstanding 11,872,331 11,872,331 11,872,331 11,874,371
============ ============ ============ ============
Basic and diluted net loss per share ($0.14) ($0.10) ($0.41) ($0.31)
============ ============ ============ ============
Common stock options and warrants to purchase 1,008,697 and 548,697 shares of
common stock with a weighted average exercise price of $6.67 and $9.51 were
outstanding at December 31, 2003 and 2002, respectively, but were excluded from
calculating the three months diluted net loss per share because they were
antidilutive.
NOTE 3. LAND
The Company acquired land in Aberdeen, SD as part of a financing package
provided by the Aberdeen Development Corporation to locate a manufacturing
facility in that city. Ownership of the land was contingent upon the Company
remaining in the facility through June 23, 2002. After satisfying the
contingency, the Company added $67,760 (the assessed value of the land for tax
purposes) to its balance sheet and increased additional-paid-in capital by a
like amount.
NOTE 4. STOCK OPTION GRANTS
On August 22, 2002 the Company granted an option to purchase 2,500 shares
of common stock to every current employee with the exception of Anil Jain, the
Chief Executive Officer, and Ken Olsen, the Chief Operating Officer. A total of
122,500 options were granted, all with an exercise price equal to the fair
market value of the stock on the day of grant. The options become exercisable
for 60% of the shares when the Company achieves specified financial objectives
and exercisable as to the remaining 40% when the Company achieves specified
5
operational objectives set forth in the Short-Term Incentive Plan. Accordingly,
these options are treated as variable awards, and the Company reflects changes
in their value in the general and administrative expense line until the options
are exercised or expire. As of December 31, 2003, 14,940 shares have vested
and related expense has been recorded within SG&A. The Company recorded a gain
of $10,458 for the three months ended December 31, 2003 and expense of $3,436
for the nine months ended December 31, 2003 related to these options.
NOTE 5. ACQUISITION
The Company acquired the assets of Americable, Inc. on June 27, 2003. The
purchase price and assets acquired are as follows:
Accounts receivable $ 594,000
Inventory 638,000
Property, plant and equipment 450,000
----------
Assets purchased 1,682,000
Goodwill 278,000
----------
Purchase price $1,960,000
==========
NOTE 6. SEGMENT REPORTING
The March 2003 and June 2003 acquisitions of Computer System Products, Inc.
and Americable, Inc,, prompted the Company's management to adjust how it
evaluates its business. As a result the Company established segments under FASB
131"Disclosures about Segments of an Enterprise and Related Information." This
evaluation is based on the way segments are organized within the Company for
making operating decisions and assessing performance. The Company has identified
two reportable segments based on its internal organizational structure,
management of operations, and performance evaluation. These segments are APA
Optics (APA) and APA Cables and Networks (APACN). APA's revenue is generated in
the design, manufacture and marketing of ultraviolet (UV) detection and
measurement devices and optical components. APACN's revenue is derived primarily
from standard and custom fiber optic cable assemblies, copper cable assemblies,
value added fiber optics frames, panels and modules. Expenses are allocated
between the companies based on detailed information contained in invoices. In
addition, corporate overhead costs for management's time and other expenses
absorbed at APA are allocated to APACN on an ongoing basis. Such allocated
expenses were $61,251 and $96,851 for the three and nine months ended December
31, 2003. Segment detail is summarized as follows (unaudited, in thousands):
APA Optics APACN Eliminations Consolidated
------------ ------- -------------- --------------
THREE MONTHS ENDED DECEMBER 31,
2003
External sales $ 99 $3,239 $ (36) $ 3,302
Cost of sales 790 2,561 (36) 3,315
Operating loss (1,307) (334) - (1,641)
Depreciation and amortization 188 54 - 242
Capital expenditures, net 373 15 - 388
Assets 27,029 7,456 (7,186) 27,299
THREE MONTHS ENDED DECEMBER 31,
2002
External sales $ 41 - - $ 41
Cost of sales 554 - - 554
Operating loss (1,170) - - (1,170)
Depreciation and amortization 170 - - 170
Capital expenditures 116 - - 116
Assets 32,217 - - 32,217
6
NINE MONTHS ENDED DECEMBER 31,
2003
External sales $ 222 $8,249 $ (44) $ 8,427
Cost of sales 2,150 6,416 (44) 8,522
Operating loss (4,053) (802) - (4,855)
Depreciation and amortization 557 116 - 673
Capital expenditures, net 473 127 - 600
Assets 27,029 7,456 (7,186) 27,299
NINE MONTHS ENDED DECEMBER 31,
2002
External sales $ 152 $ - $ - $ 152
Cost of sales 2,031 - - 2,031
Operating loss (3,943) - - (3,943)
Depreciation and amortization 513 - - 513
Capital expenditures 182 - - 182
Assets 32,217 - - 32,217
Note 7. Stock Repurchase Plan
On October 1, 2002, the Board of Directors extended its plan authorizing
the repurchase of up to the greater of $2,000,000 or 500,000 shares of the
Company's common stock. For the nine months ended December 31, 2002, the Company
repurchased a total of 3,550 shares for $5,991 at an average price of $1.69 per
share. No shares were purchased during the nine months ended December 31, 2003.
NOTE 8. WRITE-OFF OF PATENT COSTS
As a result of the slow down in the sale of fiber optic components and
uncertainty regarding if and when demand for such components will recover, the
Company expensed the unamortized balance of patents related to its dense
wavelength multiplexer / demultiplexers or "DWDM" technology. As a result,
expenses related to patents increased $108,660 for the quarter and nine months
ended December 31, 2002. There was no comparable expense during the quarter and
nine months ended December 31, 2003.
NOTE 9. DISCONTINUED OPERATIONS
In January, 2004 the Company announced the discontinuance of optics
manufacturing at its Blaine facility, affecting its APA Optics segment. The
closure was the result of aggressive off-shore pricing and continued lower
demand for this product line. This will result in a charge of up to $200,000 to
be taken in the 4th quarter ending March 31, 2004. The Company has identified
certain assets related to this activity and effective December 31, 2003, has
listed their book value as of that date as net assets held for sale. The book
value amount, which has been determined to be approximately $58,000, was
reclassified and removed from Property, Plant and Equipment and is included
within Other Assets on the Balance Sheet.
NOTE 10. STOCK BASED COMPENSATION
In accordance with Accounting Principles Board (APB) Opinion No. 25, the
Company uses the intrinsic value-based method for measuring stock-based
compensation cost which measures compensation cost as the excess, if any, of the
quoted market price of the Company's common stock at the grant date over the
amount the employee must pay for the stock. The Company's policy is to grant
stock options at fair value at the date of grant. The following table
illustrates the effect on net loss and net loss per share if the Company had
applied the fair value recognition provisions of FASB Statement No. 123,
"Accounting for Stock-Based Compensation", to stock-based employee compensation
(in thousands, except per share data).
7
Thee Months Ended Nine Months Ended
December 31, December 31,
-------------------------- --------------------------
2003 2002 2003 2002
------------ ------------ ------------ ------------
Net loss as reported $(1,642,436) $(1,151,494) $(4,855,323) $(3,723,224)
Less: Compensation expense
determined under the fair value
method, net of tax 50,318 32,180 150,952 96,540
------------ ------------ ------------ ------------
Pro forma net loss $(1,692,754) $(1,183,674) $(5,006,275) $(3,819,764)
============ ============ ============ ============
Net loss per share:
Basic and diluted as reported ($0.14) ($0.10) ($0.41) ($0.31)
Basic and diluted pro forma ($0.14) ($0.10) ($0.42) ($0.32)
NOTE 11. ADOPTION OF NEW ACCOUNTING PRONOUNCEMENTS
In June 2002, FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." SFAS No. 146 requires the recognition of a
liability for a cost associated with an exit or disposal activity when the
liability is incurred versus the date the Company commits to an exit plan. In
addition, SFAS No. 146 states the liability should be initially measured at fair
value. The requirements of SFAS No. 146 are effective for exit or disposal
activities that are initiated after December 31, 2002. In accordance with SFAS
No. 146, the Company expects to incur a charge of approximately $200,000 in the
4th quarter ending March 31, 2004 related to the closing of it Optics
operations.
In November 2002, the FASB issued Interpretation 45 (FIN 45), "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others." This statement clarifies the initial
accounting and disclosure requirements of SFAS 5 for certain guarantees. The
initial recognition and measurement provisions are effective for guarantees
issued or modified after December 31, 2002 and the disclosure requirements are
effective for financial statements of interim or annual periods ending after
December 15, 2002. The Company believes the adoption of FIN 45 did not have a
material effect on the Company's financial position or results of operations.
In January 2003, the FASB issued Interpretation No. 46 (FIN 46),
"Consolidation of Variable Interest Entities" (VIE), which requires
consolidation of variable interest entities by holders of variable interests
that meet certain conditions. FIN 46 establishes accounting for variable
interests in a VIE created after January 31, 2003. FIN 46 clarifies how an
enterprise should determine if it should consolidate a VIE. The adoption of FIN
46 has not had a material affect on the Company's consolidated financial
position or results of operations.
In May 2003, the FASB issued Statement 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity". This
statement changes the classification of certain common financial instruments
from either equity or mezzanine presentation to liabilities in the balance sheet
and requires an issuer of those financial instruments to recognize changes in
fair value or redemption amount, as applicable, in earnings. This statement is
effective for financial instruments entered into or modified after May 31, 2003
and, with one exception, is effective for the quarter beginning July 1, 2003 for
public companies. As the Company has not issued any financial instruments
addressed by this new pronouncement, its adoption did not have a material effect
on the Company's consolidated financial statements.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
8
Statements in this Report about future sales prospects and other matters to
occur in the future are forward looking statements and are subject to
uncertainties due to many factors, many of which are beyond our control. These
factors include, but are not limited to, the continued development of our
products, acceptance of those products by potential customers, our ability to
sell such products at a profitable price, and our ability to fund our
operations. For further discussion regarding these factors, see "Factors That
May Influence Future Results."
OVERVIEW
- --------
We design, manufacture, source from third parties, and market a variety of
fiber optic and copper components to the data communication and
telecommunication industries. We are also active in the design, manufacture and
marketing of ultraviolet (UV) detection and measurement devices, and in research
and development in the area of Gallium Nitride (GaN) based transistors.
Our primary internally manufactured products include standard and custom
fiber optic cable assemblies, copper cable assemblies, value added fiber optics
frames, panels and modules. These products are manufactured by our wholly owned
subsidiary APA Cables and Networks, Inc. (APACN), which acquired certain assets
of Computer System Products, Inc. ("CSP") on March 14, 2003 and certain assets
of Americable, Inc. ("Americable") on June 27, 2003. Several of the items
discussed under "Results of Operations" show significant changes from the
comparable periods in the preceding fiscal year as a result from the
acquisitions of CSP and Americable.
In January 2004 APA terminated its optics manufacturing in Blaine,
Minnesota as described in Note 9 to the financial statements. Additionally in
January 2004 APA consolidated its fiber optics operations within Blaine. APA
plans to continue to market and sell fiber optic products using mainly APACN's
sales team and channels. We outsource from third parties passive optical
splitters, arrayed waveguides (AWGs) and wavelength division multiplexers (WDMs)
based on Thin Film Filter (TFF) technology, which we combine with our internally
manufactured products to create value added components for our customers. The
majority of our outsourced product providers are located offshore.
Most companies in the communications industry have been affected by the
slowdown in telecommunications equipment spending. Decreased demand and
competition have put downward pressure on margins. This downward pressure is
likely to continue and we will need to reduce operating costs and improve
efficiencies to remain competitive in the marketplace.
Our consumer GaN based product, the SunUV(TM) Personal UV Monitor (formerly
SunWatch) is now ready for production. As of December 31, 2003, and currently,
we are working with our manufacturing facility in China to address yield and
production capacity issues. Whereas we shipped several hundred SunUV(TM)
Personal UV Monitors to one customer in the 3rd quarter, our ability to ship
large quantity orders is dependent upon our ability to solve production related
issues.
We continue to work on our industrial GaN based product, the TrUVMeter(TM)
to meet accuracy and reliability specifications for key markets in
sterilization, curing and scientific measurement. As reported previously, our
primary focus at present is to introduce the SunUV(TM) Personal UV Monitor to
the market and, subsequently, to introduce the TrUVMeter(TM).
RESULTS OF OPERATIONS
- ---------------------
REVENUES
Revenues for the quarter ended December 31, 2003 were $3,301,955,
reflecting over an eighty-fold increase from the comparable period in the
preceding fiscal year. The increase is attributable to revenues generated by our
wholly owned subsidiary, APACN, which produced $3,239,275 in revenues for the
quarter. This compares to $3,497,188 in the prior quarter ended September 30,
9
2003. Sales at APACN were affected by seasonality and the number of holidays in
the third quarter. Sales for the nine months ended December 31, 2003 were
$8,426,533, reflecting a 54-fold increase from the comparable period in the
preceding year. The increase is attributable to revenues generated by APACN,
which recorded revenue of $8,248,831 for the nine month period ended December
31, 2003. There are no corresponding revenues from APACN in the comparable
period in the preceding fiscal year. We expect that future sales of APACN
products will continue to account for a substantial portion of our revenue. We
anticipate that revenues in the fourth quarter ending March 31, 2004, as
compared to the third quarter ended December 31, 2003, will remain constant at
APA Optics and may grow slightly at APACN.
COST OF SALES
Cost of sales for the quarter ended December 31, 2003 was $3,314,468 and
$8,521,606 for the nine months ended December 31, 2003, respectively. Cost of
sales for the three and nine months ended December 31, 2002 was $554,053 and
$2,030,730, respectively. The increases over the comparable periods in the
preceding fiscal year are due primarily to the volume increase attributable to
APACN. Gross margins for APACN for the current quarter were $678,369 or 21%, and
$1,833,083, or 22%, for the nine months ended December 31, 2003. This compares
to gross margins of $838,150 for APACN in the prior quarter ended September 30,
2003. Gross margins for the quarter ended December 31, 2003 at APACN were
negatively affected by lower revenues as well as costs associated with expanding
to APA's Aberdeen production facility. Cost of sales for the quarter ended
December 31, 2003 at APA were negatively affected by the write off of
approximately $165,000 of obsolete inventory mainly related to fiber optics
products. We expect gross margins for APACN to improve as we gradually realize
lower manufacturing costs associated with APA's Aberdeen facility.
RESEARCH AND DEVELOPMENT EXPENSES
Research and development expenses decreased by $112,050, to $248,128, for
the quarter ended December 31, 2003 compared to the same period for the
preceding fiscal year. This represents a decrease of 31% compared to the same
period in the prior year. Research and development expenses decreased by
$394,723, from $1,050,025 to $655,302, for the nine months ended December 31,
2003 compared to the same period in 2002. Decreases in both the three and nine
month periods in 2003 versus 2002 are due primarily to decreased research
activity related to our fiber optic products. The majority of the decreases are
due to reduction in salaries and other related expenses. We expect research and
development expenses to remain consistent with previous quarters for the
balance of fiscal 2004.
SELLING, GENERAL AND ADMINISTRATIVE
Selling, general and administrative expenses increased $1,083,367 to
$1,380,005 for the quarter ended December 31, 2003 versus $296,638 for the
comparable period in the preceding fiscal year, reflecting an increase of 365%.
The increase is due primarily to the addition of APACN, which had $1,012,066 in
SG&A expenses for the quarter. This compares to $1,104,028 in the second quarter
ended September 30, 2003, or a decrease of $91,962. The decrease form the prior
quarter is due mainly to one time expenses APACN incurred in the second quarter
associated with its consolidation of facilities, coupled with additional sales
and marketing expenses in the third quarter attributable to compensation of
additional outside manufacturer representatives and higher marketing costs. For
the three months ended December 31, 2003, expenses at APA Optics increased
$71,301 to $367,939 from $296,638, due primarily to higher depreciation and
amortization expenses.
For the nine months ended December 31, 2003, SG&A increased $3,089,923, or
305%, to $4,104,496. The increase was primarily due to the acquired operations
of APACN, which had $2,635,510 in expenses for the nine months ended December
31, 2003, approximately 67% of which is personnel related. For the nine months
ended December 31, 2003, SG&A expenses at APA Optics increased $454,413 to
$1,468,986 from $1,014,573, primarily due to higher depreciation and
amortization along with higher personnel expenses. For the nine months ended
December 31, 2003, approximately $230,000 of APA Optics SG&A expenses, primarily
professional fees, have been related to non-recurring uncapitalized transaction
costs for the acquisitions of CSP and Americable. We expect SG&A expenses to
decrease next quarter as cost savings related to the consolidation of the
operations of APA's fiber optic segment are achieved.
10
LOSS FROM OPERATIONS
The loss from operations was $1,640,646, an increase of $470,451, or 40%
for the quarter ended December 31, 2003 over the comparable period in fiscal
2003. The increased loss in the quarter was the result of operating losses at
APACN, which totaled $333,697 for the period. The loss from operations for the
nine months ended December 31, 2003 was $4,854,871, an increase of $911,568, or
23%, from $3,943,303 in the comparable period in the preceding year. The
increased loss is primarily the result of the operating losses at APACN. We
expect to incur losses over the balance of fiscal 2004 as we continue to
experience low sales volumes of fiber optic products and SunUVTM Personal UV
Monitor products at APA; however we have taken steps through expense reductions
to decrease the losses.
OTHER INCOME AND EXPENSE
Other income decreased $6,337, or 14%, for the three months ended December
31, 2003 from the comparable period in fiscal 2003. For the nine months ended
December 31, 2003, other income decreased $202,118, or 67% from the comparable
period in the preceding fiscal year. Other expenses increased $13,491 for the
three months ended December 31, 2003. For the nine-month period ended December
31, 2003, other expenses increased $17,250 due to additional interest expense on
capital leases at APACN. Interest income, a component of other income, decreased
$13,728, or 26% and $185,317, or 60% for the three and nine months ended
December 31, 2003, respectively, from the comparable periods in the preceding
fiscal year. The decreases in interest income were due to the combination of a
decline in the rate of interest earned on short-term investments and a lower
average cash balance, as cash was consumed to fund operations, capital
investment, debt service and acquisitions. Unless short-term interest rates
increase, we anticipate continuing decreases in interest income as a result of
the use of cash in operations, for capital expansion and for debt service.
NET LOSS
The net loss for the quarter ended December 31, 2003, was $1,642,436 (or
$0.14 per basic and diluted share), an increased loss of $490,942 or 43% from
the net loss reported for the same period in fiscal 2003. The increased net
losses are primarily the result of net losses at APACN. For the nine months
ended December 31, 2003, the net loss was $4,855,323, (or $.41 per basic and
diluted share), an increase of $1,132,099 or 30% from the net loss reported for
the same period in fiscal 2003.
LIQUIDITY AND CAPITAL RESOURCES
- -------------------------------
APA's cash and cash equivalents consist primarily of money market funds,
U.S. Government instruments or other government instruments with original
maturities of less than three months. The balance of cash and cash equivalents
at December 31, 2003 is $15,040,465 compared to $22,235,686 at March 31, 2003.
The decrease in cash was primarily the result of the acquisition of the assets
of Americable, Inc. and the use of cash to fund operations.
We used net cash of $2,510,267 in investing activities for the nine months
ended December 31, 2003 compared to $195,969 used in the same period of the
preceding fiscal year. Of this amount, $1,960,000 was used to purchase the
assets of Americable, Inc. We also had a net investment of $542,891 for the
nine months ended December 31, 2003 for computer and production equipment. We
anticipate a total of approximately $1,250,000 in capital expenditures in fiscal
2004, primarily for equipment in HFET research at APA Optics. This includes
payment of $375,000 in the quarter ended December 31, 2003 toward the $750,000
purchase price of a Gallium Nitride 2 inch multiwafer material growth system.
We anticipate the delivery of the system during the fourth quarter of fiscal
2004. The balance of the purchase price, $375,000, is due three months after
delivery. We also expect to invest in leasehold improvements including a
sprinkler system for the Blaine facility.
Net cash used in financing activities for the nine months ended December
31, 2003 totaled $286,901. We used $351,702 for the scheduled reduction of debt
and generated $64,801 from the reduction of bond reserve funds. During the same
period in fiscal 2003 we used $390,732 in financing activities, of which
$437,032 was used for the scheduled reduction of debt, $52,291 was generated
from the reduction of bond reserve funds and $5,991 was used to repurchase
common stock of the Company.
11
We believe we have sufficient funds for operations for at least the next
twelve months.
Our contractual obligations and commitments are summarized in the table
below (in 000's):
Less than After
Total 1 Year 1-3 years 4-5 years 5 years
----------------------------------------------------
Long-term debt $1,822 $ 1,545 $ 101 $ 35 $ 141
Leases 673 349 324 - -
----------------------------------------------------
Total Contractual Cash
Obligations $2,495 $ 1,894 $ 425 $ 35 $ 141
====================================================
Application of Critical Accounting Policies
We have reviewed our use of estimates in applying our accounting policies
and determined that significant changes in our various estimates would not have
a material impact on the presentation of our financial condition, changes in
financial condition or results of operations. Accordingly, we do not consider
any of our estimates to be "critical estimates" as defined in the rules of the
Securities and Exchange Commission. See Note A of Notes to Financial Statements
under Item 8 of our Report on Form 10-K for our fiscal year ended March 31, 2003
for descriptions of the use of estimates in our accounting policies. Our
management and the audit committee of our board of directors have discussed our
use of estimates and have approved our disclosure relating to it in this report.
In Note 11 to the financial statements of this report, the effect of
recent promulgations of the Financial Accounting Standards Board (FASB) on the
Company is described. We believe the adoption of these Statements and
Interpretations will not have a material effect on the Company's financial
position or results of operations.
FACTORS THAT MAY INFLUENCE FUTURE RESULTS
- -----------------------------------------
The statements contained in this report on Form 10-Q that are not purely
historical are "forward-looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of
1933 and Section 21E of the Securities Exchange Act of 1934, including, without
limitation, statements regarding the Company's expectations, hopes, beliefs,
anticipations, commitments, intentions and strategies regarding the future.
Forward-looking statements include, but are not limited to, statements contained
in "Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations." Actual results could differ from those projected in any
forward-looking statements for the reasons, among others, detailed below. We
believe that many of the risks detailed here are part of doing business in the
industry in which we compete and will likely be present in all periods reported.
The fact that certain risks are characteristic to the industry does not lessen
the significance of the risk. The forward-looking statements are made as of the
date of this Form 10-Q and we assume no obligation to update the forward-looking
statements or to update the reasons why actual results could differ from those
projected in the forward-looking statements.
Unless we generate significant revenue growth, our expenses and negative cash
flow will significantly harm our financial position.
We have not been profitable since fiscal 1990. As of December 31, 2003, we
had an accumulated deficit of $28 million. We may incur operating losses for the
foreseeable future, and these losses may be substantial. Further, we may
continue to incur negative operating cash flow in the future. We have funded our
operations primarily through the sale of equity securities and borrowings. We
have significant fixed expenses and we expect to continue to incur significant
and increasing manufacturing, sales and marketing, product development and
administrative expenses. As a result, we will need to generate significantly
higher revenues while containing costs and operating expenses if we are to
achieve profitability.
12
Declining average selling prices for our fiber optic products will require us to
reduce production costs to effectively compete and market these products
Since the time we first introduced our fiber optic components to the
marketplace we have seen the average selling price of fiber optic components
decline. We expect this trend to continue. To achieve profitability in this
environment we must continually decrease our costs of production. In order to
reduce our production costs, we will continue to pursue one or more of the
following:
- Seek lower cost suppliers of raw materials or components.
- Work to further automate our assembly process.
- Develop value-added components based on integrated optics.
- Seek offshore sources for assembly services.
We will also seek to form strategic alliances with companies that can
supply these services. Decreases in average selling prices also require that we
increase unit sales to maintain or increase our revenue. There can be no
guarantee that we will achieve these objectives. Our inability to decrease
production costs or increase our unit sales could seriously harm our business,
financial condition and results of operations.
We believe our success in competing with other manufacturers of fiber optic
and copper components and assemblies will depend primarily on our manufacturing
and marketing skills, the price, quality and reliability of our products, our
delivery capabilities and our control of operating expenses. We have experienced
and anticipate experiencing increasing pricing pressures from our current and
future competitors as well as general pricing pressure from our customers as
part of their cost reduction efforts. Competition may also be affected by
consolidation among suppliers in this industry, which may increase their
resources. As a result, other competitors may be able to respond more quickly
than we can to new or emerging technologies and changes in customer
requirements.
We cannot predict whether we will be able to compete against current and
future competitors with our existing and new products. We believe that
technological change, the convergence of Internet, data, video and voice on a
single broadband network, the possibility of regulatory changes and industry
consolidation or new entrants will continue to cause rapid evolution in the
competitive environment. The full scope and nature of changes are difficult to
predict at this time. Increased competition could lead to price cuts, reduced
profit margins and loss of market share, which may seriously harm our business,
operating results and financial condition.
Demand for our products is subject to significant fluctuation. Market conditions
in the telecommunications market in particular may harm our financial condition.
Demand for our products is dependent on several factors, including capital
expenditures in the communications industry. Capital expenditures can be
cyclical in nature and result in protracted periods of reduced demand for
component parts. Similarly, periods of slow economic expansion or recession can
result in periods of reduced demand for our products. The current economic
slowdown has been more profound in the telecommunications market resulting in a
significant reduction in capital expenditures for products such as our DWDMs and
our fiber optic components. It is impossible to predict how long the slowdown
will last. Such periods of reduced demand will harm our business, financial
condition and results of operations. Changes to the regulatory requirements of
the telecommunications industry could also affect market conditions, which could
also reduce demand for our fiber optic components.
We may be required to rapidly increase our manufacturing capacity to deliver our
products to our customers in a timely manner.
Manufacturing of our products is a complex and precise process. We have
limited experience in rapidly increasing our manufacturing capacity or in
manufacturing products at high volumes. If demand for our products increases, we
13
will be required to hire, train and manage additional manufacturing personnel
and improve our production processes in order to increase our production
capacity. There are numerous risks associated with rapidly increasing capacity,
including:
- Difficulties in achieving adequate yields from new manufacturing
lines,
- Difficulty maintaining the precision manufacturing processes required
by our products while increasing capacity,
- The inability to timely procure and install the necessary equipment,
and
- Lack of availability of qualified manufacturing personnel.
If we apply our capital resources to expanding our manufacturing capacity
in anticipation of increased customer orders, we run the risk that the projected
increase in orders will not be realized. If anticipated levels of customer
orders are not received, we will not be able to generate positive gross margins
and profitability.
Our dependence on outside manufacturers may result in product delivery delays.
We purchase components that are incorporated into our products from outside
vendors. If these vendors fail to supply us with components or completed
assemblies on a timely basis, or if the quality of the supplied components or
completed assemblies is not acceptable, we could experience significant delays
in shipping our products. Any significant interruption in the supply or support
of any components or completed assemblies could seriously harm our sales and our
relationships with our customers.
Our products may have defects that are not detected before delivery to our
customers.
Some of our products are designed to be deployed in large and complex
optical networks and must be compatible with other components of the network,
both current and future. Our products may not be compatible or operate as
expected over long periods of time. Our customers may discover errors or defects
in our products only after they have been fully deployed. If we are unable to
fix such errors or other problems, we could lose customers, lose revenues,
suffer damage to our brand and reputation, and lose our ability to attract new
customers or achieve market acceptance. Each of these factors would negatively
impact cash flow and would seriously harm our business, financial condition and
results of operations.
We must introduce new products and product enhancements to increase revenue.
The successful operation of our business depends on our ability to
anticipate market needs and develop and introduce new products and product
enhancements that respond to technological changes or evolving industry
standards on a timely and cost-effective basis. We continue to acquire these
products from off shore partners, qualify the products, and integrate (if
necessary) the products into our platforms and systems. These products may not
meet our target specification, which may delay their introduction into our sales
channels. Outsourcing products also brings potential risks such as the general
financial strength of our outsourcing partners and the economic and political
stability in our partner's nation. These products may contain defects or have
unacceptable manufacturing yields when first introduced or as new versions are
released. Our products could quickly become obsolete as new technologies are
introduced or as other firms introduce lower cost alternatives. We must continue
to develop leading-edge products and introduce them to the commercial market
quickly in order to be successful. Our failure to produce technologically
competitive products in a cost-effective manner and on a timely basis will
seriously harm our business, financial condition and results of operations.
Our markets are characterized by rapid technological changes and evolving
standards.
The markets we serve are characterized by rapid technological change,
frequent new product introductions, changes in customer requirements and
evolving industry standards. In developing and sourcing our products, we have
made, and will continue to make, assumptions with respect to which standards
will be adopted within our industry. If the standards that are actually adopted
are different from those that we have chosen to support, our products may not
achieve significant market acceptance.
14
Our products may infringe on the intellectual property rights of others
Some of our products are sophisticated and rely on complicated
manufacturing processes. We have received multiple patents on aspects of our
design and manufacturing processes and we have applied for several more. Third
parties may still assert claims that our products or processes infringe upon
their intellectual property. Defending our interests against these claims, even
if they lack merit, may be time consuming, result in expensive litigation and
divert management attention from operational matters. If such a claim were
successful, we could be prevented from manufacturing or selling our current
products, be forced to redesign our products, or be forced to license the
relevant intellectual property at a significant cost. Any of these actions could
harm our business, financial condition or results of operations.
Acquisitions or investments could have an adverse affect on our business
We completed acquisitions of the assets of Computer System Products, Inc.
and Americable, Inc. in March 2003 and June 2003 respectively, as part of our
strategy to expand our product offerings, develop internal sources of components
and materials, and acquire new technologies. We intend to continue reviewing
acquisition and investment prospects. There are inherent risks associated with
making acquisitions and investments including but not limited to:
- Challenges associated with integrating the operations, personnel,
etc., of an acquired company;
- Potentially dilutive issuances of equity securities;
- Reduced cash balances and or increased debt and debt service costs;
- Large one-time write-offs of intangible assets;
- Risks associated with geographic or business markets different than
those we are familiar with; and
- Diversion of management attention from current responsibilities.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Our exposure to market risk for changes in interest rates relates primarily
to our investment portfolio. We invest in short-term securities of high credit
issuers with maturities ranging from overnight up to 24 months. The average
maturity of the portfolio does not exceed 12 months. The portfolio includes only
marketable securities with active secondary or resale markets to ensure
liquidity. We have no investments denominated in foreign country currencies and,
therefore, our investments are not subject to foreign exchange risk.
ITEM 4. CONTROLS AND PROCEDURES.
a. Evaluation of disclosure controls and procedures. The Company's chief
executive officer and chief financial officer have concluded that the
Company's disclosure controls and procedures (as defined in Exchange
Act Rule 13a-14(c)) are sufficiently effective to ensure that the
information required to be disclosed by the Company in the reports it
files under the Exchange Act is gathered, analyzed and disclosed with
adequate timeliness, accuracy and completeness, based on an evaluation
of such controls and procedures conducted within 90 days prior to the
date hereof.
b. Changes in internal controls. There have been no significant changes
in the Company's internal controls or in other factors that could
significantly affect these controls subsequent to the date of the
evaluation referred to above.
PART II
ITEMS 1 THROUGH 5. NOT APPLICABLE
15
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits.
Exhibit 31.1 - Chief Executive Officer's certification pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002
Exhibit 31.2 - Chief Financial Officer's certification pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002
Exhibit 32.1 - Certification required of Chief Executive Officer
by Section 906 of the Sarbanes Oxley Act of 2002
Exhibit 32.2 - Certification required of Chief Financial Officer
by Section 906 of the Sarbanes Oxley Act of 2002
(b) Reports on Form 8-K.
None
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.
APA OPTICS, INC.
/s/ Anil K. Jain
- -------------- ----------------
Date Anil K. Jain
President,
Chief Executive Officer and Chief
Financial Officer (Principal
Executive and
Principal Financial Officer)
/s/ Daniel Herzog
- -------------- -------------------
Date Comptroller
(Principal Accounting Officer)
16