UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended June 30, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from _______ to ________
Commission file number 1-13550
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HAUPPAUGE DIGITAL, INC.
-----------------------
(Exact name of registrant as specified in its charter)
Delaware 11-3227864
-------- ----------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
91 Cabot Court, Hauppauge, New York 11788
-----------------------------------------
(Address of principal executive offices, including zip code)
(631) 434-1600
--------------
(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
--- ---
As of August, 9 2004, 9,126,831 shares of .01 par value Common Stock of the
registrant were outstanding, not including treasury shares.
1
HAUPPAUGE DIGITAL, INC. AND SUBSIDIARIES
----------------------------------------
INDEX
-----
PART I. FINANCIAL INFORMATION
---------------------
Item 1. Financial Statements Page No.
-------------------- --------
Condensed Consolidated Balance Sheets-
June 30, 2004 (unaudited) and September 30, 2003 (audited) 3
Condensed Consolidated Statements of Income-
Nine months ended June 30, 2004 (unaudited) and 2003 (unaudited) 4
Condensed Consolidated Statements of Income -
Three months ended June 30, 2004 (unaudited) and 2003 (unaudited) 5
Condensed Consolidated Statements of Other Comprehensive Income -
Three months and nine months ended June 30, 2004 (unaudited)
and 2003 (unaudited) 6
Condensed Consolidated Statements of Cash Flows-
Nine Months ended June 30, 2004 (unaudited) and 2003 (unaudited) 7
Notes to Condensed Consolidated Financial Statements 8-13
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations 14-28
Item 3. Quantitative and Qualitative Disclosures about Market Risks 28-29
Item 4. Controls and Procedures 29
PART II. OTHER INFORMATION
- ---------------------------
Item 1. Legal Proceedings 30
Item 5. Other Information 30
Item 6. Exhibits and Reports on Form 8-K 30
SIGNATURES 31
2
PART I. FINANCIAL INFORMATION
- -----------------------------
Item 1. Financial Statements
HAUPPAUGE DIGITAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
June 30, September 30,
2004 2003
(Unaudited) (Audited)
----------------------------------------
Assets:
Current Assets:
Cash and cash equivalents $ 9,427,652 $ 5,838,160
Receivables, net of various allowances 7,047,567 9,182,758
Inventories 7,519,023 5,474,374
Prepaid expenses and other current assets 792,829 546,328
----------------------------------------
Total current assets 24,787,071 21,041,620
Property, plant and equipment, net 428,240 532,516
Security deposits and other non current assets 77,342 76,216
----------------------------------------
$ 25,292,653 $21,650,352
========================================
Liabilities and Stockholders' Equity:
Current Liabilities:
Accounts payable $ 6,971,191 $ 7,452,867
Accrued expenses 3,793,391 2,539,678
Income taxes payable 202,222 189,122
----------------------------------------
Total current liabilities 10,966,804 10,181,667
Stockholders' Equity
Common Stock, $0.01 par value; 25,000,000 shares authorized,
9,668,898 and 9,420,315 issued, respectively 96,689 94,203
Additional paid-in capital 12,770,663 12,302,119
Retained earnings 1,805,874 99,987
Accumulated other comprehensive income 1,149,839 469,592
Treasury Stock, at cost, 542,067 shares (1,497,216) (1,497,216)
----------------------------------------
Total stockholders' equity 14,325,849 11,468,685
----------------------------------------
$ 25,292,653 $21,650,352
========================================
See accompanying notes to condensed consolidated financial statements
3
HAUPPAUGE DIGITAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
Nine months ended June 30,
---------------------------------
2004 2003
---------------------------------
Net Sales $48,828,873 $39,450,126
Cost of Sales 35,758,126 29,905,216
---------------------------------
Gross Profit 13,070,747 9,544,910
Selling, General and Administrative Expenses 9,272,449 8,068,951
Research & Development Expenses 1,367,270 1,429,171
Arbitration proceeding 206,250 -
Litigation proceeding 427,000 -
---------------------------------
Income from operations 1,797,778 46,788
Other Income:
Interest income 4,373 13,148
Foreign currency 21,959 40,586
---------------------------------
Other income 26,332 53,734
---------------------------------
Income before taxes on income 1,824,110 100,522
Tax provision 118,223 39,000
---------------------------------
Net income $1,705,887 $61,522
=================================
Net income per share:
Basic $0.19 $0.01
Diluted $0.18 $0.01
=================================
See accompanying notes to condensed consolidated financial statements
4
HAUPPAUGE DIGITAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
Three months ended June 30,
----------------------------------
2004 2003
----------------------------------
Net Sales $13,794,292 $10,010,782
Cost of Sales 10,236,138 7,756,306
---------------------------------
Gross Profit 3,558,154 2,254,476
Selling, General and Administrative Expenses 2,928,064 2,638,177
Research & Development Expenses 512,606 487,847
Litigation proceeding (73,000) -
---------------------------------
Income (loss) from operations 190,484 (871,548)
Other Income:
Interest income 1,237 3,143
Foreign currency 60 12,940
---------------------------------
Other income 1,297 16,083
---------------------------------
Income (loss) before taxes on income 191,781 (855,465)
Tax provision 23,144 -
---------------------------------
Net income (loss) $ 168,637 $ (855,465)
=================================
Net income (loss) per share:
Basic and Diluted $0.02 ($0.10)
=================================
See accompanying notes to condensed consolidated financial statements
5
HAUPPAUGE DIGITAL, INC AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OTHER COMPREHENSIVE INCOME
(UNAUDITED)
Three months ended June 30,
---------------------------
2004 2003
---- ----
Net income (loss) $ 168,637 $ (855,465)
Forward exchange contracts marked to market 26,138 18,169
Foreign currency translation (loss) gain (241,751) 197,917
---------------------------
Other comprehensive (loss) $ (46,976) $ (639,379)
===========================
Nine months ended June 30,
--------------------------
2004 2003
---- ----
Net income $ 1,705,887 $ 61,522
Forward exchange contracts marked to market 214,116 (336,926)
Foreign currency translation gain 466,131 361,963
---------------------------
Other comprehensive income $ 2,386,134 $ 86,559
===========================
See accompanying notes to condensed consolidated financial statements
6
HAUPPAUGE DIGITAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Nine months ended June 30,
2004 2003
-------------------------------------
Net income $1,705,887 $ 61,522
-------------------------------------
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Depreciation and amortization 181,441 205,945
Other non cash items 11,541 30,903
Changes in current assets and liabilities:
Accounts receivable 2,815,438 1,448,442
Inventories (2,044,649) (221,337)
Prepaid expenses and other current assets (246,501) (171,677)
Accounts payable and other current liabilities 785,137 (792,715)
-------------------------------------
Total adjustments 1,502,407 499,561
-------------------------------------
Net cash provided by operating activities 3,208,294 561,083
-------------------------------------
Cash Flows From Investing Activities:
Purchases of property, plant and equipment (77,165) (167,365)
-------------------------------------
Net cash used in investing activities (77,165) (167,365)
-------------------------------------
Cash Flows From Financing Activities:
Proceeds from employee stock and stock option purchases 458,363 24,657
Purchase of treasury stock - (35,642)
-------------------------------------
Net cash provided by (used in) financing activities 458,363 (10,985)
-------------------------------------
Net increase in cash and cash equivalents 3,589,492 382,733
Cash and cash equivalents, beginning of period 5,838,160 4,964,522
-------------------------------------
Cash and cash equivalents, end of period $9,427,652 $ 5,347,255
=====================================
Supplemental disclosures:
Income taxes paid $ 85,213 $ 40,262
=====================================
See accompanying notes to condensed consolidated financial statements
7
HAUPPAUGE DIGITAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 1. Basis of Presentation
The accompanying unaudited condensed consolidated financial statements included
herein have been prepared in accordance with generally accepted accounting
principles for interim period reporting in conjunction with the instructions to
Form 10-Q. Accordingly, these statements do not include all of the information
required by generally accepted accounting principles for annual financial
statements. In the opinion of management, all known adjustments (consisting of
normal recurring accruals and reserves) necessary to present fairly the
financial position, results of operations and cash flows for the three month and
nine month period ended June 30, 2004 have been included. It is suggested that
these interim statements be read in conjunction with the financial statements
and related notes included in Hauppauge Digital Inc.'s ("the Company") September
30, 2003 Form 10-K.
The operating results for the three month and nine month period ended June 30,
2004 are not necessarily indicative of the results to be expected for the
September 30, 2004 year end.
Note 2. Receivables
Accounts and other receivables consisted of the following as of June 30, 2004:
June 30, September 30,
2004 2003
----------- -------------
Trade receivables $ 6,404,036 $ 7,435,539
Receivable from contract manufacturers 3,598,295 4,134,456
GST and VAT taxes receivables 236,822 289,700
Allowances and reserves (3,307,184) (2,887,184)
Income tax receivable 7,582 175,000
Other 108,016 35,247
----------- -----------
$ 7,047,567 $ 9,182,758
=========== ===========
Note 3. Derivative Financial Instruments
Sales to our European customers are invoiced in local currencies, and subsequent
payments received from our customers are in local currencies (primarily the Euro
and Great British Pound). On the supply side, since we predominantly deal with
North American and Asian suppliers, approximately 75% of our inventory
supporting our Euro and Great British Pound sales are purchased and paid in U.S.
Dollars. Consequently, changes in exchange rates expose our U.S. denominated
inventory on the books of our European subsidiary to market risks resulting from
the fluctuations in the foreign currency exchange rates to the U.S. Dollar. We
attempt to reduce these risks by entering into foreign exchange forward
contracts with financial institutions. The purpose of these forward contracts is
to hedge the foreign currency market exposures underlying the forecasted U.S.
Dollar denominated inventory purchases required to support our European sales.
As of June 30, 2004, we had foreign currency contracts outstanding of
approximately $3,926,000 against the delivery of the Euro. The contracts expire
through December 2004. Our accounting policies for these instruments designate
such instruments as cash flow hedging transactions. We do not enter into such
contracts for speculative purposes. We record all derivative gains and losses on
the balance sheet as a component of stockholders' equity under the caption
"Accumulated other comprehensive income (loss)". The Company recorded a deferred
gain of $214,116 for the nine months ended June 30, 2004. As of June 30, 2004, a
deferred loss of $20,475 reflecting the cumulative mark to market loss of our
derivatives, was recorded as a component of accumulated other comprehensive
income on the balance sheet.
The Company uses the average monthly forward contract exchange rate to translate
Euro sales into our U.S. dollars reporting currency. For the three months ended
June 30, 2004, using the average contract rate resulted in an increase in Euro
to U.S. dollar translated sales of $45,403. For the nine month period ending
June 30, 2004, if
8
HAUPPAUGE DIGITAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
the Company had used the average spot rate, we would have recorded an increase
in Euro to U.S dollar translated sales of $863,965 related to our contracts that
closed during these periods and the changes in the fair value of our derivative
contracts. For the three months and nine months ended June 30, 2003, if the
Company had used the average spot rate, we would have recorded an increase in
Euro to U.S dollar translated sales of $366,300 and $1,525,100, respectively,
related to our contracts that closed during these periods and the changes in the
fair value of our derivative contracts.
Note 4. Inventories
Inventories have been valued at the lower of average cost or market on a first
in first out basis. The components of inventory consist of:
June 30, September 30,
2004 2003
---- ----
Component Parts $ 3,059,888 $ 1,446,670
Finished Goods 4,459,135 4,027,704
----------- -----------
$ 7,519,023 $ 5,474,374
=========== ===========
Note 5. Net Income Per Share
Basic net income per share includes no dilution and is computed by dividing net
income by the weighted average number of shares of common stock outstanding for
the period. Diluted net income per share reflects, in the periods in which they
have a dilutive effect, the dilution which would occur upon the exercise of
stock options. A reconciliation of the shares used in calculating basic and
diluted net income per share is as follows:
Three Months Ended Nine Months Ended
June 30, June 30
2004 2003 2004 2003
------------------------ -------------------------
Weighted average shares outstanding-basic 9,047,561 8,869,832 8,943,087 8,863,663
Number of shares issued on the assumed exercise of stock options 972,176 - 749,388 143,625
---------- --------- --------- ---------
Weighted average shares outstanding-diluted 10,019,697 8,869,832 9,692,475 9,007,288
========== ========= ========= =========
Options to purchase 38,906 and 1,782,601 shares of common stock at prices
ranging $8.75 to $10.06 and $1.05 and $10.06, respectively, were outstanding for
the three month period ending June 30, 2004 and 2003, respectively, but were not
included in the computation of diluted earnings per share because they were
anti-dilutive.
Options to purchase 111,304 and 1,028,522 shares of common stock at prices
ranging $5.25 to $10.06 and $1.88 and $10.06, respectively, were outstanding for
the nine month period ending June 30, 2004 and 2003, respectively, but were not
included in the computation of diluted earnings per share because they were
anti-dilutive
Note 6. Accumulated Other Comprehensive Income
The Euro is the functional currency of the Company's European subsidiary,
Hauppauge Digital Europe Sarl. Assets and liabilities of this subsidiary are
translated to U.S. Dollars at the spot exchange rate in effect at end of each
reporting period, while equity accounts are translated to U.S. Dollars at the
historical rate in effect at the date of the contribution. Operating results are
translated to U.S. Dollars at the average prevailing exchange rate for the
period, with the exception of sales which are translated to U.S. Dollars at the
average monthly forward exchange contract rate. The use of translating accounts
at the spot, historical and average exchange rates results in foreign currency
translation gains or losses. These translation gains or losses are recorded on
the balance sheet under accumulated other comprehensive income.
9
HAUPPAUGE DIGITAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
The Company uses forward exchange contracts to reduce our exposure to
fluctuations in foreign currencies. Mark to market gains and losses on these
open contracts result from the difference between the USD value of our open
foreign currency forward contracts at the average contract rate as opposed to
the same contracts translated at the month end forward spot rate. The Company
qualifies for cash flow hedge accounting as prescribed under FAS 133, which
allows the Company to record the mark to market gains and losses in the equity
section of our balance sheet under accumulated other comprehensive income.
As of June 30, 2004, appearing in the equity section under " Accumulated other
comprehensive income" was a deferred gain of $1,149,839, which consisted of a
deferred translation gain of $1,170,314 and a deferred loss of $20,475 due to
the mark to market losses on the difference between the value of our open
forward exchange contracts at the contract rates versus the same contracts
valued at the period ending forward spot rate.
The Company's Asian subsidiary reports its financial position and results of
operations in the reporting currency of the Company.
Note 7. Revenue Recognition
We sell our products through a sales channel which consists of retailers,
distributors and original equipment manufacturers ("OEM's"). Our prices are
fixed consistently over the entire sales channel. The majority of our customers
are granted open payment terms. Those customers deemed as large credit risks
either pay in advance or issue us a letter of credit.
The Company requires the customer to submit a purchase order to the Company. The
price of the product and payment terms are fixed per the terms of the purchase
order. Upon shipment of the order to the customer, the title to the goods is
passed to the customer. The customer is legally obligated to pay for the order
within the payment terms stated on the customer's purchase order. The obligation
to insure the products and the cost of any pilferage while in the customer's
possession is the responsibility of the customer. Our retail products are
typically stocked on the shelves of retailers, and are subject to the normal
consumer traffic that retail stores attract. Aside from normal store promotions
such as end-caps and advertisements in the store's circular, the Company has no
further obligation to assist in the resale of the product.
The Company offers it customers a right of return, but does not offer stock
balancing. Our accounting complies with Statement of Accounting Standards 48 as
typically at the end of every quarter, the Company, based on historical data,
evaluates its sales reserve level based on the previous six months sales. Due to
the seasonal nature of our business coupled with the changing economic
environment, management exercises some judgement with regard to the historical
data to arrive at the reserve.
Note 8. Product Segment and Geographic Information
We engineer, develop, subcontract for manufacture, market and sell products for
the personal computer ("PC") market and the Apple(R) Macintosh(R) market.
We also offer products for the home entertainment market. We have two primary
product categories: analog TV products and digital TV products. Our WinTV(R)
analog TV receivers allow PC users to watch television on their PC screen in a
resizable window, and also enable recording of TV shows to a hard disk. Our
WinTV(R)-PVR TV personal video recorder products include hardware MPEG encoders,
which improve the performance of TV recording and add instant replay and program
pause functions, plus also enable the `burning' of TV recordings onto DVD or CD
media. Our Eskape(TM) Labs products allow users of Apple(R)Macintosh(R)
computers to watch television on their computer screen.
10
HAUPPAUGE DIGITAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
We offer three types of digital TV receivers. Our WinTV(R) digital receivers can
receive digital TV transmissions and display the digital TV show in a
re-sizeable window on a user's PC screen. Our Digital Entertainment Center
("DEC") products allow users to receive digital TV broadcasts and display the
digital TV on either a TV set or a PC screen. Our MediaMVP(TM) product was
designed to allow PC users to play digital media such as digital music, digital
pictures and digital videos on a TV set via a home network.
Note 8. Product Segment and Geographic Information-continued
We sell our products through a sales channel which consists of retailers,
distributors and OEM's. Sales by functional category are as follows:
Three months ended June 30, Nine months ended June 30,
2004 2003 2004 2003
---- ---- ---- ----
Product line sales
- ------------------
Analog sales $10,946,522 $ 6,948,851 $39,099,757 $28,371,468
Digital sales 2,847,770 3,061,931 9,729,116 11,078,658
----------- ----------- ----------- -----------
$13,794,292 $10,010,782 $48,828,873 $39,450,126
=========== =========== =========== ===========
European sales accounted for 66% and 67% and 69% and 69% of sales for the three
and nine months ended June 30, 2004 and 2003, respectively. Sales percent by
geographic region are as follows:
Three months ended June 30, Nine months ended June 30,
--------------------------- --------------------------
2004 2003 2004 2003
---- ---- ---- ----
Sales percent by geographic region
- ---------------------------
United States 32% 31% 29% 30%
Europe 66% 67% 69% 69%
Asia 2% 2% 2% 1%
--- --- --- ---
Total 100% 100% 100% 100%
=== === === ===
Note 9. Stock-Based Compensation
The Company applies Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees" ("APB 25"), and related interpretations in accounting
for its employee stock options. Under APB 25, no compensation expense is
recorded so long as the quoted market price of the stock at the date of the
grant is equal to the exercise price.
Pro forma information regarding net income and earnings per share has been
determined as if the Company had accounted for its employee stock options under
the fair value method of Financial Accounting Standards Board Statement No. 123,
"Accounting for Stock-Based Compensation" ("FAS 123"). The weighted average fair
value of options granted during the three and nine months ended June 30, 2004
and June 30 2003 was $0.43 and $0.42, respectively. The fair value for these
options was estimated at the date of grant using a Black-Scholes option pricing
model with the following weighted average assumptions for the three and nine
months ended June 30, 2004 and June 30, 2003: risk-free interest rates of 3.25%,
volatility factor of the expected market price of the Company's Common Stock of
40%, assumed dividend yield of 0%, and a weighted-average expected life of the
option of 5 years.
Under the accounting provisions of FAS 123, the Company's net income and net
income per share would have been adjusted to the pro forma amounts indicated
below:
11
HAUPPAUGE DIGITAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Three months ended Nine months ended
----------------------------------------------------
June 30, June 30, June 30, June 30,
2004 2003 2004 2003
---- ---- ---- ----
Net income (loss) as reported $168,367 $(855,465) $1,705,887 $61,522
- -----------------------------
Deduct: Total stock-based employee compensation expense
Determined under fair value method, net of related taxes (24,788) (11,626) (74,364) (34,877)
-------- --------- ---------- -------
Pro forma net income (loss) $143,579 $(867,091) $1,631,523 $26,645
- --------------------------- ======== ========= ========== =======
Net income (loss) per share - as reported:
Basic $ 0.02 $ (0.10) $ 0.19 $ 0.01
======== ========== ========== =======
Diluted $ 0.02 $ (0.10) $ 0.18 $ 0.01
======== ========== ========== =======
Net income (loss) per share - pro forma:
Basic $ 0.02 $ (0.10) $ 0.18 $ 0.00
======== ========== ========== =======
Diluted $ 0.01 $ (0.10) $ 0.17 $ 0.00
======== ========== ========== =======
Note 10. Arrangements with Off-Balance Sheet Risk - Guarantees
In November 2002, the FASB issued Interpretation No. 45 ("FIN 45"), Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of the Indebtedness of Others, which clarifies the requirements of
SFAS No. 5, Accounting for Contingencies, relating to a guarantor's accounting
for and disclosures of certain guarantees issued. FIN 45 requires enhanced
disclosures for certain guarantees. It also requires certain guarantees that are
issued or modified after December 31, 2002, including certain third-party
guarantees, to be initially recorded on the balance sheet at fair value. For
guarantees issued on or before December 31, 2002, liabilities are recorded when
and if payments become probable and estimable. FIN 45 has the general effect of
delaying recognition for a portion of the revenue for product sales that are
accompanied by certain third-party guarantees. The financial statement
recognition provisions became effective prospectively beginning January 1, 2003.
Since January 1, 2003, the Company has not entered into any new guarantees.
We occupy a facility located in Hauppauge New York and use it for executive
offices and for the testing, storage and shipping of our products. In February
1990, Hauppauge Computer Works, Inc., a wholly-owned subsidiary of the Company
("HCW"), entered into a lease, as amended, with Ladokk Realty Co. (successor
company now known as Ladokk Realty Co., LLC), a real estate partnership which is
principally owned by Kenneth Plotkin, the Company's Chairman of the Board, Chief
Executive Officer, and Vice President of Marketing and the holder of
approximately 6% of the Company's outstanding Common Stock as of August 16,
2004, Dorothy Plotkin, the wife of Kenneth Plotkin, a holder of approximately 6%
of the Company's Common Stock as of August 16, 2004 and Laura Auppele, believed
by the Company to be the holder of approximately 12% of the Company's Common
Stock as of August 16, 2004. Until February 17, 2004, the premises subject to
such lease were subject to two mortgages guaranteed by the Company. On February
17, 2004, HCW and Ladokk terminated the old lease and HCW entered into a new
lease agreement with Ladokk Realty Co., LLC. The lease term is for five years
and terminates on February 16, 2009. Concurrently with the new lease, our
landlord completed a refinancing of its mortgages, and the new lender did not
require us to sign a guarantee. In recognition of this, we are no longer
obligated to guarantee the landlord's mortgages.
The Company's Audit Committee is in the process of evaluating the February 17,
2004 lease.
12
HAUPPAUGE DIGITAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 11. Arbitration and Litigation Proceedings
Arbitration Proceeding
In November 2002, the estate of Kenneth Aupperle ("Estate") filed a demand for
arbitration against the Company with the American Arbitration Association. The
Estate claimed certain property rights and interest in the Company, amounts due
and owed to the Estate based on various corporate agreements with the late Mr.
Aupperle and certain insurance policies. The Estate was seeking to recover a
minimum of $2.5 million in damages, fees and expenses.
The arbitration proceeding was heard before a New York arbitration panel. On
April 19, 2004, the arbitration panel awarded the Estate a total of $206,250 in
relation to certain stock options. No fees or expenses were awarded. The Company
accrued a charge of $206,250 in the second quarter of fiscal year 2004 to cover
the award. The $206,250 award was paid in May 2004.
Litigation Proceeding
In March 2002, Polywell International, Inc. ("Polywell"), a supplier of cables
to the Company, commenced an action seeking $339,520 in damages plus exemplary
damages, attorney's fees, costs and interest with relation to certain unpaid
invoices. The Company paid these invoices to the sales representative, who
subsequently failed to forward the payments to Polywell. The Company had dealt
with this sales representative over a number of years, who also represented
himself as Polywell's payment and collection agent.
The case went to trial and was heard before a jury in the United States District
Court in the Northern District of Texas, Dallas Division. Since the Company had
dealt with the sales representative for several years with respect to all
purchasing and payment issues, the Company believed that paying the invoices to
this sales representative was tantamount to paying Polywell. The jury however
ruled in favor of Polywell and the court granted Polywell a judgment against the
Company, awarding an amount of $339,520 to Polywell. In addition, the Company is
obligated to pay Polywell's attorney's fees and interest.
The Company accrued a charge of $500,000 during the second fiscal quarter of
2004 to cover the award. Subsequent negotiation reduced the award to $427,000,
and the Company paid the award in June 2004. The reduction in the final award
has been reflected in our third quarter results.
13
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Nine Month Period ended June 30, 2004 Compared to June 30, 2003
- ---------------------------------------------------------------
Results of operations for the nine months ended June 30, 2004 compared to June
30, 2003 are as follows:
Nine Nine
Months Months
Ended Ended Variance Percentage of sales
6/30/04 6/30/03 $ 2004 2003 Variance
------- ------- - ---- ---- --------
Net Sales $ 48,828,873 $ 39,450,126 $ 9,378,747 100.0% 100.0% 0
Cost of sales 35,758,126 29,905,216 5,852,910 73.23% 75.81% -2.58%
---------- ---------- --------- ----- ----- ----
Gross Profit 13,070,747 9,544,910 3,525,837 26.77% 24.19% 2.58%
Gross Profit % 26.77% 24.19% 2.58%
Costs:
Sales & Marketing 6,075,015 5,356,753 718,262 12.44% 13.58% -1.14%
Technical Support 332,707 314,318 18,389 0.68% 0.80% -0.12%
General & Administrative 2,864,727 2,397,880 466,847 5.87% 6.08% -0.21%
--------- --------- ------- ---- ---- ----
Total Selling, General and Administrative costs 9,272,449 8,068,951 1,203,498 18.99% 20.46% -1.47%
Research & Development 1,367,270 1,429,171 (61,901) 2.80% 3.62% -0.82%
--------- --------- ------- ---- ---- ----
Total Costs 10,639,719 9,498,122 1,141,597 21.79% 24.08% -2.29%
---------- --------- --------- ----- ----- ----
Net operating income before arbitration & litigation 2,431,028 46,788 2,384,240 4.98% 0.11% 4.87%
Arbitration & litigation items:
Arbitration proceeding 206,250 - 206,250 0.43% 0.00% 0.43%
Litigation proceeding 427,000 - 427,000 0.87% 0.00% 0.87%
------- ------- ---- ---- ----
Net operating income 1,797,778 46,788 1,750,990 3.68% 0.11% 3.57%
Other income
- ------------
Interest income 4,373 13,148 (8,775) 0.01% 0.04% 0.43%
Foreign currency 21,959 40,586 (18,627) 0.04% 0.11% 0.87%
------ ------ ------- ---- ---- ----
Total other income 26,332 53,734 (27,402) 0.05% 0.15% -0.10%
------ ------ ------- ---- ---- ----
Income before taxes on income 1,824,110 100,522 1,723,588 3.73% 0.26% 3.47%
Taxes on income 118,223 39,000 79,223 0.24% 0.10% 0.14%
------------ --------- --------- ---- ---- ----
Net income $ 1,705,887 $ 61,522 $1,644,365 3.49% 0.16% 3.33%
============ ========= ========= ==== ==== ====
Net sales for the nine months ended June 30, 2004 increased $9,378,747 compared
to the nine months ended June 30, 2003 as shown on the table below.
Increase
(decrease) Increase Percentage of sales by
Nine Months Nine Months Dollar (decrease) Geographic region
Location ended 6/30/04 ended 6/30/03 Variance Variance % 2004 2003
- -------- ------------- ------------- -------- ---------- ---- ----
Domestic $14,366,529 $11,779,917 $2,586,612 22% 29% 30%
Europe 33,756,324 27,127,121 6,629,203 24% 69% 69%
Asia 706,020 543,088 162,932 30% 2% 1%
----------- ----------- ---------- -- --- ---
Total $48,828,873 $39,450,126 $9,378,747 24% 100% 100%
=========== =========== ========== == === ===
The primary factors contributing the sales increase were:
o Stronger demand for retail WinTV-PVR-250 products due to exposure generated
from WindowsXP Media Center awareness
o Increased WinTV-PVR-USB2 sales due to introduction of lower cost model
during fiscal 2003
o Introduction in early fiscal 2004 of MediaMVP product
o Increased sales of OEM `Amity1' board for WindowsXP Media Center
o Higher sales of WinTV-USB analog product
o Increased DVB sales in Europe
o Increase in our average Euro to USD contract rate of approximately 19.0%
(1.1828 versus 0.9927) for the nine months ended June 30, 2004 over the
same period of last year, which yielded higher converted Euro to USD sales
14
Results of operations-nine month period ended June 30, 2004 compared to June 30,
2003-continued
- --------------
The increases were offset somewhat by:
o Decrease in Digital Entertainment Center (DEC) sales
o Decrease in low end WinTV family sales
o $90,000 reduction in sales for price protection due to anticipated price
reductions on older products
o Increase in sales return reserve of $320,000 to reflect increased prior six
month sales level and residual product returns on in-warranty products
Net sales to domestic customers were 29% of net sales for the nine months ended
June 30, 2004 compared to 30% for the nine months ended June 30, 2003. Net sales
to European customers were 69% of net sales for the periods ending June 30, 2004
and 2003. Net sales to Asian customers were 2% for the period ending June 30,
2004 compared to 1% for the period ending June 30, 2003.
Gross profit increased $3,525,837 for the nine months ended June 30, 2004
compared to the nine months ended June 30, 2003.
The increases and (decreases) in the gross profit are detailed below:
Increase
(decrease)
-----------
Due to increased sales $3,061,262
Increase in gross margin on non OEM products 1,999,051
Effect on gross margin due to lower margin OEM sales (494,222)
Price protection (90,000)
Due to increases in labor related and other costs (950,254)
--------
Total increase in gross profit $3,525,837
==========
Gross profit percentage for the nine months ended June 30, 2004 was 26.77%
compared to 24.19% for the nine months ended June 30, 2003, an increase of
2.58%.
The increases and (decreases) in the gross profit percent are detailed below:
Increase
(decrease)
----------
Increase in gross margin on non OEM products 4.23%
Effect on gross margin due to lower margin OEM sales (1.01%)
Price protection (0.13%)
Due to increases in labor related and other costs (0.51%)
-----
Net increase in gross profit 2.58%
=====
The increase in the gross profit margin on non-OEM products of 4.23% was
primarily due to:
o Cost reductions attained during fiscal 2003 and the first half of fiscal
2004
o Cost reduced versions of the WinTV-PVR-250 and WinTV-PVR-USB2 introduced
during fiscal 2003
o Increase in our average Euro to USD contract rates, used to convert Euro
sales to U.S. dollar sales, of 19% (1.1828 versus 0.9927) for the nine
months ended June 30, 2004 over the same period of last year. Since about
75% of our European inventory is purchased in U.S. dollars, while most of
the European sales are invoiced in Euros or Great British Pounds, the
Company benefits from the higher converted Euro to U.S. dollar sales, which
are sold against either stable or declining U.S. dollar unit inventory cost
o Sales of lower margin DEC products declined as a percentage of sales from
last year
The decrease in the gross profit percentage of 1.01% attributable to the mix of
OEM sales for the nine months ended June 30, 2004 was due to the increase in OEM
sales. The higher mix of lower margin OEM sales during the first nine months of
fiscal 2004 compared to fiscal 2003 caused a decrease in gross profit percent of
1.01% over the prior year.
15
Results of operations-nine month period ended June 30, 2004 compared to June 30,
2003-continued
- --------------
The decrease in the gross margin percent of 0.51% attributable to labor related
and other costs for the nine months ended June 30 , 2004 was due to the
percentage increase in labor related and other costs for the nine months ended
June 30, 2004 over the nine months ended June 30, 2003 of 32.18% exceeding the
percentage increase in sales of 23.77%.
The chart below illustrates the components of Selling, General and
Administrative costs:
Nine months ended June 30,
---------------------------
Dollar Costs Percentage of Sales
------------------------------------------------------------------------------------------
Increase Increase
2004 2003 (Decrease) 2004 2003 (Decrease)
---------------- ------------------ ------------------ ------------ ---------- ------------
Sales and Marketing $6,075,015 $5,356,753 $ 718,262 12.44% 13.58% -1.14%
Technical Support 332,707 314,318 18,389 0.68% 0.80% -0.12%
General and Administrative 2,864,727 2,397,880 466,847 5.87% 6.08% -0.21%
--------- --------- ------- ---- ---- ----
Total $9,272,449 $8,068,951 $1,203,498 18.99% 20.46% -1.47%
========== ========== ========== ===== ===== ====
Selling, General and Administrative expenses increased $1,203,498 from the prior
year. As a percentage of sales, Selling, General and Administrative expenses
decreased by 1.47% when compared to the nine months ended June 30, 2003.
The increase in Sales and Marketing expense of $718,262, which accounted for
approximately 60% of the total increase in Selling, General and Administrative
expenses, was mainly due to:
o Higher advertising costs of $303,199 due to higher sales based co-operative
advertising and increased special promotions
o Higher advertising costs of $181,030 due to higher translated Euro to U.S
dollar amounts due to the strengthening of the Euro against the USD
o Increased commission expense of $73,889 due to higher sales
o Increased commission expense of $47,306 due to higher translated Euro to
U.S dollar amounts due to the strengthening of the Euro against the USD
o Increased European sales office costs of $193,684 due to higher translated
Euro to U.S dollar amounts due to the strengthening of the Euro against the
USD
o Increased European merchandising programs of $76,684
o Increased public relation costs for product launches of $41,076
o Higher European rep costs of $ 80,395 due to addition of rep and support
costs
o Lower merchandise material promotions of $99,158
o Lower sales office expenses of $187,220 due to personnel shift and stricter
budget controls
The increase in General and Administrative expenses of $466,847 was primarily
due to:
o Higher legal and legal related costs of $311,922 due to litigation and
arbitration cases
o Directors fees of $70,924
o European accounting service fees $40,756
o Increment to account receivables reserves of $25,000 in reflection of
higher sales
Research and Development expenses decreased $61,901. The decrease was mainly due
to lower compensation costs attributable to open positions not filled and less
use of third party software development in fiscal 2004 compared to fiscal 2003.
16
Results of operations-nine month period ended June 30, 2004 compared to June
30,2003 continued
- -----------------
Arbitration Proceeding
In November 2002, the estate of Kenneth Aupperle ("Estate") filed a demand for
arbitration against the Company with the American Arbitration Association. The
Estate claimed certain property rights and interest in the Company, amounts due
and owed to the Estate based on various corporate agreements with the late Mr.
Aupperle and certain insurance policies. The Estate was seeking to recover a
minimum of $2.5 million in damages, fees and expenses.
The arbitration proceeding was heard before a New York arbitration panel. On
April 19, 2004, the arbitration panel awarded the Estate a total of $206,250 in
relation to certain stock options. No fees or expenses were awarded. The Company
accrued a charge of $206,250 in the second quarter of fiscal year 2004 to cover
the award. The $206,250 award was paid in May 2004.
Litigation Proceeding
In March 2002, Polywell International, Inc. ("Polywell"), a supplier of cables
to the Company, commenced an action seeking $339,520 in damages plus exemplary
damages, attorney's fees, costs and interest with relation to certain unpaid
invoices. The Company paid these invoices to the sales representative, who
subsequently failed to forward the payments to Polywell. The Company had dealt
with this sales representative over a number of years, who also represented
himself as Polywell's payment and collection agent.
The case went to trial and was heard before a jury in the United States District
Court in the Northern District of Texas, Dallas Division. Since the Company had
dealt with the said sales representative for several years with respect to all
purchasing and payment issues, the Company believed that paying the invoices to
this sales representative was tantamount to paying Polywell. The jury however
ruled in favor of Polywell and the court granted Polywell a judgment against the
Company, awarding an amount of $339,520 to Polywell. In addition, the Company is
obligated to pay Polywell's attorney's fees and interest.
The Company accrued a charge of $500,000 during the second fiscal quarter of
2004 to cover the award. Subsequent negotiation reduced the award to $427,000,
and the Company paid the award in June 2004. The reduction in the final award
has been reflected in our third quarter results.
Other income
Net other income for the nine months ended June 30, 2004 was $26,332 compared to
net other income of $53,734 for the nine months ended June 30, 2003 as detailed
below:
Nine months ended June 30,
2004 2003
---- ----
Interest income $ 4,373 $13,148
Foreign currency transaction gains (losses) 21,959 40,586
------ ------
Total other income (expense) $ 26,332 $53,734
======== =======
Re-measurement of accounts denominated in currencies other than the Euro
We follow the rules prescribed in paragraph 16 of SFAS 52 "Foreign Currency
Translation", which states that accounts denominated in a currency other than an
entities functional currency, excluding inter-company accounts which are long
term in nature, need to be re-measured into the entities functional currency,
and any gain or loss from this re-measurement are included in the determination
of net income.
17
Results of operations-nine month period ended June 30, 2004 compared to June
30, 2003 continued
- ------------------
Re-measurement of accounts denominated in currencies other than the
Euro-continued
Since the functional currency of Hauppauge Digital Europe Sarl ("HDE Sarl") is
the Euro, any asset, liability or equity accounts which are invested in or
purchased using U.S. Dollars or Great British Pounds by HDE Sarl are revalued
into Euros at the end of each period. The gains or losses on HDE Sarl's books
resulting from the revaluation of U.S. Dollar and Great British Pound accounts
into Euros are booked in the Company's profit and loss statement in the other
income (loss) section under the description foreign currency transaction gains
(losses).
Accumulated other comprehensive income (loss)
The Euro is the functional currency of the Company's European subsidiary, HDE
Sarl. Assets and liabilities of this subsidiary are translated to U.S. Dollars
at the exchange rate in effect at the end of each reporting period, while equity
accounts are translated to U.S. Dollars at the historical rate in effect at the
date of the contribution. Operating results are translated to U.S. Dollars at
the average prevailing exchange rate for the period, with the exception of sales
which are translated to U.S. Dollars at the average monthly forward exchange
contract rate. The use of differing exchange rates results in foreign currency
translation gains or losses. Since the Euro denominated accounts on HDE Sarl's
books result in a net asset position (total Euro assets are in excess of Euro
liabilities), an increase in the Euro value results in a deferred gain for the
translation of Euro accounts to U.S. Dollars. The Company had a translation gain
of $704,183 recorded on the balance sheet as of September 30, 2003. For the nine
months ended June 30 2004, the Company recorded on the balance sheet deferred
translation gains $466,131 resulting in a translation gain of $1,170,314
recorded as a component of accumulated other comprehensive income as of June 30,
2004.
The Company uses forward exchange contracts to reduce our exposure to
fluctuations in foreign currencies. Mark to market gains and losses on these
open contracts result from the difference between the USD value of our open
foreign currency forward contracts at the average contract rate as opposed to
the same contracts translated at the month end forward rate. The Company
qualifies for cash flow hedge accounting as prescribed under SFAS 133, which
allows the Company to record the mark to market gains and losses in the equity
section of our balance sheet under accumulated other comprehensive income. The
Company had mark to market losses of $234,591 recorded on the balance sheet as
of September 30, 2003. For the nine months ended June 30, 2004, the Company
recorded, as a component of other comprehensive income, a mark to market gain of
$214,116, resulting in a mark to market loss of $20,475 for contracts open as of
June 30, 2004.
As stated above, accumulated other comprehensive income (loss) consists of two
components:
o Translations gains and losses
o FAS 133 mark to market gains and losses on our open foreign exchange
contracts
The table below details the gains and losses recorded for the components that
make up accumulated other comprehensive income (loss):
Balance Oct 03 to Balance Jan 04 to Balance April 04 to Balance
As of Dec 03 As of Mar 04 As of June 04 As of
Sept 30, Gains Dec 31, Gains Mar 31, Gains June 30,
Accumulated other comprehensive income 2003 (losses) 2003 (losses) 2004 (losses) 2004
- -------------------------------------- ---- -------- ---- -------- ---- -------- ----
Translation gains $ 704,183 $ 849,969 $1,554,152 $(142,087) $1,412,065 $(241,751) $1,170,314
FAS 133 mark to market adjustments (234,591) 204,461 (30,130) (16,483) (46,613) 26,138 (20,475)
-------- ------- ------- ------- ------- ------ -------
$ 469,592 $1,054,430 $1,524,022 $(158,570) $1,365,452 $(215,613) $1,149,839
========= ========== ========== ========= ========== ========= ==========
18
Results of operations-nine month period ended June 30, 2004 compared to June
30,2003- continued
- ------------------
Tax provision
Our net tax provision for the nine months ended June 30, 2004 and 2003 is as
follows:
Nine months ended June 30,
---------------------------
2004 2003
---- ----
Tax (benefit) attributable to U.S operations $(485,000) $(603,500)
Tax expense European operations 103,223 39,000
State taxes 15,000 14,000
Deferred tax asset valuation allowance 485,000 589,500
------- -------
Net tax provision $ 118,223 $ 39,000
========= =========
For the last four fiscal years, our domestic operation has incurred losses. We
analyzed the future realization of our deferred tax assets as of June 30, 2004
and we concluded that under the present circumstances, it would be appropriate
for us to record a valuation allowance against the increase in the deferred tax
asset attributable to the loss incurred in the first and second quarters of
fiscal 2004 from domestic operations.
As a result of all of the above items mentioned in the Management's Discussion
and Analysis of Financial Condition and Results of Operations, we earned net
income of $1,705,887 for the nine months ended June 30, 2004, which resulted in
basic net income per share of $0.19 and diluted net income per share of $0.18 on
weighted average basic and diluted shares of 8,943,087 and 9,692,475,
respectively, compared to a net income of $61,522 for the nine months ended June
30, 2003, which resulted in basic and diluted net income per share of $0.01 on
weighted average basic and diluted shares of 8,863,663 and 9,007,288,
respectively.
Options to purchase 111,304 and 1,028,522 shares of common stock at prices
ranging $5.25 to $10.06 and $1.88 and $10.06, respectively, were outstanding for
the nine month period ending June 30, 2004 and 2003, respectively, but were not
included in the computation of diluted earnings per share because they were
anti-dilutive.
19
Three Month Period ended June 30, 2004 Compared to June 30, 2003
- ----------------------------------------------------------------
Results of operations for the three months ended June 30, 2004 compared to June
30, 2003 are as follows:
Three Three
Months Months
Ended Ended Variance Percentage of sales
6/30/04 6/30/03 $ 2004 2003 Variance
------- ------- - ---- ---- --------
Net Sales $ 13,794,292 $ 10,010,782 $3,783,510 100.00% 100.00% 0.00%
Cost of sales 10,236,138 7,756,306 2,479,832 74.21% 77.48% -3.27%
---------- --------- --------- ----- ----- ----
Gross Profit 3,558,154 2,254,476 1,303,678 25.79% 22.52% 3.27%
Gross Profit % 25.79% 22.52% 3.27%
Costs:
Sales & Marketing 1,907,692 1,655,344 252,348 13.83% 16.54% -2.71%
Technical Support 116,763 114,543 2,220 0.85% 1.14% -0.29%
General & Administrative 903,609 868,290 35,319 6.55% 8.67% -2.12%
------- ------- ------ ---- ---- ----
Total Selling, General and Administrative costs 2,928,064 2,638,177 289,887 21.23% 26.35% -5.12%
Research & Development 512,606 487,847 24,759 3.71% 4.88% -1.17%
------- ------- ------ ---- ---- ----
Total Costs 3,440,670 3,126,024 314,646 24.94% 31.23% -6.29%
--------- --------- ------- ----- ----- ----
Net operating income (loss) before arbitration &
litigation 117,484 (871,548) 989,032 0.85% -8.71% 9.56%
Arbitration & litigation items:
Litigation proceeding (73,000) - (73,000) -0.53% 0.00% -0.53%
------- --------- ------- ---- ---- ----
Net operating income (loss) 190,484 (871,548) 1,062,032 1.38% -8.71% 10.09%
Other income
- ------------
Interest income 1,237 3,143 (1,906) 0.01% 0.03% -0.02%
Foreign currency 60 12,940 (12,880) 0.00% 0.13% -0.13%
-- ------ ------- ---- ---- ----
Total other income 1,297 16,083 (14,786) 0.01% 0.16% -0.15%
----- ------ ------- ---- ---- ----
Income before taxes on income 191,781 (855,465) 1,047,246 1.39% -8.55% 9.94%
Taxes on income 23,144 - 23,144 0.17% 0.00% 0.17%
------ ------ ---- ---- ----
Net income (loss) $ 168,637 $ (855,465) $1,024,102 1.22% -8.55% 9.77%
========== =========== ========== ==== ==== ====
Net sales for the three months ended June 30, 2004 increased $3,783,510 over the
three months ended June 30, 2003 as shown in the table below.
Increase
(decrease) Increase Percentage of sales by
Three Months Three Months Dollar (decrease) Geographic region
Location ended 6/30//04 ended 6/30/03 Variance Variance % 2004 2003
- -------- -------------- ------------- -------- ---------- ---- ----
Domestic $ 4,410,222 $ 3,104,548 $ 1,305,674 42% 32% 30%
Europe 9,146,161 6,746,029 2,400,132 36% 66% 69%
Asia 237,909 160,205 77,704 49% 2% 1%
------- ------- ------ -- - -
Total $ 13,794,292 $ 10,010,782 $ 3,783,510 38% 100% 100%
============= ============ ============ == === ===
The primary factors contributing the sales increase were:
o Stronger demand for retail WinTV-PVR-250 products due to exposure generated
from WindowsXP Media Center awareness
o Increased WinTV-PVR-USB2 sales due to introduction of lower cost model
during fiscal 2003
o Higher sales of WinTV-USB analog product
o Increased sales of analog product due to sales to direct corporate
customers
o Introduction in early fiscal 2004 of Media MVP product
o Increase in our average Euro to USD contract rate of approximately 16%
(1.2122 versus 1.0480) for the three months ended June 30, 2004 over the
three months ended June 30, 2003, which yielded higher converted Euro to
USD sales
20
Results of operations-three month period ended June 30, 2004 compared to June
30,2003-continued
- -----------------
The sales increases were offset by the following negative trends:
o Decrease in WinTV-PVR-250 OEM sales
o Decrease in Digital Entertainment Center (DEC) sales
o $90,000 reduction in sales for price protection due to anticipated price
reductions on older products
Net sales to domestic customers were 32% of net sales for the three months ended
June 30, 2004 compared to 31% for the three months ended June 30, 2003. Net
sales to European customers were 66% of net sales compared to 67% for the same
quarter of last year. Net sales to Asian customers were 2% for both periods.
Gross profit increased $1,303,678 for the three months ended June 30, 2004
compared to the prior year's third quarter.
The increases and (decreases) in the gross profit are detailed below:
Increase
(decrease)
----------
Due to increased sales $1,289,600
Increase in gross margin on non OEM products 327,132
Effect on gross margin due to lower margin OEM sales 139,742
Price protection (90,000)
Due to increases in labor related and other costs (362,796)
---------
Total increase in gross profit $1,303,678
---------
Gross profit percentage for the three months ended June 30, 2004 was 25.79%
compared to 22.52% for the three months ended June 30, 2003, an increase of
3.27%.
The increases and (decreases) in the gross profit percent are detailed below:
Increase
(decrease)
----------
Increase in gross margin on non OEM products 2.78%
Effect on gross margin due to lower margin OEM sales 1.01%
Price protection (0.41)
Due to increases in labor related and other costs (0.11)%
-----
Net increase in gross profit 3.27%
=====
The increase in the gross profit margin percent of 2.78% for non-OEM products
was primarily due to:
o Cost reductions attained during fiscal 2003 and the first half of fiscal
2004
o Cost reduced versions of the WinTV-PVR-250 and WinTV-PVR-USB2 introduced
during fiscal 2003
o Increase in our average Euro to USD contract rates, used to convert Euro
sales to U.S. dollar sales, of about 16% for the three months ended June
30, 2004 (1.2122 versus 1.0480) over the same period of last year. Since
about 75% of our European inventory is purchased in U.S. dollars, while
most of the European sales are invoiced in Euros or Great British Pounds,
the Company benefits from the higher converted Euro to U.S. dollar sales,
which are sold against either stable or declining U.S. dollar unit
inventory cost
o Sales of lower margin DEC boards declined as a percentage of sales from
last year
The increase in the gross profit percentage of 1.01% attributable to the mix of
OEM sales for the three months ended June 30, 2004 was due to the following:
o Decreased sales of our OEM WinTV-PVR-250 boards for the three months ended
June 30, 2004.
o Higher gross profit percentage. The decrease in OEM sales in actual dollars
and as a percent of sales coupled with higher a gross profit resulted in an
increase in the gross profit percent attributable to OEM sales of 1.02%.
21
Results of operations-three month period ended June 30, 2004 compared to June
30,2003-continued
- -----------------
The decrease in the gross margin percent of 0.11% attributable to labor related
and other costs for the three months ended June 30, 2004 was due to the
percentage increase in labor related and other costs for the three months ended
June 30, 2004 over the nine months ended June 30, 2003 of 39.95% exceeding the
percentage increase in sales of 37.79%.
The chart below illustrates the components of Selling, General and
Administrative costs:
Three months ended June 30,
----------------------------
Dollar Costs Percentage of Sales
------------------------------------------------------------------------------------------
Increase Increase
2004 2003 (Decrease) 2004 2003 (Decrease)
---- ---- ---------- ---- ---- ----------
Sales and Marketing $1,907,692 $1,655,344 $ 252,348 13.83% 16.54% -2.71%
Technical Support 116,763 114,543 2,220 0.85% 1.14% -0.29%
General and Administrative 903,609 868,290 35,319 6.55% 8.67% -2.12%
------- ------- ------ ---- ---- ----
Total $2,928,064 $2,638,177 $ 289,887 21.23% 26.35% -5.12%
----- ========== ========== ========== ===== ===== ====
Selling, General and Administrative expenses increased $289,887 from the prior
year's third quarter. As a percentage of sales, Selling, General and
Administrative expenses decreased by 5.12% when compared to the three months
ended June 30, 2003.
The increase in Sales and Marketing expense of $252,348, which accounted for
approximately 87% of the total increase in Selling, General and Administrative
expenses, was mainly due to:
o Higher advertising costs of $108,198 due to higher sales based co-operative
advertising and increased special promotions
o Higher advertising costs of $24,208 due to higher translated Euro to U.S
dollar amounts due to the strengthening of the Euro against the USD
o Increased commission expense of $55,335 due to higher translated Euro to
U.S dollar amounts due to the strengthening of the Euro against the USD o
Increased European sales office costs of $31,628 due to higher translated
Euro to U.S dollar amounts due to the strengthening of the Euro against the
USD
o Increased public relation costs of $9,354
o Higher European sales rep costs of $43,970 due to addition of rep and
support costs
o Higher domestic compensation cost of $26,965 due to addition of OEM sales
person
o Lower sales office expenses of $29,374 due to personnel shift and stricter
budget controls
o Lower catalogue placement costs of $14,783
The increase in General and Administrative expenses of $35,319 was primarily due
to:
o Directors fees of $22,299
o European accounting service fees $14,677
Research and Development expenses increased $24,749. The increase was mainly due
to higher compensation costs attributable to additions to staff in the U.S. and
the creation of an R&D department in Taiwan.
Arbitration Proceeding
In November 2002, the estate of Kenneth Aupperle ("Estate") filed a demand for
arbitration against the Company with the American Arbitration Association. The
Estate claimed certain property rights and interest in the Company, amounts due
and owing to the Estate based on various corporate agreements with the late Mr.
Aupperle and certain insurance policies. The Estate was seeking to recover a
minimum of $2.5 million in damages, fees and expenses.
22
Results of operations-three month period ended June 30, 2004 compared to June
30, 2003-continued
- ------------------
The arbitration proceeding was heard before a New York arbitration panel. On
April 19, 2004, the arbitration panel awarded the Estate a total of $206,250 in
relation to certain stock options. No fees or expenses were awarded.
The Company accrued a charge of $206,250 in the second quarter of fiscal year
2004 to cover the award. The $206,250 award was paid in May 2004.
Litigation Proceeding
In March 2002, Polywell International, Inc. ("Polywell"), a supplier of cables
to the Company, commenced an action seeking $339,520 in damages plus exemplary
damages, attorney's fees, costs and interest with relation to certain unpaid
invoices. The Company paid these invoices to the sales representative, who
subsequently failed to forward the payments to Polywell. The Company had dealt
with this sales representative over a number of years, who also represented
himself as Polywell's payment and collection agent.
The case went to trial and was heard before a jury in the United States District
Court in the Northern District of Texas, Dallas Division. Since the Company had
dealt with the said sales representative for several years with respect to all
purchasing and payment issues, the Company believed that paying the invoices to
this sales representative was tantamount to paying Polywell. The jury however
ruled in favor of Polywell and the court granted Polywell a judgment against the
Company, awarding an amount of $339,520 to Polywell. In addition, the Company is
obligated to pay Polywell's attorney's fees and interest.
The Company accrued a charge of $500,000 during the second fiscal quarter of
2004 to cover the award. Subsequent negotiation reduced the award to $427,000,
and the Company paid the award in June 2004. The reduction in the final award
has been reflected in our third quarter results.
Other income
Net other income for the three months ended June 30, 2004 was $1,297 compared to
net other income of $16,083 for the three months ended June 30, 2003 as detailed
below:
Three months ended June 30,
2004 2003
---- ----
Interest income $ 1,237 $ 3,143
Foreign currency transaction gains 60 12,940
-- ------
Total other income $ 1,297 $ 16,083
======== ========
Re-measurement of accounts denominated in currencies other than the Euro
We follow the rules prescribed in paragraph 16 of SFAS 52 "Foreign Currency
Translation", which states that accounts denominated in a currency other than an
entities functional currency, excluding inter-company accounts which are long
term in nature, need to be re-measured into the entities functional currency,
and any gain or loss from this re-measurement are included in the determination
of net income.
Since the functional currency of Hauppauge Digital Europe Sarl ("HDE Sarl") is
the Euro, any asset, liability or equity accounts which are invested in or
purchased using U.S. Dollars or Great British Pounds by HDE Sarl are revalued
into Euros at the end of each period. The gains or losses on HDE Sarl's books
resulting from the revaluation of U.S. Dollar and Great British Pound accounts
into Euros are booked in the Company's profit and loss statement in the other
income (loss) section under the description foreign currency transaction gains
(losses).
23
Results of operations-three month period ended June 30, 2004 compared to June
30, 2003-continued
- ------------------
Accumulated other comprehensive income (loss)
The Euro is the functional currency of the Company's European subsidiary, HDE
Sarl. Assets and liabilities of this subsidiary are translated to U.S. Dollars
at the exchange rate in effect at the end of each reporting period, while equity
accounts are translated to U.S. Dollars at the historical rate in effect at the
date of the contribution. Operating results are translated to U.S. Dollars at
the average prevailing exchange rate for the period, with the exception of sales
which are translated to U.S. Dollars at the average monthly forward exchange
contract rate.
The use of differing exchange rates results in foreign currency translation
gains or losses. Since the Euro denominated accounts on HDE Sarl's books result
in a net asset position (total Euro assets are in excess of Euro liabilities),
an increase in the Euro value results in a deferred gain for the translation of
Euro accounts to U.S. Dollars. The Company had a translation gain of $704,183
recorded on the balance sheet as of September 30, 2003. For the three months
ended June 30, 2004, the Company recorded on the balance sheet translation
losses of $241,751. For the nine months ended June 30 2004, the Company recorded
on the balance sheet deferred translation gains $466,131 resulting in a
translation gain of $1,170,314 recorded as a component of accumulated other
comprehensive income as of June 30, 2004.
The Company uses forward exchange contracts to reduce our exposure to
fluctuations in foreign currencies. Mark to market gains and losses on these
open contracts result from the difference between the USD value of our open
foreign currency forward contracts at the average contract rate as opposed to
the same contracts translated at the month end forward rate. The Company
qualifies for cash flow hedge accounting as prescribed under SFAS 133, which
allows the Company to record the mark to market gains and losses in the equity
section of our balance sheet under accumulated other comprehensive income. The
Company had mark to market losses of $234,591 recorded on the balance sheet as
of September 30, 2003. For the three months ended June 30, 2004, the Company
recorded as a component of other comprehensive income a mark to market loss of
$26,138. For the nine months ended June 30, 2004, the Company recorded, as
component of other comprehensive income, a mark to market gain of $214,116,
resulting in a mark to market loss of $20,475 for contracts open as of June 30,
As stated above, accumulated other comprehensive income (loss) consists of two
components:
o Translations gains and losses
o FAS 133 mark to market gains and losses on our open foreign exchange
contracts
The table below details the gains and losses recorded for the components that
make up accumulated other comprehensive income (loss):
Balance Oct 03 to Balance Jan 04 to Balance April 04 to Balance
As of Dec 03 As of Mar 04 As of June 04 As of
Sept 30, Gains Dec 31, Gains Mar 31, Gains June 30,
Accumulated other comprehensive income 2003 (losses) 2003 (losses) 2004 (losses) 2004
- -------------------------------------- ---- -------- ---- -------- ---- -------- ----
Translation gains $ 704,183 $ 849,969 $1,554,152 $(142,087) $1,412,065 $(241,751) $1,170,314
FAS 133 mark to market adjustments (234,591) 204,461 (30,130) (16,483) (46,613) 26,138 (20,475)
-------- ------- ------- ------- ------- ------ -------
$ 469,592 $1,054,430 $1,524,022 $(158,570) $1,365,452 $(215,613) $1,149,839
========= ========== ========== ========= ========== ========= ==========
Tax provision
Our net tax provision for the three months ended June 30, 2004 and 2003 is as
follows:
Three months ended June 30,
---------------------------
2004 2003
---- ----
Tax (benefit) attributable to U.S operations $ (50,900) $(377,500)
Tax expense European operations 23,144 -
Deferred tax asset valuation allowance 50,900 377,500
------ -------
Net tax provision $ 23,144 $ -
========= =========
24
Results of operations-three month period ended June 30, 2004 compared to June
30,2003-continued
For the last four fiscal years, our domestic operation has incurred losses. We
analyzed the future realization of our deferred tax assets as of June 30, 2004
and we concluded that under the present circumstances, it would be appropriate
for us to record a valuation allowance against the increase in the deferred tax
asset attributable to the loss incurred in the second quarter of fiscal 2004
from domestic operations.
As a result of all of the above items mentioned in the Management's Discussion
and Analysis of Financial Condition and Results of Operations, we earned net
income of $168,637, for the three months ended June 30, 2004, which resulted in
basic and diluted net income per share of $0.02 on weighted average basic and
diluted shares of 9,047,561 and 10,019,697, respectively, compared to a net loss
of $855,465 for the three months ended June 30, 2003, which resulted in basic
and diluted net loss per share of $0.10 on weighted average basic and diluted
shares of 8,869,832.
Options to purchase 38,906 and 1,782,601 shares of common stock at prices
ranging $8.75 to $10.06 and $1.05 and $10.06, respectively, were outstanding for
the three month period ending June, 2004 and 2003, respectively, but were not
included in the computation of diluted earnings per share because they were
anti-dilutive.
Seasonality
As our sales are primarily to the consumer market, we have experienced certain
seasonal revenue trends. Our peak sales quarter, due to holiday season sales of
computer equipment, is our first fiscal quarter (October to December), followed
by our fourth fiscal quarter (July to September). In addition, our international
sales, mostly in the European, market, were 68%, 73% and 77% of sales for the
years ended September 30, 2003, 2002 and 2003, respectively. Our fiscal fourth
quarter sales (July to September) can be potentially impacted by the reduction
of activity experienced in Europe during the July and August summer holiday
period.
To offset the above cycles, we target a wide range of customer types in order to
moderate the seasonal nature of our retail sales.
Liquidity and Capital Resources
Our cash, working capital and stockholders' equity position is disclosed below:
June 30, September 30,
2004 2003
---- ----
Cash $ 9,427,652 $ 5,838,160
Working Capital 13,820,267 10,859,953
Stockholders' Equity 14,325,849 11,468,685
We had cash and cash equivalents as of June 30, 2004 of $9,427,652, an increase
of $3,589,492 from September 30, 2003.
The increase was due to:
Net income adjusted for non cash items $ 1,898,869
Decrease in accounts receivable 2,815,438
Increase in accounts payable other current liabilities 785,137
Proceeds from employee stock purchases 458,363
Less cash used for:
Increase in inventories (2,044,649)
Increase in prepaid expenses and other current assets (246,501)
Capital equipment purchases (77,165)
---------
Net cash increase $3,589,492
==========
Net cash of $3,208,294 provided by operating activities was primarily due to
increases in accounts payables and accrued expenses of $785,137, a decrease in
accounts receivable of $2,815,438 and net income adjusted for non cash items of
$1,898,869 offset somewhat by increases in inventories and prepaid expenses and
other current assets of $2,044,649 and $246,501 respectively.
25
Liquidity and Capital Resources-continued
Cash of $77,165 was used to purchase fixed assets. Proceeds from the stock
purchased by employees through the employee stock purchase plan provided
additional cash of $458,363.
On November 8, 1996, we approved a stock repurchase program. The program, as
amended, authorizes the Company to repurchase up to 850,000 shares of our own
stock. We intend to use the repurchased shares for certain employee benefit
programs. On December 17, 1997, the stock repurchase program was extended by a
resolution of our Board of Directors. As of June 30, 2004, we held 542,067
treasury shares purchased for $1,497,216 at an average purchase price of
approximately $2.76 per share.
We believe that our cash and cash equivalents as of June 30, 2004 and our
internally generated cash flow will provide us with sufficient liquidity to meet
our currently foreseeable short-term and long-term capital needs.
Future Contractual Obligations
The following table shows the Company's contractual obligations related to lease
obligations as of June 30, 2004:
Payments due by period
Contractual obligations Total 1 year 1-3 years Over 3 years
- ----------------------- ----- ------ --------- ------------
Operating lease obligations $ 2,022,605 $ 568,015 $ 1,049,590 $ 405,000
=========== ========= =========== =========
Critical Accounting Policies and Estimates
Financial Reporting Release No. 60, requires all companies to include a
discussion of critical accounting policies or methods used in the preparation of
financial statements.
We believe the following critical accounting policies affect the significant
judgments and estimates used in the preparation of the our financial statements:
o Revenue Recognition
o Management's estimates
o Hedging program for European subsidiary inventory purchases denominated in
U.S. dollars
o Translation of assets and liabilities denominated in non functional
currencies on our European financial statements
Revenue Recognition
Our revenues are primarily derived from the sale of computer boards which enable
you to view television programs on your personal computer. Sales of computer
boards are commonly classified as computer hardware. Our sales are primarily to
retailers, distributors and original equipment manufacturers. Sales to our
customers are documented by a purchase order which describes the conditions of
sale. Sales are recorded when products are shipped to our customers, the product
price is fixed and determinable, collection of the resulting receivable is
probable and product returns are reasonably estimable. Revenue from freight
charged to customers is recognized when products are shipped. Provisions for
customer returns and other adjustments are provided for in the period the
related sales are recorded based upon historical data.
Management's Estimates
The discussion and analysis of our financial condition and results of operations
are based upon 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 management to make
estimates and
26
Management's Estimates-continued
judgments that affect the reported amounts of assets, liabilities and related
disclosure of contingent assets and liabilities at the date of the consolidated
financial statements and the reported amounts for revenues and expenses during
the reporting period. On an ongoing basis, management evaluates estimates,
including those related to sales provisions, as described above, income taxes,
bad debts, inventory reserves and contingencies. We base our estimates on
historical data, when available, experience, and on various other assumptions
that are believed to be reasonable under the circumstances, the combined results
of which form the basis for making judgments approximating the carrying values
of assets and liabilities that are not readily apparent from other sources.
Actual results may differ from these estimates.
Our European subsidiary accounted for approximately 67% and 71% of our net sales
for fiscal 2003 and fiscal 2002, respectively. All of our European sales are
denominated in local currencies, primarily the Euro and Great British Pound. On
the supply side, since we predominantly deal with North American and Asian
suppliers, approximately 75% of our inventory supporting our Euro and Great
British Pound sales are purchased and paid in U.S. Dollars. Consequently,
changes in exchange rates expose our U.S. denominated inventory on the books of
our European subsidiary to market risks resulting from the fluctuations in the
foreign currency exchange rates to the U.S. Dollar. In an attempt to minimize
these risks, we enter into forward exchange contracts with financial
institutions.
We do not enter into contracts for speculative purposes. We enter into monthly
window contracts covering an average period of three months based on existing or
anticipated future inventory purchases. Although we enter into these contracts
to reduce the short term impact of currency rate changes, the following risks
are still inherent in hedging the Euro:
o Actual inventory purchases may fluctuate from our estimates, resulting in
excess contracts
o Short term volatility of currency markets has the potential to reduce the
effectiveness of our hedging program
o Historical volatility of the Euro has the potential to impact our gross
margins and operating income
o The magnitude of the success of our hedging program is dependent upon
movements in the Euro exchange rates. These movements are difficult to
predict over an extended period of time.
Translation of Assets and Liabilities Denominated in Non Functional Currencies
on Our European Financial Statements
The functional currency of our European subsidiary is the Euro. In preparing our
consolidated financial statements, we are required to translate assets and
liabilities denominated in a non functional currency, mainly U.S. Dollars, to
Euros on the books of our European subsidiary. This process results in exchange
gains and losses depending on the changes in the Euro to U.S. Dollar exchange
rate. Under the relevant accounting guidance, with the exception of gains and
losses that are attributable to inter-company accounts which are long term in
nature, we are obligated to include these gains and losses on our statement of
operations, which we report in other income or expense under the description
foreign currency transaction gains (losses).
The extent of these gains and losses can fluctuate greatly from month to month
depending on the change in the exchange rate, causing results to vary widely.
Due to the past volatility of the Euro, it is difficult to forecast the long
term trend of these gains and losses.
27
Inflation
While inflation has not had a material effect on our operations in the past,
there can be no assurance that we will be able to continue to offset the effects
of inflation on the costs of our products or services through price increases to
our customers without experiencing a reduction in the demand for our products;
or that inflation will not have an overall effect on the computer equipment
market that would have a material affect on us.
Euro
On January 1, 1999, the Euro was adopted in Europe as the common legal currency
among 11 of the 15 member countries of the European Community. On that date, the
participating countries established fixed Euro conversion rates (i.e. the
conversion exchange rate between their existing currencies and the Euro). The
Euro now trades on currency exchanges and is available for non-cash
transactions. A new European Central Bank was established to direct monetary
policy for the participating countries.
Prior to the adoption of the Euro, we billed our European customers in German
Marks or British Pounds, depending upon which currency the customer preferred to
be billed in. Effective January 1, 1999, we began invoicing our customers who
are located in the eleven member countries in Euros. We continue to bill
customers located in the United Kingdom in British Pounds. The benefits to
billing customers in Euros were twofold:
o Our foreign currency hedging program was streamlined to the Euro and the
British Pound
o The pricing from country to country was harmonized, eliminating price
differences between countries due to the fluctuating local currencies
We handled the conversion to the Euro without any material disruptions to our
operations.
Item 3. Quantitative and Qualitative Disclosures about Market Risks
- -------------------------------------------------------------------
Derivatives and Hedging Activities
Product is invoiced to our European customers in local currencies and payments
from our customers are received in local currencies (primarily the Euro and
Great British Pound). On the supply side, since we predominantly deal with North
American and Asian suppliers, approximately 75% of our inventory supporting our
Euro and Great British Pound sales are purchased and paid in U.S. Dollars.
Consequently, changes in exchange rates expose our U.S. denominated inventory on
the books of our European subsidiary to market risks resulting from the
fluctuations in the foreign currency exchange rates to the U.S. Dollar. We
attempt to reduce these risks by entering into foreign exchange forward
contracts with financial institutions. The purpose of these forward contracts is
to hedge the foreign currency market exposures underlying the forecasted U.S.
Dollar denominated inventory purchases required to support our European sales.
Although we do not try to hedge against all possible foreign currency exposures
because we can not fully estimate the size of our exposure, the contracts we
procure are specifically entered into to as a hedge against existing or
anticipated foreign currency exposure. We do not enter into contracts for
speculative purposes. Although we maintain these programs to reduce the short
term impact of changes in currency exchange rates, when the U.S. Dollar sustains
a long term strengthening position against the foreign currencies in countries
where we sell our products, our gross margins, operating income and retained
earnings can be adversely affected. Factors that could impact the effectiveness
of our hedging program include volatility of the currency markets and
availability of hedging instruments.
As of June 30 2004, we had foreign currency contracts outstanding of
approximately $3,926,000 against the delivery of the Euro. The contracts expire
through December 2004. Our accounting policies for these instruments are based
on its designation of such instruments as cash flow hedging transactions. We do
not enter into such contracts for speculative purposes. We record all derivative
gains and losses on the balance sheet as a component of stockholders' equity
under the caption "Accumulated other comprehensive income (loss)". As of June
30,
28
Derivatives and Hedging Activities-continued
2004, a deferred loss of $20,475 reflecting the net mark to market loss of our
derivatives was recorded as a component of accumulated other comprehensive
income on our balance sheet.
The Company uses the average monthly forward contract exchange rate to translate
Euro sales into our U.S. dollars reporting currency. For the three months ended
June 30, 2004, using the average contract rate resulted in an increase in Euro
to U.S. dollar translated sales of $45,403. For the nine month period ending
June 30, 2004, if the Company had used the average spot rate, we would have
recorded an increase in Euro to U.S dollar translated sales of $863,965 related
to our contracts that closed during these periods and the changes in the fair
value of our derivative contracts. For the three months and nine months ended
June 30, 2003, if the Company had used the average spot rate, we would have
recorded an increase in Euro to U.S dollar translated sales of $366,300 and
$1,525,100, respectively, related to our contracts that closed during these
periods and the changes in the fair value of our derivative contracts.
Item 4. Controls and Procedures
- -------------------------------
Our Chief Executive Officer and Chief Financial Officer conducted an evaluation
of the effectiveness of our disclosure controls and procedures. Based on this
evaluation, our Chief Executive Officer and Chief Financial Officer concluded
that our disclosure controls and procedures were effective as of June 30, 2004
in alerting them in a timely manner to material information required to be
included in our SEC reports. In addition, no change in our internal control over
financial reporting occurred during the fiscal quarter ended June 30, 2004 that
has materially affected, or is reasonably likely to materially affect, our
internal control over financial reporting.
Special Note Regarding Forward Looking Statements
This Quarterly Report contains forward-looking statements as that term is
defined in the federal securities laws. The events described in forward-looking
statements contained in this Quarterly Report may not occur. Generally these
statements relate to business plans or strategies, projected or anticipated
benefits or other consequences of our plans or strategies, projected or
anticipated benefits from acquisitions to be made by us, or projections
involving anticipated revenues, earnings or other aspects of our operating
results. The words "may," "will," "expect," "believe," "anticipate," "project,"
"plan," "intend," "estimate," and "continue," and their opposites and similar
expressions are intended to identify forward-looking statements. We caution you
that these statements are not guarantees of future performance or events and are
subject to a number of uncertainties, risks and other influences (including, but
not limited to, those set forth in our Annual Report on Form 10-K for the year
ended September 30, 2003), many of which are beyond our control, that may
influence the accuracy of the statements and the projections upon which the
statements are based. Our actual results, performance and achievements could
differ materially from those expressed or implied in these forward-looking
statements. We undertake no obligation to publicly update or revise any
forward-looking statements, whether from new information, future events or
otherwise.
PART II. OTHER INFORMATION
- ---------------------------
Item 1. Legal Proceedings
We were involved in arbitration proceedings before the American Arbitration
Association, which had been brought against the Company by the estate of the
late Mr. Kenneth Aupperle ("Estate"). The Estate was claiming property rights
and interest in the Company, certain amounts due and owing to the Estate based
on various corporate agreements with Mr. Aupperle and certain insurance
policies, such amount to be no less than $2,500,000.
On April 19, 2004, the arbitration panel awarded the estate of Kenneth Aupperle,
one of the Company's founders and former President, a total of $206,250. No
other fees or expenses were awarded.
The Company accrued a charge of $206,250 in the second quarter of fiscal year
2004 to cover the award. The award was paid in May 2004.
29
Item 1. Legal Proceedings-continued
See Note 11 in the "NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS" and
"Managements discussion and analysis of financial results" with respect to
certain litigation with Polywell International, Inc.
Item 5. Other information
This information shall not be deemed "filed" for purposes of Section 18 of the
Securities Exchange Act of 1934, as amended (the "Exchange Act"), or
incorporated by reference in any filing under the Securities Act of 1933, as
amended or the Exchange Act except as shall be expressly set forth by specific
reference in such a filing.
We occupy a facility located in Hauppauge New York and use it for executive
offices and for the testing, storage and shipping of our products. In February
1990, Hauppauge Computer Works, Inc., a wholly-owned subsidiary of the Company
("HCW"), entered into a lease, as amended, with Ladokk Realty Co. (successor
company now known as Ladokk Realty Co., LLC), a real estate partnership which is
principally owned by Kenneth Plotkin, the Company's Chairman of the Board, Chief
Executive Officer, and Vice President of Marketing and the holder of
approximately 6% of the Company's outstanding Common Stock as of May 14, 2004,
Dorothy Plotkin, the wife of Kenneth Plotkin, a holder of approximately 6% of
the Company's Common Stock as of May 14, 2004 and Laura Auppele, believed by the
Company to be the holder of approximately 12% of the Company's Common Stock as
of May 14, 2004. Until February 17, 2004, the premises subject to such lease
were subject to two mortgages guaranteed by the Company. On February 17, 2004
HCW and Ladokk terminated the old lease and HCW entered into a new lease
agreement with Ladokk Realty Co., LLC. The lease term is for five years and
terminates on February 16, 2009. Concurrently with the new lease, our landlord
completed a refinancing of its mortgages, and the new lender did not require us
to sign a guarantee. In recognition of this, we are no longer obligated to
guarantee the landlord's mortgages.
The Company's Audit Committee is in the process of evaluating the February 17,
2004 lease.
On August 12 2004, HAUPPAUGE DIGITAL, INC. issued a press release announcing its
financial results for the fiscal quarter ended June 30, 2004. A copy of this
press release is furnished as Exhibit 99.1 to this Report.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
31.1 Certification of Chief Executive Officer pursuant to Rule 13a-14(a) or Rule
15d-14(a) as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of
2002
31.2 Certification of the Chief Financial Officer pursuant to Rule 13a-14(a) or
Rule 15d-14(a) as adopted pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002
32 Certification of Chief Executive Officer and Chief Financial Officer
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002
99.1 Press Release, dated August 12, 2004 issued by HAUPPAUGE DIGITAL, INC.
(b) Reports on Form 8-K
None
30
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.
HAUPPAUGE DIGITAL, INC.
----------------------
Registrant
Date: August 16, 2004 By: /s/ Kenneth Plotkin
---------------------------------
KENNETH PLOTKIN
Chief Executive Officer, Director,
Vice President of Marketing
(Principal Executive Officer)
and Director
Date: August 16, 2004 By: /s/ Gerald Tucciarone
--------------------------------
GERALD TUCCIARONE
Treasurer and Chief
Financial Officer
31