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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
[ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended: May 31, 1999
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: 0-23996
SCHMITT INDUSTRIES, INC.
(Exact name of registrant as specified in its charter)
Oregon 91-1151989
(State or other jurisdiction of (IRS Employer Identification Number)
incorporation or organization)
2765 N.W. Nicolai Street
Portland, Oregon 97210
(Address of principal executive offices) (Zip Code)
(503) 227-7908
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
- ---------------------------- -----------------------------------------------
None None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock - no par value
(Title of each class)
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 if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ X ]
As of August 18, 1999, the aggregate market value of the registrant's
Common Stock held by nonaffiliates of the registrant was $8,645,079 based on the
closing sales price of the registrant's Common Stock on the Nasdaq National
Market. On that date, there were 8,184,889 shares of Common Stock outstanding.
Portions of the registrant's 1999 Annual Report to Shareholders are
incorporated by reference into Parts II and IV hereof, and portions of the
registrant's definitive Proxy Statement for its 1999 Annual Meeting of
Shareholders are incorporated by reference into Part III hereof.
PART I
ITEM 1. BUSINESS
INTRODUCTION
The Company designs, assembles and markets computer-controlled balancing
equipment for use primarily by the machine tool industry. Through its wholly
owned subsidiary, Schmitt Measurement Systems, Inc. ("SMS"), a Montana
corporation, the Company also designs, manufactures and markets precision laser
measurement systems.
The Company was incorporated under the laws of British Columbia, Canada in 1984.
The Company name was changed to Schmitt Industries Inc. in 1987. In 1996, the
Company was "continued" from British Columbia to the state of Wyoming and then
merged into its wholly owned subsidiary, Schmitt Industries, Inc., an Oregon
corporation; Schmitt Industries, Inc. was the surviving entity.
The Company acquired its original balancing equipment technology pursuant to a
series of agreements from 1987 through 1991. The patented technology has been
substantially enhanced and advanced by the Company in the past decade.
In 1995, the Company acquired all the outstanding shares of TMA Technologies
Inc. ("TMA"), a designer, assembler and marketer of innovative industrial
measurement systems based on laser light scatter technologies. As part of the
purchase, the Company agreed to make royalty payments to TMA's shareholders of
5% on sales of TMA products and future Company products that utilize TMA's
technologies, hardware, software and existing patents, subject to a maximum
royalty of $6 million. Shortly after the acquisition, TMA began operations in
Portland and subsequently changed its name to Schmitt Measurement Systems, Inc.
("SMS")
In 1996, the Company formed a wholly owned subsidiary, Schmitt Europe, Ltd.
("SEL"), under the laws of Great Britain to market and sell the Company's
products in Great Britain.
In 1996, the Company purchased all the assets of the grinding wheel balancer
division of Hofmann Machinenbau GmbH of Germany. The Company operates this
business as Schmitt Hofmann Systems GmbH ("SHS"), a wholly owned subsidiary of
the Company.
The Company's executive offices are located at 2765 N.W. Nicolai Street,
Portland, Oregon 97210, and its telephone number is (503) 227-7908.
BALANCING PRODUCTS
The Company's principal product is the Schmitt Dynamic Balance System (the "SBS
System"). It consists of a computer control unit, sensor, spindle-mounting
adapter, and balance head. It was designed to be an inexpensive, yet highly
accurate, permanent installation on grinding machines. Today, the SBS System is
beginning to be evaluated by manufacturers for additional applications including
large electric motors, industrial fans, industrial brushing devices, turbines
and similar devices.
The SBS System is fully automated and consequently the user does not have to
pre-balance such devices as grinding wheels. This reduces the setup time of such
operations and ensures a smoother and more efficient operation. Operating on a
principle of mass compensation for wheel imbalance, the balance head contains
two movable eccentric weights, each of which is driven by electric motors
through a precision gear train. These weights can be repositioned to offset any
imbalance in a grinding wheel or other
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application. Imbalance or vibration is picked up by the sensor that feeds a
signal to a controller that filters the signal by revolutions per minute. The
controller then drives the two balance head weights in the direction that
reduces the amplitude of the vibration signal. When the weights are positioned
so the lowest vibration level is reached, the balance cycle is complete.
Notable features of the SBS System include its ability to fit almost all
machines, ease of installation, compact and modular construction, ability to
balance a wheel while on a machine, elimination of wheel vibration, automatic
monitoring of balancing, display in both English and metric systems, instrument
grade calibration, short balance process, measurement of both displacement
and/or velocity, and minimal user maintenance.
Benefits to the system user include improved quality of finished parts, ease of
product adaptation, minimal downtime, complete and ready installation,
elimination of need for static balancing, longer life for wheels, dressings,
diamonds and spindle bearings, the ability to balance within 0.02 microns and
its adaptability to all types of machines.
The precision grinding industry has a worldwide presence and is established in
all industrialized countries. In each major industrialized country there are
three major market segments: machine tool builders, rebuilders and grinding
machine users.
The first major market segment consists of machine tool builders who actually
design and manufacture a variety of cylindrical, surface and specialty
application grinding machines that are sold at home and also exported to foreign
markets. SBS System products are distributed to a variety of world markets
through OEM (original equipment manufacturer) accounts, where a special pricing
(20%) discount is offered to the machine builder if the designer incorporates
the SBS System into its machine.
Examples of some of well-known worldwide machine tool builders who have offered
and/or installed the SBS System include ANCA (Australia), Bryant Grinders
Corporation (U.S.), Blohm Incorporated (U.S.), Blohm GmbH (Germany), Capco
Machinery (U.S.), Cincinnati Milacron (U.S.), Ecotech/SMTW (China/U.S.), Gold
Crown Machinery (U.S.), Gleason Works (U.S.), Litton IAS/Landis Grinding (U.S.),
Micron Machinery Limited (Japan/U.S.), Normac Incorporated (U.S.), NTC Toyama
America (U.S./Japan), Okomoto (Japan), Okuma Machine (Japan), Royal Master
Grinders (U.S.), Shigiya Machine (Japan), Sumitomo Heavy Industry (Japan), CETOS
Hostivar (Czech Republic), TOS Holice (Czech Republic), Toyoda Machine (Japan)
and Weldon Machine Tool (U.S.).
One successful marketing channel to tool builders is grinding machine users.
Those customers use the SBS System and enjoy the benefits from that product.
When they purchase new systems from OEM's, they often request that SBS products
be included with the new equipment.
The second major market segment consists of machine tool rebuilders found in all
industrial nations who develop their business with users by offering to
completely update and refurbish older machine tools. These rebuilders typically
tear the old machine apart and install new bearings, electronics, and advanced
features, such as the Schmitt Dynamic Balancing System. The Company currently
sells its products directly to all major machine rebuilders in the U.S. and to
some countries in Western Europe.
Grinding machine users in industrialized countries are the third major market
segment. Users become aware of the SBS System through trade shows, trade
magazine advertising, distributors, field representatives, referrals and new
machine suppliers.
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Precision grinding is increasing as a worldwide method of material removal and
processing. Therefore, the Company believes there may be an increase in market
growth and an increase in the need for automatic balancers. Precision grinding
is necessary in all major manufacturing areas such as the automotive industry
(camshafts, crankshafts, valves), bearings (roller and tapered types), ceramics
(precision shaping), electric motors (shafts), pumps (shafts and turbines),
aircraft (engine parts), and general manufacturing.
The Company's business is conducted with many customers located throughout the
world. Examples of some of the more well known of these include Black & Decker,
Briggs and Stratton, Caterpillar Inc., Daewoo International Corp., Eaton
Corporation, Ford Motor Company, General Electric Corp., General Motors,
Ingersoll Rand, Sumitomo Heavy Industries, Texas Instruments, The Timken
Company, Torrington, TRW Automotive Components and Westinghouse Electric Corp.
The acquisition of SHS added additional balancer designs to the Company's
worldwide product line. The SHS internal spindle balancers and ring balancers
add to the total balancer package available from the Company. These proven
designs, along with the original fluid-based balancer, allow Schmitt to broaden
its machine applications.
In Fiscal 1997, 1998 and 1999, net sales of the Company's balancing products
totaled $6,151,473, $7,532,112 and $7,377,879, respectively. Net sales of
balancing products accounted for 58% of the Company's revenue in Fiscal 1997,
71% in Fiscal 1998 and 93% in Fiscal 1999. See Note 9 to Consolidated Financial
Statements.
COMPETITION. Management believes the SBS System is the only fully automatic
balancing system marketed in the world. All other competitive balancing products
require special setup and training or calibration to the specific machine. The
Company believes the SBS System is currently the only balancing product on the
market that fits all machines with wheel sizes from 6 to 48 inches in diameter
and a spindle rpm of 500 through 7,500.
Competitive products include European manufacturers building water balancers and
electromechanical balancers similar to the SBS System. Water balancers are
currently priced about 1.5 times the level of the SBS System because of
expensive plumbing and water chambers machined into the wheel hub. The machines
are disassembled and parts remachined or replaced within the spindle assembly, a
process that takes from one to two days. The system is "tuned" or "calibrated"
to the machine by a factory service technician. Although water systems are
unable to balance at low rpm, they work at mid- and high-speeds when properly
monitored by regularly cleaning filters and checking clearance of water jets.
This technology is the oldest in the market and is employed in the SHS-installed
systems. After the acquisition of SHS in 1996, the Company considered European
electromechanical balancers as its major competition due to their established
base in Europe.
Several European companies located primarily in Switzerland, Germany, Spain and
Italy produce electromechanical balancers similar to the SBS System. These
European balancers have electronic deficiencies that render them less effective
in solving essential balancing requirements. They cannot achieve the consistent
low balance levels obtained by the SBS System and cannot operate effectively at
500 rpm (low speed) or at 7,500 rpm (high speed). In addition, these balancers
have inferior brush and cable assemblies that cause down time and high
maintenance. None of these companies currently can compete effectively with the
Company in providing mounting adapters for all grinding machines.
The SBS System list price is $7,995 worldwide. Water balancers produced by
German companies other than SHS are priced at $11,000 to $15,000, and
electromechanical systems are priced at $8,000 to
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$10,000 worldwide. Management market surveys indicate customers perceive the
value of an automatic balancer to be approximately $8,000; therefore, Company
pricing is geared to obtaining a dominant market position and meeting
competitive supplier prices. The market strategy is to establish the SBS System
as the dominant product with the best quality, reliability and performance and
superior economic value.
SCHMITT MEASUREMENT SYSTEMS, INC.
SMS manufactures and markets a line of laser-based, precision measurement
systems. In addition, SMS operates a precision light scatter measurement
laboratory utilized by third-party equipment manufacturers and others.
Light scatter technology involves using lasers, optics and detectors to throw a
beam of light on a material sample and record its reflection/transmission.
Analysis of light scatter information can determine material characteristics
such as surface roughness and defects, without introducing contaminants and
causing changes to the tested material.
The principal products of SMS are laser-based measurement products and
technology applicable to both industrial and military markets. Historically, TMA
(now SMS) did not pursue industrial markets but instead concentrated on military
markets. The Company believes this strategy was a significant contributing
factor in the failure of TMA to achieve profitable operations.
The Company has used the patents, patent applications, trademarks and other
proprietary technology acquired with TMA to successfully refocus the marketing
efforts into industrial markets, including electronics, computer disk
manufacturers and flat-panel display manufacturers.
In Fiscal 1997, 1998 and 1999, net sales of SMS products totaled $4,390,499,
$3,093,972 and $579,844, respectively. Net sales of SMS products accounted for
42% of the Company's revenue in Fiscal 1997, 29% in Fiscal 1998 and 7% in Fiscal
1999. See Note 9 to Consolidated Financial Statements.
SMS operates three product lines: laser-based light-scatter measurement
products, a light-scatter measurement laboratory and other laser alignment
products.
The measurement products use proprietary laser light scatter technology to
perform non-contact surface measurement tests that quantify surface
micro-roughness in a rapid, accurate, repeatable and non-destructive manner.
Products are sold to manufacturers of disk drives and silicon wafers, both
industries with fabrication processes that require precise and reliable
measurements.
Computer hard disks require exact manufacturing control and a narrow tolerance
band for acceptable roughness. The read/write head of the disk drive flies over
the surface on a cushion of air generated when the rough surface of the rotating
disk pulls air under the head. If the surface is too smooth, the head may stick
or bind to the disk. If it is too rough, the head will fly too far from the disk
surface, causing a reduction in data density or storage capacity. The TMS and
DTM product series meet the challenges of disk drive manufacturers.
The original TMS-2000 (Texture Measurement System) product revolutionized
disk-manufacturing technology by providing the fastest, most accurate,
non-contact texture measurement system in the world. It is currently being used
by most major disk drive manufacturers and provides fast, accurate, repeatable
microroughness measurements and quadruples production throughput when compared
to other testing devices.
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The DTM 2000 (Dual Texture Measurement System) is the fastest, most accurate,
non-contact automated texture measurement system in the world. This product
provides affordable 100% inspection and is currently being used by most major
manufacturers of computer disk drives. The advanced laser-based system is
ideally suited for testing in production or quality control applications. An
automated conveyor system moves the disks on a cassette. Each disk is
automatically raised from the cassette, scanned simultaneously on both sides by
twin lasers and returned to the cassette. Testing speeds are compatible with
most in-line production processes. Customers of the DTM and TMS series include
Seagate Substrates, HMT Technology Corporation, Western Digital and Komag, Inc.
The capabilities of these products were enhanced significantly in Fiscal 1999
with the development and introduction of the "RC" series. This product uses
light scatter technology to simultaneously measure roughness of the disk surface
in two directions. The read/write head travels over the disk in two ways,
radially when moving to another disk sector and circumferentially when
processing information on the disk. With emerging disk technology, two separate
roughness measurements averaging below one angstrom are required so the head can
operate correctly. This measurement method was not possible until developed by
Schmitt and is not possible through any other measurement means that are cost
effective. Surface roughness can now be measured to levels below 0.5 Angstroms
(the point of a needle is 1 million angstroms in diameter).
The TMS-2000W and TMS-3000W (Texture Measurement Systems) are the SMS products
that provide fast, accurate, repeatable measurements for manufactures of silicon
wafers, computer chips and memory devices. The system provides measurements to a
few hundredths of an angstrom, a level unachievable by other testing devices.
Silicon wafers are carefully cut and polished to provide the base upon which a
computer or memory chip is produced. Chip manufacturing is extremely dependent
on the beginning surface roughness of the wafer as all silicon wafers exhibit a
microscopic level of surface roughness, stemming from chemical deposition,
grinding, polishing, etching, or any number of other production techniques. This
industry demands manufacturing precision to increase performance and capacity
and the TMS-2000W and TMS-3000W help achieve these goals. This system also
provides a way for SMS customers to quantify and control its manufacturing
process.
SMS provides a highly advanced, extremely precise measurement services
laboratory to a wide variety of industrial and commercial businesses, using
advanced laser light scatter technology. The laboratory uses three SMS CASI
Scatterometers for measuring surface roughness. The true value of the laboratory
is not only its extremely precise measurement capability but also the test item
is not altered, touched or destroyed. Thus, the laboratory is widely used by the
semiconductor and computer hard disk industries, as well as manufacturers of
critical optical components in aerospace and defense systems. Customers of the
laboratory have included Aerojet, AT&T Bell Labs, Eastman Kodak, General
Electric, IBM, NASA and dozens of other industrial companies, universities and
government agencies.
The CASI Scatterometers are angle-resolved BRDF measurement instruments
providing customers with precise roughness measurements of optical surfaces,
diffuse materials, semiconductor wafers, magnetic storage media,
precision-machined surfaces, as well as surfaces affecting the cosmetic
appearance of consumer products. A Scatterometer uses ultraviolet or infrared
laser light as a nondestructive probe to measure surface quality, optical
performance, smoothness, appearance, defects and contamination on a wide variety
of materials.
The sample is mounted on stages capable of moving bidirectionally and/or in
rotation. The detector sweeps around the sample in the incident plane measuring
scattered and specular light. During the scan, the computer controls gain,
filter and aperture changes through user-defined parameters. The instrument
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background is measured separately and can be compared with the sample data.
Results print on the HP PaintJet printer as viewgraphs or publication-ready
figures.
The laboratory generated approximately 2% of SMS's total revenue during Fiscal
1997, 3% during Fiscal 1998 and 20% during Fiscal 1999. Total revenue for this
business is expected to rise modestly in the future but to always represent a
small percentage of SMS's business. Use of the laboratory leads to orders for
SMS's laser-based light scatter measurement products by its customers and
therefore represents one of the best marketing channel for SMS's current and
future products. Existing products (such as the iScan and the Model 2002
alignment laser system) and products being developed in conjunction with the
measurement services laboratory are being marketed to a variety of industrial
customers.
The Scan System consists of a hand-held control unit, an interchangeable
measurement head and a separate charging unit. To perform a measurement, the
operator places the measurement head on the objective area and presses a button.
Each measurement takes less than five seconds. The results are displayed and
stored in system memory. The Scan can store 700 measurements in 255 files and
provides the capability to program pass/fail criteria. Software is available for
control, analysis and file conversion. From a single measurement, a user can
determine RMS surface roughness, reflectance and scatter light levels (BRDF) on
flat or curved surfaces under any lighting conditions.
The Auto-Collimating Alignment Laser System - Model 2002 is an extremely
accurate laser alignment system. The incorporation of a solid-state laser diode
provides increased beam stability and eliminates warm-up time. The unique TMA
See-Thru target design completely eliminates beam displacement and power loss.
The addition of an operator selectable auto-collimating feature provides one arc
second accuracy over a large angular range. A microprocessor automates system
configuration. A new bus interconnect reduces setup time and allows up to seven
operator selectable targets, reducing time required to perform measurements. A
complete Model 2002 system consists of an auto-collimating laser, power supply,
digital display, See-Thru and end targets, carrying case and cable assemblies.
On April 23, 1998, the Company entered into a Technology Transfer Agreement with
Centerline Engineering, Inc. and several individuals for the purchase of the
rights to a non-contact gauging apparatus. The $100,000 purchase included the
technology, the prototype and instruction manuals, technical information, and
related patent applications. In Fiscal 1999, SMS developed the initial product
utilizing that technology and installed the equipment at a beta-test site.
Introduction of the new product is expected to occur in Fiscal 2000.
BUSINESS AND MARKETING STRATEGY
The Company designs, assembles and markets all of its products. The Company's
operations are divided into a number of different areas. The Vice President of
Operations directs the production organization, and is responsible for all
assembly, purchasing and production engineering. The Product Marketing Division
is responsible for the sale of SBS System products and is managed by the
President/CEO and four Marketing Managers. Three of the Marketing Managers are
responsible for domestic sales while the fourth is responsible for sales in
Mainland China, Japan and Korea. The President/CEO is responsible for sales in
both eastern and western Europe and also oversees the efforts of the four
Marketing Managers. The technical services division is responsible for providing
technical support to customers and is managed by the Vice President of
Operations. Finally, there is a research and development group supervised
directly by the President/CEO and the Vice President of Operations.
The Company markets and sells the SBS System in a variety of ways. First, the
Company uses the conventional channels provided by independent manufacturer's
representatives and distributors. There are
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currently 25 individuals and/or organizations in the United States acting in one
of these capacities. Independent sales agents are paid a 10% commission;
distributors are sold products at a 15% discount.
Second, trade shows represent a significant amount of marketing/sales effort.
These events are held throughout the world and have proven to be excellent
sources of business. A Company representative, usually one of the marketing
managers and/or the President/CEO, attends these events along with local Company
representatives. These individuals operate a display booth featuring
professional products, an SBS System demonstration stand and product and
technical literature. Representatives from all facets of the market to which the
Company directs its sales efforts attend these trade shows.
Third, original equipment manufacturers often include the SBS System on the
machine tools they produce. Users thus purchase the SBS System concurrently with
the machine tools. The SBS Systems are often installed by machine builders prior
to displaying their own machine tools at various trade shows and these samples
often become endorsements that prove beneficial to the Company's sales efforts.
In the United States, most products are shipped directly to customers from the
Company's distribution center in Portland, Oregon. Where the Company has
distributors, the product is shipped to the distributor, who in turn pays the
Company directly and then delivers and installs the product for the end user.
Western European distribution to customers is handled by shipping the product
directly from the Company's Portland headquarters to the European subsidiaries,
who in turn sell the products to the end users.
Similar to the parent company, SMS uses a variety of methods to market and sell
its products. First, a Marketing Manager who is under the direction of the
President/CEO directs the overall marketing efforts. Second, the Company uses an
independent manufacturer's representative to work with and service customers.
That agent is paid a 5% commission on units he is responsible for selling.
Third, trade shows represent a significant amount of marketing/sales effort. The
President/CEO attends these events along with various Company representatives.
These individuals operate a display booth featuring professional products, SMS
product demonstrations and product and technical literature. Representatives
from all facets of the market to which the Company directs its sales efforts
attend these trade shows. Fourth, the Company had an Exclusive Distribution
Agreement, with Sloan Technology, Inc. (dba Veeco Process Metrology), a
subsidiary of Veeco Instruments, Inc. (NASDAQ : VECO). Under this agreement,
Veeco was appointed the exclusive distributor for the promotion and sale of SMS
products. Veeco was also to provide customers with after-sale services. This
agreement was mutually terminated in December 1998. In fiscal 1999,
approximately 2% of the Company's total revenue was attributable to sales made
to Veeco. No customer accounted for more than 10% of the Company's total revenue
in Fiscal 1999.
All SMS products are manufactured in the Portland, Oregon facility and shipped
directly to customers around the world from that location.
The SBS System customer base consists of over 250 companies and the SMS customer
base consists of approximately 200 companies, many of which are also purchasers
of the Company's balancing products.
MANUFACTURING
The Company does not use any unique sources of supply or raw materials in its
products for either SBS System balancing products or SMS measurement products.
Essential electronic components used are available in large quantities from
various suppliers. These electronic components are assembled into the SBS System
and SMS electronic control units to meet the Company's quality and assembly
standards. Company-owned software and firmware are coupled with the electronic
components to provide the basis
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of the Company's various electronic control units. The Company believes several
sources of supplies exist for all electronic components and assembly work used
in its electronic control system. The Company's primary outside supplier of
electronic assembly is Laughlin-Wilt Group, Inc. ("Laughlin-Wilt") of Beaverton,
Oregon, a custom supplier of assembled electronic products for several Pacific
Northwest companies. In the event of supply problems, the Company believes that
two or three alternatives could be developed within 30 days to supplement or
replace Laughlin-Wilt.
Mechanical parts for the Company's SBS System and SMS products are produced to
the customers' drawings and specifications by local high quality CNC machine
shops. Several such CNC machine shops exist in the local area, and the Company
is not dependent on any one supplier of mechanical components. Principal
suppliers of components for the Company's products include MacKay Manufacturing
of Spokane, Washington; OEM Manufacturing of Corvallis, Oregon; Eagle Industries
of Newberg, Oregon; and Forest City Gear of Roscoe, Illinois.
The Company uses in-house skilled assemblers to construct and test
vendor-supplied components. Component inventory of finished vendor-supplied
parts is held on Company property to assure adequate flow of parts to meet
customer order requirements. Inventory is monitored by a computer control system
designed to assure timely re-ordering of components.
In-house personnel assemble various products and test all finished components
before placing them in the finished goods inventory. Finished goods inventory is
maintained via computer to assure timely shipment and service to customers. All
customer shipments are from the finished goods inventory.
In November 1996, the Company's Quality Control Program received full ISO-9001
certification.
PROPRIETARY TECHNOLOGY
The Company's success depends in part on its proprietary technology, which the
Company attempts to protect through patents, copyrights, trademarks, trade
secrets and other measures.
The Company has U.S. patents covering both its SBS and SMS products, processes
and methods which the Company believes provide it with a competitive advantage.
The Company has a policy of seeking patents when appropriate on inventions
concerning new products and improvements as part of its ongoing research,
development and manufacturing activities. While patents provide certain legal
rights of enforceability, there can be no assurance that the historical legal
standards surrounding questions of validity and enforceability will continue to
be applied or that current defenses as to issued patents will, in fact, be
considered substantial in the future. There can be no assurance as to the degree
and range of protection any patent will afford, whether patents will issue or
the extent to which the Company may inadvertently infringe upon patents granted
to others.
"SBS" and "SMS" are registered trademarks and are affixed to all products and
literature created in the Company's balancer and measurement product lines,
respectively. The Company also has registered trademarks covering various SMS
systems and instruments.
The Company manufactures its SBS products under copyright protection in the U.S.
for electronic board designs. Encapsulation of the finished product further
protects the Company's technologies including software.
The Company also relies upon trade secret protection for its confidential and
proprietary information. There can be no assurance that others will not
independently develop substantially equivalent
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proprietary information and techniques or otherwise gain access to the Company's
trade secrets or disclose such technology or that the Company can meaningfully
protect its trade secrets.
While the Company pursues patent, trademark, trade secret and copyright
protection for products and various marks, it also relies on know-how and
continuing technology advancement, manufacturing capabilities, affordable,
high-quality products, new product introduction and direct marketing efforts to
develop and maintain its competitive position.
PRODUCT DEVELOPMENT
Prior to Fiscal 1996, research and development activities of the Company were
focused on the enhancement of the existing product lines for balancers and on
development work toward the ring balancer product. Since its acquisition of TMA,
the Company has expended significant efforts evaluating existing and potential
new products for the light-scatter precision measurement market.
In Fiscal 1997, the Company began an aggressive research and development program
to expand the product lines and capabilities with the goal to enter new market
areas and enhance products in existing market areas. The goal was to reduce
reliance the Company had on historic market segments. During Fiscal 1999, the
Company continued to develop new balancing and laser measurement products.
The new SB-4500 unit controls balancing in applications with speeds ranging from
300 to 30,000 rpm compared to a range of 500 to 10,000 rpm with the prior
Schmitt product. Vibrations are now measured down to 0.02 microns or 0.75
millionths of an inch, a ten-fold performance improvement over the prior control
unit. Finally, customers can balance their grinding machines faster, reducing
costly down time and increasing factory throughput. The multi-function unit now
provides the versatility to control several activities including Schmitt's
mechanical and fluid based balancers and the new AEMS (Acoustical Emission
Monitoring System) product. This new generation of computer control will allow
the future addition of new Schmitt products through the insertion of electronic
control cards in any of the four control slots located in the SB-4500.
Schmitt developed the AEMS (Acoustical Emissions Monitoring System) product to
meet the needs of its grinding customers. The product is added to the SB-4500
balance control unit via insertion of an electronic control card. It monitors
the dressing and grinding process of the customer by direct measurement of
machine-generated acoustic signals. By monitoring the high frequency sound
signal generated by contact between the wheel and work piece, the system
automatically determines when wheel contact is made. Users can eliminate the
"gap" time from their grinding process and also automatically detect the
beginning of a wheel "crash" and immediately signal the grinder to stop before
real damage occurs. Customers can also use the acoustic information made
available by the AEMS system to monitor the quality and timing of wheel contact
with either the work part or the wheel dresser, thereby further improving the
whole process. The benefits of the AEMS "gap and crash" product to the customer
include time savings from quick and easy setups, improved dressing and grinding
process, and elimination of expensive part and machine damage.
The grinding industry is moving rapidly toward higher speed grinding
applications and the Hydrokompenser system has been redesigned to appeal to
these environments (defined as those with grinding speeds up to 20,000 rpm).
Until now, the industry has not had a product that could be used in the emerging
high speed grinding environments. This industry segment requires the most
precise grinding and therefore control that only Schmitt products can provide.
Now controlled by the SB-4500 computer control unit, the Hydrokompenser
possesses the same precise and exacting performance standards required by the
high speed grinding industry
10
Disk drive media of the future will have greater storage capacity on the same
size disk. Increasing the density of the information stored on the disk is the
main method to increase capacity. To do so, the roughness of the disk media must
be reduced to levels below ten angstroms, the current production standard. To
assure those levels are reached and to avoid significant postproduction rejects,
the customer may test 100% of all disks. Schmitt Measurement products continue
to provide manufacturers with that capability and those tools were improved
dramatically during the most recent fiscal year. The TMS-2000RC and DTM-2000RC
are examples of technology enhancing or complementing existing products.
Companies that grind the production rolls used in such industries such as steel,
brass, copper, printing and paper face a long, slow manual process to assure
these rolls are ground to the dimensions and smoothness required before they can
be used in their factory. Problems experienced include the difficulty of
obtaining proper alignment of rolls during grinding, the time-consuming
measurement of roll geometry and surface finish during grinding, the need for
expensive periodic re-grinding of used rolls and the resulting costly factory
down time. The industry has been seeking a solution to these problems that would
automate the process and allow grinding of rolls to an increased level of
precision
The solution to the dilemma faced by the roll grinding industry is to use
Schmitt patented laser light scatter technology to speed up the process and
reduce costs. The computer controlled system measures rolls to exact dimensions
that are established by the customer. Evaluated are the alignment of the roll in
the grinder, the diameter of the roll compared to established levels and the
mircroroughness of the surface. A process that has been totally manual has now
become fully automated and much more accurate. This new laser-based technology
is scheduled to be introduced in the second quarter of Fiscal 2000. This new
Schmitt system results in the lowest possible measurement costs to the customer
yet produces by far the highest quality product, together with improved
documentation. User costs decline because this non-contact measuring process is
designed to allow quicker setups of the roll grinder and in-process gauging
(rather than stopping the process to make measurements). The result is increased
grinding throughput as the yield is increased due to these production
efficiencies. Rolls can be inspected on a 100% basis rather than the current
random test method. The product is currently under testing at a beta test site
where several companies within the industry have seen it and are interested in
learning more about the product.
During Fiscal 1997, 1998 and 1999, the Company's research and development
expense totaled $205,800, $379,798 and $462,136 respectively.
INTERNATIONAL SALES
The Company's sales in the last three fiscal years have been generated from the
following geographic areas:
North America Europe Asia
----------------- -------------- ------------
Fiscal 1999 $4,901,460 $2,798,471 $257,792
Fiscal 1998 8,006,428 2,488,344 131,312
Fiscal 1997 8,664,819 1,601,359 275,794
BACKLOG
The Company does not generally track backlog. Normally, orders are shipped
within several weeks after receipt unless the customer requests otherwise.
11
EMPLOYEES
As of July 16, 1999, the Company employed 53 individuals worldwide on a
full-time basis. There were no regular part-time employees. None of the
Company's employees is covered by a collective bargaining agreement.
ITEM 2. PROPERTIES
The Company's design and assembly facilities and executive offices are located
in a 7,500-square foot building in Portland, Oregon owned by the Company; a
33,000-square foot facility, located across the street from the executive
offices and also owned by the Company, houses SMS's operations. Schmitt Europe
Ltd. occupies a 1,893-square foot facility in Coventry, England pursuant to a
five-year lease beginning February 1, 1997 with a basic monthly rent of
L1,708 (approximately $2,737 as of July 16, 1999). SHS occupies a
5,194-square foot facility in Alsbach, Germany pursuant to a five-year lease
beginning February 1, 1997 with a basic monthly rent of DM 5,442 (approximately
$2,904 as of July 16, 1999). The Company believes its facilities are adequate to
meet its currently foreseeable needs.
ITEM 3. LEGAL PROCEEDINGS
There are no material legal proceedings currently pending against the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of the security holders of the Company
during the fourth quarter ended May 31, 1999.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Since May 5, 1997, the Company's Common Stock has been traded on the Nasdaq
National Market; prior to that it was traded on the Nasdaq-Small Cap Market. The
Common Stock is traded under the symbol "SMIT."
The following tables set forth the high and low sales prices of the Company's
Common Stock as reported on the Nasdaq National Market for the periods
indicated.
YEAR ENDED MAY 31, 1998 HIGH LOW
------------------------------- ------------ ------------
First Quarter $9.75 $7.50
Second Quarter $12.00 $8.00
Third Quarter $10.13 $7.38
Fourth Quarter $8.13 $5.69
YEAR ENDED MAY 31, 1999 HIGH LOW
------------------------------- ------------ ------------
First Quarter $6.38 $3.88
Second Quarter $5.00 $3.13
Third Quarter $4.38 $3.00
Fourth Quarter $4.00 $1.94
12
As of July 16, 1999, there were 8,184,889 shares of Common Stock outstanding
held by approximately 130 holders of record. The number of holders does not
include individual participants in security position listings; the Company
believes that there are more than 2,500 individual holders of shares of Common
Stock.
The Company has not paid any dividends on its Common Stock since 1994. The
Company's current policy is to retain earnings to finance the Company's
business. Future dividends will be dependent upon the Company's financial
condition, results of operations, current and anticipated cash requirements,
acquisition plans and plans for expansion and any other factors that the
Company's Board of Directors deems relevant. The Company has no present
intention of paying dividends on its Common Stock in the foreseeable future.
ITEM 6. SELECTED FINANCIAL DATA
The information required by this Item is included in the Company's Annual Report
to Shareholders for the fiscal year ended May 31, 1999 ("Annual Report") under
the heading "Selected Financial Data" and is incorporated herein by reference.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The information required by this Item is included in the Annual Report under the
heading "Management's Discussion and Analysis" and is incorporated herein by
reference.
ITEM 7A. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK
INTEREST RATE RISK
The Company does not have any derivative financial instruments as of May 31,
1999. However, the Company is exposed to interest rate risk. The Company employs
established policies and procedures to manage its exposure to changes in the
market risk of its marketable securities.
The Company's interest income and expense are most sensitive to changes in the
general level of U.S. and European interest rates. In this regard, changes in
U.S. and European interest rates affect the interest earned on the Company's
cash equivalents and marketable securities as well as interest paid on debt.
The Company has lines of credit and other debt whose interest rates are based on
various published prime rates that may fluctuate over time based on economic
changes in the environment. The Company is subject to interest rate risk and
could be subject to increased interest payments if market interest rates
fluctuate. The Company does not expect any change in the interest rates to have
a material adverse effect on the Company's results from operations.
FOREIGN CURRENCY RISK
The Company operates subsidiaries in the United Kingdom and Germany. The
Company's business and financial condition is, therefore, sensitive to currency
exchange rates or any other restrictions imposed on their currencies. To date,
the foreign currency exchange rates have not significantly
13
impacted the Company's profitability.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The financial statements and other information required by this Item are
included in the Annual Report and are incorporated herein by reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ON ACCOUNTING AND FINANCIAL DISCLOSURE
In July 1997, the Company replaced its independent accountant, Moss Adams LLP,
with PricewaterhouseCoopers LLP. The Audit Committee of the Company's Board of
Directors made this decision.
Moss Adams LLP's report for the fiscal year ended May 31, 1997 did not contain
an adverse opinion or disclaimer of opinion, nor was it qualified or modified as
to uncertainty, audit scope or accounting principles. During Fiscal 1997 and
until Moss Adams LLP's dismissal, there were no disagreements with Moss Adams
LLP on any matter of accounting principles or practices, financial statement
disclosure or auditing scope of procedure, which disagreements, if not resolved
to the satisfaction of Moss Adams LLP, would have caused it to make reference to
the subject matter of the disagreements in connection with its report.
PART III
Certain information required by Part III is included in the Company's definitive
Proxy Statement for its 1999 Annual Meeting of Shareholders ("Proxy Statement")
and is incorporated herein by reference. The Proxy Statement will be filed
pursuant to Regulation 14A of the Securities Exchange Act of 1934 not later than
120 days after the end of the fiscal year covered by this Report.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this item is included in the Proxy Statement under
the heading "Election of Directors" and is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is included in the Proxy Statement under
the heading "Executive Compensation" and is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item is included in the Proxy Statement under
the heading "Principal Shareholders" and is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item is included in the definitive Proxy
Statement under the heading "Certain Transactions" and is incorporated herein by
reference.
14
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) Documents filed as part of this report:
1. REPORT OF INDEPENDENT ACCOUNTANTS:
To the Board of Directors and Shareholders of Schmitt
Industries, Inc.
In our opinion, the accompanying consolidated balance
sheets and the related consolidated statements of
operations, of cash flows and of changes in stockholders'
equity present fairly, in all material respects, the
financial position of Schmitt Industries, Inc. and its
subsidiaries at May 31, 1999 and 1998, and the results of
their operations and their cash flows for the years then
ended in conformity with generally accepted accounting
principles. These financial statements are the
responsibility of the Company's management; our
responsibility is to express an opinion on these financial
statements based on our audits. We conducted our audits of
these statements in accordance with generally accepted
auditing standards which require that we plan and perform
the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and
significant estimates made by management, and evaluating
the overall financial statement presentation. We believe
that our audits provide a reasonable basis for the opinion
expressed above.
PricewaterhouseCoopers LLP
Portland, Oregon
July 13, 1999
2. INDEPENDENT AUDITOR'S REPORT:
To the Board of Directors and Stockholders of Schmitt
Industries, Inc. and Subsidiaries
We have audited the accompanying consolidated balance sheet
of Schmitt Industries, Inc. and Subsidiaries as of May 31,
1997, and the related consolidated statements of income,
changes in stockholders' equity, and cash flows for the
year then ended. These consolidated financial statements
are the responsibility of the Company's management. Our
responsibility is to express an opinion on these
consolidated financial statements based on our audits.
We conducted our audits in accordance with generally
accepted auditing standards. Those standards require that
we plan and perform the audits to obtain reasonable
assurance about whether the consolidated financial
statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting
the amounts and disclosures in the consolidated financial
statements. An audit also includes assessing the accounting
principles used and significant estimates made by
management, as well as evaluating the overall
15
financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements
referred to above present fairly, in all material respects,
the financial position of Schmitt Industries, Inc. and
Subsidiaries as of May 31, 1997, and the results of their
operations and cash flows for the years then ended in
conformity with generally accepted accounting principles.
Moss Adams LLP
Portland, Oregon
July 10, 1997
3. FINANCIAL STATEMENTS:
The following financial statements required by this Item
are included in the Company's Annual Report to Shareholders
for the fiscal year ended May 31, 1999 and are incorporated
by reference herein:
Annual Report
Page Number
---------------
A. Consolidated Balance Sheets as of May 31, 1999 and
May 31, 1998 ...................................... 10
B. Consolidated Statements of Operations for each of
the years ended May 31, 1999, May 31, 1998 and May
31, 1997 .......................................... 11
C. Consolidated Statements of Cash Flows for each of
the years ended May 31, 1999, May 31, 1998 and May
31, 1997 .......................................... 12
D. Consolidated Statements of Changes in Stockholders'
Equity for each of the years ended May 31, 1999, May
31, 1998 and May 31, 1997 13
E. Notes to Financial Statements ..................... 14
4. FINANCIAL STATEMENT SCHEDULES:
All financial statement schedules are omitted either
because they are not applicable, not required, or the
required information is included in the financial
statements or notes thereto.
(b) Reports on Form 8-K: None.
16
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
SCHMITT INDUSTRIES, INC.
By: /s/ Wayne A. Case
--------------------------------------
Wayne A. Case
CHAIRMAN OF THE BOARD, PRESIDENT
AND CHIEF EXECUTIVE OFFICER
Date: August 30, 1999
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities indicated on August 30, 1999.
SIGNATURE TITLE
- --------- -----
/s/ Wayne A. Case Chairman of the Board, President and Chief
- -------------------------------------- Executive Officer
Wayne A. Case (Principal Executive Officer)
/s/ Robert C. Thompson Chief Financial Officer/Treasurer
- -------------------------------------- (Principal Financial and Accounting Officer)
Robert C. Thompson
/s/ David L. Dotlich Director
- --------------------------------------
David L. Dotlich
/s/ David M. Hudson Director
- --------------------------------------
David M. Hudson
/s/ Trevor Nelson Director
- --------------------------------------
Trevor Nelson
/s/ Dennis T. Pixton Director
- --------------------------------------
Dennis T. Pixton
/s/ John A. Rupp Director
- --------------------------------------
John A. Rupp
17
INDEX TO EXHIBITS
EXHIBITS DESCRIPTION
----------- ---------------------------------------------------------------------------------------------
3(i) Second Restated Articles of Incorporation of Schmitt Industries, Inc. (the "Company").
Incorporated by reference to Exhibit 3(i) to the Company's Annual Report on Form 10-K for
the fiscal year ended May 31, 1998..........................................................
3(ii) Second Restated Bylaws of the Company Incorporated by reference to Exhibit 3(ii) to the
Company's Annual Report on Form 10-K for the fiscal year ended May 31, 1998.................
10.1 Schmitt Industries, Inc. Amended & Restated Stock Option Plan. Incorporated by reference
to Exhibit 10.1 to the Company's Annual Report on Form 10-K for the fiscal year ended May
31, 1998....................................................................................
10.2 Agreement dated April 21, 1995 between TMA Technologies, Inc. and the Company.
Incorporated by reference to Exhibit 10.2 to the Company's Annual Report on Form 10-K for
the fiscal year ended May 31, 1996..........................................................
10.3 Exclusive Distribution Agreement dated February 23, 1998 between Sloan Technology Inc. and
the Company. Incorporated by reference to Exhibit 10.1 to the Company's Quarterly Report
on Form 10-Q for the quarterly period ended February 28, 1998. (Confidential treatment has
been granted for certain portions of this Agreement; these confidential portions have been
filed separately with the Securities and Exchange Commission.)..............................
10.4 Sales Contract dated November 19, 1996 between Herr Dirk Pfeil, receiver of Hofmann
Machinenbau GmbH, and Schmitt Hofmann Systems GmbH. Incorporated by reference to
Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the quarterly period ended
February 28, 1997...........................................................................
10.5 Technology Transfer Agreement dated April 23, 1998 between Centerline Engineering, Inc. and
the Company. Incorporated by reference to Exhibit 10.5 to the Company's Annual Report on
Form 10-K for the fiscal year ended May 31, 1998............................................
*13.1 Annual Report to Shareholders of Schmitt Industries, Inc. for fiscal year ended May 31, 1999
*21.1 Subsidiaries of Schmitt Industries, Inc.....................................................
*23.1 Consent of PricewaterhouseCoopers LLP.......................................................
*23.2 Consent of Moss Adams LLP...................................................................
*27.1 Financial Data Schedule.....................................................................
- ------------------------------
* Filed herewith
18