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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

 


 

FORM 10-Q

 

Quarterly Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934

 

For Quarter Ended March 31, 2004
Commission File No. 0-8828

 

OPTELECOM, INC.

(Exact Name of Registrant as
Specified in its Charter)

 

DELAWARE

(State or other jurisdiction of incorporation or organization)

 

52-1010850

(IRS employer identification number)

 

12920 CLOVERLEAF CENTER DRIVE, GERMANTOWN, MARYLAND 20874

(Address of principal executive offices) (Zip code)

 

Registrant’s telephone number, including area code: (301) 444-2200.

 

Securities registered pursuant to Section 12(b) of the Act: None.

 

Securities registered pursuant to Section 12(g) of the Act: Common Stock $0.03 Par Value.

 

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 ý    No o

 

At May 12, 2004, the registrant had outstanding 3,161,980 shares of Common Stock, $.03 Par Value.

 

 



 

OPTELECOM, INC.

FORM 10-Q

 

TABLE OF CONTENTS

 

 

PAGE

 

 

PART I. FINANCIAL INFORMATION

 

 

 

Item 1. Financial Statements (unaudited)

 

 

 

Consolidated Balance Sheets at March 31, 2004 and December 31, 2003

3

 

 

Consolidated Statements of Operations for the three months ended March 31, 2004 and 2003

4

 

 

Consolidated Statements of Cash Flows for the three months ended March 31, 2004 and 2003

5

 

 

Notes to Consolidated Financial Statements

6

 

 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

9

 

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk

12

 

 

Item 4. Controls and Procedures

12

 

 

PART II. OTHER INFORMATION

13

 

 

SIGNATURES.

14

 

2



 

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

 

OPTELECOM, INC.

CONSOLIDATED BALANCE SHEETS

AS OF MARCH 31, 2004 and DECEMBER 31, 2003

 

 

 

2004

 

2003

 

 

 

(unaudited)

 

 

 

ASSETS

 

 

 

 

 

CURRENT ASSETS

 

 

 

 

 

Cash and cash equivalents

 

$

1,171,811

 

$

1,387,866

 

Accounts and contracts receivable, net

 

2,487,994

 

2,834,956

 

Inventories, net

 

2,961,221

 

2,661,000

 

Deferred tax asset—current

 

931,133

 

1,069,479

 

Prepaid expenses and other current assets

 

363,445

 

340,078

 

Total current assets

 

7,915,604

 

8,293,379

 

 

 

 

 

 

 

Property and equipment, net

 

1,531,531

 

1,350,366

 

Restricted certificate of deposit

 

134,759

 

129,368

 

Deferred tax asset—non-current

 

658,784

 

658,784

 

Other assets

 

3,912

 

 

TOTAL ASSETS

 

$

10,244,590

 

$

10,431,897

 

 

 

 

 

 

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

CURRENT LIABILITIES

 

 

 

 

 

Accounts payable

 

$

692,577

 

$

1,052,410

 

Accrued payroll

 

430,245

 

315,889

 

Commissions payable

 

172,145

 

287,767

 

Current portion of notes payable

 

45,000

 

67,500

 

Other current liabilities

 

324,345

 

587,835

 

Total current liabilities

 

1,664,312

 

2,311,401

 

Notes and leases payable

 

90,000

 

90,000

 

Security deposits payable

 

11,526

 

11,526

 

Deferred rent liability

 

94,577

 

62,494

 

Total liabilities

 

1,860,415

 

2,475,421

 

 

 

 

 

 

 

COMMITMENTS AND CONTINGENCIES

 

 

 

 

 

 

 

 

 

 

 

STOCKHOLDERS’ EQUITY

 

 

 

 

 

Common stock, $.03 par value—shares authorized, 15,000,000; issued and outstanding, 3,150,993 and 3,114,898 shares as of March 31, 2004 and December 31, 2003, respectively

 

94,529

 

93,446

 

Additional paid-in capital

 

11,075,487

 

10,942,206

 

Other comprehensive loss

 

(29,763

)

(19,672

)

Treasury stock, 162,672 shares, at cost

 

(1,265,047

)

(1,265,047

)

Accumulated deficit

 

(1,491,031

)

(1,794,457

)

Total stockholders’ equity

 

8,384,175

 

7,956,476

 

TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY

 

$

10,244,590

 

$

10,431,897

 

 

See notes to unaudited consolidated financial statements.

 

3



 

OPTELECOM, INC.

CONSOLIDATED STATEMENTS OF INCOME

FOR THE THREE MONTHS ENDED MARCH 31,

(Unaudited)

 

 

 

2004

 

2003

 

 

 

 

 

 

 

Revenues

 

$

4,180,123

 

$

3,488,386

 

Cost of goods sold

 

1,769,016

 

1,522,235

 

Gross profit

 

2,411,107

 

1,966,151

 

 

 

 

 

 

 

Operating expenses:

 

 

 

 

 

Engineering

 

371,499

 

302,005

 

Selling and marketing

 

688,337

 

513,154

 

General and administrative

 

909,779

 

775,151

 

Total operating expenses

 

1,969,615

 

1,590,310

 

 

 

 

 

 

 

Income from operations

 

441,492

 

375,841

 

 

 

 

 

 

 

Other income (expense):

 

 

 

 

 

Interest income (expense), net

 

2,487

 

(7,319

)

Other income

 

5,391

 

 

Total other income (expense)

 

7,878

 

(7,319

)

 

 

 

 

 

 

Income before income taxes

 

449,370

 

368,522

 

Provision for income taxes

 

145,945

 

 

Net income

 

$

303,425

 

$

368,522

 

Basic earnings per share

 

$

0.10

 

$

0.13

 

Diluted earnings per share

 

$

0.09

 

$

0.12

 

Weighted average common shares outstanding—basic

 

3,127,520

 

2,892,695

 

Weighted average common shares outstanding—diluted

 

3,256,489

 

3,067,053

 

 

 

 

 

 

 

Net income

 

$

303,425

 

$

368,522

 

Foreign currency translation

 

(10,091

)

36,929

 

Comprehensive income

 

$

293,334

 

$

405,451

 

 

See notes to unaudited consolidated financial statements.

 

4



 

OPTELECOM, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE THREE MONTHS ENDED MARCH 31,

(Unaudited)

 

 

 

2004

 

2003

 

Cash Flows From Operating Activities

 

 

 

 

 

Net income

 

$

303,425

 

$

368,522

 

Adjustments to reconcile net income to net cash (used in) provided by operating activities:

 

 

 

 

 

Depreciation and amortization

 

102,888

 

66,919

 

Accounts receivable provision

 

358

 

880

 

Inventory provision

 

(69,979

)

(15,926

)

Stock based compensation

 

2,625

 

 

Deferred rent

 

32,083

 

11,363

 

Deferred tax asset

 

138,346

 

 

Change in assets and liabilities:

 

 

 

 

 

Accounts and contracts receivable

 

346,604

 

1,053,932

 

Inventories

 

(230,242

)

(190,467

)

Prepaid expenses and other assets

 

(23,367

)

(37,227

)

Other assets

 

(3,912

)

 

Accounts payable

 

(359,833

)

(317,415

)

Other current liabilities

 

(264,756

)

(419,851

)

Net cash (used in) provided by operating activities

 

(25,760

)

520,730

 

 

 

 

 

 

 

Cash Flows From Investing Activities

 

 

 

 

 

Capital expenditures

 

(283,486

)

(270,692

)

Net cash used in investing activities

 

(283,486

)

(270,692

)

 

 

 

 

 

 

Cash Flows From Financing Activities

 

 

 

 

 

Borrowings on bank line-of-credit payable

 

 

2,020,551

 

Payments on bank line-of-credit payable

 

 

(2,596,630

)

Borrowings on notes payable

 

 

180,000

 

Payments on notes payable and capital leases

 

(22,500

)

(1,200

)

Increase in certificate of deposit

 

(5,391

)

 

Proceeds from issuance of common stock

 

22,700

 

17,839

 

Proceeds from exercise of stock options

 

109,039

 

112,651

 

Net cash provided by (used in) financing activities

 

103,848

 

(266,789

)

Effect of exchange rates on cash and cash equivalents

 

(10,657

)

36,929

 

Net (decrease) increase in cash and cash equivalents

 

(216,055

)

20,178

 

Cash and cash equivalents—beginning of period

 

1,387,866

 

47,988

 

Cash and cash equivalents—end of period

 

$

1,171,811

 

$

68,166

 

 

 

 

 

 

 

Supplemental Disclosures of Cash Flow Information:

 

 

 

 

 

Cash paid during the period for interest

 

$

 

$

9,996

 

Cash paid during the period for income taxes

 

$

28,012

 

$

15,200

 

 

See notes to unaudited consolidated financial statements.

 

5



 

OPTELECOM, INC.

 

Notes to Consolidated Financial Statements (Unaudited)

 

1.               Basis of Presentation

 

The accompanying unaudited financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission.  Certain information and note disclosures normally included in the annual financial statements, prepared in accordance with accounting principles generally accepted in the United States of America, have been condensed or omitted pursuant to those rules and regulations, although Optelecom, Inc. (the Company) believes that the disclosures made are adequate to make the information presented not misleading.

 

In the opinion of management, the accompanying unaudited financial statements reflect all necessary adjustments and reclassifications (all of which are of a normal, recurring nature) that are necessary for fair presentation for the periods presented.  It is suggested that these financial statements be read in conjunction with the financial statements and the notes thereto included in the Company’s latest annual report to the Securities and Exchange Commission on Form 10-K for the year ended December 31, 2003.

 

The results for the interim periods are not necessarily indicative of the results to be expected for future quarters or the year.

 

2.               Inventory

 

Inventories consisted of the following:

 

 

 

March 31, 2004

 

December 31, 2003

 

Production materials

 

$

1,626,996

 

$

1,637,331

 

Work in process

 

262,249

 

414,639

 

Finished goods

 

1,281,988

 

889,022

 

Allowance for obsolescence

 

(210,012

)

(279,992

)

Net

 

$

2,961,221

 

$

2,661,000

 

 

3.               Earnings Per Share

 

Basic earnings per share is computed using the weighted average number of common shares outstanding.  Diluted earnings per share is computed using the weighted average number of shares outstanding and the treasury stock computation method for stock options and warrants, provided they are not antidilutive.  The following is a reconciliation of the basic and diluted earnings per share.

 

 

 

Three Months ended March 31,

 

 

 

2004

 

2003

 

Basic Earnings per Share:

 

 

 

 

 

Income available to common stockholders

 

$

303,425

 

$

368,522

 

Weighted average common shares – basic

 

3,127,520

 

2,892,695

 

Basic income per share

 

$

0.10

 

$

0.13

 

 

 

 

 

 

 

Diluted Earnings per Share:

 

 

 

 

 

Income available to common stockholders

 

$

303,425

 

$

368,522

 

Weighted average common shares – basic

 

3,127,520

 

2,892,695

 

Assumed conversion of:

 

 

 

 

 

Stock options

 

128,969

 

107,416

 

Warrants

 

 

66,942

 

Weighted average common shares – diluted

 

3,256,489

 

3,067,053

 

Diluted income per share

 

$

0.09

 

$

0.12

 

 

6



 

4.               Stock-based Compensation

 

The Company has elected to follow Accounting Principles Board (APB) Opinion No. 25, “Accounting for Stock Issued to Employees,” (APB 25) and related interpretations, in accounting for its employee stock options and complies with the disclosure requirements of SFAS No. 123, “Accounting for Stock-Based Compensation” (FAS 123). APB 25 provides that the compensation expense relative to the Company’s employee stock options is measured based on the intrinsic value of the stock option. FAS 123 requires companies that continue to follow APB 25 to provide a pro forma disclosure of the impact of applying the fair value method of FAS 123.

 

In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based Compensation-Transition and Disclosure (FAS 148). FAS 148 amends FAS 123, to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, this Statement amends the disclosure requirements of FAS 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results.

 

The following table illustrates the effect on net income and net income per common share if the Company had applied the fair value recognition provisions of SFAS No. 123 to stock-based compensation.

 

 

 

Three Months ended March 31,

 

 

 

2004

 

2003

 

Net income, as reported

 

$

303,425

 

$

368,522

 

Deduct:  Total stock-based compensation expense determined under fair value based method for all awards

 

(216,876

)

(88,389

)

Pro-forma net income

 

$

86,549

 

$

280,133

 

 

 

 

 

 

 

Net income per share:

 

 

 

 

 

Basic, as reported

 

$

0.10

 

$

0.13

 

Basic, pro-forma

 

$

0.03

 

$

0.10

 

 

 

 

 

 

 

Diluted, as reported

 

$

0.09

 

$

0.12

 

Diluted, pro-forma

 

$

0.03

 

$

0.09

 

 

The effect of applying SFAS No. 123 on a pro forma net loss as stated above is not necessarily representative of the effects on reported net loss for future years due to, among other things, the vesting period of the stock options and the fair value of additional options to be granted in the future years.

 

5.               Business Unit Information

 

The Company manages its operations in three segments:  the Communication Products Division which develops, manufactures, and sells optical fiber-based data communications equipment to both commercial and government customers; the Electro-Optics Division which is focused on Interferometric Fiber Optic Gyro coils and the manufacture of innovative optical devices under contract , primarily to government and defense industry customers; and the Integrated Systems Division which concentrates on the delivery of video content management solutions to both new and existing customers.  The Integrated Systems Division began operating in 2003 but Management currently views it as a reportable segment

 

7



 

 

 

Quarter ended March 31, 2004

 

 

 

Communication
Products
Division

 

Integrated
Systems
Division

 

Electro-
Optics
Division

 

Total

 

 

 

 

 

 

 

 

 

 

 

Revenues

 

$

3,785,809

 

$

14,370

 

$

379,944

 

$

4,180,123

 

Depreciation and amortization

 

102,888

 

 

 

102,888

 

Income (loss) from operations

 

384,194

 

(45,466

)

102,764

 

441,492

 

Assets

 

9,979,724

 

 

264,866

 

10,244,590

 

Capital expenditures

 

283,486

 

 

 

283,486

 

 

 

 

Quarter ended March 31, 2003

 

 

 

Communication
Products
Division

 

Integrated
Systems
Division

 

Electro-
Optics
Division

 

Total

 

 

 

 

 

 

 

 

 

 

 

Revenues

 

$

2,755,525

 

 

$

732,861

 

$

3,488,386

 

Depreciation and amortization

 

66,919

 

 

 

66,919

 

Income from operations

 

26,041

 

 

349,800

 

375,841

 

Assets

 

5,749,983

 

 

290,000

 

6,039,983

 

Capital expenditures

 

270,692

 

 

 

270,692

 

 

Optelecom is engaged primarily in the development, manufacture, and sale of integrated multi-media products for communicating video, audio, and other data over both copper wire and optical network systems.  Revenues represent shipments and services provided to third parties. Contract costs and operating expenses directly traceable to individual segments were deducted from revenues to arrive at income from operations.  Identifiable assets by segment are those assets that are used in the Company’s operations in each segment.  Geographically the majority of our revenues come from sales in the United States.  During the three months ended March 31, 2004 and 2003 revenue by geographic region was as follows:

 

 

 

2004

 

2003

 

United States

 

$

3,120,569

 

$

2,081,571

 

Europe

 

466,394

 

957,766

 

Asia - Pacific

 

303,062

 

320,783

 

Other

 

290,098

 

128,266

 

Total

 

$

4,180,123

 

$

3,488,386

 

 

The increase in the U.S. region is due to higher CPD sales resulting from the Company’s expanding integrator and reseller sales channels along with increased penetration of the security and surveillance marketplace.  The decline in the European region in mainly due to lower contract R&D revenues associated with the Electro-Optics division.

 

8



 

ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

Except for the historical financial information contained herein, the following discussion and analysis may contain “forward looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended.  Such statements include declarations regarding the intent, belief or current expectations of the Company and its management.  Prospective investors are cautioned that any such forward looking statements are not guarantees of future performance and involve a number of risks and uncertainties; actual results could differ materially from those indicated by such forward looking statements.

 

The following discussion should be read in conjunction with the Financial Statements and Notes thereto.

 

OVERVIEW

 

Optelecom offers integrated multi-media products for communicating video, audio, and other data over both copper wire and optical network systems.  Optelecom currently manages its operations under three business segments: the Communication Products Division (CPD), the Electro-Optics Division (EOD), and the Integrated Systems Division (ISD).  The primary focus of the CPD is the design, manufacture and sale of optical fiber-based data communication equipment to commercial and Government clients as well as the delivery and distribution of video systems over Category5 (CAT5) copper cabling as the transmission medium.  This Division is now managing the processes previously reported under the Optical Products Unit and the Copper Products Unit.  The EOD develops and manufactures innovative optical devices under contract, primarily to government and defense industry customers.  The ISD is focused on delivering video content management solutions to both new and existing customers.  Initial product offerings in this segment will include rich media communications and networked security systems.

 

The CPD addresses business opportunities in the worldwide optical communication equipment marketplace, specializing in optical fiber transmission technologies. The majority of its current and future revenues are and will be derived from several niche markets that apply the advantages of fiber optic telecommunications to their transmission requirements. Presently, the vertical markets we serve include communications systems for highway traffic monitoring, advanced air traffic control video monitor displays, security surveillance and control systems, and manufacturing process and control communications.  The Company plans to develop products that will take advantage of the bandwidth capacity of fiber, primarily in the area of Gigabit Ethernet and Redundant Self-Healing Ring Networks.  A common characteristic of these systems is the capability to deliver a large quantity of video feeds over a single fiber.  These products are targeted at the security and surveillance and traffic markets.

 

In the EOD, emphasis has been placed on fabrication of precision-wound coils of optical fiber used as the sensing elements of fiber optic gyroscopes.  During the past decade, Optelecom has received U.S. Government contracts to investigate advanced manufacturing technology related to gyro coil winding. Optelecom currently pursues this tradition of business development and continues to seek out technology development opportunities with potential for production follow-on.  The EOD also produces precision wound coils for applications ranging from optical fiber dispensers used in remote vehicle control systems to precision optical fiber coils for communications systems.

 

Integrated Systems Division offers solutions in the areas of video storage, retrieval, and rich media communications. Solutions in video storage and retrieval are targeted for the surveillance and security markets.  Rich media communications solutions are targeted for the general corporate communications, engineering and scientific, and healthcare markets.

 

RESULTS OF OPERATIONS
 

Optelecom, Inc. designs, develops, manufactures and markets high-bandwidth fiber optic-based communications systems for traffic monitoring, security / surveillance, and business video systems. Over the past two years the company has aggressively pursued several operational objectives including: 1) the expansion of a distribution network both in the United States and worldwide, 2) realization of manufacturing and process improvements and 3) implementation of a cost and asset management program.

 

9



 

The successful execution of these initiatives along with increased demand in our core markets has enabled the Company to significantly improve its financial condition in 2002, 2003 and 2004, as evidenced by increasing levels of profitability and positive cash flow.

 

The Company will continue in 2004 to work at broadening its sales channels, sustaining gross profit margins and controlling costs. To supplement the growth expected in its core business, the Company in 2003 established a new business unit called Integrated Systems. This unit will focus on delivering video content management solutions to both existing and new customers and is beginning to generate revenue in 2004.

 

THREE MONTHS ENDED MARCH 31, 2004 COMPARED TO THREE MONTHS ENDED MARCH 31, 2003

 

REVENUES
 

Consolidated revenues for the three months ended March 31, 2004 of $4.2 million were $0.7 million or 20% higher than 2003. Revenue for the Communication Products Division increased by $1.0 million or 37%. This increase is attributed to the Company’s continued focus of increasing sales channels both domestically and internationally. Sales to integrators and end users increased substantially over the prior year quarter. While product pricing remained relatively stable between 2003 and 2004, the sales growth was attributable to increased sales orders and increased units sold.  Electro-Optics revenues decreased to $0.4 million for the first quarter of 2004 from $0.7 million in 2003 as a result of a decline in contract services revenues related to the delivery of product associated with a major contract realized during the first quarter of 2003.  This decline was partially offset by an increase in coil winding revenues from 2003 to 2004.  Integrated Systems, a new business unit, reported modest revenues from rich media services during the first quarter of 2004.

 

GROSS PROFIT
 

Consolidated gross profit was $2,411,107, or 58% for the three months ended March 31, 2004 as compared to $1,966,151, or 56% for the first quarter of 2003.  The Communication Products Division’s gross profit was $2,237,479 for the first quarter of 2004 compared to $1,484,457 in the first quarter of 2003.  The increase of $753,022 or 50% was due to higher sales, cost reductions, selective price increases  and the shift from analog to digital products.  This shift from analog to digital enables the Company to focus on the sale and manufacture of leading edge product technology which are more efficiently produced than analog products.  The gross profit of the Electro-Optic Division decreased from $481,694 in the first quarter of 2003 to $176,508 in the first quarter of 2004 primarily as a result of the higher than average revenues realized in 2003 relating to the delivery of product associated with a major contract.

 

OPERATING EXPENSES
 

Operating expenses were $1,969,615 for the quarter ended March 31, 2004 compared to $1,590,310 in 2003. This increase of $379,305 or 24% is generally indicative of the need to increase the Company’s infrastructure in order to support higher sales levels.  Engineering expenses increased from $302,005 in the first quarter of 2003 to $371,499 for the first quarter of 2004 due to increases in engineering personnel.  The addition of engineering personnel will allow the Company to more effectively respond to product development requirements.  Selling and marketing expenses increased from $513,154 in the first quarter of 2003 to $688,337 for the first quarter of 2004.  This 34% increase of $175,183 results from higher personnel, commissions and advertising costs incurred.  General and administrative costs increased from $775,151 in the first quarter of 2003 to $909,779 for the first quarter of 2004.  This 17% increase of $134,628 is primarily attributable to increases in personnel and consulting costs, and depreciation related to the expansion of plant equipment.  The Company’s management expects operating expenses to increase as revenues continue to grow and the Company develops and delivers new products to the marketplace.

 

OTHER INCOME (EXPENSE)

 

Other income for the quarter ended March 31, 2004 consisted of net interest income of $2,487 and other miscellaneous income of $5,391.  Other income (expense) for prior year quarter consisted of net interest expense of $7,319.  The reduction of interest expense from the prior year to the current year is due to the payoff of the Company’s bank line of credit in the

 

10



 

first quarter of 2003.

 

FINANCIAL CONDITION
 

The Company’s Stockholders’ equity increased from $8.0 million at December 31, 2003 to $8.4 million at March 31, 2004 due to our recording net income, the exercise of stock options by employees and purchase of shares pursuant to the employee stock purchase plan.

 

Other key components of Optelecom’s financial condition include accounts receivable, inventory, fixed assets and accounts payable. The Company’s current ratio has increased to 4.76 at March 31, 2004 compared to 3.59 at December 31, 2003. This increase is attributed primarily to the $0.3 million increase in inventory and the $0.4 million decrease in the Company’s balance in accounts payable.

 

Inventory increased slightly from $2.7 million at December 31, 2003 to $3.0 million at March 31, 2004 primarily due to increases in finished goods inventories. This increase was due to the Company’s decision to increase stocking levels to meet customer requirements, primarily for the growing security and surveillance market and the pre-building of finished goods expected to ship subsequent to March 31, 2004.  As the demand for Optelecom’s products from the security marketplace continues to increase, the Company expects to increase the quantity of certain finished goods products to facilitate its ability to meet the quick delivery requirements of that marketplace.

 

During the first quarter of 2004 fixed asset additions were $0.28 million, compared to $0.27 million in 2003.  During 2003, as the Company’s profitability continued to improve over prior year levels, capital spending was increased in order to improve and expand on engineering and manufacturing capabilities. This trend continues into 2004.  While the Company does not currently have any capital asset purchase commitments, we anticipate an overall investment in capital expenditures of approximately $0.5 million in 2004.

 

The Company’s current liabilities decreased $0.6 million from $2.3 million at December 31, 2003 to $1.7 million at March 31, 2004 primarily as a result of a decrease of $0.3 million in accounts payable and $0.3 million in other current liabilities.  The Company’s deferred rent liability was increased by $0.03 million as a result of the lease term on the Company’s U.S. office space.

 

LIQUIDITY AND CAPITAL RESOURCES

 

Cash used in operating activities was $0.03 million for the quarter ended March 31, 2004 compared to cash provided of $0.52 million in the first quarter of the prior year.  Our cash from operations is the result of our net income, adjustment for depreciation, amortization and other non-cash items and changes in our operating assets and liabilities.  As noted above, we increased our inventory levels in order to have items on hand to meet the delivery needs of our customers.  Should this market continue to increase, we expect to continue to increase inventory levels to meet this need.  While the increase in inventory was not the only item that impacted our operating cash flows, it was one significant component.

 

Cash used in investing activities was $0.3 million for the quarters ending March 31, 2003 and 2004.  The Company has maintained a comparable level of spending during the current year in its efforts to improve and expand manufacturing capabilities.

 

During the first quarter of 2004, financing activities provided $0.1 million in cash compared to $0.3 million used in financing activities during the first quarter of 2003.  Cash provided by financing activities during the current quarter resulted primarily from the proceeds from the exercise of stock options and common stock issued from the employee stock purchase plan.  The use of cash in financing activities for the prior year is attributed primarily to the elimination of the bank line-of-credit of $0.6 million. Additionally, proceeds from the exercise of stock options and common stock issued from the employee stock purchase plan totaled $0.13 million during the first quarter of 2003.

 

The Company has the ability to borrow up to $3.5 million under its existing bank line-of-credit as of March 31, 2004, provided there are sufficient accounts receivable and inventory. This facility consists of two components:  (a) a demand

 

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working capital line of credit which will enable the Company to borrow up to the lesser of $3.0 million or the borrowing base; and (b) a $500,000 transaction specific revolving demand export line of credit for short-term financing.  The Company’s borrowing base under the first facility equals the sum of 90% of eligible government billed accounts receivable, 80% of the eligible commercial billed accounts receivable and 20% of eligible related inventory capped at $500,000. The Company’s borrowing base under the second facility equals the sum of 75% of the eligible export-related inventory and 90% of the eligible export-related accounts receivable. This facility is guaranteed 90% by the Export-Import Bank of the United States (“Ex-Im Bank”) under Ex-Im Bank’s Working Capital Guarantee Program.

 

The first facility carries interest at the rate of LIBOR (1.34% at March 31, 2004) plus 3.5%. The second facility carries interest at the rate of PRIME (4.0% at March 31, 2004) plus 1.25%, floating.

 

Optelecom is required to comply with certain financial ratios including maintaining a minimum current ratio, a maximum debt to worth ratio, a maximum funded debt to EBITDA ratio and a minimum tangible net worth ratio. The Company was in compliance with all of these covenants at March 31, 2004.

 

Optelecom’s future working capital needs will be financed by our operating cash flow and continued use of the line-of-credit. In the event that operating cash flows become insufficient to meet funding needs, the Company may be required to scale back or eliminate product research and development and overhead costs. Additionally, the Company would look to increase its line of credit and/or pursue equity financing. The Company’s strategy will focus on identifying new products that meet the demands of our core markets, expanding our distribution channels and implementing processes which will increase manufacturing efficiencies. Management fully understands the costs required to execute this strategy and will pursue these initiatives in a timely and fiscally prudent manner.

 

Item 3.  Quantitative and Qualitative Disclosures about Market Risk

 

Market risk is the potential change in an instrument’s value caused by, for example, fluctuations in interest and currency exchange rates. The Company has not purchased any futures contracts nor purchased or held any derivative financial instruments for trading purposes during the three months ended March 31, 2004 and 2003. The primary market risk exposure is the risk that interest rates on our outstanding borrowings may increase. Optelecom also faces market risk exposure as a result of foreign currency translation adjustments of the Company’s foreign subsidiary, Optelecom Europe Limited. The Company believes this risk is immaterial.

 

Optelecom currently has no borrowings under its available bank lines-of-credit.  Optelecom has not entered into any hedging arrangements with respect to any prior interest obligations under these lines of credit.

 

Item 4.  Controls and Procedures

 

Under the direction and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, the Company carried out an evaluation of the effectiveness of the design and operation of its disclosure controls and procedures pursuant to Exchange Act Rule 13a-15 as of the end of the period covered by the report. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in reports that it files or submits under the Exchange Act of 1934 (i) is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms and (ii) is accumulated and communicated to the Company’s senior management to allow timely decisions regarding required disclosure.

 

There have been no significant changes in our internal controls over financial reporting or, to our knowledge, in other factors that could significantly affect our internal control over financial reporting subsequent to the date we conducted the above-described evaluation. The Company is currently reviewing the new internal controls documentation and attestation requirements regarding Rule 404 of the Sarbanes Oxley Act of 2002 and is confident that it will fully comply with such requirements.

 

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PART II - OTHER INFORMATION

 

ITEM 1 - LEGAL PROCEEDINGS

 

From time to time, the Company is involved in legal proceedings and litigation arising in the ordinary course of business.  As of the date of this report, except as described above, the Company is not a party to any litigation or other legal proceeding that, in the opinion of management, could have a material adverse effect on the Company’s business, financial condition or results of operations.

 

ITEM 2 - CHANGES IN SECURITIES

 

None.

 

ITEM 3 - DEFAULTS UPON SENIOR SECURITIES

 

None

 

ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

 

None

 

ITEM 5 - OTHER INFORMATION

 

None

 

ITEM 6A - EXHIBITS

 

Exhibits are incorporated by reference to the Company’s December 31, 2003 Form 10-K

 

ITEM 6B - REPORTS ON FORM 8-K

 

February 25, 2004 – The Company filed an 8-K announcing the appointment of Mr. Urso to the Board of Directors

 

March 18, 2004 – The Company filed an 8-K announcing the appointment of Mr. Fatzinger to the Board of Directors

 

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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.

 

 

 

 

OPTELECOM, INC.

 

 

 

 

 

 

Date:

May 14, 2004

/s/  Edmund Ludwig

 

 

 

Edmund Ludwig,

 

 

Director, President and Chief Executive Officer

 

 

 

 

 

 

Date:

May 14, 2004

/s/  James Armstrong

 

 

 

James Armstrong,

 

 

Director, Chief Financial Officer

 

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