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Table of Contents

 

 

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


 

Form 10-Q

 

(Mark One)

 

x

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

 

For the quarterly period ended September 30, 2010

 

 

OR

 

 

o

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:  001-08762

 

 

ITERIS, INC.

(Exact name of registrant as specified in its charter)

 

Delaware

 

95-2588496

(State or other jurisdiction of

 

(I.R.S. Employer

incorporation or organization)

 

Identification No.)

 

 

 

1700 Carnegie Avenue, Suite 100

 

 

Santa Ana, California

 

92705

(Address of principal executive office)

 

(Zip Code)

 

(949) 270-9400

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), 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 o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes  o  No  o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer o

 

Accelerated filer o

 

 

 

Non-accelerated filer o

 

Smaller reporting company x

(Do not check if a smaller reporting company)

 

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o No x

 

As of October 22, 2010, there were 34,331,756 shares of common stock outstanding.

 

 

 



Table of Contents

 

ITERIS, INC.

Quarterly Report on Form 10-Q
For the Three and Six Months Ended September 30, 2010

 

Table of Contents

 

PART I.

 

FINANCIAL INFORMATION

 

3

 

 

 

 

 

ITEM 1.

 

FINANCIAL STATEMENTS

 

3

 

 

 

 

 

 

 

UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS AT SEPTEMBER 30, 2010 AND MARCH 31, 2010

 

3

 

 

 

 

 

 

 

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF INCOME FOR THE THREE AND SIX MONTHS ENDED SEPTEMBER 30, 2010 AND 2009

 

4

 

 

 

 

 

 

 

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE SIX MONTHS ENDED SEPTEMBER 30, 2010 AND 2009

 

5

 

 

 

 

 

 

 

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

6

 

 

 

 

 

ITEM 2.

 

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

16

 

 

 

 

 

ITEM 3.

 

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

25

 

 

 

 

 

ITEM 4T.

 

CONTROLS AND PROCEDURES

 

26

 

 

 

 

 

PART II.

 

OTHER INFORMATION

 

26

 

 

 

 

 

ITEM 1.

 

LEGAL PROCEEDINGS

 

26

 

 

 

 

 

ITEM 1A.

 

RISK FACTORS

 

26

 

 

 

 

 

ITEM 2.

 

UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

35

 

 

 

 

 

ITEM 3.

 

DEFAULTS UPON SENIOR SECURITIES

 

35

 

 

 

 

 

ITEM 4.

 

(REMOVED AND RESERVED)

 

35

 

 

 

 

 

ITEM 5.

 

OTHER INFORMATION

 

36

 

 

 

 

 

ITEM 6.

 

EXHIBITS

 

36

 

Unless otherwise indicated in this report, the “Company,” “we,” “us” and “our” refer to Iteris, Inc. and our wholly-owned subsidiary, Iteris Europe GmbH.

 

AutoVue®, Iteris®, Vantage®, VantageView™, VersiCam™, SafetyDirect™ and Abacus™ are among the trademarks of Iteris, Inc. Any other trademarks or trade names mentioned herein are the property of their respective owners.

 

2



Table of Contents

 

PART I. FINANCIAL INFORMATION

ITEM 1.  FINANCIAL STATEMENTS

 

Iteris, Inc.

Unaudited Condensed Consolidated Balance Sheets

(In thousands, except par value)

 

 

 

September 30,

 

March 31,

 

 

 

2010

 

2010

 

Assets

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash and cash equivalents

 

$

12,323

 

$

10,405

 

Trade accounts receivable

 

11,083

 

11,311

 

Costs in excess of billings on uncompleted contracts

 

3,239

 

3,871

 

Inventories

 

3,221

 

2,727

 

Deferred income taxes

 

4,193

 

4,993

 

Prepaid expenses and other current assets

 

395

 

623

 

Total current assets

 

34,454

 

33,930

 

Property and equipment, net

 

2,315

 

2,550

 

Deferred income taxes

 

9,739

 

9,739

 

Intangible assets, net

 

379

 

452

 

Goodwill

 

27,791

 

27,791

 

Other assets

 

214

 

200

 

Total assets

 

$

74,892

 

$

74,662

 

 

 

 

 

 

 

Liabilities and stockholders’ equity

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Trade accounts payable

 

$

2,982

 

$

2,492

 

Accrued payroll and related expenses

 

2,897

 

2,709

 

Accrued liabilities

 

1,721

 

1,748

 

Billings in excess of costs and estimated earnings on uncompleted contracts

 

1,321

 

2,105

 

Current portion of long-term debt

 

2,324

 

2,324

 

Total current liabilities

 

11,245

 

11,378

 

Deferred rent

 

1,230

 

1,386

 

Unrecognized tax benefits

 

753

 

751

 

Other non-current liabilities

 

 

112

 

Long-term debt

 

2,054

 

2,969

 

Total liabilities

 

15,282

 

16,596

 

Commitments and contingencies

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

Common stock. $0.10 par value, 70,000 shares authorized, 34,332 and 34,318 shares issued and outstanding at September 30, 2010 and March 31, 2010, respectively

 

3,433

 

3,432

 

Additional paid-in capital

 

137,707

 

137,503

 

Accumulated deficit

 

(81,530

)

(82,869

)

Total stockholders’ equity

 

59,610

 

58,066

 

Total liabilities and stockholders’ equity

 

$

74,892

 

$

74,662

 

 

See accompanying notes.

 

3



Table of Contents

 

Iteris, Inc.

Unaudited Condensed Consolidated Statements of Income

(In thousands, except per share amounts)

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

September 30,

 

September 30,

 

 

 

2010

 

2009

 

2010

 

2009

 

Net sales and contract revenues:

 

 

 

 

 

 

 

 

 

Net sales

 

$

8,868

 

$

8,462

 

$

18,330

 

$

15,395

 

Contract revenues

 

5,218

 

6,403

 

11,430

 

14,104

 

Total net sales and contract revenues

 

14,086

 

14,865

 

29,760

 

29,499

 

Costs of net sales and contract revenues:

 

 

 

 

 

 

 

 

 

Cost of net sales

 

4,543

 

4,412

 

9,063

 

8,255

 

Cost of contract revenues

 

3,242

 

3,883

 

7,379

 

9,092

 

Gross profit

 

6,301

 

6,570

 

13,318

 

12,152

 

Operating expenses:

 

 

 

 

 

 

 

 

 

Selling, general and administrative

 

4,271

 

4,527

 

8,912

 

8,780

 

Research and development

 

1,040

 

884

 

1,981

 

1,848

 

Amortization of intangible assets

 

37

 

42

 

73

 

86

 

Total operating expenses

 

5,348

 

5,453

 

10,966

 

10,714

 

Operating income

 

953

 

1,117

 

2,352

 

1,438

 

Non-operating income (expense):

 

 

 

 

 

 

 

 

 

Other income (expense), net

 

19

 

(2

)

20

 

17

 

Interest expense, net

 

(42

)

(71

)

(82

)

(157

)

Income before income taxes

 

930

 

1,044

 

2,290

 

1,298

 

Provision for income taxes

 

(388

)

(501

)

(951

)

(611

)

Net income

 

$

542

 

$

543

 

$

1,339

 

$

687

 

 

 

 

 

 

 

 

 

 

 

Earnings per share:

 

 

 

 

 

 

 

 

 

Basic

 

$

0.02

 

$

0.02

 

$

0.04

 

$

0.02

 

Diluted

 

$

0.02

 

$

0.02

 

$

0.04

 

$

0.02

 

Weighted average shares outstanding:

 

 

 

 

 

 

 

 

 

Basic

 

34,332

 

34,254

 

34,331

 

34,223

 

Diluted

 

34,383

 

34,435

 

34,538

 

34,411

 

 

See accompanying notes.

 

4



Table of Contents

 

Iteris, Inc.

Unaudited Condensed Consolidated Statements of Cash Flows

(In thousands)

 

 

 

Six Months Ended

 

 

 

September 30,

 

 

 

2010

 

2009

 

 

 

 

 

 

 

Cash flows from operating activities

 

 

 

 

 

Net income

 

$

1,339

 

$

687

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

Change in deferred tax assets

 

800

 

451

 

Depreciation of property and equipment

 

484

 

499

 

Stock-based compensation

 

186

 

187

 

Amortization of intangible assets

 

73

 

86

 

Changes in operating assets and liabilities:

 

 

 

 

 

Accounts receivable

 

228

 

1,908

 

Net costs and estimated earnings in excess of billings

 

(152

)

119

 

Inventories

 

(494

)

1,979

 

Prepaid expenses and other assets

 

214

 

(124

)

Accounts payable and accrued expenses

 

491

 

(2,126

)

Net cash provided by operating activities

 

3,169

 

3,666

 

 

 

 

 

 

 

Cash flows from investing activities

 

 

 

 

 

Purchases of property and equipment

 

(249

)

(116

)

Cash paid for business combination

 

(106

)

(300

)

Net cash used in investing activities

 

(355

)

(416

)

 

 

 

 

 

 

Cash flows from financing activities

 

 

 

 

 

Borrowings on long-term debt

 

 

750

 

Payments on long-term debt

 

(915

)

(1,335

)

Proceeds from stock option exercises

 

19

 

90

 

Net cash used in financing activities

 

(896

)

(495

)

Effect of exchange rate changes on cash

 

 

58

 

Increase in cash and cash equivalents

 

1,918

 

2,813

 

Cash and cash equivalents at beginning of period

 

10,405

 

6,372

 

Cash and cash equivalents at end of period

 

$

12,323

 

$

9,185

 

 

 

 

 

 

 

Supplemental disclosure of non-cash investing and financing activities:

 

 

 

 

 

Liabilities incurred for business combination

 

$

 

$

218

 

 

See accompanying notes.

 

5



Table of Contents

 

Iteris, Inc.

Notes to Unaudited Condensed Consolidated Financial Statements

September 30, 2010

 

1.             Description of Business and Summary of Significant Accounting Policies

 

Description of Business

 

Iteris, Inc. (including our subsidiary, referred to collectively in these unaudited consolidated financial statements as “Iteris,” the “Company,” “we,” “our” and “us”)  is a leader in the traffic management market focused on the development and application of advanced technologies that reduce traffic congestion and improve the safety of surface transportation systems infrastructure. Additionally, we believe our products and services, in conjunction with sound traffic management, minimize the environmental impact of traffic congestion. By combining outdoor image processing, traffic engineering and information technology, we offer a broad range of Intelligent Transportation Systems (“ITS”) and driver safety solutions. Iteris was originally incorporated in Delaware in 1987.

 

Basis of Presentation

 

Our unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”) for interim financial information and with the instructions to Securities and Exchange Commission (“SEC”) Form 10-Q and Article 10 of SEC Regulation S-X. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments, consisting of normal recurring adjustments, necessary to present fairly the consolidated financial position of Iteris as of September 30, 2010, the consolidated results of operations for the three and six months ended September 30, 2010 and 2009 and the consolidated cash flows for the six months ended September 30, 2010 and 2009. Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to the rules and regulations of the SEC. The results of operations for the three and six months ended September 30, 2010 are not necessarily indicative of those to be expected for future quarterly periods or the entire fiscal year. The accompanying unaudited condensed consolidated financial statements should be read in conjunction with our Annual Report on Form 10-K for the fiscal year ended March 31, 2010, which was filed with the SEC on May 21, 2010.

 

Use of Estimates

 

The preparation of consolidated financial statements in conformity with U.S. GAAP requires our management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements, and reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Significant estimates made in the preparation of the consolidated financial statements include the allowance for doubtful accounts, projections of taxable income used to assess realizability of deferred tax assets, inventory and warranty reserves, costs to complete long-term contracts, indirect cost rates used in cost-plus contracts, contract reserves, the valuation of debt and equity instruments and estimates of future cash flows used to assess the recoverability of long-lived assets and the impairment of goodwill.

 

Revenue Recognition

 

Net Sales

 

Product revenues and related costs of sales are recognized upon the transfer of title, which generally occurs upon shipment or, if required, upon acceptance by the customer, provided that we believe collectibility of the net sales amount is probable. Accordingly, at the date revenue is recognized, the significant uncertainties concerning the sale have been resolved.

 

We recognize revenue from the sale of deliverables that are part of a multiple-element arrangement in accordance with applicable accounting guidance that establishes a selling price hierarchy permitting the use of an estimated selling price to determine the allocation of arrangement consideration to a deliverable in a multiple-element arrangement where neither vendor specific objective evidence (“VSOE”) nor third-party evidence (“TPE”) is available for that deliverable. In the absence of VSOE or TPE of the standalone selling price for one or more delivered or undelivered elements in a multiple-element arrangement, we are required to estimate the selling prices of those elements. Overall arrangement consideration is allocated to each element (both delivered and undelivered items) based on their relative selling prices, regardless of whether those selling prices are evidenced by VSOE or TPE or are based on our estimated selling prices.

 

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Table of Contents

 

We account for multiple-element arrangements that consist only of software and software-related services in accordance with industry-specific accounting guidance for software and software-related transactions. For such transactions, revenue on arrangements that include multiple elements is allocated to each element based on the relative fair value of each element, and fair value is generally determined by VSOE. If we cannot objectively determine the fair value of any undelivered element included in such multiple-element arrangements and the only undelivered element is post-contract customer support or maintenance, and VSOE of the fair value of such support or maintenance does not exist, revenue from the entire arrangement is recognized ratably over the support period. When the fair value of a delivered element has not been established, but VSOE of fair value exists for the undelivered elements, we use the residual method to recognize revenue if the fair value of all undelivered elements is determinable. Under the residual method, the fair value of the undelivered elements is deferred and the remaining portion of the arrangement fee is allocated to the delivered elements and is recognized as revenue.

 

We also derive revenue from the provision of specific non-recurring contract engineering services and royalties. Non-recurring contract engineering revenues are recognized in the period in which the related services are performed. Royalty revenues are recorded in the period in which the royalty is earned based on unit sales of certain of our products. Non-recurring contract engineering and royalty revenues are included in net sales in the accompanying unaudited condensed consolidated statements of income and totaled $155,000 and $296,000 for the three and six months ended September 30, 2010, respectively, and $191,000 and $439,000 for the three and six months ended September 30, 2009, respectively.

 

Contract Revenues

 

Contract revenues are derived primarily from long-term contracts with governmental agencies. Contract revenues include costs incurred plus a portion of estimated fees or profits determined on the percentage of completion method of accounting based on the relationship of costs incurred to total estimated costs. Any anticipated losses on contracts are charged to earnings when identified. Changes in job performance and estimated profitability, including those arising from contract penalty provisions and final contract settlements, may result in revisions to costs and revenues and are recognized in the period in which the revisions are determined. Profit incentives are included in revenue when their realization is reasonably assured.

 

Foreign Currency

 

We have determined that the functional currency of our subsidiary in Europe is the United States (“U.S.”) dollar. Local currency financial statements are remeasured into U.S. dollars at the exchange rate in effect as of the balance sheet date for monetary assets and liabilities and the historical exchange rate for nonmonetary assets and liabilities. Revenues and expenses are remeasured using the average exchange rate for the period, except items related to nonmonetary assets and liabilities, which are remeasured using historical exchange rates. Remeasurement gains and losses are reported in “other income (expense), net” in the unaudited condensed consolidated statements of income.

 

Concentration of Credit Risk

 

Financial instruments that potentially subject us to a concentration of credit risk consist principally of cash and cash equivalents and trade accounts receivable.

 

Cash and cash equivalents consist primarily of demand deposits and money market funds maintained with several financial institutions. Deposits held with banks may exceed the amount of insurance provided on such deposits. Generally, these deposits may be redeemed upon demand and are maintained with high credit quality financial institutions, and therefore have minimal credit risk.

 

Our accounts receivable are primarily derived from revenues earned from customers located throughout North America and Europe. We generally do not require collateral or other security from customers. We maintain an allowance for doubtful accounts for potential credit losses, which losses have generally been within management’s expectations.

 

Fair Values of Financial Instruments

 

The fair value of cash and cash equivalents, receivables, accounts payable and accrued expenses approximate carrying value because of the short period of time to maturity. The fair value of line of credit agreements and long-term debt approximate carrying value because the related effective rates of interest approximate current market rates available to us for debt with similar terms and similar remaining maturities.

 

Cash and Cash Equivalents

 

Cash and cash equivalents consist of cash and short-term investments with initial maturities of ninety days or less.

 

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Table of Contents

 

Allowance for Doubtful Accounts

 

The collectability of our accounts receivable is evaluated through review of invoices outstanding greater than a certain period of time and ongoing credit evaluations of our customers’ financial condition. In cases where we are aware of circumstances that may impair a specific customer’s ability to meet its financial obligations subsequent to the original sale, we will record an allowance against amounts due, and thereby reduce the net recognized receivable to the amount we reasonably believe will be collected. We also maintain an allowance based on our historical collections experience. When we determine that collection is not likely, we write off accounts receivable against the allowance for doubtful accounts.

 

Costs in Excess of Billings on Uncompleted Contracts

 

Costs in excess of billings on uncompleted contracts in the accompanying unaudited condensed consolidated balance sheets represent unbilled amounts earned and reimbursable under services sales arrangements. At any given period-end, a large portion of the balance in this account represents the accumulation of labor, materials and other costs that have not been billed due to timing, whereby the accumulation of each month’s costs and earnings are not administratively billed until the subsequent month. Also included in this account are amounts that become billable according to contract terms, which usually consider the passage of time, achievement of milestones or completion of the project. Generally, such unbilled amounts will be billed and collected within the next twelve months.

 

Billings in Excess of Costs and Estimated Earnings on Uncompleted Contracts

 

Billings in excess of costs and estimated earnings on uncompleted contracts in the accompanying unaudited condensed consolidated balance sheets is comprised of cash collected from customers and billings to customers on contracts in advance of work performed, advance payments negotiated as a contract condition, estimated losses on uncompleted contracts, project-related legal liabilities and other project-related reserves. The majority of the unearned amounts are expected to be earned within the next twelve months.

 

We record provisions for estimated losses on uncompleted contracts in the period in which such losses become known. The cumulative effects of revisions to contract revenues and estimated completion costs are recorded in the accounting period in which the amounts become evident and can be reasonably estimated. These revisions can include such items as the effects of change orders and claims, warranty claims, liquidated damages or other contractual penalties, adjustments for audit findings on U.S. or other government contracts and contract closeout settlements.

 

Inventories

 

Inventories are stated at the lower of cost or market. Cost is determined using the first-in, first-out method.

 

Property and Equipment

 

Property and equipment are recorded at cost and are depreciated using the straight-line method over the estimated useful life ranging from three to eight years. Leasehold improvements are depreciated over the term of the related lease or the estimated useful life of the improvement, whichever is shorter.

 

Goodwill and Long-Lived Assets

 

Goodwill is tested for impairment on an annual basis in our fourth fiscal quarter or more frequently if indicators of impairment exist. The performance of the test involves a two-step process. The first step of the impairment test involves comparing the fair value of our reporting units with each respective reporting unit’s carrying amount, including goodwill. We determine the fair value of reporting units using the income approach with a reconciliation of the total reporting unit fair value to our total market capitalization plus an appropriate control premium. If the carrying amount of a reporting unit exceeds the reporting unit’s fair value, the second step of the goodwill impairment test is performed to determine the amount of any impairment loss. The second step of the goodwill impairment test involves comparing the implied fair value of the reporting unit’s goodwill with the carrying amount of that goodwill and an impairment charge is recorded for any excess carrying amount over fair value. We performed annual impairment assessments of the carrying value of goodwill for each of the fiscal years ended March 31, 2010, 2009 and 2008. Based on these assessments, we determined that no impairment as of each of these dates was indicated as the estimated fair value of each of our reporting units exceeded its respective carrying value. We monitor the indicators for goodwill impairment testing between annual tests. Various circumstances including, among others, certain adverse business conditions impacting one or more reporting units or a decline in our market capitalization for an extended period of time, would cause us to test goodwill for impairment on an interim basis.

 

Due to the current economic environment, indicators emerged that led us to conclude that an impairment assessment of the carrying value of goodwill was necessary during the quarter ended September 30, 2010. Accordingly, we performed an interim test of impairment and, based on the results of this testing, concluded that no impairment existed as of September 30, 2010. We plan to perform our annual test for impairment during the fourth quarter of our current fiscal year ending March 31, 2011.

 

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Table of Contents

 

We also evaluate long-lived assets used in operations for impairment when indicators of impairment are present.  Reviews are performed to determine whether the carrying value of assets is impaired, based on a comparison of undiscounted expected future cash flows to the carrying value of the related net assets.  If this comparison indicates that there is impairment, the impaired asset is written down to fair value, which is typically calculated using discounted expected future cash flows and a discount rate based upon our weighted average cost of capital adjusted for risks associated with the related operations.  Impairment is based on the excess of the carrying amount over the fair value of those assets.

 

Income Taxes

 

We utilize the liability method of accounting for income taxes, whereby deferred taxes are determined based on the temporary differences between the financial statement and tax bases of assets and liabilities using enacted tax rates. A valuation allowance is recorded when it is more likely than not that all or a portion of the deferred tax assets will not be realized.

 

We must review all of our tax positions and make a determination as to whether each position is more-likely-than-not to be sustained upon examination by taxing authorities. If a tax position meets the more-likely-than-not standard, then the related tax benefit is measured based on a cumulative probability analysis of the amount that is more-likely-than-not to be realized upon effective settlement or disposition of the underlying issue.

 

Stock-Based Compensation

 

We record stock-based compensation in the unaudited consolidated statements of income as an expense, based on the grant date fair values of our stock-based awards, whereby such fair values are amortized over the requisite service period. The fair value of our common stock option awards is estimated on the grant date using the Black-Scholes-Merton (“BSM”) option-pricing formula, which considers, among other factors, the expected life of the award and the expected volatility of our stock price. The fair value of our restricted stock units is based on the closing market price of our common stock on the date of grant.

 

Research and Development Expenditures

 

Research and development expenditures are charged to expense in the period in which they are incurred.

 

Shipping and Handling Costs

 

Shipping and handling costs are included in cost of sales in the period during which products ship.

 

Sales Taxes

 

Sales taxes are presented on a net basis (excluded from net sales and contract revenues) in the unaudited condensed consolidated statements of income.

 

Warranty

 

We generally provide a one to three year warranty from the original invoice date on all products, materials and workmanship. Products sold to various original equipment manufacturer (“OEM”) customers sometimes carry longer warranties. Defective products will be either repaired or replaced, usually at our option, upon meeting certain criteria. We accrue a provision for the estimated costs that may be incurred for product warranties relating to a product as a component of cost of sales at the time revenue for that product is recognized. The accrued warranty provision is included within accrued liabilities in the accompanying unaudited condensed consolidated balance sheets.

 

Repair and Maintenance Costs

 

We incur repair and maintenance costs in the normal course of business. Should the activity result in a permanent improvement to one of our leased facilities, the cost is capitalized as a leasehold improvement and amortized over its useful life or the remainder of the lease period, whichever is shorter. Non-permanent repair and maintenance costs are charged to expense as incurred.

 

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Recent Accounting Pronouncements

 

In October 2009, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2009-13, Multiple-Deliverable Revenue Arrangements (“ASU 2009-13”), which amends the existing multiple-element revenue arrangements guidance currently included in Accounting Standards Codification (“ASC”) 605-25, Revenue Recognition — Multiple Element Arrangements. ASU 2009-13 provides for two significant changes to the existing multiple-element revenue arrangements guidance. The first relates to the determination of when the individual deliverables included in a multiple-element arrangement may be treated as separate units of accounting. The second change modifies the manner in which the transaction consideration is allocated across the separately identified deliverables. We adopted the amendments prescribed by ASU 2009-13 for our fiscal year beginning April 1, 2010 and such adoption did not have a material impact on our consolidated financial statements.

 

In October 2009, the FASB issued ASU No. 2009-14, Certain Revenue Arrangements That Include Software Elements (“ASU 2009-14”), which amends and modifies the scope of ASC 985-605, Software — Revenue Recognition, such that many sales transactions of tangible products that include software and other related transactions will fall outside its scope. We adopted the amendments prescribed by ASU 2009-14 for our fiscal year beginning April 1, 2010 and such adoption did not have a material impact on our consolidated financial statements.

 

2.             Supplemental Financial Information

 

Inventories

 

The following table presents details of our inventories:

 

 

 

September 30,

 

March 31,

 

 

 

2010

 

2010

 

 

 

(In thousands)

 

Materials and supplies

 

$

2,589

 

$

2,292

 

Work in process

 

7

 

49

 

Finished goods

 

625

 

386

 

 

 

$

3,221

 

$

2,727

 

 

Intangible Assets

 

The following table presents details of our intangible assets:

 

 

 

September 30, 2010

 

March 31, 2010

 

 

 

Gross
Carrying
Amount

 

Accumulated
Amortization

 

Gross
Carrying
Amount

 

Accumulated
Amortization

 

 

 

(In thousands)

 

Intangible assets subject to amortization:

 

 

 

 

 

 

 

 

 

Developed technology

 

$

996

 

$

(645

)

$

996

 

$

(595

)

Patents

 

317

 

(289

)

317

 

(266

)

Total

 

$

1,313

 

$

(934

)

$

1,313

 

$

(861

)

 

As of September 30, 2010, future estimated amortization expense is as follows:

 

Year Ending March 31:

 

 

 

(In thousands)

 

 

 

Remainder of 2011

 

$

73

 

2012

 

106

 

2013

 

100

 

2014

 

100

 

 

 

$

379

 

 

If we acquire additional intangible assets in future periods, our amortization expense will increase.

 

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Warranty Reserve Activity

 

The following table presents activity related to the warranty reserve:

 

 

 

Six Months Ended

 

 

 

September 30,

 

 

 

2010

 

2009

 

 

 

(In thousands)

 

Balance at beginning of period

 

$

467

 

$

582

 

Additions charged to cost of sales

 

74

 

102

 

Warranty claims

 

(88

)

(94

)

Balance at end of period

 

$

453

 

$

590

 

 

Earnings Per Share

 

The following table sets forth the computation of basic and diluted earnings per share:

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

September 30,

 

September 30,

 

 

 

2010

 

2009

 

2010

 

2009

 

 

 

(In thousands, except per share amounts)

 

Numerator:

 

 

 

 

 

 

 

 

 

Net income

 

$

542

 

$

543

 

$

1,339

 

$

687

 

 

 

 

 

 

 

 

 

 

 

Denominator:

 

 

 

 

 

 

 

 

 

Weighted average common shares used in basic computation

 

34,332

 

34,254

 

34,331

 

34,223

 

Dilutive stock options

 

46

 

181

 

203

 

188

 

Dilutive restricted stock units

 

5

 

 

3

 

 

Dilutive warrants

 

 

 

1

 

 

Weighted average common shares used in diluted computation

 

34,383

 

34,435

 

34,538

 

34,411

 

 

 

 

 

 

 

 

 

 

 

Earnings per share:

 

 

 

 

 

 

 

 

 

Basic

 

$

0.02

 

$

0.02

 

$

0.04

 

$

0.02

 

Diluted

 

$

0.02

 

$

0.02

 

$

0.04

 

$

0.02

 

 

The following instruments were excluded from the computation of diluted earnings per share as their effect would have been anti-dilutive:

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

September 30,

 

September 30,

 

 

 

2010

 

2009

 

2010

 

2009

 

 

 

(In thousands)

 

 

 

 

 

 

 

 

 

 

 

Stock options

 

1,036

 

2,451

 

948

 

2,517

 

Warrants

 

261

 

336

 

291

 

414

 

 

3.             Fair Value Measurements

 

We measure fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Fair value measurements are based on a three-tier hierarchy that prioritizes the inputs used to measure fair value. These tiers include: Level 1, defined as observable inputs such as quoted prices in active markets for identical assets and liabilities; Level 2, defined as observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities or prices quoted in inactive markets; and Level 3, defined as unobservable inputs for which little or no market data exists, therefore requiring an entity to develop its own assumptions.

 

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At September 30, 2010, we did not have any material financial assets or liabilities measured at fair value on a recurring basis using Level 3 inputs.

 

Our non-financial assets, such as goodwill, intangible assets and property and equipment, are measured at fair value on a non-recurring basis; generally when there is a transaction involving those assets such as a purchase transaction, a business combination or an adjustment for impairment. No non-financial assets were measured at fair value during the three and six months ended September 30, 2010 and 2009.

 

4.             Revolving Line of Credit and Long-Term Debt

 

Revolving Line of Credit

 

In September 2010, we entered into a modification agreement with California Bank & Trust to extend the expiration date of our revolving line of credit to October 1, 2012. The terms under this agreement are substantially similar to those of our prior agreement, whereby we may borrow up to $12.0 million on our revolving line of credit. Interest on borrowed amounts under the revolving line of credit are payable monthly at a rate equal to the current stated prime rate (3.25% at September 30, 2010) up to the current stated prime rate plus 0.50%, depending on aggregate deposit balances maintained at the bank in relation to the total loan commitment under our credit facility (which includes our bank term note discussed below). We are obligated to pay an unused line fee of 0.25% per annum applied to the average unused portion of the revolving line of credit during the preceding month. The revolving line of credit does not contain any early termination fees and is secured by substantially all of our assets. As of September 30, 2010, no amounts were outstanding under the revolving line of credit portion of the facility.

 

Long-Term Debt — Bank Term Note

 

As of September 30, 2010, we had outstanding borrowings of approximately $4.4 million under our 48-month term note with California Bank & Trust. Principal payments under this term note are required to be repaid in 48 monthly installments of $152,000 commencing on June 1, 2009. Additionally, beginning on November 1, 2009, and on November 1 of each year thereafter, we are required to repay additional principal of up to $500,000, calculated based on certain financial measures, as further defined in the agreement. These additional principal payments effectively reduce the total number of monthly installments necessary to repay the term note. As of September 30, 2010 and March 31, 2010, an additional $500,000 was included in the current portion of the term note within the accompanying unaudited condensed consolidated balance sheets, representing the amount we estimate will be due on November 1, 2010. Interest on the term note is payable monthly at a rate equal to the current stated prime rate plus 0.50% up to the current stated prime rate plus 1.00%, depending on aggregate deposit balances maintained at the bank in relation to the total loan commitment under the credit facility. The term note contains no early termination fees and, along with the revolving line of credit under the same credit agreement, is secured by substantially all of our assets.

 

5.             Income Taxes

 

The following table sets forth our provision for income taxes, along with the corresponding effective tax rates:

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

September 30,

 

September 30,

 

 

 

2010

 

2009

 

2010

 

2009

 

 

 

(In thousands, except percentages)

 

Provision for income taxes

 

$

388

 

$

501

 

$

951

 

$

611

 

Effective tax rate

 

41.7

%

48.0

%

41.5

%

47.1

%

 

On an interim basis, we estimate what our anticipated annual effective tax rate will be, while also separately considering applicable discrete and other non-recurring items, and record a quarterly income tax provision in accordance with the anticipated annual rate. As the fiscal year progresses, we refine our estimates based on actual events and financial results during the year. This process can result in significant changes to our expected effective tax rate. When this occurs, we adjust our income tax provision during the quarter in which our estimates are refined so that the year-to-date provision reflects the expected annual effective tax rate. These changes, along with adjustments to our deferred taxes, among others, may create fluctuations in our overall effective tax rate from quarter to quarter.

 

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6.             Commitments and Contingencies

 

Litigation and Other Contingencies

 

From time to time, we have been involved in litigation relating to claims arising out of our operations in the normal course of business. We currently are not a party to any legal proceedings, the adverse outcome of which, in management’s opinion, individually or in the aggregate, is expected to have a material adverse effect on our consolidated results of operations, financial position or cash flows.

 

Furthermore, from time to time, we have experienced unforeseen developments in contingencies related to our former subsidiaries. For example, we have been the subject of a number of routine tax audits for time periods and jurisdictions related to the businesses of our former subsidiaries. Although the development and ultimate outcome of these types of unforeseen matters cannot be anticipated or predicted with any certainty, our management does not believe that we are presently involved in any matters related to our former subsidiaries that would have a material adverse effect on our consolidated results of operations, financial position or cash flows.

 

Related Party Transaction

 

In August 2009, MAXxess Systems, Inc. (“MAXxess”) executed a promissory note payable to Iteris for $274,000 for amounts previously owed to us under a sublease agreement for which we had previously fully reserved such amount. MAXxess is owned by an investor group that includes two of our directors. As of September 30, 2010, all accrued interest has been paid and the entire $274,000 principal balance was outstanding and payable to Iteris and remains fully reserved.

 

7.             Employee Benefit Plans

 

We currently administer three separate stock incentive plans. Of these plans, we may only grant future awards from the 2007 Omnibus Incentive Plan (the “2007 Plan”). The 2007 Plan allows for the issuance of stock options, stock appreciation rights, restricted stock, restricted stock units (“RSUs”) and other stock-based awards. At September 30, 2010, there were 641,000 shares of common stock available for grant under the 2007 Plan.

 

Stock Options

 

A summary of activity with respect to our stock options for the six months ended September 30, 2010 is as follows:

 

 

 

 

 

Weighted

 

 

 

 

 

Average

 

 

 

 

 

Exercise

 

 

 

Number of

 

Price

 

 

 

Shares

 

per Share

 

 

 

(In thousands)

 

 

 

Options outstanding at March 31, 2010

 

3,218

 

$

1.77

 

Granted

 

30

 

1.45

 

Exercised

 

(14

)

1.39

 

Expired

 

(61

)

11.32

 

Options outstanding at September 30, 2010

 

3,173

 

$

1.58

 

 

Included in the options outstanding at September 30, 2010 are vested options to purchase 769,000 shares of our common stock with an exercise price per share of $1.19, which are scheduled to expire in September 2011 unless exercised prior to that date.

 

Restricted Stock Units

 

In August 2010, we granted 214,000 RSUs under the 2007 Plan to certain employees of Iteris, all of which were unvested and outstanding as of September 30, 2010. These RSUs are stock awards that entitle the holder to receive registered shares of our common stock upon vesting. The RSUs vest at the rate of 25% per year beginning in August 2011. The fair value per share of these RSUs was $1.48, calculated based on the closing market price of our common stock on the grant date.

 

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Stock-Based Compensation Expense

 

The following table presents stock-based compensation expense that is included in each functional line item on our unaudited condensed consolidated statements of income:

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

September 30,

 

September 30,

 

 

 

2010

 

2009

 

2010

 

2009

 

 

 

(In thousands)

 

Cost of net sales

 

$

3

 

$

2

 

$

5

 

$

4

 

Cost of contract revenues

 

9

 

10

 

17

 

20

 

Selling, general and administrative expense

 

75

 

79

 

149

 

150

 

Research and development expense

 

8

 

7

 

15

 

13

 

 

 

$

95

 

$

98

 

$

186

 

$

187

 

 

At September 30, 2010, there was approximately $1.0 million of unrecognized compensation expense related to unvested stock options and RSUs. This expense is currently expected to be recognized over a weighted average period of approximately 2.7 years. If there are any modifications or cancellations of the underlying unvested awards, we may be required to accelerate, increase or cancel any remaining unearned stock-based compensation expense. Future stock-based compensation expense and unearned stock-based compensation will increase to the extent that we grant additional stock options, or issue any additional RSUs or other stock-based awards.

 

The grant date fair value per share of stock options granted in the six months ended September 30, 2010 has been estimated using the following weighted average assumptions:

 

Expected life - years

 

7

 

Risk-free interest rate

 

2.1

%

Expected volatility of common stock

 

58

%

Dividend yield

 

 

Weighted-average grant date fair value per share

 

$

0.86

 

 

8.             Common Stock Warrants

 

The following table summarizes information regarding outstanding warrants to purchase shares of our common stock as of September 30, 2010:

 

Exercise Price per Share

 

Warrants
Outstanding

 

Remaining
Contractual Life

 

 

 

(In thousands)

 

(Years)

 

$

 1.42

 

15

 

2.9

 

3.25

 

246

 

0.4

 

 

 

261

 

 

 

 

All of the outstanding warrants were exercisable at September 30, 2010.

 

9.             Business Segment Information

 

We currently operate in three reportable segments: Roadway Sensors, Vehicle Sensors and Transportation Systems. The Roadway Sensors segment includes our Vantage and VersiCam vehicle detection systems for traffic intersection control, incident detection and certain highway traffic data collection applications. This segment also includes our Pico compact video detection system, which was designed primarily to respond to international video detection needs. The Vehicle Sensors segment includes our lane departure warning products and is comprised of all of our activities related to vehicle safety. The Transportation Systems segment includes transportation engineering and consulting services and the development of transportation management and traveler information systems for the ITS industry. The accounting policies of the reportable segments are the same as those described in the summary of significant accounting policies. Certain corporate expenses, including interest and amortization of intangible assets, are not allocated to the segments. The reportable segments are each managed separately because they manufacture and distribute distinct products or provide services with different processes. All segment revenues are derived from external customers.

 

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The following table sets forth selected unaudited consolidated financial information for our reportable segments for the three and six months ended September 30, 2010 and 2009:

 

 

 

Roadway
Sensors

 

Vehicle
Sensors

 

Transportation
Systems

 

Total

 

 

 

 

 

(In thousands)

 

 

 

 

 

Three Months Ended September 30, 2010

 

 

 

 

 

 

 

 

 

Product revenue

 

$

7,248

 

$

1,465

 

$

 

$

8,713

 

Service and other revenue

 

 

155

 

5,218

 

5,373

 

Stock-based compensation

 

12

 

4

 

17

 

33

 

Depreciation and amortization

 

57

 

21

 

47

 

125

 

Segment income (loss)

 

1,210

 

(324

)

165

 

1,051

 

 

 

 

 

 

 

 

 

 

 

Three Months Ended September 30, 2009

 

 

 

 

 

 

 

 

 

Product revenue

 

$

7,082

 

$

1,189

 

$

 

$

8,271

 

Service and other revenue

 

 

191

 

6,403

 

6,594

 

Stock-based compensation

 

10

 

8

 

16

 

34

 

Depreciation and amortization

 

57

 

18

 

56

 

131

 

Segment income (loss)

 

1,182

 

(330

)

390

 

1,242

 

 

 

 

 

 

 

 

 

 

 

Six Months Ended September 30, 2010

 

 

 

 

 

 

 

 

 

Product revenue

 

$

14,941

 

$

3,093

 

$

 

$

18,034

 

Service and other revenue

 

 

296

 

11,430

 

11,726

 

Stock-based compensation

 

21

 

11

 

31

 

63

 

Depreciation and amortization

 

113

 

42

 

98

 

253

 

Segment income (loss)

 

2,580

 

(506

)

478

 

2,552

 

 

 

 

 

 

 

 

 

 

 

Six Months Ended September 30, 2009

 

 

 

 

 

 

 

 

 

Product revenue

 

$

12,957

 

$

1,999

 

$

 

$

14,956

 

Service and other revenue

 

 

439

 

14,104

 

14,543

 

Stock-based compensation

 

18

 

16

 

30

 

64

 

Depreciation and amortization

 

119

 

40

 

114

 

273

 

Segment income (loss)

 

1,544

 

(836

)

924

 

1,632

 

 

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The following table reconciles segment income to unaudited consolidated income before income taxes:

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

September 30,

 

September 30,

 

 

 

2010

 

2009

 

2010

 

2009

 

 

 

(In thousands)

 

Segment income:

 

 

 

 

 

 

 

 

 

Total income from reportable segments

 

$

1,051

 

$

1,242

 

$

2,552

 

$

1,632

 

Unallocated amounts:

 

 

 

 

 

 

 

 

 

Corporate and other expenses

 

(61

)

(83

)

(127

)

(108

)

Amortization of intangible assets

 

(37

)

(42

)

(73

)

(86

)

Other income (expense), net

 

19

 

(2

)

20

 

17

 

Interest expense, net

 

(42

)

(71

)

(82

)

(157

)

Income before income taxes

 

$

930

 

$

1,044

 

$

2,290

 

$

1,298

 

 

ITEM 2.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

This report, including the following discussion and analysis, contains forward-looking statements (within the meaning of the Private Securities Litigation Reform Act of 1995) that are based on our current expectations, estimates and projections about our business and our industry, and reflect management’s beliefs and certain assumptions made by us based upon information available to us as of the date of this report. When used in this report and the information incorporated herein by reference, the words “expect(s),” “feel(s),” “believe(s),” “should,” “will,” “may,” “anticipate(s),” “estimate(s)” and similar expressions or variations of these words are intended to identify forward-looking statements. These forward-looking statements include, but are not limited to, statements regarding our anticipated growth, sales, revenue, expenses, profits, capital needs, competition, development plans, and manufacturing capabilities, the applications for and acceptance of our products and services, and the status of our facilities and product development. These statements are not guarantees of future performance and are subject to certain risks and uncertainties that could cause our actual results to differ materially from those projected. You should not place undue reliance on these forward-looking statements that speak only as of the date hereof. We encourage you to carefully review and consider the various disclosures made by us which describe certain factors which could affect our business, including inRisk Factors” set forth in Part II, Item 1A of this report, before deciding to invest in our company or to maintain or increase your investment. We undertake no obligation to revise or update publicly any forward-looking statement for any reason, including to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events.

 

Overview

 

General. We are a leader in the traffic management market focused on the development and application of advanced technologies that reduce traffic congestion and improve the safety of surface transportation systems infrastructure. Additionally, we believe our products and services, in conjunction with sound traffic management, minimize the environmental impact of traffic congestion. By combining outdoor image processing, traffic engineering and information technology, we offer a broad range of Intelligent Transportation Systems (“ITS”) and driver safety solutions to customers in the United States (“U.S.”) and internationally.

 

Business Segments. We currently operate in three reportable segments: Roadway Sensors, Vehicle Sensors and Transportation Systems. The Roadway Sensors segment includes our Vantage, VersiCam and Pico vehicle detection systems for traffic intersection control, incident detection and certain highway traffic data collection applications, as well as our Abacus family of products. The Vehicle Sensors segment includes our lane departure warning (“LDW”) products, including our AutoVue LDW system, and is comprised of all of our activities related to in-vehicle safety. The Transportation Systems segment includes transportation engineering and consulting services, and the development of transportation management and traveler information systems for the ITS industry.

 

Our Roadway Sensors segment product line uses advanced image processing technology to capture and analyze video images through sophisticated algorithms, enabling vehicle detection and transmission of both video images and data using various communication technologies.

 

·      Our Vantage video detection systems detect vehicle presence at intersections, as well as vehicle count, speed and other traffic data used in traffic management systems. Our Vantage systems give traffic managers the ability to mitigate roadway congestion by modifying traffic signal timing or detecting incidents quickly.

 

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·                  VersiCam, our integrated camera and processor video detection system, is a cost-efficient video detection system for smaller intersections that require only a few detection points.

 

·                  Pico, our compact video detection system, was developed primarily to address international video detection needs, and was designed for easy installation and configuration.

 

·                  Our Abacus products take advantage of the large number of existing installed closed-circuit television video feeds monitoring roadways, signalized intersections, tunnels and bridges to allow for data collection and incident detection without the set-up and calibration generally required with other systems.

 

We believe that future growth domestically and internationally, particularly in developing countries, will be dependent in part on the continued adoption of above-ground video detection technologies, instead of traditional in-pavement loop technology, to manage traffic.

 

Our Vehicle Sensors segment addresses the leading cause of roadway fatalities: lane change, roadway departure and rear-end collision accidents. We developed the world’s first production LDW system and offer a proven system that is available as an original equipment manufacturer (“OEM”) and aftermarket option on heavy trucks worldwide and as an option in certain passenger cars. Our LDW products utilize video detection images to detect when a vehicle begins to drift toward an unintended lane change. When this occurs, the unit automatically emits a distinctive rumble strip or other audible warning sound, alerting the driver to make a correction. We believe that as a result of the expected 2013 European Union (“EU”) mandate for LDW and other active safety systems, and an overall awareness of the potential benefits of LDW, that we will experience an even higher degree of competition from a variety of tier-one OEM suppliers and other potential market entrants worldwide. While we believe that this increased competition validates the long-term market opportunity for LDW systems in commercial vehicles, it could also adversely affect our future LDW sales and margins. We are currently working with our European OEM customer base to establish long-term supply agreements that extend to 2013 and beyond in order to meet the anticipated increase in demand; however, we cannot assure you that our efforts will be successful or that the increase in demand will occur. We have entered into an exclusive license of our LDW technology to our strategic partner, Valeo Schalter and Sensuren GmbH (“Valeo”), for the passenger car market. Recently, we and our partner have experienced a greater degree of competition in the passenger car market, as several passenger car OEMs have introduced vehicle platforms with competing LDW systems. However, Valeo continues to pursue opportunities in the passenger car market.

 

In addition to our LDW systems, our Vehicle Sensors portfolio includes radar-based Forward Collision Warning (“FCW”) and Blind Spot Warning (“BSW”) systems for the North American truck market, and our SafetyDirect product, a system that reports driver performance data captured by our LDW system, and has the ability to relay this data directly to fleet operators through integration with the truck’s existing fleet communications system. We offer the FCW and BSW features through the resale of Delphi’s radar-based systems, for which we are the exclusive North American dealer, while SafetyDirect was internally developed. These products, together with our LDW products, combine to create a suite of active safety driver assistance features focused on reducing the number of motor vehicle crashes and the severity of crash-related injuries.

 

Our Transportation Systems segment includes transportation engineering and consulting services focused on the planning, design, development and implementation of software-based systems that integrate sensors, video surveillance, computers, and advanced communications equipment to enable public agencies to monitor, control and direct traffic flow, assist in the quick dispatch of emergency crews and distribute real-time information about traffic conditions. Our services include planning, design and implementation of surface transportation infrastructure systems. We perform analysis and study goods movement, commercial vehicle operations, travel demand forecasting and systems engineering, and identify mitigation measures to reduce traffic congestion. Historically, these services and systems have primarily been sold to local, state and national transportation agencies in the United States under a broad range of fixed price and cost plus fixed fee contracts; however, in the fiscal year ended March 31, 2010 (“fiscal 2010”), we began work on our first two overseas contract awards and plan to pursue additional international opportunities for our Transportation Systems segment.

 

Our Transportation Systems segment is largely dependent upon governmental funding and is affected by state and local budgetary issues. We believe the overall expansion of our Transportation Systems segment in the future will at least in part be dependent on the passage of a new Federal Highway Bill, which Congress is currently working on. We anticipate continued delays in the enactment of such a new bill, and until such time as a bill becomes law, the allotment of transportation funds in federal, state and local budgets may be uncertain. We believe that prolonged uncertainty has and may continue to adversely impact our net sales and contract revenues and our overall financial performance in future periods.

 

In April 2009, we completed the acquisition of certain assets of Hamilton Signal, which included the Abacus system, for an aggregate purchase price of approximately $518,000.

 

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Critical Accounting Policies and Estimates

 

“Management’s Discussion and Analysis of Financial Condition and Results of Operations” is based on our unaudited consolidated financial statements included herein, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and related disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an ongoing basis, we evaluate these estimates and assumptions, including those related to the collectibility of accounts receivable, the valuation of inventories, the recoverability of long-lived assets and goodwill, the realizability of deferred tax assets, accounting for stock-based compensation, the valuation of equity instruments, warranty reserves and other contingencies. We base these estimates on historical experience and on various other factors that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. These estimates and assumptions by their nature involve risks and uncertainties, and may prove to be inaccurate. In the event that any of our estimates or assumptions are inaccurate in any material respect, it could have a material adverse effect on our reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.

 

The accounting policies that affect our more significant judgments and estimates used in the preparation of our unaudited condensed consolidated financial statements are those relating to revenue recognition, accounts receivable, inventory, goodwill, warranty, income taxes, and stock-based compensation. These policies are described in further detail in our Annual Report on Form 10-K for our fiscal year ended March 31, 2010 (“fiscal 2010”). There have been no significant changes in our critical accounting policies and estimates during the six months ended September 30, 2010 as compared to what was previously disclosed in our Annual Report on Form 10-K for fiscal 2010, except for our revenue recognition policy, which has been updated as follows:

 

Revenue Recognition. We record product revenues and related costs of sales upon transfer of title, which is generally upon shipment or, if required, upon acceptance by the customer, provided that we believe collectibility of the net sales amount is reasonably assured. Accordingly, at the date revenue is recognized, the significant uncertainties concerning the sale have been resolved.

 

We recognize revenue from the sale of deliverables that are part of a multiple-element arrangement in accordance with applicable accounting guidance that establishes a selling price hierarchy permitting the use of an estimated selling price to determine the allocation of arrangement consideration to a deliverable in a multiple-element arrangement where neither vendor specific objective evidence (“VSOE”) nor third-party evidence (“TPE”) is available for that deliverable. In the absence of VSOE or TPE of the standalone selling price for one or more delivered or undelivered elements in a multiple-element arrangement, we are required to estimate the selling prices of those elements. Overall arrangement consideration is allocated to each element (both delivered and undelivered items) based on their relative selling prices, regardless of whether those selling prices are evidenced by VSOE or TPE or are based on our estimated selling prices.

 

We account for multiple-element arrangements that consist only of software and software-related services in accordance with industry-specific accounting guidance for software and software-related transactions. For such transactions, revenue on arrangements that include multiple elements is allocated to each element based on the relative fair value of each element, and fair value is generally determined by VSOE. If we cannot objectively determine the fair value of any undelivered element included in such multiple-element arrangements and the only undelivered element is post-contract customer support or maintenance, and VSOE of the fair value of such support or maintenance does not exist, revenue from the entire arrangement is recognized ratably over the support period. When the fair value of a delivered element has not been established, but VSOE of fair value exists for the undelivered elements, we use the residual method to recognize revenue if the fair value of all undelivered elements is determinable. Under the residual method, the fair value of the undelivered elements is deferred and the remaining portion of the arrangement fee is allocated to the delivered elements and is recognized as revenue.

 

Contract revenues are derived primarily from long-term contracts with governmental agencies. Contract revenues include costs incurred plus a portion of estimated fees or profits determined using the percentage of completion method of accounting based on the relationship of costs incurred to total estimated costs. Any anticipated losses on contracts are charged to earnings when identified. Changes in job performance and estimated profitability, including those arising from contract penalty provisions and final contract settlements, may result in revisions to recognized costs and revenues and are recognized in the period in which the revisions are determined. Profit incentives are included in revenue when their realization is reasonably assured. Under the percentage of completion method, recognition of profit is dependent upon the accuracy of a variety of estimates, including engineering progress, materials quantities, and achievement of milestones, incentives, penalty provisions, labor productivity, cost estimates and others. Such estimates are based on various professional judgments we make with respect to those factors and are subject to change as the project proceeds and new information becomes available.

 

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In addition to product and contract revenues, we derive revenue from the provision of specific non-recurring contract engineering services to our strategic partner, Valeo, related to our LDW systems, and royalties earned on unit sales of our LDW systems by Valeo to the passenger car market. Non-recurring contract engineering revenues are recognized in the period in which the related services are performed. Royalty revenues are recorded based on unit sales of our products by Valeo and are recognized in the period in which such sales occur. Non-recurring contract engineering revenues and royalty revenues are included in our net sales.

 

Revenues from follow-on service and support, for which we generally charge separately, are recorded in the period in which the services are performed and are included in our net sales.

 

Recent Accounting Pronouncements

 

Refer to Note 1 of Notes to Unaudited Condensed Consolidated Financial Statements, included in Part I, Item 1 of this report for a discussion of recent accounting pronouncements.

 

Results of Operations

 

The following table sets forth statement of income data as a percentage of total net sales and contract revenues for the periods indicated:

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

September 30,

 

September 30,

 

 

 

2010

 

2009

 

2010

 

2009

 

 

 

 

 

 

 

 

 

 

 

Net sales and contract revenues:

 

 

 

 

 

 

 

 

 

Net sales

 

63.0

%

56.9

%

61.6

%

52.2

%

Contract revenues

 

37.0

 

43.1

 

38.4

 

47.8

 

Total net sales and contract revenues

 

100.0

%

100.0

%

100.0

%

100.0

%

 

 

 

 

 

 

 

 

 

 

Costs of net sales and contract revenues:

 

 

 

 

 

 

 

 

 

Cost of net sales

 

32.3

 

29.7

 

30.5

 

28.0

 

Cost of contract revenues

 

23.0

 

26.1

 

24.8

 

30.8

 

Gross profit

 

44.7

 

44.2

 

44.8

 

41.2

 

Operating expenses:

 

 

 

 

 

 

 

 

 

Selling, general and administrative

 

30.3

 

30.5

 

29.9

 

29.8

 

Research and development

 

7.4

 

5.9

 

6.7

 

6.3

 

Amortization of intangible assets

 

0.3

 

0.3

 

0.2

 

0.3

 

Total operating expenses

 

38.0

 

36.7

 

36.8

 

36.3

 

Operating income

 

6.8

 

7.5

 

7.9

 

4.9

 

Non-operating income (expense):

 

 

 

 

 

 

 

 

 

Other income (expense), net

 

0.1

 

(0.0

)

0.1

 

0.1

 

Interest expense, net

 

(0.3

)

(0.5

)

(0.3

)

(0.5

)

Income before income taxes

 

6.6

 

7.0

 

7.7

 

4.4

 

Provision for income taxes

 

(2.8

)

(3.4

)

(3.2

)

(2.1

)

Net income

 

3.8

%

3.7

%

4.5

%

2.3

%

 

Analysis of Quarterly Results of Operations

 

Net Sales and Contract Revenues. Net sales are comprised of product sales from our Roadway Sensors and Vehicle Sensors segments, as well as contract engineering revenue and royalty revenue generated from our Vehicle Sensors segment. Contract revenues consist entirely of Transportation Systems contract revenues, which are generated from systems integration and ITS consulting services primarily with federal, state, county and municipal agencies.

 

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The following tables present details of our net sales and contract revenues for the three and six months ended September 30, 2010 and 2009:

 

 

 

Three Months Ended

 

 

 

 

 

 

 

September 30,

 

Increase

 

%

 

 

 

2010

 

2009

 

(Decrease)

 

Change

 

 

 

(In thousands, except percentages)

 

Roadway Sensors

 

$

7,248

 

$

7,082

 

$

166

 

2.3

%

Vehicle Sensors

 

1,620

 

1,380

 

240

 

17.4

 

Net sales

 

8,868

 

8,462

 

406

 

4.8

 

Contract revenues

 

5,218

 

6,403

 

(1,185

)

(18.5

)

Total net sales and contract revenues

 

$

14,086

 

$

14,865

 

$

(779

)

(5.2

)

 

 

 

Six Months Ended

 

 

 

 

 

 

 

September 30,

 

Increase

 

%

 

 

 

2010

 

2009

 

(Decrease)

 

Change

 

 

 

(In thousands, except percentages)

 

Roadway Sensors

 

$

14,941

 

$

12,957

 

$

1,984

 

15.3

%

Vehicle Sensors

 

3,389

 

2,438

 

951

 

39.0

 

Net sales

 

18,330

 

15,395

 

2,935

 

19.1

 

Contract revenues

 

11,430

 

14,104

 

(2,674

)

(19.0

)

Total net sales and contract revenues

 

$

29,760

 

$

29,499

 

$

261

 

0.9

 

 

We have historically had a diverse customer base. For the six months ended September 30, 2010, no individual customer represented greater than 10% of our total net sales and contract revenues. In the corresponding period in the prior fiscal year, one individual customer accounted for approximately 10% of our total net sales and contract revenues.

 

Roadway Sensors

 

The increases in Roadway Sensors net sales for the three and six months ended September 30, 2010 as compared to the corresponding periods in the prior year were driven by higher domestic sales volumes from both our direct sales and dealer markets. In the current period, we also saw particular strength, both domestically and internationally, in certain of our newer product lines such as VersiCam and Abacus. In the prior year periods, particularly in the first quarter, we experienced significantly lower sales primarily as a result of the downturn in the overall economy, which brought declines in commercial and residential construction, reductions and delays in spending on infrastructure projects and government budgetary pressures.

 

Vehicle Sensors

 

Vehicle Sensors net sales were primarily made up of sales of our LDW systems to the heavy truck market, which aggregated approximately $1.5 million and $3.1 million for the three and six months ended September 30, 2010, respectively, compared to $1.2 million and $2.0 million for the three and six months ended September 30, 2009, respectively. In the prior year, we experienced a significant slowdown in overall LDW unit shipments to each of our key markets, driven largely by the weakness in the U.S. and worldwide economy at that time. Comparatively, in the current year periods, we have seen relatively higher unit sales, particularly to our foreign OEM heavy truck customers in Europe and Japan, as well as to our domestic truck fleet customers. We remain cautious in the outlook for the remainder of our current fiscal year. We anticipate that Vehicle Sensors unit sales in future periods could be adversely impacted by, among other factors, slower than expected adoption rates of our LDW system across each of our target markets and the continuing uncertainty in the global economic environment. Additionally, future unit sales of LDW systems and unit pricing could be adversely impacted as a result of increased competition in this market.

 

Also included in Vehicle Sensors net sales are revenues from contract engineering services and royalty revenues in the passenger car market that are derived from our strategic relationship with Valeo, which aggregated approximately $155,000 and $296,000 for the three and six months ended September 30, 2010, respectively, compared to $191,000 and $439,000 for the three and six months ended September 30, 2009, respectively. The net overall decline in the current fiscal year continues to be the result of decreases in contract engineering services provided to Valeo as the pertinent engineering development activities have generally reached maturity for the related vehicle platforms that currently incorporate our LDW system. The decrease in contract engineering services is partially offset by an increase in our royalty revenues in the current fiscal year as compared to the prior fiscal year. Our LDW systems are currently offered as an option on four Infiniti models. While Valeo is promoting our LDW systems to other passenger car OEMs, we cannot assure you that Valeo will be successful in these efforts.

 

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Contract Revenues

 

Contract revenues are primarily dependent upon the continued availability of funding at the local, state and federal levels from the various agencies and departments of transportation. For the three and six months ended September 30, 2010, the decrease in our contract revenues compared to the corresponding periods in the prior year are primarily the result of  the overall slowdown in the market, which has been aggravated by a general lengthening of the overall sales cycle, from the bid and proposal process, to the signing of a contract and commencement of work on a project, as well as delays on certain existing contracts. In the prior year periods, we experienced higher revenues from several large contracts which contained higher than usual amounts of sub-consulting content. In the future, we plan to continue to pursue large contracts that may contain significant sub-consulting content, which will likely contribute to variability in the timing and amount of our contract revenues from period to period.

 

Gross Profit.  The following tables present details of our gross profit for the three and six months ended September 30, 2010 and 2009:

 

 

 

Three Months Ended

 

 

 

 

 

 

 

September 30,

 

 

 

%

 

 

 

2010

 

2009

 

Decrease

 

Change

 

 

 

(In thousands, except percentages)

 

Total gross profit

 

$

6,301

 

$

6,570

 

$

(269

)

(4.1

)%

Total gross profit as a % of total net sales and contract revenues

 

44.7

%

44.2

%

 

 

 

 

Gross profit as a % of net sales

 

48.8

%

47.9

%

 

 

 

 

Gross profit as a % of contract revenues

 

37.9

%

39.4

%

 

 

 

 

 

 

 

Six Months Ended

 

 

 

 

 

 

 

September 30,

 

 

 

%

 

 

 

2010

 

2009

 

Increase

 

Change

 

 

 

(In thousands, except percentages)

 

Total gross profit

 

$

13,318

 

$

12,152

 

$

1,166

 

9.6

%

Total gross profit as a % of total net sales and contract revenues

 

44.8

%

41.2

%

 

 

 

 

Gross profit as a % of net sales

 

50.6

%

46.4

%

 

 

 

 

Gross profit as a % of contract revenues

 

35.4

%

35.5

%

 

 

 

 

 

Our total gross profit and total gross profit as a percent of total net sales and contract revenues increased for the six months ended September 30, 2010 as compared to the corresponding period in the prior year  primarily as a result of our product and service mix, whereby product net sales represented approximately 62% of our total net sales and contract revenues in the current period as compared to only 52% in the prior year period. Our product net sales generally carry higher margins than our contract revenues derived from our consulting services.

 

The increase in gross profit as a percent of net sales (“gross margin”) for the three and six months ended September 30, 2010 as compared to the corresponding periods in the prior year was primarily a result of higher overall net sales and margins in Roadway Sensors during the current year. Such higher margins were largely driven by our customer mix and lower costs for certain key materials. We generally enjoy higher gross margins on direct sales as compared to dealer and aftermarket sales. In Vehicle Sensors, we also saw significant improvement in our year over year gross margins as a result of overall higher sales levels in the current period which provided for improved overhead absorption. Additionally, in the prior year periods, we recorded certain estimates for excess and obsolete inventory in our Vehicle Sensors segment, which adversely affected our gross margins in that period. Gross profit as a percentage of net sales can fluctuate in any specific quarter or year based on, among other factors, customer and product mix, competitive pricing requirements, product warranty costs and provisions for excess and obsolete inventories, as well as possible shifts of engineering resources from development activities to sustaining activities, which we record as cost of goods sold.

 

We recognize contract revenues and related gross profit using percentage of completion contract accounting, and the underlying mix of contract activity affects the related gross profit recognized in any given period. Gross profit as a percent of contract revenues for the three months ended September 30, 2010 was down approximately 150 basis points compared to the corresponding period in the prior year primarily due to both lower overall revenues in the current year period, as well as contract mix. In the current six month period, gross profit as a percent of contract revenues was relatively consistent between the current and prior year periods. We expect the variability and related timing of sub-consulting content in our Transportation Systems contracts in future periods to continue to cause fluctuations in this segment’s gross margins from period to period.

 

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Selling, General and Administrative Expense.  The following tables present selling, general and administrative expense for the three and six months ended September 30, 2010 and 2009:

 

 

 

Three Months Ended

 

Three Months Ended

 

 

 

 

 

 

 

September 30, 2010

 

September 30, 2009

 

 

 

 

 

 

 

 

 

% of Net

 

 

 

% of Net

 

 

 

 

 

 

 

 

 

Sales and

 

 

 

Sales and

 

 

 

 

 

 

 

 

 

Contract

 

 

 

Contract

 

Increase

 

%

 

 

 

Amount

 

Revenues

 

Amount

 

Revenues

 

(Decrease)

 

Change

 

 

 

(In thousands, except percentages)

 

Salary and personnel-related

 

$

2,995

 

21.3

%

$

3,020

 

20.3

%

$

(25

)

(0.8

)%

Facilities, insurance and supplies

 

572

 

4.1

 

677

 

4.6

 

(105

)

(15.5

)

Travel and conferences

 

335

 

2.4

 

351

 

2.4

 

(16

)

(4.6

)

Professional and outside services

 

308

 

2.2

 

294

 

2.0

 

14

 

4.8

 

Other

 

61

 

0.4

 

185

 

1.2

 

(124

)

(67.0

)

Selling, general and administrative

 

$

4,271

 

30.3

%

$

4,527

 

30.5

%

$

(256

)

(5.7

)

 

 

 

Six Months Ended

 

Six Months Ended

 

 

 

 

 

 

 

September 30, 2010

 

September 30, 2009

 

 

 

 

 

 

 

 

 

% of Net

 

 

 

% of Net

 

 

 

 

 

 

 

 

 

Sales and

 

 

 

Sales and

 

 

 

 

 

 

 

 

 

Contract

 

 

 

Contract

 

Increase

 

%

 

 

 

Amount

 

Revenues

 

Amount

 

Revenues

 

(Decrease)

 

Change

 

 

 

(In thousands, except percentages)

 

Salary and personnel-related

 

$

6,234

 

20.9

%

$

5,907

 

20.0

%

$

327

 

5.5

%

Facilities, insurance and supplies

 

1,215

 

4.1

 

1,272

 

4.3

 

(57

)

(4.5

)

Travel and conferences

 

745

 

2.5

 

696

 

2.4

 

49

 

7.0

 

Professional and outside services

 

726

 

2.4

 

589

 

2.0

 

137

 

23.3

 

Other

 

(8

)

(0.0

)

316

 

1.1

 

(324

)

(102.5

)

Selling, general and administrative

 

$

8,912

 

29.9

%

$

8,780

 

29.8

%

$

132

 

1.5

 

 

During the three months ended September 30, 2010, selling, general and administrative expenses were slightly lower than the prior year period primarily due to current year cost savings on certain facility leases and related expenses, along with lower overall “Other” expenses as described below.

 

The overall increase in selling, general and administrative expense for the six months ended September 30, 2010 compared to the corresponding period in the prior year was primarily due to (i) higher selling and commission-related expenses for our Roadway Sensors and Vehicle Sensors segments, as total net sales for both segments collectively increased approximately 19% from the prior year period and (ii) additional consulting and outside services expenses, primarily in our Vehicle Sensors segment related to market research and certain other sales and marketing activities. We also saw a shift from cost of sales to sales and marketing of certain of our headcount expenses in our Transportation Systems segment in the current period commensurate with the overall decline in this segment’s revenues and the reallocation of existing personnel. Additionally, in the six months ended September 30, 2010, we realized approximately $250,000 in net reversals of previously recorded bad debt expense (included in the “Other” category in the table above) as a result of collecting certain large accounts receivable balances. In prior periods, we had recorded an estimated allowance for doubtful accounts against these receivables given the uncertainty of collection at that time. In the future, our operating results in any given period may be favorably or adversely impacted as a result of our estimates of the realization of our accounts receivable.

 

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Research and Development Expense.  The following tables present research and development expense for the three and six months ended September 30, 2010 and 2009:

 

 

 

Three Months Ended

 

Three Months Ended

 

 

 

 

 

 

 

September 30, 2010

 

September 30, 2009

 

 

 

 

 

 

 

 

 

% of Net

 

 

 

% of Net

 

 

 

 

 

 

 

 

 

Sales and

 

 

 

Sales and

 

 

 

 

 

 

 

 

 

Contract

 

 

 

Contract

 

Increase

 

%

 

 

 

Amount

 

Revenues

 

Amount

 

Revenues

 

(Decrease)

 

Change

 

 

 

(In thousands, except percentages)

 

Salary and personnel-related

 

$

596

 

4.2

%

$

661

 

4.4

%

$

(65

)

(9.8

)%

Facilities, development and supplies

 

407

 

2.9

 

195

 

1.3

 

212

 

108.7

 

Other

 

37

 

0.3

 

28

 

0.2

 

9

 

32.1

 

Research and development

 

$

1,040

 

7.4

%

$

884

 

5.9

%

$

156

 

17.6

 

 

 

 

Six Months Ended

 

Six Months Ended

 

 

 

 

 

 

 

September 30, 2010

 

September 30, 2009

 

 

 

 

 

 

 

 

 

% of Net

 

 

 

% of Net

 

 

 

 

 

 

 

 

 

Sales and

 

 

 

Sales and

 

 

 

 

 

 

 

 

 

Contract

 

 

 

Contract

 

Increase

 

%

 

 

 

Amount

 

Revenues

 

Amount

 

Revenues

 

(Decrease)

 

Change

 

 

 

(In thousands, except percentages)

 

Salary and personnel-related

 

$

1,216

 

4.1

%

$

1,344

 

4.6

%

$

(128

)

(9.5

)%

Facilities, development and supplies

 

681

 

2.3

 

431

 

1.5

 

250

 

58.0

 

Other

 

84

 

0.3

 

73

 

0.2

 

11

 

15.1

 

Research and development

 

$

1,981

 

6.7

%

$

1,848

 

6.3

%

$

133

 

7.2

 

 

Research and development expenses for the three and six months ended September 30, 2010 were higher than the corresponding periods in the prior year due primarily to additional development and related activities associated with our Vehicle Sensors segment. We currently expect our total research and development expenditures for the current fiscal year will be slightly higher when compared to the prior fiscal year.

 

Interest Expense, Net.   Net interest expense of $42,000 and $82,000 for the three and six months ended September 30, 2010, respectively, was lower than the $71,000 and $157,000 for the three and six months ended September 30, 2009, respectively, primarily due to the overall lower level of borrowings in the current fiscal year, as we continue to make monthly principal payments on our term note. As a result, we currently anticipate our interest expense will continue to decline for the remainder of the fiscal year ending March 31, 2011. See “Liquidity and Capital Resources” below for additional details on our borrowings.

 

Income Taxes.  The following tables present our provision for income taxes for the three and six months ended September 30, 2010 and 2009:

 

 

 

Three Months Ended

 

 

 

 

 

 

 

September 30,

 

 

 

%

 

 

 

2010

 

2009

 

Decrease

 

Change

 

 

 

(In thousands, except percentages)

 

Provision for income taxes

 

$

388

 

$

501

 

$

(113

)

(23

)%

Effective tax rate

 

41.7

%

48.0

%

 

 

 

 

 

 

 

Six Months Ended

 

 

 

 

 

 

 

September 30,

 

 

 

%

 

 

 

2010

 

2009

 

Increase

 

Change

 

 

 

(In thousands, except percentages)

 

Provision for income taxes

 

$

951

 

$

611

 

$

340

 

56

%

Effective tax rate

 

41.5

%

47.1

%