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United States
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
 
FORM 10-Q 
 
 
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the Quarterly Period Ended
June 30, 2014
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 0-10843
 
 
CSP Inc.
(Exact name of Registrant as specified in its Charter)
 

Massachusetts
04-2441294
(State of incorporation)
(I.R.S. Employer Identification No.)
 
43 Manning Road
Billerica, Massachusetts 01821-3901
(978) 663-7598
(Address and telephone number of principal executive offices)
 
 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.     Yes  x    No  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  x    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 the 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 (Do not check if a smaller reporting company)
Smaller reporting company
x
 
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 August 6, 2014, the registrant had 3,609,648 shares of common stock issued and outstanding.

1


INDEX
 
 
 
Page
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


2


PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

CSP INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Amounts in thousands, except par value) 
 
June 30,
2014
 
September 30,
2013
 
(Unaudited)
 
 
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
16,450

 
$
18,619

Accounts receivable, net of allowances of $226 and $242
15,775

 
13,529

Inventories, net
6,868

 
4,791

Refundable income taxes
254

 
624

Deferred income taxes
1,144

 
1,313

Other current assets
2,561

 
2,042

Total current assets
43,052

 
40,918

Property, equipment and improvements, net
1,446

 
1,420

 
 
 
 
Other assets:
 

 
 

Intangibles, net
578

 
410

Deferred income taxes
1,674

 
1,771

Cash surrender value of life insurance
2,763

 
2,481

Other assets
226

 
225

Total other assets
5,241

 
4,887

Total assets
$
49,739

 
$
47,225

 
 
 
 
LIABILITIES AND SHAREHOLDERS’ EQUITY
 
 
 
Current liabilities:
 
 
 
Accounts payable and accrued expenses
$
11,073

 
$
10,503

Deferred revenue
5,523

 
3,816

Pension and retirement plans
768

 
746

Income taxes payable

 
60

Total current liabilities
17,364

 
15,125

Pension and retirement plans
8,680

 
8,660

Other long term liabilities
67

 
405

Total liabilities
26,111

 
24,190

 
 
 
 
Commitments and contingencies


 


 
 
 
 
Shareholders’ equity:
 
 
 
Common stock, $.01 par value per share; authorized, 7,500 shares; issued and outstanding 3,597 and 3,496 shares, respectively
36

 
35

Additional paid-in capital
11,402

 
11,137

Retained earnings
17,993

 
17,728

Accumulated other comprehensive loss
(5,803
)
 
(5,865
)
Total shareholders’ equity
23,628

 
23,035

Total liabilities and shareholders’ equity
$
49,739

 
$
47,225

See accompanying notes to unaudited consolidated financial statements.

3


CSP INC. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS
(Amounts in thousands, except for per share data)

 
For the three months ended
 
For the nine months ended
 
June 30,
2014
 
June 30,
2013
 
June 30,
2014
 
June 30,
2013
Sales:
 
 
 
 
 
 
 
Product
$
15,677

 
$
14,783

 
$
44,745

 
$
49,625

Services
6,959

 
4,250

 
20,126

 
16,101

Total sales
22,636

 
19,033

 
64,871

 
65,726

 
 
 
 
 
 
 
 
Cost of sales:
 
 
 
 
 
 
 
Product
13,048

 
12,284

 
37,270

 
41,184

Services
3,474

 
2,914

 
11,705

 
10,763

Amortization of inventory step-up and intangibles
10

 

 
177

 

Total cost of sales
16,532

 
15,198

 
49,152

 
51,947

 
 
 
 
 
 
 
 
Gross profit
6,104

 
3,835

 
15,719

 
13,779

 
 
 
 
 
 
 
 
Operating expenses:
 
 
 
 
 
 
 
Engineering and development
945

 
437

 
2,372

 
1,261

Selling, general and administrative
4,192

 
4,065

 
12,169

 
11,790

Total operating expenses
5,137

 
4,502

 
14,541

 
13,051

 
 
 
 
 
 
 
 
Bargain purchase gain on acquisition, net of tax

 

 
462

 

 
 
 
 
 
 
 
 
Operating income (loss)
967

 
(667
)
 
1,640

 
728

 
 
 
 
 
 
 
 
Other income (expense):
 
 
 
 
 
 
 
Foreign exchange gain (loss)
(67
)
 
13

 
(120
)
 
18

Other income (expense), net
(37
)
 
(11
)
 
(58
)
 
18

Total other income (expense), net
(104
)
 
2

 
(178
)
 
36

Income (loss) before income taxes
863

 
(665
)
 
1,462

 
764

Income tax expense (benefit)
(36
)
 
(187
)
 
50

 
387

Net income (loss)
$
899

 
$
(478
)
 
$
1,412

 
$
377

Net income (loss) attributable to common stockholders
$
863

 
$
(468
)
 
$
1,361

 
$
369

Net income (loss) per share – basic
$
0.25

 
$
(0.14
)
 
$
0.40

 
$
0.11

Weighted average shares outstanding – basic
3,451

 
3,396

 
3,442

 
3,378

Net income (loss) per share – diluted
$
0.25

 
$
(0.14
)
 
$
0.39

 
$
0.11

Weighted average shares outstanding – diluted
3,499

 
3,396

 
3,488

 
3,432

 
See accompanying notes to unaudited consolidated financial statements.

4


CSP INC. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Amounts in thousands)

 
 
For the three months ended
 
For the nine months ended
 
 
June 30,
2014
 
June 30,
2013
 
June 30,
2014
 
June 30,
2013
 
 
 
 
 
 
 
 
 
Net income (loss)
 
$
899

 
$
(478
)
 
$
1,412

 
$
377

Other comprehensive income (loss):
 
 
 
 
 
 
 
 
Foreign currency translation gain (loss) adjustments
 
(92
)
 
15

 
62

 
(1
)
Other comprehensive income (loss)
 
(92
)
 
15

 
62

 
(1
)
Total comprehensive income (loss)
 
$
807

 
$
(463
)
 
$
1,474

 
$
376


See accompanying notes to unaudited consolidated financial statements.


5


CSP INC. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY
For the nine Months Ended June 30, 2014:
(Amounts in thousands, except per share data)
 
 
Shares
 
Amount
 
Additional
Paid-in
Capital
 
Retained
Earnings
 
Accumulated
other
comprehensive
loss
 
Total
Shareholders’
Equity
Balance as of September 30, 2013
3,496

 
$
35

 
$
11,137

 
$
17,728

 
$
(5,865
)
 
$
23,035

Net income

 

 

 
1,412

 

 
1,412

Other comprehensive income

 

 

 

 
62

 
62

Exercise of stock options
1

 

 
6

 

 

 
6

Stock-based compensation

 

 
259

 

 

 
259

Restricted stock issuance
100

 
1

 

 

 

 
1

Cash dividends on common stock ($0.32 per share)

 

 

 
(1,147
)
 

 
(1,147
)
Balance as of June 30, 2014
3,597

 
$
36

 
$
11,402

 
$
17,993

 
$
(5,803
)
 
$
23,628

 
See accompanying notes to unaudited consolidated financial statements.

6


CSP INC. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Amounts in thousands)
 
For the nine months ended
 
June 30,
2014
 
June 30,
2013
Cash flows from operating activities:
 
 
 
Net income
$
1,412

 
$
377

Adjustments to reconcile net income to net cash used in operating activities:
 

 
 

Bargain purchase gain
(462
)
 

Depreciation and amortization
364

 
324

Amortization of intangibles
92

 
62

Loss (gain) on sale of fixed assets, net
2

 
(17
)
Foreign exchange (gain) loss
120

 
(18
)
Non-cash changes in accounts receivable
(17
)
 
27

Non-cash changes in inventory
146

 

Stock-based compensation expense on stock options and restricted stock awards
260

 
112

Deferred income taxes
273

 
334

Increase in cash surrender value of life insurance
(114
)
 
(73
)
Changes in operating assets and liabilities:
 

 
 

Increase in accounts receivable
(2,110
)
 
(354
)
Decrease in officer life insurance receivable

 
2,172

(Increase) decrease in inventories
(1,160
)
 
1,060

(Increase) decrease in refundable income taxes
373

 
(158
)
Increase in other current assets
(485
)
 
(276
)
Increase in other assets

 
(81
)
Increase (decrease) in accounts payable and accrued expenses
425

 
(1,955
)
Increase in deferred revenue
1,662

 
307

Decrease in pension and retirement plans liability
(168
)
 
(175
)
Decrease in income taxes payable
(311
)
 
(136
)
Increase (decrease) in other long term liabilities
(338
)
 
73

Net cash provided by (used in) operating activities
(36
)
 
1,605

Cash flows from investing activities:
 

 
 

Life insurance premiums paid
(167
)
 
(198
)
Proceeds from the sale of fixed assets
6

 
17

Cash paid to acquire business
(500
)
 

Purchases of property, equipment and improvements
(370
)
 
(675
)
Net cash used in investing activities
(1,031
)
 
(856
)
Cash flows from financing activities:
 

 
 

Dividends paid
(1,148
)
 
(1,034
)
Proceeds from issuance of shares from exercise of employee stock options
6

 
114

Net cash used in financing activities
(1,142
)
 
(920
)
Effects of exchange rate on cash
40

 
(76
)
Net decrease in cash and cash equivalents
(2,169
)
 
(247
)
Cash and cash equivalents, beginning of period
18,619

 
20,493

Cash and cash equivalents, end of period
$
16,450

 
$
20,246

Supplementary cash flow information:
 

 
 

Cash paid for income taxes
$
96

 
$
383

Cash paid for interest
$
85

 
$
85

 
 
 
 
 See accompanying notes to unaudited consolidated financial statements.

7


CSP INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
THREE AND NINE MONTHS ENDED JUNE 30, 2014 AND 2013

 
Organization and Business
 
CSP Inc. was founded in 1968 and is based in Billerica, Massachusetts. To meet the diverse requirements of its industrial, commercial and defense customers worldwide, CSP Inc. and its subsidiaries (collectively “CSPI” or the “Company”) develop and market IT integration solutions and high-performance cluster computer systems. The Company operates in two segments, its High Performance Products and Solutions segment and its Information Technology Solutions segment.
 
1.         Basis of Presentation
 
The accompanying consolidated financial statements have been prepared by the Company, without audit, and reflect all adjustments which, in the opinion of management, are necessary for a fair statement of the results of the interim periods presented. All adjustments were of a normal recurring nature. Certain information and footnote disclosures normally included in the annual financial statements, which are prepared in accordance with accounting principles generally accepted in the United States, have been condensed or omitted. Accordingly, the Company believes that although the disclosures are adequate to make the information presented not misleading, the unaudited financial statements should be read in conjunction with the footnotes contained in the Company’s Annual Report on Form 10-K for the fiscal year ended September 30, 2013.
 
2.        Use of Estimates
 
The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results may differ from those estimates under different assumptions or conditions.
 
3.  Acquired Business  

On November 4, 2013 the Company acquired substantially all of the assets of Myricom, Inc. ("Myricom").  Myricom has been integrated into the High Performance Products and Solutions business segment.  Prior to our acquisition, Myricom was a manufacturer of high performance interconnect computing devices and software.  The Company acquired Myricom in order to obtain (i) Myricom’s interconnect technology, which is critical to our latest MultiComputer products and (ii) a strong base of new customers in commercial growth markets.  The Company also retained key Myricom technical personnel.  Myricom was a key supplier to CSPI’s MultiComputer Division.  Its interconnect technology is an important component of the latest generation MultiComputer products that we currently supply to our customers.

Although Myricom was an established business prior to our acquisition, it had previously sold off a significant portion of its business and was faced with the likelihood of having to shut down operations if it could not find a buyer to purchase its remaining assets.  This was because the revenue that Myricom was able to generate from these remaining assets was not sufficient to support its cost structure so as to enable Myricom to operate at a profit.  These factors contributed to a purchase price that resulted in the recognition of a bargain purchase gain.  The Company paid total cash consideration of approximately $0.5 million to acquire substantially all of the assets of Myricom and incurred approximately $0.1 million for the assumption of certain other liabilities.  The purchase of Myricom resulted in the recognition of a bargain purchase gain of approximately $0.5 million.  The bargain purchase gain is shown net of the federal and state tax effect.

 
The purchase price was allocated as follows:

8


 
(Amounts in Thousands)
Inventory
$
1,030

Property & equipment
17

Intangibles
260

Gross assets acquired
1,307

Product warranty liability assumed
(93
)
Net assets acquired
1,214

Less: asset purchase price
500

Bargain purchase gain before tax
714

Deferred tax on bargain purchase gain
(252
)
Bargain purchase gain, net of tax effect
$
462

The results of operations of Myricom for the the three months ended June 30, 2014 and for the period November 4, 2013 - June 30, 2014 are included in the Company’s consolidated statement of operations for the three and nine months ended June 30, 2014, respectively.

The following proforma condensed combined financial information gives effect to the acquisition of Myricom as if it were consummated on October 1, 2012 (the beginning of the comparable prior reporting period), and includes proforma adjustments related to the bargain purchase gain, amortization of inventory step-up and acquired intangible assets. The proforma condensed combined financial information is presented for informational purposes only. The proforma condensed combined financial information is not intended to represent or be indicative of the results of operations that would have been reported had the acquisition occurred on October 1, 2012 and should not be taken as representative of future results of operations of the combined company.
The following table presents the proforma condensed combined financial information (in thousands, except per share amounts):
 
For the three months ended
 
For the nine months ended
 
June 30, 2014
 
June 30, 2013
 
June 30, 2014
 
June 30, 2013
 
(Amounts in thousands except per share data)
Revenue
$
22,636

 
$
20,942

 
$
65,489

 
$
71,166

Net income (loss)
$
903

 
$
(649
)
 
$
1,127

 
$
(1,514
)
Net income (loss) attributable to common stockholders
$
868

 
$
(636
)
 
$
1,087

 
$
(1,484
)
Net income (loss) per share – basic
$
0.25

 
$
(0.19
)
 
$
0.32

 
$
(0.44
)
Net income (loss) per share – diluted
$
0.25

 
$
(0.19
)
 
$
0.31

 
$
(0.44
)

The proforma condensed combined financial information shown above includes proforma adjustments to eliminate certain items directly relating to the business combination which reduced net income by approximately $0.3 million for the nine month period ended June 30, 2014.
 

4.        Earnings Per Share of Common Stock
 
Basic net income per common share is computed by dividing net income available to common shareholders by the weighted average number of common shares outstanding for the period. Diluted net income per common share reflects the maximum dilution that would have resulted from the assumed exercise and share repurchase related to dilutive stock options and is computed by dividing net income by the assumed weighted average number of common shares outstanding.
 
We are required to present earnings per share, or EPS, utilizing the two class method because we had outstanding, non-vested share-based payment awards that contain non-forfeitable rights to dividends or dividend equivalents, which are considered participating securities.
 

9


Basic and diluted earnings per share computations for the Company’s reported net income attributable to common stockholders are as follows:

 
For the three months ended
 
For the nine months ended
 
June 30, 2014
 
June 30, 2013
 
June 30, 2014
 
June 30, 2013
 
(Amounts in thousands except per share data)
Net income (loss)
$
899

 
$
(478
)
 
$
1,412

 
$
377

Less: net income (loss) attributable to nonvested common stock
36

 
(10
)
 
51

 
8

Net income (loss) attributable to common stockholders
$
863

 
$
(468
)
 
$
1,361

 
$
369

 
 
 
 
 
 
 
 
Weighted average total shares outstanding – basic
3,593

 
3,468

 
3,572

 
3,447

Less: weighted average non-vested shares outstanding
142

 
72

 
130

 
69

Weighted average number of common shares outstanding – basic
3,451

 
3,396

 
3,442

 
3,378

Potential common shares from non-vested stock awards and the assumed exercise of stock options
48

 

 
46

 
54

Weighted average common shares outstanding – diluted
3,499

 
3,396

 
3,488

 
3,432

 
 
 
 
 
 
 
 
Net income per share – basic
$
0.25

 
$
(0.14
)
 
$
0.40

 
$
0.11

Net income per share – diluted
$
0.25

 
$
(0.14
)
 
$
0.39

 
$
0.11

 
All anti-dilutive securities, including certain stock options, are excluded from the diluted income per share computation. For the three months ended June 30, 2014 and 2013, 58,000 and 173,000 options, respectively, were excluded from the diluted income per share calculation because their inclusion would have been anti-dilutive as their exercise price exceeded fair value. For the nine months ended June 30, 2014 and 2013, 52,000 and 162,000 options, respectively, were excluded from the diluted income per share calculation because their inclusion would have been anti-dilutive as their exercise price exceeded fair value.

5.         Inventories

Inventories consist of the following:
 
June 30, 2014
 
September 30, 2013
 
(Amounts in thousands)
Raw materials
$
2,327

 
$
1,587

Work-in-process
824

 
404

Finished goods
3,717

 
2,800

Total
$
6,868

 
$
4,791

 
Finished goods includes inventory that has been shipped, but for which all revenue recognition criteria has not been met, of approximately $0.2 million and $0.5 million as of June 30, 2014 and September 30, 2013, respectively.
 
Total inventory balances in the table above are shown net of reserves for obsolescence of approximately $4.6 million as of June 30, 2014 and September 30, 2013.
 

6.        Accumulated Other Comprehensive Loss
 
 The components of accumulated other comprehensive loss are as follows:


10


 
 
June 30, 2014
 
September 30, 2013
 
 
(Amounts in thousands)
Cumulative effect of foreign currency translation
 
$
(2,094
)
 
$
(2,156
)
Cumulative unrealized loss on pension liability
 
(3,709
)
 
(3,709
)
Accumulated other comprehensive loss
 
$
(5,803
)
 
$
(5,865
)


7.         Pension and Retirement Plans
 
The Company has defined benefit and defined contribution plans in the United Kingdom, Germany and the U.S. In the United Kingdom and Germany, the Company provides defined benefit pension plans and defined contribution plans for the majority of its employees. In the U.S., the Company provides benefits through supplemental retirement plans to certain current and former employees. The domestic supplemental retirement plans have life insurance policies which are not plan assets but were purchased by the Company as a vehicle to fund the costs of the plan. Domestically, the Company also provides for officer death benefits through post-retirement plans to certain officers.  All of the Company’s defined benefit plans are closed to newly hired employees and have been for the two years ended September 30, 2013 and for the nine months ended June 30, 2014.

The Company funds its pension plans in amounts sufficient to meet the requirements set forth in applicable employee benefits laws and local tax laws. Liabilities for amounts in excess of these funding levels are accrued and reported in the consolidated balance sheets.
 
Our pension plan in the United Kingdom is the only plan with plan assets. The plan assets consist of an investment in a commingled fund which in turn comprises a diversified mix of assets including corporate equity securities, government securities and corporate debt securities.
 
The components of net periodic benefit costs related to the U.S. and international plans are as follows:
 
 
For the Three Months Ended June 30,
 
2014
 
2013
 
Foreign
 
U.S.
 
Total
 
Foreign
 
U.S.
 
Total
 
(Amounts in thousands)
Pension:
 
 
 
 
 
 
 
 
 
 
 
Service cost
$
10

 
$

 
$
10

 
$
15

 
$

 
$
15

Interest cost
196

 
17

 
213

 
163

 
16

 
179

Expected return on plan assets
(120
)
 

 
(120
)
 
(96
)
 

 
(96
)
Amortization of:
 

 
 

 
 

 
 

 
 

 
 

Prior service gain

 

 

 

 

 

Amortization of net gain
24

 
(3
)
 
21

 
35

 
6

 
41

Net periodic benefit cost
$
110

 
$
14

 
$
124

 
$
117

 
$
22

 
$
139

 
 
 
 
 
 
 
 
 
 
 
 
Post Retirement:
 

 
 

 
 

 
 

 
 

 
 

Service cost
$

 
$
3

 
$
3

 
$

 
$

 
$

Interest cost

 
10

 
10

 

 
8

 
8

Amortization of net gain

 
(35
)
 
(35
)
 

 
(44
)
 
(44
)
Net periodic benefit cost
$

 
$
(22
)
 
$
(22
)
 
$

 
$
(36
)
 
$
(36
)


11


 
For the nine Months Ended June 30,
 
2014
 
2013
 
Foreign
 
U.S.
 
Total
 
Foreign
 
U.S.
 
Total
 
(Amounts in thousands)
Pension:
 
 
 
 
 
 
 
 
 
 
 
Service cost
$
34

 
$

 
$
34

 
$
45

 
$

 
$
45

Interest cost
579

 
51

 
630

 
509

 
48

 
557

Expected return on plan assets
(352
)
 

 
(352
)
 
(304
)
 

 
(304
)
Amortization of:
 
 
 
 
 
 
 
 
 
 
 
Prior service gain

 

 

 

 

 

Amortization of net gain
70

 
(7
)
 
63

 
107

 
18

 
125

Net periodic benefit cost
$
331

 
$
44

 
$
375

 
$
357

 
$
66

 
$
423

 
 
 
 
 
 
 
 
 
 
 
 
Post Retirement:
 

 
 

 
 

 
 

 
 

 
 

Service cost
$

 
$
8

 
$
8

 
$

 
$

 
$

Interest cost

 
32

 
32

 

 
26

 
26

Amortization of net gain

 
(107
)
 
(107
)
 

 
(136
)
 
(136
)
Net periodic benefit cost
$

 
$
(67
)
 
$
(67
)
 
$

 
$
(110
)
 
$
(110
)


12


8.        Segment Information
 
Beginning in the period ended March 31, 2014, we have renamed our segments. We have renamed the segment that was formerly known as the Systems segment to the High Performance Products and Solutions segment. We have also renamed the segment that was formerly known as the Service and System Integration segment to the Information Technology Solutions segment.

The following table presents certain operating segment information.
 
 
 
 
Information Technology Solutions Segment
 
 
For the Three Months Ended June 30,
 
High Performance Products and Solutions
Segment
 
Germany
 
United
Kingdom
 
U.S.
 
Total
 
Consolidated
Total
 
 
(Amounts in thousands)
2014
 
 
 
 
 
 
 
 
 
 
 
 
Sales:
 
 
 
 
 
 
 
 
 
 
 
 
Product
 
$
2,697

 
$
3,323

 
$
368

 
$
9,289

 
$
12,980

 
$
15,677

Service
 
2,137

 
3,546

 
402

 
874

 
4,822

 
6,959

Total sales
 
4,834

 
6,869

 
770

 
10,163

 
17,802

 
22,636

Income (loss) from operations
 
999

 
43

 
(20
)
 
(55
)
 
(32
)
 
967

Assets
 
15,932

 
15,271

 
3,595

 
14,941

 
33,807

 
49,739

Capital expenditures
 
57

 
17

 

 
1

 
18

 
75

Depreciation and amortization
 
53

 
46

 
4

 
48

 
98

 
151

 
 
 
 
 
 
 
 
 
 
 
 
 
2013
 
 

 
 

 
 

 
 

 
 

 
 

Sales:
 
 

 
 

 
 

 
 

 
 

 
 

Product
 
$
454

 
$
1,471

 
$
45

 
$
12,813

 
$
14,329

 
$
14,783

Service
 
159

 
3,064

 
328

 
699

 
4,091

 
4,250

Total sales
 
613

 
4,535

 
373

 
13,512

 
18,420

 
19,033

Income (loss) from operations
 
(1,093
)
 
(96
)
 
(58
)
 
580

 
426

 
(667
)
Assets
 
15,340

 
13,046

 
3,457

 
17,427

 
33,930

 
49,270

Capital expenditures
 
108

 
52

 
1

 
38

 
91

 
199

Depreciation and amortization
 
40

 
47

 
2

 
43

 
92

 
132


13


 
 
 
 
Information Technology Solutions Segment
 
 
For the nine Months Ended June 30,
 
High Performance Products and Solutions
Segment
 
Germany
 
United
Kingdom
 
U.S.
 
Total
 
Consolidated
Total
 
 
(Amounts in thousands)
2014
 
 
 
 
 
 
 
 
 
 
 
 
Sales:
 
 
 
 
 
 
 
 
 
 
 
 
Product
 
$
5,873

 
$
8,176

 
$
1,351

 
$
29,345

 
$
38,872

 
$
44,745

Service
 
4,485

 
12,220

 
1,034

 
2,387

 
15,641

 
20,126

Total sales
 
10,358

 
20,396

 
2,385

 
31,732

 
54,513

 
64,871

Income (loss) from operations
 
1,254

 
256

 
(19
)
 
149

 
386

 
1,640

Assets
 
15,932

 
15,271

 
3,595

 
14,941

 
33,807

 
49,739

Capital expenditures
 
159

 
118

 
45

 
48

 
211

 
370

Depreciation and amortization
 
159

 
141

 
12

 
144

 
297

 
456

 
 
 
 
 
 
 
 
 
 
 
 
 
2013
 
 

 
 

 
 

 
 

 
 

 
 

Sales:
 
 

 
 

 
 

 
 

 
 

 
 

Product
 
$
3,044

 
$
7,329

 
$
309

 
$
38,943

 
$
46,581

 
$
49,625

Service
 
1,259

 
10,839

 
1,059

 
2,944

 
14,842

 
16,101

Total sales
 
4,303

 
18,168

 
1,368

 
41,887

 
61,423

 
65,726

Income (loss) from operations
 
(1,317
)
 
125

 
(73
)
 
1,993

 
2,045

 
728

Assets
 
15,340

 
13,046

 
3,457

 
17,427

 
33,930

 
49,270

Capital expenditures
 
247

 
179

 
7

 
242

 
428

 
675

Depreciation and amortization
 
116

 
135

 
9

 
126

 
270

 
386


Income (loss) from operations consists of sales less cost of sales, engineering and development, selling, general and administrative expenses but is not affected by either other income/expense or by income taxes expense/benefit. Non-operating charges/income consists principally of investment income and interest expense.  All intercompany transactions have been eliminated.
 
The following table lists customers from which the Company derived revenues in excess of 10% of total revenues for the three and nine months ended June 30, 2014, and 2013.

 
 
For the three months ended,
 
For the nine months ended,
 
 
June 30, 2014
 
June 30, 2013
 
June 30, 2014
 
June 30, 2013
 
 
Amount
 
% of
Revenues
 
Amount
 
% of
Revenues
 
Amount
 
% of
Revenues
 
Amount
 
% of
Revenues
 
(dollars in millions)
Customer A
 
$
3.7

 
17
%
 
$
1.3

 
7
%
 
$
11.8

 
18
%
 
$
12.2

 
19
%
Customer B
 
$
3.6

 
16
%
 
$
2.6

 
14
%
 
$
12.5

 
19
%
 
$
9.9

 
15
%
Customer C
 
$

 
%
 
$
3.8

 
20
%
 
$

 
%
 
$
8.0

 
12
%

Accounts receivable from Customer B totaled approximately $3.2 million, which comprised 20% of total consolidated accounts receivable as of June 30, 2014, and $3.5 million, which comprised 26% of total consolidated accounts receivable as of September 30, 2013. We believe that the Company is not exposed to any particular credit risk with respect to the accounts receivable with this customer.


14


9.        Fair Value Measures
 
Assets and Liabilities measured at fair value on a recurring basis are as follows:
 
 
Fair Value Measurements Using
 
Level 1
 
Level 2
 
Level 3
 
Total
Balance
 
As of June 30, 2014
 
(Amounts in thousands)
Assets:
 
 
 
 
 
 
 
Money Market funds
$
1,006

 
$

 
$

 
$
1,006

Total assets measured at fair value
$
1,006

 
$

 
$

 
$
1,006

 
 
 
 
 
 
 
 

 
As of September 30, 2013
 
(Amounts in thousands)
Assets:
 

 
 

 
 

 
 

Money Market funds
$
3,503

 
$

 
$

 
$
3,503

Total assets measured at fair value
$
3,503

 
$

 
$

 
$
3,503

 
These assets are included in cash and cash equivalents in the accompanying consolidated balance sheets.  All other monetary assets and liabilities are short-term in nature and approximate their fair value. The Company did not have any transfers between Level 1, Level 2 or Level 3 measurements.
 
The Company had no liabilities measured at fair value as of June 30, 2014 or September 30, 2013. The Company had no assets or liabilities measured at fair value on a non recurring basis as of June 30, 2014 or September 30, 2013.
 
10.    Dividend
On December 17, 2013, our board of directors declared a cash dividend of $0.10 per share which was paid on January 7, 2014 to shareholders of record as of December 27, 2013, the record date.

On February 11, 2014, our board of directors declared a cash dividend of $0.11 per share which was paid on March 11, 2014 to shareholders of record as of February 27, 2014, the record date.

On May 14, 2014, our board of directors declared a cash dividend of $0.11 per share which was paid on June 10, 2014 to shareholders of record as of May 30, 2014, the record date.




15


Item 2.     Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
Forward-Looking Statements
 
The discussion below contains certain forward-looking statements related to, among others, but not limited to, statements concerning future revenues and future business plans. In addition, forward-looking statements include statements in which we use words such as “expect,” “believe,” “anticipate,” “intend,” or similar expressions. Although we believe the expectations reflected in such forward-looking statements are based on reasonable assumptions, we cannot assure you that these expectations will prove to have been correct, and  actual results may vary from those contained in such forward-looking statements.
 
Markets for our products and services are characterized by rapidly changing technology, new product introductions and short product life cycles. These changes can adversely affect our business and operating results. Our success will depend on our ability to enhance our existing products and services and to develop and introduce, on a timely and cost effective basis, new products that keep pace with technological developments and address increasing customer requirements. The inability to meet these demands could adversely affect our business and operating results.
 
Critical Accounting Policies
 
Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. On an on-going basis, we evaluate our estimates, including those related to uncollectible receivables, inventory valuation, income taxes, deferred compensation and retirement plans, estimated selling prices used for revenue recognition and contingencies. We base our estimates on historical performance and on various other assumptions that are believed 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. Actual results may differ from these estimates under different assumptions or conditions. A description of our critical accounting policies is contained in our Annual Report on Form 10-K for the fiscal year ended September 30, 2013 in the “Critical Accounting Policies” section of Management’s Discussion and Analysis of Financial Condition and Results of Operations.
 
Results of Operations

Explanatory note

Beginning in the period ending and as of March 31, 2014, we have renamed our segments. We have renamed the segment that was formerly known as the Systems segment to the High Performance Products and Solutions ("HPPS") segment. We have also renamed the segment that was formerly known as the Service and System Integration segment to the Information Technology Solutions ("ITS") segment.

Overview of the nine months ended June 30, 2014 Results of Operations

Overview:

 Revenue decreased by approximately $0.9 million, or 1%, to $64.9 million for the nine months ended June 30, 2014 versus $65.7 million for the nine months ended June 30, 2013. Our gross profit margin percentage increased overall, from 21% for the nine months ended June 30, 2013 to 24% for the nine months ended June 30, 2014. The increase in the gross profit margin resulted from a higher percentage of revenue having been derived from the HPPS segment and higher royalty revenue in the nine months ended June 30, 2014 versus the prior year nine-month period. The percentage of revenue from the HPPS segment for the nine months ended June 30, 2014 was 16% with royalty revenue of approximately $3.8 million versus 7% and $0.8 million in royalty revenue for the prior year nine-month period. Operating income increased by $0.9 million to approximately $1.6 million for the nine-month period ended June 30, 2014 versus $0.7 million for the nine months ended June 30, 2013. This increase in operating income was due to an increase in gross profit of approximately $1.9 million, a bargain purchase gain of $0.5 million on the acquisition of Myricom, Inc. during the nine months ended June 30, 2014, partially offset by an increase in operating expenses of approximately $1.5 million, due in large part to the operating expenses of Myricom. Net income was $1.4 million for nine-month period ended June 30, 2014 versus $0.4 million for the nine months ended June 30, 2013.


16


The following table details our results of operations in dollars and as a percentage of sales for the nine months ended June 30, 2014 and 2013:
 
 
 
June 30, 2014
 
%
of sales
 
June 30, 2013
 
%
of sales
 
 
(Dollar amounts in thousands)
Sales
 
$
64,871

 
100
 %
 
$
65,726

 
100
%
Costs and expenses:
 
 

 
 

 
 

 
 

Cost of sales
 
49,152

 
76
 %
 
51,947

 
79
%
Engineering and development
 
2,372

 
4
 %
 
1,261

 
2
%
Selling, general and administrative
 
12,169

 
19
 %
 
11,790

 
18
%
Total costs and expenses
 
63,693

 
99
 %
 
64,998

 
99
%
Bargain purchase gain, net of tax
 
462

 
1
 %
 

 
%
Operating income
 
1,640

 
2
 %
 
728

 
1
%
Other income (expense)
 
(178
)
 
 %
 
36

 
%
Income before income taxes
 
1,462

 
2
 %
 
764

 
1
%
Income tax expense
 
50

 
 %
 
387

 
%
Net income
 
$
1,412

 
2
 %
 
$
377

 
1
%


Sales
 
The following table details our sales by operating segment for the nine months ended June 30, 2014 and 2013:
 
 
 
HPPS
 
ITS
 
Total
 
% of
Total
 
 
(Dollar amounts in thousands)
For the nine Months Ended June 30, 2014:
 
 
 
 
 
 
 
 
Product
 
$
5,873

 
$
38,872

 
$
44,745

 
69
%
Services
 
4,485

 
15,641

 
20,126

 
31
%
Total
 
$
10,358

 
$
54,513

 
$
64,871

 
100
%
% of Total
 
16
%
 
84
%
 
100
%
 
 

 
 
 
HPPS
 
ITS
 
Total
 
% of
Total
For the nine Months Ended June 30, 2013:
 
 

 
 

 
 

 
 

Product
 
$
3,044

 
$
46,581

 
$
49,625

 
76
%
Services
 
1,259

 
14,842

 
16,101

 
24
%
Total
 
$
4,303

 
$
61,423

 
$
65,726

 
100
%
% of Total
 
7
%
 
93
%
 
100
%
 
 

 

17


 
 
HPPS
 
ITS
 
Total
 
%
increase (decrease)
Increase (Decrease)
 
 

 
 

 
 

 
 

Product
 
$
2,829

 
$
(7,709
)
 
$
(4,880
)
 
(10
)%
Services
 
3,226

 
799

 
4,025

 
25
 %
Total
 
$
6,055

 
$
(6,910
)
 
$
(855
)
 
(1
)%
% increase (decrease)
 
141
%
 
(11
)%
 
(1
)%
 
 

 
Total revenues decreased by approximately $0.9 million, or 1%, for the nine months ended June 30, 2014 compared to the nine months ended June 30, 2013.  Revenue in the HPPS segment increased for the current year nine-month period versus the prior year nine-month period by approximately $6.1 million, while revenues in the ITS segment decreased by approximately $6.9 million.
 
Product revenues decreased by approximately $4.9 million, or 10%, for the nine months ended June 30, 2014 compared to the comparable period of the prior fiscal year. Product revenues in the ITS segment decreased by approximately $7.7 million while in the HPPS segment, product revenue increased by approximately $2.8 million for the nine-month period ended June 30, 2014 versus the nine month period ended June 30, 2013.

The increase in product revenues in the HPPS segment of approximately $2.8 million was due substantially to revenues from the acquisition of Myricom, Inc., which the Company acquired during the nine months ended June 30, 2014. Myricom revenues for the period were approximately $4.7 million. Partially offsetting this increase, revenues from our Japanese defense customer, US defense customer and sales from the US PCDA division decreased by approximately $1.4 million, $0.4 million and $0.1 million, respectively.

In the US division of the ITS segment, product sales decreased by approximately $9.6 million, while product sales in the German and UK divisions of the segment increased by approximately $0.8 million, and $1.0 million, respectively.
 
In the US division's existing customer base, product sales to major customers in the IT Hosting vertical and the Education vertical decreased by approximately $8.0 million and $1.3 million, respectively. The decrease in the IT hosting vertical was due to the loss of a major customer in this vertical. The decrease in the Education vertical reflected a non-recurring large project in the prior year.

In Germany, the $0.8 million increase in product revenue was the result of increased sales in the division’s telecommunications vertical of approximately $0.9 million, favorable foreign exchange rate fluctuation and $0.4 million, partially offset by decreased sales of $0.5 million in all other verticals. In the UK, the increase in product sales of approximately $1.0 million is attributable to increased sales resources focused on increasing product sales in that region.

Service revenues increased by approximately $4.0 million, or 25%.  This increase was made up of an increase in the HPPS segment of $3.2 million and an increase in the ITS segment of approximately $0.8 million. The increase in the HPPS segment service revenue was due to higher royalty income recorded in the nine months ended June 30, 2014 which was approximately $3.8 million versus $0.8 million for the nine months ended June 30, 2013. In addition revenue from maintenance contracts increased by approximately $0.2 million for the nine months ended June 30, 2014 versus the nine months ended June 30, 2013.

The increase in service revenues in the ITS segment was due to an increase in the German division, where service revenue increased by approximately $1.4 million, partially offset by a decrease in service revenues of approximately $0.6 million in the US division. In Germany, the increase in service sales was made up of approximately $0.5 million from favorable foreign exchange, and increased service revenues in the division's telecommunications vertical of approximately $1.4 million. These increases were partially offset by decreased sales in the industrial and IT Services verticals of approximately $0.4 million and $0.1 million, respectively. The decrease in service revenue in the US division of the segment was primarily from lower professional service project revenue of approximately $0.3 million and lower third party maintenance revenue of approximately $0.3 million for the nine months ended June 30, 2014 versus the nine months ended June 30, 2013.
 

18


Our sales by geographic area, based on the location to which the products were shipped or services rendered, are as follows:
 
 
 
For the nine months ended,
 
 
 
 
 
 
June 30, 2014
 
%
 
June 30, 2013
 
%
 
$ Increase
(Decrease)
 
% Increase
(Decrease)
 
 
(Dollar amounts in thousands)
Americas
 
$
40,846

 
63
%
 
$
43,699

 
66
%
 
$
(2,853
)
 
(7
)%
Europe
 
22,548

 
35
%
 
19,590

 
30
%
 
2,958

 
15
 %
Asia
 
1,477

 
2
%
 
2,437

 
4
%
 
(960
)
 
(39
)%
Totals
 
$
64,871

 
100
%
 
$
65,726

 
100
%
 
$
(855
)
 
(1
)%
 
The decrease in Americas revenue for the nine months ended June 30, 2014 versus the nine months ended June 30, 2013 was primarily the result of an overall decrease in sales to the Americas in the ITS segment where combined product and service sales to US customers decreased by an aggregate $9.3 million where the IT Hosting vertical and the Education vertical decreased by approximately $8.0 million and $1.3 million, respectively. The decrease in the IT hosting vertical was due to the loss of a major customer in this vertical. The decrease in the Education vertical reflected a non-recurring large project in the prior year. This decrease was partially offset by an increase in sales to US customers in the HPPS segment of approximately $6.4 million, which was driven by Myricom sales to US customers of approximately $3.8 million and increased sales in the US defense vertical of the HPPS segment of approximately $2.6 million. The change in sales in Europe was from an increase of approximately $0.7 million from the HPPS segment, attributable to Myricom sales, and an increase in sales from the European divisions of the ITS segment of approximately $2.2 million. The decrease in Asia sales was the result of $1.2 million in lower sales from the HPPS segment to our customer which supplies the Japanese Department of Defense partially offset by increased sales of approximately $0.2 million to commercial Asian customers of Myricom products.

19


Cost of Sales and Gross Margins

The following table details our cost of sales and gross profit margins by operating segment for the nine months ended June 30, 2014 and 2013:

 
HPPS
 
ITS
 
Total
 
% of
Total
 
(Dollar amounts in thousands)
For the nine Months Ended June 30, 2014:
 
 
 
 
 
 
 
Product
$
3,474

 
$
33,796

 
$
37,270

 
76
 %
Services
110

 
11,595

 
11,705

 
24
 %
Amortization of inventory step-up and intangibles
177

 

 
177

 
 %
Total
$
3,761

 
$
45,391

 
$
49,152

 
100
 %
% of Total
8
 %
 
92
 %
 
100
 %
 
 

% of Sales
36
 %
 
83
 %
 
76
 %
 
 

Gross Margins:
 

 
 

 
 

 
 

Product
41
 %
 
13
 %
 
17
 %
 
 

Services
98
 %
 
26
 %
 
42
 %
 
 

Total
64
 %
 
17
 %
 
24
 %
 
 

 
 
 
 
 
 
 
 
For the nine Months Ended June 30, 2013:
 

 
 

 
 

 
 

Product
$
1,295

 
$
39,889

 
$
41,184

 
79
 %
Services
222

 
10,541

 
10,763

 
21
 %
Amortization of inventory step-up and intangibles