LIQUIDITY AND BASIS OF PRESENTATION

3 Months Ended

Jul. 31, 2012

Liquidity And Basis Of Presentation

LIQUIDITY AND BASIS OF PRESENTATION

NOTE 1 - LIQUIDITY AND BASIS OF PRESENTATION

Basis of Presentation

The accompanying unaudited condensed consolidated financial statements include the accounts of WPCS International Incorporated (WPCS) and its wholly and majority-owned subsidiaries, as follows, collectively referred to as “we”, “us” or the "Company".  United States-based subsidiaries include WPCS Incorporated, WPCS International – Suisun City, Inc. (Suisun City Operations), WPCS International – Trenton, Inc. (Trenton Operations), WPCS International – Seattle, Inc . (Seattle Operations), and WPCS International – Portland, Inc. (Portland Operations). International operations include WPCS Asia Limited, 60% of Taian AGS Pipeline Construction Co. Ltd. (China Operations), and WPCS Australia Pty Ltd., WPCS International – Brendale, Pty Ltd., and The Pride Group (QLD) Pty Ltd. (Pride), (collectively, Australia Operations) .

The accompanying unaudited condensed consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (SEC) for quarterly reports on Form 10-Q of Article 10 of Regulation S-X and do not include all of the information and note disclosures required by accounting principles generally accepted in the United States of America. Accordingly, the unaudited condensed consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements and notes thereto for the fiscal year ended April 30, 2012 included in the Company’s Annual Report on Form 10-K. The accompanying unaudited condensed consolidated financial statements reflect all adjustments (consisting of normal recurring adjustments) which are, in the opinion of the management, considered necessary for a fair presentation of condensed consolidated financial position, results of operations and cash flows for the interim periods. Operating results for the three month period ended July 31, 2012 are not necessarily indicative of the results that may be expected for the fiscal year ending April 30, 2013. The amounts for the April 30, 2012 balance sheet have been extracted from the audited consolidated financial statements included in Form 10-K for the year ended April 30, 2012.

The Company provides design-build engineering services that focus on the implementation requirements of communications infrastructure. The Company provides its engineering capabilities including wireless communication, specialty construction and electrical power to the public services, healthcare, energy and corporate enterprise markets worldwide.

On September 1, 2011, the Company sold its wholly-owned subsidiaries, WPCS International - St. Louis, Inc. (St. Louis Operations) and its WPCS International -Sarasota, Inc. (Sarasota Operations).  On July 25, 2012, the Company sold substantially all of the assets of its wholly-owned subsidiaries, WPCS International - Hartford, Inc. (Hartford Operations) and WPCS International - Lakewood, Inc. (Lakewood Operations).  As a result, these condensed consolidated financial statements reflect the results of these four operations as discontinued operations for all periods presented, including certain reclassifications to prior year financial statements to present discontinued operations.

Going Concern

The accompanying consolidated financial statements have been prepared assuming the Company will continue as a going concern, which contemplates the realization of assets and satisfaction of liabilities in the normal course of business. The unaudited condensed consolidated financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts and the amount and classification of liabilities that might be necessary should the Company be unable to continue as a going concern.

As further described in Note 4, “Debt”, on January 27, 2012, WPCS and its United States-based subsidiaries Suisun City Operations, Seattle Operations, Portland Operations, Hartford Operations, Lakewood Operations, and Trenton Operations (collectively, the Subsidiaries),  entered into a loan and security agreement (the Credit Agreement) with Sovereign Bank, N.A. (Sovereign).

The Credit Agreement contains certain customary representations and warranties, affirmative and negative covenants, and events of default. Principal covenants include (a) Fixed Charge Coverage Ratio of not less than 1.2 to 1.0, measured as of April 30, 2012 and as of each fiscal quarter end thereafter, in each case on a trailing two (2) quarter basis; and (b) Leverage Ratio of not more than 1.75 to 1.0, measured as of each fiscal quarter end.  Due to the operating losses for the quarters ended April 30, 2012 and July 31, 2012, the Company did not meet the Fixed Charge Coverage Ratio of 1.2 to 1.0 for the two quarters ended April 30, 2012 and July 31, 2012, and the Leverage Ratio of not more than 1.75 to 1.0 at April 30, 2012, and the Company is currently in default under the Credit Agreement.

As a result, the Credit Agreement was amended on May 3, 2012 and on August 31, 2012.  On August 31, 2012, the Company entered into the Second Amendment to Loan and Security Agreement (the Second Amendment) to the Credit Agreement with Sovereign. The Second Amendment reduced the maximum revolving line of credit in amount not to exceed $2,000,000. As of September 12, 2012, the total amount available to borrow under the Credit Agreement was $1,759,119, and the total advance amount outstanding was $204,619, resulting in net availability for future borrowings of $1,554,500. The reduction in the revolving line of credit did not require the Company to pay down any additional borrowings as the total amount of outstanding borrowings was not in excess of the total amount available to borrow.  In connection with the Second Amendment, Sovereign reserved all of its available rights and/or remedies as a result of the defaults of the financial covenants, including the right to demand repayment of amounts outstanding immediately or the right to withhold or cease making credit advances under the Credit Agreement.  If Sovereign decided to demand repayment of existing amounts outstanding under the Credit Agreement, the Company would not have the ability to satisfy this current repayment obligation to Sovereign. If Sovereign exercised any of its available rights, it would have a serious adverse effect on the Company’s business, operations and future prospects.  As a result, the Company is considering the following alternatives to repay Sovereign, including but not limited to: (1)  seeking alternative debt financing and has commenced discussions with other senior lenders to replace the Credit Agreement; (2) divestiture of  additional assets or operations; or (3) merger with or sale of the Company to a third party.

As more fully described in Note 10, “Commitments and Contingencies,” on July 12, 2012, the Company executed the Surety Financing and Confession of Judgment Agreement (the Zurich Agreement) with Zurich American Insurance Company (Zurich). The Company is not in compliance with the terms of the Zurich Agreement.  As a result of the Company’s noncompliance, the Company instructed the owner of this project to make at all current and future payments directly to Zurich.

The Company’s failure to comply with the terms of the Credit Agreement and the Zurich Agreement, as well as the Company’s losses from operations for the three months ended July 31, 2012 raise substantial doubt about the Company’s ability to continue as a going concern. At July 31, 2012, the Company had cash and cash equivalents of $1,257,920 and working capital of $1,412,252, which consisted of current assets of $20,145,533 and current liabilities of $18,733,281. As of September 12, 2012, the Company had remaining availability under the Credit Agreement of $1,554,500.

Based on current projections, the Company does not expect its available cash, working capital balances, operating expense management and expected future operating income to be sufficient to cover its liquidity needs beyond the end of its second fiscal quarter or early into its third fiscal quarter for the fiscal year ending April 30, 2013.   The Company's continuation as a going concern is ultimately dependent upon its future financial performance and ability to refinance or restructure its credit facilities, which will be affected by general economic, competitive, and other factors, many of which are beyond the Company's control. There can be no assurance that the execution of one or more of the alternatives described above to repay Sovereign will be successful to ensure the Company’s continuation as a going concern .   The report of our independent registered public accounting firm for the year ended April 30, 2012 contained an emphasis paragraph indicating there is substantial doubt concerning our ability to continue as a going concern.