-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, K/WRzBhw3qsUUtdnukEjTiNkMqSKiLPw+gi45yK89/a9sKbioUd4eaGTvn+8oIMI x14QQSiXalURIX6IIKPUHA== 0000047035-96-000014.txt : 19961017 0000047035-96-000014.hdr.sgml : 19961017 ACCESSION NUMBER: 0000047035-96-000014 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 19960728 FILED AS OF DATE: 19961016 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: HERLEY INDUSTRIES INC /NEW CENTRAL INDEX KEY: 0000047035 STANDARD INDUSTRIAL CLASSIFICATION: SEARCH, DETECTION, NAVIGATION, GUIDANCE, AERONAUTICAL SYS [3812] IRS NUMBER: 232413500 STATE OF INCORPORATION: DE FISCAL YEAR END: 0731 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 000-05411 FILM NUMBER: 96643876 BUSINESS ADDRESS: STREET 1: 10 INDUSTRY DR CITY: LANCASTER STATE: PA ZIP: 17603 BUSINESS PHONE: 7173972777 MAIL ADDRESS: STREET 1: 10 INDUSTRY DRIVE CITY: LANCASTER STATE: PA ZIP: 17603 FORMER COMPANY: FORMER CONFORMED NAME: HERLEY MICROWAVE SYSTEMS INC DATE OF NAME CHANGE: 19900510 FORMER COMPANY: FORMER CONFORMED NAME: HERLEY INDUSTRIES INC DATE OF NAME CHANGE: 19831103 10-K 1 ANNUAL REPORT FORM 10-K UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K (Mark One) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [FEE REQUIRED] For the fiscal year ended July 28, 1996 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED] For the transition period from ...............to ............... Commission File No. 0-5411 Herley Industries, Inc. (Exact name of registrant as specified in its charter) Delaware 23-2413500 State or other jurisdiction (I.R.S. Employer of incorporation or organization Identification No.) 10 Industry Drive, Lancaster, Pennsylvania 17603 (Address of Principal Executive Offices ) (Zip Code) Registrant's telephone number, including area code:(717) 397-2777 Securities registered pursuant to Section 12(b) of the Act: Title of each class Name of Exchange on which registered None None Securities registered pursuant to Section 12(g) of the Act: Common Stock, $ .10 par value (Title of Class) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (ss.229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.[ ] Based on the closing sale price of $9.125 as of October 4, 1996 the aggregate market value of the voting stock held by non-affiliates of the registrant was $16,913,005. The number of shares outstanding of registrant's common stock, $ .10 par value was 2,938,522 as of October 4, 1996 Documents incorporated by reference: Registrant's definitive proxy statement to be filed pursuant to Regulation 14A of the Securities Exchange Act of 1934. HERLEY INDUSTRIES, INC. TABLE OF CONTENTS Page PART I Item 1 Business 1 Item 2 Properties 6 Item 3 Legal Proceedings 6 Item 4 Submission of Matters to a Vote of Security Holders 6 PART II Item 5 Market for Registrant's Common Equity and Related Stockholder Matters 7 Item 6 Selected Financial Data 7 Item 7 Management's Discussion and Analysis of Financial Condition and Results of Operations 8 Item 8 Financial Statements and Supplementary Data 10 Item 9 Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 10 PART III Item 10 Directors and Executive Officers of the Registrant 10 Item 11 Executive Compensation 10 Item 12 Security Ownership of Certain Beneficial Owners and Management 10 Item 13 Certain Relationships and Related Transactions 10 PART IV Item 14 Exhibits, Financial Statement Schedules and Reports on Form 8K 11 SIGNATURES 12 INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULES F-1 PART I Item 1. Business Herley Industries, Inc. ("Herley" or the "Company") principally designs, manufactures and sells flight instrumentation products, primarily to aerospace companies, the U.S. government, and several foreign governments. One of the Company's main products is a variety of transponders which are used to enhance radar signals to accurately track the flight of space launch vehicles and aircraft. The transponders are used in conjunction with target command and control systems, also manufactured by the Company, in the training of troops and the testing of weapons. These command and control systems are housed in shelters on training and testing ranges in the U. S. and in foreign countries. The Company has an established base of approximately 100 command and control systems installed around the world. These command and control systems are both shelter mounted and portable radar units. Herley also manufactures microwave devices used in its flight instrumentation products and in connection with the radar and defense electronic systems on tactical fighter aircraft. Since its inception in 1965, the Company has designed and manufactured microwave devices for use on various tactical military programs. In June 1986 the Company acquired a small engineering company engaged in the design and development of transponders. This acquisition enabled the Company to enter the flight instrumentation business beginning with the design and manufacture of range safety transponders. In September 1992, the Company acquired substantially all of the assets of Micro-Dynamics, Inc. of Woburn, Massachusetts, a microwave subsystem designer and manufacturer. In June of 1993, the Company acquired Vega Precision Laboratories, Inc. ("Vega") of Vienna, Virginia, and moved the operations to Lancaster, Pennsylvania in October, 1993. In March 1994, the Company entered into an exclusive license agreement for the manufacture, marketing and sale of the Multiple Aircraft GPS Integrated Command & Control (MAGIC2) systems. In July, 1995, the Company acquired certain assets and the business of Stewart Warner Electronics Corp. of Chicago, Illinois, a manufacturer of high frequency radio and IFF interrogator systems. With these recent acquisitions, the Company has reorganized into three operating facilities; HERLEY-VEGA SYSTEMS ("HVS"), operating in Lancaster, Pennsylvania; HERLEY-MDI ("MDI") operating in Woburn, Massachusetts, and Stewart Warner Electronics Co. ("SWE") operating in Chicago, Illinois. In January 1996 the Company created its Global Security Systems ("GSS") division, a marketing group, to serve the international marketplace. The Company manufactures flight instrumentation products, encompassing transponder products and command & control systems; and microwave products including microwave integrated circuits ("MIC's"), receiver-protectors, and magnetrons. Revenues from flight instrumentation products accounted for approximately 69%, 58% and 62%, and revenues from microwave products accounted for approximately 31%, 42% and 38%, of net revenues for the fiscal years 1996, 1995 and 1994, respectively. Herley's business strategy is to expand its product line by acquisition and by designing and manufacturing other flight instrumentation products for sale to the Company's existing domestic customers. In addition, the Company due to its broad product line, will seek to expand its foreign business. These major products include transponders, flight termination receivers, telemetry systems and telemetry data encoders. The Company believes that significant growth potential for the sale of flight instrumentation products to the space launch industry has been created by changes in government space policy, enabling private industry to launch satellites, and new technologies providing for broader use of satellites. 1 Products The Company manufactures and sells transponders, microwave devices, command and control systems, and other related products, in one industry segment, military electronics. The Company's business is not considered to be seasonal in nature. Transponders The Company manufactures a variety of transponders, including range safety, identification friend or foe (IFF), command and control, and scoring systems. Transponders are small electronic systems consisting of a transmitter, sensitive receiver and internal signal processing equipment. These electronic boxes are comprised of active and passive components, including microwave subassemblies such as amplifiers, oscillators and circulators. The transponder receives signals from radars, changes and amplifies the frequency of the signals, and sends back a reply on a different frequency and signal level. This reply will be a strong signal, free of noise, upon which the tracking radar can "lock." The transponder is generally placed upon the booster stage of a space launch vehicle, a missile being tested, a target at which a missile is being directed, or another unmanned or remotely piloted vehicle being operated and/or tested. Frequently, transponders are destroyed in the process of a test or space launch. The transponder provides "enhancement" or "augmentation" to the radar return, which is superior to the weak noise-filled echo produced by the skin reflection of the target. Certain transponders also provide communication with the vehicle in which the transponder is installed. In range safety applications, transponders enable accurate tracking of the vehicle so that its position and direction are known throughout its flight. In the case of several defense and commercial space launch vehicles (i.e., Delta, Atlas, Titan and Pegasus), the Herley transponder is tracked by the ground launch team all the way to space orbit, and in certain instances through several orbits, as a reference location point in space to assure that the launch payload has been properly placed in orbit. The use of the transponder is far more effective than simple skin tracking, particularly under adverse weather conditions after the launch. Identification friend or foe (IFF) transponders, which are used in conjunction with the FAA Air Traffic Control System, enable ground controllers to identify the unmanned targets, drones and cruise missiles on which these units fly. The transponders on board these vehicles reply to the ground interrogation with a unique signature response which both identifies the vehicle as unmanned and provides the means to track it. The ground controller can then ensure that commercial and private aircraft are vectored away from the flight path of the unmanned vehicle and kept at safe separations from it. Command and control transponders provide the link through the telemetry system for relaying ground signals to direct the vehicle's flight. The uplink from the ground control station, a series of coded pulse groups, carries the signals which command the flight control guidance system of the vehicle. The downlink to the ground provides both tracking signals for range safety, as well as acknowledgment and status of the uplink commands and their implementation in the vehicle. The transponder is therefore the means to fly the vehicle. Scoring systems are mounted on both airborne and sea targets. Scoring systems enable test and evaluation engineers to determine the "miss-distance" between a projectile and the target at which it has been launched. Command And Control Systems (C2S) For over thirty years, Vega Precision Laboratories, (now part of HERLEY-VEGA SYSTEMS ("HVS") in Lancaster, Pennsylvania) has been a leader in the radar enhancement field. HERLEY-VEGA command and control systems have been used to remotely fly a large variety of unmanned aerial vehicles, typically missiles 2 or aircraft used as target drones or Remote Piloted Vehicles (RPV's), and some surface targets. Operations have been conducted by many users on the open ocean, remote land masses, and instrumented test and training ranges. HERLEY-VEGA command and control systems are currently in service throughout the world, making HVS a primary supplier after three decades of experience and C2S specialization. The HERLEY-VEGA pulse-positioned-coded (PPC) concept enables the use of standard radar technology to track and control unmanned vehicles. Using the radar beacon mode, PPC pulse groups are transmitted and received for transfer of command and telemetry data while employing the location precision and advantages of radar techniques. Command and control systems permit a ground operation to fly a target or an Unmanned Airborne Vehicle (UAV) through a pre-planned mission. That mission may be for reconnaissance, where the vehicle is equipped with high definition TV sensors and the necessary data links to send information back to its C2 station. The UAV may also be used as a decoy, since the operator can direct the flight operations that will make the small drone appear to be a larger combat aircraft. Many foreign governments that maintain armed forces are users of HVS C2 S. A multi-million dollar development effort by Vega Precision Laboratories has resulted in the introduction of a new line of Target Tracking Control Systems (TTCS), the 6104 series. This new system technology centers largely around a multiple processor design, which provides improved operator control, system signal conditioning, high resolution graphics displays, resident software driven built-in-test, and enhanced system versatility. The new HERLEY-VEGA Model 6104 TTCS is a highly flexible design which can be field configured within minutes to fly or control any selected vehicle for which it is equipped. The system is delivered with the necessary command panels and graphics display software to operate with a large variety of vehicles. A basic TTCS configuration is normally supplied with a standard HERLEY-VEGA command panel and the software peculiar to one vehicle. Telemetry display software is embedded for the specified vehicle, and a magnetic hard disk drive is supplied with a mission map set prepared in accordance with a customer-supplied detailed map of the area. With the 1994 licensing of the MAGIC2 systems, HVS has significantly increased the selection of command and control systems it offers. The 6104 TTCS unit is a reliable line-of-sight C2 using system with a large installed base of equipment worldwide. HVS engineers and marketers are now able to offer the MAGIC2 system as a supplement to this installed base of equipment. The MAGIC2 affords over-the-horizon C2 using GPS guidance and control of multiple targets from a single ground station. The increasing interest by the U. S. Navy as well as foreign navies in littoral warfare scenarios can be ideally met by the use of the MAGIC2 system. In today's military world, surveillance of one's neighbors using UAV's, RPV's, or drones has become a standard operational discipline. A key advantage of the use of a UAV is that in the event of an accident or if the vehicle is shot down, the user is not faced with a hostage problem. These inexpensive drones are controlled in their flight by a HERLEY-VEGA shelter C2S, which is mounted in a trailer that may be moved from place to place by helicopter or truck. HERLEY-VEGA also supplies portable command and control systems that are mounted on tripods that can be easily transported by an operational team. The portable units permit ready deployment in rugged terrain and may also be used on shipboard during open ocean exercises. Microwave Devices Herley manufactures solid state microwave devices in both Lancaster, Pennsylvania and in Woburn, Massachusetts for use in its transponders and for use in existing long-term military programs both as part of new production and for spare parts and repair services. These microwave devices are used in a variety of radar, communications and missile applications, including airborne and shipboard navigation and missile guidance systems. 3 In Woburn, HERLEY-MDI designs and manufactures complex MIC's, which consist of sophisticated assemblies that perform many functions, primarily involving switching of microwave signals. MIC's manufactured by MDI are employed in almost all defense electronics military systems as well as in missile programs. A growing part of MDI's business is the production of receiver protector devices. These high power devices protect a radar receiver from transient bursts of microwave energy and are employed in almost every military and commercial radar. With the contraction of the defense business, only two domestic primary producers of receiver protectors remain - HERLEY-MDI and C.P.I., Inc. In Chicago, Stewart Warner Electronics Co. designs and manufactures high frequency radio and IFF interrogators. The high frequency communications equipment is used extensively by the U S. Navy as well as by foreign navies that conduct joint military exercises with the U. S. Navy. The IFF interrogators are used as part of shipboard equipment and are also placed on coastlines, where they are employed as silent sentries. Government Contracts A substantial part of the Company's sales are made to U.S. government agencies or prime contractors or subcontractors on military or aerospace programs. Government contracts are awarded either on a competitive bid basis or on a negotiated sole source procurement basis. Contracts awarded on a bid basis involve several competitors bidding on the same program with the contract being awarded based upon price and ability to perform. Negotiated sole source procurement is utilized if the Company is deemed by the customer to have developed proprietary equipment not available from other parties or where there is a very stringent delivery schedule. All of the Company's government contracts are fixed price contracts, some of which require delivery over time periods in excess of one year. With this type of contract, the Company agrees to deliver products at a fixed price except for costs incurred because of change orders issued by the customer. In accordance with Department of Defense procedures, all contracts involving government programs may be terminated by the government, in whole or in part, at the government's discretion. In the event of such a termination, prime contractors on such contracts are required to terminate their subcontracts on the program and the government or the prime contractor is obligated to pay the costs incurred by the Company under the contract to the date of termination plus a fee based upon work completed. Marketing and Distribution The Company's marketing approach is to determine customer requirements in the early stages of a program. Marketing and engineering personnel work directly with the customer's engineering group to develop product specifications. The Company receives its awards based upon an evaluation of a number of factors including technical ranking, price, overall capability and past performance. Follow-up contracts on the same program are normally negotiated with customers rather than being subject to a competitive bidding process. Backlog The Company's backlog of firm orders was approximately $23,770,000 on July 28, 1996 ($13,632,000 in domestic orders and $10,138,000 in foreign orders) as compared to approximately $24,975,000 on July 30, 1995 ($17,754,000 in domestic orders and $7,221,000 in foreign orders). Approximately $17,000,000 of the backlog is expected to be shipped during the fiscal year ending August 3, 1997. 4 Manufacturing, Assembly and Testing Flight instrumentation devices manufactured by the Company for military and space launch applications are subject to stringent testing procedures based upon customer requests. All of such testing is performed by the Company at its Lancaster facility. All electronic parts are procured in controlled lots which are subjected to extensive physical inspection and screening at Herley before use in products. Physical inspection requires the use of high power microscopes and laser scanned optical comparators, which match the characteristics of the part under inspection to previously stored images. The testing of high reliability space equipment is performed by complex computer-controlled consoles which take measurements that continuously monitor and analyze operating parameters. Flight instrumentation products are tested over their full operating temperature range, after which the equipment is evaluated under combined vibration and temperature cycling. For initial design qualification, this testing may extend for several months and includes evaluation of electromagnetic interference behavior (EMI), ability to survive pyrotechnic shock (simulating explosive charge detonation for space vehicle stage separation) and the combined effects of external vacuum with heating and cooling. Electronic components and other raw materials used in the Company's products are purchased by the Company from a large number of suppliers and all of such materials are readily available from alternate sources. The Company does not maintain any significant level of finished products inventory. Raw materials are generally purchased for specific contracts and common components are purchased for stock based on the Company's firm fixed backlog. There are no significant environmental control procedures required concerning the discharge of materials into the environment that would require the Company to invest in any significant capital equipment or that would have a material effect on the earnings of the Company or its competitive position. Product Development The Company believes that its growth depends on its ability to constantly renew and expand its technology, products, and design and manufacturing processes with an emphasis on cost effectiveness. The Company's primary efforts are focused on engineering design and product development activities rather than pure research. Several of the Company's officers and engineers have been involved at various times and in varying degrees in these activities. The cost of these development activities, including employees' time and prototype development, net of amounts paid by customers, was approximately $1,453,000, $970,000, and $1,367,000 in fiscal 1996, 1995, and 1994, respectively. Competition The flight instrumentation products which the Company manufactures are subject to varied competition dependent on the product and market serviced. Competition is generally based upon technology, design, price and past performance. Many of Herley's competitors are larger and may have greater financial resources than the Company. Competitors include Aydin Corporation, Lockheed Martin, Motorola, Inc., Microsystems, Inc, and AMP, Inc. Competition in follow-on procurements is generally limited after an initial award unless the original supplier has had performance problems. 5 Employees As of October 1, 1996, the Company employed 222 full-time persons. A total of 159 employees were engaged in manufacturing, 29 in engineering, 13 in marketing, contract administration and field services and the balance in general and administrative functions. None of the Company's employees are covered by collective bargaining agreements and the Company considers its employee relations to be satisfactory. The Company believes that its future success will depend, in part, on its continued ability to recruit and retain highly skilled technical, managerial and marketing personnel. To assist in recruiting and retaining such personnel, the Company has established competitive benefits programs, including an incentive stock option plan. Item 2. Properties The Company's operations are conducted at the following facilities: Area Owned Occupied or Location Purpose of Facility (sq. ft) Leased - -------- ------------------- -------- ------ Lancaster, PA (1) Production, engineering, administrative 71,200 Owned and executive offices Woburn, MA Production, engineering and administration 60,000 Owned Chicago, IL Production, engineering and administration 9,700 Leased - --------------------------- (1) The Company's executive offices occupy approximately 4,000 sq. ft. of space at this facility with engineering and administrative offices occupying 10,000 sq. ft. each. The Company believes that its facilities are adequate for its current and presently anticipated future needs. Item 3. Legal Proceedings In May and June 1994, the Company was served with two class action complaints against the Company and certain of its officers and directors in the United States District Court for the Eastern District of Pennsylvania. The claims were made under Section 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder. One of the claims is also based upon alleged negligence. The claims relate to the Company's acquisition of Carlton Industries, Inc. and its subsidiary, Vega Precision Laboratories, Inc. The claims were combined into one matter and a consolidated Complaint. In April, 1995, the Court certified that the claims based on the Securities Exchange Act may proceed as a Class Action pursuant to Rule 23(b) (3), but without prejudice to the rights of the parties thereafter to seek modification of the Class or revocation of leave to proceed. The Court refused to certify the negligence claim as a Class Action. In May, 1995, the parties negotiated a settlement of all claims in consideration for a payment of $450,000 subject to Notice to the Class and Court approval. A hearing on the proposed settlement is scheduled for October 15, 1996. In May, 1995, the Company was served with a Class Action Complaint against the Company and its Chief Executive Officer in the United States District Court for the Eastern District of Pennsylvania. The claim was made under Section 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10(b)-5 thereunder. The claim relates to the Company's settlement of the Litton Action in the Essex Superior Court of Massachusetts and alleges, inter alia, that there was insufficient disclosure by the Company of its true potential exposure in that claim. Cross motions for summary judgment have been filed and are pending before the Court. The Company believes it has a meritorious defense and intends to vigorously defend against the action. Item 4. Submission of Matters to a Vote of Security Holders Not Applicable. 6 PART II Item 5. Market for the Registrant's Common Equity and Related Stockholders Matters (a) The Company's Common Stock is traded in the over-the-counter National Market System under the symbol HRLY. The following table sets forth the high and low closing sales price as reported by NASDAQ National Market System for the Company's Common Stock for the periods indicated. Common Stock ------------ High Low ---- --- Fiscal Year 1995 First Quarter.................................. 5-1/2 3-5/8 Second Quarter................................. 4-1/8 2-9/16 Third Quarter ................................. 3-13/16 1-3/4 Fourth Quarter ................................ 5-5/8 3-3/16 Fiscal Year 1996 First Quarter.................................. 6-1/8 4-7/8 Second Quarter................................. 8-1/4 5-1/8 Third Quarter ................................. 10-5/8 7 Fourth Quarter ................................ 12-1/4 8 The closing price on October 4, 1996 was $9.125. (b) As of October 4, 1996, there were approximately 1,000 record holders of the Company's Common Stock. (c) There have been no cash dividends declared or paid by the Company on its Common Stock during the past two years. Item 6. Selected Financial Data
52 Weeks ended ------------------------------------------------ July 28, July 30, July 31, August 1, August 2, 1996 1995 1994 1993 1992 ---- ---- ---- ---- ---- Net Revenues $ 29,001,404 24,450,267 30,508,211 21,334,985 14,880,260 Earnings (loss) from continuing operations $ 3,668,956 (4,890,166) 1,861,429 1,391,098 2,495,960 Loss from discontinued operations $ - - - (2,463,642) (261,577) Cumulative effect of accounting change $ - - - 2,081,028 - ---------- ---------- ---------- ---------- ---------- Net Income (loss) $ 3,668,956 (4,890,166) 1,861,429 1,008,484 2,234,383 ========== ========== ========== ========== ========== Earnings (loss) per common and common equivalent share: Continuing operations $ 1.15 (1.31) .44 .35 .73 Discontinued operations - - - (.62) (.07) Change in accounting - - - .53 - ---- ---- --- --- --- Net Income (loss) $ 1.15 (1.31) .44 .26 .66 ==== ==== === === === Total Assets $ 42,508,942 42,229,282 53,752,454 58,813,878 31,972,809 Total Current Liabilities $ 7,559,306 9,973,866 10,217,598 14,369,213 3,116,177 Long-Term Debt net of current portion $ 11,021,000 10,525,000 14,822,834 14,054,128 4,270,000
7 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations Liquidity and Capital Resources As of July 28, 1996 and July 30, 1995, working capital was approximately $8,704,000 and $5,479,000, respectively, and the ratio of current assets to current liabilities was 2.15 to 1 and 1.55 to 1, respectively. As is customary in the defense industry, inventory is partially financed by progress payments. The unliquidated balance of these advanced payments was approximately $1,480,000 in 1996, and $1,477,000 in 1995. Net cash provided from operations was approximately $4,687,000 in 1996. The Company used approximately $4,013,000 in financing activities primarily for the payment of the litigation settlement of $2,000,000, and the purchase of treasury stock for $1,734,000. Net cash provided from investing activities of approximately $7,469,000 in 1995 results primarily from the liquidation of $8,105,000 of the Company's marketable securities. The Company used the proceeds from the sales of securities to pay down $6,000,000 of its long term bank debt, and $2,105,000 for the purchase of treasury stock. The Company maintains a revolving credit facility with a bank for an aggregate of $11,000,000 which expires January 31, 1998. As of July 28, 1996 and July 30, 1995, the company had borrowings outstanding of $6,950,000 and $7,000,000, respectively. The Company paid the final installment of $2,000,000 in July 1996 to Litton Systems, Inc. Electron Devices Division in connection with the settlement of an action brought against the Company in April, 1992. The Company borrowed the funds under its credit facility to satisfy this obligation. During the year the Company acquired 270,339 shares of its outstanding common stock for $1,734,233 through open market purchases, and 215,959 shares, valued at $2,483,552, in connection with the cashless exercise of stock options. At July 28, 1996, the Company owned high grade investment securities having a market value of approximately $4,912,000, and cash and cash equivalents of approximately $1,104,000. In September 1996 the investment securities were sold and the proceeds were used to reduce outstanding bank debt. The Company believes that presently anticipated future cash requirements will be provided by internally generated funds and existing credit facilities. Results of Operations Fiscal 1996 Compared to Fiscal 1995 Net sales for the 52 weeks ended July 28, 1996 were approximately $29,001,000 compared to $24,450,000 for fiscal 1995. The sales increase of $4,551,000 (18.6%) is attributable to an increase of approximately $5,845,000 in flight instrumentation products, of which Stewart Warner Electronics Co., acquired in July 1995, contributed $4,321,000; offset by a decrease of $1,294,000 in microwave components. Gross profit of 31.7% for the 52 weeks ended July 28, 1996 exceeded the prior year of 25.9% due to an increase of $2,648,000 in higher margin foreign sales from $3,908,000 in 1995 to $6,556,000 in 1996, as well as an increase in absorption of fixed costs due to the higher sales volume. 8 Selling and administrative expenses for the 52 weeks ended July 28, 1996 were $5,832,000 compared to $5,072,000 for fiscal 1995, an increase of $760,000 of which $388,000 is attributable to increased representative fees on foreign sales, an increase of $233,000 in personnel and related expenses and other expenses of $46,000; offset by the reduction of $150,000 in the provision for customer disputed charges, and decreases in group insurance of $90,000, depreciation of $69,000 and outside services of $48,000. The addition of Stewart Warner Electronics Co. added $450,000 in selling and administrative expenses in fiscal 1996. Included in unusual items in 1995 are settlement costs in connection with certain legal actions of $4,310,000, legal fees of $829,000, and related expenses of $308,000. Other income (expense) for the 52 weeks ended July 28, 1996 increased $1,100,000 from the prior year due to net gains on available-for-sale securities and other long-term investments of $898,000 as compared to losses of $356,000 in 1995, and a decrease in interest expense of $88,000; offset by decreased dividend and interest income of $242,000. The effective tax rate in 1996 was 2.7%. The 1996 tax provision reflects the utilization of prior year net operating loss carryforwards. No income tax benefit was recorded in 1995 due to an increase in the valuation allowance. The valuation allowance has been provided relating to that portion of net operating loss carryforwards which management believes may expire unutilized. Fiscal 1995 Compared to Fiscal 1994 Net sales from continuing operations for the 52 weeks ended July 30, 1995 were approximately $24,450,000 compared to $30,508,000 for fiscal 1994. The sales decrease of $6,058,000 (20%) is attributable to a decrease of approximately $4,699,000 in flight instrumentation products and $1,359,000 in microwave components. Gross profit decreased for the 52 weeks ended July 30, 1995 as compared to the prior year from 35.7% in 1994 to 25.9% in 1995 due to the decrease of $3,983,000 in higher margin foreign sales from $7,891,000 in 1994 to $3,908,000 in 1995, as well as a decrease in absorption of fixed costs due to the significantly lower sales volume. Selling and administrative expenses for the 52 weeks ended July 30, 1995 were $5,072,000 compared to $7,743,000 for fiscal 1994, a decrease of $2,671,000 of which $1,794,000 is attributable to decreased representative fees on foreign sales, and $315,000 to a reduction in personnel and related expenses; offset by a provision of $150,000 for customer disputed charges, and an increase in employee medical benefits of $122,000. Included in unusual items in 1995 are settlement costs in connection with certain legal actions of $4,310,000, legal fees of $829,000, and related expenses of $308,000. During the fiscal year ended July 31, 1994, the Company incurred unusual charges of $745,663 in excess of reserves in connection with warranty claims for products shipped by Vega Precision Laboratories, Inc. prior to its acquisition by the Company. These claims were resolved during the 1994 fiscal year. Other income (expense) for the 52 weeks ended July 30, 1995 decreased $842,000 from the prior year due to net losses on the sales of certain long-term investments of $356,000 as compared to gains of $524,000 in 1994, decreased dividend and interest income of $182,000, and a decrease of $156,000 in other income (primarily rental income in 1994); offset by a decrease in interest expense of $375,000. No income tax benefit was recorded in 1995. A valuation allowance has been provided relating to that portion of net operating loss carryforwards which management believes may expire unutilized. 9 Item 8. Financial Statements and Supplementary Data The financial statements and supplementary data listed in the Index on Page F-1 are filed as a part of this report. Item 9. Changes in and Disagreements on Accounting and Financial Disclosure Not applicable PART III The information required by Part III is incorporated by reference to the Company's definitive proxy statement in connection with its Annual Meeting of Stockholders scheduled to be held in December 1996, to be filed with the Securities and Exchange Commission within 120 days following the end of the Company's fiscal year ended July 28, 1996. 10 PART IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K (a) Exhibits 3.1 Certificate of Incorporation, as amended (Exhibit 3(a) of Form S-1 Registration Statement No. 2-87160). 3.2 By-Laws, as amended (Exhibit 3(b) of Form S-1 Registration Statement No. 2-87160). 4.1 Convertible Note issued to certain officers and directors, including Form of Warrant (Exhibit 4.1 of Annual Report on Form 10-K for the fiscal year ended July 31, 1989). 10.1 1996 Stock Option Plan. 10.2 (a) Employment Agreement with Lee N. Blatt as modified, (Exhibit 10 of Report on Form 8-K dated June 11, 1984 and Exhibit 10 of Report on Form 8-K dated May 19, 1988). (b) Modification Agreement to Employment Agreement with Lee N. Blatt dated February 1, 1990 and July 31, 1990, (Exhibit 10.3(b) of Annual Report on Form 10-K for the fiscal year ended July 31, 1990). (c) Modification Agreement to Employment Agreement with Lee N. Blatt dated as of April 1, 1992, (Exhibit 10.4(c) of Annual Report on Form 10-K for the fiscal year ended August 2, 1992). (d) Modification Agreement to Employment Agreement with Lee N. Blatt dated November 30, 1992, (Exhibit 10(a) of Report on Form 8-K dated November 30, 1992). 10.3 (a) Employment Agreement with Myron Levy (Exhibit 10 of Report on Form 8-K dated October 6, 1988). (b) Modification Agreement to Employment Agreement with Myron Levy dated February 1, 1990, (Exhibit 10.4(b) of Annual Report on Form 10-K for the fiscal year ended July 31, 1990). (c) Modification Agreement to Employment Agreement with Myron Levy dated as of April 1, 1992, (Exhibit 10.4(c) of Annual Report on Form 10-K for the fiscal year ended August 2, 1992). (d) Modification Agreement to Employment Agreement with Myron Levy dated November 30, 1992, (Exhibit 10(c) of Report on Form 8-K dated November 30, 1992). 10.4 (a) Employment Agreement with Gerald I. Klein dated April 1, 1990, (Exhibit 10.5 of Annual Report on Form 10-K for the fiscal year ended July 31, 1990). (b) Employment Agreement with Gerald I. Klein dated January 1, 1992, (Exhibit 10.7 of Form S-2 Registration Statement No. 33-44959). (c) Modification Agreement to Employment Agreement with Gerald I. Klein dated November 30, 1992, (Exhibit 10(b) of Report on Form 8-K dated November 30, 1992). 10.5 Loan Agreement between Registrant and Allstate Municipal Income Opportunities Trust (Exhibit 10.6 of Annual Report on Form 10-K for the fiscal year ended July 31, 1989). 10.6 Asset Purchase Agreement dated as of September 1, 1992 between Micro- Dynamics, Inc. and Herley Industries, Inc. (Exhibit 7(c) of Report on Form 8-K dated October 22, 1992). 10.7 Stock Purchase Agreement dated as of June 1, 1993 between Herley Industries, Inc., Herley Interim Corp., Milton C. Barnard, Edward M. Webber, Marvin Adler and Carlton Industries, Inc. (Exhibit 7(c) of Report on Form 8-K dated June 18, 1993). 11. Computation of per share earnings. 23. Consent of Independent Public Accountants. 27. Financial Data Schedule (for electronic submission only). (b) Financial Statements See Index to Consolidated Financial Statements at Page F-1. (c) Reports on Form 8-K None 11 SIGNATURES: Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized on the 8 day of October, 1996. HERLEY INDUSTRIES, INC. By: /S/ Lee N. Blatt ----------------------------------- Lee N. Blatt, Chairman of the Board Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below on October 8, 1996 by the following persons in the capacities indicated: By: /S/ Lee N. Blatt --------------------- Chairman of the Board Lee N. Blatt (Principal Executive Officer) By: /S/ Myron Levy ------------------- President and Director Myron Levy By: /S/ Gerald I. Klein ------------------------ Chief Technical Officer and Director Gerald I. Klein By: /S/ Anello C. Garefino --------------------------- Vice President Finance, CFO, Treasurer Anello C. Garefino (Principal Financial Officer) By: /S/ David H. Lieberman --------------------------- Director David H. Lieberman By: /S/ Thomas J. Allshouse ---------------------------- Director Thomas J. Allshouse By: /S/ John A. Thonet ----------------------- Director John A. Thonet 12 Item 8. Financial Statements and Supplementary Data HERLEY INDUSTRIES, INC. INDEX TO CONSOLIDATED FINANCIAL STATEMENTS Page REPORTS OF INDEPENDENT PUBLIC ACCOUNTANTS............................... F-2 FINANCIAL STATEMENTS: Consolidated Balance Sheets, July 28, 1996 and July 30, 1995........ F-4 Consolidated Statements of Operations for the 52 Weeks Ended July 28, 1996, July 30, 1995 and July 31, 1994...................... F-5 Consolidated Statements of Shareholders' Equity for the 52 Weeks Ended July 28, 1996, July 30, 1995 and July 31, 1994..................... F-6 Consolidated Statements of Cash Flows for the 52 Weeks Ended July 28, 1996, July 30, 1995 and July 31, 1994...................... F-7 Notes to Consolidated Financial Statements............................ F-8 Schedules have been omitted as not applicable. F-1 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To the Board of Directors of Herley Industries, Inc. We have audited the accompanying consolidated balance sheets of Herley Industries, Inc. and Subsidiaries as of July 28, 1996, and July 30, 1995, and the related consolidated statements of operations, shareholders' equity and cash flows for the 52 weeks ended July 28, 1996 and July 30, 1995. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. The financial statements for the 52 weeks ended July 31, 1994, were audited by other auditors whose report dated October 13, 1994, expressed an unqualified opinion on those statements. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Herley Industries, Inc. and Subsidiaries as of July 28, 1996, and July 30, 1995, and the consolidated results of their operations and cash flows for the 52 weeks ended July 28, 1996, and July 30, 1995 in conformity with generally accepted accounting principles. ARTHUR ANDERSEN LLP Lancaster, PA September 27, 1996 F-2 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To the Board of Directors of Herley Industries, Inc. We have audited the accompanying consolidated statements of operations, shareholders' equity and cash flows of Herley Industries, Inc. and Subsidiaries for the 52 weeks ended July 31, 1994. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated results of operations of Herley Industries, Inc. and Subsidiaries and their consolidated cash flows for the 52 weeks ended July 31, 1994 in conformity with generally accepted accounting principles. WOLINETZ, GOTTLIEB & LAFAZAN, P. C. Rockville Centre, New York October 13, 1994 F-3
HERLEY INDUSTRIES, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS July 28, July 30, 1996 1995 ----------- ----------- ASSETS Current Assets: Cash and cash equivalents $ 1,104,445 $ 272,755 Accounts receivable 3,249,225 4,679,917 Notes receivable-officers 2,083,543 - Other receivables 124,992 163,402 Inventories 8,010,687 9,330,053 Deferred taxes and other 1,689,988 1,006,503 ----------- ----------- Total Current Assets 16,262,880 15,452,630 Property, Plant and Equipment, net 12,579,044 13,775,710 Intangibles, net of amortization of $861,650 in 1996 and $589,550 in 1995 4,580,236 4,852,336 Available-for-sale Securities 4,912,387 4,114,614 Other Investments 3,000,000 3,727,506 Other Assets 1,174,395 306,486 =========== =========== $ 42,508,942 $ 42,229,282 =========== =========== LIABILITIES AND SHAREHOLDERS' EQUITY Current Liabilities: Current portion of long-term debt $ 300,000 $ 357,078 Accounts payable and accrued expenses 5,123,868 7,644,148 Income taxes payable 166,295 - Reserve for contract losses 489,110 496,000 Advance payments on contracts 1,480,033 1,476,640 ----------- ----------- Total Current Liabilities 7,559,306 9,973,866 Long-term Debt 11,021,000 10,525,000 Deferred Income Taxes 1,923,058 1,282,179 Excess of fair value of net assets of business acquired over cost, net of amortization of $486,833 in 1996 973,667 1,460,500 ----------- ----------- 21,477,031 23,241,545 ----------- ----------- Commitments and Contingencies Shareholders' Equity: Common stock, $.10 par value; authorized 10,000,000 shares; issued and outstanding 2,936,122 in 1996 and 3,015,988 in 1995 293,612 301,599 Additional paid-in capital 11,448,827 13,040,622 Retained earnings 9,289,472 5,620,516 ----------- ----------- 21,031,911 18,962,737 Unrealized gain on available-for-sale securities - 25,000 ----------- ----------- Total Shareholders' Equity 21,031,911 18,987,737 =========== =========== $ 42,508,942 $ 42,229,282 =========== ===========
The accompanying notes are an integral part of these financial statements. F-4
HERLEY INDUSTRIES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS 52 weeks ended ----------------------------- July 28, July 30, July 31, 1996 1995 1994 ----------- ----------- ----------- Net sales $ 29,001,404 $ 24,450,267 $ 30,508,211 ----------- ----------- ----------- Cost and expenses: Cost of products sold 19,798,692 18,117,874 19,624,788 Selling and administrative expenses 5,831,830 5,071,840 7,743,059 Unusual items - 5,447,005 745,663 ----------- ----------- ----------- 25,630,522 28,636,719 28,113,510 ----------- ----------- ----------- Operating income (loss) 3,370,882 (4,186,452) 2,394,701 ----------- ----------- ----------- Other income (expense): Net gain (loss) on available-for-sale securities and other investments 897,919 (355,709) 523,612 Dividend and interest income 376,007 617,645 799,478 Other income - - 155,996 Interest expense (873,452) (961,650) (1,336,358) ----------- ----------- ----------- 400,474 (699,714) 142,728 ----------- ----------- ----------- Income (loss) before income taxes 3,771,356 (4,886,166) 2,537,429 Provision for income taxes 102,400 4,000 676,000 ----------- ----------- ----------- Net income (loss) $ 3,668,956 $ (4,890,166) $ 1,861,429 =========== =========== =========== Earnings (loss) per common and common equivalent share $ 1.15 $(1.31) $ .44 ==== ==== ==== Weighted average number of common and common equivalent shares outstanding 3,190,339 3,734,151 4,276,422 =========== ========= =========
The accompanying notes are an integral part of these financial statements. F-5
HERLEY INDUSTRIES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY 52 weeks ended July 28, 1996, July 30, 1995 and July 31, 1994 Unrealized Gain (Loss) Additional on Available- Common Stock Paid-in Retained for-sale Treasury Shares Amount Capital Earnings Securities Stock Total ------ ------ ------- -------- ---------- ----- ----- Balance at August 1, 1993 4,273,189 $ 427,319 18,166,054 8,649,253 (60,610) - $ 27,182,016 Net income 1,861,429 1,861,429 Decrease in market value of non-current marketable securities (140,507) (140,507) Cancellation of common stock in connection with business acquired (35,000) (3,500) (272,125) (275,625) Common stock issued as compensation 1,000 100 6,525 6,625 Exercise of stock options 39,000 3,900 88,920 92,820 Purchase of 102,500 shares of treasury stock (445,620) (445,620) ---------- ------- ---------- ---------- -------- --------- ---------- Balance at July 31, 1994 4,278,189 $ 427,819 17,989,374 10,510,682 (201,117) (445,620) $ 28,281,138 Net (loss) (4,890,166) (4,890,166) Issuance of common stock 35,000 3,500 99,313 102,813 Unrealized gain on available-for-sale securities 226,117 226,117 Purchase of 1,194,701 shares of treasury stock (4,732,165) (4,732,165) Retirement of 1,297,201 shares of treasury stock (1,297,201) (129,720) (5,048,065) 5,177,785 - ---------- ------- ---------- ---------- ------- ---------- ---------- Balance at July 30, 1995 3,015,988 $ 301,599 13,040,622 5,620,516 25,000 - $ 18,987,737 Net income 3,668,956 3,668,956 Exercise of stock options 406,432 40,643 2,577,360 2,618,003 Unrealized loss on available-for-sale securities (25,000) (25,000) Purchase of 486,298 shares of treasury stock (4,217,785) (4,217,785) Retirement of treasury shares (486,298) (48,630) (4,169,155) 4,217,785 - ---------- ------- ---------- ---------- ------- --------- ---------- Balance at July 28, 1996 2,936,122 $ 293,612 11,448,827 9,289,472 - - $ 21,031,911 ========== ======== ========== ========== ======= ========= ==========
The accompanying notes are an integral part of these financial statements. F-6
HERLEY INDUSTRIES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS 52 weeks ended -------------------------------- July 28, July 30, July 31, 1996 1995 1994 ----------- ----------- ----------- Cash flows from operating activities: Net Income (loss) $ 3,668,956 $ (4,890,166) $ 1,861,429 ----------- ----------- ----------- Adjustments to reconcile net income (loss) to net cash provided by operations: Depreciation and amortization 1,563,354 2,116,233 2,085,245 (Gain) loss on sale of available-for-sale securities and other investments (1,018,643) 355,709 (595,334) Decrease (increase) in deferred tax assets (393,389) 596,055 (421,215) Increase in deferred tax liabilities 376,723 255,240 623,522 Common stock issued as compensation - - 6,625 Unrealized loss on available-for-sale securities 121,550 - 71,721 Unusual item - 5,447,005 - Changes in operating assets and liabilities: Decrease (increase) in accounts receivable 1,430,692 1,285,694 (645,786) (Increase) in notes receivable-officers (2,083,543) - - Decrease (increase) in other receivables 38,410 136,635 69,584 Decrease (increase) in inventories 1,319,366 2,208,137 1,260,010 Decrease (increase) in prepaid expenses and other (25,940) (753,838) 1,198,343 (Decrease) in accounts payable and accrued expenses (513,649) (3,879,974) (1,604,711) Increase (decrease) in income taxes payable 166,295 (162,543) 162,543 (Decrease) in reserve for contract losses (6,890) (4,000) (2,129,113) Increase (decrease) in advance payments on contracts 3,393 (1,397,334) (1,034,346) Other, net 40,000 153,335 (126,457) ----------- ----------- ----------- Total adjustments 1,017,729 6,356,354 (1,079,369) ----------- ----------- ----------- Net cash provided by operations 4,686,685 1,466,188 782,060 ----------- ----------- ----------- Cash flows from investing activities: Purchase of available-for-sale securities and other investments (11,077,331) (22,766,138) (32,674,407) Proceeds from sale of available-for-sale securities and other investments 11,879,157 30,417,016 32,178,382 Capital expenditures (643,330) (182,241) (936,314) ----------- ----------- ----------- Net cash provided by (used in) investing activities 158,496 7,468,637 (1,432,339) ----------- ----------- ----------- Cash flows from financing activities: Borrowings under bank line of credit 9,875,000 4,044,668 4,174,316 Proceeds from exercise of stock options 134,451 - 92,820 Payments under lines of credit (10,200,000) (8,025,000) (2,500,000) Payments under litigation settlement (2,000,000) (2,000,000) - Payments of long-term debt (88,709) (512,735) (727,223) Purchase of treasury stock (1,734,233) (2,708,732) (445,620) ----------- ----------- ----------- Net cash provided by (used in) financing activities (4,013,491) (9,201,799) 594,293 ----------- ----------- ----------- Net increase (decrease) in cash and cash equivalents 831,690 (266,974) (55,986) Cash and cash equivalents at beginning of period 272,755 539,729 595,715 ----------- ----------- ----------- Cash and cash equivalents at end of period $ 1,104,445 $ 272,755 $ 539,729 =========== =========== =========== Supplemental cash flow information: Cashless exercise of stock options $ 2,483,552 =========== Intangibles arising from basis differences in connection with acquisitions $ (2,540,948) =========== Liabilities assumed in connection with acquisition $ 915,000 =========== Cancellation of 35,000 shares of common stock reclassified as an accrued liability $ 275,625 ===========
The accompanying notes are an integral part of these financial statements. F-7 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES 1. Nature of Operations The Company principally designs, manufactures and sells flight instrumentation products, primarily to aerospace companies, the U.S. government, and several foreign governments. One of the Company's main products is a variety of transponders which are used to enhance radar signals to accurately track the flight of space launch vehicles and aircraft. 2. Fiscal Year The Company's fiscal year ends on the Sunday closest to July 31. Normally each fiscal year consists of 52 weeks, but every five or six years the fiscal year will consist of 53 weeks. Fiscal years 1994 through 1996 consisted of 52 weeks. 3. Basis of Financial Statement Presentation The consolidated financial statements include the accounts of Herley Industries, Inc. and its subsidiaries, all of which are wholly-owned. All significant intercompany accounts and transactions have been eliminated in consolidation. The presentation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the financial statements as well as revenues and expenses during the period. Actual results could differ from those estimates. 4. Revenue and Cost Recognition Under fixed-price contracts, sales and related costs are recorded primarily as deliveries are made. Certain costs under long-term, fixed-price contracts (principally either directly or indirectly with the U. S. Government), which include non-recurring billable engineering are deferred until these costs are contractually billable. Revenue under certain long-term, fixed price contracts, principally shelters, is recognized using the percentage of completion method of accounting. Revenue recognized on these contracts is based on estimated completion to date (the total contract amount multiplied by percent of performance, based on direct labor dollars). Losses on contracts are recorded when first reasonably determined. Contract costs include all direct material and labor costs and those indirect costs related to contract performance. Selling, general and administrative costs are charged to expense as incurred. 5. Inventories Inventories, other than inventory costs relating to long-term contracts and programs, are stated at lower of cost (principally first-in, first-out) or market. Inventory costs relating to long-term contracts and programs are stated at the actual production costs, including factory overhead, reduced by amounts identified with revenue recognized on units delivered or progress completed. Inventory costs relating to long-term contracts and programs are reduced by any amounts in excess of estimated realizable value. The costs attributed to units delivered under long-term contracts and programs are based on the average costs of all units produced. F-8 6. Property, Plant and Equipment Property, plant and equipment are stated at cost. Depreciation and amortization are provided principally by the straight-line method over the estimated useful lives of the related assets. Gains and losses arising from the sale or disposition of property, plant and equipment are recorded in income. 7. Intangibles Intangibles are comprised of customer lists, installed products base, drawings, patents, licenses, certain government qualifications and technology and goodwill in connection with the acquisition of Vega Precision Laboratories, Inc. in 1993. Intangibles are being amortized over twenty years. The carrying amount of intangibles is evaluated on a recurring basis. Current and future profitability as well as current and future undiscounted cash flows of the acquired businesses are primary indicators of recoverability. For the three years ended July 28, 1996, there were no adjustments to the carrying amount of the cost in excess of net assets acquired resulting from these evaluations. 8. Marketable Securities In May 1993 the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 115, "Accounting for certain Investments in Debt and Equity Securities." The Company adopted the provisions of the new standard for investments held as of August 1, 1994. Adoption of this statement did not have a material effect on the financial statements of the Company. Management determines the appropriate classification of debt securities at the time of purchase and reevaluates such designation as of each balance sheet date. Debt securities are classified as held-to-maturity when the Company has the positive intent and ability to hold the securities to maturity. Marketable equity securities and debt securities not classified as held-to-maturity are classified as available-for-sale. Available-for-sale securities are carried at fair value, with the unrealized gains and losses, net of tax, reported as a separate component of shareholders' equity. Realized gains and losses and declines in value judged to be other-than-temporary are included in other income (expense). The cost of securities sold is based on the specific identification method. Interest and dividends on securities are included in other income (expense). Realized gains or losses are determined on the specific identification method and are reflected in income. Net unrealized losses on non-current marketable securities are recorded directly in a separate shareholders' equity account except those unrealized losses that are deemed to be other than temporary, which losses are reflected in income. 9. Other Investments The Company is a limited partner in certain nonmarketable limited partnerships in which it owns approximately a 10% interest. The Company has no ability to influence the operating or financial policies of the partnership. These investments are carried at cost, adjusted for any permanent impairment in value. 10. Income Taxes Income taxes are accounted for by the asset/liability approach in accordance with Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes." Deferred taxes represent the expected future tax consequences when the reported amounts of assets and liabilities are recovered or paid. They arise from temporary differences between the financial reporting and tax bases of assets and liabilities and are adjusted for changes in tax laws and tax rates when those changes are enacted. The provision for income taxes represents the total of income taxes paid or payable for the current year, plus the change in deferred taxes during the year. F-9 11. Earnings Per Common Share Earnings per common share and common equivalent share is based on the weighted average number of outstanding shares of common stock including common stock equivalents (options and warrants) as determined under the treasury stock method as follows: 3,190,339 shares in 1996; 3,734,151 shares in 1995; and 4,276,422 shares in 1994. 12. Cash and Cash Equivalents For purposes of the statement of cash flows, short-term investments which have a maturity of ninety days or less at the date of acquisition are considered cash equivalents. 13. Product Development The Company's primary efforts are focused on engineering design and product development activities rather than pure research. The cost of these development activities, including employees' time and prototype development, net of amounts paid by customers, was approximately $1,453,000, $970,000, and $1,367,000 in fiscal 1996, 1995, and 1994, respectively. 14. New Accounting Standards In March 1995, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" ("SFAS 121"), which is required to be adopted by fiscal 1997. SFAS 121 establishes the accounting standards for the impairment of long-lived assets, certain intangible assets and cost in excess of net assets acquired to be held and used, and for long-lived assets and certain intangible assets to be disposed of. The Company adopted this statement during fiscal year ended July 30, 1995; it did not have a material impact on the consolidated financial position of the Company. NOTE B - ACQUISITIONS AND DISPOSALS In July 1995, the Company entered into an agreement effective as of the close of business June 30, 1995, to acquire certain assets and the business (consisting principally of inventories and trade receivables) of Stewart Warner Electronics Corporation, a Delaware corporation. The transaction, which closed on July 28, 1995, provided for the payment of $250,000 in cash and the assumption of approximately $915,000 in liabilities and has been accounted for by the purchase method. The acquisition resulted in excess of fair value over cost of net assets acquired of $1,460,500 which is being amortized over a three-year period. NOTE C - NOTES RECEIVABLE-OFFICERS In November 1995, and March 1996 the Company lent $1,700,000 and $300,000 respectively, to certain officers, as authorized by the Board of Directors, pursuant to the terms of nonnegotiable promissory notes. The loans are secured by 445,774 shares of common stock of the Company. The notes are due November 1996 and March 1997, respectively, and may be renewed by the Company for up to four additional one-year periods. Interest is payable at maturity at the average rate of interest paid by the Company on borrowed funds during the fiscal year. The pledge agreement also provides for the Company to have the right of first refusal to purchase the pledged securities, based on a formula as defined, in the event of the death or disability of the officer. F-10 NOTE D - INVENTORIES The major components of inventories are as follows: July 28, July 30, 1996 1995 Purchased parts and raw materials $ 3,358,256 $ 5,749,455 Work in process 4,580,538 3,478,268 Finished products 71,893 102,330 $ 8,010,687 $ 9,330,053 NOTE E - AVAILABLE-FOR-SALE SECURITIES Available-for-sale securities are carried at fair value, with the unrealized gains and losses, net of tax, reported as a separate component of shareholders' equity. Realized gains and losses and declines in value judged to be other-than-temporary are included in other income (expense). The cost of securities sold is based on the specific identification method. Interest and dividends on securities are included in other income (expense). The following is a summary of available-for-sale securities: Gross Gross Estimated Unrealized Unrealized Fair Cost Gains Losses Value ---- ----- ------ ----- July 28, 1996 Government bonds $ 3,783,402 $ - $ - $ 3,783,402 Other 1,125,700 - - 1,125,700 --------- ------ ------ --------- Total 4,909,102 - - 4,909,102 Equity securities 3,285 - - 3,285 --------- ------ ------ --------- $ 4,912,387 $ - $ - $ 4,912,387 ========= ====== ====== ========= July 30, 1995 Government bonds $ 3,878,937 $ 72,968 $ 31,302 $ 3,920,603 Other 189,919 - - 189,919 --------- ------ ------ --------- Total 4,068,856 72,968 31,302 4,110,522 Equity securities 4,092 - - 4,092 --------- ------ ------ --------- $ 4,072,948 $ 72,968 $ 31,302 $ 4,114,614 ========= ====== ====== ========= In September 1996 the Company liquidated its available-for-sale securities for approximately $4,912,000 and used the proceeds to reduce its long-term bank debt. A provision for unrealized losses of $121,550 is included in the statement of operations. NOTE F - OTHER INVESTMENTS In December 1995 the Company sold its investment and terminated its limited partnership interest in M.D. Sass Re/Enterprise Partners, L.P., a Delaware limited partnership for $3,823,233 realizing a gain of $1,095,727. In April 1996 the Company acquired a limited partnership interest in M.D. Sass Re/Enterprise-II, L.P., a Delaware limited partnership for $2,000,000. The objective of the partnership is to achieve superior long-term capital appreciation through investments consisting primarily of securities of companies that are experiencing significant financial or business difficulties. At July 28, 1996 the percentage of ownership was approximately 10%. The Company's interest in the partnership may be redeemed, based upon its proportionate share of partnership capital, upon ninety-days notice to the managing general partner. F-11 Redemptions are generally made as of the last day of a fiscal quarter. The estimated fair market value, as determined by the general partner, at July 28, 1996 was $2,002,838. In July 1994 the Company invested $1,000,000 for a limited partnership interest in M.D. Sass Municipal Finance Partners-I, a Delaware limited partnership. The objectives of the partnership are the preservation and protection of its capital and the earning of income through the purchase of certificates or other documentation that evidence liens for unpaid local taxes on parcels of real property. At July 28, 1996 and July 30, 1995 the percentage of ownership was approximately 10%. The Company's interest in the partnership may be transferred to a substitute limited partner, upon written notice to the managing general partners, only with the unanimous consent of both general partners at their sole discretion. The estimated fair market value, as determined by the general partner, at July 28, 1996 and July 30, 1995 was $1,247,313 and $1,104,243 respectively. These investments are carried at cost in the consolidated financial statements at July 28, 1996 and July 30, 1995. NOTE G - PROPERTY, PLANT AND EQUIPMENT Property, plant and equipment are comprised of the following: July 28, July 30, Estimated 1996 1995 Useful Life ---- ---- ----------- Land $ 880,270 $ 880,270 Building and building improvements 5,362,409 5,310,925 10-40 years Machinery and equipment 16,788,901 16,329,395 5-8 years Furniture and fixtures 494,056 492,597 5-10 years Automotive equipment - 30,243 3 years Tools 24,869 24,869 5 years Leasehold improvements 288,757 251,876 5-10 years ---------- ---------- 23,839,262 23,320,175 Less accumulated depreciation 11,260,218 9,544,465 ---------- --------- $12,579,044 $13,775,710 ========== ========== NOTE H - COMMITMENTS AND CONTINGENCIES Leases The Company leases office, production and warehouse space as well as computer equipment and automobiles under noncancellable operating leases. Rent expense for the 52 weeks ended July 28, 1996, July 30, 1995 and July 31, 1994 was approximately $284,600, $158,000, and $584,000 respectively. Rent expense in 1994 includes $308,000 for a facility formerly occupied by Vega Precision Laboratories, Inc. This lease was terminated in December, 1993. Minimum annual rentals under noncancellable leases are as follows: Amount Year ending fiscal 1997 $172,000 1998 147,800 1999 116,900 2000 66,900 F-12 Employment Agreements The Company has employment agreements with various executives and employees of the Company, which, as amended, expire at various dates through December 31, 2002, subject to extension each January 1 for six years from that date not to extend, in any event, beyond December 31, 2006 . These agreements provide for aggregate annual salaries of $1,185,000. Certain agreements provide for an annual increment equal to the greater of a cost of living adjustment based on the consumer price index or 10%, and also provide for incentive compensation related to pretax income. Incentive compensation in the amount of $446,750 has been accrued for the fiscal year ended July 28, 1996. No incentive compensation was due for the fiscal year ended July 30, 1995. Incentive compensation for the year ended July 31, 1994 was waived by these executives. Certain agreements also provide that, in the event there is a change in control of the Company, as defined, the executives have the option to terminate the agreements and receive a lump-sum payment. As of July 28, 1996, the amount payable in the event of such termination would be approximately $2,013,500. One of the employment contracts, as amended November 30, 1992, provides for a consulting agreement commencing January 1, 1998 and terminating December 31, 2010 at the annual rate of $100,000 Litigation In May and June 1994, the Company was served with two class action complaints against the Company and certain of its officers and directors in the United States District Court for the Eastern District of Pennsylvania. The claims were made under Section 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder. One of the claims is also based upon alleged negligence. The claims relate to the Company's acquisition of Carlton Industries, Inc. and its subsidiary, Vega Precision Laboratories, Inc. The claims were combined into one matter and a consolidated Complaint. In April, 1995, the Court certified that the claims based on the Securities Exchange Act may proceed as a Class Action pursuant to Rule 23(b) (3), but without prejudice to the rights of the parties thereafter to seek modification of the Class or revocation of leave to proceed. The Court refused to certify the negligence claim as a Class Action. In May, 1995, the parties negotiated a settlement of all claims in consideration for a payment of $450,000 subject to Notice to the Class and Court approval. A hearing on the proposed settlement is scheduled for October 15, 1996. In May, 1995, the Company was served with a Class Action Complaint against the Company and its Chief Executive Officer in the United States District Court for the Eastern District of Pennsylvania. The claim was made under Section 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10(b)-5 thereunder. The claim relates to the Company's settlement of the Litton Action in the Essex Superior Court of Massachusetts and alleges, inter alia, that there was insufficient disclosure by the Company of its true potential exposure in that claim. Cross motions for summary judgment have been filed and are pending before the Court. The Company believes it has a meritorious defense and intends to vigorously defend against the action. In July 1996, the Company was notified by the American Arbitration Association of the decision of the arbitrators in an action commenced in March 1994 by the principal selling shareholders of Carlton Industries, Inc. and its subsidiary, Vega Precision Laboratories, Inc. According to the award, the Company was to pay to the claimants the sum of $1,052,900, inclusive of interest. Correspondingly, the claimants were to pay the Company the sum of $277,719, inclusive of interest. The Company paid $775,181 to claimants, representing the difference between the award to the claimants and the award to the Company, in August, 1996. The award to the claimants was offset by $593,162 otherwise payable to one of the selling shareholders. The Company is also involved in other legal proceedings and claims which arise in the ordinary course of its business. While any litigation contains an element of uncertainty, management believes that the outcome of such litigation, including actions described above, will not have a material adverse effect on the Company's financial position or results of operations. F-13 Stand-by Letters of Credit The Company maintains a letter of credit facility with a bank that provides for the issuance of stand-by letters of credit and requires the payment of a fee of 1.0% per annum of the amounts outstanding under the facility. The facility expires January 31, 1998. At July 28, 1996 stand-by letters of credit aggregating $1,526,292 were outstanding under this facility. NOTE I - INCOME TAXES Income tax provision consisted of the following: 52 Weeks ended ----------------------------- July 28, July 30, July 31, 1996 1995 1994 ---- ---- ---- Current Federal $ 90,000 $ - $ - State 12,400 - 236,000 Deferred, Federal and State - 4,000 440,000 ------- ----- ------- $ 102,400 $ 4,000 $ 676,000 ======= ===== ======= The Company paid income taxes of approximately $19,000 in 1996, $122,000 in 1995, and $77,000 in 1994. The following is a reconciliation of the U. S. statutory income tax rate and the effective tax rate on pretax income: 52 weeks ended -------------------------- July 28, July 30, July 31, 1996 1995 1994 ---- ---- ---- U.S. Federal statutory rate 34.0 % (34.0) % 34.0 % State taxes, net of federal tax benefit 0.2 - 6.2 Alternative minimum tax 2.4 - - Benefit of net operating loss carryforward (35.2) - (10.8) Non-taxable income - - (9.2) Non-deductible expenses 1.3 - - Increase in valuation allowance - 34.0 - Other, net - - (6.4) ---- ---- ---- Effective tax rate 2.7 % - % 26.6 % ==== ==== ==== The effective tax rate in 1996 was 2.7%. The 1996 tax provision reflects the utilization of prior year net operating loss carryforwards. No income tax benefit was recorded in 1995 due to an increase in the valuation allowance. A valuation allowance has been provided to reduce deferred tax assets to their net realizable value for amounts which management believes may expire unutilized. The uncertainty that past performance will be indicative of future earnings due to the unpredictable nature of the industry in which the Company operates was a determining factor in assessing the need for a valuation allowance. Deferred income taxes reflect the impact of temporary differences between the amount of assets and liabilities recognized for financial reporting purposes and such amounts recognized for tax purposes. As of July 28, 1996, the Company has net operating loss carryforwards for Federal income tax purposes of approximately $8,181,000, of which $1,134,000 expires in 2008, $2,843,000 in 2009, and $4,204,000 in 2010. F-14 Components of deferred tax assets and liabilities are as follows: July 28, 1996 July 30, 1995 ------------- ------------- Deferred Deferred Deferred Deferred Tax Tax Tax Tax Assets Liabilities Assets Liabilities ------ ----------- ------ ----------- Intangibles $ 807,537 $ - $ - $ 73,687 Alternative minimum tax 176,707 - 86,707 - Accrued vacation pay 118,104 - 126,231 - Accrued bonus 243,760 - - - Warranty costs 220,000 - - - Inventory 910,081 - 503,360 - Depreciation - 1,923,058 - 1,455,982 Net operating loss carryforwards 2,781,480 - 4,209,952 - Litigation settlement 495,080 - 880,000 - Contract losses 215,208 - 218,240 - Other 97,645 - 171,600 16,666 6,065,602 1,923,058 6,196,090 1,546,335 --------- --------- --------- --------- Valuation allowance 4,454,627 - 4,978,504 - --------- --------- --------- --------- $1,610,975 $1,923,058 $1,217,586 $1,546,335 ========= ========= ========= ========= NOTE J- LONG-TERM DEBT Long-term debt is summarized as follows: July 28, July 30, Rate 1996 1995 ---- ---- ---- Note payable bank (a) 6.26%-8.25% $ 6,950,000 $ 7,000,000 Mortgage note (b) 10.4% 3,525,000 3,800,000 Long term liability (c) - 846,000 - Other Various - 82,078 11,321,000 10,882,078 Less current portion 300,000 357,078 ---------- ---------- $ 11,021,000 $ 10,525,000 ========== ========== (a)In January 1996, the Company entered into a revolving credit agreement with a new bank that provides for the extension of credit in the aggregate principal amount of $11,000,000 and may be used for general corporate purposes, including business acquisitions. The facility requires the payment of interest only on a monthly basis and payment of the outstanding principal balance on January 31, 1998. Interest is set biweekly at 1% over the bank's Federal Funds Rate (5.26% at July 28, 1996) applied to outstanding balances up to 80% of the net equity value of available-for-sale securities, and at the bank's Base Rate (8.25% at July 28, 1996) for outstanding balances in excess of this limit. The premium rate portion of the facility is secured by the marketable securities. The credit facility also provides for the issuance of stand-by letters of credit with a fee of 1.0% per annum of the amounts outstanding under the facility. At July 28, 1996, stand-by letters of credit aggregating $1,526,292 were outstanding. The agreement contains various financial covenants, including, among other matters, the maintenance of working capital, tangible net worth, and restrictions on cash dividends and other borrowings. (b)The mortgage note provides for annual principal payments at varying amounts through 2004 plus semiannual interest payments. Land and buildings in Lancaster, Pa. are pledged as collateral. The mortgage note agreement contains various financial covenants, including, among other matters, the F-15 maintenance of specific amounts of working capital and tangible net worth. In connection with this loan, the Company paid approximately $220,000 in financing costs. Such costs are included in Other Assets in the accompanying consolidated balance sheets at July 28, 1996 and July 30,1995 and are being amortized over the term of the loan (15 years). (c)Under a contract for the purchase of an industrial parcel of land from its Chairman, the Company is obligated to pay $846,000 at settlement on or before April 30, 1998. The Company paid interest of approximately $854,000 in 1996, $1,010,000 in 1995, and $1,296,000 in 1994. Future payments required on long-term debt are as follows: Fiscal year ending during: Amount -------------------------- --------- 1997 $ 300,000 1998 8,131,000 1999 370,000 2000 410,000 2001 450,000 Thereafter 1,660,000 --------- $11,321,000 ========== NOTE K - ACCOUNTS PAYABLE AND ACCRUED EXPENSES Accounts payable and accrued expenses include the following: July 28, July 30, 1996 1995 ---- ---- Accounts payable $ 1,579,230 $ 1,302,789 Accrued payroll and bonuses 1,160,348 553,276 Accrued commissions 247,687 390,097 Accrued interest 95,925 98,141 Accrued litigation expenses 1,206,914 3,282,430 Accrued expenses 833,764 2,017,415 --------- --------- $ 5,123,868 $ 7,644,148 ========= ========= NOTE L - EMPLOYEE BENEFIT PLANS In August 1985, the Board of Directors approved an Employee Savings Plan which qualified as a thrift plan under Section 401(k) of the Internal Revenue Code. This Plan, as amended and restated, allows employees to contribute between 2% and 15% of their salaries to the Plan. The Company, at its discretion can contribute 100% of the first 2% of the employees' contribution and 25% of the next 4%. Additional Company contributions can be made depending on profits. The aggregate benefit payable to an employee is dependent upon his rate of contribution, the earnings of the fund, and the length of time such employee continues as a participant. The Company has accrued approximately $159,000 for the fiscal year ended July 28, 1996, and contributed approximately $151,000, and $199,000 to this plan for the fifty-two weeks ended July 30, 1995, and July 31, 1994, respectively. NOTE M - SHAREHOLDERS' EQUITY In October 1995, the Board of Directors approved the 1996 Stock Option Plan which covers 500,000 shares of the Company's common stock. Options granted under the plan may be incentive stock options qualified F-16 under Section 422 of the Internal Revenue Code of 1986 or non-qualified stock options. Under the terms of the Plan, the exercise price for options granted under the plan will be the fair market value at the date of grant. The nature and terms of the options to be granted is determined at the time of grant by the Board of Directors. If not specified, 100% of the shares can be exercised one year after the date of grant The options expire ten years from the date of grant. No options were granted during the fiscal year ended July 28, 1996. In December 1992, the Board of Directors approved the 1992 Non-Qualified Stock Option Plan which covers 1,000,000 shares, as amended, of the Company's common stock. Under the terms of the Plan, the purchase price of the shares, subject to each option granted, is 100% of the fair market value at the date of grant. The date of exercise is determined at the time of grant by the Board of Directors; however, if not specified, 50% of the shares can be exercised each year beginning one year after the date of grant. The options expire ten years from the date of grant. Options for 255,000, and 254,000 shares were issued during the fiscal years ended July 30, 1995 and July 31, 1994, respectively. These options may be exercised cumulatively at the rate of 25% per year beginning one year after the date of grant. Options for 322,023 and 534,800 shares were exercisable at July 28, 1996 and July 30, 1995 respectively. This plan was terminated in December 1995, except for outstanding options thereunder. In October 1987, the Board of Directors approved the 1988 Non-Qualified Stock Option Plan which covers 500,000 shares of the Company's common stock. Under the terms of the Plan, the purchase price of the shares, subject to each option granted, will not be less than 85% of the fair market value at the date of grant. The date of exercise may be determined at the time of grant by the Board of Directors; however, if not specified, 20% of the shares can be exercised each year beginning one year after the date of grant and generally expire five years from the date of grant. At July 31, 1996, July 30, 1995 and July 31, 1994, options to purchase 23,100, 29,775, and 19,850 shares of common stock, respectively, were exercisable. This plan was terminated in December 1995, except for outstanding options thereunder. A summary of stock option activity under all plans for the 52 weeks ended July 28, 1996, July 30, 1995, and July 31, 1994 follows: Non-Qualified Stock Options Warrant Agreements --------------------------- ------------------ Number Price Range Number Price Range of shares per share of shares per share --------- --------- --------- --------- Outstanding August 1, 1993... 515,700 $ 2.38-12.01 430,000 $ 7.13 Granted .................. 254,000 6.00- 6.88 Exercised................. (39,000) 2.38 Canceled.................. (33,000) 5.69-12.01 ------- ---------- ------- ----------- Outstanding July 31, 1994.... 697,500 $ 5.69-12.01 430,000 $ 7.13 Granted .................. 255,000 3.38 Canceled.................. (10,000) 3.38- 7.00 ------- ---------- ------- ----------- Outstanding July 30, 1995.... 942,500 $ 3.38-12.01 430,000 $ 7.13 Granted .................. - 220,000 6.19 Exercised................. (406,432) 3.38- 7.50 Canceled.................. (23,500) 3.38- 7.00 (400,000) 7.13 ------- ---------- ------- ----------- Outstanding July 28, 1996.... 512,568 $ 3.38-12.01 250,000 $6.19 - 7.13 ======= ======= In April 1993, common stock warrants were issued to certain officers and directors for the right to acquire 430,000 shares of common stock of the Company at the fair market value of $7.125 per share at date of issue. In December 1995 warrants for 400,000 shares were canceled The warrants expire April 30, 1998. In December 1995, common stock warrants were issued to certain officers for the right to acquire 220,000 shares of common stock of the Company at the fair market value of $6.19 per share at date of issue. The warrants expire December 13, 2005. In connection with the sale of common stock to the public in 1992, the Company issued to the underwriter, F-17 for its own account, warrants to purchase 127,897 shares of common stock of the Company (as adjusted under the agreement), exercisable for a period of four years at a price of $12.08 per share (as adjusted under the agreement), subject to further adjustment in certain events. The warrants expire in February 1997. On July 31, 1993, the Company issued 35,000 shares of common stock valued at $7.875 per share in connection with the acquisition of substantially all of the assets of Micro-Dynamics, Inc. These shares were subsequently canceled and reissued in January 1995. NOTE N - RELATED PARTY TRANSACTIONS On March 6, 1996, the Board of directors approved the purchase of an industrial parcel of land from the Chairman of the Company for $940,000. A deposit of $94,000 was paid on execution of the contract, and the balance of $846,000 will be paid at settlement on or before April 30, 1998. The Company intends to use this land for possible future expansion. NOTE O - MAJOR CUSTOMERS Net sales to the U.S. Government in 1996, 1995, and 1994 accounted for approximately 33%, 30%, and 25% of net sales, respectively. No other customer accounted for 10% or more of net sales in 1996 and 1995. In 1994 sales to a major customer accounted for 16% of net sales. Foreign sales amounted to approximately $6,556,000, $3,908,000, and $7,891,000 in fiscal 1996, 1995, and 1994, respectively. Included in accounts receivable as of July 28, 1996 and July 30, 1995 are amounts due from the U.S. Government of approximately $933,000 and $718,000, respectively. NOTE P - UNUSUAL ITEM The Consolidated Statements of Operations for the fifty-two weeks ended July 30, 1995 includes an unusual charge of $5,447,005 for settlement costs, legal fees, and related expenses in connection with the settlement of certain legal claims against the Company. Payments of $2,000,000 each, without interest, were made in July 1995 and July 1996 in connection with the settlement of one of the claims. During the fiscal year ended July 31, 1994, the Company incurred unusual charges of $745,663 in excess of reserves in connection with warranty claims for products shipped by Vega prior to its acquisition by the Company. These claims were resolved during the fiscal year and the Company does not anticipate any further costs as a result of these claims. NOTE Q - FAIR VALUES OF FINANCIAL INSTRUMENTS The following methods and assumptions were used by the Company in estimating its fair value disclosures for financial instruments: Cash and cash equivalents: The carrying amount reported in the balance sheet for cash and cash equivalents approximated its fair value. Notes receivable-officers: The carrying amount reported in the balance sheet for notes receivable from officers approximated its fair value. Available-for-sale securities: The fair value of available-for-sale securities was based on quoted market prices. Other investments: The fair value of the Company's limited partnership interest in M.D. Sass Re/Enterprise-II, L.P. was estimated by the Managing General Partner based on quoted market prices for F-18 widely traded securities, at representative "bid" or "asked" quotations for unlisted securities, and for those securities for which market quotations are not readily available, by one or more third parties who are independent of the partnership. Because of the absence of readily ascertainable market values, the tax liens held by M.D. Sass Municipal Finance Partners-I are recorded at historical cost with provision for impairment of values as determined by the Managing General Partners. Long-term debt: The carrying amount reported in the balance sheet for notes payable-bank and the real estate contract approximated its fair value. The fair value of the mortgage note was estimated using discounted cash flow analysis, based on the Company's current incremental borrowing rate for similar types of borrowing arrangements. Off balance sheet financial instruments: Stand-by letters of credit: These letters of credit primarily collateralize the Company's obligations to customers for advanced payments received under contracts. The contract amounts of the letters of credit approximate their fair value. The carrying amounts and fair values of the Company's financial instruments are presented below: July 28, 1996 ------------- Carrying AmountFair Value ------------------------- Cash and cash equivalents $ 1,104,445 $ 1,104,445 Notes receivable-officers 2,083,543 2,083,543 Available-for-sale securities 4,912,387 4,912,387 Other investments 3,000,000 3,250,151 Long-term debt 11,021,000 12,001,418 Stand-by letters of credit - 1,526,292 NOTE R - CONCENTRATION OF CREDIT RISK Financial instruments which potentially subject the Company to credit risk consist primarily of trade accounts receivable. Credit risk with respect to trade receivables is minimized since most of the Company's business is direct to the U. S. Government or as a subcontractor to companies with significant financial resources acting as prime contractors to the U. S. Government, as well as to foreign governments. Additionally, shipments to foreign governments are generally under irrevocable letters of credit. F-19 EX-10.1 2 1996 STOCK OPTION PLAN Exhibit 10-1 - ------------ HERLEY INDUSTRIES, INC. 1996 STOCK OPTION PLAN SECTION 1. GENERAL PROVISIONS 1.1. Name and General Purpose - ---- ------------------------ The name of this plan is the Herley Industries, Inc. 1996 Stock Option Plan (hereinafter called the "Plan"). The purpose of the Plan is to enable Herley Industries, Inc. (the "Company") and its subsidiaries and affiliates to foster and promote the interests of the Company by attracting and retaining officers and employees of the Company who contribute to the Company's success by their ability, ingenuity and industry, to enable such officers and employees of the Company to participate in the long-term success and growth of the Company by giving them a proprietary interest in the Company and to provide incentive compensation opportunities competitive with those of competing corporations. 1.2 Definitions - --- ----------- a. "Affiliate" means any person or entity controlled by or under common control with the Company, by virtue of the ownership of voting securities, by contract or otherwise. b. "Board" means the Board of Directors of the Company. c. "Change in Control" means a change of control of the Company, or in any person directly or indirectly controlling the Company, which shall mean: (a) a change in control as such term is presently defined in Regulation 240.12b-(f) under the Securities Exchange Act of 1934, as amended (the "Exchange Act"); or (b) if any "person" (as such term is used in Section 13(d) and 14(d) of the Exchange Act) other than the Company or any "person" who on the date of this Agreement is a director or officer of the Company, becomes the "beneficial owner" (as defined in Rule 13(d)-3 under the Exchange Act) directly or indirectly, of securities of the Company representing twenty percent (20%) or more of the voting power of the Company's then outstanding securities; or (c) if during any period of two (2) consecutive years during the term of this Plan, individuals who at the beginning of such period constitute the Board of Directors, cease for any reason to constitute at least a majority thereof. d. "Code" means the Internal Revenue Code of 1986, as amended. e. "Committee" means the Committee referred to in Section 1.3 of the Plan. f. "Common Stock" means shares of the Common Stock, par value $.10 per share, of the Company. 1 g. "Company" means Herley Industries, Inc., a corporation organized under the laws of the State of Delaware (or any successor corporation). h. "Disinterested Person" shall have the meaning set forth in Rule 16b-3(c)(2) as promulgated by the Securities and Exchange Commission (the "Commission"); provided, that such person is also an "outside director" as set forth in Section 162(m) of the Code and the regulations promulgated thereunder. i. "Fair Market Value" means the market price of the Common Stock on the National Association of Securities Dealers Automated Quotation ("NASDAQ") system on the date of the grant or on any other date on which the Common Stock is to be valued hereunder. If no sale shall have been reported on NASDAQ on such date, Fair Market Value shall be determined by the Committee in accordance with the Treasury Regulations applicable to incentive stock options under Section 422 of the Code. j. "Incentive Stock Option" means an Incentive Stock Option as described in Section 2.1 of the Plan. k. "Non-Qualified Stock Option" means a Non-Qualified Stock Option as described in Section 2.1 of the Plan. l. "Option" means any option to purchase Common Stock under Section 2 of the plan. m. "Participant" means any officer or employee of the Company, a Subsidiary or an Affiliate who is selected by the Committee to participate in the Plan. n. "Subsidiary" means any corporation in which the Company possesses directly or indirectly 50% or more of the combined voting power of all classes of stock of such corporation. o. "Total Disability" means accidental bodily injury or sickness which wholly and continuously disabled an optionee. The Committee, whose decisions shall be final, shall make a determination of Total Disability. 1.3 Administration of the Plan - --- -------------------------- The Plan shall be administered by the Committee appointed by the Board consisting of two or more members of the Board all of whom shall be Disinterested Persons. The Committee shall serve at the pleasure of the Board and shall have such powers as the Board may, from time to time, confer upon it. Subject to this Section 1.3, the Committee shall have sole and complete authority to adopt, alter, amend or revoke such administrative rules, guidelines and practices governing the operation of the Plan as it shall, from time to time, deem advisable, and to interpret the terms and provisions of the Plan. 2 The Committee shall keep minutes of its meetings and of action taken by it without a meeting. A majority of the Committee shall constitute a quorum, and the acts of a majority of the members present at any meeting at which a quorum is present, or acts approved in writing by all of the members of the Committee without a meeting, shall constitute the acts of the Committee. 1.4 Eligibility - --- ----------- Stock options may be granted only to regular full-time and part-time employees of the Company or a Subsidiary or Affiliate. Subject to Section 2.3, any person who has been granted any Option may, if he is otherwise eligible, be granted an additional Option or Options. Those directors who are not regular employees are not eligible. 1.5 Shares - --- ------ The aggregate number of shares reserved for issuance pursuant to the Plan shall be 500,000 shares of Common Stock, or the number and kind of shares of stock or other securities which shall be substituted for such shares or to which such shares shall be adjusted as provided in Section 1.6. Such number of shares may be set aside out of the authorized but unissued shares of Common Stock or out of issued shares of Common Stock acquired for and held in the Treasury of the Company, not reserved for any other purpose. Shares subject to, but not sold or issued under, any Option terminating or expiring for any reason prior to its exercise in full will again be available for Options thereafter granted during the balance of the term of the Plan. 1.6 Adjustments Due to Stock Splits, Mergers, Consolidation, Etc. - --- -------------------------------- ---------------------------- If, at any time, the Company shall take any action, whether by stock dividend, stock split, combination of shares or otherwise, which results in a proportionate increase or decrease in the number of shares of Common Stock theretofore issued and outstanding, the number of shares which are reserved for issuance under the Plan and the number of shares which, at such time, are subject to Options shall, to the extent deemed appropriate by the Committee, be increased or decreased in the same proportion, provided, however, that the Company shall not be obligated to issue fractional shares. Likewise, in the event of any change in the outstanding shares of Common Stock by reason of any recapitalization, merger, consolidation, reorganization, combination or exchange of shares or other corporate change, the Committee shall make such substitution or adjustments, if any, as it deems to be appropriate, as to the number or kind of shares of Common Stock or other securities which are reserved for issuance under the Plan and the number of shares or other securities which, at such time are subject to Options. In the event of a Change in Control, (a) all options outstanding on the date of such Change in Control shall, for a period of sixty (60) days following such Change in Control, become immediately and fully exercisable, and (b) an optionee will be permitted to surrender for cancellation within sixty (60) days after such Change in Control any option or portion of an option which was granted more than six (6) months prior to the date of such surrender, to the extent not yet exercised, and to receive a cash payment in an amount equal to the excess, if any, of the Fair Market Value (on the date of surrender) of the shares of Common Stock subject to the option or portion thereof surrendered, over the aggregate purchase price for such Shares under the option. 3 1.7 Non-Alienation of Benefits - --- -------------------------- Except as herein specifically provided, no right or unpaid benefit under the Plan shall be subject to alienation, assignment, pledge or charge and any attempt to alienate, assign, pledge or charge the same shall be void. If any Participant or other person entitled to benefits hereunder should attempt to alienate, assign, pledge or charge any benefit hereunder, then such benefit shall, in the discretion of the Committee, cease. 1.8 Withholding or Deduction for Taxes - --- ---------------------------------- If, at any time, the Company or any Subsidiary or Affiliate is required, under applicable laws and regulations, to withhold, or to make any deduction for any taxes, or take any other action in connection with any Option exercise, the Participant shall be required to pay to the Company or such Subsidiary or Affiliate, the amount of any taxes required to be withheld, or, in lieu thereof, at the option of the Company, the Company or such Subsidiary or Affiliate may accept a sufficient number of shares of Common Stock to cover the amount required to be withheld. 1.9 Administrative Expenses - --- ----------------------- The entire expense of administering the Plan shall be borne by the Company. 1.10 General Conditions - ----------------------- a. The Board or the Committee may, from time to time, amend, suspend or terminate any or all of the provisions of the Plan, provided that, without the Participant's approval, no change may be made which would prevent an Incentive Stock Option granted under the Plan from qualifying as an Incentive Stock Option under Section 422 of the Code or result in a "modification" of the Incentive Stock Option under Section 424(h) of the Code or otherwise alter or impair any right theretofore granted to any Participant ; and further provided that, without the consent and approval of the holders of a majority of the outstanding shares of Common Stock of the Company present at a meeting at which a quorum exists, neither the Board nor the Committee may make any amendment which (i) changes the class of persons eligible for options; (ii) increases (except as provided under Section 1.6 above) the total number of shares or other securities reserved for issuance under the Plan; (iii) decreases the minimum option prices stated in Section 2.2 hereof (other than to change the manner of determining Fair Market Value to conform to any then applicable provision of the Code or any regulation thereunder); (iv) extends the expiration date of the Plan, or the limit on the maximum term of Options; or (v) withdraws the administration of the Plan from a committee consisting of two or more members, each of whom is a Disinterested Person. b. With the consent of the Participant affected thereby, the Committee may amend or modify any outstanding Option in any manner not inconsistent with the terms of the Plan, including, without limitation, and irrespective of the provisions of Sections 2.3(c) and 2.4(b) below, to accelerate the date or dates as of which an installment of an Option becomes exercisable. 4 c. Nothing contained in the Plan shall prohibit the Company or any Subsidiary or Affiliate from establishing other additional incentive compensation arrangements for employees of the Company or such Subsidiary or Affiliate. d. Nothing in the Plan shall be deemed to limit, in any way, the right of the Company or any Subsidiary or Affiliate to terminate a Participant's employment with the Company (or such Subsidiary or Affiliate) at any time. e. Any decision or action taken by the Board or the Committee arising out of or in connection with the construction, administration, interpretation and effect of the Plan shall be conclusive and binding upon all Participants and any person claiming under or through any Participant . f. No member of the Board or of the Committee shall be liable for any act or action, whether of commission or omission, (i) by such member except in circumstances involving actual bad faith, nor (ii) by any other member or by any officer, agent or employee. 1.11 Compliance with Applicable Law - ---- ------------------------------ Notwithstanding any other provision of the Plan, the Company shall not be obligated to issue any shares of Common Stock, or grant any Option with respect thereto, unless it is advised by counsel of its selection that it may do so without violation of the applicable Federal and State laws pertaining to the issuance of securities and the Company may require any stock certificate so issued to bear a legend, may give its transfer agent instructions limiting the transfer thereof, and may take such other steps, as in its judgment are reasonably required to prevent any such violation. 1.12 Effective Dates - ---- --------------- The Plan was adopted by the Board on October 17, 1995, subject to approval by the stockholders of the Company. The Plan shall terminate on October 16, 2005. Section 2. OPTION GRANTS - ---------- ------------- 2.1 Authority of Committee - --- ---------------------- Subject to the provisions of the Plan, the Committee shall have the sole and complete authority to determine (i) the Participants to whom Options shall be granted; (ii) the number of shares to be covered by each Option; and (iii) the conditions and limitations, if any, in addition to those set forth in Sections 2 and 3 hereof, applicable to the exercise of an Option, including without limitation, the nature and duration of the restrictions, if any, to be imposed upon the sale or other disposition of shares acquired upon exercise of an Option. Stock options granted under the Plan may be of two types: an incentive stock option ("Incentive Stock Option"); and a non-qualified stock option ("Non-Qualified Stock Option"). 5 It is intended that the Incentive Stock Options granted hereunder shall constitute incentive stock options within the meaning of Section 422 of the Code and shall be subject to the tax treatment described in Section 422 of the Code. Anything in the Plan to the contrary notwithstanding, no provision of the Plan relating to Incentive Stock Options shall be interpreted, amended or altered, nor shall any discretion or authority granted under the Plan be so exercised, so as to disqualify either the Plan or, without the consent of the optionee, any Incentive Stock Option under Section 422 of the Code. The Committee shall have the authority to grant Incentive Stock Options, or to grant Non-Qualified Stock Options, or to grant both types of Options. To the extent that any Option does not qualify as an Incentive Stock Option, in whole or in part, it shall constitute a separate Non-Qualified Stock Option to the extent of such disqualification. 2.2 Option Exercise Price - --- --------------------- The price of stock purchased upon the exercise of Options granted pursuant to the Plan shall be the Fair Market Value thereof at the time that the Option is granted. If an employee owns or is deemed to own (by reason of the attribution rules applicable under Section 424(d) of the Code) more than 10% of the combined voting power of all classes of the stock of the Company or any parent corporation of the Company or Subsidiary and an Option granted to such employee is intended to qualify as an Incentive Stock Option within the meaning of Section 422 of the Code, the exercise price shall be no less than 110% of the Fair Market Value of the Common Stock on the date the Option is granted. The purchase price is to be paid in full in cash, certified or bank cashier's check or, at the option of the Company, Common Stock valued at its Fair Market Value on the date of exercise, or a combination thereof, when the Option is exercised and stock certificates will be delivered only against such payment. 2.3 Incentive Stock Option Grants - --- ----------------------------- Each Incentive Stock Option will be subject to the following provisions: a. Term of Option An Incentive Stock Option will be for a term of not more than ten years from the date of grant, except in the case of an employee described in the second paragraph of Section 2.2 above in which case an Incentive Stock Option will be for a term of not more than five years from the date of the grant. b. Annual Limit To the extent the aggregate Fair Market Value of the Common Stock (determined as of the date of grant) with respect to which any options granted hereunder are intended to be designated as Incentive Stock Options under the Plan (or any other incentive stock option plan of the Company or any Subsidiary) which may be exercisable for the first time by the optionee in any calendar year exceeds $100,000, such options shall not be considered incentive stock options. 6 c. Exercise Subject to the power of the Committee under Section 1.10(b) above and except in the manner described below upon the death of the optionee, an Incentive Stock Option may be exercised for all of the subject shares on and after the first such anniversary of the date of the grant of such Option but in no event later than the expiration of the term of the Option. An Incentive Stock Option shall be exercisable during the optionee's lifetime only by the optionee and shall not be exercisable by the optionee unless, at all times since the date of grant and at the time of exercise, such optionee is an employee of the Company, any parent corporation of the Company or any Subsidiary, except that, upon termination of all employment (other than by death or by Total Disability followed by death in the circumstances provided below) with the Company, any parent corporation of the Company and any Subsidiary or Affiliate, the optionee may exercise an Incentive Stock Option at any time within three months thereafter but only to the extent such Option is exercisable on the date of such termination. If termination of employment is the result of the optionee having reached normal retirement age, option grants continue to be exercisable for five years after retirement but in no event later than the expiration of the term of the Option. In the event of the death of an optionee (i) while an employee of the Company, any parent corporation of the Company or any Subsidiary or Affiliate, or (ii) within three months after termination of all employment with the Company, any parent corporation of the Company and any Subsidiary or Affiliate (other than for Total Disability) or (iii) within three months after termination on account of Total Disability of all employment with the Company, any parent corporation of the Company and any Subsidiary, such optionee's estate or any person who acquires the right to exercise such option by bequest or inheritance or by reason of the death of the optionee may exercise such optionee's Option at any time within the period of one year from the date of death. In the case of clauses (i) and (iii) above, such Option shall be exercisable in full for all the remaining shares covered thereby, but in the case of clause (ii) such Option shall be exercisable only to the extent it was exercisable on the date of such termination. If an optionee's employment is terminated for deliberate, willful or gross misconduct, all rights under an Option expire upon receipt by the optionee of the notice of such termination. Notwithstanding the foregoing provisions regarding the exercise of an Option in the event of death, Total Disability or other termination of employment, in no event shall an Option be exercisable in whole or in part after the termination date provided in the Option. d. Transferability An Incentive Stock Option granted under the Plan shall not be transferable otherwise than by will or by the laws of descent and distribution. 7 2.4 Non-Qualified Stock Option Grants - --- --------------------------------- Each Non-Qualified Stock Option will be subject to the following provisions: a. Term of Option A Non-Qualified Stock Option will be for a term of not more than ten years from the date of grant. b. Exercise The exercise of a Non-Qualified Stock Option shall be subject to the same terms and conditions as provided under Section 2.3(c) above. c. Transferability A Non-Qualified Stock Option granted under the Plan shall not be transferable otherwise than by will or by the laws of descent and distribution. 2.5 Agreements - --- ---------- In consideration of any Options granted to a Participant under the Plan, each such Participant shall enter into an Option Agreement with the Company providing, consistent with the Plan, such terms as the Committee may deem advisable. 8 EX-11 3 COMPUTATION OF PER SHARE EARNINGS Exhibit 11 - ---------- HERLEY INDUSTRIES, INC. AND SUBSIDIARIES COMPUTATION OF PER SHARE EARNINGS 52 Weeks ended ------------------------------ July 26, 1996 July 30, 1995 July 31,1994 ------------- ------------- ------------ Net Income (loss) $3,668,956 $(4,890,166) $1,861,429 ========= ========== ========= Weighted average shares outstanding: Shares outstanding from beginning of period 3,015,988 4,175,689 4,273,189 Shares issued for options exercised 72,272 20,417 32,917 Treasury shares acquired (248,628) (509,262) (35,313) Common equivalents - options and warrants 350,707 47,307 5,629 --------- --------- --------- Weighted average common and common equivalent shares outstanding 3,190,339 3,734,151 4,276,422 ========= ========= ========= Earnings (loss) per common and common equivalent share $1.15 $(1.31) $ .44 ==== ==== === EX-23 4 CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS Exhibit 23 - ---------- CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS As independent public accountants, we hereby consent to the incorporation by reference in registration statemnent File No. 33-44204 of our report dated September 27, 1996, included in Herley Industries, Inc. Form 10-K for the year ended July 28, 1996. ARTHUR ANDERSEN LLP Lancaster, PA October 2, 1996 EX-27 5 FDS--JUL-28-1996
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE AUDITED CONSOLIDATED FINANCIAL STATEMENTS FOR THE 52 WEEKS ENDED JULY 28, 1996 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. YEAR JUL-28-1996 JUL-31-1995 JUL-28-1996 1,104,445 0 3,249,225 0 8,010,687 16,262,880 23,839,262 11,260,218 42,508,942 7,559,306 0 0 0 293,612 20,738,299 42,508,942 29,001,404 29,001,404 19,798,692 25,630,522 0 0 873,452 3,771,356 102,400 3,668,956 0 0 0 3,668,956 1.15 1.15
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