-----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, OPkYaBZl2snWTjPPuA2L0O41hkp2i0AVaSvewPRtoRNRLqsfsxmkusslaZJSFcxl W43bv6nBLQWTREJn+P2ZUw== 0001201800-06-000036.txt : 20060310 0001201800-06-000036.hdr.sgml : 20060310 20060310110848 ACCESSION NUMBER: 0001201800-06-000036 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 20060129 FILED AS OF DATE: 20060310 DATE AS OF CHANGE: 20060310 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-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-05411 FILM NUMBER: 06678001 BUSINESS ADDRESS: STREET 1: 101 NORTH POINTE BOULEVARD CITY: LANCASTER STATE: PA ZIP: 17601-4133 BUSINESS PHONE: 7177358117 MAIL ADDRESS: STREET 1: 101 NORTH POINTE BOULEVARD CITY: LANCASTER STATE: PA ZIP: 17601-4133 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-Q 1 hrly10q-jan06.txt UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended: January 29, 2006 ---------------- or [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from __________ to __________ Commission File Number 0-5411 HERLEY INDUSTRIES, INC. ----------------------- (Exact name of registrant as specified in its charter) DELAWARE #23-2413500 -------- ----------- (State or other jurisdiction of (I.R.S. Employer Identification Number) incorporation or organization) 101 North Pointe Boulevard, Lancaster, Pennsylvania 17601 - --------------------------------------------------- ----- (Address of Principal Executive Offices) (Zip Code) Registrant's Telephone Number, including Area Code: (717) 735-8117 ------------- 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. X Yes No --- --- Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check one): [ ] Large accelerated filer [X] Accelerated filer [ ] Non-accelerated filer Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes X No --- --- As of March 6, 2006 - 14,522,566 shares of Common Stock. HERLEY INDUSTRIES, INC. AND SUBSIDIARIES INDEX TO FORM 10-Q PAGE PART I - FINANCIAL INFORMATION ---- Item 1 - Financial Statements: Consolidated Balance Sheets - January 29, 2006 and July 31, 2005 2 Consolidated Statements of Income - For the Thirteen and Twenty-six weeks ended January 29, 2006 and January 30, 2005 3 Consolidated Statement of Shareholders' Equity- For the Twenty-six weeks ended January 29, 2006 4 Consolidated Statements of Cash Flows - For the Twenty-six weeks ended January 29, 2006 and January 30, 2005 5 Notes to Consolidated Financial Statements 6 Item 2 - Management's Discussion and Analysis of Financial Condition and Results of Operations 15 Item 3 - Quantitative and Qualitative Disclosures About Market Risk 20 Item 4 - Controls and Procedures 20 PART II - OTHER INFORMATION Item 1 - Legal Proceedings 20 Item 4 - Submission Of Matters To A Vote Of Security Holders 20 Item 6 - Exhibits 21 Signatures 22 Part I - Financial Information Item 1 - Financial Statements HERLEY INDUSTRIES, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (UNAUDITED) (In thousands, except share data)
January 29, July 31, 2006 2005 -------------- -------------- ASSETS Current Assets: Cash and cash equivalents $ 21,769 $ 20,331 Trade accounts receivable 28,549 27,258 Costs incurred and income recognized in excess of billings on uncompleted contracts, including claims 18,923 16,058 Other receivables 1,642 1,414 Inventories, net of allowance of $4,844 in fiscal 2006 and $4,492 in fiscal 2005 56,671 53,668 Deferred taxes and other 3,853 3,782 -------------- -------------- Total Current Assets 131,407 122,511 Property, Plant and Equipment, net 29,722 29,461 Goodwill 73,372 70,831 Intangibles, net of accumulated amortization of $2,574 in fiscal 2006 and $1,680 in fiscal 2005 20,497 20,554 Other Assets 703 744 -------------- -------------- $ 255,701 $ 244,101 ============== ============== LIABILITIES AND SHAREHOLDERS' EQUITY Current Liabilities: Current portion of long-term debt $ 219 $ 797 Accounts payable and accrued expenses 21,523 24,477 Billings in excess of costs incurred and income recognized on uncompleted contracts 995 538 Income taxes payable 4,690 3,760 Reserve for contract losses 3,219 630 Advance payments on contracts 5,704 3,966 -------------- -------------- Total Current Liabilities 36,350 34,168 Long-term Debt 4,805 5,000 Other Long-term Liabilities 1,228 1,042 Deferred Income Taxes 6,263 6,254 -------------- -------------- 48,646 46,464 -------------- -------------- Commitments and Contingencies Shareholders' Equity: Common stock, $.10 par value; authorized 20,000,000 shares; issued and outstanding 14,478,975 in fiscal 2006 and 14,389,625 in fiscal 2005 1,448 1,439 Additional paid-in capital 110,564 109,118 Retained earnings 93,871 85,932 Accumulated other comprehensive income 1,172 1,148 -------------- -------------- Total Shareholders' Equity 207,055 197,637 -------------- -------------- $ 255,701 $ 244,101 ============== ==============
The accompanying notes are an integral part of these financial statements. 2 HERLEY INDUSTRIES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED) (In thousands except per share data)
Thirteen weeks ended Twenty-six weeks ended -------------------- ---------------------- January 29, January 30, January 29, January 30, 2006 2005 2006 2005 ------------- ------------- ------------ ------------- Net sales $ 45,839 $ 33,754 $ 87,777 $ 67,344 ------------- ------------- ------------ ------------- Cost and expenses: Cost of products sold 32,351 24,405 60,164 47,189 Selling and administrative expenses 8,238 6,874 16,825 12,676 ------------- ------------- ------------ ------------- 40,589 31,279 76,989 59,865 ------------- ------------- ------------ ------------- Operating Income 5,250 2,475 10,788 7,479 ------------- ------------- ------------ ------------- Other income (expense), net: Investment income 199 292 309 516 Interest expense (91) (58) (174) (137) Foreign exchange gain (loss) (10) 185 103 185 ------------- ------------- ------------ ------------- 98 419 238 564 ------------- ------------- ------------ ------------- Income before income taxes 5,348 2,894 11,026 8,043 Provision for income taxes 1,384 817 3,087 2,413 ------------- ------------- ------------ ------------- Net income $ 3,964 $ 2,077 $ 7,939 $ 5,630 ============= ============= ============ ============= Earnings per common share - Basic $ .27 $ .14 $ .55 $ .39 ============= ============= ============ ============= Basic weighted average shares 14,474 14,335 14,460 14,294 ============= ============= ============ ============= Earnings per common share - Diluted $ .26 $ .14 $ .52 $ .38 ============= ============= ============ ============= Diluted weighted average shares 15,091 15,044 15,173 14,990 ============= ============= ============ =============
The accompanying notes are an integral part of these financial statements. 3 HERLEY INDUSTRIES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (UNAUDITED) Twenty-six weeks ended January 29, 2006 (In thousands except share data)
Accumulated Additional Other Common Stock Paid-in Retained Comprehensive Shares Amount Capital Earnings Income Total ------------- -------- ---------- ---------------------------- ----------- Balance at July 31, 2005 14,389,625 1,439 109,118 85,932 1,148 197,637 Exercise of stock options 89,350 9 990 999 Stock option compensation 213 213 Tax benefit upon exercise of stock options 243 243 ------------- -------- ---------- --------- --------------- ----------- Subtotal 14,478,975 1,448 110,564 85,932 1,148 199,092 ------------- -------- ---------- --------- --------------- ----------- Net income 7,939 7,939 Other comprehensive income, net of tax: Unrealized gain on Unrealized gain on interest rate swap 18 18 Foreign currency translation gain 6 6 ----------- Comprehensive income 7,963 ------------- -------- ---------- --------- --------------- ----------- Balance at January 29, 2006 14,478,975 $ 1,448 110,564 93,871 1,172 $ 207,055 ============= ======== ========== ========= =============== ===========
The accompanying notes are an integral part of these financial statements. 4 HERLEY INDUSTRIES, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (In thousands)
Twenty-six weeks ended January 29, January 30, 2006 2005 -------------- -------------- Cash flows from operating activities: Net income $ 7,939 $ 5,630 -------------- -------------- Adjustments to reconcile net income to net cash provided by operations: Depreciation and amortization 3,466 2,389 Stock-based compensation expense 213 - Increase in deferred tax assets (81) - Foreign exchange (gain) loss (36) 22 Gain on sale of securities - (20) Equity in income of limited partnership - (6) Changes in operating assets and liabilities: (Increase) decrease in trade accounts receivable (1,291) 6,610 Increase in costs incurred and income recognized in excess of billings on uncompleted contracts, and claims (2,865) (2,593) Increase in other receivables (228) (123) (Increase) decrease in inventories (3,003) 484 Increase in deferred taxes and other (71) (549) Decrease in accounts payable and accrued expenses (2,954) (3,121) Increase (decrease) in billings in excess of costs incurred and income recognized on uncompleted contracts 457 (1,022) Increase in income taxes payable 930 1,708 Increase in accrual for contract losses 85 22 Increase (decrease) in advance payments on contracts 1,738 (281) Other, net 248 220 -------------- -------------- Total adjustments (3,392) 3,740 -------------- -------------- Net cash provided by operating activities 4,547 9,370 -------------- -------------- Cash flows from investing activities: Acquisition of businesses, net of cash acquired - (3,753) Acquisition of technology license (825) (1,000) Deposit on purchase price of acquired business - (1,014) Proceeds from sale of securities - 165 Partial distribution from limited partnership 11 78 Capital expenditures (2,785) (3,274) -------------- -------------- Net cash used in investing activities (3,599) (8,798) -------------- -------------- Cash flows from financing activities: Borrowings under bank line of credit 8,000 - Proceeds from exercise of stock options 999 1,599 Payments of long-term debt (753) (734) Payments under bank line of credit (8,000) - Income tax benefit from exercise of stock options 244 330 -------------- -------------- Net cash provided by financing activities 490 1,195 -------------- -------------- Net increase in cash and cash equivalents 1,438 1,767 Cash and cash equivalents at beginning of period 20,331 66,181 -------------- -------------- Cash and cash equivalents at end of period $ 21,769 $ 67,948 ============== ==============
The accompanying notes are an integral part of these financial statements. 5 HERLEY INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (UNAUDITED) 1. Interim Reporting The accompanying unaudited consolidated financial statements have been prepared in accordance with instructions to Form 10-Q and do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for interim periods are not necessarily indicative of the results of operations that may be expected for a full year. These statements should be read in conjunction with the consolidated financial statements and notes thereto, and the Company's description of critical accounting policies, included in the Company's 2005 Annual Report on Form 10-K/A Amendment 1 for the fiscal year ended July 31, 2005, as filed with the Securities and Exchange Commission. The unaudited consolidated financial statements include the accounts of Herley Industries, Inc. and its wholly-owned subsidiaries, collectively referred to as the "Company." All significant intercompany accounts and transactions have been eliminated. Certain prior period balances have been reclassified to conform to the current period(s financial statement presentation. 2. Acquisitions The Company entered into an agreement as of September 1, 2004 to purchase the majority of the assets and assume the majority of the liabilities of Reliable System Services Corporation of Melbourne, Florida for $3,725,000 in cash, plus acquisition costs of approximately $28,000. The results of operations of RSS are included in the consolidated financial statements from September 1, 2004. The Company operates the business as a wholly-owned subsidiary under the name Herley-RSS, Inc. ("RSS"). RSS was acquired by Herley in order to capitalize on its synergies with Herley's other product lines, particularly in "over the horizon" command and control (C2) systems for drones and targets. RSS designs, develops and produces satellite-based command and control systems for prime defense contractors and entities worldwide. The Company entered into an agreement as of February 1, 2005 to acquire all of the capital stock of Micro Systems, Inc. ("MSI"), Fort Walton Beach, Florida for payments of $21,473,328 in cash, plus acquisition costs accrued of approximately $16,000, and the assumption of certain liabilities. The results of operation of MSI are included in the consolidated financial statements from February 1, 2005. MSI was acquired by Herley in order to capitalize on its synergies with Herley's legacy product lines, consolidate operations, addition of engineers and increase its capabilities in the area of control avionics, and target control systems. MSI is a market leader in the design and manufacturing of command and control systems for operation of unmanned aerial, seaborne and ground targets and missiles. The Company entered into an agreement as of April 1, 2005 to acquire all of the capital stock of Innovative Concepts, Inc. ("ICI"), McLean, Virginia for cash payments of $24,378,330, the assumption of certain liabilities, and a cash advance of $3,250,000 for the repayment of debt assumed. The results of operations of ICI are included in the consolidated financial statements from April 1, 2005. ICI was acquired by Herley in order to capitalize on its tactical data link technology for exchange of digital information. ICI has a successful history of developing and providing wireless communications technology and real-time embedded systems, software, hardware and high-speed processing in support of the defense industry. All of the acquisitions completed by the Company are accounted for in accordance with the provisions of SFAS No. 141, "Business Combinations", which requires that all business combinations be accounted for using the purchase method. 6 For the three acquisitions outlined above, the allocation of the aggregate purchase price (net of cash acquired of approximately $1,463,000), based on a review of the fair value of the assets acquired and liabilities assumed, is as follows (in thousands):
Acquisition RSS MSI ICI Effective Date September 1, 2004 February 1, 2005 April 1, 2005 -------------- ----------------- ---------------- ------------- Current assets $ 483 $1,534 $8,759 Property, plant and equipment 72 2,038 681 Other assets - 1 - Intangible assets - 4,400 10,200 Goodwill 3,456 15,148 19,693 Current liabilities (258) (2,436) (12,364) ------- -------- -------- Aggregate purchase price $ 3,753 $ 20,685 $ 26,969 ======= ======== ========
The Company adjusted its valuation of the assets acquired and liabilities assumed in the acquisition of ICI in accordance with the provisions of SFAS No. 141 during the quarter ended January 29, 2006. Accordingly, the Company's consolidated financial statements reflect an adjustment of $2,504,000 to the reserve for contract losses relating to a contract in ICI's backlog at the date of acquisition. Prior to the acquisition of MSI, MSI had leased one of its two buildings in Fort Walton Beach Florida from MSI Investments, a Florida General Partnership. MSI Investments is owned by four individuals, three of whom are currently employees of MSI. This lease has an original term of 15 years, ending December 31, 2012. The lease costs currently are approximately $287,000 on an annual basis, including the tenant's obligation to pay for insurance and property taxes. The base lease rate is adjusted every January for changes in the consumer price index, using 1997 as the base year. 3. Claims on Major Contracts Claims include amounts in excess of the original contract price (as it may be adjusted for approved change orders) that we seek to collect from our customers for delays, errors in specifications and designs, contract terminations, change orders in dispute or unapproved as to both scope and price, or other causes of unanticipated additional costs and are included in estimated revenues when recovery of the amounts is probable and the costs can be reasonably estimated. Claims receivable in the amount of $2.2 million at January 29, 2006 are included in costs incurred and income recognized in excess of billings on uncompleted contracts on the accompanying Consolidated Balance Sheets. 4. Inventories Inventories at January 29, 2006 and July 31, 2005 are summarized as follows (in thousands):
January 29, 2006 July 31, 2005 ---------------- ------------- Purchased parts and raw materials $ 25,337 $ 23,838 Work in process 34,134 32,026 Finished products 2,044 2,296 -------- -------- 61,515 58,160 Less reserve for excess and obsolete materials 4,844 4,492 -------- -------- $ 56,671 $ 53,668 ======== ========
5. Goodwill and Other Intangible Assets The Company adopted the provisions of SFAS No. 142 "Goodwill and Other Intangible Assets" on July 30, 2001. SFAS No. 142 requires the use of a non-amortization approach to account for purchased goodwill and certain intangibles. Under a non-amortization approach, goodwill and certain intangibles are not amortized into results of operations, but instead are reviewed for impairment and written down and charged to results of operations in the periods in which the recorded value of goodwill and certain intangibles is more than its fair value. The adoption of SFAS No. 142 resulted in the Company(s discontinuation of amortization of its goodwill and certain intangible assets. An annual impairment test is performed in the fourth quarter of each fiscal year and any future impairment of goodwill will be charged to operations. 7 The change in the carrying amount of goodwill for the six months ended January 29, 2006 is as follows (in thousands): Balance at July 31, 2005 $ 70,831 Change in fair value of liabilities assumed in connection with the ICI acquisition (Note 2) 2,504 Foreign currency translation adjustment 37 -------- Balance at January 29, 2006 $ 73,372 ========
Intangible Assets consist of the following (in thousands):
January 29, July 31, Estimated 2006 2005 useful life ---- ---- ----------- Trademarks (acquired with MSI and ICI $ 2,800 $ 2,800 Indefinite Technology (acquired with EWST and MSI) 12,421 12,421 10-15 years Drawings 800 800 15 years Patents 568 568 14 years Backlog 3,125 3,125 2-5 years Non-compete 31 31 5 years Foreign currency translation adjustment 201 189 ------- ------- 19,946 19,934 Accumulated amortization 2,574 1,680 ------- ------- 17,372 18,254 Technology license (for millimeter wave applications; purchased from Xytrans) 3,125 2,300 (see below) ------- ------- $ 20,497 $ 20,554 ======= =======
The Company entered into a license and development agreement ("agreement") on April 7, 2005 to license millimeter wave technology for military applications from Xytrans, Inc. Xytrans focuses on providing high-frequency transceiver and outdoor unit design for the wireless broadband network market. The technology acquired includes exclusive access to a portfolio of patents and trade secrets that improve the cost and performance of millimeter wave subsystems that are used in weapons and radar systems. In January 2005, the Company had made a deposit payment of $1,000,000 in connection with this proposed transaction. The deposit payment was secured by a note receivable, which was cancelled upon execution of the agreement. The agreement provided for an additional payment on execution of $1,000,000, and for certain additional contingent payments, of up to $4,500,000. These contingent payments are subject to achievement of a series of development milestones on a US Government missile program, and / or receipt by the Company of a single contract award using millimeter wave technology valued at a minimum of $6,000,000, amongst other requirements. The agreement also provides for the payment of royalties ranging from 1% to 4% of sales of products including relevant millimeter wave technology, starting at the earliest January 1, 2006, and generally ending 4 years later. No royalties have been earned as of January 29, 2006. In the fourth quarter of fiscal 2005, Xytrans had achieved certain of the development milestones on the missile program discussed above, and the Company made additional contingent payments totaling $300,000. In the first quarter of fiscal 2006, additional contingent payments totaling $375,000 were made by the Company. In the second quarter of fiscal 2006, additional contingent payments totaling $450,000 were made by the Company. The investment in this licensed technology of $3,125,000 as of January 29, 2006 is included in the accompanying Consolidated Balance Sheets under the caption "Intangibles." After further development of this technology, and / or at the commencement of sales of products using the millimeter wave technology, the Company will begin to amortize a portion of the costs associated with this agreement against the related revenues, and may allocate some of the value of this technology to the specific patents acquired. In the event that some of the value is allocated to specific patents, then that value would be amortized over the remaining life of the patent. At this point, the portion of this technology investment that should be allocated to any particular patent is not estimatable. The carrying amount of intangibles is reviewed for recoverability when events or changes in circumstances occur that indicate that the carrying value of the assets may not be recovered. 8 Amortization expense for the thirteen weeks ended January 29, 2006 and January 30, 2005 was approximately $447,000 and $82,000, respectively, and for the twenty-six weeks ended January 29, 2006 and January 30, 2005 was approximately $894,000 and $177,000, respectively. Estimated aggregate amortization expense for each of the next five fiscal years, is as follows (in thousands): 2006 $ 1,788 2007 1,788 2008 1,782 2009 1,782 2010 1,502
6. Product Warranties The Company warrants its products generally for a period of one year. Product warranty costs are accrued based on historical claims expense. Accrued warranty costs are reduced as warranty repair costs are incurred. The following table presents the change in the accrual for product warranty costs for the quarter and six months ended January 29, 2006 (in thousands):
Thirteen weeks ended Twenty-six weeks ended -------------------- ---------------------- January 29, January 30, January 29, January 30, 2006 2005 2006 2005 ---- ---- ---- ---- Balance at beginning of period $ 776 $ 581 $ 799 $ 580 Provision for warranty obligations 28 161 167 315 Warranty costs charged to the reserve (58) (159) (220) (312) ---------- --------- ---------- --------- Balance at end of period $ 746 $ 583 $ 746 $ 583 ========== ========= ========== =========
7. Litigation The Company is involved in various 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 will not have a material adverse effect on the Company(s financial position or results of operations. 8. Comprehensive Income The components of comprehensive income are as follows (in thousands):
Thirteen weeks ended Twenty-six weeks ended -------------------- ---------------------- January 29, January 30, January 29, January 30, 2006 2005 2006 2005 ---- ---- ---- ---- Net income 3,964 2,077 7,939 5,630 Unrealized gain (loss) on interest rate swap 6 21 18 (13) Foreign currency translation gain (21) 164 6 279 ------------- -------------- ------------- ------------- Comprehensive income 3,949 2,262 7,963 5,896 ============= ============== ============= =============
The components of accumulated other comprehensive income is as follows (in thousands):
January 29, 2006 July 31, 2005 ---------------- ------------- Unrealized loss on interest rate swap $ (37) $ (55) Foreign currency translation gain 1,209 1,203 -------- ---------- Accumulated other comprehensive income $ 1,172 $ 1,148 ======== ========== 9
9. Stock-Based Compensation The Company has various fixed stock option plans which are described in Note M of the Company's 2005 Annual Report on Form 10-K/A Amendment 1 that provide for the grant of stock options to eligible employees and directors. Effective August 1, 2005, the Company adopted the fair value recognition provisions of Statement of Financial Accounting Standard 123R ("SFAS 123R") using the modified prospective application method. This standard requires the Company to measure the cost of employee services received in exchange for equity share options granted based on the grant-date fair value of the options. The cost is recognized as compensation expense over the vesting period of the options. Under the modified prospective application method, compensation cost included in operating expenses in the thirteen and twenty-six weeks ended January 29, 2006 is approximately $ 135,000 and $ 213,000, respectively and includes: (a) compensation cost of stock options granted prior to but not yet vested as of August 1, 2005 (based on grant-date fair value estimated in accordance with the provisions of SFAS 123), and (b) compensation cost for all options granted subsequent to July 31, 2005 (based on grant-date fair value estimated in accordance with the new provisions of SFAS 123R). Operating income and income before taxes were reduced for the quarter and six months by approximately $ 135,000 and $ 213,000, respectively, while net income was reduced by approximately $99,000 and $154,000 respectively, or approximately $0.01 per basic and diluted share in each period. Income tax benefits relating to the exercise of stock options during the twenty-six weeks ended January 29, 2006 and January 30, 2005 amounting to $243,000 and $330,000, respectively, are classified as a financing cash inflow in the Company's Consolidated Statements of Cash Flows. Prior to the adoption of SFAS 123R the Company presented all income tax benefits related to stock-based compensation as an operating cash inflow. As of January 29, 2006, there were 3,648,180 stock options outstanding. The aggregate value of unvested options, as determined using a Black-Scholes option valuation model was approximately $757,000 (net of estimated forfeitures). During the quarter ended January 29, 2006, the Company granted 19,500 non-qualified stock options, with a fair value of approximately $132,000. Options for 10,100 shares of common stock were exercised, and 26,000 options were forfeited during the second quarter. New option grants made after July 31, 2005, as well as option grants issued prior to that date have been valued using a Black-Scholes option valuation model. Prior to adopting SFAS 123R on August 1, 2005, the Company's equity based employee compensation expense under the various stock option plans was accounted for under the recognition and measurement principles of APB Opinion No. 25, "Accounting for Stock Issued to Employees", and related interpretations. Under the modified prospective application method, results for prior periods have not been restated to reflect the effects on implementing SFAS 123R. Therefore, for the thirteen and twenty-six weeks ended January 30, 2005, no option based employee compensation cost is reflected in net income, as all options granted under those plans had an exercise price equal to the underlying common stock price on the date of grant. The following table which is presented for comparative purposes, provides the pro forma information as required by SFAS No. 148, "Accounting for Stock-Based Compensation-Transition and Disclosure, an amendment of FASB Statement No. 123," and illustrates the effect on net income and earnings per common share for the period presented as if the Company had applied the fair value recognition provisions of FASB Statement No. 123, "Accounting for Stock-Based Compensation", to stock based employee compensation prior to August 1, 2005:
Thirteen weeks ended Twenty-six weeks ended January 30, 2005 January 30, 2005 ---------------- ---------------- Net income - as reported $ 2,077 $ 5,630 Deduct: total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects (635) (797) ------------- ------------- Net income - pro forma $ 1,442 $ 4,833 ============= ============= Earnings per share - as reported Basic $ 0.14 $ 0.39 Diluted 0.14 0.38 Earnings per share - pro forma Basic $ 0.10 $ 0.34 Diluted 0.10 0.32
10 The weighted average fair value of stock options on the date of grant, and the assumptions used to estimate the fair value of stock options issued during the periods presented using the Black-Scholes option valuation model are as follows:
Thirteen weeks ended Twenty-six weeks ended -------------------- ---------------------- January 29, January 30, January 29, January 30, 2006 2005 2006 2005 ---- ---- ---- ---- Weighted average fair value of options granted $ 6.78 $4.00 $ 6.81 $ 4.00 Expected life (years) 3.58 3.69 3.61 3.69 Expected volatility 0.44 0.44 0.44 0.44 Risk-free interest rate 4.28 3.80 4.28 3.80 Expected dividend yield zero zero zero zero
The expected life of options granted during the periods presented above is based on the Company's historical share option exercise experience using the historical expected term from vest date. The expected volatility of the options granted is determined using historical volatilities based on historical stock prices. The risk-free interest rate is determined using the yield available for zero-coupon U.S. government issues with a remaining term equal to the expected life of the options. The Company has never paid a dividend, and as such the dividend yield is zero. The following table summarizes the non-qualified stock option activity during the twenty-six weeks ended January 29, 2006:
Weighted Aggregate Average Intrinsic Number Price Range Exercise Value (1) of shares per share Price (in thousands) --------- --------- ----- --------------- Outstanding July 31, 2005 3,735,530 $ 4.06 - 20.45 $ 14.41 Granted 10,500 18.57 18.57 Exercised (79,250) 4.31 - 19.83 11.33 Cancelled (2,000) 19.83 19.83 -------------- ------------------- ------------- Outstanding October 30, 2005 3,664,780 $ 4.06 - 20.45 $ 14.49 $ 11,394 Exercisable October 30, 2005 3,481,280 $ 14.28 $ 11,394 Granted 19,500 17.11 - 20.85 18.59 Exercised (10,100) 8.38 - 13.10 10.00 Cancelled (26,000) 19.03 - 19.83 19.26 Outstanding January 29, 2006 3,648,180 $ 4.06 - 20.85 $ 14.49 $ 12,104 Exercisable January 29, 2006 3,445,180 $ 14.28 $ 12,104 Vested and expected to vest 3,615,856 $ 14.46 $ 12,104 (1) Excludes 1,552,000 vested options with an exercise price greater than the closing stock price of $16.96 as of January 29, 2006.
11 Options outstanding and exercisable by price range as of January 29, 2006, with expiration dates ranging from April 12, 2006 to May 2, 2015 are as follows:
Options Outstanding Options Exercisable ------------------- ------------------- Weighted Average Weighted Weighted Range of Exercise Number Remaining Average Number Average Prices Outstanding Contractual Life Exercise Price Exercisable Exercise Price --------------------- ----------- ---------------- -------------- ----------- -------------- $ 4.06 - 9.30 755,580 3.6 $ 8.41 755,580 $ 8.41 9.54 - 13.10 1,111,400 4.8 11.93 1,111,400 11.93 14.25 - 17.50 58,200 4.5 16.25 46,200 16.01 17.98 - 17.98 873,000 6.6 17.98 700,000 17.98 18.39 - 20.85 850,000 5.3 19.54 832,000 19.53 --------- --- ----------- --------- ----------- $ 4.06 - 20.85 3,648,180 5.1 $ 14.49 3,445,180 $ 14.28 ========= =========
As of January 29, 2006, the total future compensation cost related to nonvested options not yet recognized in the consolidated statement of income was approximately $975,000 ($757,000 net of estimated forfeitures) and the weighted average period over which these options are expected to be recognized was 2.3 years. 10. Earnings Per Share ("EPS") The following table shows the components used in the calculation of basic earnings per share and earnings per share assuming dilution (in thousands):
Thirteen weeks ended Twenty-six weeks ended -------------------- ---------------------- January 29, January 30, January 29, January 30, 2006 2005 2006 2005 ---- ---- ---- ---- Numerator: Net Income $ 3,964 $ 2,077 $ 7,939 $ 5,630 ====== ====== ====== ====== Denominator: Basic weighted-average shares 14,474 14,335 14,460 14,294 Effect of dilutive securities: Employee stock options 617 709 713 696 ------ ------ ------ ----- Diluted weighted-average shares 15,091 15,044 15,173 14,990 ====== ====== ====== ====== Stock options not included in computation 1,762 122 1,041 704 ====== ====== ====== ====== Exercise Price Range $17.11 - $20.85 $19.66 - $20.45 $17.11 - $20.85 $19.22 - $20.45
The number of stock options not included in the computation of diluted EPS relates to stock options having exercise prices which are greater than the average market price of the common shares during the periods presented, and therefore, are anti-dilutive. The options which were outstanding as of January 29, 2006 expire at various dates through February 4, 2015. 12 11. Geographic Information The Company operates as a single integrated business and as such has one operating segment. Geographic net sales for the second quarter, based on place of contract performance, were as follows (in thousands):
Thirteen weeks ended Twenty-six weeks ended --------------------- ---------------------- January 29, January 30, January 29, January 30, 2006 2005 2006 2005 ---- ---- ---- ---- United States $ 39,754 $ 28,278 $ 77,608 $ 56,974 Israel 3,309 3,150 6,420 6,184 England 2,776 2,326 3,749 4,186 ------------- ------------- ------------- ------------- 45,839 33,754 87,777 67,344 ============= ============= ============= =============
Net property, plant and equipment by geographic area was as follows (in thousands):
January 29, 2006 July 31, 2005 ---------------- ------------- United States $ 24,436 $ 24,318 Israel 4,646 4,376 England 640 767 -------- -------- $ 29,722 $ 29,461 ======== ========
12. Supplemental cash flow information is as follows (in thousands):
Twenty-six weeks ended ---------------------- January 29, 2006 January 30, 2005 ---------------- ---------------- Net cash paid during the period for: Interest $ 148 $ 156 Income taxes 1,832 194
13. New Accounting Pronouncements In November 2004, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 151 "Inventory Costs, an amendment of APB No. 43, Chapter 4" ("SFAS 151.") SFAS 151 clarifies that abnormal inventory costs such as costs of idle facilities, excess freight and handling costs, and wasted materials (spoilage) are required to be recognized as current period charges. The provisions of SFAS 151 are effective for fiscal years beginning after June 15, 2005. Management adopted this standard on August 1, 2005, and has determined that the adoption of SFAS 151 did not have a material impact on the consolidated financial position, result of operations or cash flows of the Company. In December 2004, the FASB issued SFAS No. 153, "Exchanges of Nonmonetary Assets - An Amendment of APB Opinion No. 29". SFAS No. 153 eliminates the exception from fair value measurement for nonmonetary exchanges of similar productive assets in paragraph 21(b) of APB Opinion No. 29, "Accounting for Nonmonetary Transactions," and replaces it with an exception for exchanges that do not have commercial substance. SFAS No 153 specifies that a nonmonetary exchange has commercial substance if the future cash flows of the entity are expected to change significantly as a result of the exchange. SFAS No. 153 is effective for the fiscal periods beginning after June 15, 2005. Management adopted this standard on August 1, 2005, and has determined that the adoption of SFAS 153 did not have a material impact on the consolidated financial position, result of operations or cash flows of the Company. In December 2004, the FASB issued Statement of Financial Accounting Standards No. 123(R), (Share-Based Payment,( which is a revision of SFAS No. 123, (Accounting for Stock-Based Compensation( ("SFAS 123R.") SFAS 123R is effective for publicly-traded companies for interim or annual periods beginning after June 15, 2005, supersedes Accounting Principles Board Opinion No. 25, (Accounting for Stock Issued to Employees,( and amends SFAS No. 95, (Statement of Cash Flows.( Management adopted this standard on August 1, 2005. See Note 9 for a discussion of the impact on the consolidated financial position, result of operations and cash flows of the Company upon adoption of SFAS 123R. 13 In March of 2005, the SEC issued Staff Accounting Bulletin No. 107 "Share-Based Payment," ("SAB 107"), which provides interpretive guidance related to the interaction between SFAS 123R and certain SEC rules and regulations, as well as provides the SEC staff's views regarding the valuation of share-based payment arrangements. The Company has incorporated SAB 107 in the implementation and adoption of SFAS 123R. In March 2005, the FASB issued FASB Interpretation No. 47, "Accounting for Conditional Asset Retirement Obligations - An Interpretation of SFAS No. 143." This Interpretation provides additional guidance as to when companies should record the fair value of a liability for a conditional asset retirement obligation when there is uncertainty about the timing and (or) method of settlement of the obligation. This Interpretation is effective no later than the end of fiscal years ending after December 15, 2005. The Company does not expect the adoption of FASB Interpretation No. 47 to have a material impact on its consolidated financial position, results of operations or cash flows. In May 2005, the FASB issued Statement of Financial Accounting Standards No. 154, "Accounting Changes and Error Corrections" ("SFAS 154.") SFAS 154 replaces APB Opinion No. 20 "Accounting Changes" and FASB Statement No. 3 "Reporting Accounting Changes in Interim Financial Statements." SFAS 154 requires that a voluntary change in accounting principle be applied retrospectively with all prior period financial statements presented on the new accounting principle, unless it is impracticable to do so. SFAS 154 also provides that a correction of errors in previously issued financial statements should be termed a "restatement." The new standard is effective for accounting changes and correction of errors for fiscal years beginning after December 15, 2005. The Company does not expect that the adoption of SFAS 154 will have a material impact on its consolidated financial position, results of operations or cash flows. In February 2006, the FASB issued Statement of Financial Accounting Standards No. 155 "Accounting for Certain Hybrid Financial Instruments," ("SFAS 155") an amendment of FASB Statements No. 133 and 140. SFAS 155 permits fair value remeasurement for any hybrid financial instrument that contains an embedded derivative that otherwise would require bifurcation; clarifies which interest-only strips and principal-only strips are not subject to the requirements of Statement 133; establishes a requirement to evaluate interests in securitized financial assets to identify interests that are freestanding derivatives or that are hybrid financial instruments that contain an embedded derivative requiring bifurcation; clarifies that concentrations of credit risk in the form of subordination are not embedded derivatives; and amends Statement 140 to eliminate the prohibition on a qualifying special-purpose entity from holding a derivative financial instrument that pertains to a beneficial interest other than another derivative financial instrument. The new standard is effective for all financial instruments acquired or issued after the beginning of the Company's first fiscal year that begins after September 15, 2006. The Company does not expect the adoption of SFAS 155 to have a material impact on its consolidated financial position, results of operations or cash flows. 14 Item 2: Management's Discussion and Analysis of Financial Condition and Results of Operations Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995 Certain statements contained in this report are (forward-looking statements( that involve various important assumptions, risks, uncertainties and other factors which could cause the Company(s actual results to differ materially from those expressed in such forward-looking statements. Forward-looking statements can be identified by terminology such as (may(, (will(, (should( , (expects(, (intends(, (anticipates(, (believes(, (estimates(, (predicts(, (continue(, or the negative of these terms or other comparable terminology. These important factors include, without limitation, a large percentage of sales are under government contracts, cost overruns under fixed price contracts, doing business in foreign markets, customer concentration, competitive factors and pricing pressures, effective integration of acquired businesses, management of future growth, recruiting and retaining qualified technical personnel, general economic conditions, as well as other risks previously disclosed in the Company(s securities filings and press releases. Although the Company believes that the expectations reflected in the forward-looking statements are reasonable, it cannot guarantee future results, performance or achievements. Further, the Company is under no duty to update any of the forward-looking statements after the date of this quarterly report to conform such statements to actual results. Business Overview We are a leading supplier of microwave products and systems to defense and aerospace entities worldwide. Our primary customers include large defense prime contractors (including Raytheon, Northrop Grumman, General Dynamics, Lockheed Martin and Boeing), the U.S. Government (including the Department of Defense, NASA and other U.S. Government agencies) and international customers (including the German, Japanese, Turkish, British, Norwegian and South Korean militaries, and suppliers to international militaries). We are a leading provider of microwave technologies for use in command and control systems, flight instrumentation, weapons sensors, high power amplifiers, electronic warfare systems, wireless data communications products and services, and radar threat and electronic countermeasure simulation systems. We have served the defense industry since 1965 by designing and manufacturing microwave devices and systems for use in high technology defense electronics applications. Our products and systems are currently deployed on a wide range of high profile military platforms, including the F-16 Falcon, the F/A-18E/F Super Hornet, the EA-6B Prowler, the EA-18 Growler, the AH-64D Apache Longbow, AEGIS class destroyers, the AMRAAM missile, unmanned aerial vehicles (UAVs), as well as high priority national security programs such as National Missile Defense and the Trident II D-5 missile. Results of Operations Twenty-six weeks ended January 29, 2006 and January 30, 2005 - ------------------------------------------------------------ Net sales for the twenty-six weeks ended January 29, 2006 were approximately $87,777,000 compared to $67,344,000 in the first six months of fiscal 2005, an increase of $20 million (30.3%). Net sales at our two acquisitions completed in the third quarter of fiscal 2005, MSI and ICI, accounted for an increase of approximately $19 million, or 28.6% of the increase for the two quarters ended January 2006. We also experienced an approximate $1 million net increase in sales at our other operations; attributable to the general increases in the U.S. defense budget, as follows: - -- An increase in sales at our Lancaster operation of $1.1 million, which includes $2.2 million in revenue in connection with a claim due to customer delays and changes in specifications and designs under a major program offset by decreases in overall sales volume; and - -- An increase in sales at our GMC facility of approximately $2.5 million in power amplifier sales to Government of Israel for multiplatform communications, offset by - -- A decline of $2.8 million at our two US microwave component businesses, principally due to (i) lower shipments at one operation attributable to that facilities' resources being committed to a major electronic warfare upgrade program for the US Navy, and (ii) at the second operation the absence this year of a large contract that accounted for substantial sales in the prior year's first quarter. The gross profit margin in the twenty-six weeks ended January 29, 2006 was 31.5% compared to 29.9% in the first two quarters of fiscal 2005, an increase of 1.6%. Excluding the impact of our two acquisitions completed in the third quarter of fiscal 2005 (MSI and ICI), the increase in gross profit margins would have been less. All of the improvement in gross margin in the first quarter of fiscal 2006 is attributable to the favorable impact at our Lancaster operation of the $2.2 million claim due to customer delays and changes in specification and designs under a major program. We experienced decreases in gross margins at EWST and RSS, principally due to changes in contract cost estimates in fiscal 2006 at these operations versus contract cost estimates in the first six months of fiscal 2005. 15 Selling and administrative expenses for the twenty-six weeks ended January 29, 2006 were 19.2% of net sales as compared to 18.8% in the first two quarters of fiscal 2005, or an increase of approximately $4.1 million. Large increases during the period included: - -- Increases of approximately $3.4 million attributable to selling and administrative expenses related to the two acquisitions completed in the third quarter of fiscal 2005 (MSI and ICI); - -- An increase of approximately $345,000 (from $680,000 in fiscal 2005 to $1,025,000 in fiscal 2006) attributable to legal costs primarily associated with a continuing investigation by the U.S. Attorneys' office in Pennsylvania which, inter alia, involves pricing under two contracts with the U.S. Department of Defense relating to voltage control oscillators and a contract relating to powerheads. Operating income for the six months was $10,788,000 or 12.3% of net sales, as compared to $7,479,000 or 11.1% of net sales in 2005. The increase in operating income as a percentage of net sales is primarily attributable to the 1.6% improvement in gross margin percentage (for the reasons outlined above), offset by the 0.4% increase in selling and administrative costs as a percentage of net sales, and by the beneficial impact of the $20 million increase in revenue for the six months ended January 29, 2006. Our foreign operations contributed approximately $1.4 million in operating income for the six months as compared to $1.2 million in fiscal 2005. Investment income decreased by $207,000 in the first two quarters of fiscal 2006 because of a decline on average of approximately $49 million in funds invested, offset by an increase of approximately 89% in the rate of interest earned on the investment of excess cash reserves during the period as compared to interest rates in the prior year. The reduction in the average balance of funds invested in the first two quarters of fiscal 2006 versus the prior year was caused by the investments and capital expenditures financed out of our investment funds, including recent acquisitions. The Company recognized a net foreign exchange gain of $103,000 through the second quarter of fiscal 2006, versus a gain of $185,000 in fiscal 2005. The foreign exchange gains are attributable to our UK subsidiary primarily in connection with temporary advances we have made to them. Provision for income taxes for the first six months of fiscal 2006 was $3,087,000 representing an effective tax rate of approximately 28%, as compared to an effective tax rate of 30% in the first six months of fiscal 2005. The decrease in the effective rate in fiscal 2006 is due to various favorable tax benefits, including a lower effective tax rate on foreign source income, the tax benefit attributable to extra territorial income, research and development tax credits, the exercise of stock options, and tax exempt interest income. Thirteen weeks ended January 29, 2006 and January 30, 2005 - ---------------------------------------------------------- Net sales for the thirteen weeks ended January 29, 2006 were approximately $45,839,000, as compared to $33,754,000 in the thirteen weeks ended January 30, 2005, an increase of $12 million (35.8%). Net sales at our two acquisitions completed in fiscal 2005, MSI and ICI, accounted for an increase of approximately $10 million, or 30% of the increase for the quarter ended January 2006. We experienced an approximate $2.0 million increase in net sales at our other operations. Some of the larger changes contributing to this increase in net sales included the following: - -- An increase in net sales at Herley Power Amplifier Systems of approximately $1.7 million, most of which was attributable to power amplifier products sold primarily to General Dynamics for Naval Communications; and - -- An increase in sales at our EWST operations of $0.5 million, under the percentage of completion method for revenue recognition, offset by - -- A decrease in net sales occurred at our CTI facility due to the reduction in VTDRO shipments to Nortel/Flextronics in the second quarter. The gross profit margin in the thirteen weeks ended January 29, 2006 was 29.4% compared to 27.7% in the second quarter of fiscal 2005, an increase of 1.7%. The revenue generated by the two acquisitions completed in the third quarter of fiscal 2005 (MSI and ICI), resulted in an increase in gross profit margins of approximately 0.9%. Increases in the gross margin for the two domestic microwave component divisions were due to the increase product margins at MDI and increased net sales at GMC for the second quarter. 16 Selling and administrative expenses for the thirteen weeks ended January 29, 2006 were 18.0% of net sales as compared to 20.3% in the second quarter of fiscal 2005, an increase approximately $1.4 million. Large increases during the period included: - -- Increases of approximately $1.6 million attributable to selling and administrative expenses related to the two acquisitions completed in the third quarter of fiscal 2005 (MSI and ICI), offset by - -- A decrease in legal costs from $620,000 in the second quarter of fiscal 2005 to $450,000 in the second quarter of fiscal 2006 attributable to the continuing investigation by the U.S. Attorneys' office in Pennsylvania which, inter alia, involves pricing under two contracts with the U.S. Department of Defense relating to voltage control oscillators and a contract relating to powerheads. Operating income for the second quarter of fiscal 2006 was $5.3 million or 11.5% of net sales, as compared to $2.5 million or 7.3% of net sales in the prior year. The increase in operating income as a percentage of net sales is primarily attributable to the 2.3% decrease in selling and administrative costs as a percentage of net sales, as well as the 1.7% improvement in the gross profit margin (for the reasons outlined above) and the beneficial impact of the $12.1 million increase in revenue for the quarter. Our foreign operations contributed $1.1 million in operating income for the quarter as compared to $683,000 in the second quarter of fiscal 2005. Investment income decreased by $93,000 in the second quarter of fiscal 2006 due to a decline on average of approximately $49 million in funds invested, offset by an increase of approximately 90% in the rate of interest earned on the investment of excess cash reserves as compared to the prior year. The reduction in the average balance of funds invested during the quarter versus the prior year is due to the funding of the acquisitions of MSI and ICI. In the thirteen weeks ended January 29, 2006 the Company recognized a foreign exchange loss of $10,000 versus a gain of $185,000 in the second quarter of fiscal 2005. In fiscal 2005 the Company recognized a net foreign exchange gain of $185,000 primarily at our UK subsidiary in connection with temporary advances made to our UK subsidiary that previously were characterized as a long term investment. Provision for income taxes for the second quarter of fiscal 2006 was $1,384,000 representing an effective tax rate of approximately 26%, as compared to an effective tax rate of 28% in the prior year's second quarter (and an effective rate of 28% for the whole of fiscal year 2005.) The comparatively lower effective tax rate for fiscal year 2006 included the recognition of certain favorable tax benefits attributable to extra territorial income, research and development tax credits, the exercise of stock options, an increase in tax exempt interest income, and a lower effective tax rate on foreign source income. Liquidity and Capital Resources - ------------------------------- As of January 29, 2006 and July 31, 2005, working capital was $95,057,000 and $88,343,000, respectively, and the ratio of current assets to current liabilities was 3.6 to 1 and 3.6 to 1, respectively. As is customary in the defense industry, inventory is partially financed by customer deposits and progress payments. The un-liquidated balance of these deposits and payments was approximately $5,704,000 at January 29, 2006, and $3,966,000 at July 31, 2005. Net cash provided by operations during the twenty-six weeks ended January 29, 2006 was approximately $4,547,000 as compared to $9,370,000 during the comparable period in the prior year, a decrease of approximately $4,823,000. Income from operations [adjusted for depreciation, amortization, and foreign exchange (gain) loss] was $11,369,000 in the first six months of the current fiscal year versus $8,041,000 in the similar period in the prior year, an increase of approximately 3,328,000. Significant items contributing to the overall decrease in cash provided by operations of $4,823,000 include the following: 1. a decrease of approximately $7.9 million in cash generated from collection of accounts receivable during the first six months of fiscal 2006 versus fiscal 2005. The largest impact was from a major contract at our Lancaster facility in connection with an upgrade for US Navy aircraft. This job was largely shipped during fiscal 2004 and early in fiscal 2005, which resulted in increased collections of accounts receivable in the first quarter of fiscal 2005. Additionally, an increase of approximately $3.1 million in shipments in January 2006 versus January 2005 resulted in higher accounts receivable at the close of the quarter; 2. an increase of approximately $3.5 million in the amount of cash invested in inventories during the second quarter of fiscal 2006 attributable to the ramping up of production on several programs transitioning from engineering development to manufacturing, and the purchase of long lead materials as well as quantity buys for several new contracts; and 3. an increase of approximately $0.3 million in the amount of cash invested in costs incurred and income recognized in excess of billings on uncompleted contracts, including $2.2 million of estimated costs incurred and income recognized in connection with a claim due to customer delays and changes in specification and designs under a major program; 17 offset primarily by 1. an increase of approximately $1.5 million in cash generated from billings in excess of costs incurred and income recognized on uncompleted contracts during the course of the six month period; and 2. an increase of approximately $2.0 million in advanced payments from customers on contracts in progress. Net cash used in investing activities includes capital expenditures of $2,785,000 including $584,000 at the Company's CTI facility for the purchase of equipment used for the production of millimeter wave products relating to the Xytrans license agreement during the first three months of the current fiscal year. In June 2002, the Company entered into a new $50,000,000 Revolving Credit Loan Agreement with two banks on an unsecured basis which may be used for general corporate purposes, including business acquisitions. The revolving credit facility requires the payment of interest only on a monthly basis and payment of the outstanding principal balance on March 31, 2008 (as amended). The Company may elect to borrow up to a maximum of $5,000,000 with interest based on the Federal Funds Target Rate plus a margin of 1.50% to 1.80%, or up to a maximum of $45,000,000 with interest based on LIBOR plus a margin of 1.35% to 1.65%. The applicable incremental margin is based on the ratio of total liabilities to tangible net worth, as those terms are defined in the agreement. The Federal Funds Target Rate and the LIBOR rate was 4.25% and 4.57%, respectively, at January 29, 2006. There is a fee of 15 basis points per annum on the unused portion of the $45,000,000 LIBOR based portion of the credit facility payable quarterly. There are no borrowings under the line at January 29, 2006 and July 31, 2005. Stand-by letters of credit were outstanding in the amount of approximately $10,591,000 under the credit facility at January 29, 2006, and $10,703,000 at July 31, 2005. The agreement contains various financial covenants, including, among other matters, minimum tangible net worth, total liabilities to tangible net worth, debt services coverage, and restrictions on other borrowings. The company is in compliance with all covenants at January 29, 2006. The Company believes that presently anticipated future cash requirements will be provided by internally generated funds, its existing unsecured credit facility, and existing cash reserves. A significant portion of our revenue for fiscal 2006 will be generated from our existing backlog of sales orders. The backlog of orders at January 29, 2006 was approximately $146 million of which $139 million are orders covered by funded signed contracts or purchase orders. The remaining $7 million of backlog is "unfunded" and consists of the portion of a contract expected to be recognized as our customer increases the funding allotment for completion of the aggregate firm contract award. Contracts involving government programs may be terminated at the discretion of the government. In the event of the cancellation of a significant amount of government contracts included in the Company(s backlog, the Company will be required to rely more heavily on cash reserves and its existing credit facility to fund its operations. The Company is not aware of any events which are reasonably likely to result in any cancellation of its government contracts. As of January 29, 2006, the Company has approximately $39,409,000 available under its bank credit facility, net of outstanding stand-by letters of credit of approximately $10,591,000, and cash reserves of approximately $21,769,000. 18 Disclosure Regarding Contractual Obligations and Commitments - ------------------------------------------------------------ Accounting standards require disclosure concerning the Company's obligations and commitments to make future payments under contracts, including interest, such as debt and lease agreements, and other contingent commitments, such as standby letters of credit. The following table summarizes the Company(s contractual obligations and other contingent commitments, including interest, at July 31, 2005 (in thousands):
Within 2-3 4-5 After 5 Obligations Total 1 Year Years Years Years ----------- ------ ------ ------- ----- ------ Mortgage Note $ 2,571 $ 124 $ 270 $ 308 $ 1,869 Industrial Revenue Bonds 3,811 220 442 442 2,707 EWST Note 606 606 - - - Operating Lease Obligations 17,095 2,876 5,629 3,655 4,935 Purchase Obligations 22,038 17,739 3,106 1,063 130 ------ ------ ------- ----- ------ 46,121 21,565 9,447 5,468 9,641 Standby Letters of Credit 10,703 2,327 7,989 325 62 ------ ------ ------- ----- ------ Total Contractual Obligations $ 56,824 $ 23,892 $ 17,436 $ 5,793 $ 9,703 ====== ====== ====== ===== =====
Other than the ordinary course fulfillment of open purchase orders and placement of new purchase orders, there have been no other significant changes to the Company's contractual obligations table since July 31, 2005. New Accounting Pronouncements - ----------------------------- See Note 13 of Notes to Consolidated Financial Statements - (Unaudited) for the discussion on recent accounting pronouncements. 19 Item 3: Quantitative and Qualitative Disclosures About Market Risk The Company(s exposures to market risk have not changed significantly since July 31, 2005. Item 4: Controls and Procedures (a) Evaluation of disclosure controls and procedures. The term (disclosure controls and procedures( is defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934 as amended (the (Exchange Act(). These rules refer to the controls and other procedures of a company that are designed to ensure that information required to be disclosed by the company in the reports that it files under the Exchange Act is recorded, processed, summarized and reported within the required time periods. The Company(s management, with participation of the Company(s Chief Executive Officer and Chief Financial Officer, has evaluated the design, operation and effectiveness of the Company(s disclosure controls and procedures and have concluded, based on such evaluation, that such controls and procedures were effective at providing reasonable assurance that required information will be disclosed in the Company(s reports filed under the Exchange Act as of January 29, 2006. (b) Changes in internal controls. There were no changes in the Company(s internal controls over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter ended January 29, 2006 that have materially affected, or are reasonably likely to materially affect, the Company(s internal control over financial reporting. PART II - OTHER INFORMATION Item 1 - Legal Proceedings: The Company is involved in various 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 will not have a material adverse effect on the Company(s financial position or results of operations. Item 2 - Changes In Securities: None Item 3 - Defaults Upon Senior Securities: None Item 4 - Submission Of Matters To A Vote Of Security Holders: (1) The Registrant held its Annual Meeting of Stockholders on February 23, 2006. (2) Three directors were elected at the Annual Meeting of Stockholders as follows: Class III - To hold office until the 2008 Annual Meeting of Stockholders.
Name Votes For Votes Withheld ---- --------- -------------- John A. Thonet 8,791,688 3,811,172 Carlos C. Campbell 8,953,408 3,649,452 Adm. Robert M. Moore (Ret.) 8,545,505 4,057,355
(3) The 2006 Stock Option Plan and 2006 Stock Plan were defeated as follows:
Votes For Votes Against Abstained --------- ------------- --------- 2006 Stock Option Plan 4,951,952 5,616,227 595,672 2006 Stock Plan 2,264,821 8,302,858 596,172
20 Item 5 - Other Information: None Item 6 - Exhibits 31 Certifications pursuant to Rules 13a-14(a) as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32 Certifications pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 21 FORM 10-Q SIGNATURES ---------- Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. HERLEY INDUSTRIES, INC. ----------------------- Registrant BY: /S/ Myron Levy --------------------------------------------------- Myron Levy, Chief Executive Officer BY: /S/ Anello C. Garefino --------------------------------------------------- Anello C. Garefino, Acting Chief Financial Officer DATE: March 10, 2006 22 EX-31 2 hrly10q-jan06ex31.txt CERTIFICATIONS EXHIBIT 31 CERTIFICATION OF PRINCIPAL EXECUTIVE OFFICER PURSUANT TO RULE 13a-14(a) I, Myron Levy, Vice Chairman of the Board and Chief Executive Officer, certify that: 1. I have reviewed this Quarterly Report on Form 10-Q of Herley Industries, Inc. ("the registrant"); 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining "disclosure controls and procedures" (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a- 15(f) and 15d-15(f)) for the registrant and have: a. designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b. designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; c. evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and d. disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's fiscal quarter ended January 29, 2006 that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a. all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: March 10, 2006 By: \S\ Myron Levy ------------------------------- Name: Myron Levy Title: Vice Chairman of the Board and Chief Executive Officer CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER PURSUANT TO RULE 13a-14(a) I, Anello C. Garefino, Acting Chief Financial Officer, certify that: 1. I have reviewed this Quarterly Report on Form 10-Q of Herley Industries, Inc. ("the registrant"); 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining "disclosure controls and procedures" (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a- 15(f) and 15d-15(f)) for the registrant and have: a. designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b. designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; c. evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and d. disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's fiscal quarter ended January 29, 2006 that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a. all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: March 10, 2006 By: \S\ Anello C. Garefino ------------------------------ Name: Anello C. Garefino Title: Acting Chief Financial Officer EX-32 3 hrly10q-jan06ex32.txt CERTIFICATIONS EXHIBIT 32 CERTIFICATION OF PRINCIPAL EXECUTIVE OFFICER PURSUANT TO 18 U.S.C. SECTION 1350 AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Quarterly Report of Herley Industries, Inc. (the "Company") on Form 10-Q for the quarter ended January 29, 2006, as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Myron Levy, Vice Chairman of the Board and Chief Executive Officer of the Company, hereby certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that, to my knowledge: (1) Such Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in such Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Date: March 10, 2006 By: \S\ Myron Levy ------------------------------ Name: Myron Levy Title: Vice Chairman of the Board and Chief Executive Officer CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER PURSUANT TO 18 U.S.C. SECTION 1350 AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Quarterly Report of Herley Industries, Inc. (the "Company") on Form 10-Q for the quarter ended January 29, 2006, as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Anello C. Garefino, Acting Chief Financial Officer of the Company, hereby certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that, to my knowledge: (1) Such Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in such Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Date: March 10, 2006 By: \S\ Anello C. Garefino ------------------------------ Name: Anello C. Garefino Title: Acting Chief Executive Officer -----END PRIVACY-ENHANCED MESSAGE-----