-----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, I59IX8ed5fPnjnOjU6sS0hecKWBa2F4J2+zyYVGPRzjzK5MLrcQMAmgcg0SJf72K risYedGt11MZAiS0qWDj7w== 0000910647-03-000201.txt : 20030514 0000910647-03-000201.hdr.sgml : 20030514 20030514165622 ACCESSION NUMBER: 0000910647-03-000201 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 20030330 FILED AS OF DATE: 20030514 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PARLEX CORP CENTRAL INDEX KEY: 0000724988 STANDARD INDUSTRIAL CLASSIFICATION: PRINTED CIRCUIT BOARDS [3672] IRS NUMBER: 042464749 STATE OF INCORPORATION: MA FISCAL YEAR END: 0630 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-12942 FILM NUMBER: 03699843 BUSINESS ADDRESS: STREET 1: ONE PARLEX PLACE CITY: METHUEN STATE: MA ZIP: 01844 BUSINESS PHONE: 5086854341 10-Q 1 parl-q3.txt FORM 10-Q FOR MARCH 30, 2003 =========================================================================== UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 _______________________________________ FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Quarterly Period Ended March 30, 2003 [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Transition Period from _________ to _________ _______________________________________ Commission File No. 0-12942 PARLEX CORPORATION Massachusetts 04-2464749 (State of incorporation) (I.R.S. ID) One Parlex Place, Methuen, Massachusetts 01844 (Address of Principal Executive Offices) (Zip Code) 978-685-4341 (Registrant's Telephone Number, Including Area Code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 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 whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X] The number of shares outstanding of the registrant's common stock as of May 12, 2003 was 6,312,216 shares. =========================================================================== PARLEX CORPORATION ------------------ INDEX ----- Part I - Financial Information Page ---- Item 1. Unaudited Condensed Consolidated Financial Statements: Consolidated Balance Sheets - March 30, 2003 and June 30, 2002 3 Consolidated Statements of Operations - For the Three Months and Nine Months Ended March 30, 2003 and March 31, 2002 4 Consolidated Statements of Cash Flows - For the Nine Months Ended March 30, 2003 and March 31, 2002 5 Notes to Unaudited Condensed Consolidated Financial Statements 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 13 Item 3. Quantitative and Qualitative Disclosures About Market Risk 27 Item 4. Controls and Procedures 27 Part II - Other Information 29 Item 3. Defaults Upon Senior Securities 29 Item 6. Exhibits and Reports on Form 8-K 29 Signatures 30 Certifications 31 Exhibit Index 33 2 PARLEX CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS
- ---------------------------------------------------------------------------- ASSETS March 30, 2003 June 30, 2002 CURRENT ASSETS: Cash and cash equivalents $ 1,292,009 $ 1,785,025 Accounts receivable - net 15,530,267 17,665,808 Inventories - net 15,762,026 17,588,589 Refundable income taxes 303,402 1,810,102 Deferred income taxes 313,109 3,595,659 Other current assets 1,780,443 2,030,210 ------------ ------------- Total current assets 34,981,256 44,475,393 ------------ ------------- PROPERTY, PLANT AND EQUIPMENT: Land and land improvements 1,014,872 1,018,822 Buildings 21,495,851 22,209,273 Machinery and equipment 61,131,591 58,267,902 Leasehold improvements and other 6,311,657 7,499,054 Construction in progress 4,737,776 6,467,541 ------------ ------------- Total 94,691,747 95,462,592 Less accumulated depreciation and amortization (42,409,995) (39,480,757) ------------ ------------- Property, plant and equipment - net 52,281,752 55,981,835 ------------ ------------- INTANGIBLE ASSETS - NET 1,153,570 1,155,827 GOODWILL - NET 1,157,358 1,157,510 DEFERRED INCOME TAXES - 2,850,876 OTHER ASSETS 56,194 432,488 ------------ ------------- TOTAL $ 89,630,130 $ 106,053,929 ============ ============= LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES: Current portion of long-term debt $ 17,180,331 $ 3,560,855 Accounts payable 12,450,997 13,729,201 Accrued liabilities 5,185,132 4,427,753 ------------ ------------- Total current liabilities 34,816,460 21,717,809 ------------ ------------- LONG-TERM DEBT - 12,000,000 ------------ ------------- OTHER NONCURRENT LIABILITIES 1,342,290 1,764,795 ------------ ------------- MINORITY INTEREST IN PARLEX SHANGHAI 395,961 430,204 ------------ ------------- COMMITMENTS AND CONTINGENCIES STOCKHOLDERS' EQUITY: Common stock 652,221 651,321 Additional paid-in capital 60,948,905 60,897,275 Retained earnings (7,308,393) 9,911,794 Accumulated other comprehensive loss (179,689) (281,644) Less treasury stock, at cost (1,037,625) (1,037,625) ------------ ------------- Total stockholders' equity 53,075,419 70,141,121 ------------ ------------- TOTAL $ 89,630,130 $ 106,053,929 ============ =============
See notes to unaudited condensed consolidated financial statements. 3 PARLEX CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS
- ---------------------------------------------------------------------------------------------------------- Three Months Ended Nine Months Ended March 30, 2003 March 31, 2002 March 30, 2003 March 31, 2002 -------------- -------------- -------------- -------------- REVENUES: $ 19,438,542 $ 21,278,286 $ 64,028,080 $ 63,598,256 COSTS AND EXPENSES: Cost of products sold 21,224,242 21,285,005 63,934,553 63,175,513 Selling, general and administrative expenses 3,886,742 3,252,309 10,480,675 10,170,700 ------------ ------------ ------------ ------------ Total costs and expenses 25,110,984 24,537,314 74,415,228 73,346,213 ------------ ------------ ------------ ------------ OPERATING LOSS (5,672,442) (3,259,028) (10,387,148) (9,747,957) OTHER INCOME, Net 6,213 8,879 (42,601) 231,368 INTEREST EXPENSE (242,932) (145,755) (670,353) (455,417) ------------ ------------ ------------ ------------ LOSS FROM OPERATIONS BEFORE INCOME TAXES AND MINORITY INTEREST (5,909,161) (3,395,904) (11,100,102) (9,972,006) (PROVISION FOR) BENEFIT FROM INCOME TAXES (20,522) 1,715,852 (6,154,329) 3,988,802 ------------ ------------ ------------ ------------ LOSS BEFORE MINORITY INTEREST (5,929,683) (1,680,052) (17,254,431) (5,983,204) MINORITY INTEREST 656 12,604 34,244 472,728 ------------ ------------ ------------ ------------ NET LOSS $ (5,929,027) $ (1,667,448) $(17,220,187) $ (5,510,476) ============ ============ ============ ============ BASIC AND DILUTED LOSS PER SHARE $ (0.94) $ (0.26) $ (2.73) $ (0.87) ============ ============ ============ ============ WEIGHTED AVERAGE SHARES - BASIC AND DILUTED 6,312,216 6,303,216 6,307,337 6,303,216 ============ ============ ============ ============
See notes to unaudited condensed consolidated financial statements. 4 PARLEX CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS
- ------------------------------------------------------------------------------------------------ Nine Months Ended March 30, 2003 March 31, 2002 CASH FLOWS FROM OPERATING ACTIVITIES: Net Loss $(17,220,187) $ (5,510,476) ------------ ------------ Adjustments to reconcile net loss to net cash (used in) provided by operating activities: Depreciation and amortization of property, plant and equipment and other assets 4,929,976 4,779,170 Loss on disposition of assets - net 624,037 - Deferred income taxes 6,133,425 (3,731,541) Minority interest (34,243) (472,863) Changes in current assets and liabilities: Accounts receivable - net 2,176,638 871,753 Inventories 1,854,550 (998,429) Refundable taxes 1,506,700 1,753,601 Other assets 284,376 685,890 Accounts payable and accrued liabilities (949,583) 1,471,391 ------------ ------------ Net cash used in operating activities (694,311) (1,151,504) ------------ ------------ CASH FLOWS FROM INVESTING ACTIVITIES: Changes in other assets 326,762 - Purchase of Poly-Flex subsidiary - 525,000 Acquisition of minority interest in Parlex Shanghai - (3,173,283) Maturities of investments available for sale, net - 5,498,950 Additions to property, plant and equipment and other assets (1,813,991) (4,367,584) ------------ ------------ Net cash used in investing activities (1,487,229) (1,516,917) ------------ ------------ CASH FLOWS FROM FINANCING ACTIVITIES: Exercise of stock options 52,530 - Proceeds from bank loans 16,782,789 21,121,583 Payment of bank loans (15,163,153) (20,247,411) ------------ ------------ Net cash provided by financing activities 1,672,166 874,172 ------------ ------------ EFFECT OF EXCHANGE RATE CHANGES ON CASH 16,358 28,976 ------------ ------------ NET DECREASE IN CASH AND CASH EQUIVALENTS (493,016) (1,765,273) CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 1,785,025 3,203,990 ------------ ------------ CASH AND CASH EQUIVALENTS, END OF PERIOD $ 1,292,009 $ 1,438,717 ============ ============ SUPPLEMENTARY DISCLOSURE OF NONCASH FINANCING AND INVESTING ACTIVITIES: Acquisition of minority interest in Parlex Shanghai $ - $ 1,356,964 ============ ============ Property, plant, equipment and other asset purchases financed under capital lease, long-term debt and accounts payable $ 487,065 $ 495,320 ============ ============
See notes to unaudited condensed consolidated financial statements. 5 PARLEX CORPORATION AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - --------------------------------------------------------------------------- 1. Basis of Presentation --------------------- The consolidated financial statements include the accounts of Parlex Corporation, its wholly owned subsidiaries ("Parlex" or the "Company") and its 90.1% investment in Parlex (Shanghai) Circuit Co., Ltd. ("Parlex Shanghai") (see Note 9). The financial statements as reported in Form 10-Q reflect all adjustments which are, in the opinion of management, necessary to present fairly the financial position as of March 30, 2003 and the results of operations and cash flows for the three months and nine months ended March 30, 2003 and March 31, 2002. All adjustments made to the interim financial statements included all those of a normal and recurring nature. The Company followed the same accounting policies in the preparation of these interim financial statements as described in its annual filing on Form 10-K for the year ended June 30, 2002. This filing should be read in conjunction with the Company's annual report on Form 10-K for the year ended June 30, 2002. For the nine months ended March 30, 2003, as shown in the consolidated financial statements, the Company incurred net losses of $17,220,000 and used $694,000 of cash in operations. The Company was out of compliance with certain financial covenants of its revolving credit agreement with Fleet Bank (the "Credit Agreement"). As a result, the outstanding balance under the Credit Agreement is due upon demand. Accordingly, the Company has classified as current all borrowings under the Credit Agreement. In addition, the Company has classified as current the borrowings of its subsidiary, Parlex (Shanghai) Interconnect Products Co., Ltd ("Parlex Interconnect") under a loan agreement with a bank (the "Loan Agreement"). The Loan Agreement contains a cross default provision that would permit the lender to accelerate the repayment obligation in the event of the Company's default on other financing arrangements. The Company has signed a Purchase and Sale Agreement with a third party to execute a sale lease back ("Sale Lease Back Agreement") of its corporate headquarters and principal U.S. manufacturing facility located in Methuen, Massachusetts and its Cranston, Rhode Island manufacturing facility. Net proceeds principally will be used to reduce borrowings under the Company's Credit Agreement. The Company was unsuccessful in closing its sale lease back transaction reported last quarter due to a series of complex tax issues, which could not be resolved by the purchasing party. The Company has received a commitment letter from a major domestic bank for a $10 million working capital line of credit subject to the satisfactory closing of its Sale Lease Back Agreement. The Company expects to finalize its re-financing activities in the quarter ending June 30, 2003. Management continues to take a series of actions to reduce operating expenses and to restructure operations, which to date have consisted primarily of reductions in workforce and consolidating manufacturing operations, including the closing of the Salem, New Hampshire facility which was completed in December 2002. Moreover, management continues to implement plans to further control operating expenses, inventory levels, and capital expenditures as well as manage accounts payable and accounts receivable to enhance cash flow and return the Company to profitability. Management's plans include the following actions: 1) transfer certain manufacturing processes from its domestic operations to lower cost international manufacturing locations, primarily those in the People's Republic of China; 2) expand its products in the home appliance, military and aerospace, computer and peripherals, and radio frequency identification and smart card markets; and 3) reduce general and administrative expenses. In December 2002, the Company successfully completed initial product qualification on its new smart card production line in Suzhou, People's Republic of China. The Company has invested in excess of $4 million in this line over the past 18 months. The Company has successfully completed transfer, installation and qualification of its proprietary PALFlex technology to its Shanghai, People's Republic of China operations. Transfer of certain 6 domestic PALFlex manufacturing was completed in the quarter ended March 30, 2003, while remaining domestic obligations were terminated. The Company recorded charges to cost of products sold related to the shut down of these operations, including inventory reserves and fixed asset impairments. Domestic PALFlex production represented a significant portion of the Company's quarterly losses over the past two years. Transfer to China of this low cost, high volume production is critical to the Company's return to profitability. However, there can be no assurances that management will be able to implement all of its plans and or execute the sale lease back and bank financing transactions or that the ultimate execution of such plans and transactions will achieve all of the desired results. In such event, although the Company may be able to reduce operating costs further by reducing headcount, closing additional facilities, or scaling back current operations until financing becomes available on terms acceptable to the Company, a modification to the auditor's report on the Company's June 30, 2003 financial statements could result. 2. Comprehensive Loss ------------------ Comprehensive loss for the three months and nine months ended March 30, 2003 and March 31, 2002 is as follows:
Three Months Ended Nine Months Ended March 30, 2003 March 31, 2002 March 30, 2003 March 31, 2002 -------------- -------------- -------------- -------------- Net loss $(5,929,027) $(1,667,448) $(17,220,187) $(5,510,476) Other comprehensive (loss) income: Unrealized gain (loss) on short term investments - - - (34,751) Foreign currency translation adjustments (87,566) (46,815) 101,955 115,501 ----------- ----------- ------------ ----------- Total comprehensive loss $(6,016,593) $(1,714,263) $(17,118,232) $(5,429,726) =========== =========== ============ ===========
At March 30, 2003, the Company's accumulated other comprehensive loss pertains entirely to foreign currency translation adjustments. 3. Intangible Assets ----------------- Intangible assets, as of March 30, 2003, are composed of the following:
Land Use Rights Patents Total -------- ------- ----- Cost $1,145,784 $ 58,560 $1,204,344 Accumulated amortization (28,620) (22,154) (50,774) ---------- -------- ---------- Intangible assets, net $1,117,164 $ 36,406 $1,153,570 ========== ======== ==========
The Company has reassessed the useful lives of other intangible assets and determined the useful lives are appropriate in determining amortization expense. Amortization expense for the nine months ended March 30, 2003 was $19,367. The estimated amortization expense for each of the fiscal years subsequent to June 30, 2002 is as follows: 7
Amortization Expense -------------------- For year ended June 30, 2003 $ 25,822 For year ended June 30, 2004 25,822 For year ended June 30, 2005 25,822 For year ended June 30, 2006 25,822 For year ended June 30, 2007 25,822 Thereafter 1,043,827 ---------- $1,172,937 ==========
4. Recent Adoption of Accounting Pronouncements -------------------------------------------- On January 1, 2003, the Company adopted SFAS No. 146 "Accounting for Costs Associated with Exit or Disposal Activities" ("SFAS No. 146"). This statement supersedes Emerging Issues Task Force ("EITF") No. 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity". Under this statement, a liability for a cost associated with a disposal or exit activity is recognized at fair value when the liability is incurred rather than at the date of an entity's commitment to an exit plan as required under EITF 94-3. The Company adopted this statement on January 1, 2003. On July 1, 2002, the Company adopted SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets" ("SFAS No. 144"). SFAS No. 144 supercedes SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, " and the accounting and reporting provisions of APB Opinion No. 30, "Reporting the Results of Operations-Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions." SFAS No. 144 specifies accounting for long-lived assets to be disposed of by sale, and broadens the presentation of discontinued operations to include more disposal transactions than were included under the previous standards. On December 30, 2002, the Company adopted the disclosure provisions of SFAS No. 148, "Accounting for Stock-Based Compensation -- Transition and Disclosure, an amendment of FASB Statement No. 123." This Statement amends FASB Statement No. 123, "Accounting for Stock-Based Compensation", to provide alternative methods of transition for a voluntary change in the fair value based method of accounting for stock-based employee compensation. In addition, this Statement amends the disclosure requirements of SFAS No. 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. 8 The adoption of SFAS Nos. 144, 146 and 148 did not have a material effect on the Company's financial statements. 5. Future Adoption of Accounting Pronouncements -------------------------------------------- In November 2002, the FASB issued FASB Interpretation No. 45, "Guarantor's Accounting and Disclosures Requirements for Guarantees, Including Indirect Guarantees". This Interpretation elaborates on the disclosures to be made by a guarantor in its interim and annual financial statements about its obligations under certain guarantees that it has issued. It also clarifies that a guarantor is required to recognize, at the inception of the guarantee, a liability for the fair value of the obligation undertaken in issuing the guarantee. The Interpretation does not prescribe a specific approach for subsequently measuring the guarantor's recognized liability over the term of the related guarantee. This Interpretation also incorporates, without change, the guidance in FASB Interpretation No. 34, Disclosure of Indirect Guarantees of Indebtness of Others, which is being superseded. The initial recognition and measurement provisions of this Interpretation are applicable on a prospective basis to guarantees issued or modified after December 31, 2002, irrespective of the guarantor's fiscal year-end. The disclosure requirements in this Interpretation are effective for financial statements of interim or annual periods ending after December 15, 2002. At March 30, 2003, the Company has issued no guarantees that qualify for disclosure in this interim financial statement. 6. Reclassifications ----------------- Certain prior period amounts have been reclassified to conform to the current period presentation. 7. Long-Term Debt -------------- Long-term debt consists of the following:
March 30, 2003 June 30, 2002 --------------- ------------- Revolving credit agreement $11,180,000 $12,160,000 Parlex Shanghai term notes 2,174,596 2,102,211 Parlex Interconnect term note 3,801,194 1,208,167 Capital lease obligations 24,541 90,477 ----------- ----------- Total long-term debt 17,180,331 15,560,855 Less current portion 17,180,331 3,560,855 ----------- ----------- Long-term debt - net $ - $12,000,000 =========== ===========
Revolving Credit Agreement - On October 31, 2002, the Company executed the Third Amendment to the Credit Agreement (the "Third Amendment"). The Third Amendment increased the bank's security interest in the Company's assets to include a first mortgage on the Company's Methuen, Massachusetts facility. In addition, the total availability for borrowings under the Credit Agreement was reduced to $13,000,000 on December 30, 2002 and $12,000,000 on March 31, 2003. The borrowing base was amended so as to be calculated as 80% of eligible accounts receivable plus 70% of the appraised value of the Methuen, Massachusetts facility, less amounts outstanding through letters of credit. The Third Amendment also amended the restrictive covenants for periods 9 subsequent to June 30, 2002 to remove the interest coverage ratio, amend the definition of minimum tangible net worth, and amend the future income targets. At March 30, 2003 the Company was out of compliance with certain financial covenants contained in its revolving credit agreement with Fleet Bank (the "Credit Agreement"). As a result, the outstanding balance under the Credit Agreement is due upon demand. Accordingly, the Company has classified as current all borrowings under the Credit Agreement. Parlex Shanghai Term Notes - On February 25, 2003, Parlex Shanghai entered into a short-term bank note bearing interest at 5.544%. Shanghai Jinling Co., Ltd ("Jinling"), a former minority interest partner in Parlex Shanghai, guarantees the short-term note. Amounts outstanding under this six month short-term note total $845,000 and are included within the current portion of long-term debt on the consolidated balance sheet for the period ended March 30, 2003. The Company provides a cross guarantee to Jinling for 100% of the term note. On March 7, 2003, Parlex Shanghai entered into a short-term bank note, due February 25, 2004, bearing interest at 5.841%. Amounts outstanding under this short-term note total $1.3 million and are included within the current portion of long-term debt on the consolidated balance sheet for the period ended March 30, 2003 based upon its scheduled repayment terms. Parlex Interconnect Term Note - In June 2002, the Company's subsidiary, Parlex (Shanghai) Interconnect Products Co., Ltd ("Parlex Interconnect"), executed a $5,000,000 Loan Agreement (the "Loan Agreement") with CITIC Ka Wah Bank Limited, a Hong Kong bank. Proceeds received under the Loan Agreement are to be used exclusively for financing land, building, plant and machinery and other working capital requirements and to repay Parlex Interconnect's two local short-term bank notes. Borrowings under the Loan Agreement accrue interest at a fixed rate equal to LIBOR plus a margin of 2.2%. Interest is payable at the end of each interest period which varies from one to six months. Amounts borrowed under the Loan Agreement are payable in four installments of $500,000, $500,000, $1,000,000 and $3,000,000 beginning in February 2004 with the final payment due August 2005. As of March 30, 2003, total borrowings were $3.8 million. These borrowings were used to repay local short-term bank notes of $1.2 million and fund equipment purchases and working capital requirements. As a condition of the approval of this Loan Agreement, the Company's subsidiary, Parlex Asia Pacific Ltd., and the Company have provided a guarantee of the payment of this loan. The Loan Agreement also contains a cross default provision that would permit the lender to accelerate the repayment of Parlex Interconnect's obligation under the Loan Agreement in the event of the Company's default on other financing arrangements. The Company is in violation of the cross default provision as of March 30, 2003. As a result, the Company has classified all borrowings under the Loan Agreement as current. The Company has signed a Purchase and Sale Agreement with a third party to execute a sale lease back ("Sale Lease Back Agreement") of its corporate headquarters and principal U.S. manufacturing facility located in Methuen, Massachusetts and its Cranston, Rhode Island manufacturing facility. Net proceeds principally will be used to reduce borrowings under the Company's Credit Agreement. In addition, the Company has received a commitment letter from a major domestic bank for a $10 million working capital line of credit subject to the satisfactory closing of its Sale Lease Back Agreement. This line of credit is principally secured by eligible accounts receivable. The Company expects to finalize its re-financing activities in the quarter ending June 30, 2003. 8. Income Taxes ------------ Income taxes are recorded for interim periods based upon an estimated annual effective tax rate. The Company's effective tax rate is impacted by the proportion of its estimated annual income being earned in domestic versus foreign tax jurisdictions, the generation of tax credits and the recording of any valuation allowance. As a result of our recent history of operating losses, uncertain future operating results, and the current non-compliance with certain of our debt covenants requirements, we determined that it is more likely than not that certain historic and current year income tax benefits will not be realized. Consequently, no tax benefit associated with U.S. operating losses has been recognized in the current quarter, moreover we have established a valuation 10 allowance against all of our remaining net U.S. deferred tax assets. Upon a favorable change in the operations and financial condition of the Company that results in management's determination that it is more likely than not that all or a portion of the net deferred tax assets will be utilized, all or a portion of the valuation allowance previously provided for would be eliminated. 9. Joint Venture ------------- In 1995, the Company formed a joint venture, Parlex Shanghai. At its formation, the Company had a 50.1% controlling interest and as such has been consolidating Parlex Shanghai's financial results within its financial statements with minority interest recorded to reflect its partners' 49.9% interest. On October 22, 2001, the Company purchased Jinling's 40% joint venture interest in Parlex Shanghai, bringing the Company's interest to 90.1%. Minority interest in the consolidated statements of operations represents the minority shareholder's share of the income or loss of Parlex Shanghai. The minority interest in the consolidated balance sheets reflect the original investment, net of any distributions, by the minority shareholder in Parlex Shanghai, along with their proportional share of the earnings or losses of Parlex Shanghai. 10. Inventories ----------- Inventories of raw materials are stated at the lower of cost, first-in, first-out or market. Work in process and finished goods are valued as a percentage of completed cost, not in excess of net realizable value. Work in process and finished goods inventory associated with programs cancelled by customers are fully reserved for as obsolete. Inventory reserves were recorded in the current quarter associated with the closing of domestic PALFlex manufacturing operations. Reductions in obsolescence reserves are recognized when realized. Inventories, net of reserves, consisted of:
March 30, 2003 June 30, 2002 -------------- ------------- Raw materials $ 6,442,057 $ 7,240,945 Work in process 6,718,296 7,382,378 Finished goods 2,601,673 2,965,266 ----------- ----------- Total $15,762,026 $17,588,589 =========== ===========
11. Revenue Recognition Policy -------------------------- Revenue on product sales is recognized when persuasive evidence of an agreement exists, the price is fixed and determinable, delivery has occurred and there is reasonable assurance of collection of the sales proceeds. The Company generally obtains written purchase authorizations from its customers for a specified amount of product, at a specified price and considers delivery to have occurred at the time of shipment. License fees and royalty income are recognized when earned. 12. Accrued Liabilities - Facility Exit Costs ----------------------------------------- In June 2002, the Company committed to a plan to consolidate and relocate certain of its manufacturing operations. The Company accrued $1,480,000 for lease costs, the abandonment of leasehold improvements, and for a lease termination penalty, all of which were reported (as cost of sales) in its consolidated statement of operations. The lease agreement, for which certain costs have accrued under this plan, expires in 2007. However, the Company has the right, pursuant to the lease, to terminate the lease effective as of June 30, 2004. Costs for the quarter ended March 30, 2003 and cumulative to date are as follows: 11
Exit Costs Costs Adjusted Accrued Incurred Balance ---------- -------- -------- Lease costs $ 755,000 $(108,072) $646,928 Leasehold improvements 625,000 (573,767) 51,233 Lease termination penalty 100,000 0 100,000 ---------- --------- -------- Total $1,480,000 $(681,839) $798,161 ========== ========= ========
13. Related Party Transactions -------------------------- During the nine month periods ended March 30, 2003 and March 31, 2002, the Company recorded $580,000 and $688,000, respectively, for equipment purchases from a company in which a former officer of Parlex has a direct financial interest. At March 30, 2003 and March 31, 2002, the Company has recorded within accounts payable and accrued expenses $200,000 and $110,000, respectively, for equipment purchases from this party. Cumulative purchases to date from this party are $1,852,000. 14. Stock Based Compensation ------------------------ At March 30, 2003, the Company accounts for stock-based compensation under the recognition and measurement principals of APB Opinion No. 25, "Accounting for Stock Issued to Employees", and related Interpretations. No stock-based employee compensation cost is reflected in net income, as all options granted had an excise price equal to the market value of the underlying common stock on the date of grant. The following table illustrates the effect on net income and earnings per share 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. The following table presents combined activity for stock options for the three months and nine months ended March 30, 2003:
Three Months Ended Nine Months Ended March 31, 2003 March 31, 2003 --------------------- --------------------- Weighted- Weighted- Shares Average Shares Average Under Exercise Under Exercise Option Price Option Price ------ -------- ------ --------- Outstanding options at beginning of period 573,275 $14.05 470,750 $14.63 Granted - - 126,150 11.21 Surrendered (65,500) 20.18 (80,125) 18.90 Exercised - - (9,000) 5.84 ------- ------ ------- ------ Outstanding options at end of period 507,775 13.26 507,775 13.26 Exercisable options at end of period 249,240 14.54 249,240 14.54 Weighted average fair value of options granted during the period $ 4.60
The following table presents weighted average price and life information about significant option groups outstanding and exercisable at March 30, 2003:
Options Outstanding Options Exercisable --------------------------------------- --------------------- Weighted- Average Weighted- Weighted- Remaining Average Average Exercise Number Contractual Exercise Exercise Prices Outstanding Life (Years) Price Number Price -------- ----------- ------------ -------- ------ --------- $ 3.60 - $ 7.20 12,000 2.1 $ 6.05 12,000 $ 6.05 7.21 - 10.80 51,500 8.8 10.25 14,500 10.21 10.81 - 14.40 307,525 8.1 12.16 102,740 12.53 14.41 - 18.00 68,750 6.3 16.17 53,000 16.15 18.01 - 21.60 66,000 4.6 18.78 66,000 18.78 21.61 - 25.20 2,000 7.1 22.00 1,000 22.00 ------- --- ------ ------- ------ $3.60 - $25.20 507,775 7.3 $13.26 249,240 $14.54 ======= === ====== ======= ======
The following are the pro forma net loss and loss per share, as if compensation expense for the option plans had been determined based on the fair value at the grant date:
Three Months Ended Nine Months Ended March 30, 2003 March 31, 2002 March 30, 2003 March 31, 2002 -------------- -------------- -------------- -------------- Net loss $(5,929,027) $(1,667,448) $(17,220,187) $(5,510,476) Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects (188,077) (244,205) (560,839) (800,118) ----------- ----------- ------------ ----------- Pro forma net income $(6,117,104) $(1,911,653) $(17,781,026) $(6,310,594) =========== =========== ============ =========== Earnings per share: Basic and diluted, as reported $ (0.94) $ (0.26) $ (2.73) $ (0.87) =========== =========== ============ =========== Basic and diluted, pro forma $ (0.97) $ (0.30) $ (2.82) $ (1.00) =========== =========== ============ ===========
The fair value of options at the date of grant were estimated using the Black-Scholes option pricing model with the following assumptions:
Nine Months Ended Nine Months Ended March 30, 2003 March 31, 2002 ----------------- ----------------- Average risk-free interest rate 2.2% 3.7% Expected life of option grants 3.5 years 2.5 years Expected volatility of underlying stock 54% 78% Expected dividend rate None None
12 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The Management's Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the financial information included in this Quarterly Report on Form 10-Q and with "Factors That May Affect Future Results" set forth on page 21. The following discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from the results contemplated by these forward-looking statements as a result of many factors, including those discussed below and elsewhere in this Quarterly Report on Form 10-Q. Our significant accounting policies are more fully described in Note 2 to our consolidated financial statements in our Annual Report on Form 10-K for the year ended June 30, 2002, and in Part IV, Item 14 "Exhibits, Financial Statement Schedule and Reports on Form 8-K". However, certain of our accounting policies are particularly important to the portrayal of our financial position and results of operations and require the application of significant judgement by our management which subjects them to an inherent degree of uncertainty. In applying our accounting policies, our management uses its best judgement to determine the appropriate assumptions to be used in the determination of certain estimates. Those estimates are based on our historical experience, terms of existing contracts, our observance of trends in the industry, information provided by our customers, information available from other outside sources, and on various other factors that we believe to be appropriate under the circumstances. We believe that the critical accounting policies discussed below involve more complex management judgement due to the sensitivity of the methods, assumptions and estimates necessary in determining the related asset, liability, revenue and expense amounts. Critical Accounting Policies - ---------------------------- The preparation of consolidated financial statements requires that we make estimates and judgements that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures. On an ongoing basis, we evaluate our estimates, including those related to bad debts, inventories, property, plant and equipment, intangible assets, income taxes, and other accrued expenses. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgements about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results will differ from these estimates under different assumptions or conditions. Revenue recognition and accounts receivable. We recognize revenue when persuasive evidence of an agreement exists, the price is fixed and determinable, delivery has occurred and there is reasonable assurance of collection of the sales proceeds. We generally obtain written purchase authorizations from our customers for a specified amount of product, at a specified price and consider delivery to have occurred at the time of shipment. License fees and royalty income are recognized when earned. We have demonstrated the ability to make reasonable and reliable estimates of product returns in accordance with SFAS No. 48 and of allowances for doubtful accounts based on significant historical experience. We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required. Inventories. We value our inventory at the lower of the actual cost to purchase and/or manufacture the inventory or the current estimated market value of the inventory. We regularly review our inventory, including the status of customer purchase orders and record a provision or write-down for excess or obsolete inventory based primarily on our estimate of expected future product demand. Our estimates of future product demand may differ from actual demand and, as such our estimate of the provision required for excess and obsolete inventory may increase, which we would record in the period such determination was made. Reductions in inventory reserves are recognized when realized. The amount of the write-down is the excess of historical cost over estimated realizable value. Once established, these write-downs are considered permanent adjustments to the cost basis of the excess inventory. 13 Demand for our products may fluctuate significantly over time and actual demand and market conditions may be more or less favorable than those projected by management. In the event that actual demand is lower than originally projected, additional inventory write-downs may be required. Income Taxes. We determine if our deferred tax assets and liabilities are realizable on an ongoing basis by assessing our valuation allowance and by adjusting the amount of such allowance, as necessary. In the determination of the valuation allowance, we have considered future taxable income and the feasibility of tax planning initiatives. Should we determine that it is more likely than not that we will realize certain of our deferred tax assets for which we previously provided a valuation allowance, an adjustment would be required to reduce the existing valuation allowance. Conversely, if we determine that we would not be able to realize our remaining recorded net deferred tax asset, an adjustment to increase the valuation allowance would be charged to our results of operations in the period such conclusion was reached. In addition, we operate within multiple taxing jurisdictions and are subject to audit in these jurisdictions. These audits can involve complex issues, which may require an extended period of time for resolution. Although we believe that adequate consideration has been made for such issues, there is the possibility that the ultimate resolution of such issues could have an adverse effect on the results of our operations and additional charges to reserves for deferred tax assets would be necessary. As a result of our recent history of operating losses, uncertain future operating results, and the current non-compliance with certain of our debt covenants requirements we determined that it is more likely than not that certain historic and current year income tax benefits will not be realized. Consequently, no tax benefit associated with the current quarter has been recognized relating to the U.S. operating losses, and we have established a valuation allowance against all of our remaining net U.S. deferred tax assets. Upon a favorable change in the operations and financial condition of the Company that result in management's determination that it is more likely than not that all or a portion of the net deferred tax assets will be utilized, all or a portion of the valuation allowance previously provided for would be eliminated. Overview - -------- We are a leading supplier of flexible interconnects principally for sale to the automotive, telecommunications, diversified electronics, aerospace, appliance, electronic identification and computer markets. We believe that our development of innovative materials and processes provides us with a competitive advantage in the markets in which we compete. During the past three fiscal years, we have invested approximately $24.8 million in property and equipment and approximately $17.3 million in research and development to develop materials and enhance our manufacturing processes. We believe that these expenditures will help us to meet customer demand for our products, and enable us to continue to be a technological leader in the flexible interconnect industry. Our research and development expenses are included in our cost of products sold. We formed a Chinese joint venture, Parlex Shanghai, in 1995 to better serve our customers that have production facilities in Asia and to more cost effectively manufacture products for worldwide distribution. On October 22, 2001, we purchased the 40% share of Parlex Shanghai held by one of our joint venture partners, Jinling, increasing our equity interest in Parlex Shanghai to 90.1%. Parlex Shanghai's results of operations, cash flows and financial position are included in our consolidated financial statements. We have transferred the production of our automotive related products utilizing our PalFlex(R) technology from our Methuen, Massachusetts facility to Parlex Interconnect, a wholly owned subsidiary of Parlex Asia Pacific Limited, which is located in China. Qualification of this production line was completed in December 2002. Results of Operations - --------------------- The following table sets forth, for the periods indicated, selected items in our statements of operations as a percentage of total revenue. You should read the table and the discussion below in conjunction with our Consolidated Financial Statements and the Notes thereto. 14
Three Months Ended Nine Months Ended March 30, 2003 March 31, 2002 March 30, 2003 March 31, 2002 -------------- -------------- -------------- -------------- Total revenues 100.0 % 100.0 % 100.0 % 100.0 % Cost of products sold 109.2 % 100.0 % 99.9 % 99.3 % ----- ----- ----- ----- Gross profit (loss) (9.2)% 0.0 % 0.1 % 0.7 % Selling, general and administrative expenses 20.0 % 15.3 % 16.4 % 16.0 % ----- ----- ----- ----- Operating loss (29.2)% (15.3)% (16.3)% (15.3)% Loss from operations before (provision) benefit from income taxes and minority interest (30.4)% (16.0)% (17.3)% (15.7)% ----- ----- ----- ----- Net loss (30.5)% (7.8)% (26.9)% (8.7)% ===== ===== ===== =====
Three Months Ended March 30, 2003 Compared to Three Months - ---------------------------------------------------------- Ended March 31, 2002 -------------------- Total Revenues. Our total revenues were $19.4 million for the three months ended March 30, 2003 compared to $21.3 million for the three months ended March 31, 2002. Revenues decreased 9% when compared to the same period last year. Decreases are primarily attributable to the closing of our domestic PALFlex operations. Domestic PALFlex revenues were $1.1 million versus $4.1 million in the same period of the prior year. Domestic PALFlex production has been a very unprofitable business over the last two years. High manufacturing costs coupled with rapidly eroding pricing in the high volume low cost segment of the automotive market have contributed to significant domestic losses. Over the last 18 months, we have transferred this production capability to China. Qualification of the PALFlex line in our Shanghai facility was completed in December 2002. We expect to re-build a profitable PALFlex based business in China leveraging a significantly lower cost to manufacture model with particular focus on lower volume higher mix business opportunities. Revenues from foreign operations were 33% of total revenues for the three months ending March 30, 2003 compared to 27% of total revenues for the comparable period of the prior year. The growth in revenue from our foreign operations is a result of our efforts to transfer manufacturing processes from our domestic operations to our lower cost international manufacturing locations. Domestically, revenues remained strong in the appliance market with polymer thick film revenue growth in excess of 30% year over year. Appliance market revenues continue to be driven primarily by dishwasher product lines with significant growth opportunities remaining in laundry and range segments. Growth also occurred in our broad based computer business with growth driven primarily by increases in the printer and peripheral markets. Revenues from the military and aerospace market continued to grow with several significant orders expected to impact revenues in the next 12 months. We continue to experience a very soft market in the broader electronics industry with no expectation of short- term improvement. Revenue opportunities will continue to be driven by technology advancement and penetration of new or emerging markets. Cost of Products Sold. Cost of products sold were $21.2 million, or 109% of total revenues, for the three months ended March 30, 2003, compared to $21.3 million, or 100% of total revenues for the comparable period in the prior year. 15 Domestic PALFlex cost of products sold was $4.2 million on $1.1 million in revenues for the quarter ended March 30, 2003. Expenses associated with the closing of our domestic PALFlex manufacturing operations significantly adversely impacted product costs. These expenses included severance for 60 people, write-offs for asset impairments and inventory reserves. All remaining costs associated with the closing of this operation were recorded in the quarter. In addition, in March 2003, we reduced the total leased space of our Mexico finishing operation by approximately 50%. Headcount in Mexico was reduced by a total of 43. Our Methuen, Massachusetts operation continued to experience low capacity utilization and correspondingly significant unfavorable manufacturing variances. To improve utilization in fiscal 2003, we decided in fiscal 2002 to relocate our Salem, New Hampshire laminated cable operations to our Methuen, Massachusetts facility. We completed this move in December 2002. The costs of approximately $1,480,000 associated with the closing of our Salem, New Hampshire facility were accrued for in fiscal 2002. Costs of approximately $450,000 associated with the physical relocation of the business were incurred and recorded in the current fiscal year. Although these cost reduction measures are expected to improve gross margins, a return to profitability is predicated upon operational performance, a more favorable product mix, and increased sales. Selling, General and Administrative Expenses. Selling, general and administrative expenses were $3.9 million, or 20% of total revenues, for the three months ended March 30, 2003, and $3.3 million or 15% of total revenues for the same period in the prior year representing an increase of $634,000, or 20%. The increase in part, reflects the costs associated with staffing our new regionally based sales organization. The regional sales teams are responsible for marketing and selling the entire Parlex product offering to existing and potential customers within their territories. Further, non-reoccurring costs associated with our re-financing activities were included in general and administrative expenses for the quarter. We continue to implement tight cash flow management, which has resulted in the elimination of all non-core consulting expenses and non-essential outside services. All discretionary expenses continue to be held to a minimum. Other (Expense) Income, Interest Expense, and (Provision) Benefit from Income Taxes. Other income was $6,000 for the three months ended March 30, 2003, compared to $9,000 for the three months ended March 31, 2002. Other income for each period consisted primarily of interest earned on our short- term investments. Interest expense was $243,000 for the three months ended March 30, 2003, compared to $146,000 for the comparable period in the prior year. Higher borrowings for the three months ending March 30, 2003 compared to the three months ended March 31, 2002 resulted in an increase in interest expense. The outstanding balances on our long-term debt, including current maturities, were $17.2 million and $11.7 million at the quarter ended March 30, 2003 and March 31, 2002, respectively. Our loss before any benefit from income taxes and for the minority interest in our Chinese joint venture, Parlex Shanghai, was $5.9 million for the three months ended March 30, 2003, compared to a loss of $3.4 million for the comparable period in the prior year. We include Parlex Shanghai's results of operations, cash flows and financial position in our consolidated financial statements. Our effective tax rate was approximately zero percent in the three months ended March 30, 2003 and (51%) for the comparable period in the prior year. Our effective tax rate is impacted by the proportion of our estimated annual income being earned in domestic versus foreign tax jurisdictions, the generation of tax credits and the recording of any valuation allowance. As a result of our recent history of operating losses, uncertain future operating results, and the current non-compliance with certain of our debt covenants requirements we determined that it is more likely than not that certain historic and current year income tax benefits will not be realized. Consequently, no tax benefit associated with U.S. operating losses has been recognized in the current quarter, moreover, we have established a valuation allowance against all of our remaining net U.S. deferred tax assets. 16 Nine Months Ended March 30, 2003 Compared to Nine Months - -------------------------------------------------------- Ended March 31, 2002 -------------------- Total Revenues. Our total revenues were $64.0 million for the nine months ended March 30, 2003 compared to $63.6 million for the nine months ended March 31, 2002. Revenues from foreign operations were 35% of total revenues for the nine months ending March 30, 2003 compared to 25% of total revenues for the comparable period of the prior year. The growth in revenue from our foreign operations is a result of our efforts to transfer manufacturing processes from our domestic operations to our lower cost international manufacturing locations. Growth also occurred in our broad based computer business with significant revenues recorded from sales of flexible interconnects for desktops and printers. Revenues from our Chinese operations increased more than 60% year over year. Domestically, revenues remained strong in the appliance market. Appliance market revenues continue to be driven primarily by the dishwasher segment. Revenues from the military and aerospace market continued to grow with several significant orders expected to impact revenues in the next 12 months. Increases were offset by reductions in our domestic PALFlex revenues. Over the past 18 months, we have invested in the transfer of this technology to China. This has resulted in the winding down of PALFlex revenues domestically with the completion of this process occurring in March 2003. Several important customers have moved production to our Chinese facility. Production of other PALFlex products, including several unprofitable products, have been completed or terminated. We expect over the next several quarters, to re-build our PALFlex business leveraging a significantly lower cost to manufacture model. Continued price erosion in the automotive market and declines in telecommunications revenues over the past year have also contributed to the decreases. Cost of Products Sold. Cost of products sold were $63.9 million, or 100% of total revenues, for the nine months ended March 30, 2003, compared to $63.2 million, or 99% of total revenues for the comparable period in the prior year. Margins for the nine months ended March 30, 2003 were adversely impacted by approximately $439,000 in severance costs associated with work force reductions compared to $180,000 for the nine months ended March 31, 2002. Domestic PALFlex cost of products sold was $11.8 million on $6.2 million in revenues for the nine months ended March 30, 2003. Expenses associated with the closing of our domestic PALFlex manufacturing operations significantly adversely impacted product costs. These expenses included severance for 60 people, write-offs for asset impairments and inventory reserves. All remaining costs associated with the closing of this operation were recorded in the quarter. In addition, in March 2003, we reduced the total leased space of our Mexico finishing operation by approximately 50%. Headcount in Mexico was reduced by a total of 154. Our Methuen, Massachusetts operation continued to experience low capacity utilization and correspondingly, significant unfavorable manufacturing variances. To improve utilization in fiscal 2003, we decided in fiscal 2002 to relocate our Salem, New Hampshire laminated cable operations to our Methuen, Massachusetts facility. We completed this move in December 2002. The costs of approximately $1,480,000 associated with the closing of our Salem, New Hampshire facility were accrued for in fiscal 2002. Costs of approximately $450,000, associated with the physical relocation of the business were incurred and recorded in fiscal 2003. During the past year, we have made a significant investment to improve our margins through the transfer of labor intensive manufacturing operations to more cost-effective locations, primarily in the People's Republic of China. Even though the transfer of manufacturing operations is costly, this investment is core to our long-term strategy for cost effective manufacturing. During this transfer process, we have incurred substantial losses supporting both the existing domestic production lines and the developing capabilities in China. In fiscal 2003, we incurred losses on our domestic PALFlex operations of approximately $6.2 million versus $3.7 million in the same period of the prior year. We expect the transfer of labor intensive manufacturing operations to more cost effective locations to result 17 in cost savings in excess of $1 million quarterly. Although these cost reduction measures are expected to improve gross margins, a return to profitability is predicated upon operational performance, a more favorable product mix, and increased sales. Selling, General and Administrative Expenses. Selling, general and administrative expenses were $10.5 million, or 16% of total revenues, for the nine months ended March 30, 2003, and $10.2 million or 16% of total revenues for the same period in the prior year representing an increase of $310,000, or 3%. The increased costs are associated with the staffing our new regionally based sales organization. The regional sales teams are responsible for marketing and selling the entire Parlex product offering to existing and potential customers within their territories. Headcount decreases through work force reductions and attrition have resulted in reduced spending at the corporate level. Tight cash flow management has resulted in the elimination of all non-core consulting expenses and non- essential outside services. All discretionary expenses continue to be held to a minimum. Other (Expense) Income, Interest Expense, and (Provision) Benefit from Income Taxes. Other expense was ($43,000) for the nine months ended March 30, 2003, compared to other income of $231,000 for the nine months ended March 31, 2002. Other expense for the period ended March 30, 2003 consisted primarily of losses due to exchange rate fluctuations. Other income for the period ended March 31, 2002 consisted primarily of interest earned on our short-term investments. Interest expense was $670,000 for the nine months ended March 30, 2003, compared to $455,000 for the comparable period in the prior year. Higher borrowings for the nine months ending March 30, 2003 compared to the nine months ended March 31, 2002 resulted in an increase in interest expense. The outstanding balances on our long-term debt, including current maturities, were $17.2 million and $11.7 million for the nine months ended March 30, 2003 and March 31, 2002, respectively. Our loss before any benefit from income taxes and for the minority interest in our Chinese joint venture, Parlex Shanghai, was $11.1 million for the nine months ended March 30, 2003, compared to a loss of $10.0 million for the comparable period in the prior year. We include Parlex Shanghai's results of operations, cash flows and financial position in our consolidated financial statements. Our effective tax rate was approximately 55% in the nine months ended March 30, 2003 and (40%) for the comparable period in the prior year. Our effective tax rate is impacted by the proportion of our estimated annual income being earned in domestic versus foreign tax jurisdictions, the generation of tax credits and the recording of any valuation allowance. As a result of our recent history of operating losses, uncertain future operating results, and the current non-compliance with certain of our debt covenants requirements, we determined that it is more likely than not that certain historic and current year income tax benefits will not be realized. Consequently, no tax benefit associated with U.S. operating losses has been recognized in the current quarter, moreover, we have established a valuation allowance against all of our remaining net U.S. deferred tax assets. Liquidity and Capital Resources - ------------------------------- As of March 30, 2003, we had approximately $1.3 million in cash and cash equivalents. As discussed below, we are currently in default on all of our long-term debt agreements and have classified $15 million as current. Net cash used in operations during the nine months ended March 30, 2003 was $694,000. Operating losses of $17.2 million after adjustment for minority interest, depreciation, amortization, loss on disposal and deferred tax asset valuation allowances resulted in $5.5 million of cash used for operations. This was offset by $4.8 million generated from working capital, including $1.5 million from income tax refunds. Net cash used by investing activities was $1.5 million for the nine months ended March 30, 2003. These funds were used to purchase capital equipment and other assets primarily for completion of our new smart card production line in Suzhou, People's Republic of China. As of March 30, 2003 we have financed the purchase of 18 $487,000 of additional capital equipment through our accounts payable. We have implemented plans to strictly control our capital expenditures and all significant capital investments necessary to deliver our revenue plans are largely complete. Net cash provided by financing activities was $1.7 million for the nine months ended March 30, 2003, which represents the net borrowings and repayments on our bank debt and $53,000 from the exercise of stock options. The bank borrowings include $3.8 million from Parlex Interconnect's $5.0 million Hong Kong bank loan and payments of $1.2 million to retire its two local short-term bank notes. In June 2002, our subsidiary, Parlex Interconnect, executed a $5,000,000 Loan Agreement (the "Loan Agreement") with CITIC Ka Wah Bank Limited, a Hong Kong bank. Proceeds received under the Loan Agreement are to be used exclusively for financing land, building, plant and machinery and other working capital requirements and to repay Parlex Interconnect's two local short-term bank notes. Borrowings under the Loan Agreement accrue interest at a fixed rate equal to LIBOR plus a margin of 2.2%. Interest is payable at the end of each interest period which varies from one to six months. Amounts borrowed under the Loan Agreement are to be paid in four installments of principal in the amount of $500,000, $500,000, $1,000,000 and $3,000,000 beginning in February 2004 with the final payment due August 2005. As of March 30, 2003, total borrowings were $3.8 million. These borrowings were used to repay local short-term bank notes of $1.2 million and fund equipment purchases and working capital requirements. As a condition of the approval of this Loan Agreement, we and our subsidiary, Parlex Asia Pacific Ltd., have provided a guarantee of the payment of this loan. The Loan Agreement also contains a cross default provision that would permit the lender to accelerate the repayment of Parlex Interconnect's obligation under the Loan Agreement in the event of our default on other financing arrangements. We are in violation of the cross default provision as of March 30, 2003. As a result, we have classified all borrowings under the Loan Agreement as current. On October 31, 2002, we executed the Third Amendment to our Loan Agreement with Fleet Bank (as amended, the "Credit Agreement") (originally dated March 1, 2000). The Credit Agreement provided our bank with a secured interest in all of our assets including a first mortgage on our Methuen, Massachusetts facility. Total availability for borrowings under the Credit Agreement was reduced to $13,000,000 on December 30, 2002 and to $12,000,000 on March 31, 2003. The borrowing base was amended so as to be calculated as 80% of eligible accounts receivable plus 70% of the appraised value of the Methuen, Massachusetts facility, less amounts outstanding through letters of credit. No further advances of principal will be made under this Credit Agreement after December 30, 2003. At our discretion, borrowings under the Credit Agreement accrue interest at either a variable rate equal to the bank's prime rate (4.25% at March 30, 2003) or a fixed rate equal to LIBOR plus a margin that varies from 1.5% to 2.25%. Interest on the LIBOR contracts is payable at the end of each LIBOR term. The Credit Agreement carries an annual commitment fee of 1/4% to 1/2% on the average daily-unused portion of the bank's commitment. Interest is payable monthly. The Credit Agreement allows us to issue letters of credit, which reduce our availability for borrowings under the Credit Agreement. The Credit Agreement permits us to pay cash dividends to the extent that such payment would not cause us to violate the aforementioned covenants. The Credit Agreement has certain restrictive covenants related to current ratio, tangible net worth, total liabilities to tangible net worth, debt service coverage to EBITDA, and income, EBITDA and capital expenditure targets. We are out of compliance with certain financial covenants contained in the Credit Agreement as of March 30, 2003 and therefore have classified all borrowings under the Credit Agreement as current. Parlex Shanghai Term Notes - On February 25, 2003, Parlex Shanghai entered into a short-term bank note bearing interest at 5.544%. Shanghai Jinling Co., Ltd ("Jinling"), a former minority interest partner in Parlex Shanghai, guarantees the short-term note. Amounts outstanding under this six month short-term note total $845,000 and are included within the current portion of long-term debt on the consolidated balance sheet for the period ended March 30, 2003. The Company provides a cross guarantee to Jinling for 100% of the term note. On March 7, 2003, Parlex Shanghai entered into a short-term bank note bearing interest at 5.841%. Amounts outstanding under this short-term bank note, due February 25, 2004, total $1.3 million and are included within the current portion of long-term debt on the consolidated balance sheet for the period ended March 30, 2003. 19 We have signed a Purchase and Sale Agreement ("Sale Lease Back Agreement") with a third party wherein we will sell our corporate headquarters and principal U.S. manufacturing facility located in Methuen, Massachusetts and our Cranston, Rhode Island manufacturing facility. We will then enter into a lease of both facilities with the Purchaser. Net proceeds principally will be used to reduce borrowings under the Credit Agreement. We were unsuccessful in closing our sale lease back transaction reported last quarter due to a series of complex tax issues, which could not be resolved by the purchasing party. We have received a commitment letter from a major domestic bank for a $10 million working capital line of credit subject to the satisfactory closing of our Sale Lease Back Agreement. We expect to finalize our re-financing activities in the quarter ending June 30, 2003. We continue to take a series of actions to reduce operating expenses and to restructure operations, which to date have consisted primarily of reductions in workforce and consolidating manufacturing operations, including the closing of the Salem, New Hampshire facility which was completed in December 2002. Moreover, we continue to implement plans to control operating expenses, inventory levels, and capital expenditures as well as manage accounts payable and accounts receivable to enhance cash flow and return the Company to profitability. Our plans include the following actions: 1) transfer certain manufacturing processes from our domestic operations to lower cost international manufacturing locations, primarily those in the People's Republic of China; 2) expand our products in the home appliance, military and aerospace, computer and peripherals, and radio frequency identification and smart card markets; and 3) reduce general and administrative expenses. In December 2002, we successfully completed the initial product qualification on our new smart card production line in Suzhou, People's Republic of China. We have invested in excess of $4 million in this line over the past 18 months. Revenues, from this product are forecasted to increase sequentially over the next several calendar quarters. We have successfully completed transfer, installation and qualification of our proprietary PALFlex technology to our Shanghai, People's Republic of China operation. Transfer of certain domestic PALFlex manufacturing was completed in the quarter ended March 30, 2003, while remaining domestic obligations were terminated. We recorded charges to cost of products sold related to the shut down of these operations, including inventory reserves and fixed asset impairments. Domestic PALFlex production represented a significant portion of our quarterly losses over the past two years. Transfer of this low cost, high volume production is critical to our return to profitability. Discontinuance of domestic production is expected to improve operating results in excess of $1 million a quarter. However, there can be no assurances that we will be able to implement all of our plans or execute the sale lease back and bank financing transactions or that the ultimate execution of such plans and transactions will achieve all of the desired results. In such event, although we may be able to reduce operating costs further by reducing headcount, closing additional facilities, or scaling back current operations until financing becomes available on terms acceptable to us, a modification to the auditor's report on our June 30, 2003 financial statements could result. Recent Adoption of Accounting Pronouncements - -------------------------------------------- On January 1, 2003, we adopted SFAS No. 146 "Accounting for Costs Associated with Exit or Disposal Activities" ("SFAS No. 146"). This statement supersedes Emerging Issues Task Force ("EITF") No. 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity". Under this statement, a liability for a cost associated with a disposal or exit activity is recognized at fair value when the liability is incurred rather than at the date of an entity's commitment to an exit plan as required under EITF 94-3. We adopted this statement on January 1, 2003. On July 1, 2002, we adopted SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets" ("SFAS No. 144"). SFAS No. 144 supercedes SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, " and the accounting and reporting provisions of APB Opinion No. 30, "Reporting the Results of Operations- Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions". SFAS No. 144 20 specifies accounting for long-lived assets to be disposed of by sale, and broadens the presentation of discontinued operations to include more disposal transactions than were included under the previous standards. On December 30, 2002, we adopted the disclosure provisions of SFAS No. 148, "Accounting for Stock-Based Compensation -- Transition and Disclosure, an amendment of FASB Statement No. 123." This Statement amends FASB Statement No. 123, "Accounting for Stock-Based Compensation", to provide alternative methods of transition for a voluntary change in the fair value based method of accounting for stock-based employee compensation. In addition, this Statement amends the disclosure requirements of SFAS No. 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The adoption of SFAS Nos. 144, 146 and 148 did not have a material effect on our financial statements. Future Adoption of Accounting Pronouncements - -------------------------------------------- In November 2002, the FASB issued FASB Interpretation No. 45, "Guarantor's Accounting and Disclosures Requirements for Guarantees, Including Indirect Guarantees". This Interpretation elaborates on the disclosures to be made by a guarantor in its interim and annual financial statements about its obligations under certain guarantees that it has issued. It also clarifies that a guarantor is required to recognize, at the inception of the guarantee, a liability for the fair value of the obligation undertaken in issuing the guarantee. The Interpretation does not prescribe a specific approach for subsequently measuring the guarantor's recognized liability over the term of the related guarantee. This Interpretation also incorporates, without change, the guidance in FASB Interpretation No. 34, Disclosure of Indirect Guarantees of Indebtness of Others, which is being superseded. The initial recognition and measurement provisions of this Interpretation are applicable on a prospective basis to guarantees issued or modified after December 31, 2002, irrespective of the guarantor's fiscal year-end. The disclosure requirements in this Interpretation are effective for financial statements of interim or annual periods ending after December 15, 2002. At March 30, 2003, we issued no guaratees that qualify for disclosure in this interim financial statement. Factors That May Affect Future Results - -------------------------------------- Our prospects are subject to certain uncertainties and risks. This Quarterly Report on Form 10-Q contains certain "forward-looking statements" as defined under the federal securities laws. Our future results may differ materially from the current results and actual results could differ materially from those projected in the forward-looking statements as a result of certain risk factors, including but not limited to those set forth below, other one-time events and other important factors disclosed previously and from time to time in our other filings with the Securities and Exchange Commission. We are currently not in compliance with the financial covenants of our existing financing arrangements and the debt may be callable. We are currently not in compliance with the financial covenants of our existing financing arrangements and the debt is callable by the lender. We are currently negotiating with our current lender to amend our existing financing 21 arrangements, including the financial covenants, and are negotiating with alternative lenders to provide us with new sources of financing. Failure to successfully negotiate alternative financing or to amend our existing financing arrangements, including the financial covenants, may result in significant adverse liquidity effects on us. Our business could continue to be materially adversely affected as a result of general economic and market conditions. We are subject to the effects of general global economic and market conditions. Our operating results have been materially adversely affected as a result of recent unfavorable economic conditions and reduced electronics industry spending. If economic and market conditions do not improve, our business, results of operations or financial condition could continue to be materially adversely affected. Our debt instrument contains restrictive covenants that could adversely affect our business by limiting our flexibility. Our amended and restated credit agreement imposes restrictions that affects, among other things, our ability to incur debt, pay dividends, sell assets, create liens, make capital expenditures and investments, merge or consolidate, enter into transactions with affiliates, and otherwise enter into certain transactions outside the ordinary course of business. Our amended and restated credit agreement also requires us to maintain specified financial ratios and meet certain financial tests. Our ability to continue to comply with these covenants and restrictions may be affected by events beyond our control. A breach of any of these covenants or restrictions would result in an event of default under our amended and restated credit agreement. Upon the occurrence of a breach, the lender under our amended and restated credit agreement could elect to declare all amounts borrowed thereunder, together with accrued interest, to be due and payable, foreclose on the assets securing our amended and restated credit agreement and/or cease to provide additional revolving loans or letters of credit, which would have a material adverse effect on us. If we cannot obtain additional financing when needed, we may not be able to expand our operations and invest adequately in research and development, which could cause us to lose customers and market share. The development and manufacturing of flexible interconnects is capital intensive. To remain competitive, we must continue to make significant expenditures for capital equipment, expansion of operations and research and development. We expect that substantial capital will be required to expand our manufacturing capacity and fund working capital for anticipated growth. We may need to raise additional funds either through borrowings or further equity financings. We may not be able to raise additional capital on reasonable terms, or at all. If we cannot raise the required funds when needed, we may not be able to satisfy the demands of existing and prospective customers and may lose revenue and market share. Our operating results fluctuate and may fail to satisfy the expectations of public market analysts and investors, causing our stock price to decline. Our operating results have fluctuated significantly in the past and we expect our results to continue to fluctuate in the future. Our results may fluctuate due to a variety of factors, including the timing and volume of orders from customers, the timing of introductions of and market acceptance of new products, changes in prices of raw materials, variations in production yields and general economic trends. It is possible that in some future periods our results of operations may not meet or exceed the expectations of public market analysts and investors. If this occurs, the price of our common stock is likely to decline. Our quarterly results depend upon a small number of large orders received in each quarter, so the loss of any single large order could harm quarterly results and cause our stock price to drop. 22 A substantial portion of our sales in any given quarter depends on obtaining a small number of large orders for products to be manufactured and shipped in the same quarter in which the orders are received. Although we attempt to monitor our customers' needs, we often have limited knowledge of the magnitude or timing of future orders. It is difficult for us to reduce spending on short notice on operating expenses such as fixed manufacturing costs, development costs and ongoing customer service. As a result, a reduction in orders, or even the loss of a single large order, for products to be shipped in any given quarter could have a material adverse effect on our quarterly operating results. This, in turn, could cause our stock price to decline. Because we sell a substantial portion of our products to a limited number of customers, the loss of a significant customer or a substantial reduction in orders by any significant customer would harm our operating results. Historically we have sold a substantial portion of our products to a limited number of customers. Our 20 largest customers based on sales accounted for approximately 60% of our total revenue in fiscal 2000, 55% in fiscal 2001, and 44% in fiscal 2002. We expect that a limited number of customers will continue to account for a high percentage of our total revenues in the foreseeable future. As a result, the loss of a significant customer or a substantial reduction in orders by any significant customer would cause our revenues to decline and have an adverse effect on our operating results. If we are unable to respond effectively to the evolving technological requirements of customers, our products may not be able to satisfy the demands of existing and prospective customers and we may lose revenues and market share. The market for our products is characterized by rapidly changing technology and continuing process development. The future success of our business will depend in large part upon our ability to maintain and enhance our technological capabilities. We will need to develop and market products that meet changing customer needs, and successfully anticipate or respond to technological changes on a cost-effective and timely basis. There can be no assurance that the materials and processes that we are currently developing will result in commercially viable technological processes, or that there will be commercial applications for these technologies. In addition, we may not be able to make the capital investments required to develop, acquire or implement new technologies and equipment that are necessary to remain competitive. It is also possible that the flexible interconnect industry could encounter competition from new technologies in the future that render flexible interconnect technology less competitive or obsolete. If we fail to keep pace with technological change, our products may become less competitive or obsolete and we may lose customers and revenues. A significant downturn in any of the sectors in which we sell products could result in a revenue shortfall. We sell our flexible interconnect products principally to the automotive, telecommunications and networking, diversified electronics, aerospace, home appliance and computer markets. Although we serve a variety of markets to avoid a dependency on any one sector, a significant downturn in any of these market sectors could cause a material reduction in our revenues, which could be difficult to replace. We rely on a limited number of suppliers, and any interruption in our primary sources of supply, or any significant increase in the prices of materials, chemicals or components, would have an adverse effect on our short-term operating results. We purchase the bulk of our raw materials, process chemicals and components from a limited number of outside sources. In fiscal 2002, we purchased approximately 23% of our materials from DuPont and Northfield Acquisition Co., doing business as Sheldahl, our two largest suppliers. We operate under tight manufacturing cycles with a limited inventory of raw materials. As a result, although there are alternative sources of the materials that we purchase from our existing suppliers, any unanticipated interruption in supply from DuPont or Sheldahl, or any 23 significant increase in the prices of materials, chemicals or components, would have an adverse effect on our short-term operating results. If we acquire additional businesses, these acquisitions will involve financial uncertainties as well as personnel contingencies, and may be risky and difficult to integrate. We have completed two acquisitions in the past four years and we may acquire additional businesses that could complement or expand our business. Acquired businesses may not generate the revenues or profits that we expect and we may find that they have unknown or undisclosed liabilities. In addition, if we do make acquisitions, we will face a number of other risks and challenges, including: the difficulty of integrating dissimilar operations or assets; potential loss of key employees of the acquired business; assimilation of new employees who may not contribute or perform at the levels we expect; diversion of management time and resources; and additional costs associated with obtaining any necessary financing. These factors could hamper our ability to receive the anticipated benefits from any acquisitions we may pursue, and could adversely affect our financial condition and our stock price. The additional expenses and risks related to our existing international operations, as well as any expansion of our global operations, could adversely affect our business. We own a 90.1% equity interest in our joint venture in China, Parlex Shanghai, which manufactures and sells flexible circuits. We also operate a facility in Mexico for use in the finishing, assembly and testing of flexible circuit and laminated cable products. We have a facility in the United Kingdom where we manufacture polymer thick film flexible circuits and polymer thick film flexible circuits with surface mounted components and intend to introduce production of laminated cable within the next year. We will continue to explore appropriate expansion opportunities as demand for our products increases. Manufacturing and sales operations outside the United States carry a number of risks inherent in international operations, including: imposition of governmental controls, regulatory standards and compulsory licensure requirements; compliance with a wide variety of foreign and U.S. import and export laws; currency fluctuations; unexpected changes in trade restrictions, tariffs and barriers; political and economic instability; longer payment cycles typically associated with foreign sales; difficulties in administering business overseas; labor union issues; and potentially adverse tax consequences. International expansion may require significant management attention, which could negatively affect our business. We may also incur significant costs to expand our existing international operations or enter new international markets, which could increase operating costs and reduce our profitability. We face significant competition, which could make it difficult for us to acquire and retain customers. We face competition worldwide in the flexible interconnect market from a number of foreign and domestic providers, as well as from alternative technologies such as rigid printed circuits. Many of our competitors are larger than we are and have greater financial resources. New competitors could also enter our markets. Our competitors may be able to duplicate our strategies, or they may develop enhancements to, or future generations of, products that could offer price or performance features that are superior to our products. Competitive pressures could also necessitate price reductions, which could adversely affect our operating results. In addition, some of our competitors are based in foreign countries and have cost structures and prices based on foreign currencies. Accordingly, currency fluctuations could cause our dollar-priced products to be less competitive than our competitors' products priced in other currencies. 24 We will need to make a continued high level of investment in product research and development and research, sales and marketing and ongoing customer service and support in order to remain competitive. We may not have sufficient resources to be able to make these investments. Moreover, we may not be able to make the technological advances necessary to maintain our competitive position in the flexible interconnect market. If we are unable to attract, retain and motivate key personnel, we may not be able to develop, sell and support our products and our business may lack strategic direction. We are dependent upon key members of our management team. In addition, our future success will depend in large part upon our continuing ability to attract, retain and motivate highly qualified managerial, technical and sales personnel. Competition for such personnel is intense, and there can be no assurance that we will be successful in hiring or retaining such personnel. We currently maintain a key person life insurance policy in the amount of $1.0 million on Peter J. Murphy. If we lose the services of Mr. Murphy or one or more other key individuals, or are unable to attract additional qualified members of the management team, our ability to implement our business strategy may be impaired. If we are unable to attract, retain and motivate qualified technical and sales personnel, we may not be able to develop, sell and support our products. If we are unable to protect our intellectual property, our competitive position could be harmed and our revenues could be adversely affected. We rely on a combination of patent and trade secret laws and non-disclosure and other contractual agreements to protect our proprietary rights. We own 22 patents issued and have 21 patent applications pending in the United States and have several corresponding foreign patent applications pending. Our existing patents may not effectively protect our intellectual property and could be challenged by third parties, and our future patent applications, if any, may not be approved. In addition, other parties may independently develop similar or competing technologies. Competitors may attempt to copy aspects of our products or to obtain and use information that we regard as proprietary. If we fail to adequately protect our proprietary rights, our competitors could offer similar products using materials, processes or technologies developed by us, potentially harming our competitive position and our revenues. If we become involved in a protracted intellectual property dispute, or one with a significant damages award or which requires us to cease selling some of our products, we could be subject to significant liability and the time and attention of our management could be diverted. Although no claims have been asserted against us for infringement of the proprietary rights of others, we may be subject to a claim of infringement in the future. An intellectual property lawsuit against us, if successful, could subject us to significant liability for damages and could invalidate our proprietary rights. A successful lawsuit against us could also force us to cease selling, or redesign, products that incorporate the infringed intellectual property. We could also be required to obtain a license from the holder of the intellectual property to use the infringed technology. We might not be able to obtain a license on reasonable terms, or at all. If we fail to develop a non-infringing technology on a timely basis or to license the infringed technology on acceptable terms, our revenues could decline and our expenses could increase. We may, in the future, be required to initiate claims or litigation against third parties for infringement of our proprietary rights or to determine the scope and validity of our proprietary rights or the proprietary rights of competitors. Litigation with respect to patents and other intellectual property matters could result in substantial costs and divert our management's attention from other aspects of our business. Market prices of technology companies have been highly volatile, and our stock price may be volatile as well. From time to time the U.S. stock market has experienced significant price and trading volume fluctuations, and the market prices for the common stock of technology companies in particular have been extremely volatile. In the past, 25 broad market fluctuations that have affected the stock price of technology companies have at times been unrelated or disproportionate to the operating performance of these companies. Any significant fluctuations in the future might result in a material decline in the market price of our common stock. Following periods of volatility in the market price of a particular company's securities, securities class action litigation has often been brought against that company. If we were to become involved in this type of litigation, we could incur substantial costs and diversion of management's attention, which could harm our business, financial condition and operating results. The costs of complying with existing or future environmental regulations, and of curing any violations of these regulations, could increase our operating expenses and reduce our profitability. We are subject to a variety of environmental laws relating to the storage, discharge, handling, emission, generation, manufacture, use and disposal of chemicals, solid and hazardous waste and other toxic and hazardous materials used to manufacture, or resulting from the process of manufacturing, our products. We cannot predict the nature, scope or effect of future regulatory requirements to which our operations might be subject or the manner in which existing or future laws will be administered or interpreted. Future regulations could be applied to materials, product or activities that have not been subject to regulation previously. The costs of complying with new or more stringent regulations, or with more vigorous enforcement of these regulations, could be significant. Environmental laws require us to maintain and comply with a number of permits, authorizations and approvals and to maintain and update training programs and safety data regarding materials used in our processes. Violations of these requirements could result in financial penalties and other enforcement actions. We could also be required to halt one or more portions of our operations until a violation is cured. Although we attempt to operate in compliance with these environmental laws, we may not succeed in this effort at all times. The costs of curing violations or resolving enforcement actions that might be initiated by government authorities could be substantial. Our business could be materially adversely affected by the recent terrorist attacks. Since we sell our flexible interconnect products principally to the automotive, telecommunications and networking, diversified electronics, home appliances, aerospace and computer markets, our future success depends upon the viability of both the United States and global economy. As a result of the recent terrorist attacks and the economic uncertainty created by these events, there exist a significant number of risks which may cause a downturn in any of our market sectors thereby creating a material reduction in our revenues which could be difficult to replace. There can be no assurance that a continuation of the terrorist attacks will not have a material adverse effect upon our business, results of operations or financial condition. Undetected problems in our products could directly impair our financial results. If flaws in design, production, assembly or testing of our products were to occur by us or our suppliers, we could experience a rate of failure in our products that would result in substantial repair or replacement costs and potential damage to our reputation. Continued improvement in manufacturing capabilities, control of material and manufacturing quality and costs and product testing, are critical factors in our future growth. There can be no assurance that our efforts to monitor, develop, modify and implement appropriate test and manufacturing processes for our products will be sufficient to permit us to avoid a rate of failure in our products that results in substantial delays in shipment, significant repair or replacement costs or potential damage to our reputation, any of which could have a material adverse effect on our business, results of operations or financial condition. We may have exposure to additional income tax liabilities. 26 As a multinational corporation, we are subject to income taxes in both the United States and various foreign jurisdictions. Our domestic and international tax liabilities are subject to the allocation of revenues and expenses in different jurisdictions and the timing of recognizing revenues and expenses. Additionally, the amount of income taxes paid is subject to our interpretation of applicable tax laws in the jurisdictions in which we file. From time to time, we are subject to income tax audits. While we believe we have complied with all applicable income tax laws, there can be no assurance that a governing tax authority will not have a different interpretation of the law and assess us with additional taxes. Should we be assessed with additional taxes, there could be a material adverse affect on our results of operations or financial condition. Item 3. Quantitative and Qualitative Disclosures of Market Risk - ---------------------------------------------------------------- The following discussion about our market risk disclosures involves forward-looking statements. Actual results could differ materially from those projected in the forward-looking statements. We are exposed to market risk related to changes in U.S. and foreign interest rates and fluctuations in exchange rates. We do not use derivative financial instruments for speculative or trading purposes. Our borrowings under the Credit Agreement bears interest, at our choice, at our lender's prime rate or LIBOR plus a margin that varies from 1.5% to 2.25%. Both the prime rate and LIBOR are affected by changes in market interest rates. As of March 30, 2003, we have an outstanding balance under our Credit Agreement of approximately $11.2 million. We have the option to repay borrowings at anytime without penalty, other than breakage fees in the case of prepayment of LIBOR borrowings, and therefore believe that our market risk is not material. A 10% change in interest rates would impact annual interest expense by approximately $50,000. We do not consider this to be material or significant. The remainder of our long-term debt bears interest at fixed rates and is therefore not subject to market risk. Sales of Parlex Shanghai, Poly-Flex Circuits Limited and Parlex (Europe) Limited are typically denominated in the local currency, which is also each company's functional currency. This creates exposure to changes in exchange rates. The changes in the Chinese/U.S. and U.K./U.S. exchange rates may positively or negatively impact our sales, gross margins and retained earnings. Based upon the current volume of transactions in China and the United Kingdom and the stable nature of the exchange rate between China and the U.S. and the United Kingdom and the U.S., we do not believe the market risk is material. We do not engage in regular hedging activities to minimize the impact of foreign currency fluctuations. Parlex Shanghai and Parlex Interconnect had combined net assets as of March 30, 2003, of approximately $13.2 million. Poly-Flex Circuits Limited and Parlex (Europe) Limited had combined net assets as of March 30, 2003 of approximately $5.1 million. We believe that a 10% change in exchange rates may have a significant impact upon Parlex Shanghai's or Poly-Flex Circuits Limited's financial position, results of operation or outstanding debt. As of March 30, 2003, Parlex Shanghai and Parlex Interconnect had combined outstanding debt of $6.0 million. As of March 30, 2003, Poly-Flex Circuits Limited had no outstanding debt. Item 4. Controls and Procedures - -------------------------------- Our Chief Executive Officer and the Chief Financial Officer (our principal executive officer and principal financial officer, respectively) have concluded, based on their evaluation as of a date within 90 days prior to the date of the filing of this Report (Evaluation Date), that our disclosure controls and procedures are effective to ensure that information required to be disclosed by us in the reports filed or submitted by it under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms, and include controls and procedures designed to ensure that information required to be disclosed by us in such reports is accumulated and communicated to our management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure. 27 There were no significant changes in our internal controls or in other factors that could significantly affect these controls subsequent to the date of such evaluation. 28 PART II - OTHER INFORMATION --------------------------- Item 3. DEFAULTS UPON SENIOR SECURITIES. As of March 30, 2003, the Company was not in compliance with certain financial covenants contained in its Credit Agreement with Fleet Bank. As of May 8, 2003, the outstanding balance owed to Fleet Bank under the Credit Agreement was approximately $10,920,000. Although Fleet Bank has not called the debt due to such default, there is no guarantee that Fleet Bank will not call this debt at any time. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Liquidity and Capital Resources",on page 18. In addition, as of March 30, 2003, the Company was technically in default under than certain Loan Agreement by and between the Company's wholly-owned subsidiary, Parlex (Shanghai) Interconnect Products Co., Ltd and Citic Ka Wah Bank Limited (the "Interconnect Loan Agreement"). The sole basis of the Company's default under the Interconnect Loan Agreement is due to a certain cross-default provision contained therein which permits the lender to accelerate this loan in the event of the Company's default on other financing arrangements, such as the Credit Agreement with Fleet Bank. The Company is a guarantor of the Interconnect Loan Agreement. As of May 8, 2003, the outstanding balance owed to Citic Ka Wah Bank under the Interconnect Loan Agreement was approximately $3,801,000. Although Citic Ka Wah Bank has not called the debt due to such cross-default provision, there is no guarantee that it will not call this debt at any time. Item 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits - See Exhibit Index to this report. (b) Reports on Form 8-K - We did not file a report on Form 8-K during the quarter ended March 30, 2003. 29 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. PARLEX CORPORATION By: /s/ Peter J. Murphy -------------------------------- Peter J. Murphy President and Chief Executive Officer By: /s/ Jonathan R. Kosheff -------------------------------- Jonathan R. Kosheff Treasurer & Chief Financial Officer (Principal Accounting and Financial Officer) May 12, 2003 ------------ Date 30 CERTIFICATION I, Peter J. Murphy, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Parlex Corporation; 2. Based on my knowledge, this quarterly 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 circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly 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 quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures 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 quarterly report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a. all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: May 12, 2003 /s/ Peter J. Murphy --------------------------------- Peter J. Murphy, Chief Executive Officer (Principal Executive Officer) 31 CERTIFICATION I, Jonathan R. Kosheff, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Parlex Corporation; 2. Based on my knowledge, this quarterly 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 circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly 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 quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures 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 quarterly report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a. all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: May 12, 2003 /s/ Jonathan R. Kosheff -------------------------------- Jonathan R. Kosheff, Chief Financial Officer (Principal Financial Officer) 32 EXHIBIT INDEX EXHIBIT DESCRIPTION OF EXHIBIT - ------- ---------------------- Exhibit 99.1 Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 Exhibit 99.2 Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 33 EX-99 3 parl3991.txt EXHIBIT 99.1 Exhibit 99.1 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350 AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 I, Peter J. Murphy, Chief Executive Officer of Parlex Corporation (the "Company"), do 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: (a) The Quarterly Report on Form 10-Q of the Company for the period ending March 30, 2003, as filed with the Securities and Exchange Commission (the "Report"), fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (b) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Dated: May 12, 2003 /s/ Peter J. Murphy - - --------------------------------- Peter J. Murphy Chief Executive Officer EX-99 4 parl3992.txt EXHIBIT 99.2 Exhibit 99.2 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350 AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 I, Jonathan R. Kosheff, Chief Financial Officer of Parlex Corporation (the "Company"), do 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: (a) The Quarterly Report on Form 10-Q of the Company for the period ending Mar h 30, 2003, as filed with the Securities and Exchange Commission (the "Report"), fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (b) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Dated: May 12, 2003 /s/ Jonathan R. Kosheff - - --------------------------------- Jonathan R. Kosheff Chief Financial Officer -----END PRIVACY-ENHANCED MESSAGE-----