-----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, SSRsBPCLKeTE10lGr7RzHkYMj6yg4S7dXAhmqEOiEHD6IBOpi6BQ1Qdo/RffaoCB myHhGy6KgXEJtRE6VQn8xg== 0001019687-07-001440.txt : 20070515 0001019687-07-001440.hdr.sgml : 20070515 20070515150220 ACCESSION NUMBER: 0001019687-07-001440 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 20070331 FILED AS OF DATE: 20070515 DATE AS OF CHANGE: 20070515 FILER: COMPANY DATA: COMPANY CONFORMED NAME: Emrise CORP CENTRAL INDEX KEY: 0000854852 STANDARD INDUSTRIAL CLASSIFICATION: INSTRUMENTS FOR MEAS & TESTING OF ELECTRICITY & ELEC SIGNALS [3825] IRS NUMBER: 770226211 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-10346 FILM NUMBER: 07852318 BUSINESS ADDRESS: STREET 1: 9485 HAVEN AVENUE STREET 2: STE 100 CITY: RANCHO CUCAMONGA STATE: CA ZIP: 91730 BUSINESS PHONE: 9099879220 MAIL ADDRESS: STREET 1: 9485 HAVEN AVENUE STREET 2: STE 100 CITY: RANCHO CUCAMONGA STATE: CA ZIP: 91730 FORMER COMPANY: FORMER CONFORMED NAME: MICROTEL INTERNATIONAL INC DATE OF NAME CHANGE: 19951117 FORMER COMPANY: FORMER CONFORMED NAME: CXR CORP DATE OF NAME CHANGE: 19920703 10-Q 1 emrise_10q-033107.txt ================================================================================ U. S. SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) |X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended MARCH 31, 2007 or | | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ______________ to ______________ Commission File Number 1-10346 EMRISE CORPORATION (Exact Name of Registrant as Specified in Its Charter) DELAWARE 77-0226211 (State or Other Jurisdiction of (I.R.S. Employer Incorporation or Organization) Identification No.) 9485 HAVEN AVENUE, SUITE 100 RANCHO CUCAMONGA, CALIFORNIA 91730 (Address of Principal Executive Offices) (Zip Code) (909) 987-9220 (Registrant's Telephone Number, Including Area Code) NOT APPLICABLE (Former Name, Former Address And Former Fiscal Year, if Changed Since Last Report) 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 registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes | | No |X| Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer or a non-accelerated filer. See definition of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check one): Large Accelerated Filer | | Accelerated Filer | | Non-Accelerated Filed | X | Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes | | No |X| As of May 9, 2007, there were 38,144,250 shares of the issuer's common stock, $0.0033 par value, outstanding. ================================================================================ PART I ITEM 1. FINANCIAL STATEMENTS....................................................... F-1 Condensed Consolidated Balance Sheets as of March 31, 2007 (unaudited) and December 31, 2006..................................................... F-1 Condensed Consolidated Statements of Operations for the Three Months Ended March 31, 2007 and 2006 (unaudited)................................. F-2 Condensed Consolidated Statements of Comprehensive Income for the Three Months Ended March 31, 2007 and 2006 (unaudited).................... F-3 Condensed Consolidated Statements of Stockholders' Equity for the Three Months Ended March 31, 2007 (unaudited)............................. F-4 Condensed Consolidated Statements of Cash Flows for the Three Months Ended March 31, 2007 and 2006 (unaudited)....................................... F-5 Notes to Condensed Consolidated Financial Statements (unaudited)................ F-6 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS........................................ 2 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK................................................................ 15 ITEM 4T. CONTROLS AND PROCEDURES.................................................... 15 PART II OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS.......................................................... 18 ITEM 1A. RISK FACTORS............................................................... 18 ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS............................................................ 18 ITEM 3. DEFAULTS UPON SENIOR SECURITIES............................................ 18 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS........................ 18 ITEM 5. OTHER INFORMATION.......................................................... 19 ITEM 6. EXHIBITS................................................................... 19 SIGNATURES ........................................................................... 20
1 PART I - FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS EMRISE CORPORATION AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS AS OF MARCH 31, 2007 AND DECEMBER 31, 2006 (In Thousands, Except Share and Per Share Amounts) March 31, December 31, ASSETS 2007 2006 -------- -------- (unaudited) Current assets: Cash and cash equivalents $ 3,269 $ 3,802 Accounts receivable, net of allowances for doubtful accounts of $287 and $391 at March 31, 2007 and December 31, 2006, respectively 8,503 9,220 Inventories, net of allowances for inventory obsolescence of $5,892 and $5,657 at March 31, 2007 and December 31, 2006, respectively 10,975 10,575 Deferred income taxes 730 726 Prepaid and other current assets 1,180 1,082 -------- -------- Total current assets 24,657 25,405 Property, plant and equipment, net 2,193 2,245 Goodwill 12,975 12,995 Intangible assets other than goodwill, net of accumulated amortization of $840 and $443 at March 31, 2007 and December 31, 2006, respectively 3,452 3,546 Other assets 697 594 -------- -------- $ 43,974 $ 44,785 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Borrowings under lines of credit $ 4,286 $ 4,310 Current portion of long-term debt 503 516 Notes payable to stockholders, current portion 500 500 Accounts payable 4,521 4,640 Income taxes payable 621 519 Accrued expenses 5,592 5,309 -------- -------- Total current liabilities 16,023 15,794 Long-term debt, less current portion 420 533 Notes payable to stockholders, less current portion 1,125 1,250 Deferred income taxes 1,053 1,053 Other liabilities 953 982 -------- -------- Total liabilities 19,574 19,612 Stockholders' equity: Preferred stock, $0.01 par value. Authorized 10,000,000 shares, zero issued and outstanding -- -- Common stock, $0.0033 par value. Authorized 150,000,000 shares; issued and outstanding 38,137,000 shares and 38,082,000 shares at March 31, 2007 and December 31, 2006, respectively 126 125 Additional paid-in capital 43,124 43,083 Accumulated deficit (19,525) (18,733) Accumulated other comprehensive income 675 698 -------- -------- Total stockholders' equity 24,400 25,173 -------- -------- $ 43,974 $ 44,785 ======== ======== The accompanying notes are an integral part of these condensed consolidated financial statements. F-1 EMRISE CORPORATION AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS THREE MONTHS ENDED MARCH 31, 2007 AND 2006 (Unaudited) (In Thousands, Except Per Share Amounts) Three Months Ended March 31, ---------------------------- 2007 2006 -------- -------- Net sales $ 11,922 $ 10,734 Cost of sales 8,074 6,350 -------- -------- Gross profit 3,848 4,384 Operating expenses: Selling, general and administrative 3,736 3,767 Engineering and product development 710 722 -------- -------- Loss from operations (598) (105) Other income (expense): Interest income 19 25 Interest expense (150) (124) Other, net 65 8 -------- -------- Loss before income taxes (664) (196) Income tax expense 128 126 -------- -------- Net loss $ (792) $ (322) ======== ======== Basic loss per share $ (0.02) $ (0.01) ======== ======== Diluted loss per share $ (0.02) $ (0.01) ======== ======== The accompanying notes are an integral part of these condensed consolidated financial statements. F-2 EMRISE CORPORATION AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) THREE MONTHS ENDED MARCH 31, 2007 AND 2006 (Unaudited) (In Thousands) Three Months Ended March 31, ------------------------------ 2007 2006 ------------ ------------ Net loss $ (792) $ (322) Other comprehensive income (loss): Foreign currency translation adjustment (23) 126 ------------ ------------ Comprehensive loss $ (815) $ (196) ============ ============ The accompanying notes are an integral part of these condensed consolidated financial statements. F-3 EMRISE CORPORATION AND SUBSIDIARIES THREE MONTHS ENDED MARCH 31, 2007 CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (Unaudited) (In Thousands) Accumulated Additional Other Common Stock Paid-In Accumulated Comprehensive Shares Amount Capital Deficit Income (Loss) Total -------- -------- -------- -------- -------- -------- Balance at December 31, 2006 38,082 $ 125 $ 43,083 $(18,733) $ 698 $ 25,173 Stock option exercises 55 1 19 -- -- 20 Stock option issuance expense -- -- 22 -- -- 22 Net loss and comprehensive income -- -- -- (792) (23) (815) -------- -------- -------- -------- -------- -------- Balance at March 31, 2007 38,137 $ 126 $ 43,124 $(19,525) $ 675 $ 24,400 ======== ======== ======== ======== ======== ======== The accompanying notes are an integral part of these condensed consolidated financial statements. F-4 EMRISE CORPORATION AND SUBSIDIARIES THREE MONTHS ENDED MARCH 31, 2007 AND 2006 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (In Thousands) Three Months Ended March 31, 2007 2006 ------- ------- CASH FLOWS FROM OPERATING ACTIVITIES: Net loss $ (792) $ (322) Adjustments to reconcile net loss to used in operating activities: Depreciation and amortization 277 288 Provision for inventory obsolescence 251 229 Deferred taxes (4) (4) Stock option expense 22 26 Warrants issued for services -- 15 Provision for doubtful accounts 4 0 Changes in operating assets and liabilities net of businesses acquired: Accounts receivable 712 1,057 Inventories (681) (1,085) Prepaid and other assets (201) (73) Accounts payable and accrued expenses 237 (660) ------- ------- Cash used in operating activities (175) (529) ------- ------- CASH FLOWS FROM INVESTING ACTIVITIES: Net purchases of property, plant and equipment (135) (45) Cash paid for acquisition of Pascall, net of cash acquired -- ------- ------- Cash used in investing activities (135) (45) ------- ------- CASH FLOWS FROM FINANCING ACTIVITIES: Net repayments of current notes payable (24) (1,355) Repayments of long-term debt (126) (122) Payments of notes to stockholders (125) (125) Proceeds from exercise of stock options and warrants 20 386 ------- ------- Cash used in financing activities (255) (1,216) ------- ------- Effect of exchange rate changes on cash 32 109 ------- ------- Net decrease in cash and cash equivalents (533) (1,681) Cash and cash equivalents at beginning of period 3,802 4,371 ------- ------- Cash and cash equivalents at end of period $ 3,269 $ 2,690 ======= ======= SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the period for: Interest $ 121 $ 115 ======= ======= Income taxes $ 9 $ 12 ======= ======= The accompanying notes are an integral part of these condensed consolidated financial statements.
F-5 EMRISE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES ORGANIZATION AND BUSINESS EMRISE Corporation (the "Company"), operates through three wholly-owned subsidiaries: EMRISE Electronics Corporation ("EMRISE Electronics"), CXR Larus Corporation ("CXR Larus"), and CXR Anderson Jacobson ("CXR-AJ"). EMRISE Electronics and its subsidiaries design, develop, manufacture and market electronic devices for defense, aerospace and industrial markets. CXR Larus and CXR-AJ design, develop, manufacture and market network access and transmission products and communications test equipment. CXR Larus also engages in the manufacture and sale of communication timing and synchronization products. The Company conducts its operations out of various facilities in the United States, France, the United Kingdom and Japan and organizes itself in two product line segments: electronic devices and communications equipment. BASIS OF PRESENTATION The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission ("Commission") and therefore do not include all information and footnotes necessary for a complete presentation of the financial position, results of operations and cash flows in conformity with accounting principles generally accepted in the United States of America. The unaudited condensed consolidated financial statements do, however, reflect all adjustments, consisting of only normal recurring adjustments, which are, in the opinion of management, necessary to state fairly the financial position as of March 31, 2007 and the results of operations and cash flows for the related interim periods ended March 31, 2007 and 2006. However, these results are not necessarily indicative of results for any other interim period or for the year. It is suggested that the accompanying condensed consolidated financial statements be read in conjunction with the Company's audited consolidated financial statements included in its amended annual report on Form 10-K for the year ended December 31, 2006 filed with the Commission. STOCK-BASED COMPENSATION The Company has four stock option plans: o Employee Stock and Stock Option Plan, effective July 1, 1994; o 1993 Stock Option Plan; o 1997 Stock Incentive Plan; and o Amended and Restated 2000 Stock Option Plan. Total stock-based compensation expense related to Statement of Financial Accounting Standard ("SFAS") No. 123 (revised 2004), SHARE-BASED PAYMENT, included in wages, salaries and related costs was $22,000 and $26,000 for the three months ended March 31, 2007 and 2006, respectively. These compensation expenses were charged to selling, general and administrative expenses. As of March 31, 2007, $20,000 of compensation cost attributable to future service related to plan awards that are probable of being achieved had not yet been recognized. This amount will be recognized as expense over a weighted-average period of six months. F-6 EMRISE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (2) EARNINGS (LOSS) PER SHARE The following table illustrates the computation of basic and diluted earnings per share (in thousands, except per share amounts): Three Months Ended March 31, 2007 2006 -------- -------- NUMERATOR: Net loss $ (792) $ (322) -------- -------- Loss attributable to common stockholders $ (792) $ (322) ======== ======== DENOMINATOR: Weighted average number of common shares outstanding during the period-basic 38,110 37,678 Incremental shares from assumed conversions of warrants and options -- -- -------- -------- Adjusted weighted average number of outstanding shares-diluted 38,110 37,678 -------- -------- Basic loss per share $ (0.02) $ (0.01) ======== ======== Diluted loss per share $ (0.02) $ (0.01) ======== ======== The following table shows the common stock equivalents that were outstanding as of March 31, 2007 and 2006 but were not included in the computation of diluted earnings per share because the options' or warrants' exercise price was greater than the average market price of the common shares and, therefore, the effect would have been anti-dilutive: Number of Exercise Price Shares Per Share ------ --------- Anti-dilutive common stock options: As of March 31, 2007 715,000 $1.35 - $3.13 As of March 31, 2006 736,000 $1.35 - $3.13 Anti-dilutive common stock warrants: As of March 31, 2007 4,061,000 $1.21 - $2.00 As of March 31, 2006 3,886,000 $1.86 - $2.00 F-7 EMRISE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (3) INVENTORIES Inventories are summarized as follows (in thousands), net of reserves of $5,892,000 and $5,657,000 as of March 31, 2007 and December 31, 2006, respectively: March 31, December 31, 2007 2006 --------------- --------------- Raw materials $ 4,612,000 $ 4,689,000 Work-in-process 3,319,000 3,247,000 Finished goods 3,044,000 2,639,000 --------------- --------------- $ 10,975,000 $ 10,575,000 =============== ===============
(4) REPORTABLE SEGMENTS The Company has two reportable segments: electronic devices and communications equipment. The electronic devices segment operates in the United States, European and Asian markets and designs, manufactures and markets digital and rotary switches, electronic power supplies, radio frequency ("RF") and microwave devices and subsystems and subsystem assemblies. The communications equipment segment also operates in the United States, European and Asian markets and designs, manufactures and distributes network access and transmission products, communications test instruments and network timing and synchronization products. The accounting policies of the segments are the same as those described in the summary of significant accounting policies. The Company evaluates performance based upon profit or loss from operations before income taxes exclusive of nonrecurring gains and losses. The Company accounts for intersegment sales at prices negotiated between the individual segments. The Company's reportable segments are comprised of operating entities offering the same or similar products to similar customers. Each segment is managed separately because each business has different customers and different design and manufacturing and marketing strategies. Each segment has business units or devices as described in paragraph 30 of SFAS No. 142. Each component has discrete financial information and a management structure. Following is a description of the Company's segment and component structure as of March 31, 2007: Reporting Units Within Electronic Devices Segment: -------------------------------------------------- o EMRISE Electronics - Rancho Cucamonga, California: Digitran Division - digital and rotary switches, and electronic subsystem assemblies for defense and aerospace applications and keypads o EMRISE Electronics - Monrovia, California: XCEL Circuits Division - printed circuit boards mostly for intercompany sales o RO Associates, Incorporated ("RO") - San Jose, California: manufacturer of standard power supplies using proprietary technology. o XCEL Japan Ltd. ("XJL")- Tokyo, Japan: reseller of Digitran switches and other third party electronic devices F-8 EMRISE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS o EMRISE Electronics Limited ("EEL") - Ashford, Kent, England/Isle of Wight, England: manufacturer of power supplies and radio frequency products for defense and aerospace applications and for a broad range of applications, including in-flight entertainment systems; this reporting unit also includes XCEL Power Systems, Ltd. ("XPS"), Belix Wound Components Ltd., Pascall Electronic (Holdings) Limited and Pascall Electronics Limited. Reporting Units Within Communications Equipment Segment: -------------------------------------------------------- o CXR Telcom division of CXR Larus Corporation - San Jose, California: manufacturer of telecommunications test equipment for the field and central office applications o Larus division of CXR Larus Corporation - San Jose, California: manufacturer of telecommunications synchronous timing devices and network access equipment o CXR-Anderson Jacobson - Abondant, France: manufacturer of network access and modem equipment There were no differences in the basis of segmentation or in the basis of measurement of segment profit or loss from the amounts disclosed in the Company's audited consolidated financial statements included in its annual report on Form 10-K for the year ended December 31, 2006. Selected financial data for each of the Company's operating segments is shown below (in thousands): Three Months Three Months Ended March 31, Ended March 31, 2007 2006 ----------------- ----------------- Sales to external customers: ---------------------------- Electronic devices $ 8,528 $ 7,853 Communications equipment 3,394 2,881 ----------------- ----------------- Total $ 11,922 $ 10,734 ================= ================= Interest expense ---------------- Electronic devices $ 40 $ 60 Communications equipment 110 64 ----------------- ----------------- Total $ 150 $ 124 ================= ================= Depreciation and amortization ----------------------------- Electronic devices $ 216 $ 223 Communications equipment 54 54 ----------------- ----------------- Total $ 270 $ 277 ================= ================= Segment profits (loss) before income taxes ------------------------------------------ Electronic devices $ 487 $ 929 Communications equipment (212) (232) ----------------- ----------------- Total $ 275 $ 697 ================= ================= F-9 EMRISE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS March 31, December 31, 2007 2006 ----------------- ----------------- Segment assets: Electronic devices $ 27,490 $ 27,514 Communications equipment 15,663 15,912 ----------------- ----------------- Total $ 43,153 $ 43,426 ================= ================= The following is a reconciliation of the reportable segment revenues, profit or loss and assets to the Company's consolidated totals (in thousands): Three Months Three Months Ended March 31, Ended March 31, 2007 2006 ----------------- ----------------- Net sales: Total sales for reportable segments $ 11,922 $ 10,734 Elimination of intersegment sales -- -- ----------------- ----------------- Total consolidated net sales $ 11,922 $ 10,734 ================= ================= Loss before income taxes Total income for reportable segments $ 275 $ 697 Unallocated amounts: (939) (893) ----------------- ----------------- Net loss before income taxes $ (664) $ (196) ================= ================= Interest expense Interest expense for reportable segments $ 150 $ 124 Other interest expense -- -- ----------------- ----------------- Total interest expense $ 150 $ 124 ================= ================= Depreciation and amortization Depreciation and amortization expense for reportable segments $ 270 $ 277 Other depreciation and amortization expense 7 11 ----------------- ----------------- Total depreciation and amortization $ 277 $ 288 ================= ================= As of As of March 31, 2007 December 31, 2006 ----------------- ----------------- Assets Total assets for reportable segments $ 43,153 $ 43,426 Other assets 821 1,359 ----------------- ----------------- Total consolidated assets $ 43,974 $ 44,785 ================= ================= F-10 EMRISE CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Goodwill and other intangible assets by segment as of March 31, 2007 are as follows (in thousands): Technology Relationships Customer Covenant Not Patents in Trademarks and Acquired -- -- to Compete -- Backlog -- Progress Goodwill -- Trade Names -- 10-Year Life 10-Year Life 3-Year Life 2-Year Life -- Not Not Amortizable Not Amortizable Amortizable Amortizable Amortizable Amortizable Amortizable --------------- --------------- ----------- ----------- ----------- ----------- ----------- Gross cost - ---------- Electronic devices $ 7,358 $ 850 $ 500 $ 350 $ 200 $ 200 $ 92 Communications equipment 6,706 750 1,150 200 -- -- -- ------- ------- ------- ------- ------- ------- ------- Total $14,064 $ 1,600 $ 1,650 $ 550 $ 200 $ 200 $ 92 ======= ======= ======= ======= ======= ======= ======= Accumulated amortization - ------------------------ Electronic devices $ 217 $ -- $ 79 $ 55 $ 134 $ 200 $ 1 Communications equipment 872 -- 316 55 -- -- -- ------- ------- ------- ------- ------- ------- ------- Total $ 1,089 $ -- $ 395 $ 110 $ 134 $ 200 $ 1 ======= ======= ======= ======= ======= ======= ======= Carrying value - -------------- Electronic devices $ 7,141 $ 850 $ 421 $ 295 $ 66 $ -- $ 91 Communications equipment 5,834 750 834 145 -- -- -- ------- ------- ------- ------- ------- ------- ------- Total $12,975 $ 1,600 $ 1,255 $ 440 $ 66 $ -- $ 91 ======= ======= ======= ======= ======= ======= ======= F-11 EMRISE CORPORATION AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS MARCH 31, 2007 AND 2006 (UNAUDITED) Changes in goodwill by segment (in thousands): Communications Electronic Devices Equipment Total ---------------- ---------------- ---------------- Balance at December 31, 2006 $ 7,161,000 $ 5,834,000 $ 12,995,000 Foreign currency translation (22,000) -- (22,000) ---------------- ---------------- ---------------- Balance March 31, 2007 $ 7,141,000 $ 5,834,000 $ 12,975,000 ================ ================ ================
(5) NEW ACCOUNTING PRONOUNCEMENTS The Company adopted Financial Accounting Standards Board ("FASB") Financial Interpretation No. ("FIN") 48, ACCOUNTING FOR UNCERTAINTY IN INCOME TAXES - AN INTERPRETATION OF FASB STATEMENT NO. 109, on January 1, 2007. The implementation of FIN 48 did not result in a material adjustment to the Company's liability for unrecognized income tax benefits. At the time of adoption and as of the end of the first quarter of 2007, the Company had recorded no net unrecognized tax benefits. The Company does not believe that it will record unrecognized tax benefits within the year following the first quarter of 2007. The Company recognizes interest and penalties related to uncertain tax positions in interest expense and selling, general and administrative expense, respectively, in the condensed consolidated statements of operations and comprehensive income. No interest or penalties were recognized during the first quarter of 2007. As of March 31, 2007, the Company had nothing accrued for interest and penalties. The Company files income tax returns in the United States federal jurisdiction, the United Kingdom, France and Japan, and in the state jurisdictions of California, Texas and New Jersey. The Company is no longer subject to United States federal and state tax examinations for years before 2003 and 2002, respectively, and is no longer subject to tax examinations for the United Kingdom and Japan for years prior to 2005, and for France for years prior to 2003. In February 2006, the FASB issued SFAS No. 155, Accounting for Certain Hybrid Financial Instruments, which amends SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities and SFAS No. 140, Accounting for the Impairment or Disposal of Long-Lived Assets. Specifically, SFAS No. 155 amends SFAS No. 133 to permit fair value remeasurement for any hybrid financial instrument with an embedded derivative that otherwise would require bifurcation, provided the whole instrument is accounted for on a fair value basis. Additionally, SFAS No. 155 amends SFAS No. 140 to allow a qualifying special purpose entity to hold a derivative financial instrument that pertains to a beneficial interest other than another derivative financial instrument. SFAS No. 155 applies to all financial instruments acquired or issued after the beginning of an entity's first fiscal year that begins after September 15, 2006. The Company's adoption of SFAS No. 155 on January 1, 2007 has not had a material effect on its results of operations or financial position. In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements. This new statement provides a single definition of fair value, together with a framework for measuring it, and requires additional disclosure about the use of fair value to measure assets and liabilities. SFAS No. 157 also emphasizes that fair value is a market-based measurement, not an entity-specific measurement, and sets out a fair value hierarchy, with the highest priority F-12 EMRISE CORPORATION AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS MARCH 31, 2007 AND 2006 (UNAUDITED) being quoted prices in active markets. The required effective date of SFAS No. 157 is the first quarter of 2008. The Company is evaluating the effect this statement may have on its consolidated financial statements. In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities. SFAS No. 159 permits an entity to irrevocably elect fair value on a contract-by-contract basis as the initial and subsequent measurement attribute for many financial assets and liabilities and certain other items including insurance contracts. Entities electing the fair value option would be required to recognize changes in fair value in earnings and to expense up front cost and fees associated with the item for which the fair value option is elected. SFAS No. 159 is effective for fiscal years beginning after November 15, 2007. Early adoption is permitted as of the beginning of a fiscal year that begins on or before November 15, 2007, provided the entity also elects to apply the provisions of SFAS No. 157, Fair Value Measurements. The Company is evaluating the effect that adoption of SFAS No. 159 would have on its financial condition or results of operations. (6) INCOME TAXES The effective tax rate for the three-month period ended March 31, 2007 was different than the 34% United States statutory rate primarily because of foreign taxes on foreign source income that cannot be offset by domestic tax loss carryforwards. (7) LINES OF CREDIT Outstanding borrowings under the Company's revolving lines of credit described below were as follows: March 31, December 31, 2007 2006 ------------ ------------- Line of credit with a U.S. commercial lender $ 1,447,000 $ 1,978,000 Lines of credit with foreign banks 2,839,000 2,332,000 ------------ ------------- $ 4,286,000 $ 4,310,000 ============ =============
On August 25, 2005, the Company, together with two subsidiaries, CXR Larus and EMRISE Electronics, acting as guarantors, obtained a credit facility from Wells Fargo Bank, N.A. (the "Bank credit facility") for the Company's United States operations. The Bank credit facility provided a $9,000,000 revolving line of credit secured by accounts receivable, other rights to payment and general intangibles, inventories and equipment, with an interest rate adjusted monthly based on the prime rate. The Bank credit facility also provided for a term loan of $150,000 secured by equipment, amortizable over 36 months at a variable rate equal to the prime rate plus 1.5%. In addition, Wells Fargo Bank provided the Company with credit for the purchase of new capital equipment when needed, with an interest rate equal to the 90-day London InterBank Offered Rate ("LIBOR") (5.35% at March 31, 2007) plus 3.75% per annum. Amounts borrowed under this arrangement are being amortized over 60 months from the respective dates of borrowing and secured by the purchased equipment. F-13 EMRISE CORPORATION AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS MARCH 31, 2007 AND 2006 (UNAUDITED) On December 1, 2006, EMRISE Corporation, EMRISE Electronics, CXR Larus, RO and Wells Fargo Bank acting through its Wells Fargo Business Credit operating division ("WFBC") entered into a Credit and Security Agreement ("WFBC credit facility") providing for a revolving line of credit and term loan. On December 5, 2006, the Company paid off the $1,500,000 Bank credit facility in full. The WFBC credit facility provides for a $5,000,000 revolving line of credit that expires on December 1, 2009 and is secured by accounts receivable, other rights to payment and general intangibles, inventories and equipment. The line of credit is formula-based and generally provides that the outstanding borrowings under the line of credit may not exceed an aggregate of 85% of eligible accounts receivable plus 10% of the value of eligible finished goods inventory. Interest is payable monthly. The interest rate is variable and is adjusted monthly based on the prime rate plus 1%. The prime rate at March 31, 2007 was 8.25%. The WFBC credit facility is subject to an unused line fee equal to 0.25% per annum, payable monthly based on the average daily unused amount of the line of credit. The WFBC credit facility is also subject to a minimum monthly interest charge of $8,500 with respect to the revolving line of credit. The WFBC credit facility is subject to various financial covenants on a consolidated basis as follows. The minimum debt service coverage ratio must be greater than 1.20:1.00 on a trailing quarterly basis. "Debt service coverage ratio" is defined as net income after taxes, plus depreciation, plus amortization, plus or minus changes in deferred taxes, minus capital expenditures and minus any dividends or distributions, divided by the current maturities of long-term debt paid or scheduled to be paid plus any payments on subordinated debt. The WFBC credit facility also requires that the Company maintain a minimum book net worth, determined at the end of each calendar month, in an amount not less than $26,900,000 for the months ended December 31, 2006, January 31, 2007 and February 28, 2007 and of not less than that amount plus 80% of the Company's net income for each calendar quarter ending on or after March 31, 2007 and for each calendar month ending on or after March 31, 2007. The Company was not permitted to incur a net loss of greater than $1,150,000 for 2006, and for each quarterly period occurring after December 31, 2006, the Company's net income must not be less than $0. If WFBC terminates the WFBC credit facility during a default period, or if the Company terminates or reduces the WFBC credit facility prior to the maturity date, or if the Company prepays the term loan portion of the facility, the Company will be subject to penalties as follows: if the termination or prepayment occurs during the one year period after the initial funding date, the penalty is equal to 3% of the maximum line amount and/or prepayment amount; if the termination or prepayment occurs during second year after the initial funding date, the penalty is equal to 2% of the maximum line amount and/or prepayment amount; and if the termination or prepayment occurs at any time after the second anniversary of the initial funding date and prior to the maturity date, the penalty is equal to 1% of the maximum line amount and/or prepayment amount. In the event of a default and continuation of a default, Wells Fargo may accelerate the payment of the principal balance, requiring the Company to pay the entire indebtedness outstanding on that date. From and after the maturity date of the WFBC credit facility, or any earlier date that all principal owing under the WFBC credit facility becomes due and payable by acceleration or otherwise, the outstanding principal balance will bear interest until paid in full at an increased rate per annum equal to 3% above the rate of interest in effect from time to time under the WFBC credit facility. F-14 EMRISE CORPORATION AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS MARCH 31, 2007 AND 2006 (UNAUDITED) The WFBC credit facility also provides for a term loan of $200,000 secured by accounts receivable, other rights to payment and general intangibles, inventories and equipment, amortizable over 36 months at a variable rate equal to the prime rate plus 1%. As of March 31, 2007, the Company had balances of $1,447,000 outstanding on the WFBC revolving line of credit and $183,000 outstanding on the term loan. Availability on the WFBC revolving line of credit was $651,000. As of March 31, 2007, the Company was not in compliance with the loan's financial covenants for net worth, net income and debt service coverage. The Company obtained a waiver from WFBC for those covenant violations. WFBC is currently in the process of resetting the covenants for 2007. As of March 31, 2007, the Company's foreign subsidiaries had credit facilities, including lines of credit and term loans, with Lloyds TSB Bank PLC ("Lloyds TSB") and Lloyds TSB Commercial Finance Limited ("Lloyds") in England, IFN Finance, a subsidiary of ABN AMRO Holdings, N.V., in France, and Johnan Shinkin Bank in Japan. At March 31, 2007, the balances outstanding under the Company's United Kingdom, France and Japan credit facilities were $2,134,000, $1,206,000 and $11,000, respectively. On July 8, 2005, XPS and Pascall obtained a credit facility with Lloyds that provides a revolving loan secured by receivables, with a maximum availability of 2,100,000 British pounds sterling (approximately $4,121,000 based on the exchange rate in effect on March 31, 2007). The annual interest rate on the revolving loan is 1.5% above the Lloyds TSB base rate. The Lloyds TSB base rate was 5.25% at March 31, 2007. The financial covenants include a 50% cap on combined export gross sales of XPS and Pascall and days sales outstanding of less than 65 days, and the funding balance is capped at 125% of XPS and Pascall combined gross sales. Based on the Company's long-term relationship with Lloyds Bank, the Company anticipates but can give no assurance that it will be able to renew or obtain a new credit facility from Lloyds Bank when this existing facility expires July 31, 2007. On August 26, 2005, XPS entered into an agreement with Lloyds for an unsecured cashflow loan of 300,000 British pounds sterling (approximately $589,000 based on the exchange rate in effect on March 31, 2007), payable over 12 months. The loan is structured as an overadvance on the previously negotiated 2,100,000 British pounds sterling revolving loan with Lloyds, bringing the maximum aggregate commitment on the revolving loan to 2,400,000 British pounds sterling (approximately $4,709,000 based on the exchange rate in effect on March 31, 2007). The interest rate is variable and is adjusted monthly based on the base rate of Lloyds TSB plus 1.9%. Lloyds TSB has sole discretion to switch the details on this overadvance account if Lloyds determines that the Company will have difficulty in meeting the specific reductions in the overadvance account. The balance on the XPS and Pascall revolving loans at March 31, 2007 was $1,661,000. Availability on the XPS and Pascall revolving loans was $1,753,000 as of March 31, 2007. On August 26, 2005, EEL, a United Kingdom-based subsidiary of the Company, entered into an agreement with Lloyds TSB for an unsecured term loan of 500,000 British pounds sterling (approximately $981,000 based on the exchange rate in effect on March 31, 2007). This loan is repayable in 36 consecutive monthly installments, representing principal and interest. The interest rate is variable and is adjusted daily based on the Lloyds TSB base rate plus 2.5%. The loan also includes financial covenants. EEL must maintain profit before taxation and interest paid and payable of no less than 150% of interest paid and payable. F-15 EMRISE CORPORATION AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS MARCH 31, 2007 AND 2006 (UNAUDITED) In the event of a default, Lloyds may make the loans, including any outstanding principal and interest that has accrued, repayable on demand. If any amount payable is not paid when due, EEL must pay an increased interest rate per annum equal to 3% above the rate of interest in effect from time to time under the note. In April 2003, CXR-AJ obtained a credit facility from IFN Finance, a subsidiary of ABN AMRO N.V. This credit facility is for a maximum of $1,600,000 based on the exchange rate in effect at March 31, 2007 for the conversion of euros into United States dollars. CXR-AJ also had $28,000 of term loans with another French bank outstanding as of March 31, 2007. The IFN Finance facility is secured by accounts receivable and carries an annual interest rate of 1.6% above the French "T4M" rate. At March 31, 2007, the French T4M rate was 3.69%, and this facility, in addition to several small loans with other banks, had an aggregate balance of $1,178,000. This facility has no financial performance covenants. Availability on the IFN Finance credit line was $161,000 as of March 31, 2007, in addition to $12,000 availability with several other banks. XJL obtained a term loan on November 29, 2002 from Johnan Shinkin Bank. The loan is amortized over five years, carries an annual fixed interest rate of 3.25% and is secured by the assets of XJL. The balance of the loan as of March 31, 2007 was $11,000. There are no financial performance covenants applicable to this loan. (8) RELATED PARTY TRANSACTIONS On July 13, 2004, the Company issued two promissory notes to the former stockholders of Larus Corporation totaling $3,000,000 in addition to paying cash and issuing shares of common stock and two zero interest short-term notes totaling $887,500 that were repaid in 2004, in exchange for 100% of the common stock of Larus Corporation. These notes are subordinated to the Company's bank debt and are payable in 72 equal monthly payments of principal totaling $41,667 per month plus interest at the 30-day LIBOR plus 5% with a maximum interest rate of 7% during the first two years of the term of the notes, 8% during the third and fourth years, and 9% thereafter. At March 31, 2007, the 30-day LIBOR was 5.32%. Future maturities of notes payable to stockholders are as follows: Year Ending December 31, ------------ 2007 $ 375,000 2008 500,000 2009 500,000 2010 250,000 2011 -- ---------------- $ 1,625,000 ================ Interest paid on these notes in the three months ended March 31, 2007 and 2006 was $35,000 and $39,000, respectively. There are no guarantees by officers or fees paid to officers or loans to or from officers. F-16 EMRISE CORPORATION AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS MARCH 31, 2007 AND 2006 (UNAUDITED) The Company entered into an above-market real property lease with the former stockholders of Larus Corporation. The lease represented an obligation that exceeded the fair market value by approximately $756,000. The lease term is for 7 years and expires on June 30, 2011. It is renewable for a 5-year term priced under market conditions. The base rent is based on a minimum rent of $.90 per square foot per month, which is $27,000 monthly or $324,000 per year, subject to monthly adjustments of the interest rate based on the Federal Reserve Discount Rate that match the lessor's variable interest rate mortgage payments on the building. The maximum increase in any year is 1.5%, with a cumulative maximum increase of 8% over the life of the lease. The increases apply to that portion of the rent that corresponds to the interest portion of the lessor's mortgage. Lease payments paid to the related parties during 2006 and 2005 totaled $456,000 and $378,000, respectively. The Company entered into a lease for the RO building with Caspian Associates ("Caspian"), a California general partnership. Richard Okada, who was President of RO prior to the Company's acquisition and is currently the President of RO, is a general partner of Caspian. The lease provided for a two-year term commencing on September 1, 2005 and ending on August 31, 2007, at a base rent of $9,210 per month. Additionally, the lease provided for an extension of the lease term for an additional three years, to August 31, 2010, and a rent increase if RO achieves certain net sales and cumulative gross profit targets. However, the targets were eliminated from the lease when the property was sold on November 1, 2006. Also, on March 1, 2007, the lease converted into a month-to-month tenancy where either party may provide the other with 30 days' notice to terminate the lease. As of March 1, 2007, the lease obligation was $12,280 per month, which was more than the original $9,210 because a sublessee terminated its sublease in May 2006. The Company paid $138,000 and $37,000 on the lease in 2006 and 2005, respectively. The Company terminated the lease on March 31, 2007. (10) ACCRUED EXPENSES Accrued expenses were as follows (in thousands): March 31, 2007 December 31, 2006 Accrued salaries $ 730,000 $ 717,000 Accrued payroll taxes and benefits 1,244,000 830,000 Advance payments from customers 1,924,000 1,840,000 Other accrued expenses 1,694,000 1,922,000 ----------------- ------------------- Total accrued expenses $ 5,592,000 $ 5,309,000 ================= ===================
F-17 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. The following discussion and analysis should be read in conjunction with our condensed consolidated financial statements and the related notes and the other financial information included elsewhere in this report. This report and the following discussion contain forward-looking statements regarding, among other items, the electronic devices and communications equipment industries and our expectations regarding our future performance, liquidity and capital resources. Our actual results could differ materially from those expressed in these forward-looking statements as a result of any number of factors, including those set forth below and elsewhere in this report: o the projected growth or contraction in the electronic devices and communications equipment markets in which we operate; o our business strategy for expanding, maintaining or contracting our presence in these markets; o our ability to efficiently and effectively integrate and operate the businesses of acquired subsidiaries; o our ability to identify, fund and integrate additional businesses; o anticipated trends in our financial condition and results of operations; and o our ability to distinguish ourselves from our current and future competitors. We do not undertake to update, revise or correct any forward-looking statements. The information contained in this document is not a complete description of our business or the risks associated with an investment in our common stock. Before deciding to buy or maintain a position in our common stock, you should carefully review and consider the various disclosures we made in this report, and in our other materials filed with the Securities and Exchange Commission ("Commission") that discuss our business in greater detail and that disclose various risks, uncertainties and other factors that may affect our business, results of operations or financial condition. In particular, you should review our annual report on Form 10-K for the year ended December 31, 2006 filed with the Commission and the "Risk Factors" we included in that report. Any of the factors described above could cause our financial results, including our net income or loss or growth in net income or loss to differ materially from prior results, which in turn could, among other things, cause the price of our common stock to fluctuate substantially. OVERVIEW GENERAL We are a leading supplier of timing and synchronization systems, rotary and digital switches, electronic power supplies and radio frequency, or RF, devices. We sell our products to communications service providers, defense and aerospace contractors and industrial customers. We are a multinational company operating out of facilities located in the United States, United Kingdom, France and Japan. As of May 4, 2007, we had approximately 300 employees. 2 We are a Delaware corporation that was formed July 14, 1989. We have three wholly-owned operating subsidiaries, EMRISE Electronics Corporation, a New Jersey corporation that was formed in 1983 ("EMRISE Electronics"), CXR Larus Corporation, a Delaware corporation that was formed in 1984 ("CXR Larus"), and CXR-Anderson Jacobson, a French company that was formed in 1973 ("CXR-AJ"). Through our three wholly-owned operating subsidiaries, and through the divisions and subsidiaries of those subsidiaries, we design, develop, manufacture, assemble, and market products and services in the following two material business segments: o Electronic Devices -- digital and rotary switches -- electronic power supplies -- radio frequency ("RF") and microwave devices o Communications Equipment -- network access and transmission products -- communication timing and synchronization products -- communications test instruments Sales to customers in the electronic devices segment, primarily to aerospace customers, defense contractors and industrial customers, were approximately 71.5% and 73.2% of our total net sales during the three months ended March 31, 2007 and 2006, respectively. Sales of communications equipment and related services, primarily to private customer premises and public carrier customers, were approximately 28.5% and 26.8% of our total net sales during the three months ended March 31, 2007 and 2006, respectively. Sales in our electronic devices segment increased $675,000 (8.6%) for the three months ended March 31, 2007 as compared to the three months ended March 31, 2006, primarily due to increased power supply sales volume. We also experienced a $513,000 (17.8%) increase in sales in our communications equipment segment for the three months ended March 31, 2007. This increase was primarily due to increased sales volume of network access equipment. CRITICAL ACCOUNTING POLICIES Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of those financial statements requires us to make estimates and judgments that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amount of net sales and expenses for each period. The following represents a summary of our critical accounting policies, defined as those policies that we believe are the most important to the portrayal of our financial condition and results of operations and that require management's most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effects of matters that are inherently uncertain. 3 REVENUE RECOGNITION We derive revenues from sales of electronic devices and communications equipment products and services. Our sales are based upon written agreements or purchase orders that identify the type and quantity of the item being purchased and the purchase price. We recognize revenues when shipment of products has occurred or services have been rendered, no significant obligations remain on our part, and collectibility is reasonably assured based on our credit and collections practices and policies. We recognize revenues from domestic sales of our electronic devices and communications equipment at the point of shipment of those products. Product returns are infrequent and require prior authorization because our sales are final and we quality test our products prior to shipment to ensure they meet the specifications of the binding purchase orders under which they are shipped. Normally, when a customer requests and receives authorization to return a product, the request is accompanied by a purchase order for a replacement product. Revenue recognition for products and services provided by our United Kingdom subsidiaries depends upon the type of contract involved. Engineering/design services contracts generally entail design and production of a prototype over a term of up to several years, with all revenue deferred until all services under the contracts have been completed. Production contracts provide for a specific quantity of products to be produced over a specific period of time. Customers issue binding purchase orders for each suborder to be produced. At the time each suborder is shipped to the customer, we recognize revenue relating to the products included in that suborder. Returns are infrequent and permitted only with prior authorization because these products are custom made to order based on binding purchase orders and are quality tested prior to shipment. Generally, these products carry a one-year limited parts and labor warranty. We do not offer customer discounts, rebates or price protection on these products. We recognize revenues for products sold by our French subsidiary at the point of shipment. Customer discounts are included in the product price list provided to the customer. Returns are infrequent and permitted only with prior authorization because these products are shipped based on binding purchase orders and are quality tested prior to shipment. Generally, these products carry a two-year limited parts and labor warranty. Generally, our electronic devices, network access and transmission products and communication timing and synchronization products carry a one-year limited parts and labor warranty and our communications test instruments and European network access and transmission products carry a two-year limited parts and labor warranty. Products returned under warranty are tested and repaired or replaced at our option. Historically, warranty repairs have not been material. We do not offer customer discounts, rebates or price protection on these products. Revenues from services such as repairs and modifications are recognized when the service has been completed and invoiced. For repairs that involve shipment of a repaired product, we recognize repair revenues when the product is shipped back to the customer. Service revenues represented approximately 3.2% and 5.2% of net sales for the three months ended March 31, 2007 and 2006, respectively. INVENTORY VALUATION Our finished goods electronic devices inventories generally are built to order. Our communications equipment inventories generally are built to forecast, which requires us to produce a larger amount of finished goods in our communications equipment business so that our customers can promptly be served. Our products consist of numerous electronic and other parts, which necessitates 4 that we exercise detailed inventory management. We value our inventory at the lower of the actual cost to purchase or manufacture the inventory (first-in, first-out) or the current estimated market value of the inventory (net realizable value). We perform physical inventories at least once a year. We regularly review inventory quantities on hand and record a provision for excess and obsolete inventory based primarily on our estimated forecast of product demand and production requirements for the next twelve months. Additionally, to determine inventory write-down provisions, we review product line inventory levels and individual items as necessary and periodically review assumptions about forecasted demand and market conditions. Any parts or finished goods that we determine are obsolete, either in connection with the physical count or at other times of observation, are reserved for and subsequently discarded and written-off. In addition, the communications equipment industry is characterized by rapid technological change, frequent new product development, and rapid product obsolescence that could result in an increase in the amount of obsolete inventory quantities on hand. Also, our estimates of future product demand may prove to be inaccurate, in which case we may have understated or overstated the provision required for excess and obsolete inventory. Although we make every effort to ensure the accuracy of our forecasts of future product demand, any significant unanticipated changes in demand or technological developments could have a significant impact on the value of our inventory and our reported operating results. FOREIGN CURRENCY TRANSLATION We have foreign subsidiaries that together accounted for approximately 69.3% and 53.4% of our net revenues, and 58.0% and 48.4% of our assets and 59.9% and 46.1% of our total liabilities as of and for the three months ended March 31, 2007 and 2006, respectively. In preparing our consolidated financial statements, we are required to translate the financial statements of our foreign subsidiaries from the currencies in which they keep their accounting records into United States dollars. This process results in exchange gains and losses which, under relevant accounting guidance, are included either within our statement of operations or as a separate part of our net equity under the caption "accumulated other comprehensive income (loss)." Under relevant accounting guidance, the treatment of these translation gains or losses depends upon our management's determination of the functional currency of each subsidiary. This determination involves consideration of relevant economic facts and circumstances affecting the subsidiary. Generally, the currency in which the subsidiary transacts a majority of its transactions, including billings, financing, payroll and other expenditures, would be considered the functional currency. However, management must also consider any dependency of the subsidiary upon the parent and the nature of the subsidiary's operations. If management deems any subsidiary's functional currency to be its local currency, then any gain or loss associated with the translation of that subsidiary's financial statements is included as a separate component of stockholders' equity in accumulated other comprehensive income (loss). However, if management deems the functional currency to be United States dollars, then any gain or loss associated with the translation of these financial statements would be included within our statement of operations. If we dispose of any of our subsidiaries, any cumulative translation gains or losses would be realized into our statement of operations. If we determine that there has been a change in the functional currency of a subsidiary to United States dollars, then any translation gains or losses arising after the date of the change would be included within our statement of operations. 5 Based on our assessment of the factors discussed above, we consider the functional currency of each of our international subsidiaries to be each subsidiary's local currency. Accordingly, we had cumulative translation gains of $675,000 and losses of $698,000 that were included as part of accumulated other comprehensive income (loss) within our balance sheets at March 31, 2007 and December 31, 2006, respectively. During the three months ended March 31, 2007 and 2006, we included translation adjustments of a loss of approximately $23,000 and a gain of approximately $126,000, respectively, under accumulated other comprehensive income (loss). If we had determined that the functional currency of our subsidiaries was United States dollars, these gains or losses would have decreased or increased our gain or loss for the three months ended 2007 and 2006. The magnitude of these gains or losses depends upon movements in the exchange rates of the foreign currencies in which we transact business as compared to the value of the United States dollar. These currencies include the euro, the British pound sterling and the Japanese yen. Any future translation gains or losses could be significantly higher or lower than those we recorded for these periods. A $5,790,000 loan payable from EMRISE Electronics Ltd. ("EEL") to EMRISE was outstanding as of March 31, 2007. The majority of this loan is expected to be outstanding indefinitely. Therefore, exchange rate losses and gains on this loan are recorded in cumulative translation gains or losses in the equity section of the balance sheet. INTANGIBLES, INCLUDING GOODWILL We periodically evaluate our intangibles, including goodwill, for potential impairment. Our judgments regarding the existence of impairment are based on legal factors, market conditions and operational performance of our acquired businesses. In assessing potential impairment of goodwill, we consider these factors as well as forecasted financial performance of the acquired businesses. If forecasts are not met, we may have to record additional impairment charges not previously recognized. In assessing the recoverability of our goodwill and other intangibles, we must make assumptions regarding estimated future cash flows and other factors to determine the fair value of those respective assets. If these estimates or their related assumptions change in the future, we may be required to record impairment charges for these assets that were not previously recorded. If that were the case, we would have to record an expense in order to reduce the carrying value of our goodwill. Under Statement of Financial Accounting Standard ("SFAS") No. 142, GOODWILL AND OTHER INTANGIBLE ASSETS, we are required to analyze our goodwill for impairment issues at least annually after that date or more frequently if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. At March 31, 2007, our reported goodwill totaled $12,975,000. During the quarter ended March 31, 2007, we did not record any impairment losses related to goodwill and other intangible assets. RESULTS OF OPERATIONS The table presented below, which compares our results of operations for the three months ended March 31, 2007 to our results of operations for the three months ended March 31, 2006, presents the results for each period, the change in those results from one period to another in both dollars and percentage change, and the results for each period as a percentage of net sales. The columns present the following: o The first two data columns show the absolute results for each period presented. 6 o The columns entitled "Dollar Variance" and "Percentage Variance" show the change in results, both in dollars and percentages. These two columns show favorable changes as a positive number and unfavorable changes as a negative number. For example, when our net sales increase from one period to the next, that change is shown as a positive number in both columns. Conversely, when expenses increase from one period to the next, that change is shown as a negative number in both columns. o The last two columns show the results for each period as a percentage of net sales. RESULTS AS A PERCENTAGE OF NET SALES FOR THE THREE MONTHS ENDED DOLLAR PERCENTAGES THREE MONTHS ENDED MARCH 31, VARIANCE VARIANCE MARCH 31, -------------------- ----------- -------- -------------------- FAVORABLE FAVORABLE 2007 2006 (UNFAVORABLE) (UNFAVORABLE) 2007 2006 --------- --------- ----------- -------- ------- ------- (IN THOUSANDS) Net sales Electronic devices $ 8,528 $ 7,853 $ 675 8.6% 71.5% 73.2% Communications equipment 3,394 2,881 513 17.8% 28.5% 26.8% --------- --------- ----------- -------- ------- ------- Total net sales 11,922 10,734 1,188 11.1% 100.0% 100% --------- --------- ----------- -------- ------- ------- Cost of sales Electronic devices 5,900 4,787 (1,113) (23.3%) 49.5% 44.6% Communications equipment 2,174 1,563 (611) (39.1%) 18.2% 14.6% --------- --------- ----------- -------- ------- ------- Total cost of sales 8,074 6,350 (1,724) (27.1%) 67.7% 59.2% --------- --------- ----------- -------- ------- ------- Gross profit Electronic devices 2,628 3,066 (438) (14.3%) 22.0% 28.6% Communications equipment 1,220 1,318 (98) (7.4%) 10.2% 12.3% --------- --------- ----------- -------- ------- ------- Total gross profit 3,848 4,384 (536) (12.2%) 32.3% 40.8% --------- --------- ----------- -------- ------- ------- Selling, general and administrative expenses 3,736 3,767 31 0.8% 31.3% 35.1% Engineering and product development 710 722 12 1.7% 6.0% 6.7% --------- --------- ----------- -------- ------- ------- Operating loss (598) (105) (493) 469.5% (5.0%) (1.0%) Interest expense (150) (124) (26) (21.0%) (1.3%) (1.2%) Interest income 19 25 (6) (24.0%) 0.2% 0.2% Other income and expense 65 8 57 712.5% 0.5% 0.1% --------- --------- ----------- -------- ------- ------- Loss before income tax expense (664) (196) (468) (238.8%) (5.6%) (1.8%) Income tax expense 128 126 (2) 1.6% 1.1% 1.2% --------- --------- ----------- -------- ------- ------- Net loss $ (792) $ (322) $ (470) 146.0% (6.6%) (3.0%) ========= ========= =========== ======== ======= =======
NET SALES. The $1,188,000 increase in total net sales resulted from the combination of a $675,000 increase in net sales of our electronic devices and a $513,000 increase in net sales of our communications equipment products and services. ELECTRONIC DEVICES. The increase in net sales of electronic devices was due to a $1,677,000 (38.7%) increase in sales of power supplies to $6,011,000 as compared to $4,334,000 in the prior year period, primarily for military applications. XPS and Pascall Electronics Limited ("Pascall"), both located in the United Kingdom, contributed $1,273,000 and $587,000, respectively, to this increase. These increases were partially offset with a decrease of $178,000 (15.6%) in power supply sales by RO Associates Incorporated ("RO") mainly due to the temporary disruption caused by RO's relocating to the facility it now shares with CXR Larus in San Jose, California. Switch sales decreased by $256,000 (14.1%) in the first three months of 2007 as compared to the 2006 period due to EMRISE Electronics' Digitran division's delayed receipt of expected year-end 2006 orders from two of our largest customers, which orders we have begun to receive in the second quarter of 2007. Radio frequency components from Pascall shipped at a lower rate in the first three months of 2007, resulting in a $570,000 (43.3%) reduction to $745,000 as compared to $1,315,000 in the prior year due to delays in receipt of expected orders, which have subsequently been received and are expected to ship in the second quarter of 2007. 7 COMMUNICATIONS EQUIPMENT. The increase in net sales of communications equipment was primarily the result of a $464,000 (24.1%) increase in net sales of network access equipment to $2,389,000 from $1,925,000 in the prior year period. This was due to a $584,000 increase in volume for such equipment sold by CXR-AJ in France, primarily for military applications, and was partially offset by a $120,000 reduction in sales of network access equipment at CXR Larus. CXR Larus sold $163,000 (43.1%) more synchronous communication timing systems in the first quarter of 2007 as compared to the first quarter of 2006. These increases were partially offset with a $37,000 decrease in net sales of test equipment and a $78,000 decrease in service and miscellaneous sales. This is consistent with our business strategy of minimizing sales efforts for test equipment, which we feel have limited growth potential, and focusing more on network timing devices, where we believe we have good growth opportunities. We expect our synchronous communication timing device sales to continue to improve in the remainder of 2007 as we introduce our new TiemPo(TM) 6400 product. GROSS PROFIT. The decrease in gross profit as a percentage of total net sales and the dollar increase in total gross profit resulted from an decrease in gross profit in both our electronic devices segment and our communications equipment segment. ELECTRONIC DEVICES. The decrease in gross profit for our electronic devices segment was primarily due to a reduction in Digitran's gross profit for switches of $344,000 (35.4%) to $629,000 from $973,000 due to the delayed receipt of expected year-end 2006 orders from two of our largest customers, which orders we have begun to receive in the second quarter of 2007. These orders are for higher margin product, so the delay affected our gross profit more than our net sales. Also, the gross profit for power supplies from RO decreased by $263,000 (67.4%) to $127,000 from $390,000 due to lower sales volume primarily caused by disruption during RO's move to our CXR Larus facility and the fact that RO's prior year gross profit included a one-time $100,000 royalty with unusually high gross margin. We do not expect significant royalty income in future periods. These decreases were partially offset with a $139,000 increase in gross profit from our United Kingdom-based power supply operations due to higher sales associated with Eurofighter Typhoon aircraft and other defense-related aerospace shipments. Also included in gross profit for the first quarter of 2007 is a $23,000 increase in gross profit from XCEL Japan Ltd. ("XJL"), our Japanese subsidiary. COMMUNICATIONS EQUIPMENT. The decrease in gross profit for our communication equipment segment was primarily caused by a $348,000 (40.2%) reduction in gross profit at our CXR Larus facility to $517,000 from $865,000 in the prior year period. This reduction was primarily due to lower sales of high margin end-of-life test equipment. These reductions in gross profit were partially offset by a $251,000 (55.4%) increase in gross profit for our network access products sold by CXR-AJ in France, primarily from greater shipments of high margin military products as compared to the first quarter of 2006. SELLING, GENERAL & ADMINISTRATIVE EXPENSES. Total selling, general and administrative ("SG&A") expenses decreased slightly by $31,000 (0.8%) to $3,736,000 from $3,767,000 in the prior year period. However, some components of SG&A expenses changed. United States-based audit fees increased $241,000 due to a cost overrun and the quarterly reviews for 2006 being performed in the first quarter of 2007 instead of during 2006 due to the re-audit of our 2003, 2004 and 2005 earnings. For similar reasons, corporate legal fees increased $47,000. We do not expect 2006 audit or related legal expenses to affect subsequent periods of 2007. These increases were offset with a reduction of $278,000 in compensation-related expenses. ENGINEERING & PRODUCT DEVELOPMENT EXPENSES. Engineering and product development expenses consist primarily of research and product development activities. Such expenses decreased slightly in the first quarter of 2007 to $710,000 as compared to $722,000 in the prior year period. These expenses increased by $30,000 in our electronic components devices segment mainly due to increased development cost on our new line of very low profile rotary switches. These expenses declined by $42,000 for our communications equipment segment due to moderately less development expenses for both timing and network access products, as the bulk of development expense for our new synchronous timing device called the TiemPo(TM) 6400 product was incurred in 2006. 8 INTEREST EXPENSE, NET. Interest expense increased from $124,000 to $150,000 due to increased loan balances for our United States and French operations. OTHER INCOME AND EXPENSE. Other income and expense consists primarily of short-term exchange rate gains and losses associated with foreign currency fluctuations on the current portion of certain assets and liabilities. Other income and expense increased by $57,000 in the first quarter of 2007 as compared to the first quarter of 2006. INCOME TAX EXPENSE. Income tax expense of $128,000 was slightly more than the $126,000 of the prior year period and consisted almost entirely of foreign income tax. NET LOSS. The net loss of $792,000 as compared to a net loss of $322,000 in the prior period was primarily the result of lower gross margin at CXR Larus, CXR-AJ and Digitran. Also, we incurred a $288,000 increased in accounting and legal expenses due to a cost overrun and the timing of quarterly reviews. LIQUIDITY AND CAPITAL RESOURCES During the quarters ended March 31, 2007 and 2006, we funded our operations primarily through revenue generated from our operations and through our previous line of credit with Wells Fargo Bank, N.A. ("Bank credit facility"), a new credit facility ("WFBC credit facility") with Wells Fargo Bank acting through its Wells Fargo Business Credit operating division ("WFBC"), and facilities with various foreign banks. As of March 31, 2007, we had working capital of $8,634,000, which represented a $977,000 (10.2%) decrease from working capital of $9,611,000 at December 31, 2006, primarily due to the loss we incurred in the first quarter of 2007. At March 31, 2007 and December 31, 2006, we had accumulated deficits of $19,525,000 and $18,733,000, respectively, and cash and cash equivalents of $3,269,000 and $3,802,000, respectively. Accounts receivable decreased $717,000 (7.8%) during the first three months of 2007, from $9,220,000 as of December 31, 2006 to $8,503,000 as of March 31, 2007. Our customers include many Fortune 100 companies in the United States and similarly large companies in Europe and Asia. Because of the financial strength of our customer base, we incur few bad debts. Inventory balances increased $400,000 (3.8%) during the three months ended March 31, 2007, from $10,575,000 at December 31, 2006 to $10,975,000 at March 31, 2007. Inventory represented 25.0% and 23.6% of our total assets as of March 31, 2007 and December 31, 2006, respectively. Inventory turnover, which is a ratio that indicates how many times our inventory is sold and replaced over a specified period, was 3.0 times for the first three months of 2007 as compared to 2.4 for the prior year period. We have taken various actions to reduce costs. In 2005, we contracted with a contract manufacturer, Hitachi, for production of communication timing and synchronization products at lower prices than our previous cost for in-house manufacturing for production that began in the second quarter of 2006. In the first quarter of 2007, we moved RO to the CXR Larus facility, as a result of which we expect to save at least $180,000 annually in facility related costs. Cash used in our operating activities totaled $175,000 for the three months ended March 31, 2007 as compared to cash used in our operating activities of $529,000 during the first three months of 2006. This $354,000 increase in operating cash flows primarily resulted from an increase in accrued expenses. 9 Cash used in our investing activities totaled $135,000 for the first three months of 2007 as compared to $45,000 for the prior year period. The 2007 amount consists of an increase in additions of property, plant and equipment of $90,000 over the prior year. Cash used in our financing activities totaled $255,000 for the current period in 2007 as compared to $1,216,000 for 2006. The $961,000 reduction in cash used in financing is the result of a lesser amount paid on bank loans as compared to the prior year period. At March 31, 2007, we had $2,839,000 of outstanding borrowings under lines of credit with foreign banks. At March 31, 2007, outstanding borrowings and availability under our revolving lines of credit were as follows: Maximum Actual Contractual Outstanding Remaining Availability Borrowings Availability ------------ ---------- ------------ Line of credit with a U.S. commercial lender $ 2,098,000 $ 1,447,000 $ 651,000 Lines of credit with foreign banks 4,765,000 2,839,000 1,926,000 ------------- ------------- ------------- $ 6,863,000 $ 4,286,000 $ 2,577,000 ============= ============= =============
Actual remaining availability represents the additional amount we were eligible to borrow as of March 31, 2007. Maximum contractual availability represents the maximum amount of availability provided under the contract as of that date and includes the actual remaining availability. In addition to the revolving lines of credit, at December 31, 2006, we had long-term loans and capitalized lease and equipment loan obligations totaling $1,049,000, the current portion of which loans and obligations totaled $516,000. Below are descriptions of key terms of our various domestic and foreign credit facilities and debt obligations. On August 25, 2005, we and two of our subsidiaries, CXR Larus and EMRISE Electronics, acting as guarantors, obtained the Bank credit facility for our United States operations. The Bank credit facility provided a $9,000,000 revolving line of credit secured by accounts receivable, other rights to payment and general intangibles, inventories and equipment, with an interest rate adjusted monthly based on the prime rate. The Bank credit facility also provided for a term loan of $150,000 secured by equipment, amortizable over 36 months at a variable rate equal to the prime rate plus 1.5%. In addition, Wells Fargo Bank provided us with credit for the purchase of new capital equipment when needed, with an interest rate equal to the 90-day London InterBank Offered Rate ("LIBOR") (5.35% at March 31, 2007) plus 3.75% per annum. Amounts borrowed under this arrangement are being amortized over 60 months from the respective dates of borrowing and secured by the purchased equipment. On December 1, 2006, EMRISE Corporation, EMRISE Electronics, CXR Larus, RO and WFBC entered into a Credit and Security Agreement ("WFBC credit facility") providing for a revolving line of credit and term loan. On December 5, 2006, we paid off the $1,500,000 Bank credit facility in full. The WFBC credit facility provides for a $5,000,000 revolving line of credit that expires on December 1, 2009 and is secured by accounts receivable, other rights to payment and general intangibles, inventories and equipment. The line of credit is formula-based and generally provides that the outstanding borrowings under the line of credit may not exceed an aggregate of 85% of 10 eligible accounts receivable plus 10% of the value of eligible finished goods inventory. Interest is payable monthly. The interest rate is variable and is adjusted monthly based on the prime rate plus 1%. The prime rate at March 31, 2007 was 8.25%. The WFBC credit facility is subject to an unused line fee equal to 0.25% per annum, payable monthly based on the average daily unused amount of the line of credit. The WFBC credit facility is also subject to a minimum monthly interest charge of $8,500 with respect to the revolving line of credit. The WFBC credit facility is subject to various financial covenants on a consolidated basis as follows. The minimum debt service coverage ratio must be greater than 1.20:1.00 on a trailing quarterly basis. "Debt service coverage ratio" is defined as net income after taxes, plus depreciation, plus amortization, plus or minus changes in deferred taxes, minus capital expenditures and minus any dividends or distributions, divided by the current maturities of long-term debt paid or scheduled to be paid plus any payments on subordinated debt. The WFBC credit facility also requires that we maintain a minimum book net worth, determined at the end of each calendar month, in an amount not less than $26,900,000 for the months ended December 31, 2006, January 31, 2007 and February 28, 2007 and of not less than that amount plus 80% of our net income for each calendar quarter ending on or after March 31, 2007 and for each calendar month ending on or after March 31, 2007. We were not permitted to incur a net loss of greater than $1,150,000 for 2006, and for each quarterly period occurring after December 31, 2006, our net income must not be less than $0. If WFBC terminates the WFBC credit facility during a default period, or if we terminate or reduce the WFBC credit facility prior to the maturity date, or if we prepay the term loan portion of the facility, we will be subject to penalties as follows: if the termination or prepayment occurs during the one year period after the initial funding date, the penalty is equal to 3% of the maximum line amount and/or prepayment amount; if the termination or prepayment occurs during second year after the initial funding date, the penalty is equal to 2% of the maximum line amount and/or prepayment amount; and if the termination or prepayment occurs at any time after the second anniversary of the initial funding date and prior to the maturity date, the penalty is equal to 1% of the maximum line amount and/or prepayment amount. In the event of a default and continuation of a default, Wells Fargo may accelerate the payment of the principal balance, requiring us to pay the entire indebtedness outstanding on that date. From and after the maturity date of the WFBC credit facility, or any earlier date that all principal owing under the WFBC credit facility becomes due and payable by acceleration or otherwise, the outstanding principal balance will bear interest until paid in full at an increased rate per annum equal to 3% above the rate of interest in effect from time to time under the WFBC credit facility. The WFBC credit facility also provides for a term loan of $200,000 secured by accounts receivable, other rights to payment, and general intangibles, inventories and equipment, amortizable over 36 months at a variable rate equal to the prime rate plus 1%. As of March 31, 2007, we had balances of $1,447,000 outstanding on the revolving line of credit and $183,000 outstanding on the term loan. Availability on the WFBC revolving line of credit was $651,000. As of March 31, 2007, we were not in compliance with the loan's financial covenants for net worth, net income and debt service coverage. We obtained a waiver from WFBC for those covenant violations. WFBC is currently in the process of resetting the covenants for 2007. 11 As of March 31, 2007, our foreign subsidiaries had credit facilities, including lines of credit and term loans, with Lloyds TSB Bank PLC ("Lloyds TSB") and Lloyds TSB Commercial Finance Limited ("Lloyds") in England, IFN Finance, a subsidiary of ABN AMRO Holdings, N.V., in France, and Johnan Shinkin Bank in Japan. At March 31, 2007, the balances outstanding under our United Kingdom, France and Japan credit facilities were $2,134,000, $1,206,000 and $11,000, respectively. On July 8, 2005, XPS and Pascall obtained a credit facility with Lloyds that provides a revolving loan secured by receivables, with a maximum availability of 2,100,000 British pounds sterling (approximately $4,121,000 based on the exchange rate in effect on March 31, 2007). The annual interest rate on the revolving loan is 1.5% above the Lloyds TSB base rate. The Lloyds TSB base rate was 5.25% at March 31, 2007. The financial covenants include a 50% cap on combined export gross sales of XPS and Pascall and days sales outstanding of less than 65 days, and the funding balance is capped at 125% of XPS and Pascall combined gross sales. Based on our long-term relationship with Lloyds Bank, we anticipate but can give no assurance that we will be able to renew or obtain a new credit facility from Lloyds Bank when this existing facility expires July 31, 2007. On August 26, 2005, XPS entered into an agreement with Lloyds for an unsecured cashflow loan of 300,000 British pounds sterling (approximately $589,000 based on the exchange rate in effect on March 31, 2007), payable over 12 months. The loan is structured as an overadvance on the previously negotiated 2,100,000 British pounds sterling revolving loan with Lloyds, bringing the maximum aggregate commitment on the revolving loan to 2,400,000 British pounds sterling (approximately $4,709,000 based on the exchange rate in effect on March 31, 2007). The interest rate is variable and is adjusted monthly based on the base rate of Lloyds TSB plus 1.9%. Lloyds TSB has sole discretion to switch the details on this overadvance account if Lloyds determines that we will have difficulty in meeting the specific reductions in the overadvance account. The balance on the XPS and Pascall revolving loans at March 31, 2007 was $1,661,000. Availability on the XPS and Pascall revolving loans was $1,753,000 as of March 31, 2007. On August 26, 2005, EEL, a United Kingdom-based subsidiary of ours, entered into an agreement with Lloyds TSB for an unsecured term loan of 500,000 British pounds sterling (approximately $981,000 based on the exchange rate in effect on March 31, 2007). This loan is repayable in 36 consecutive monthly installments, representing principal and interest. The interest rate is variable and is adjusted daily based on the Lloyds TSB base rate plus 2.5%. The loan also includes financial covenants. EEL must maintain profit before taxation and interest paid and payable of no less than 150% of interest paid and payable. In the event of a default, Lloyds may make the loans, including any outstanding principal and interest that has accrued, repayable on demand. If any amount payable is not paid when due, EEL must pay an increased interest rate per annum equal to 3% above the rate of interest in effect from time to time under the note. In April 2003, CXR-AJ obtained a credit facility from IFN Finance, a subsidiary of ABN AMRO N.V. This credit facility is for a maximum of $1,600,000 based on the exchange rate in effect at March 31, 2007 for the conversion of euros into United States dollars. CXR-AJ also had $28,000 of term loans with another French bank outstanding as of March 31, 2007. The IFN Finance facility is secured by accounts receivable and carries an annual interest rate of 1.6% above the French "T4M" rate. At March 31, 2007, the French T4M rate was 3.69%, and this facility in addition to small loans with other banks had a balance of $1,178,000. This facility has no financial performance covenants. Availability on the IFN Finance credit line was $161,000 as of March 31, 2007, in addition to $12,000 availability with several other banks. 12 XJL obtained a term loan on November 29, 2002 from Johnan Shinkin Bank. The loan is amortized over five years, carries an annual fixed interest rate of 3.25% and is secured by the assets of XJL. The balances of the loan as of March 31, 2007 and 2005 was $11,000, using the exchange rates in effect at those dates for conversion of Japanese yen into United States dollars. There are no financial performance covenants applicable to this loan. Our backlog was $23,446,000 as of March 31, 2007 as compared to $22,135,000 as of March 31, 2006. The increase in backlog was primarily due to an increase of $702,000 in backlog of network access equipment at CXR-AJ in France and $625,000 in power supplies and RF components at XPS and Pascall, our United Kingdom subsidiaries. Our backlog as of March 31, 2007 was approximately 95% related to our electronic devices business, which business tends to provide us with long lead-times for our manufacturing processes due to the custom nature of the products, and approximately 5% related to our communications equipment business, which business tends to deliver standard products from stock as orders are received. The amount of backlog orders represents revenue that we anticipate recognizing in the future, as evidenced by purchase orders and other purchase commitments received from customers, but on which work has not yet been initiated or with respect to which work is currently in progress. However, there can be no assurance that we will be successful in fulfilling such orders and commitments in a timely manner or that we will ultimately recognize as revenue the amounts reflected as backlog. We included in our annual report on Form 10-K for the year ended December 31, 2006 a contractual obligations table that outlines payments due from us or our subsidiaries under our lines of credit and other significant contractual obligations through 2011, exclusive of interest. During the three months ended March 31, 2007, no material changes in this information occurred outside the ordinary course of business. We intend to grow our business through both internal growth and further acquisitions that we identify as being potentially both synergistic and accretive of our earnings. Any additional acquisitions would likely be funded through the use of cash and/or a combination of cash and notes. We believe that current and future available capital resources, revenues generated from operations, and other existing sources of liquidity, including the credit facility we have with WFBC, will be adequate to meet our anticipated working capital and capital expenditure requirements for at least the next twelve months. If, however, we are unable to renew or replace the XPS and Pascall credit facility with Lloyds Bank that expires July 31, 2007, or if our capital requirements or cash flow vary materially from our current projections or other unforeseen circumstances occur, or if we require a significant amount of cash to fund future acquisitions, we may require additional financing. Our failure to raise capital, if needed, could restrict our growth, limit our development of new products or hinder our ability to compete. EFFECTS OF INFLATION The impact of inflation and changing prices has not been significant on the financial condition or results of operations of either our company or our operating subsidiaries. IMPACTS OF NEW ACCOUNTING PRONOUNCEMENTS In June 2006, the Financial Accounting Standards Board ("FASB") issued Financial Interpretation No. ("FIN") 48, ACCOUNTING FOR UNCERTAINTY IN INCOME TAXES--AN INTERPRETATION OF FASB STATEMENT NO. 109. This interpretation prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. The interpretation contains a two-step approach to 13 recognizing and measuring uncertain tax positions accounted for in accordance with SFAS No. 109. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates that it is more likely than not that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount that is more than 50% likely of being realized upon ultimate settlement. The interpretation also provides guidance on derecognition, classification, interest and penalties, and other matters. We adopted FIN 48 on January 1, 2007. The implementation of FIN 48 did not result in a material adjustment to our liability for unrecognized income tax benefits. At the time of adoption and as of the end of the first quarter of 2007, we had recorded no net unrecognized tax benefits. We do not believe that we will record unrecognized tax benefits within the year following the first quarter of 2007. We recognize interest and penalties related to uncertain tax positions in interest expense and selling, general and administrative expense, respectively, in our condensed consolidated statements of operations and comprehensive income. We did not recognize interest or penalties during the first quarter of 2007. As of March 31, 2007, we had nothing accrued for interest and penalties. We file income tax returns in the United States federal jurisdiction, the United Kingdom, France and Japan, and in the state jurisdictions of California, Texas and New Jersey. We are no longer subject to United States federal and state tax examinations for years before 2003 and 2002, respectively, and are no longer subject to tax examinations for the United Kingdom and Japan for years prior to 2005, and for France for years prior to 2003. In February 2006, the FASB issued SFAS No. 155, ACCOUNTING FOR CERTAIN HYBRID FINANCIAL INSTRUMENTS, which amends SFAS No. 133, ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES and SFAS No. 140, ACCOUNTING FOR THE IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS. Specifically, SFAS No. 155 amends SFAS No. 133 to permit fair value remeasurement for any hybrid financial instrument with an embedded derivative that otherwise would require bifurcation, provided the whole instrument is accounted for on a fair value basis. Additionally, SFAS No. 155 amends SFAS No. 140 to allow a qualifying special purpose entity to hold a derivative financial instrument that pertains to a beneficial interest other than another derivative financial instrument. SFAS No. 155 applies to all financial instruments acquired or issued after the beginning of an entity's first fiscal year that begins after September 15, 2006. Our adoption of SFAS No. 155 on January 1, 2007 has not had a material effect on our results of operations or financial position. In September 2006, the FASB issued SFAS No. 157, FAIR VALUE MEASUREMENTS. This new statement provides a single definition of fair value, together with a framework for measuring it, and requires additional disclosure about the use of fair value to measure assets and liabilities. SFAS No. 157 also emphasizes that fair value is a market-based measurement, not an entity-specific measurement, and sets out a fair value hierarchy, with the highest priority being quoted prices in active markets. The required effective date of SFAS No. 157 is the first quarter of 2008. We currently are evaluating the effect this statement may have on our consolidated financial statements. In February 2007, the FASB issued SFAS No. 159, THE FAIR VALUE OPTION FOR FINANCIAL ASSETS AND FINANCIAL LIABILITIES. SFAS No. 159 permits an entity to irrevocably elect fair value on a contract-by-contract basis as the initial and subsequent measurement attribute for many financial assets and liabilities and certain other items including insurance contracts. Entities electing the fair value option would be required to recognize changes in fair value in earnings and to expense up front cost and fees associated with the item for which the fair value option is elected. SFAS No. 159 is effective for fiscal 14 years beginning after November 15, 2007. Early adoption is permitted as of the beginning of a fiscal year that begins on or before November 15, 2007, provided the entity also elects to apply the provisions of SFAS No. 157, FAIR VALUE MEASUREMENTS. We currently are evaluating the effect that adoption of SFAS No. 159 would have on our financial condition or results of operations. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. We have established and acquired international subsidiaries that prepare their balance sheets in the relevant foreign currency. In order to be included in our consolidated financial statements, these balance sheets are converted, at the then current exchange rate, into United States dollars, and the statements of operations are converted using weighted average exchange rates for the applicable period. Accordingly, fluctuations of the foreign currencies relative to the United States dollar could have an effect on our consolidated financial statements. Our exposure to fluctuations in currency exchange rates has increased as a result of the growth of our international subsidiaries. However, because historically the majority of our currency exposure has related to financial statement translation rather than to particular transactions, we do not intend to enter into, nor have we historically entered into, forward currency contracts or hedging arrangements in an effort to mitigate our currency exposure. A substantial portion of our notes payable and long-term debt have variable interest rates based on the prime interest rate and/or the lender's base rate, which exposes us to risk of earnings loss due to changes in such interest rates. Our amended annual report on Form 10-K for the year ended December 31, 2005 contains information about our debt obligations that are sensitive to changes in interest rates under "Item 7A. Quantitative and Qualitative Disclosures About Market Risk." There were no material changes in those market risks during the three months ended March 31, 2007. ITEM 4T. CONTROLS AND PROCEDURES. EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES We conducted an evaluation, with the participation of our Chief Executive Officer, who is also our Acting Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures. The term "disclosure controls and procedures," as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended ("Exchange Act"), means controls and other procedures of a company that are designed to ensure that information required to be disclosed by the company in the reports filed or submitted by it under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Commission's rules and forms. Disclosure controls and procedures also include, without limitation, controls and procedures designated to ensure that information required to be disclosed by a company in the reports filed or submitted by it under the Exchange Act is accumulated and communicated to the company's management, including its principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Based on that evaluation, our Chief Executive Officer and Acting Chief Financial Officer has concluded as of March 31, 2007 that our disclosure controls and procedures were not effective at the reasonable assurance level due to the material weaknesses described below. A material weakness is internal control over financial reporting is defined by the Public Company Accounting Oversight Board's Audit Standard No. 2 as being a significant deficiency, or combination of significant deficiencies, that results in more than a remote likelihood that a material misstatement of the financial statements would not be prevented or detected. A significant deficiency is a control deficiency, or combination of control deficiencies, that adversely affects the company's ability to initiate, authorize, record, process, 15 or report external financial data reliably in accordance with generally accepted accounting principles such that there is more than a remote likelihood that a misstatement of the company's annual or interim financial statements that is more than inconsequential will not be prevented or detected. In connection with its audit of our consolidated financial statements for the year ended December 31, 2006, Hein, our independent registered public accounting firm, advised management and our audit committee of the following two matters that Hein considered to be material weaknesses in the area of accounting and financial reporting: 1. We did not have a sufficient complement of personnel with appropriate training and experience in generally accepted accounting principles in the United States and with Commission disclosure requirements. 2. We lacked procedures to ensure that our principal accounting and financial officer can closely monitor information submitted to our corporate headquarters by our subsidiaries and oversee accounting for reserves and other areas that involve significant judgment at all of our locations. We also lacked procedures to ensure that personnel familiar with accounting principles generally accepted in the United States and with Commission disclosure requirements can thoroughly evaluate activities and transactions at all of our locations in order to make all required disclosures in a timely manner. To initially address these material weaknesses, management performed additional analyses and other procedures to ensure that the financial statements included herein fairly present, in all material respects, our financial position, results of operations and cash flows for the periods presented. INHERENT LIMITATIONS ON THE EFFECTIVENESS OF CONTROLS Management does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all errors and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control systems are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in a cost-effective control system, no evaluation of internal control over financial reporting can provide absolute assurance that misstatements due to error or fraud will not occur or that all control issues and instances of fraud, if any, have been or will be detected. These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of a simple error or mistake. Controls can also be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part on certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Projections of any evaluation of controls effectiveness to future periods are subject to risks. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures. REMEDIATION OF MATERIAL WEAKNESSES To remediate the material weaknesses in our disclosure controls and procedures identified above, we have done or intend to do the following, in the periods specified below: 16 Our former Chief Financial Officer functioned in that position through August 18, 2006, the date of his resignation from employment with EMRISE Corporation. Upon his resignation, overall responsibility for the accounting functions and reporting was delegated to our Chief Executive Officer who currently is filling the role of Acting Chief Financial Officer. Management and our audit committee launched a recruitment effort in September 2006, and recently selected two candidates to fill the positions of Vice President of Finance and Administration (our principal financial and accounting officer) and Controller for our United States operations, each with expertise in public company financial reporting compliance. We anticipate that the candidate for Vice President of Finance and Administration will assume that position effective May 16, 2007 pursuant to an executive employment agreement that we recently executed with him, and that the candidate for Controller for our United States operations will assume that position effective May 16, 2007. Once the Vice President of Finance and Administration and the new Controller for our United States operations assume those roles, we intend that those individuals will develop policies and procedures, including an adequate supervisory structure, necessary to ensure that our principal accounting and financial officer can closely monitor financial information throughout our company and oversee all accounting that involves significant judgment on the part of personnel located at our operating subsidiaries, within the United States, Europe and Asia. In addition, we intend that our Vice President of Finance and Administration and new Controller for our United States operations will establish policies and procedures necessary to ensure that personnel familiar with accounting principles generally accepted in the United States and with Commission disclosure requirements are capable of evaluating activities and transactions at all of our operating subsidiaries in order to make all required disclosures in a timely manner. We anticipate that our Vice President of Finance and Administration and our new Controller for our United States operations will work closely with our Director of Financial Controls for Europe, whom we hired in late 2005 to oversee our three European Controllers and who will report to our Vice President of Finance and Administration, on these matters. Management is unsure, at the time of the filing of this report, when the actions described above will remediate the material weaknesses also described above. Management may continue to hire outside consultants to assist us in satisfying our financial reporting obligations. We have agreed that the Vice President of Finance and Administration will have an annual base salary of $223,000 during the first twelve-month period and $245,300 during the second twelve-month period that his executive employment agreement is in effect, and will be eligible for additional compensation as described in that agreement. We anticipate that the new Controller for our United States operations will have an annual base salary of $115,000. Management is unable, however, to estimate our expenditures related to the hiring of outside consultants to assist us in satisfying our financial reporting obligations. CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING There were no changes during the quarter ended March 31, 2007 that have materially affected or are reasonably likely to materially affect, our internal control over financial reporting, as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act. 17 PART II OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS. We are not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS. Item 1A of Part I of our Amendment No. 1 to Form 10-K for the fiscal year ended December 31, 2006 summarizes various material risks that investors should carefully consider before deciding to buy or maintain an investment in our common stock. Any of those risks, if they actually occur, would likely harm our business, financial condition and results of operations and could cause the trading price of our common stock to decline. There are no material changes to the risk factors set forth in the above-referenced report. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS. RECENT SALES OF UNREGISTERED SECURITIES None. DIVIDENDS We have not declared or paid any cash dividends on our capital stock in the past, and we do not anticipate declaring or paying cash dividends on our common stock in the foreseeable future. In addition, our credit facility with WFBC, described in "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Liquidity and Capital Resources," restricts the payment of dividends without the bank's consent. We will pay dividends on our common stock only if and when declared by our board of directors. Our board of directors' ability to declare a dividend is subject to restrictions imposed by Delaware law. In determining whether to declare dividends, the board of directors will consider these restrictions as well as our financial condition, results of operations, working capital requirements, future prospects and other factors it considers relevant. ITEM 3. DEFAULTS UPON SENIOR SECURITIES. None. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. On February 14, 2007, we held our 2006 annual meeting of stockholders. The total number of outstanding votable shares was 38,081,750. Our stockholders were asked to consider and vote upon the following two proposals: (1) Re-election of Otis W. Baskin as a Class I director to serve a three-year term. (2) Ratification of the selection of Hein & Associates LLP as our independent registered public accounting firm to audit our consolidated financial statements for 2006. 18 Results of the vote were as follows: Proposal For Against Withheld -------- --- ------- -------- (1) 34,246,041 -- 210,473 (2) 34,339,915 61,738 54,861 As a result, Mr. Baskin was re-elected to serve as a Class I member of our board of directors. Carmine T. Oliva, Laurence P. Finnegan, Jr. and Richard E. Mahmarian continued to serve on our board of directors following the meeting. The selection of our independent registered public accounting firm to audit our consolidated financial statements for 2006 was ratified. ITEM 5. OTHER INFORMATION. None. ITEM 6. EXHIBITS. NUMBER DESCRIPTION - ------ ----------- 10.1 Executive Employment Agreement effective as of May 16, 2007 between EMRISE Corporation and John Donovan 31.1 Certification of Chief Executive Officer Required by Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 31.2 Certification of Chief Financial Officer Required by Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 32 Certification of Chief Executive Officer and Acting Chief Financial Officer Pursuant to 18 U.S.C. Section 350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 19 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. EMRISE CORPORATION Dated: May 15, 2007 By: /S/ CARMINE T. OLIVA -------------------------------------------- Carmine T. Oliva, Chairman of the Board, Chief Executive Officer (principal executive officer), President, Secretary and Acting Chief Financial Officer (principal financial and accounting officer) 20 EXHIBITS ATTACHED TO THIS REPORT EXHIBIT NUMBER DESCRIPTION - ------ ----------- 10.1 Executive Employment Agreement effective as of May 16, 2007 between EMRISE Corporation and John Donovan 31.1 Certification of Chief Executive Officer Required by Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 31.2 Certification of Chief Financial Officer Required by Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 32 Certification of Chief Executive Officer and Acting Chief Financial Officer Pursuant to 18 U.S.C. Section 350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 21 EX-10.1 2 emrise_10qex10-1.txt EXHIBIT 10.1 EXECUTIVE EMPLOYMENT AGREEMENT ------------------------------ THIS EXECUTIVE EMPLOYMENT AGREEMENT (the "AGREEMENT") dated effective as of May 16, 2007 ("EFFECTIVE Date"), is made and entered into by and between EMRISE CORPORATION, a Delaware corporation ("EMPLOYER"), and JOHN DONOVAN ("EXECUTIVE"). R E C I T A L S --------------- Employer desires that the Executive enter into an employment relationship with Employer in order to provide the necessary leadership and senior management skills that are important to the success of Employer. Employer believes that obtaining the Executive's services as an employee of Employer and the benefits of his business experience are of material importance to Employer and Employer's stockholders. A G R E E M E N T ----------------- NOW, THEREFORE, in consideration of Executive's employment by Employer and the mutual promises and covenants contained herein, the receipt and sufficiency of which is hereby acknowledged, Employer and Executive intend by this Agreement to specify the terms and conditions of Executive's employment relationship with Employer. 1. GENERAL DUTIES OF EMPLOYER AND EXECUTIVE. ----------------------------------------- 1.1 Employer agrees to employ Executive and Executive agrees to accept employment by Employer and to serve Employer in an executive capacity upon the terms and conditions set forth herein. Employer hereby employs Executive as the Vice President Finance and Administration, Secretary and Treasurer as of the Effective Date, reporting to the President and Chief Executive Officer (the "CEO").Executive shall serve as Employer's principal accounting and financial officer. Executive's duties and responsibilities shall be those normally assumed by the principal accounting and financial officer, Vice President Finance and Administration, Secretary and Treasurer of a publicly-owned company similarly situated to Employer, as well as such other or additional duties, as may from time-to-time be assigned to Executive by the CEO, which Employer anticipates will include, among other things, serving as an officer or director of Employer's domestic subsidiaries. Such other or additional duties shall be consistent with the senior executive functions set forth above. 1.2 While employed hereunder, Executive shall use his best efforts to obey the lawful directions of the CEO. Executive shall also use his best efforts to promote the interests of Employer and to maintain and to promote the reputation of Employer. While employed hereunder, Executive shall devote his full business time, efforts, skills and attention to the affairs of Employer and faithfully perform his duties and responsibilities hereunder. 1.3 While this Agreement is in effect, Executive may from time to time engage in any activities that do not compete directly with Employer, provided that such activities do not interfere with his performance of his duties. Executive shall be permitted to (i) invest his personal assets as a passive investor in such form or manner as Executive may choose in his discretion, (ii) participate in various charitable efforts, and (iii) serve as a member of the Board of Directors of other corporations which are not competitors of Employer. 1 2. COMPENSATION AND BENEFITS. -------------------------- 2.1 As compensation for his services to Employer, Employer shall pay to Executive an annual base salary of $223,000 during the first 12-month period that this Agreement is in effect, payable in equal semimonthly payments in accordance with the Employer's regular payroll policy for salaried employees (the "SALARY"). At the end of the first twelve months of employment the Executive shall receive an increase to his annual base salary of 10% from $223,00 to $245,300. In the years thereafter, the Compensation Committee (the "COMPENSATION COMMITTEE") of the Board of Directors of Employer (the "BOARD") shall perform an annual review of the Executive's Salary based on a review of Executive's performance of his duties prepared by Employer's President and Chief Executive Officer and Employer's other compensation policies. The Compensation Committee may, at its sole discretion, increase (but not decrease) the Salary at any time, and from time to time, after the first 12-month period that this Agreement is in effect. 2.2 Executive shall be eligible for Additional Cash Compensation in the total amount of up to $20,000 during the first year of his employment. If earned, the Additional Cash Compensation would be payable in 6-month increments of $10,000. The Additional Cash Compensation shall be earned and awarded based solely upon the CEO's determination, in his absolute discretion, whether Executive met mutually agreed upon objectives for each 6-month period. 2.3 Executive shall be eligible for an Incentive Bonus, payable no later than the date Employer's Form 10-K for the previous fiscal year is filed with the Securities and Exchange Commission, based on criteria determined by the Compensation Committee, at its sole discretion; provided, however, that Executive shall not be eligible for an Incentive Bonus for fiscal years 2007 and 2008. Executive be eligible for a partial bonus in 2008 based solely upon the CEO's determination in his absolute discretion. 2.4 Upon Executive's furnishing to Employer customary and reasonable documentary support (such as receipts or paid bills) evidencing costs and expenses incurred by him in the performance of his services and duties hereunder (including, without limitation, travel and entertainment and cellular telephone expenses) and containing sufficient information to establish the amount, date, place and essential character of the expenditure, Executive shall be reimbursed for such costs and expenses in accordance with Employer's normal expense reimbursement policy. 2.5 In recognition of Executive's intention to, and Employer's desire that Executive will, participate in 40 hours each year of continuing professional education and certification requirements as a Certified Public Accountant, Employer shall reimburse Executive for up to $5,000 per year for reasonable and properly documented expenses incurred by Executive for such continuing professional education. 2 2.6 Executive shall be entitled to participate in the medical (including hospitalization) and dental to the extent offered by Employer, and in amounts consistent with the Employer's policy, for other senior executive officers of Employer, with premiums for all such insurance for Executive and his dependents to be paid by Employer. In lieu of participating in Employer's life and long term disability insurance plans, Executive shall be entitled to payment of $1,100 per year to be used by Executive to maintain Executive's exiting life and long term disability insurance plans. 2.7 Executive shall have the right to participate in any additional compensation, benefit, pension, stock option, 401(k) or other plan or arrangement of Employer now or hereafter existing for the benefit of other senior executive officers of Employer. 2.8 Executive shall be entitled to vacation (but in no event less than three weeks per year), holiday and other paid or unpaid leaves of absence consistent with Employer's normal policies for other senior executive officers of Employer or as otherwise approved by the Board. 2.9 During Executive's active employment with Employer, Executive shall be provided a monthly car allowance in the amount of $600.00. 2.10 Subject to the approval of the Compensation Committee, which Employer has obtained, Employer will grant Executive a nonqualified stock option to purchase up to 50,000 shares of Employer's common stock (the "Option") under Employer's Amended and Restated 2000 Stock Option Plan (the "Plan"). Employer may impose such terms and conditions with respect to such Option as it considers necessary or advisable; provided that such Option will be granted 50% on the Effective Date and the remaining 50% on July 2, 2007, so that the Option shall be fully granted by July 2, 2007. The Option shall be granted only if Executive is actively employed with Employer on each such grant date. Each 50% portion of the Option shall not vest until twelve months after the date such portion of the Option was granted. The exercise price of each portion of the Option shall be equal to the closing market price of Employer's common stock on the date such portion of the Option is granted. The Option shall be governed by and be subject to the terms of the Plan and any applicable option grant agreement. 2.11 Employer shall maintain insurance to insure its executive officers and directors, including Executive, against claims arising out of an alleged wrongful act by those officers and directors, including Executive, while acting as a director or officer of Employer. Employer shall further indemnify Executive to the fullest extent permitted by law against any loss or liability incurred by Executive as a result of his service as an officer or employee of Employer, except to the extent any such loss or liability is the result of Executive's gross negligence or willful misconduct. 3. PRESERVATION OF BUSINESS; FIDUCIARY RESPONSIBILITY. --------------------------------------------------- Executive shall use his best efforts to preserve the business and organization of Employer and to preserve the business relations of Employer. So long as Executive is employed by Employer, Executive shall observe and fulfill proper standards of fiduciary responsibility attendant upon his service and office. 3 4. TERM. ----- The term of this Agreement shall commence on the Effective Date and shall end on the second anniversary of the Effective Date, subject to earlier termination as set forth in SECTION 5; PROVIDED, HOWEVER, that this Agreement shall automatically renew for successive one (1) year periods unless, at least ninety (90) days prior to the expiration of the initial term or any renewal term, either party gives written notice to the other of his or its intention not to renew. 5. TERMINATION OTHER THAN BY EXPIRATION OF THE TERM. ------------------------------------------------- Employer or Executive may terminate Executive's employment under this Agreement at any time, but only on the following terms: 5.1 Employer may terminate Executive's employment under this Agreement at any time for "Due Cause" (as defined in APPENDIX I attached hereto and incorporated herein by this reference) upon the good faith determination by the Board that Due Cause exists for the termination of the employment relationship. 5.2 If Executive is incapacitated by accident, sickness or otherwise so as to render Executive mentally or physically incapable of performing the services required under SECTION 1 of this Agreement for a period of 180 consecutive days, and the incapacity is confirmed by the written opinion of two practicing medical doctors licensed by and in good standing in the State of California (one selected by Employer and one by Executive), upon the expiration of that period or at any time reasonably thereafter, Employer may terminate Executive's employment under this Agreement upon giving Executive or his legal representative written notice at least 30 days prior to the termination date, subject to the provisions of SECTION 6.2. Executive agrees, after written notice by the Board, to submit to examinations by the practicing medical doctors. If the medical doctors do not agree as to whether Executive is disabled, they shall promptly select a mutually acceptable third practicing medical doctor to further evaluate Executive, whose conclusion shall be rendered, in writing, within ten days of his or her selection. The conclusion of the third practicing medical doctor shall be final and binding on Employer and Executive. 5.3 This Agreement shall terminate immediately upon Executive's death, subject to the provisions of SECTION 6.2. 5.4 Subject to the provisions of SECTION 6.3, Employer may terminate Executive's employment under this Agreement at any time for any reason whatsoever, even without Due Cause, by giving a written notice of termination to Executive, in which case the employment relationship shall terminate immediately upon the giving of the notice. If Employer terminates the employment of Executive other than (i) pursuant to SECTION 5.1 for Due Cause, (ii) due to incapacity pursuant to SECTION 5.2 or due to Executive's death pursuant to SECTION 5.3, or (iii) Executive's retirement, then the action by Employer, unless consented to in writing by Executive, shall be deemed to be a constructive termination by Employer of Executive's employment (a "CONSTRUCTIVE TERMINATION"), and, in that event, Executive shall be entitled to receive the compensation set forth in SECTION 6.3. 5.5 Executive may terminate this Agreement at any time for "Good Reason" (as defined in APPENDIX I attached hereto and incorporated herein by this reference) within 30 days after Executive learns of the event or condition constituting "Good Reason" and, in that event, shall be entitled to receive the compensation set forth in SECTION 6.3. 4 6. EFFECT OF TERMINATION. ---------------------- 6.1 If the employment relationship is terminated (a) by Employer for Due Cause pursuant to SECTION 5.1 or (b) by Executive breaching this Agreement by refusing to continue his employment, or (c) by Executive without Good Reason, then all compensation and benefits shall cease as of the date of termination, other than: (i) those benefits that are provided by retirement and benefit plans and programs specifically adopted and approved by Employer for Executive that are earned and vested by the date of termination; (ii) Executive's pro rata annual Salary (as in effect as of the date of termination, payable in the manner as prescribed in the first sentence of SECTION 2.1) through the date of termination; (iii) any stock options which have vested as of the date of termination pursuant to the terms of the agreement granting the options; and (iv) accrued vacation as required by California law. 6.2 If Executive's employment relationship is terminated due to Executive's incapacity pursuant to SECTION 5.2 or due to Executive's death pursuant to SECTION 5.3, Executive or Executive's estate or legal representative, will be entitled to (i) those benefits that are provided by retirement and benefits plans and programs specifically adopted and approved by Employer for Executive that are earned and vested at the date of termination, (ii) a prorated Incentive Bonus (to the extent Executive would otherwise be eligible) for the fiscal year in which incapacity or death occurs, and (iii) continue to receive the annual Salary compensation as set forth in Section 6.3(b) below, offset, however, by any payments received by Executive as a result of any disability insurance maintained by Employer for Executive's benefit. 6.3 In the event of a termination of this Agreement as a result of Constructive Termination, or by Executive for Good Reason, then Employer shall: (a) pay to Executive on the date of termination his Salary in effect as of the date of termination through the end of the month during which the termination occurs plus credit for any vacation earned but not taken; (b) continue Executive's Salary, payable in accordance with Employer's normal payroll practices, as follows: for three months if the termination is within the first six months after the Effective Date; for six months if the termination is within the second six-month period after the Effective Date; for twelve months if the termination is any time after the first anniversary of the Effective Date; (c) pay to Executive the prorated Incentive Bonus, to the extent Executive would otherwise be eligible for any, for the fiscal year during which termination occurs, payable if and when the Compensation Committee determines to award such bonuses to other executives, as provided in Section 2.3; and (d) maintain, at Employer's expense, in full force and effect, for Executive's continued benefit, all medical and life insurance to which Executive and his dependents were entitled immediately prior to the date of termination (or at the election of Executive in the event of a Change in Control, immediately prior to the date of the Change in Control) until the earliest of (i) 18 months or (ii) the date or dates that Executive's continued participation in Employer's medical and/or 5 life insurance plans, as applicable, is not possible under the terms of the plans (the earliest of (i) and (ii) is referred to herein as the "BENEFITS DATE"). If Employer's medical and/or life insurance plans do not allow Executive's continued participation in the plan or plans, then Employer will pay to Executive, in monthly installments, from the date on which Executive's participation in the medical and/or life insurance, as applicable, is prohibited until the date that is 18 months after the date of termination, the monthly premium or premiums which had been payable by Employer with respect to Executive for the discontinued medical and/or life insurance, as applicable. (e) Executive shall be entitled to the continued Salary payments, pro-rated Incentive Bonus and benefits described in subsections 6.3(b), (c) and (d) only if Executive signs an appropriate separation agreement in a form acceptable to Employer, which includes a release of all claims against Employer to the fullest extent permitted by law, and Executive complies fully with any continuing obligations under this Agreement. 6.4 Executive shall not be required to mitigate damages or the amount of any payment provided for under this Agreement by seeking other employment or otherwise, nor shall the amount of any payment provided for under this Agreement be reduced by any compensation earned by Executive as the result of employment by another Employer after the date of termination, or otherwise. 6.5 Except as expressly provided herein, the provisions of this Agreement, and any payment or benefit provided for hereunder, shall not reduce any amounts otherwise payable, or in any way diminish Executive's existing rights, or rights which would accrue solely as a result of the passage of time, under any Employer benefit plan, employment agreement or other contract, plan or arrangement. 6.6 The amount of any payment provided under this Agreement shall not be reduced by reason of any present value calculation. 6.7 Upon termination of this Agreement, compensation and benefits shall be paid to the Executive as set forth in the applicable subsection of this SECTION 6 and stock options granted to Executive, if any, shall be governed by the provisions of all stock option agreements between Employer and Executive. In the event of a termination of this Agreement by Executive for Good Reason, all other rights and benefits Executive may have under the employee and/or executive benefit plans and arrangements of Employer generally shall be determined in accordance with the terms and conditions of those plans and arrangements. 7. COVENANTS OF CONFIDENTIALITY, NONDISCLOSURE AND NONCOMPETITION. --------------------------------------------------------------- 7.1 During the term of this Agreement, Employer will provide to Executive certain confidential and proprietary information owned by Employer as more fully described below. Executive acknowledges that he occupies or will occupy a position of trust and confidence with Employer, and that Employer would be irreparably damaged if Executive were to breach the covenants set forth in this SECTION 7.1. Accordingly, Executive agrees that he will not, without the prior written consent of Employer, at any time during the term of this Agreement or any time thereafter, except as may be required by competent legal authority 6 or as required by Employer to be disclosed in the course of performing Executive's duties under this Agreement for Employer, use or disclose to any person, firm or other legal entity, any confidential records, secrets or information obtained by Executive during his employment hereunder related to Employer or any parent, subsidiary or affiliated person or entity (collectively, "CONFIDENTIAL INFORMATION"). Confidential Information shall include, without limitation, information about Employer's Inventions (as defined in SECTION 8.1), customer lists and product pricing, data, know-how, formulae, processes, ideas, past, current and planned product development, market studies, computer software and programs, database and network technologies, strategic planning and risk management. Executive acknowledges and agrees that all Confidential Information of Employer and/or its affiliates will be received in confidence and as a fiduciary of Employer. Executive will exercise utmost diligence to protect and guard the Confidential Information. 7.2 Executive agrees that he will not, without the express written consent of the Board, take with him upon the termination of this Agreement, any document or paper, or any photocopy or reproduction or duplication thereof, relating to any Confidential Information. 7.3 Executive agrees that he will, upon the termination of his employment, return all Employer's property including but not limited to mobile telephone, fuel card, personal computer, all documents, working papers, information whether stored on computer disc or otherwise, and all other records relating to Employer and its business. Executive agrees that he will confirm in writing that he has complied with this clause, if requested to do so by Employer, within seven (7) days of receipt of such a request. 7.4 Executive agrees that, while Executive is employed with Employer, he will not, either directly or indirectly, have an interest in any business (whether as manager, operator, licensor, licensee, partner, 5% or greater equity holder, employee, consultant, director, advisor or otherwise) competitive with Employer or any of its business activities or solicit individuals or other entities that are customers or competitors of Employer. Executive further agrees that, for a period of 24 months after the date of termination of this Agreement (the "RESTRICTED PERIOD"), Executive shall not use Employer's trade secrets, either directly or indirectly, to compete in any way with the business of Employer or to solicit individuals or other entities that are customers or competitors of Employer during the six-month period immediately prior to the date of termination of this Agreement, to terminate or change their contracts or business relations with Employer. Executive also agrees that, for the Restricted Period, he will not, either directly or indirectly, solicit any employee of Employer to terminate his employment with Employer. 7.5 For purposes of this SECTION 7, "EMPLOYER" shall include any of its subsidiaries or any other entity in which it holds a 50% or greater equity interest. 8. INVENTIONS. ----------- 8.1 Any and all inventions, product, discoveries, improvements, processes, formulae, manufacturing methods or techniques, designs or styles, software applications or programs (collectively, "INVENTIONS") made, developed or created by Executive, alone or in conjunction with others, during regular hours of work or otherwise, during the term of Executive's employment with Employer and for a period of two years thereafter that may be directly or 7 indirectly related to the business of, or tests being carried out by, Employer, or any of its subsidiaries, shall be promptly disclosed by Executive to Employer and shall be Employer's exclusive property. The following provisions of the California Labor Code shall supplement this SECTION 8.1: SECTION 2870 OF THE CALIFORNIA LABOR CODE APPLICATION OF PROVISIONS PROVIDING THAT EMPLOYEE SHALL ASSIGN OR ----------------------------------------------------------------- OFFER TO ASSIGN RIGHTS IN INVENTION TO EMPLOYER. ------------------------------------------------ (a) Any provision in an employment agreement which provides that an employee shall assign, or offer to assign, any of his or her rights in an invention to his or her employer shall not apply to an invention that the employee developed entirely on his or her own time without using employer's equipment, supplies, facilities, or trade secret information except for those inventions that either: (1) Relate at the time of conception or reduction to practice of the invention to employer's business, or actual or demonstrably anticipated research or development of employer; or (2) Result from any work performed by the employee for employer. (b) To the extent a provision in an employment agreement purports to require an employee to assign an invention otherwise excluded from being required to be assigned under subdivision (a), the provision is against the public policy of this state and is unenforceable. 8.2 Executive will, upon Employer's request and without additional compensation, execute any documents necessary or advisable in the opinion of Employer's legal counsel to direct the issuance of patents to Employer with respect to Inventions that are to be Employer's exclusive property under this SECTION 8 or to vest in Employer title to the Inventions; the expense of securing any patent, however, shall be borne by Employer. 8.3 Executive will hold for Employer's sole benefit any Invention that is to be Employer's exclusive property under this SECTION 8 for which no patent is issued. 9. NO VIOLATION. ------------- Executive represents that he is not bound by any Agreement with any former employer or other party that would be violated by Executive's employment by Employer. 8 10. INJUNCTIVE RELIEF. ------------------ Executive acknowledges that the breach, or threatened breach, by Executive of the provisions of this Agreement shall cause irreparable harm to Employer, which harm cannot be fully redressed by the payment of damages to Employer. Accordingly, Employer shall be entitled, in addition to any other right or remedy it may have at law or in equity, to seek an injunction or restraining Executive from any violation or threatened violation of this Agreement. 11. DISPUTE RESOLUTION. ------------------- Subject to SECTION 10, all claims, disputes and other matters in controversy ("DISPUTE") arising, directly or indirectly out of or related to this Agreement, or the breach thereof, whether contractual or noncontractual, and whether during the term or after the termination of this Agreement, shall be resolved exclusively according to the procedures set forth in this SECTION 11, and not through resort to any judicial proceedings. 11.1 Neither party shall commence an arbitration proceeding pursuant to the provisions of SECTION 11.2 unless that party first gives a written notice (a "DISPUTE NOTICE") to the other party setting forth the nature of the dispute. The parties shall attempt in good faith to resolve the dispute by mediation under the American Arbitration Association Commercial Mediation Rules in effect on the date of the Dispute Notice. If the parties cannot agree on the selection of a mediator within 20 days after delivery of the Dispute Notice, the mediator will be selected by the American Arbitration Association. If the dispute has not been resolved by mediation within 60 days after delivery of the Dispute Notice, then the dispute shall be determined by arbitration in accordance with the provisions below. 11.2 Any dispute that is not settled by mediation as provided in SECTION 11.1 shall be resolved by arbitration in Riverside County, California, before a single arbitrator appointed by the American Arbitration Association or its successor. The determination of the arbitrator shall be final and absolute. The arbitrator shall be governed by the duly promulgated rules and regulations of the American Arbitration Association or its successor then in effect, and the pertinent provisions of the laws of the State of California relating to arbitration. The decision of the arbitrator may be entered as a final judgment in any court of the State of California or elsewhere. The prevailing party in any such arbitration shall also be entitled to recover reasonable attorneys', accountants' and experts' fees and costs of suit in addition to any other relief awarded the prevailing party. 12. MISCELLANEOUS. - --- -------------- 12.1 If any provisions contained in this Agreement is for any reason held to be totally invalid or unenforceable, such provision will be fully severable, and in lieu of such invalid or unenforceable provision there will be added automatically as part of this Agreement a provision as similar in terms as may be valid and enforceable. 12.2 All notices and other communications required or permitted hereunder or necessary or convenience in connection herewith shall be in writing and shall be deemed to have been given when mailed by registered mail or certified mail, return receipt requested or hand delivered, as follows (provided that notice of change of address shall be deemed given only when received): 9 If to Employer: EMRISE Corporation 9485 Haven Avenue Rancho Cucamonga, CA 91730 Attention: Chief Executive Officer If to Executive: John Donovan 2671 Swift Court La Verne, CA 91750 or to such other names or addresses as Employer or Executive, as the case may be, shall designate by notice to the other party hereto in the manner specified in this SECTION 12.2. 12.3 This Agreement shall be binding upon and inure to the benefit of Employer, its successors, legal representatives and assigns, and Executive, his heirs, executors, administrators, representatives, legatees and permitted assigns. Executive agrees that his rights and obligations hereunder are personal to him and may not be assigned without the express written consent of Employer. If Executive should die while any amounts are due to him pursuant to this Agreement, all such amounts shall be paid to Executive's devisee, legatee or other designee, or if there be no such designee, to Executive's estate. Employer will require any successor or assign (whether direct or indirect, by purchase, merger, consolidation or otherwise) to all or substantially all of the business and/or assets of Employer, by Agreement in form and substance satisfactory to Executive and his legal counsel, expressly, absolutely and unconditionally to assume and agree to perform this Agreement in the same manner and to the same extent that Employer would be required to perform each of them if no such succession or assignment had taken place. Any failure of Employer to obtain such Agreement prior to the effectiveness of any such succession or assignment shall be a material breach of this Agreement and shall entitle Executive to terminate Executive's employment for Good Reason. As used in this Agreement, "EMPLOYER" means EMRISE Corporation and any successor or assign to its business and/or assets which executes and delivers the Agreement provided for in this Section or which otherwise becomes bound by all the terms and provisions of this Agreement by operation of law. If at any time during the term of this Agreement Executive is employed by any company a majority of the voting securities of which is then owned by Employer, "EMPLOYER" as used in this Agreement shall in addition include that subsidiary company. In that event, Employer agrees that it shall pay or shall cause the subsidiary company to pay any amounts owed to Executive pursuant to this Agreement. 12.4 This Agreement replaces and merges all previous agreements and discussions relating to the same or similar subject matters between Executive and Employer with respect to the subject matter of this Agreement. This Agreement may not be modified in any respect by any verbal statement, representation or agreement made by any employee, officer, or representative of Employer or by any written agreement unless signed by an officer of Employer who is expressly authorized by Employer to execute that document. 10 12.5 The laws of the State of California will govern the interpretation, validity and effect of this Agreement without regard to principles of conflicts of law, the place of execution or the place for performance thereof. 12.6 Executive and Employer shall execute and deliver any and all additional instruments and agreements that may be necessary or proper to carry out the purposes of this Agreement. 12.7 The descriptive headings of the several sections of this Agreement are inserted for convenience only and do not constitute a party of this Agreement. 12.8 This Agreement may be executed in one or more counterparts, all of which shall be considered one and the same Agreement. 12.9 Executive acknowledges that Executive has had the opportunity to read this Agreement and discuss it with advisors and legal counsel, if Executive has so chosen. Executive also acknowledges the importance of this Agreement and that Employer is relying on this Agreement in entering into an employment relationship with Executive. 11 The undersigned, intending to be legally bound, have executed this Agreement on the date first written above. EMRISE CORPORATION Date: March 21, 2007 By: /S/ CARMINE T. OLIVA ---------------------------------------- Carmine T. Oliva, President and Chief Executive Officer Date: March 23, 2007 /S/ JOHN DONOVAN ---------------------------------------- John Donovan 12 APPENDIX I ADDITIONAL DEFINITIONS ---------------------- For purposes of this Agreement, the following additional capitalized terms shall have the respective definitions set forth below: BENEFIT PLAN. The term "BENEFIT PLAN" means any benefit plan or arrangement (including, without limitation, Employer's profit sharing or stock option plans, if any, and medical, disability and life insurance plans) in which Executive is participating (or any other plans providing Executive with substantially similar benefits). CHANGE IN CONTROL. A "CHANGE IN CONTROL" of Employer shall be deemed to have occurred if (A) there shall be consummated any consolidation or merger of Employer in which Employer is not the continuing or surviving corporation or pursuant to which all or substantially all of the shares of Employer's common stock would be converted into cash, securities or other property, other than a merger of Employer in which the holders of Employer's common stock immediately prior to the merger have the same proportionate ownership of common stock of the surviving corporation immediately after the merger; (B) there shall be consummated any sale, lease, exchange or other transfer (in one transaction or a series of related transactions) of all, or substantially all, of the assets of Employer; (C) the stockholders of Employer approve any plan or proposal for the liquidation or dissolution of Employer; (D) any "person" (as such term is used in Sections 13(d) and 14(d) (2) of the Securities Exchange Act of 1934, as amended (the "EXCHANGE ACT")), other than "persons" who are stockholders of Employer on the date of this Agreement, becomes the beneficial owner (within the meaning of Rule 13d-3 under the Exchange Act) of 50% or more of Employer's outstanding common stock after the date hereof; (E) during any period of two consecutive years, individuals who at the beginning of such period constitute the entire Board shall cease for any reason to constitute a majority thereof unless the election, or the nomination for election by Employer's stockholders, of each new director was approved by a vote of at least two-thirds of the directors then still in office who were directors at the beginning of the period; or (F) there shall be any change of control of a nature required to be reported in response to Item 6 (e) of Schedule 14A of Regulation 14A promulgated under the Exchange Act or any successor regulation of substantially similar import, regardless of whether Employer is subject to such reporting requirement. [DEFINITIONS CONTINUED ON NEXT PAGE] I-1 DUE CAUSE. The term "DUE CAUSE" means any of the following events: (a) any intentional misapplication by Executive of Employer's funds or other material assets, or any other act of dishonesty injurious to Employer committed by Executive; or (b) Executive's conviction of (i) a felony or (ii) a crime involving moral turpitude; or (c) Executive's use or possession of any controlled substance or chronic abuse of alcoholic beverages, which use or possession the Board reasonably determines renders Executive unfit to serve in his capacity as a senior executive of Employer; or (d) Executive's breach, nonperformance or nonobservance of any of the terms of this Agreement, including but not limited to Executive's failure to adequately perform his duties or comply with the reasonable directions of the Board. Notwithstanding anything in the foregoing subsections (c) or (d) to the contrary, Employer shall not terminate Executive under subsections (c) or (d) unless the Board first provides Executive with a written memorandum describing in detail how his performance hereunder is not satisfactory and Executive is given a reasonable period of time (not less than 30 days) to remedy the unsatisfactory performance related by the Board to Executive in that memorandum. A determination of whether Executive has satisfactorily remedied the unsatisfactory performance shall be promptly made by a majority of the disinterested directors of the Board at the end of the period provided to Executive for remedy and their determination shall be final. [DEFINITIONS CONTINUED ON NEXT PAGE] I-2 GOOD REASON. The term "GOOD REASON" as used in this Agreement shall mean any of the following which occur without Executive's written consent: (a) a purported reduction by Employer in Executive's base salary to an amount less than the greater of (i) the base salary as in effect on the date hereof or (ii) 10% below the base salary in effect at the time of the purported reduction; (b) a requirement by Employer that Executive perform his duties at a location beyond a reasonable commuting distance from the existing Corporation Office; (c) any failure by Employer to obtain the assumption of this Agreement by any successor or assign of Employer; (d) a failure by Employer to comply with any material provision of this Agreement which has not been cured within 30 days after written notice of noncompliance has been given by Executive to Employer, or if the failure is not capable of being cured in that time, a cure shall not have been diligently initiated by Employer within the 30 day period; (e) If Employer avails itself of, or is subjected by any third party to, a proceeding in bankruptcy in which Employer is the named debtor, an assignment by Employer for the benefit of its creditors, the appointment of a receiver for Employer, or any other proceeding involving insolvency or the protection of or from creditors and the proceeding has not been discharged or terminated within 90 days; PROVIDED, HOWEVER, that any of the foregoing actions shall not be considered to be Good Reason if the action is undertaken by Employer as a termination for Due Cause. Notwithstanding anything in the foregoing subsections (a), (b), or (c) to the contrary, Executive shall not have Good Reason unless Executive notifies Employer's CEO in writing, within 30 days of the occurrence of the Good Reason, that Executive intends to terminate his employment for such Good Reason, specifying the Good Reason, and Employer fails to remedy the specified Good Reason within a reasonable period of time (not less than 30 days) after receipt of such notice. I-3 EX-31.1 3 emrise_10qex31-1.txt EXHIBIT 31.1 CERTIFICATION OF CHIEF EXECUTIVE OFFICER REQUIRED BY RULE 13A-14(a) OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED, AS ADOPTED PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 I, Carmine T. Oliva, certify that: 1. I have reviewed this Form 10-Q of EMRISE Corporation; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) [language omitted pursuant to SEC Release 34-47986] for the registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) [Omitted pursuant to SEC Release 34-47986]; (c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: May 15, 2007 /s/ CARMINE T. OLIVA - -------------------- Carmine T. Oliva Chief Executive Officer (principal executive officer) EX-31.2 4 emrise_10qex31-2.txt EXHIBIT 31.2 CERTIFICATION OF ACTING CHIEF FINANCIAL OFFICER REQUIRED BY RULE 13A-14(a) OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED, AS ADOPTED PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 I, Carmine T. Oliva, certify that: 1. I have reviewed this Form 10-Q of EMRISE Corporation; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) [language omitted pursuant to SEC Release 34-47986] for the registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) [Omitted pursuant to SEC Release 34-47986]; (c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: May 15, 2007 /s/ CARMINE T. OLIVA - -------------------- Carmine T. Oliva Acting Chief Financial Officer (principal financial officer) EX-32 5 emrise_10qex-32.txt EXHIBIT 32 CERTIFICATION OF CHIEF EXECUTIVE OFFICER AND ACTING CHIEF FINANCIAL OFFICER PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the quarterly report on Form 10-Q of EMRISE Corporation (the "Company") for the period ended March 31, 2007 (the "Report"), the undersigned hereby certify in their capacities as Chief Executive Officer and Chief Financial Officer of the Company, respectively, pursuant to 18 U.S.C. section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: 1. the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and 2. the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Dated: May 15, 2007 By: /s/ CARMINE T. OLIVA --------------------------------- Carmine T. Oliva Chief Executive Officer (principal executive officer) Dated: May 15, 2007 By: /s/ CARMINE T. OLIVA --------------------------------- Carmine T. Oliva Acting Chief Financial Officer (principal financial officer) A SIGNED ORIGINAL OF THIS WRITTEN STATEMENT REQUIRED BY SECTION 906, OR OTHER DOCUMENT AUTHENTICATING, ACKNOWLEDGING, OR OTHERWISE ADOPTING THE SIGNATURES THAT APPEAR IN TYPED FORM WITHIN THE ELECTRONIC VERSION OF THIS WRITTEN STATEMENT REQUIRED BY SECTION 906, HAS BEEN PROVIDED TO THE COMPANY AND WILL BE RETAINED BY THE COMPANY AND FURNISHED TO THE SECURITIES AND EXCHANGE COMMISSION OR ITS STAFF UPON REQUEST. -----END PRIVACY-ENHANCED MESSAGE-----