10-Q 1 dhb10q.txt FORM 10-Q - 09/30/04 ================================================================================ U.S. SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 _________________________ FORM 10-Q QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTER ENDED September 30, 2004 Commission File No. 0-22429 DHB INDUSTRIES, INC. (Exact name of Registrant as specified in its charter) DELAWARE 11-3129361 (State or other jurisdiction (I.R.S. Employer of incorporation) Identification No.) 400 POST AVENUE, SUITE 303, WESTBURY, NY 11590 (Address of principal executive offices) Registrant's telephone number: (516) 997-1155 Former name, former address and former fiscal year, if changed since last report: Not applicable Indicate by check mark whether the registrant (1) filed all reports required to be filed by section 13 or 15(d) of the Exchange Act during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [ X ] No [ ] Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act.) Yes [ X ] No [ ] As of November 3, 2004, there were 40,922,416 shares of Common Stock, $.001 par value, outstanding. ================================================================================ INDEX PAGE PART I. FINANCIAL INFORMATION Item 1. Financial Statements Condensed Consolidated Balance Sheets as of September 30, 2004 (Unaudited) and December 31, 2003 3 Unaudited Condensed Consolidated Statements of Operations for the Three Months and Nine Months Ended September 30, 2004 and 2003 4 Unaudited Condensed Consolidated Statements of Cash Flows For The Nine Months Ended September 30, 2004 and 2003 5 Notes to Unaudited Condensed Consolidated Financial Statements 6-12 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 12-17 Item 3. Quantitative and Qualitative Disclosures about Market Risk 17 Item 4. Controls and Procedures 17-19 PART II. OTHER INFORMATION Item 1. Legal Proceedings 19-20 Item 2. Changes in Securities and Use of Proceeds 20 Item 3. Defaults Upon Senior Securities 20 Item 4. Submission of Matters to a Vote of Security Holders 20 Item 5. Other Information 20 Item 6. Exhibits and Reports on Form 8-K 20-21 Signatures 21 2 PART 1. FINANCIAL STATEMENTS (UNAUDITED)
DHB INDUSTRIES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS AS OF SEPTEMBER 30, 2004 (UNAUDITED) AND DECEMBER 31, 2003 (In thousands, except share and per share data) September 30, December 31, 2004 2003 ________ ____________ ASSETS Current assets Cash and cash equivalents $ 87 $ 441 Accounts receivable, less allowance for doubtful accounts of $901 and $852, respectively 53,622 33,707 Inventories 81,970 54,753 Deferred income tax assets 632 372 Prepaid expenses and other current assets 1,498 1,518 ________ ________ Total current assets 137,809 90,791 ________ ________ Property and equipment, net 2,846 1,819 ________ ________ Other assets Deferred income tax assets 302 437 Deposits and other assets 382 381 ________ ________ Total other assets 684 818 ________ ________ Total assets $141,339 $ 93,428 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities Current maturities of term loan payable $ 4,000 $ 2,000 Accounts payable (includes 3,179 owed to a related party at September 30, 2004) 14,600 9,465 Accrued expenses and other current liabilities 9,216 5,635 Income taxes payable 11,042 6,869 ________ ________ Total current liabilities 38,858 23,969 Long-term liabilities Notes payable-bank 24,890 22,012 Term loan payable 7,500 Other liabilities 933 502 ________ ________ Total liabilities 72,181 46,483 ________ ________ Commitments and contingencies Minority interest in consolidated subsidiary 363 207 ________ ________ Stockholders' equity Convertible preferred stock, $0.001 par value, 5,000,000 shares 1 1 authorized, 500,000 shares of Series A, 12% convertible preferred stock issued and outstanding; liquidation preference $3,000 Common stock, $0.001 par value, 100,000,000 shares 41 41 authorized, 40,922,416 and 40,742,136 issued Additional paid in capital 35,544 35,384 Accumulated other comprehensive loss (53) (53) Retained earnings 33,262 11,365 ________ ________ Total stockholders' equity 68,795 46,738 ________ ________ Total liabilities and stockholders' equity $141,339 $ 93,428 ======== ======== (See Notes to Condensed Consolidated Financial Statements)
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DHB INDUSTRIES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) (In thousands, except share and per share data) For the Three Months For the Nine Months Ended September 30, Ended September 30, ___________________________ ___________________________ 2004 2003 2004 2003 ___________ ___________ ___________ ___________ Net sales $ 89,410 $ 54,417 $ 249,879 $ 157,095 Cost of goods sold (includes related party purchases of $6,290, $6,802, $14,509, and $20,856, respectively) 64,537 39,599 180,361 113,785 ___________ ___________ ___________ ___________ Gross profit 24,873 14,818 69,518 43,310 Selling, general and administrative expenses 11,591 9,055 32,353 22,621 ___________ ___________ ___________ ___________ Income before other income (expense) 13,282 5,763 37,165 20,689 ___________ ___________ ___________ ___________ Other income (expense) Interest expense (389) (306) (1,047) (977) Proceeds from settlement of lawsuit -- -- -- 739 Other income 41 24 55 48 ___________ ___________ ___________ ___________ Total other income (expense) (348) (282) (992) (190) ___________ ___________ ___________ ___________ Income before income taxes and minority interest 12,934 5,481 36,173 20,499 Income taxes 4,728 2,231 13,850 8,179 ___________ ___________ ___________ ___________ Income before minority interest of subsidiary 8,206 3,250 22,323 12,320 Minority interest of subsidiary (58) -- (156) -- ___________ ___________ ___________ ___________ Net income 8,148 3,250 22,167 12,320 Dividend - preferred stock (90) (90) (270) (270) ___________ ___________ ___________ ___________ Income available to common stockholders $ 8,058 $ 3,160 $ 21,897 $ 12,050 =========== =========== =========== =========== Earnings per common share: Basic shares $ 0.20 $ 0.08 $ 0.54 $ 0.30 =========== =========== =========== =========== Diluted shares $ 0.18 $ 0.07 $ 0.49 $ 0.28 =========== =========== =========== =========== Weighted average shares outstanding: Basic shares 40,891,896 40,594,746 40,814,675 40,490,062 Effect of convertible preferred 500,000 500,000 500,000 500,000 Warrants 4,570,213 3,416,044 4,299,798 3,063,268 ___________ ___________ ___________ ___________ Diluted shares 45,962,109 44,510,790 45,614,473 44,053,330 =========== =========== =========== =========== (See Notes to Condensed Consolidated Financial Statements)
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DHB INDUSTRIES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (In thousands, except share and per share data) For the Nine Months Ended September 30, _________________________ 2004 2003 ________ ________ CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 22,167 $ 12,320 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Depreciation and amortization 708 432 Amortization of deferred financing costs 113 98 Provision for doubtful accounts 49 (6) Stock issued for services 56 Minority interest of subsidiary 156 -- Deferred income tax (benefit) expense (125) 3,938 Changes in operating assets and liabilities Accounts receivable (19,964) (3,582) Inventories (27,217) (16,573) Prepaid expenses and other current assets 20 (1,858) Deposits and other assets (31) (53) Accounts payable 5,135 240 Income taxes payable 5,407 -- Accrued expenses and other current liabilities 2,347 5,939 Other liabilities 431 89 ________ ________ Net cash provided by (used in) operating activities (10,804) 1,040 ________ ________ CASH FLOWS FROM INVESTING ACTIVITIES Purchases of property and equipment (1,735) (614) ________ ________ Net cash used in investing activities (1,735) (614) ________ ________ CASH FLOWS FROM FINANCING ACTIVITIES Dividends paid on preferred stock (270) (270) Net proceeds of notes payable- bank 878 1,283 Proceeds of term loan payable 12,500 -- Payments on term loan payable (1,000) Payments on note payable - stockholder -- (1,500) Issuance costs of long-term debt (83) -- Principal payments on long-term debt -- (19) Proceeds from the issuance of common stock -- 261 Proceeds upon the exercise of warrants 160 -- ________ ________ Net cash provided by (used in) financing activities 12,185 (245) ________ ________ Effect of foreign currency translation -- (12) ________ ________ Net increase (decrease) in cash and cash equivalents (354) 169 Cash and cash equivalents at beginning of the period 441 393 ________ ________ Cash and cash equivalents at end of the period $ 87 $ 562 ======== ======== (See Notes to Condensed Consolidated Financial Statements)
5 DHB INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except share and per share data) NOTE 1. BASIS OF PRESENTATION The accompanying unaudited condensed consolidated financial statements of DHB Industries, Inc. and subsidiaries (collectively "DHB" or the "Company") as of September 30, 2004 and for the three months and nine months ended September 30, 2004 and 2003 have been prepared in accordance with accounting principles generally accepted in the United States of America ("US GAAP"). The unaudited financial statements include all adjustments, consisting only of normal and recurring adjustments, which, in the opinion of management, were necessary for a fair presentation of financial condition, results of operations and cash flows for such periods presented. However, these results of operations are not necessarily indicative of the results for any other interim period or for the full year. Certain information and footnote disclosures normally included in financial statements prepared in accordance with US GAAP have been omitted in accordance with published rules and regulations of the Securities and Exchange Commission (the "SEC"). These condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Company's Form 10-K/A for the year ended December 31, 2003 filed with the SEC on March 30, 2004. NOTE 2. SUPPLEMENTAL CASH FLOW INFORMATION
For the Nine Months Ended September 30, _________________________ 2004 2003 _______ _______ Cash paid for: Interest $ 1,069 $ 1,000 Taxes 9,866 290 Non-cash financing and investing activities: Revolving credit loan refinanced to long-term debt 12,500 -- Property and equipment acquired under capital lease -- 20 Cashless exercise of a warrant 0 --
NOTE 3. INVENTORIES Inventories are stated at the lower of cost or market using the first-in, first-out (FIFO) method and are summarized as follows: September 30, December 31, 2004 2003 _____________ ____________ Raw materials and supplies $32,850 $21,750 Work in process 21,618 15,430 Finished goods 27,502 17,573 _______ _______ $81,970 $54,753 ======= ======= 6 DHB INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except share and per share data) NOTE 4. LONG-TERM DEBT On March 15, 2004, the Company amended its bank credit agreement (the "Credit Agreement"), which increased the total borrowing limits from $35,000 to $45,000 at that time. Pursuant to the Credit Agreement, the Company may borrow, on a revolving basis, up to $32,500 on 85% of eligible accounts receivable (the "Credit Facility"), and the Company borrowed a term loan in the principal amount of $12,500, amortizing at the rate of $1,000 per quarter commencing July 2004. This amended Credit Agreement will expire on October 1, 2007. On July 1, 2004, the Company again amended the Credit Agreement, to increase the revolving credit borrowing limit to $37,500 for the month of July 2004; and in August 2004, the borrowing limit returned to $32,500. Borrowings under the Credit Agreement bear interest, at the Company's option, at the bank's prime rate (4.75% at September 30, 2004) or LIBOR (1.7875% at September 30, 2004) plus 1.75% per annum on the Credit Facility and at the bank's prime rate or LIBOR plus 2.25% on the term loan. For 2003, the borrowings bore interest at the bank's prime rate or LIBOR plus 1.75% (3.145% at December 31, 2003). The borrowings under the Credit Agreement are collateralized by a first security interest in substantially all of the assets of the Company. NOTE 5. STOCK BASED COMPENSATION Warrants During the nine months ended September 30, 2004, the six members of the Company's Board of Directors were issued 50,000 warrants each, exercisable at $5.88 per share for five years. During the nine months ended September 30, 2004, employees exercised warrants to purchase 80,000 shares of the Company's unregistered common stock at an average price of $2.00 per share, and an outside consulting firm exercised a warrant to purchase 100,280 shares on a cashless exercise basis at an implied market price of $16.05 per share. During the nine months ended September 30, 2003, the five members of the Board of Directors were each awarded 50,000 warrants exercisable at $1.41 per share for five years, and the Board of Directors awarded key employees 45,000 warrants exercisable at $2.01 per share expiring in February 2008. During the nine months ended September 30, 2003, the Company also issued 15,000 shares of its restricted common stock to an employee, and warrants to purchase 166,000 shares of the Company's unregistered common stock were exercised at an average price of $1.57 per share. During the three months ended September 30, 2004, all warrants to purchase shares of the Company's common stock were included in the computation of diluted earnings per share. Warrants to purchase 508,000 shares of the Company's common stock that were outstanding during the three months ended September 30, 2003 were not included in the computation of diluted earnings per share because their effect would have been anti-dilutive, since the strike prices were above the average market value of DHB's stock price. 7 DHB INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except share and per share data) NOTE 5. STOCK BASED COMPENSATION - (Continued) The Company accounts for stock-based compensation using the intrinsic value method in accordance with Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," and related Interpretations ("APB No. 25"), and has adopted the disclosure provisions of Statement of Financial Accounting Standards No. 123,, "Accounting for Stock Based Compensation ("SFAS No. 123") and Statement of Financial Accounting Standards No. 148, "Accounting for Stock-Based Compensation - Transition and Disclosure, an amendment of FASB Statement No. 123" ("SFAS No. 148"). Under APB No. 25, compensation expense is only recognized when the market value of the underlying stock at the date of grant exceeds the amount an employee must pay to acquire the stock. Accordingly, no compensation expense has been recognized in the Condensed Consolidated Financial Statements in connection with employee stock warrant grants. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options and warrants which have no vesting restrictions and are fully transferable. In addition, the Black-Scholes option valuation model requires the input of highly subjective assumptions, including the expected stock price volatility. Because the Company's employee stock warrants have characteristics significantly different from those of traded warrants and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock warrants. The weighted-average warrant fair values and assumptions used to estimate these values are as follows: Warrants Issued During 2004 2003 _____ ______ Risk-free interest rate 2.77% 3.942% Expected volatility of common stock 99.99% 118.80% Dividend yield 0.00% 0.00% Expected option term 5 years 5 years The Company's net income and earnings per share would have been reduced to the pro forma amounts shown below if compensation cost had been determined based on the fair value at the grant dates in accordance with SFAS No. 123 and 148, "Accounting for Stock-Based Compensation."
For the Three Months For the Nine Months Ended September 30, Ended September 30, ____________________ ___________________ 2004 2003 2004 2003 ______ ______ _______ _______ Net income $8,148 $3,250 $22,167 $12,320 Less dividend - preferred stock 90 90 270 270 ______ ______ _______ _______ Income available to common stockholders, as reported 8,058 3,160 21,897 12,050 Deduct: compensation determined under fair value based method for all awards, net of related tax effect 22 439 1,630 656 ______ ______ _______ _______ Pro forma $8,036 $2,721 $20,267 $11,394 ______ ______ _______ _______
8 DHB INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except share and per share data) NOTE 5. STOCK BASED COMPENSATION - (Continued) For the Three Months For the Nine Months Ended September 30, Ended September 30, ____________________ ___________________ 2004 2003 2004 2003 _____ _____ _____ _____ Basic earnings per common share As reported $0.20 $0.08 $0.54 $0.30 Pro forma $0.20 $0.07 $0.50 $0.28 Diluted earnings per common share As reported $0.18 $0.07 $0.49 $0.28 Pro forma $0.18 $0.06 $0.45 $0.27 Pro forma compensation expense may not be indicative of pro forma expense in future years. For purposes of estimating the fair value of each warrant on the date of grant, the Company utilized the Black-Scholes option-valuation model. NOTE 6. SEGMENT INFORMATION The Company operates in two principal segments: ballistic-resistant equipment, and protective athletic and sports products. Net sales, income before other income (expense), depreciation and amortization expense, interest expense, income taxes, and identifiable assets for each of the Company's segments are as follows:
For The Three Months For The Nine Months Ended September 30, Ended September 30, ______________________ ___________________ 2004 2003 2004 2003 ________ _______ ________ ________ NET SALES Ballistic-resistant equipment $ 87,585 $52,962 244,528 152,485 Protective athletic & sports products 1,825 1,455 5,351 4,610 ________ _______ ________ ________ Consolidated net sales $ 89,410 $54,417 $249,879 $157,095 ======== ======= ======== ======== INCOME BEFORE OTHER INCOME (EXPENSE) Ballistic-resistant equipment $ 15,773 $ 7,604 $45,013 $24,249 Protective athletic & sports products 260 142 879 618 Corporate and other (1) (2,751) (1,983) (8,727) (4,178) ________ _______ ________ ________ Consolidated income before other income (expense) $ 13,282 $ 5,763 $37,165 $20,689 ======== ======= ======= =======
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DHB INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except share and per share data) NOTE 6. SEGMENT INFORMATION - (Continued) For The Three Months For The Nine Months Ended September 30, Ended September 30, _________________________ ___________________________ 2004 2003 2004 2003 ________ ______ _______ _______ DEPRECIATION AND AMORTIZATION EXPENSE Ballistic-resistant equipment $ 193 $ 109 $ 474 $ 252 Protective athletic & sports products 33 13 94 42 Corporate and other 55 46 140 138 ________ ______ _______ _______ Consolidated depreciation and amortization expense $ 281 $ 168 $ 708 $ 432 ======== ====== ======= ======= INTEREST EXPENSE Ballistic-resistant equipment $ 386 $ 302 $ 1,042 $ 877 Protective athletic & sports products -- -- -- -- Corporate and other (1) 3 4 5 100 ________ ______ _______ _______ Consolidated interest expense $ 389 $ 306 $ 1,047 $ 977 ======== ====== ======= ======= INCOME BEFORE INCOME TAXES AND MINORITY INTEREST Ballistic-resistant equipment $ 10,590 $4,478 $28,479 $13,474 Protective athletic & sports products 260 110 873 516 Corporate and other (1) 2,084 893 6,821 6,509 ________ ______ _______ _______ Consolidated income before income tax expenses and minority interest $ 12,934 $5,481 $36,173 $20,499 ======== ====== ======= ======= INCOME TAXES Ballistic-resistant equipment $ 935 $ 47 $ 2,143 $ 58 Protective athletic & sports products -- 1 -- 1 Corporate and other (1) 3,793 2,183 11,707 8,120 ________ ______ _______ _______ Consolidated income tax expense $ 4,728 $2,231 $13,850 $ 8,179 ======== ====== ======= ======= September 30, 2004 December 31, 2003 IDENTIFIABLE ASSETS Ballistic-resistant equipment $136,041 $88,503 Protective athletic & sports products 5,045 3,186 ________ _______ 141,086 91,689 Corporate and other (2) 253 1,739 ________ _______ Consolidated total assets $141,339 $93,428 ======== ======= (1) Corporate and other expenses include corporate general and administrative expenses. (2) Corporate and other assets are principally deferred income tax assets, prepaid expenses and property and equipment.
10 DHB INDUSTRIES, INC. AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except share and per share data) NOTE 7. CONTINGENCIES The Company is currently the subject of an investigation by the SEC, with respect to certain related party transactions and executive compensation matters regarding the Company and affiliates of Mr. David H. Brooks (the Company's Chief Executive Officer). The Company and Mr. Brooks are cooperating with the SEC in this investigation. In addition, the Audit Committee expects to periodically monitor the status and performance of these related party transactions to assess the relative benefits to the Company and the related party's compliance with its contractual obligations. The Company is involved in other litigation, none of which individually or in the aggregate is considered by management to be material to the Company's business or would, if adversely determined, have a material adverse effect on the Company's consolidated financial condition or results of operations. NOTE 8. USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions 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 amounts of revenues and expenses during each reporting period. Actual results could differ from those estimates. NOTE 9. RECENTLY ISSUED ACCOUNTING STANDARDS In January 2003, the FASB issued Financial Interpretation No. 46, "Consolidation of Variable Interest Entities" ("FIN 46"), which clarifies the application of Accounting Research Bulletin No. 51, "Consolidated Financial Statements." FIN 46 requires certain variable interest entities to be consolidated by the primary beneficiary of the entity if the equity investors in the entity do not have the characteristics of a controlling financial interest or do not provide sufficient equity at risk for the entity to support its activities. In December 2003, the FASB revised certain elements of FIN 46 (FIN 46-R). The FASB also modified the effective date of FIN 46. This interpretation applies immediately to variable interest entities created after January 31, 2003 and variable interest entities in which a company obtains an interest after January 31, 2003. For variable interest entities in which a company obtained an interest before February 1, 2003, the interpretation applies to the interim period ending after March 15, 2004. The adoption of FIN 46 did not have a material impact on the Company's consolidated financial position or results of operations. In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity" ("SFAS No. 150"). SFAS No. 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. SFAS No. 150 requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances). SFAS No. 150 is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first 11 interim period beginning after June 15, 2003. The adoption of SFAS No. 150 has not had, and is not expected to have, a material impact on the Company's consolidated financial position or results of operations. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS INTRODUCTION The Company is a holding company, which currently conducts business through its wholly-owned subsidiaries through two divisions, the DHB Armor Group ("Armor Group") and the DHB Sports Group ("Sports Group"). The Armor Group represented approximately 98%, 97%, and 96% of consolidated revenues of the Company during 2004 (first nine months), and full 2003 and 2002, respectively. The Company's products are sold both nationally and internationally. The Armor Group's sales are derived primarily from military services and law enforcement agencies. Sales to the U.S. military comprise the largest portion of the Armor Group's business, followed by sales to federal, state and local law enforcement agencies, including correctional facilities. Accordingly, any substantial increase or reduction in government spending or change in emphasis in defense and law enforcement programs could have a material effect on the Armor Group's business. The Sports Group manufactures and markets a variety of sports medicine, protective gear, health supports and magnetic therapy products under its own labels, private labels and house brands for major retailers. The Company derives substantially all of its revenues from sales of its products. As indicated in the financial information included in this report and in the Company's Form 10-K/A for the year ended December 31, 2003, the Company has experienced substantial increases in its revenues in the past several years, which have been attributable primarily to product demand from the U.S. military and federal, state and local law enforcement. The Company's ability to maintain these revenue levels will be highly dependent on continued demand for body armor and projectile-resistant clothing; and although the Company does not foresee an immediate material reduction in such demand, there is no assurance that governmental agencies will not refocus their expenditures based on changed circumstances or otherwise. The Company has outgrown its small business status under government procurement regulations. The Company believes it is now recognized by government agencies as having the ability to manage larger contracts. This allows the Company to competitively bid on large procurements and maintain support of small businesses as subcontractors. The Company's market share is highly dependent upon the quality of its products and its ability to deliver its products in a prompt and timely fashion. To meet projected demand, and to maintain its ability to deliver quality products in a timely manner, the Company has recently entered into a long-term lease for a new, expanded production facility in Pompano Beach, Florida. However, there are no assurances that, in the long term, demand for the Company's products will remain at recent levels, or that the Company will be able to diversify into alternative markets or alternative products, or to increase its market share through acquisitions of other businesses. Management's current strategic focus is on quality and delivery, which management believes are the key elements in obtaining additional and repeat orders under the Company's existing procurement contracts with the U.S. military and other governmental agencies. 12 RESULTS OF OPERATIONS THREE MONTHS ENDED SEPTEMBER 30, 2004, COMPARED TO THE THREE MONTHS ENDED SEPTEMBER 30, 2003 Primarily as a result of increased product demand at the Company's Armor Group, the Company attained its highest quarterly consolidated net sales level in its history for the three months ended September 30, 2004. For the three months ended September 30, 2004, consolidated net sales were approximately $89.4 million, an increase of 64% over consolidated net sales of approximately $54.4 million for the three months September 30, 2003. The Armor Group's net sales increased 65% from approximately $53.0 million for the three months ended September 30, 2003 to approximately $87.6 million for the three months ended September 30, 2004, due primarily to substantially increased shipments to the U.S. Military. The Sports Group's net sales for the third quarter of 2004 increased approximately 26% to $1.8 million, as compared to $1.4 million for the third quarter of 2003. Contributing to the increase in the Sports Group's net sales was increased sales to Target and the addition of Walgreen Drug stores to the customer base. Gross profit for the quarter ended September 30, 2004 was approximately $24.9 million (27.8% of net sales), as compared to approximately $14.8 million (27.2% of net sales) for the quarter ended September 30, 2003. The Company's selling, general and administrative expenses were approximately $11.6 million or 13.0% of net sales for the three months ended September 30, 2004, versus approximately $9.1 million or 16.6% of net sales for the three months ended September 30, 2003. This percentage decrease was attributable primarily to decreased selling expenses. Driven primarily by the sales increases, selling, general and administrative expenses as a percentage of net sales has decreased, causing operating income to increase to approximately $13.3 million (14.9% of net sales) for the third quarter of 2004 versus approximately $5.8 million (10.6% of net sales) for the third quarter of 2003. Interest expense for the three months ended September 30, 2004 increased 27.1% to approximately $389,000, compared to approximately $306,000 for the three months ended September 30, 2003. This increase was primarily the result of increased borrowing under the Company's credit facility to fund the Company's operations, new facility and continued growth. Income before taxes and minority interest of subsidiary was approximately $12.9 million for the three months ended September 30, 2004, compared to approximately $5.5 million for the three months ended September 30, 2003. This increase was attributable primarily to the substantial increase in sales, as well as the expense reductions noted above. Income taxes for the third quarter of 2004 were approximately $4.7 million while income taxes for the third quarter of 2003 were approximately $2.2 million. The effective tax rate for the third quarter of 2004 was 36.6% as compared to 40.7% during the third quarter of 2003. On December 19, 2003, DHB's subsidiary Point Blank Body Armor, Inc. ("Point Blank") issued to Hightower Capital Management, LLC ("Hightower") shares of common stock of Point Blank representing approximately .65% of the outstanding capital stock of Point Blank, in exchange for inventory. The minority interest's share of the consolidated subsidiary's income was approximately $58,000 for the three months ended September 30, 2004. 13 After the preferred stock dividends of approximately $90,000 per quarter, income available to common stockholders was approximately $8.1 million for the three months ended September 30, 2004, or $0.18 per diluted share, as compared with income available to common stockholders of approximately $3.2 million or $0.07 per diluted share for the three months ended September 30, 2003. The weighted average shares outstanding on a diluted basis for the three months ended September 30, 2004 were 45,962,109, as compared to 44,510,790 for the three months ended September 30, 2003. NINE MONTHS ENDED SEPTEMBER 30, 2004, COMPARED TO THE NINE MONTHS ENDED SEPTEMBER 30, 2003 For the first nine months of 2004, consolidated net sales were approximately $249.9 million, an increase of 59% over consolidated net sales of approximately $157.1 million for the first nine months of 2003. The Armor Group's net sales increased 60% from approximately $152.5 million for the nine months ended September 30, 2003 to approximately $244.5 million for the nine months ended September 30, 2004, due primarily to substantially increased shipments to the U.S. Military, a $5 million increase in sales to federal agencies, and a $9 million increase in international sales. The Sports Group's net sales for the first nine months of 2004 increased 16% to approximately $5.4 million, as compared to approximately $4.6 million for the first nine months of 2003. Contributing to the increase in the Sports Group's net sales was the addition of a high profile chain of drug stores, Walgreen and Longs Drug Stores, to the Sports Group's customer base as well as increased sales to its major customers, Wal-Mart and Target. Gross profit percentage remained nearly constant at approximately 27.8% for the nine months ended September 30, 2004 as compared to approximately 27.6% for the nine months ended September 30, 2003. The Company's selling, general and administrative expenses improved slightly as a percentage of net sales. For the nine months ended September 30, 2004, selling, general and administrative expenses were approximately $32.4 million (13.0% of net sales), versus approximately $22.6 million (14.4% of net sales) for the nine months ended September 30, 2003. Driven primarily by the sales increases, selling, general and administrative expenses as a percentage of net sales has decreased, causing income before other income (expense) to increase to approximately $37.2 million (14.9% of net sales) for the nine months ended September 30, 2004 versus approximately $20.7 million (13.2% of net sales) for the nine months ended September 30, 2003. Interest expense for nine months ended September 30, 2004 increased 7% to approximately $1,047,000, compared to approximately $977,000 for the nine months ended September 30, 2003. This increase was primarily the result of increased borrowings under the Company's credit facility to fund the Company's operations, new facility and continued growth. In March 2003, the Company signed a settlement agreement with its insurance agent, settling the lawsuit with its insurance agent for $1.0 million. The Company received approximately $739,000, which is net of the associated legal fees of $261,000. This $739,000 is included in total other income (expense) during the nine months ended September 30, 2003. 14 Income before income taxes and minority interest of subsidiary increased approximately 76% to approximately $36.2 million for the nine months ended September 30, 2004, compared to approximately $20.5 million for the nine months ended September 30, 2003. Income taxes for the nine months ended September 30, 2004 were approximately $13.9 million while income taxes for the nine months ended September 30, 2003 were approximately $8.2 million. The effective tax rate for the nine months ended September 30, 2004 was 38.3% as compared to 39.9% for the nine months ended September 30, 2003. On December 19, 2003, DHB's subsidiary Point Blank Body Armor, Inc. ("Point Blank") issued to Hightower Capital Management, LLC ("Hightower") shares of common stock of Point Blank representing approximately .65% of the outstanding capital stock of Point Blank, in exchange for inventory. The minority interest's share of the consolidated subsidiary's income was approximately $156,000 for the nine months ended September 30, 2004. The total minority interest included in the balance sheet as of September 30, 2004 was approximately $363,000, as compared to approximately $207,000 as of December 31, 2003. After the preferred stock dividends of approximately $270,000 for each of the nine-month periods, income available to common stockholders was approximately $21.9 million for the nine months ended September 30, 2004, or $0.49 per diluted share, as compared with income available to common stockholders of approximately $12.1 million or $0.28 per diluted share for the nine months ended September 30, 2003. The weighted average shares outstanding on a diluted basis for the nine months ended September 30, 2004 were 45,614,473, as compared to 44,053,330 for the nine months ended September 30, 2003. Recent Developments On June 8, 2004, the Company announced its receipt of a contract award from the U.S. Army for recently developed body armor systems for the upper and lower arms and shoulders, valued at approximately $239.4 million over a period of three years. On July 14, 2004, the Company announced the receipt of approximately $37 million of new purchase and delivery orders in the month of July for a variety of body armor products. LIQUIDITY AND CAPITAL RESOURCES The Company expects that its primary capital requirements over the next twelve months will be to assist its subsidiaries in financing their working capital requirements. The Company's operating subsidiaries sell the majority of their products on 30- to 90-day terms. Working capital is needed to finance the receivables, manufacturing process and inventory. Working capital at September 30, 2004 was approximately $99.0 million, representing an approximate 48% increase over working capital at December 31, 2003 of approximately $66.8 million. This increase in working capital since December 31, 2003 primarily reflects a $19.8 million increase in accounts receivable and a $27.2 million increase in inventory reduced by a $5.1 million increase in accounts payable, a $5.4 million increase in income taxes payable and a $2.3 million increase in accrued expenses. On July 1, 2004, the Company entered into an amendment to its existing bank credit agreement, increasing the limit on revolving credit borrowings from $32.5 million to $37.5 million solely for the month of July 2004. Pursuant to the credit agreement, the Company may borrow, on a revolving basis, up to $32.5 million on 85% of eligible accounts receivable, and the Company borrowed a term 15 loan in the principal amount of $12.5 million amortizing at the rate of $1 million per quarter commencing July 2004. This amended agreement will expire on October 1, 2007. Borrowings under the credit agreement are collateralized by substantially all of the Company's assets, and bear interest, at the Company's option, at the bank's prime rate or LIBOR plus 1.75% per annum on the revolving credit facility and at the bank's prime rate or LIBOR plus 2.25% on the term loan. Under the terms of the credit agreement, the Company can only pay dividends on common stock with the written consent of the lender. For 2003, the borrowings under the credit agreement bore interest at the bank's prime rate or LIBOR plus 1.75%. A portion of these funds was used to partially refinance higher interest debt. The remaining funds have been and will be used to meet increased demands for capital generated by the Company's growth. With the expansion of the Company's facilities during 2004, the Company's capital expenditures in the nine months ended September 30, 2004 increased to $1.7 million, as compared to approximately $614,000 for the nine months ended September 30, 2003. The Company incurred increased capital expenditures in 2004 in connection with the continued expansion into the new 104,000 square foot facility in Pompano Beach, Florida and relocation of its corporate headquarters. The Company believes that its existing credit line, together with funds generated from operations, will be adequate to sustain its operations (including projected capital expenditures) through 2004. Historically, the Company has been successful in obtaining increases in its revolving credit facility, as required in order to finance the increased working capital needs brought on by the rapid and substantial expansion of the Company's business. However, there can be no assurance that the Company will be able to obtain further such increases if needed, and the Company may be required to explore other potential sources of financing (including the issuance of equity securities and, subject to the consent of the Company's lender, other debt financing) if the Company continues to experience escalating demand for its products. EFFECT OF INFLATION AND CHANGING PRICES The Company did not experience any measurable increases in raw material prices during the nine months ended September 30, 2004. SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS This Quarterly Report contains certain forward-looking statements and information relating to the Company that is based on the beliefs of the Company's management, as well as assumptions made by and information currently available to the Company's management. When used in this document, the words "anticipate," "believe," "estimate," "expect," "going forward," and similar expressions, as they relate to the Company or Company management, are intended to identify forward-looking statements. Such statements reflect the current views of the Company with respect to future events and are subject to certain risks, uncertainties and assumptions, including, but not limited to: general business and economic conditions, the maintenance of the Company's military supply contracts, the level of governmental expenditures on law enforcement equipment, continued supplies of materials from critical vendors, the continued availability of insurance for the Company's products, and other risks described in the Company's Annual Report on Form 10-K/A for the year ended December 31, 2003 and other reports and materials filed by the Company with the SEC. If one or more of these risks or uncertainties were to materialize, or if the underlying assumptions prove to be incorrect, actual results may vary materially from those described herein as anticipated, believed, estimated or expected. 16 Readers are cautioned not to place undue reliance on these forward-looking statements that speak only as of the date hereof. The Company undertakes no obligation to publish revised forward-looking statements to reflect the occurrence of unanticipated events or circumstances after the date hereof. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company does not issue or invest in financial instruments or their derivatives for trading or speculative purposes. The Company's market risk is limited to fluctuations in interest rates as it pertains to its borrowings under its credit facility. The Company can borrow at the prime rate of interest or LIBOR plus 1.75% on the revolving credit facility, and the prime rate or LIBOR plus 2.25% on the term loan. Any increase in these reference rates could adversely affect the Company's interest expense. The Company does not have any material sales, purchases, assets or liabilities denominated in currencies other than the U.S. Dollar, and as such, is not subject to material foreign currency exchange rate risk. ITEM 4. CONTROLS AND PROCEDURES The Company carried out an evaluation, as required by Rule 13a-15(b) under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), under the supervision and with the participation of the Company's management, including the Company's Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures (as defined in Rules 13a-14 and 15d-14 of the Exchange Act) as of the end of the period covered by this report. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company's disclosure controls and procedures are effective in timely alerting them to material information relating to the Company (including its consolidated subsidiaries) required to be included in the Company's periodic SEC filings. During the period covered by this report, the Company has continued to implement certain changes to its internal control over financial reporting as described below, which have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. Disclosure controls and procedures are those controls and other procedures that are designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the Company's management, including the Company's principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure. As disclosed in the Company's Form 8-K filed on August 27, 2003, Grant Thornton LLP, the Company's former independent accountants, informed the Company that they considered there to be certain deficiencies in the Company's internal control procedures that would be deemed to be a material weakness under standards established by the American Institute of Certified Public Accountants. Grant Thornton made this determination in connection with the preparation of the Company's consolidated financial statements as of and for the year ended December 31, 2002 for inclusion in the Company's Form 10-K/A, which was filed on 17 July 24, 2003 to supplement the Company's Form 10-K filed on March 31, 2003. The opinion of Grant Thornton in the Form 10-K/A did not contain an adverse opinion or disclaimer of opinion and was not qualified or modified as to uncertainty, audit scope or accounting principles. The former independent accountants informed the Company and the Audit Committee of these deficiencies in a letter delivered on August 20, 2003. These deficiencies included the failure to disclose certain related party transactions in the Company's Form 10-K for the fiscal year ended December 31, 2002, the Company's reliance on substantial outside assistance from outside professionals in preparing the Company's financial statements, and understaffing in the Company's accounting and finance department. The Form 10-K/A filed by the Company on July 24, 2003 fully disclosed the cited related party transactions. In accordance with their fiduciary responsibilities, senior management and the Audit Committee directed the Company to dedicate resources and take additional steps to strengthen its control processes and procedures to ensure that these internal control deficiencies do not result in a material misstatement in the Company's consolidated financial statements. Specifically, the Company has implemented or is preparing to implement the following additional procedures: o The Company briefed the Chairman and Chief Executive Officer on the requirement to disclose related party transactions. o The Company distributed a questionnaire to each of the Company's officers and directors specific to related party transactions; and the Company has pursued and will pursue more rigorous follow-up with its directors and executive officers regarding their responses to annual questionnaires used in preparing the Company's Form 10-K and proxy materials. o The Company developed a financial statement disclosure checklist to be completed by the Chief Financial Officer each time the Company prepares financial statements. o The Company has begun the preparation of its quarterly and annual financial statements sooner after the end of each fiscal quarter and fiscal year. The Company has undertaken an additional layer of internal review prior to delivering drafts to its outside professionals. o The Company continues to reinforce with its new auditors their ability to communicate with and obtain information from lower level personnel in the Company's accounting and finance department. o The Company will evaluate further delegation and allocation of responsibilities within its accounting and finance department to facilitate prompt availability of financial information. o Since the beginning of 2003, the Company hired new financial reporting personnel, including a new Controller for the Point Blank subsidiary as well as a staff accountant/assistant controller and inventory control specialist/system analyst. The Company also hired a Controller in late 2002 for its PACA facility. 18 o The Company continues to review, confirm and clarify with its personnel their specific functions and responsibilities to promote the orderly flow and availability of financial data and information. o The Company hired an internal control specialist to review and revamp the Company's internal control policies and procedures. The Company engaged the firms Rachlin Cohen & Holtz LLP and Management Works Inc. to assist management in complying with the internal control requirements under Section 404 of the Sarbanes-Oxley Act of 2002 to gain greater efficiency and effectiveness. The Company provided these firms with copies of the updated policies and procedures and flowcharts of the accounting and information technology departments. The Company will continue to: (a) evaluate the effectiveness of its internal controls and procedures on an ongoing basis, (b) implement actions to enhance its resources and training in the area of financial reporting and disclosure responsibilities, and (c) review such actions with the Audit Committee and the Company's independent accountants, Weiser LLP. The Company has discussed its corrective actions and plans with the Audit Committee and Weiser LLP. The Company's management, including the Chief Executive Officer and Chief Financial Officer, does not expect that the Company's disclosure controls or its internal controls will prevent 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 system 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 all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control. The design of any system of controls also is based in part upon 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. Over time, controls may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected. The Company monitors its disclosure controls and internal controls and makes modifications as necessary; the Company's intent in this regard is that the disclosure controls and the internal controls will be maintained as dynamic systems that change (including with improvements and corrections) as conditions warrant. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The Company is currently the subject of an investigation by the SEC. The investigation initially focused on certain related party transactions between the Company and affiliates of Mr. David H. Brooks (the Company's Chief Executive 19 Officer), and has since been expanded to include matters relating to the Company's reporting and treatment of executive compensation (primarily relating to Mr. Brooks). The Company and Mr. Brooks are cooperating with the SEC in this investigation. The Audit Committee of the Company's Board of Directors has retained a forensic accounting firm to conduct an independent investigation with respect to the related party transactions. Their report was presented to the SEC for evaluation in April 2004. The Company has also compiled extensive information in response to the SEC's requests regarding executive compensation. In addition, the Audit Committee is periodically monitoring the status and performance of the related party transactions, to assess the relative benefits to the Company and the related party's compliance with its contractual obligations. The Company is unable to predict the outcome or results of the SEC's investigation. The Company is involved in other litigation, none of which individually or in the aggregate is considered by management to be material to the Company's business or would, if adversely determined, have a material adverse effect on the Company's consolidated financial condition or operations. ITEM 2. CHANGES IN SECURITIES, USE OF PROCEEDS AND ISSUER REPURCHASES OF EQUITY SECURITIES Not Applicable. ITEM 3. DEFAULTS UPON SENIOR SECURITIES Not Applicable. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. ITEM 5. OTHER INFORMATION None. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (A) EXHIBITS 31.1 Certification of the Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of the Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certification of the Chief Executive Officer Pursuant to 18 U.S.C. ss.1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2 Certification of the Chief Financial Officer Pursuant to 18 U.S.C. ss.1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 20 (B) REPORTS ON FORM 8-K The Company filed the following Report on Form 8-K during the quarter ended June 30, 2004: Form 8-K filed August 5, 2004 to report the financial results for the three and six months ended June 30, 2004. The Form 8-K included financial statements. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed by the undersigned, thereunto duly authorized. Dated November 3, 2004 DHB INDUSTRIES, INC. (Registrant) Signature Capacity Date Chief Executive Officer November 3, 2004 /s/ DAVID H. BROOKS and Chairman of the Board ___________________ Chief Financial Officer, Director November 3, 2004 /s/ DAWN M. SCHLEGEL and Principal Accounting Officer ____________________ November 3, 2004 /s/ JEROME KRANTZ Director ____________________ November 3, 2004 /s/ GARY NADELMAN Director ____________________ 21