-----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, P/5Q6zpIcF/0Z6uL6qimvV29XtuJIVmjzRubzicmv2x3A+8+G58QGuKkfTKJbewb fyJ/3flXOW+c9ATvzCxW7w== 0000090045-05-000004.txt : 20050330 0000090045-05-000004.hdr.sgml : 20050330 20050330154619 ACCESSION NUMBER: 0000090045-05-000004 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 9 CONFORMED PERIOD OF REPORT: 20041231 FILED AS OF DATE: 20050330 DATE AS OF CHANGE: 20050330 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PARAGON TECHNOLOGIES INC CENTRAL INDEX KEY: 0000090045 STANDARD INDUSTRIAL CLASSIFICATION: CONSTRUCTION, MINING & MATERIALS HANDLING MACHINERY & EQUIP [3530] IRS NUMBER: 221643428 STATE OF INCORPORATION: PA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 001-15729 FILM NUMBER: 05714115 BUSINESS ADDRESS: STREET 1: 600 KUEBLER ROAD CITY: EASTON STATE: PA ZIP: 18040 -929 BUSINESS PHONE: 6102523205 MAIL ADDRESS: STREET 1: 600 KUEBLER RD CITY: EASTON STATE: PA ZIP: 18040-9295 FORMER COMPANY: FORMER CONFORMED NAME: SI HANDLING SYSTEMS INC DATE OF NAME CHANGE: 19920703 10-K 1 f10-k.txt FORM 10-K UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D. C. 20549 FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Fiscal Year Ended December 31, 2004 Commission file number: 1-15729 --------------------------------------------------------------------- PARAGON TECHNOLOGIES, INC. (Exact Name Of Registrant As Specified In Its Charter) Delaware 22-1643428 (State Or Other Jurisdiction of (I.R.S. Employer Identification No.) Incorporation or Organization) 600 Kuebler Road, Easton, Pennsylvania 18040 (Address Of Principal Executive Offices) (Zip Code) Registrant's Telephone Number, Including Area Code: 610-252-3205 --------------------------------------------------------------------- Securities registered pursuant to Section 12(b) of the Act: Common Stock, Par Value $1.00 Per Share American Stock Exchange (Title of Class) (Name of Exchange on Which Registered) Securities registered pursuant to Section 12(g) of the Act: None Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes |X| No |_| Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. |X| Indicate by checkmark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes |_| No |X| Aggregate market value of common stock held by non-affiliates (based on the closing price on The American Stock Exchange) on June 30, 2004 was approximately $22.6 million. For purposes of determining this amount only, Registrant has defined affiliates as including (a) the executive officers named in Part III of this 10-K report, (b) all directors of Registrant, and (c) each stockholder that has informed Registrant by June 30, 2004 that it is the beneficial owner of 10% or more of the outstanding common stock of Registrant. The number of shares outstanding of the Registrant's Common Stock, as of March 24, 2005 was 4,266,710. DOCUMENTS INCORPORATED BY REFERENCE None. 1 [LOGO] TABLE OF CONTENTS PART I.........................................................................3 Item 1. Business.......................................................3 Item 2. Properties....................................................10 Item 3. Legal Proceedings.............................................11 Item 4. Submission of Matters to a Vote of Security Holders...........11 PART II.......................................................................12 Item 5. Market for the Registrant's Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities................................................12 Item 6. Selected Financial Data.......................................13 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.......................14 Item 7A. Quantitative and Qualitative Disclosures about Market Risk....25 Item 8. Financial Statements and Supplementary Data...................26 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.......................53 Item 9A. Controls and Procedures.......................................53 Item 9B. Other Information.............................................53 PART III......................................................................53 Item 10. Directors and Executive Officers of the Registrant............53 Item 11. Executive Compensation........................................56 Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters................60 Item 13. Certain Relationships and Related Transactions................62 Item 14. Principal Accountant Fees and Services........................62 PART IV.......................................................................63 Item 15. Exhibits and Financial Statement Schedules....................63 Signatures....................................................67 Exhibit Index.................................................69
2 PART I ------ Item 1. Business - ------- -------- Company Overview - ---------------- Paragon Technologies, Inc. ("the Company") provides a variety of material handling solutions, including systems, technologies, products, and services for material flow applications. The Company has gone to market with a multiple brand, multiple channel strategy under the SI Systems and Ermanco brands. The Company's capabilities include horizontal transportation, rapid dispensing, order fulfillment, computer software, sortation, integrating conveyors and conveyor systems, and aftermarket services. The Company was originally incorporated in Pennsylvania in 1958. On December 7, 2001, upon receiving shareholder approval, the Company changed its state of incorporation from Pennsylvania to Delaware. SI Systems - ---------- The Company's Easton, Pennsylvania operation (hereafter referred to as "SI Systems"), is a specialized systems integrator supplying branded automated material handling systems to manufacturing, assembly, order fulfillment, and distribution operations customers located primarily in North America, including the U.S. government. SI Systems is brought to market as two individual brands, SI Systems and SI Production & Assembly Systems (hereafter referred to as "SI-PAS"). Each brand has its own focused sales force, utilizing the products and services currently available or under development within the Company. The SI Systems sales force focuses on providing order fulfillment systems to order processing and distribution operations, which may incorporate the Company's proprietary DISPEN-SI-MATIC(TM) and automated order fulfillment solutions, specialized software from the SINTHESIS(TM) Software Suite, and Ermanco branded products. SINTHESIS(TM) is comprised of eight proprietary software groups, with 26 extendible software modules that continually assess real-time needs and deploy solutions to accurately facilitate and optimize planning, warehousing, inventory, routing, and order fulfillment within the distribution process. The SI-PAS sales force focuses on providing automated material handling systems to manufacturing and assembly operations and the U.S. government, which may incorporate the Company's proprietary LO-TOW(R) and CARTRAC(R) horizontal transportation technologies. The automated material handling systems are marketed, designed, sold, installed, and serviced by its own staff or subcontractors as labor saving devices to improve productivity, quality, and reduce costs. Integrated material handling solutions involve both standard and specially designed components and include integration of non-proprietary automated handling technologies so as to provide turnkey solutions for its customers' unique material handling needs. The engineering staff develops and designs computer controlled programs required for the efficient operation of the systems and for optimizing manufacturing, assembly, and fulfillment operations. Ermanco - ------- The Company's Spring Lake, Michigan operation (hereafter referred to as "Ermanco"), is a manufacturer of Ermanco branded light to medium duty unit handling conveyor and sortation products, serving the material handling industry through a worldwide network of approximately 100 experienced material handling equipment distributors and one licensee. Ermanco also provides complete conveyor systems for a variety of applications, including distribution centers and automated manufacturing, utilizing primarily its own manufactured conveyor products, engineering services by its own staff or subcontractors, and subcontracted installation services. Ermanco supplies material handling systems and equipment to both national and international markets. Ermanco offers services ranging from the delivery of basic transportation conveyors to turnkey installations of complex, fully automated work-in-process production lines and distribution centers, utilizing sophisticated, custom-designed controls software. Many of Ermanco's sales are to distributors who have non-exclusive agreements with the Company. ------------------------------ 3 The Company's systems vary in configuration and capacity. Historically, system prices across the Company's product lines have ranged from $100,000 to several million dollars per system. Systems, software, and aftermarket sales by brand during the years ended December 31, 2004, 2003, and 2002 are as follows (in thousands): For the year ended December 31, 2004:
% of Total SI Systems Ermanco Total Sales -------------- ------------- -------------- -------------- Systems and software sales......... $ 8,375 28,550 36,925 87.4% Aftermarket sales.................. 3,327 2,003 5,330 12.6% ------ ------ ------ ----- Total sales........................ $ 11,702 30,553 42,255 100.0% ====== ====== ====== ===== As a % of total sales.............. 27.7% 72.3% 100.0%
For the year ended December 31, 2003:
% of Total SI Systems Ermanco Total Sales -------------- ------------- -------------- -------------- Systems and software sales......... $ 9,134 23,533 32,667 87.6% Aftermarket sales.................. 2,949 1,679 4,628 12.4% ------ ------ ------ ----- Total sales........................ $ 12,083 25,212 37,295 100.0% ====== ====== ====== ===== As a % of total sales.............. 32.4% 67.6% 100.0%
For the year ended December 31, 2002:
% of Total SI Systems Ermanco Total Sales -------------- ------------- -------------- -------------- Systems and software sales......... $ 11,439 21,584 33,023 86.4% Aftermarket sales.................. 3,467 1,734 5,201 13.6% ------ ------ ------ ----- Total sales........................ $ 14,906 23,318 38,224 100.0% ====== ====== ====== ===== As a % of total sales.............. 39.0% 61.0% 100.0%
The Company's products are sold worldwide through its own sales personnel, along with a network of independent distributors and one licensee. Domestic and international sales by brand during the years ended December 31, 2004, 2003, and 2002 are as follows (in thousands): For the year ended December 31, 2004:
% of Total SI Systems Ermanco Total Sales -------------- ------------- -------------- -------------- Domestic sales..................... $ 9,941 28,800 38,741 91.7% International sales................ 1,761 1,753 3,514 8.3% ------ ------ ------ ----- Total sales........................ $ 11,702 30,553 42,255 100.0% ====== ====== ====== =====
For the year ended December 31, 2003:
% of Total SI Systems Ermanco Total Sales -------------- ------------- -------------- -------------- Domestic sales..................... $ 10,780 23,650 34,430 92.3% International sales................ 1,303 1,562 2,865 7.7% ------ ------ ------ ----- Total sales........................ $ 12,083 25,212 37,295 100.0% ====== ====== ====== =====
For the year ended December 31, 2002:
% of Total SI Systems Ermanco Total Sales -------------- ------------- -------------- -------------- Domestic sales..................... $ 14,698 21,844 36,542 95.6% International sales................ 208 1,474 1,682 4.4% ------ ------ ------ ----- Total sales........................ $ 14,906 23,318 38,224 100.0% ====== ====== ====== =====
4 The Company engages in sales with the U.S. government, which is one of the Company's customers. Sales to the U.S. government during the years ended December 31, 2004, 2003, and 2002 represented 0.8%, 3.7%, and 8.8% of total sales, respectively. No individual customer accounted for more than 10% of total sales. The Company's backlog of orders at December 31, 2004 and December 31, 2003 are as follows (in thousands):
December 31, December 31, 2004 2003 ------------------- ------------------ SI Systems............................................ $ 5,514 4,052 Ermanco............................................... 5,692 6,473 ------ ------ Total backlog of orders............................ $ 11,206 10,525 ====== ======
The Company's backlog of orders associated with U.S. government projects were $29,000 and $0 at December 31, 2004 and December 31, 2003, respectively. The Company's business is largely dependent upon a limited number of large contracts with a limited number of customers. This dependence can cause unexpected fluctuations in sales volume. Various external factors affect the customers' decision-making process on expanding or upgrading their current production or distribution sites. The customers' timing and placement of new orders is often affected by factors such as the current economy, current interest rates, and future expectations. The Company believes that its business is not subject to seasonality, although the rate of new orders can vary substantially from month to month. Since the Company recognizes sales on a percentage of completion basis for its systems contracts, fluctuations in the Company's sales and earnings occur with increases or decreases in major installations. The Company expects to fill, within its 2005 calendar year, all of the December 31, 2004 backlog of orders indicated above. Products -------- SI Systems' Branded Products -- Automated Material Handling Systems Segment - --------------------------------------------------------------------------- SI Systems' branded products encompass the horizontal transport, manufacturing, assembly, order fulfillment, and inventory replenishment families of products. Horizontal Transport - -------------------- LO-TOW(R). LO-TOW(R) is an in-floor towline conveyor. These conveyor ------ systems are utilized in the automation of manufacturing, assembly, unit load handling in distribution environments, and large newspaper roll delivery systems. Industries served include the automotive, recreational and utility vehicle, distribution centers, radiation chambers, engine assembly, truck assembly, construction vehicles, newspaper facilities, farm machinery, and the U.S. government, primarily the United States Postal Service and the Defense Logistics Agency. This simple, yet reliable component design allows for a variety of configurations well suited for numerous applications. It provides reliable and efficient transportation for unit loads of all types in progressive assembly or distribution applications. Because SI Systems' LO-TOW(R) tow chain used with the system operates at a minimal depth, systems can be installed in existing one-story and multi-story buildings as well as newly constructed facilities. Controls sophistication varies depending upon the application. More complex systems include programmable logic controllers ("PLCs"), personal computers for data collection and operator interface, radio frequency identification and communication, bar code identification, and customer host computer communication interface. The Company believes that SI Systems is the largest supplier of in-floor towline systems in the United States. A typical LO-TOW(R) system requires approximately six months to engineer, manufacture, and install. LO-TOW(R) sales as a percent of total sales were 6.3%, 12.2%, and 17.4% for the years ended December 31, 2004, 2003, and 2002, respectively. 5 Order Fulfillment Systems - ------------------------- DISPEN-SI-MATIC(TM), SINTHESIS(TM), and Automated Order Fulfillment ------------------------------------------------------------------- Solutions - --------- DISPEN-SI-MATIC(TM) and SINTHESIS(TM) offer ideal solutions for reducing inefficiencies, labor-intensive methods, and long-time deliveries where high volume of small orders must be fulfilled. Industries served include pharmaceutical, entertainment, vision, nutritional supplements, health and beauty aids, cosmetics, and an assortment of various soft goods. SINTHESIS(TM) is a proprietary intelligent order fulfillment software suite that can achieve picking accuracy of up to 99.9%, increase order throughput up to 70%, and reduce return volumes by as much as 80%. Comprised of eight software groups with 26 extendible software modules, SINTHESIS(TM) continuously assesses real-time needs and deploys solutions to accurately facilitate and optimize planning, warehousing, inventory, routing, and order fulfillment within the distribution process. In installations worldwide, SINTHESIS(TM) integrates intelligent software programming with innovative conveyance technology to perform high-volume, full-case or split-case, item-oriented distribution smarter, faster, and leaner. SI Systems' branded products include a variety of DISPEN-SI-MATIC(TM) models for automated order fulfillment, where volume, speed, accuracy, and efficiency are of the essence. The Pick-to-Belt, Totes Through, and Buckets Through are solutions that provide ultra-high throughput for loose-pick individual items. Additionally, the DISPEN-SI-MATIC(TM) allows a package to be dispensed into a tote or carton, thus achieving a high degree of accuracy and efficiency in order fulfillment. SI Systems' capabilities also include gantry picking, which involves the fulfillment of orders as well as inventory replenishment, utilizing automated gantry/robotic technology. Certain customer applications and order profiles are well suited for this solution. SI Systems' branded technologies include automated picking and replenishment solutions that complement DISPEN-SI-MATIC(TM), thus offering the Company's customers a comprehensive solution in order fulfillment where volume of orders are processed with a high degree of accuracy. These highly sophisticated systems require customization tailored to each individual customer's requirements. A typical DISPEN-SI-MATIC(TM), SINTHESIS(TM), and automated order fulfillment system requires approximately six to nine months to engineer, manufacture, and install. DISPEN-SI-MATIC(TM), SINTHESIS(TM), and the related order fulfillment systems sales (including sales of Automated Pharmacy Systems to SI/BAKER, INC. ("SI/BAKER")), as a percent of total sales, were 13.0%, 10.0%, and 11.5% for the years ended December 31, 2004, 2003, and 2002, respectively. SI/BAKER, INC. (Automated Pharmacy Systems) ------------------------------------------ On March 1, 1993, the Company and Automated Prescription Systems, Inc. formed a 50/50 joint venture, SI/BAKER, INC. In 1998, Automated Prescription Systems, Inc. was renamed McKesson Automation Systems Inc. ("McKesson"). On September 19, 2003, the Company sold its entire ownership interest in SI/BAKER to McKesson pursuant to the terms of a Stock Purchase Agreement dated September 19, 2003 by and among the Company, McKesson, and SI/BAKER. 6 Ermanco Branded Products -- Conveyor Systems Segment - ---------------------------------------------------- Conveyor Systems - ---------------- Ermanco branded products encompass the conveyor and sortation systems segment of the business. Ermanco supplies material handling systems and equipment to both national and international markets. Ermanco offers services ranging from the delivery of basic transportation conveyors to turnkey installations of complex, fully automated work-in-process production lines and distribution centers, utilizing sophisticated, custom-designed controls software. Ermanco often combines various components of its technologies as part of a total system solution. Ermanco's accumulation technologies encompass XenoROL(R) line-shaft-driven live roller conveyors, NBA(TM)23 narrow belt accumulation conveyors, AccuROL(R) belt-driven live roller conveyors, and IntelliROL(R) motorized-roller conveyors. Ermanco's proven sortation systems include technologies such as urethane belt transfers (UBTs); ERS(R) right angle sorters; multi-stage, air-operated pushers; ESA60(R) swing arm diverters; NBS(R)30, NBS(R)90, and NBS(R)90SP narrow belt sorters. Ermanco's Command Systems Software(R), a suite of software routines, is available to meet the configuration, operation, and specific parameters of individual systems. Ermanco branded sales as a percent of total sales were 72.3%, 67.6%, and 61.0% for the years ended December 31, 2004, 2003, and 2002, respectively. ------------------------------ Product Warranty ---------------- The Company's products are warranted against defects in materials and workmanship for varying periods of time depending on customer requirements and the type of system sold, with a typical warranty period of one year. Sales and Marketing ------------------- The Company goes to market with a multiple brand, multiple channel strategy under the SI Systems and Ermanco brands. Each brand has its own focused sales force, utilizing the products and services currently available or under development within the Company. SI Systems - ---------- SI Systems' sales of SI Systems' branded products are made through SI Systems' internal sales personnel. The systems are sold on a fixed-price basis. Generally, contract terms provide for progress payments and a portion of the purchase price is withheld by the customer until the system has been accepted. Customers include major manufacturers, technology organizations, and distributors of a wide variety of products, as well as the U.S. government. A significant amount of business is derived from existing customers through the sale of additional systems, additions to existing systems, plus parts and service. The Company is not substantially dependent upon any one customer, however, the Company's business is dependent upon a limited number of customers. Ermanco - ------- Ermanco branded products are sold primarily through a worldwide network of approximately 100 experienced material handling equipment distributors and one licensee. The distributors locate opportunities that they may fulfill themselves by purchasing products and/or services from Ermanco and take the order in their name, acting as the system integrator, or they may elect to have Ermanco assume the role of system integrator. In the latter case, Ermanco will negotiate the contract with the end user and assume total system responsibility, providing the distributor with a "finder's fee." Approximately 85% of Ermanco's volume is orders processed by distributors, and 15% of the volume is orders processed with the end user. Depending upon the distribution channel that is used, the typical number of competitors on any particular project varies. A licensee is located in Japan, and global affiliates are located in Brazil, Canada, and the United Kingdom. Ermanco branded products and services are sold on a fixed-price 7 basis. Generally, contract terms are net 30 days for product and parts sales, with progress payments for system-type projects. Competition ----------- The material handling industry includes many products, devices, and systems competitive with those of the Company. As in the case of other technically oriented companies, there is a risk that the Company's business may be adversely affected by technological advances made by its competitors. However, the Company believes that its competitive advantages include its reputation in the material handling field and proven capabilities in the markets in which it concentrates. Its disadvantages include its relatively small size as compared to certain of its larger competitors. SI Systems - ---------- There are four principal competitors supplying equipment similar to the LO-TOW(R) system. Competition in this field is primarily in the areas of price, experience, systems performance, and features. SI Systems is a leading provider of LO-TOW(R) systems, based on Conveyor Equipment Manufacturers Association (CEMA) United States market statistics. The DISPEN-SI-MATIC(TM) system competes primarily with manual picking methods, and it also competes with similar devices provided by two other system manufacturers, along with various alternative picking technologies, such as general purpose "broken case" automated order fulfillment systems that have been sold for picking items of non-uniform configuration. The Company believes that the DISPEN-SI-MATIC(TM) system provides greater speed and accuracy than manual methods of collection and reduces damage, pilferage, and labor costs. Proprietary SINTHESIS(TM) software competes with other middleware that has been developed for order fulfillment logistics by a variety of software and/or hardware suppliers. The Company believes that SINTHESIS(TM) is superior to other software offerings, because it is based on a proven track record of successful applications that manage distribution centers by accepting order data from the customer's host business system and efficiently optimizing the full range of order fulfillment functions down to control of individual pieces of material handling equipment. Ermanco - ------- The 2004-2005 Conveyor Equipment Manufacturers Association yearbook includes 26 companies in the list of members in the Unit Handling Conveyors (Light to Medium) classification (SIC 353501). Twenty-two members report statistics on a monthly basis in this category, with booked sales of $1.02 billion in 2004. Many companies are involved in more than this one category. Many of these companies pursue opportunities with a direct sales force. Ermanco branded products are sold primarily through a distributor network of independently owned and operated companies as its primary channel. There are approximately 2,400 companies in the Conveying and Conveying Equipment - Wholesale classification (SIC 508410); however, this includes those companies involved in bulk material handling and unit conveyor handling. Raw Materials ------------- The Company has not been adversely affected by energy or raw materials shortages. Its Spring Lake, Michigan plant uses natural gas for heating and electricity to operate its machinery. The principal raw material purchased by the Company is steel, which the Company purchases from various suppliers. Steel prices have escalated during the past year; however, the Company has been able to pass these increased costs on to its customers. The Company also purchases components from various suppliers that are incorporated into the Company's finished products. Patents, Copyrights, and Licenses --------------------------------- The Company seeks patents, trademarks, and other intellectual property rights to protect and preserve its proprietary technology and its rights to capitalize on the results of research and development activities. The Company seeks copyright protection for its proprietary software. The Company also relies on trade secrets, know-how, technological innovations, and licensing opportunities to provide it with competitive advantages in its market and to accelerate new product introductions. 8 It is the Company's policy to require its professional and technical employees and consultants to execute confidentiality agreements at the time that they enter into employment or consulting relationships with the Company. These agreements provide that all confidential information developed by, or known to, the individual during the course of the individual's relationship with the Company, is to be kept confidential and not disclosed to third parties except in specific circumstances. In the case of employees, the agreement provides that all inventions conceived by the employee during his tenure at the Company will be the exclusive property of the Company. SI Systems - ---------- SI Systems holds eleven patents, of which eight have been issued in the United States, with lives that expire from November 2005 through May 2020; in addition, SI Systems has two pending patent applications. Significant design features of the LO-TOW(R), CARTRAC(R), DISPEN-SI-MATIC(TM), and Sortation systems are covered by patents or patent applications in the United States and pertain mainly to the following areas: loading and unloading products, speed and precision control, vehicle and carrier design, track design and assembly, accumulation of vehicles, simultaneous order requests processing equipment, and order fulfillment system designs. CARTRAC(R), ROBOLITE(R), ROBODRIVE(R), LO-TOW(R), SWITCH-CART(R), SI ORDERMATIC(R), and ACCUPIC(R) are registered trademarks of SI Systems. ROBORAIL(TM), DISPEN-SI-MATIC(TM), and SINTHESIS(TM) are trademarks of SI Systems. Ermanco - ------- Ermanco holds seven patents, of which all seven have been issued in the United States, with lives that expire from March 2005 through February 2021; in addition, Ermanco has five pending patent applications. Significant design features of sortation and accumulation conveyor systems are covered by patents or patent applications in the United States. XenoROL(R), EWX100(R), Command Systems Software (CSS)(R), ERS(R), ESA(R), LightWORX(R), NBS(R), XcelSORT(R), XenoPRESSURE(R), XenoSORT(R), XenoTRACTION(R), NBS(R)30, NBS(R)90, NBS(R)90SP, IntelliROL(R), and AccuROL(R) are registered trademarks of Ermanco. NBA(TM), NBT(TM), CRUZ(TM), RLC(TM), GAPmaster(TM), QUIKmeld(TM), AccuLIGHT(TM), and Dynamic Sensors(TM) are trademarks of Ermanco. Ermanco currently has a license agreement with a foreign company. This agreement permits the licensee to manufacture conveyors using Ermanco branded technology. Royalties are received based on sales volume. Royalty income received from license agreements in the years ended December 31, 2004, 2003, and 2002 was $42,000, $30,000, and $17,000, respectively. Product Development ------------------- Total product development costs, including patent expense, were $314,000, $400,000, and $358,000 for the years ended December 31, 2004, 2003, and 2002, respectively. The Company aggressively pursues continual research of new product development opportunities, with a concentrated effort to improve existing technologies that improve customer efficiency. The Company also develops new products and integration capabilities that are financed through customer projects. SI Systems - ---------- Product development costs, including patent expense, for SI Systems were $176,000, $259,000, and $180,000 for the years ended December 31, 2004, 2003, and 2002, respectively. SI Systems' development programs in the year ended December 31, 2004 were aimed at improvements to Order Fulfillment systems technologies. SI Systems' development programs in the year ended December 31, 2003 included SINTHESIS(TM) computer software for warehousing and distribution center operations and improvements to Order Fulfillment systems technologies. SI Systems' development programs in the year ended December 31, 2002 included improvements to Order Fulfillment systems technologies. 9 Ermanco - ------- Product development costs, including patent expense, for Ermanco were $138,000, $141,000, and $178,000 for the years ended December 31, 2004, 2003, and 2002, respectively. Ermanco's development programs in the year ended December 31, 2004 were aimed at enhancements to sortation and accumulation conveyor technologies. Ermanco's development programs in the year ended December 31, 2003 included the NBA(TM)23 narrow belt accumulation conveyor and improvements to narrow belt sorter conveyor technologies. Ermanco's development programs in the year ended December 31, 2002 included the new NBA(TM)23 narrow belt accumulation conveyor and improvements to narrow belt sorter conveyor technologies. Employees --------- As of December 31, 2004, the Company employed four executive officers. The Company provides life insurance, major medical insurance, retirement programs, and paid vacation and sick leave benefits, and considers its relations with employees to be satisfactory. SI Systems - ---------- As of December 31, 2004, the Company's Easton, Pennsylvania operation employed 43 office employees, including salespersons, draftspersons, and engineers. SI Systems also operates as a project manager in connection with the installation, integration, and service of its products generally utilizing subcontractors. Ermanco - ------- As of December 31, 2004, the Company's Spring Lake, Michigan operation employed 163 persons, including 64 office employees and 99 manufacturing employees. All manufacturing employees are collective bargaining personnel. The current collective bargaining agreement expires on May 31, 2007. Item 2. Properties - ------- ---------- SI Systems' principal office is located in a 173,000 square foot concrete, brick, and steel facility in Easton, Pennsylvania. In connection with the February 2003 sale of the Company's Easton, Pennsylvania facility, the Company entered into a leaseback arrangement for 25,000 square feet of office space for five years. The leasing agreement requires fixed monthly rentals of $17,703 (with annual increases of 3%). The terms of the lease also require the payment of a proportionate share of the facility's operating expenses. The lease expires on February 21, 2008. Ermanco's operations are located in a 94,000 square foot steel building in Spring Lake, Michigan. The building is leased from a limited liability company that is affiliated with the Company through a common director and officer of the Company, Messrs. Shulman and Kirschner. The leasing agreement, as amended, requires fixed monthly rentals of $29,310 (with annual increases of 2.5%). The terms of the lease require the payment by Ermanco of all taxes, insurance, and other ownership-related costs of the property. The lease, as amended on April 1, 2004, expires on September 30, 2008. The Company believes that its Spring Lake, Michigan facility is adequate for its current operations. The Company's operations experience fluctuations in workload due to the timing and receipt of new orders and customer job completion requirements. Currently, the Company's facilities are adequate to handle these fluctuations. In the event of an unusual demand in workload, the Company supplements its internal operations with outside subcontractors that perform services for the Company in order to complete contractual requirements for its customers. The Company will continue to utilize internal personnel and its own facilities and, when necessary and/or cost effective, outside subcontractors to complete contracts in a timely fashion in order to address the needs of its customers. 10 Item 3. Legal Proceedings - ------- ----------------- In July 2003, a competitor filed an action against the Company in the United States District Court for the District of New Jersey alleging that certain of the Company's products infringed patents held by the competitor and also asserting claims for breach of contract, unjust enrichment, unfair competition, tortious interference with prospective economic advantage, and violation of New Jersey's consumer fraud act as a result of alleged improper use of the competitor's trade secrets, technology, and other proprietary information. Based on these allegations, the competitor was seeking monetary damages and injunctive relief against the Company. In February 2004, a settlement was reached between the Company and the competitor. Under the settlement, the competitor dismissed the action and agreed that the Company's products involved in the litigation are immune from suit for infringement of any of the competitor's intellectual property rights. In exchange, Paragon agreed to dismiss its counterclaims and paid the competitor $1,125,000. Total costs associated with the litigation recognized during 2003, inclusive of settlement and legal costs, were $1,375,000. The Company is involved in various other claims and legal actions arising in the ordinary course of business. In the opinion of management, the ultimate disposition of these matters will not have a material adverse effect on the Company's consolidated financial position, results of operations, or liquidity. Item 4. Submission of Matters to a Vote of Security Holders - ------- --------------------------------------------------- No matters were submitted to a vote of security holders during the fourth quarter ended December 31, 2004. 11 PART II ------- Item 5. Market For The Registrant's Common Stock And Related Security - ------- ------------------------------------------------------------- Holder Matters -------------- The Company's common stock trades on the American Stock Exchange (Amex) under the symbol "PTG." The high and low sales prices for the years ended December 31, 2004 and 2003 are as follows:
For the Year Ended For the Year Ended December 31, 2004 December 31, 2003 ---------------------------- ---------------------------- High Low High Low ------------ ------------ ------------ ------------ First Quarter..................... 11.35 9.46 8.80 8.00 Second Quarter.................... 10.40 9.50 10.28 8.40 Third Quarter..................... 9.90 9.00 10.80 9.70 Fourth Quarter ................... 10.03 8.76 10.70 9.20
The Company did not pay cash dividends during the years ended December 31, 2004, 2003, and 2002, and has no present intention to declare cash dividends. Any determination to pay dividends in the future will be at the discretion of the Company's Board of Directors and will be dependent upon the Company's results of operations, financial condition, and other factors deemed relevant by the Company's Board of Directors. The number of holders of record of the Company's common stock as of December 31, 2004, as shown by the records of the Company's transfer agent was 310. This figure does not include individual participants in security position listings. The closing market price of the Company's common stock on March 24, 2005 was $7.85. Issuer Purchases of Equity Securities - ------------------------------------- The following table represents the periodic repurchases of equity securities made by the Company during the three months ended December 31, 2004:
- ----------------------------------------------------------------------------------------------------------- Total Number Approximate Average of Shares Approximate Dollar Value Price Paid Repurchased Dollar Value of Shares Total Per Share as Part of a of Shares That May Yet Number (Including Publicly Purchased Be Purchased Fiscal of Shares Brokerage Announced Under the Under the Period Repurchased Commissions) Program Program Program - ----------------------------------------------------------------------------------------------------------- 10/01/04 - 10/31/04 15,700 $ 9.19 15,700 $ 144,208 $ 674,368 11/01/04 - 11/30/04 - $ - - $ - $ 674,368 12/01/04 - 12/31/04 - $ - - $ - $ 674,368 ------ ---- ------ ------- 15,700 $ 9.19 15,700 $ 144,208 ====== ==== ====== ======= - -----------------------------------------------------------------------------------------------------------
In August 2004, the Company's Board of Directors approved a program to repurchase up to $1,000,000 of its outstanding common stock. As of December 31, 2004, the Company had repurchased 34,700 shares of common stock at a weighted average cost, including brokerage commissions, of $9.38 per share. Cash expenditures for the stock repurchases were $325,632. As of December 31, 2004, $674,368 remained available for repurchases under the stock repurchase program. Based on market conditions and other factors, additional repurchases may be made from time to time, in compliance with SEC regulations, in the open market or through privately negotiated transactions at the discretion of the Company. There is no expiration date with regards to the stock repurchase program. 12 Item 6. Selected Financial Data - ------- ----------------------- The following table sets forth the Company's selected consolidated financial information for each of the years in the five-year period ended December 31, 2004. The selected consolidated financial data presented below should be read in conjunction with Management's Discussion and Analysis of Financial Condition and Results of Operations and our Consolidated Financial Statements and Notes thereto included in this report. The historical results presented herein may not be indicative of future results. The information presented below is in thousands, except per share amounts.
For the Years Ended ------------------------------------------------------------------ 12/31/04 12/31/03 12/31/02 12/31/01 12/31/00 ------------- ------------ ------------ ------------- ------------ Net sales................... $42,255 37,295 38,224 50,752 64,306 Net earnings (loss)......... 1,473 3,785 663 (62) 3,480 Basic earnings (loss) per share................. .34 .89 .16 (.01) .83 Diluted earnings (loss) per share................. .34 .87 .15 (.01) .82 Total assets................ 32,705 33,774 36,703 41,343 45,917 Long-term liabilities....... 2,489 2,159 9,402 11,074 13,744 Cash dividends per share..................... - - - - -
13 Item 7. Management's Discussion And Analysis Of Financial Condition And - ------- --------------------------------------------------------------- Results Of Operations --------------------- The following discussion and analysis of the Company's financial condition and results of operations should be read in conjunction with the consolidated financial statements and related notes thereto included in this Annual Report on Form 10-K for the year ended December 31, 2004. The discussion and analysis contains "forward-looking statements" based on management's current expectations, assumptions, estimates, and projections. These forward-looking statements involve risks and uncertainties. The Company's actual results could differ materially from those included in these "forward-looking statements" as a result of certain factors, as more fully discussed in Exhibit 99.1. ------------------------------ Business Overview - ----------------- Paragon Technologies, Inc. provides a variety of material handling solutions, including systems, technologies, products, and services for material flow applications. The Company has gone to market with a multiple brand, multiple channel strategy under the SI Systems and Ermanco brands. Founded in 1958, SI Systems material handling solutions are based on core technologies in horizontal transportation and order fulfillment and are aimed at improving productivity for manufacturing, assembly, and distribution center operations. Since 1964, Ermanco conveyor technologies and integrated conveyor systems are based on core technologies in transportation, accumulation, and sortation and continue to address the needs of the distribution, assembly, and manufacturing marketplace. Ermanco is known as the originator of the line-shaft-driven, live-roller conveyor. ------------------------------ Key Performance Metrics Relevant to the Company - ----------------------------------------------- Capacity Utilization -------------------- Capacity Utilization, as documented in the Federal Reserve Statistical Release(1), is a key economic indicator that the Company follows as a barometer that may lead to capital spending for material handling systems. Capacity Utilization attempts to measure what percent of available capacity is actually being utilized. Management believes that when Capacity Utilization rises above 80%, as occurred in fiscal 2000, the Company may see an increase in the rate of new orders, and therefore, an increase in backlog and sales may also occur. The backlog of orders represents the uncompleted portion of systems contracts along with the value of parts and services from customer purchase orders related to goods that have not been shipped or services that have not been rendered. Backlog is generally indicative of customer demand for the Company's products. As the demand for the Company's products increases, the backlog of orders, the rate of new orders, and sales also typically increases. The following table depicts the Company's backlog, orders, sales, and Capacity Utilization for the years ended December 31, 2004, 2003, 2002, 2001, and 2000:
(Dollars in Thousands) 2004 2003 2002 2001 2000 ----------- ----------- ----------- ---------- ---------- Backlog of orders -- Beginning....... $ 10,525 6,924 13,342 22,913 23,685 Add: orders........................ 42,936 40,896 31,806 41,181 63,534 Less: sales........................ 42,255 37,295 38,224 50,752 64,306 ------ ------ ------ ------ ------ Backlog of orders -- Ending.......... $ 11,206 10,525 6,924 13,342 22,913 ====== ====== ====== ====== ====== Capacity Utilization(1).............. 78.0% 74.8% 75.6% 77.4% 82.6%
14 Item 7. Management's Discussion And Analysis Of Financial Condition And - ------- --------------------------------------------------------------- Results Of Operations --------------------- Key Performance Metrics Relevant to the Company (Continued) - ----------------------------------------------- Current Ratio ------------- The Company's current ratio, which is the ratio of current assets to current liabilities, has been relatively consistent. Management of the Company monitors the current ratio as a measure of determining liquidity and believes the current ratio illustrates that the Company's financial resources are adequate to satisfy its future cash requirements through the next year. The following table depicts the Company's current assets, current liabilities, and current ratio for the years ended December 31, 2004, 2003, 2002, 2001, and 2000:
(Dollars in Thousands) 2004 2003 2002 2001 2000 ----------- ----------- ----------- ---------- ---------- Current assets...................... $ 13,802 14,691 15,444 19,200 22,850 ------ ------ ------ ------ ------ Current liabilities................. $ 6,908 9,554 9,416 13,357 15,193 Current ratio..................... 2.00 1.54 1.64 1.44 1.50
Debt to Equity Ratio -------------------- With an emphasis over the past several years on generating cash flows to eliminate the Company's senior and subordinated debt, the Company has eliminated its financial leverage as evidenced by its debt to equity ratio, which is the ratio of total debt to stockholders' equity. Management believes the absence of debt provides greater protection for its stockholders and enhances the Company's ability to obtain additional financing, if required. The following table illustrates the calculation of the debt to equity ratio for the years ended December 31, 2004, 2003, 2002, 2001, and 2000:
(Dollars in Thousands) 2004 2003 2002 2001 2000 ----------- ----------- ----------- ---------- ---------- Current installments of long-term debt....................... $ - - 1,437 2,305 1,521 Long-term debt......................... - - 7,263 9,900 12,780 ------ ------ ------ ------ ------ Total debt............................. - - 8,700 12,205 14,301 ------ ------ ------ ------ ------ Total stockholders' equity............. $ 23,308 22,061 17,885 16,912 16,980 ====== ====== ====== ====== ====== Debt to equity ratio................... - - .49 .72 .84
------------------------------ Critical Accounting Policies and Estimates - ------------------------------------------ The 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 U.S. generally accepted accounting principles. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amount of assets and liabilities, revenues and expenses, and other financial information, including the related disclosure of commitments and contingencies at the date of our financial statements. Actual results may, under different assumptions and conditions, differ significantly from our estimates. We believe that our accounting policies related to revenue recognition on system sales, warranty, inventories, allowance for doubtful accounts, and asset impairment as described below, are our "critical accounting policies." These policies have been reviewed with the Audit Committee of the Board of Directors and are discussed in greater detail below. 15 Item 7. Management's Discussion And Analysis Of Financial Condition And - ------- --------------------------------------------------------------- Results Of Operations --------------------- Critical Accounting Policies and Estimates (Continued) - ------------------------------------------ Revenue Recognition on Systems Sales ------------------------------------ Revenues on systems contracts, accounted for in accordance with SOP 81-1 of the American Institute of Certified Public Accountants, are recorded on the basis of the Company's estimates of the percentage of completion of individual contracts. Gross margin is recognized on the basis of the ratio of aggregate costs incurred to date to the most recent estimate of total costs. As contracts may extend over one or more years, revisions in cost and profit estimates during the course of the work are reflected in the accounting periods in which the facts requiring revisions become known. At the time a loss on a contract becomes known, the entire amount of the estimated ultimate loss is accrued. As of December 31, 2004, there are no contracts that are anticipated to result in a loss. The Company believes that it has the ability to reasonably estimate the total costs and applicable gross profit margins at the inception of the contract for all of its systems contracts. However, where cost estimates change, there could be a significant impact on the amount of revenue recognized. The Company's failure to estimate accurately can result in cost overruns which will result in the loss of profits if the Company determines that it has significantly underestimated the costs involved in completing contracts. The Company has not had any significant cost overruns resulting in loss of profits during the past three years. Accrued Product Warranty ------------------------ The Company's products are warranted against defects in materials and workmanship for varying periods of time depending on customer requirements and the type of system sold, with a typical warranty period of one year. The Company provides an accrual for estimated future warranty costs and potential product liability claims based upon a percentage of cost of sales, ranging from one to two percent depending on the type of system sold, and a detailed review of products still in the warranty period. Historically, the level of warranty reserve has been appropriate based on management's assessment of estimated future warranty claims. However, if unanticipated warranty issues arise in the future, there could be a significant impact on the recorded warranty reserve. The recorded warranty reserve as of December 31, 2004 is $655,000. Inventories ----------- Inventories are valued at the lower of average cost or market. The Company provides an inventory reserve determined by a specific identification of individual slow moving items and other inventory items based on historical experience. The reserve is considered to be a write-down of inventory to a new cost basis. Upon disposal of inventory, the cost and related inventory reserve are removed from the accounts. Historically, the level of inventory reserve has been appropriate based on management's assessment of estimated future inventory disposals. Allowance for Doubtful Accounts ------------------------------- The Company provides an allowance for doubtful accounts determined by a specific identification of individual accounts and other accounts based on historical experience. The Company writes off receivables upon determination that no further collections are probable. Historically, receivable write-offs have not had a material impact on the Company's financial statements. 16 Item 7. Management's Discussion And Analysis Of Financial Condition And - ------- --------------------------------------------------------------- Results Of Operations --------------------- Critical Accounting Policies and Estimates (Continued) - ------------------------------------------ Asset Impairment ---------------- During 2004, the Company performed the required impairment test of goodwill and determined that there was no impairment. In assessing the recoverability of the Company's goodwill, the Company must make assumptions regarding estimated future cash flows and other factors to determine the fair value of its reporting units. If these estimates or their related assumptions change, the Company may be required to record impairment charges in the future. The book value of goodwill as of December 31, 2004 is $17,657,000. ------------------------------ 17 Item 7. Management's Discussion And Analysis Of Financial Condition And - ------- --------------------------------------------------------------- Results Of Operations (Continued) --------------------- Results of Operations - Year Ended December 31, 2004 Compared to the Year Ended - ------------------------------------------------------------------------------- December 31, 2003 - ----------------- Earnings Summary - ---------------- The Company had net earnings of $1,473,000 (or $0.34 basic earnings per share) for the year ended December 31, 2004, compared to net earnings of $3,785,000 (or $0.89 basic earnings per share) for the year ended December 31, 2003. The decrease in net earnings was primarily due to the prior year comparable period containing: o a pre-tax gain on the sale of the Company's ownership interest in the SI/BAKER joint venture of $4,901,000; o a pre-tax gain on the sale-leaseback of the Company's Easton, Pennsylvania facility of $1,363,000; o a restructuring credit of $264,000 pertaining to the final settlement of the remaining pension obligations associated with the Company's terminated pension plan and the reversal of a previously established severance accrual that was no longer required; o equity in income of the Company's former SI/BAKER joint venture of $256,000; and o royalty income from the Company's former SI/BAKER joint venture of $226,000. Partially offsetting the above decrease in net earnings for the year ended December 31, 2004 was: o an increase during 2004 in total revenues and gross profit of $4,960,000 and $1,530,000, respectively, as described below; o the prior year comparable period containing settlement and legal costs of $1,375,000 associated with an action against the Company by a competitor relating to the Company's intellectual property; and o a reduction of $672,000 in interest expense as a result of the elimination of the Company's senior and subordinated debt in September 2003. Net Sales and Gross Profit on Sales - -----------------------------------
2004 2003 ----------------- ----------------- Net sales.............................................. $ 42,255,000 37,295,000 Cost of sales.......................................... 31,277,000 27,847,000 ---------- ---------- Gross profit on sales.................................. $ 10,978,000 9,448,000 ========== -========= Gross profit as a percentage of sales.................. 26.0% 25.3% ==== ====
The net sales increase was attributable to an increase in Ermanco branded sales of $5,341,000, partially offset by a decline of approximately $381,000 in SI Systems branded sales. The increase in Ermanco branded sales was primarily attributable to a larger backlog of Ermanco branded orders entering fiscal 2004 when compared to the backlog of Ermanco branded orders entering fiscal 2003. The decline in SI Systems branded sales was associated with delays in customer buying decisions and competitive pressures. Gross profit, as a percentage of sales, for the year ended December 31, 2004, when compared to the year ended December 31, 2003, was favorably impacted by approximately 1.5% due to product mix, and unfavorably impacted by approximately .8% due primarily to costs related to enhancing the Company's operations. 18 Item 7. Management's Discussion And Analysis Of Financial Condition And - ------- --------------------------------------------------------------- Results Of Operations --------------------- Results of Operations - Year Ended December 31, 2004 Compared to the Year Ended - ------------------------------------------------------------------------------- December 31, 2003 (Continued) - ----------------- Selling, General and Administrative Expenses - -------------------------------------------- Selling, general and administrative expenses of $8,703,000 were lower by $733,000 for the year ended December 31, 2004 than for the year ended December 31, 2003. The decrease of $733,000 was comprised of: o settlement and legal costs of $1,375,000 in 2003 associated with an action against the Company by a competitor relating to the Company's intellectual property; o severance charges of $387,000 in 2003 versus $163,000 in 2004; and o collections of $172,000 during 2004 on accounts receivable previously recognized as uncollectible. Partially offsetting these decreases were the addition of resources aimed at expanding the customer base and an increase in salaries and fringes totaling $557,000, and an increase in consulting and marketing expenses primarily associated with product promotion and marketing research totaling $414,000. Restructuring Charges (Credits) - ------------------------------ In 2001, the Company restructured its business operations, including curtailment of a defined benefit plan. In February 2003, the Company settled its remaining obligations by purchasing annuities for those participants who elected that payment option and correspondingly recorded a restructuring credit of $170,000 during 2003. In addition, during 2003 the Company recorded a restructuring credit of $94,000 associated with the reversal of a previously established severance accrual that was no longer required. Interest Expense - ---------------- In September 2003, the Company repaid all of its outstanding senior and subordinated debt. The Company had no interest expense related to senior and subordinated debt in the year ended December 31, 2004 as compared to $676,000 of interest expense for the year ended December 31, 2003. Equity in Income of Joint Ventures - ---------------------------------- In September 2003, the Company sold its entire ownership interest in SI/BAKER, INC. During the year ended December 31, 2003, equity in income of the SI/BAKER joint venture was $256,000. Gain on Sale of SI/BAKER Joint Venture - -------------------------------------- In September 2003, the Company sold its entire ownership interest in SI/BAKER, INC. The sale resulted in a gain of $4,901,000 in 2003. Gain on Disposition of Property, Plant and Equipment - ---------------------------------------------------- The gain on the disposition of property, plant and equipment of $1,354,000 for 2003 was primarily attributable to the sale-leaseback on the Company's Easton, Pennsylvania facility in February 2003. The sale-leaseback resulted in a total gain of $2,189,000, of which $1,363,000 was recorded in 2003. The remaining gain of $826,000 was deferred and is being recognized as a reduction in rent expense over the five-year term of the lease. 19 Item 7. Management's Discussion And Analysis Of Financial Condition And - ------- --------------------------------------------------------------- Results Of Operations --------------------- Results of Operations - Year Ended December 31, 2004 Compared to the Year Ended - ------------------------------------------------------------------------------- December 31, 2003 (Continued) - ----------------- Other Income, Net - ----------------- In September 2003, the Company sold its entire ownership interest in SI/BAKER, INC. The unfavorable variance of $239,000 in other income, net for the year ended December 31, 2004 as compared to the year ended December 31, 2003 was primarily attributable to revenue-based royalty income from the Company's SI/BAKER joint venture recognized during the first nine months of 2003. Income Tax Expense - ------------------ The Company recognized income tax expense of $743,000 during the year ended December 31, 2004, compared to income tax expense of $2,424,000 during the year ended December 31, 2003. Income tax expense was generally recorded at statutory federal and state tax rates. Income tax expense for the year ended December 31, 2004 was lower than the statutory federal and state tax rates, primarily as a result of a change in the state effective tax rate. ------------------------------ Results of Operations - Year Ended December 31, 2003 Compared to the Year - ------------------------------------------------------------------------- Ended December 31, 2002 - ----------------------- Earnings Summary - ---------------- The Company had net earnings of $3,785,000 (or $0.89 basic earnings per share) for the year ended December 31, 2003, compared to net earnings of $663,000 (or $0.16 basic earnings per share) for the year ended December 31, 2002. The increase in net earnings was primarily due to: o a pre-tax gain on the sale of the Company's ownership interest in the SI/BAKER joint venture of $4,901,000; o a pre-tax gain on the sale-leaseback of the Company's Easton, Pennsylvania facility of $1,363,000; o a reduction in selling, general and administrative expenses of $497,000, exclusive of settlement and legal costs mentioned below; and o a reduction in interest expense of $370,000. Partially offsetting the favorable impact of the aforementioned items was: o settlement and legal costs of $1,375,000 associated with an action against the Company by a competitor relating to the Company's intellectual property; and o a restructuring credit of $264,000 in 2003 pertaining to the final settlement of the remaining pension obligations associated with the Company's terminated pension plan and the reversal of a previously established severance accrual that was no longer required versus a restructuring credit of $859,000 in 2002 pertaining to the partial settlement of the remaining pension obligations associated with the Company's terminated pension plan. Net Sales and Gross Profit on Sales - -----------------------------------
2003 2002 ---------------- ---------------- Net sales............................................. $ 37,295,000 38,224,000 Cost of sales......................................... 27,847,000 28,951,000 ---------- ---------- Gross profit on sales................................. $ 9,448,000 9,273,000 ========== ========== Gross profit as a percentage of sales................. 25.3% 24.3% ==== ====
20 Item 7. Management's Discussion And Analysis Of Financial Condition And - ------- --------------------------------------------------------------- Results Of Operations --------------------- Results of Operations - Year Ended December 31, 2003 Compared to the Year - ------------------------------------------------------------------------- Ended December 31, 2002 (Continued) - ----------------------- Net Sales and Gross Profit on Sales (Continued) - ----------------------------------- The net sales decrease was attributable to a decreased volume of SI Systems' branded sales of $2,823,000 associated with the current economic slowdown and competitive pricing pressures, offset by an increase in Ermanco branded sales of $1,894,000. The increase in Ermanco branded sales was primarily due to an equivalent increase in sales to health and beauty aids and mail processing related customers as a result of a slight recovery in these industry sectors in 2003 as compared to 2002. Gross profit, as a percentage of sales, for the year ended December 31, 2003 was favorably impacted by approximately 2.1% due to a reduction in overhead costs and approximately .5% due to the favorable performance on the Company's contracts and product mix during 2003 as compared to 2002. Gross profit, as a percentage of sales, for 2002 was favorably impacted by approximately 1.5% as a result of the reversal of previously established contract accruals due to changes in cost estimates. Selling, General and Administrative Expenses - -------------------------------------------- Selling, general and administrative expenses of $9,436,000 were higher by $878,000 for the year ended December 31, 2003 than for the year ended December 31, 2002. The increase of $878,000 was comprised of: o settlement and legal costs of $1,375,000 associated with an action against the Company by a competitor relating to the Company's intellectual property; and o severance charges of $387,000 in 2003 versus $154,000 in 2002. Partially offsetting the aforementioned unfavorable variance were cost savings of approximately $700,000 attributable to headcount reductions in the prior fiscal year and an emphasis on cost reduction, including reduced facility operating costs as a result of the Company's sale of its Easton, Pennsylvania facility. Restructuring Charges (Credits) - ------------------------------ In 2001, the Company restructured its business operations, including curtailment of a defined benefit plan, and recorded a charge of $1,538,000 for restructuring costs. In December 2002, the Company partially settled its obligations by making lump-sum distributions to those participants who elected that payment option and correspondingly recorded a restructuring credit of $859,000 during 2002. In February 2003, the Company settled its remaining obligations by purchasing annuities for those participants who elected that payment option and correspondingly recorded a restructuring credit of $170,000 during 2003. In addition, during 2003 the Company recorded a restructuring credit of $94,000 associated with the reversal of a previously established severance accrual that was no longer required. Interest Expense - ---------------- Interest expense of $676,000 was lower by $370,000 for the year ended December 31, 2003 than for the year ended December 31, 2002. The decrease in interest expense was attributable to the reduced level of long-term debt due to principal payments and lower interest rates and the reversal of approximately $174,000 of previously accrued interest on subordinated notes payable and the impact of the change in the fair value of the interest rate swap agreement. Partially offsetting the favorable variance were non-cash interest charges of $306,000 associated with the settlement of the interest rate swap contract. 21 Item 7. Management's Discussion And Analysis Of Financial Condition And - ------- --------------------------------------------------------------- Results Of Operations --------------------- Results of Operations - Year Ended December 31, 2003 Compared to the Year - ------------------------------------------------------------------------- Ended December 31, 2002 (Continued) - ----------------------- Equity in Income of Joint Ventures - ---------------------------------- Equity in income of joint venture represents the Company's proportionate share (50%) of its investment in the SI/BAKER joint venture that was being accounted for under the equity method until the September 19, 2003 Closing Date of the Sale of the Company's ownership interest in the SI/BAKER joint venture. The favorable variance of $198,000 for the year ended December 31, 2003 in the equity in income of the SI/BAKER joint venture was due to increased operating results of SI/BAKER in 2003 as compared to 2002. Gain on Sale of SI/BAKER Joint Venture - -------------------------------------- In September 2003, the Company sold its entire ownership interest in SI/BAKER, INC. The sale resulted in a gain of $4,901,000 in 2003. Gain on Disposition of Property, Plant and Equipment - ---------------------------------------------------- The gain on the disposition of property, plant and equipment of $1,354,000 was higher by $1,260,000 for 2003 as compared to 2002. In 2003, the disposition of property, plant and equipment was primarily attributable to the sale-leaseback on the Company's Easton, Pennsylvania facility. The sale-leaseback resulted in a total gain of $2,189,000, of which $1,363,000 was recorded in 2003. The remaining gain of $826,000 was deferred and is being recognized as a reduction in rent expense over the five-year term of the lease. In 2002, the Company sold fixed assets that resulted in a gain of $94,000 in 2002. Other Income, Net - ----------------- The unfavorable variance of $74,000 in other income, net for the year ended December 31, 2003 as compared to the year ended December 31, 2002 was primarily attributable to 2002 containing $300,000 of short-term rental income relating to certain real property of the Company's Easton, Pennsylvania facility. Partially offsetting the unfavorable variance was an increase of $206,000 in revenue-based royalty income from the Company's SI/BAKER joint venture and license agreements related to material handling system sales during the year ended December 31, 2003. Income Tax Expense - ------------------ The Company recognized income tax expense of $2,424,000 during the year ended December 31, 2003, compared to income tax expense of $267,000 during the year ended December 31, 2002. Income tax expense was generally recorded at statutory federal and state tax rates. Income tax expense for the year ended December 31, 2002 was lower than the statutory federal and state tax rates primarily as a result of a tax benefit of approximately $109,000 for a dividend received deduction for distributions from the Company's former SI/BAKER joint venture. ------------------------------ 22 Item 7. Management's Discussion And Analysis Of Financial Condition And - ------- --------------------------------------------------------------- Results Of Operations (Continued) --------------------- Liquidity and Capital Resources - ------------------------------- The Company's cash and cash equivalents decreased to $3,602,000 at December 31, 2004 from $5,591,000 at December 31, 2003. The decrease resulted primarily from: o cash used by operating activities totaling $1,473,000; o purchases of capital equipment of $261,000; and o repurchase and retirement of common stock of $325,000. Cash used by operating activities of $1,473,000 during the year ended December 31, 2004 as compared to cash provided by operating activities of $329,000 during the year ended December 31, 2003 decreased primarily due to the payment of settlement and legal costs of $1,197,000 associated with an action against the Company by a competitor relating to the Company's intellectual property. Also contributing to cash provided by operating activities during the year ended December 31, 2003 was the receipt of a federal income tax refund of $1,093,000 and the receipt of a $1,000,000 cash dividend from the SI/BAKER joint venture. In 2003, the Company repaid all of its outstanding term debt and subordinated debt. The Company's line of credit facility may not exceed $5,000,000; $4,800,000 is available and is to be used primarily for working capital purposes. The line of credit facility contains various non-financial covenants and is secured by all accounts receivables and inventory. As of December 31, 2004, the Company did not have any borrowings under the line of credit facility, and the line of credit facility expires effective June 30, 2005. The Company expects to renew the line of credit facility under similar terms and conditions during 2005. The Company anticipates that its financial resources, consisting of cash generated from operations and its line of credit, will be adequate to satisfy its future cash requirements through the next year. Sales volume, as well as cash liquidity, may experience fluctuations due to the unpredictability of future contract sales and the dependence upon a limited number of large contracts with a limited number of customers. The Company is currently exploring various business strategies designed to enhance the value of the Company's assets for its stockholders over the long term. The Company has retained the investment banking firm, Boenning & Scattergood, Inc., to advise the Company in evaluating its strategic options. The Company is continuing to evaluate and actively explore a range of possible options, including mergers, acquisitions, the possible sale of the Company or one or more of its divisions. The Company may not be able to effect any of these strategic options on favorable terms or at all. ------------------------------ 23 Item 7. Management's Discussion And Analysis Of Financial Condition And - ------- --------------------------------------------------------------- Results Of Operations (Continued) --------------------- Contractual Obligations - ----------------------- Ermanco's operations are located in a 94,000 square foot steel building in Spring Lake, Michigan. The building is leased from a limited liability company that is affiliated with the Company through a common director and officer of the Company, Messrs. Shulman and Kirschner. The leasing agreement, as amended, requires fixed monthly rentals of $29,310 (with annual increases of 2.5%). The terms of the lease require the payment by Ermanco of all taxes, insurance, and other ownership related costs of the property. The lease, as amended on April 1, 2004, expires on September 30, 2008. In connection with the February 2003 sale of the Company's Easton, Pennsylvania facility, the Company entered into a leaseback arrangement for 25,000 square feet of office space for five years. The leasing agreement requires fixed monthly rentals of $17,703 (with annual increases of 3%). The terms of the lease also require the payment of a proportionate share of the facility's operating expenses. The lease expires on February 21, 2008. The Company also leases certain office equipment, computer equipment, and software under various operating leases with terms extending through September 2007. Future contractual obligations and commercial commitments at December 31, 2004 as noted above are as follows:
Payments Due by Period ----------------------------------------------------------------------------- Less Than Total 1 Year 2 Years 3 Years 4 Years 5 Years ----- --------- ------- ------- ------- ------- Contractual obligations: Operating leases........ $ 2,150,000 636,000 590,000 606,000 318,000 - --------- -------- ------- ------- ------- ------- Total......... $ 2,150,000 636,000 590,000 606,000 318,000 - ========= ======= ======= ======= ======= =======
Amount of Commitment Expiration Per Period ------------------------------------------------------------------ Total Amounts Less Than Committed 1 Year 2 Years 3 Years 4 Years 5 Years ------------- --------- ------- ------- ------- ------- Other commercial commitments: Letters of credit........ $200,000 200,000 - - - -
In addition to the obligations noted above, the Company also has an employment agreement with Leon C. Kirschner, Chief Operating Officer of the Company and President of Ermanco Incorporated. Terms of the employment agreement include a base salary of $272,328 per year. Mr. Kirschner has the right to terminate the employment agreement voluntarily by giving the Company written notice of such termination no less than 180 days prior to the effective date of the termination. Under certain circumstances, the employment agreement provides for post termination severance payments. Off-Balance Sheet Arrangements - ------------------------------ As of December 31, 2004, the Company had no off-balance sheet arrangements in the nature of guarantee contracts, retained or contingent interests in assets transferred to unconsolidated entities (or similar arrangements serving as credit, liquidity, or market risk support to unconsolidated entities for any such assets), or obligations (including contingent obligations) arising out of variable interests in unconsolidated entities providing financing, liquidity, market risk, or credit risk support to the Company, or that engage in leasing, hedging, or research and development services with the Company. ------------------------------ 24 Item 7. Management's Discussion And Analysis Of Financial Condition And - ------- --------------------------------------------------------------- Results Of Operations (Continued) --------------------- Recently Issued Accounting Pronouncements - ----------------------------------------- In December 2003, the Company adopted SFAS No. 132 (revised), "Employers' Disclosures about Pensions and Other Postretirement Benefits" ("FAS 132R") as amended. This standard retains the existing disclosures and requires additional disclosures to provide details about pension plan assets, benefit obligations, cash flows, benefit costs, and related information. The disclosure requirements are included in the Company's financial statements. In November 2004, the Financial Accounting Standards Board issued SFAS No. 151, "Inventory Costs an Amendment of ARB No. 43, Chapter 4" ("FAS 151"). FAS 151 provides for certain fixed production overhead cost to be reflected as a period cost and not capitalized as inventory. FAS 151 is effective for the beginning of 2006. The adoption of FAS 151 is not expected to have a material impact on the Company's financial statements. In December 2004, the Financial Accounting Standards Board issued SFAS No. 123 (revised) "Share-Based Payment" ("FAS 123R"). FAS 123R addresses all forms of share-based payment awards, including shares issued under employee stock purchase plans, stock options, restricted stock, and stock appreciation rights. It will require companies to recognize in the statement of operations the grant-date fair value of stock options and other equity-based compensation issued to employees, but expresses no preference for a type of valuation model. The statement eliminates the intrinsic value-based method prescribed by APB Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations, that the Company current uses. The Company is required to adopt FAS 123R beginning in the third quarter of 2005. The adoption of FAS 123R is not expected to have a material impact on the Company's financial statements. Item 7a. Quantitative and Qualitative Disclosures about Market Risk - ------- ---------------------------------------------------------- The Company does not believe that its exposures to interest rate risk or foreign currency exchange risk, risks from commodity prices, equity prices and other market changes that affect market risk sensitive instruments are material to its results of operations. 25 Item 8. Consolidated Financial Statements and Supplementary Data - ------- -------------------------------------------------------- I N D E X o Report of Independent Registered Public Accounting Firm. o Consolidated Financial Statements: Consolidated Balance Sheets, December 31, 2004 and 2003. Consolidated Statements of Operations for the years ended December 31, 2004, 2003, and 2002. Consolidated Statements of Stockholders' Equity for the years ended December 31, 2004, 2003, and 2002. Consolidated Statements of Cash Flows for the years ended December 31, 2004, 2003, and 2002. Notes to Consolidated Financial Statements. o Financial Statement Schedule for the years ended December 31, 2004, 2003, and 2002: II - Valuation and qualifying accounts o All other schedules are omitted as the required information is inapplicable or the information is presented in the consolidated financial statements or related notes. 26 Report of Independent Registered Public Accounting Firm ------------------------------------------------------- The Board of Directors and Stockholders Paragon Technologies, Inc. We have audited the consolidated financial statements of Paragon Technologies, Inc. and subsidiary as listed in the accompanying index. In connection with our audits of the consolidated financial statements, we also have audited the financial statement schedule as listed in the accompanying index. These consolidated financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedule based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Paragon Technologies, Inc. and subsidiary as of December 31, 2004 and 2003, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2004, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein. /s/ KPMG LLP Philadelphia, PA March 4, 2005 27 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Consolidated Balance Sheets December 31, 2004 and 2003 (In Thousands, Except Share Data)
December 31, December 31, 2004 2003 ------------------- ------------------ Assets - ------ Current assets: Cash and cash equivalents.......................... $ 3,602 5,591 Receivables: Trade (net of allowance for doubtful accounts of $231 as of December 31, 2004 and $265 as of December 31, 2003).......................................... 5,756 5,277 Notes and other receivables...................... 244 38 ------ ------ Total receivables.............................. 6,000 5,315 ------ ------ Costs and estimated earnings in excess of billings......................................... 1,059 521 Inventories: Raw materials.................................... 1,175 926 Work-in-process.................................. 246 106 Finished goods................................... 195 159 ------ ------ Total inventories.............................. 1,616 1,191 ------ ------ Deferred income tax benefits....................... 889 1,444 Prepaid expenses and other current assets.......... 636 629 ------ ------ Total current assets............................. 13,802 14,691 ------ ------ Property, plant and equipment, at cost: Leasehold improvements............................. 228 228 Machinery and equipment............................ 3,752 3,643 ------ ------ 3,980 3,871 Less: accumulated depreciation.................... 2,744 2,455 ------ ------ Net property, plant and equipment................ 1,236 1,416 ------ ------ Goodwill.............................................. 17,657 17,657 Other assets.......................................... 10 10 ------ ------ Total assets..................................... $ 32,705 33,774 ====== ======
See accompanying notes to consolidated financial statements. 28 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Consolidated Balance Sheets December 31, 2004 and 2003 (In Thousands, Except Share Data)
December 31, December 31, 2004 2003 ------------------- ------------------ Liabilities and Stockholders' Equity - ------------------------------------ Current liabilities: Accounts payable...................................... $ 3,000 2,671 Customers' deposits and billings in excess of costs and estimated earnings........................ 1,560 2,180 Accrued salaries, wages, and commissions.............. 428 304 Income taxes payable.................................. 58 894 Accrued product warranty.............................. 655 925 Deferred gain on sale-leaseback....................... 165 165 Accrued other liabilities............................. 1,042 2,415 ------ ------ Total current liabilities......................... 6,908 9,554 ------ ------ Long-term liabilities: Deferred gain on sale-leaseback....................... 358 523 Deferred income taxes payable......................... 2,131 1,594 Deferred compensation................................. - 42 ------ ------ Total long-term liabilities....................... 2,489 2,159 ------ ------ Commitments and contingencies Stockholders' equity: Common stock, $1 par value; authorized 20,000,000 shares; issued and outstanding 4,265,310 shares as of December 31, 2004 and 4,277,595 shares as of December 31, 2003................................................ 4,265 4,278 Additional paid-in capital............................ 7,996 7,678 Retained earnings..................................... 11,047 10,105 ------ ------ Total stockholders' equity........................ 23,308 22,061 ------ ------ Total liabilities and stockholders' equity........ $ 32,705 33,774 ====== ======
See accompanying notes to consolidated financial statements. 29 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Consolidated Statements Of Operations For the Years Ended December 31, 2004, 2003, and 2002 (In Thousands, Except Share and Per Share Data)
December 31, December 31, December 31, 2004 2003 2002 ---------------- ---------------- ---------------- Net sales................................. $ 42,255 37,295 38,224 Cost of sales............................. 31,277 27,847 28,951 --------- ---------- --------- Gross profit on sales.................. 10,978 9,448 9,273 --------- ---------- --------- Selling, general and administrative expenses 8,703 9,436 8,558 Product development costs................. 314 400 358 Restructuring charges (credits)........... - (264) (859) Interest expense.......................... 4 676 1,046 Interest income........................... (76) (76) (112) Equity in income of joint venture......... - (256) (58) Gain on sale of SI/BAKER joint venture.......................... - (4,901) - Gain on disposition of property, plant and equipment.......... - (1,354) (94) Other income, net......................... (183) (422) (496) --------- --------- --------- 8,762 3,239 8,343 --------- --------- --------- Earnings before income taxes.................................. 2,216 6,209 930 Income tax expense........................ 743 2,424 267 --------- --------- --------- Net earnings........................... $ 1,473 3,785 663 ========= ========= ========= Basic earnings per share.................. $ .34 .89 .16 ========= ========= ========= Diluted earnings per share................ $ .34 .87 .15 ========== ========= ========= Weighted average shares outstanding............................ 4,278,065 4,269,274 4,231,878 Dilutive effect of stock options.......... 72,232 95,438 64,706 Dilutive effect of phantom stock units.................................. - - 3,609 --------- --------- --------- Weighted average shares outstanding assuming dilution.......... 4,350,297 4,364,712 4,300,193 ========== ========== =========
See accompanying notes to consolidated financial statements. 30 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Consolidated Statements of Stockholders' Equity For the Years Ended December 31, 2004, 2003, and 2002 (In Thousands, Except Share Data)
Accumulated Common Shares Additional Other Total ------------------ Paid-In Retained Comprehensive Stockholders' Comprehensive Number Amount Capital Earnings Loss Equity Income (Loss) -------- -------- ---------- -------- ------------- ------------- ------------- Balance at December 31, 2001.............. 4,221,635 $ 4,222 7,102 5,841 (253) 16,912 Net earnings.............................. - - - 663 - 663 663 Loss reclassified from other comprehensive income, net of tax of $49............................. - - - - 197 197 Change in fair value of derivative, net of tax of $47...................... - - - - (188) (188) (188) ----- Comprehensive income...................... - - - - - - 475 ===== Stock options exercised................... 5,563 5 31 - - 36 Issuance of common shares as interest payment on subordinated notes.......... 28,900 29 211 - - 240 Other incentive plan activity............. - - 25 - - 25 --------- ----- ----- ------ --- ------ Balance at December 31, 2002.............. 4,256,098 4,256 7,369 6,504 (244) 17,885 Net earnings.............................. - - - 3,785 - 3,785 3,785 Loss reclassified from other comprehensive income, net of tax of $62............................. - - - - 98 98 Amortization of other comprehensive income, net of tax of $138............. - - - - 219 219 Change in fair value of derivative, net of tax of $43...................... - - - - (73) (73) (73) ----- Comprehensive income...................... - - - - - - 3,712 ===== Stock options exercised................... 11,218 12 153 (184) - (19) Tax benefit of stock option exercises..... - - 40 - - 40 Issuance of common shares as interest payment on subordinated notes.......... 10,279 10 80 - - 90 Other incentive plan activity............. - - 36 - 36 --------- ----- ----- ------ --- ------ Balance at December 31, 2003.............. 4,277,595 4,278 7,678 10,105 - 22,061 Net earnings.............................. - - - 1,473 - 1,473 1,473 ----- Comprehensive income...................... - - - - - - 1,473 ===== Stock options exercised................... 22,415 22 353 (305) - 70 Acquisition and retirement of common stock........................... (34,700) (35) (64) (226) - (325) Other incentive plan activity............. - - 29 - - 29 --------- ----- ----- ------ --- ------ Balance at December 31, 2004.............. 4,265,310 $ 4,265 7,996 11,047 - 23,308 ========= ===== ===== ====== === ======
See accompanying notes to consolidated financial statements. 31 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Consolidated Statements of Cash Flows For the Years Ended December 31, 2004, 2003, and 2002 (In Thousands)
December 31, December 31, December 31, 2004 2003 2002 ----------------- ----------------- ----------------- Cash flows from operating activities: Net earnings................................ $ 1,473 3,785 663 Adjustments to reconcile net earnings to net cash provided (used) by operating activities: Depreciation of plant and equipment............................ 441 472 661 Amortization of intangibles............ - 57 49 Gain on disposition of property, plant and equipment........ - (1,354) (94) Gain on sale of SI/BAKER joint venture.............................. - (4,901) - Amortization of deferred gain on sale-leaseback....................... (165) (138) - Equity in income of joint venture...... - (256) (58) Cash dividends received from joint venture........................ - 1,000 400 Issuance of common shares as interest payment on subordinated notes................... - 90 240 Other non-cash items affecting earnings................... 29 36 25 Noncash interest charges associated with settlement of interest rate swap contract.......... - 292 - Change in operating assets and liabilities: Receivables....................... (685) (90) 2,373 Costs and estimated earnings in excess of billings........... (538) (393) 116 Inventories....................... (425) 184 1,018 Deferred tax expenses............. 1,092 51 1,389 Prepaid expenses and other current assets.................. (7) 66 (46) Other noncurrent assets........... - 1 1 Accounts payable.................. 329 268 (916) Customers' deposits and billings in excess of costs and estimated earnings.......... (620) (91) (1,074) Accrued salaries, wages, and commissions................. 124 (240) (132) Income taxes payable.............. (836) 740 108 Accrued product warranty.......... (270) 31 31 Accrued other liabilities......... (1,373) 702 (1,090) Deferred compensation............. (42) 17 (109) ------ ------ ------ Net cash provided (used) by operating activities...................... (1,473) 329 3,555 ------ ------ ------
32 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Consolidated Statements of Cash Flows (Continued) For the Years Ended December 31, 2004, 2003, and 2002 (In Thousands)
December 31, December 31, December 31, 2004 2003 2002 ----------------- ----------------- ----------------- Cash flows from investing activities: Proceeds from the disposition of property, plant and equipment............. - 2,738 200 Proceeds from the divestment of joint ventures, net of advisory fees...... - 5,482 125 Additions to property, plant and equipment................................. (261) (237) (275) ------ ------ ------ Net cash provided (used) by investing activities................................ (261) 7,983 50 ------ ------ ------ Cash flows from financing activities: Sale of common shares in connection with employee incentive stock option plan............................... 70 12 36 Repurchase and retirement of common stock.............................. (325) - - Decrease (increase) in restricted cash....... - 865 (865) Repayment of long-term debt.................. - (8,700) (3,505) Settlement of interest rate swap contract.................................. - (283) - ------ ------ ------ Net cash used by financing activities...................... (255) (8,106) (4,334) ------ ------ ------ Increase (decrease) in cash and cash equivalents...................... (1,989) 206 (729) Cash and cash equivalents, beginning of period....................... 5,591 5,385 6,114 ------ ------ ------ Cash and cash equivalents, end of period............................. $ 3,602 5,591 5,385 ===== ====== ======
See accompanying notes to consolidated financial statements. 33 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements (1) Description of Business and Summary of Significant Accounting Policies - --- ---------------------------------------------------------------------- Description of Business and Concentration of Credit Risk - -------------------------------------------------------- The Company's Easton, Pennsylvania operation (hereafter referred to as "SI Systems") is a specialized systems integrator supplying SI Systems' branded automated material handling systems to manufacturing, assembly, order fulfillment, and distribution operations customers located primarily in North America, including the U.S. government. The automated material handling systems are marketed, designed, sold, installed, and serviced by its own staff or subcontractors, as labor-saving devices to improve productivity, quality, and reduce costs. SI Systems' branded products are utilized to automate the movement or selection of products and are often integrated with other automated equipment such as conveyors and robots. Integrated material handling solutions involve both standard and specially designed components and include integration of non-proprietary automated handling technologies so as to provide turnkey solutions for its customers' unique material handling needs. The engineering staff develops and designs computer control programs required for the efficient operation of the systems and for optimizing manufacturing, assembly, and fulfillment operations. The Company's Spring Lake, Michigan operation (hereafter referred to as "Ermanco"), is a manufacturer of Ermanco branded light to medium duty unit handling conveyor and sortation products, serving the material handling industry through a worldwide network of approximately 100 experienced material handling equipment distributors and one licensee. Ermanco also provides complete conveyor systems for a variety of applications, including distribution centers and automated manufacturing, utilizing primarily its own manufactured conveyor products, engineering services by its own staff or subcontractors, and subcontracted installation services. Ermanco supplies material handling systems and equipment to both national and international markets. Ermanco offers services ranging from the delivery of basic transportation conveyors to turnkey installations of complex, fully automated work-in-process production lines and distribution centers, utilizing sophisticated, custom-designed controls software. In the years ended December 31, 2004, 2003, and 2002, no customer accounted for over 10% of sales. The Company's products are sold on a fixed-price basis. Generally, contract terms provide for progress payments and a portion of the purchase price is withheld by the buyer until the system has been accepted. Generally, contract terms are net 30 days for product and parts sales, with progress payments for system-type projects. Many of Ermanco's sales are to distributors who have non-exclusive agreements with the Company. As of December 31, 2004, two customers owed the Company $665,000 and $645,000, respectively, in trade receivables. No other customer owed the Company in excess of 10% in trade receivables. The Company believes that the concentration of credit risk in its trade receivables is substantially mitigated by the Company's ongoing credit evaluation process as well as the general creditworthiness of its customer base. Reclassification - ---------------- Certain amounts reported for prior years have been reclassified to conform to the current year's presentation. Principles of Consolidation - --------------------------- The consolidated financial statements include the accounts of SI Systems and Ermanco, a wholly-owned subsidiary, after elimination of intercompany balances and transactions. 34 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements (Continued) Use of Estimates - ---------------- The preparation of the financial statements, in conformity with U.S. generally accepted accounting principles, requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. The judgments made in assessing the appropriateness of the estimates and assumptions utilized by management in the preparation of the financial statements are based on historical and empirical data and other factors germane to the nature of the risk being analyzed. Materially different results may occur if different assumptions or conditions were to prevail. Estimates and assumptions are mainly utilized to establish the appropriateness of the allowance for doubtful accounts, inventory reserve, warranty reserve, revenue recognition, and impairment of long-lived assets. Financial Instruments - --------------------- The Company believes the market values of its short-term assets and liabilities, which are financial instruments, approximate their carrying values due to the short-term nature of the instruments. Cash and Cash Equivalents - ------------------------- For purposes of reporting cash flows, cash and cash equivalents include cash on hand, cash on deposit, amounts invested on an overnight basis with a bank, and other highly liquid investments purchased with an original maturity of three months or less. The Company does not believe it is exposed to any significant credit risk on cash and cash equivalents. Allowance for Doubtful Accounts - ------------------------------- The Company provides an allowance for doubtful accounts determined by a specific identification of individual accounts and other accounts based on historical experience. The Company writes off receivables upon determination that no further collections are probable. Inventories - ----------- Inventories are valued at the lower of average cost or market. Inventories primarily consist of materials purchased or manufactured for stock. Property, Plant and Equipment - ----------------------------- Plant and equipment generally are depreciated on the straight-line method over the estimated useful lives of individual assets. The ranges of lives used in determining depreciation rates for machinery and equipment is 3 - 10 years. Maintenance and repairs are charged to operations; betterments and renewals are capitalized. Upon sale or retirement of plant and equipment, the cost and related accumulated depreciation are removed from the accounts and the resultant gain or loss, if any, is credited or charged to earnings. Investments in Joint Ventures - ----------------------------- On March 1, 1993, the Company and Automated Prescription Systems, Inc. formed a 50/50 joint venture, SI/BAKER, INC. ("SI/BAKER"). In 1998, Automated Prescription Systems, Inc. was renamed McKesson Automation Systems Inc. ("McKesson"). On September 19, 2003, the Company sold its entire ownership interest in SI/BAKER to McKesson and received cash proceeds of $5,600,000. Prior to the sale, the Company received royalty income from SI/BAKER at a rate of 2% of SI/BAKER's gross sales for marketing and sales efforts on behalf of SI/BAKER. The Company accounted for its investment in the joint venture on the equity basis by recognizing its proportionate share (50%) of SI/BAKER's net earnings. The sale resulted in a gain of $4,901,000 in 2003. 35 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements Intangibles - ----------- Goodwill - -------- SFAS No. 142, "Goodwill and Other Intangible Assets," requires that goodwill and intangible assets with indefinite lives no longer be amortized. Goodwill is instead tested for impairment, using a fair value based method. The Company completed its tests for impairment of goodwill in accordance with SFAS No. 142 as of December 31, 2004, 2003, and 2002, and those reviews did not indicate any impairment. The book value of goodwill as of December 31, 2004 is $17,657,000. During the years ended December 31, 2004, 2003, and 2002, goodwill and other intangible amortization was $0, $57,000, and $49,000, respectively. The Company had no acquisitions of goodwill or other intangible assets during 2004, 2003, and 2002. Deferred Debt Issuance Cost - --------------------------- Deferred debt issuance costs are amortized over the period of the related facility. During 2003, the Company prepaid its outstanding term loan with its principal bank and fully expensed the related unamortized debt issuance costs. Asset Impairment - ---------------- The Company reviews the recovery of the net book value of long-lived assets whenever events and circumstances indicate that the net book value of an asset may not be recoverable from the estimated undiscounted future cash flows expected to result from its use and eventual disposition. In cases where undiscounted expected future cash flows are less than the net book value, an impairment loss is recognized equal to an amount by which the net book value exceeds the fair value of assets. Revenue Recognition - ------------------- Revenues on systems contracts, accounted for in accordance with SOP 81-1 of the American Institute of Certified Public Accountants, are recorded on the basis of the Company's estimates of the percentage of completion of individual contracts. Gross margin is recognized on the basis of the ratio of aggregate costs incurred to date to the most recent estimate of total costs. As contracts may extend over one or more years, revisions in cost and profit estimates during the course of the work are reflected in the accounting periods in which the facts requiring revisions become known. At the time a loss on a contract becomes known, the entire amount of the estimated ultimate loss is accrued. Revenues on other sales of parts or equipment are recognized when title transfers pursuant to shipping terms. There are no installation or customer acceptance aspects of these sales. Product Development Costs - ------------------------- The Company expenses product development costs as incurred. Restructuring - ------------- In June 2001, the Company restructured its business operations, including curtailment of a defined benefit plan, and recorded a charge of $1,538,000 for restructuring costs. In December 2002, the Company partially settled its obligations by making lump-sum distributions to those participants who elected that payment option and correspondingly recorded a restructuring credit of $859,000 during 2002. In February 2003, the Company settled its remaining obligations by purchasing annuities for those participants who elected that payment option and correspondingly recorded a restructuring credit of $170,000 during 2003. 36 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements Restructuring (Continued) - ------------- A roll-forward of restructuring activities is as follows (in thousands):
Beginning Charge/ Cash Reversal/ Ending Balance (Credit) Spending Reclassification Balance ------------ ------------- ------------ ------------------- ------------ 2004............. $ 68 - (5) - 63 2003............. $ 216 (264) (54) 170 68 2002............. $ 494 (859) (278) 859 216
The $63,000 restructuring accrual at December 31, 2004 relates to professional fees for the 2001 restructuring that are still expected to be paid and is included in accrued other liabilities. During 2003, the Company recorded a restructuring credit of $94,000 associated with the reversal of a previously established severance accrual that was no longer required. The amounts reclassified out of the restructuring accrual and included in accrued pension and retirement savings plan liabilities for the years ended December 31, 2003 and 2002 were $170,000 and $859,000, respectively. Accrued Product Warranty - ------------------------ The Company's products are warranted against defects in materials and workmanship for varying periods of time depending on customer requirements and the type of system sold, with a typical warranty period of one year. The Company provides an accrual for estimated future warranty costs and potential product liability claims based upon a percentage of cost of sales, ranging from one to two percent depending on the type of system sold, and a detailed review of products still in the warranty period. A roll-forward of warranty activities is as follows (in thousands):
Additions Charged to Beginning Costs and Ending Balance Expenses Deductions Balance ------------ ----------------- ------------------ -------------- 2004.................... $ 925 20 (290) 655 2003.................... $ 894 215 (184) 925 2002.................... $ 863 245 (214) 894
Income Taxes - ------------ Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. 37 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements Stock-Based Compensation - ------------------------ The Company grants stock options for a fixed number of shares to employees and non-employee directors with an exercise price equal to the fair value of the shares at the date of grant. The Company has elected to continue to account for its stock-based compensation plans under the guidelines of Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," and, accordingly, recognizes no compensation expense on options granted to employees for the stock option grants. The Company recognizes compensation expense on options granted to non-employee directors. Additional disclosure as required under the guidelines of SFAS No. 123, "Accounting for Stock-Based Compensation" ("FAS 123"), as amended by FAS 148, is included below. If the Company had elected to recognize stock-based compensation expense for options granted to employees based on the fair value of granted options at the grant date (as determined under FAS 123), net earnings (in thousands) and basic and diluted earnings per share for the years ended December 31, 2004, 2003, and 2002 would have been as follows:
For the Year For the Year For the Year Ended Ended Ended December 31, December 31, December 31, 2004 2003 2002 ----------------- ----------------- ---------------- Net earnings, as reported................. $ 1,473 3,785 663 Deduct: total stock-based employee compensation determined under fair value method, net of related tax effects............................ (91) (80) (280) ----- ----- --- Pro forma net earnings.................... $ 1,382 3,705 383 ===== ===== ===
For the Year For the Year For the Year Ended Ended Ended December 31, December 31, December 31, 2004 2003 2002 ----------------- ----------------- ---------------- Earnings per share: Basic -- as reported.................... $ .34 .89 .16 === === === Basic -- pro forma...................... $ .32 .87 .09 === === === Diluted -- as reported.................. $ .34 .87 .15 === === === Diluted -- pro forma.................... $ .32 .85 .09 === === ===
The above pro forma net earnings and basic and diluted earnings per share were computed using the fair value of granted options at the date of grant as calculated by the Black-Scholes option pricing method. No options were granted to employees during the years ended December 31, 2004, 2003, and 2002. The Company also grants phantom stock units to its directors as deferred compensation. Such awards are redeemable in cash or the Company's common stock at the director's option and are accounted for in accordance with APB Opinion No. 25 as stock appreciation rights. Expense for the phantom stock unit plan was not material for the years ended December 31, 2004, 2003, and 2002. 38 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements Earnings Per Share - ------------------ Basic and diluted earnings per share for the years ended December 31, 2004, 2003, and 2002 are based on the weighted average number of shares outstanding. In addition, diluted earnings per share reflect the effect of dilutive securities which include phantom stock units, and the shares that would be outstanding assuming the exercise of dilutive stock options. The number of shares that would be issued from the exercise has been reduced by the number of shares that could have been purchased from the proceeds at the average market price of the Company's common stock. Cash Flow Hedge - --------------- In accordance with the provisions of SFAS No. 133, as amended, the Company recognizes all derivatives on the balance sheet at fair value. On the date the derivative instrument is entered into, the Company designates the derivative as a hedge of a forecasted transaction (cash flow hedge) or of the variability of cash flows to be received or paid related to a recognized asset or liability. The Company records in accumulated other comprehensive income or loss changes in the fair value of derivatives that are designated as and meet all the required criteria for a cash flow hedge. The Company then reclassifies these amounts into earnings as the underlying hedged item affects earnings. The Company records immediately in earnings changes in the fair value of derivatives that are not designated as hedges. As of December 31, 2004, the Company did not have any cash flow hedges. Off-Balance Sheet Arrangements - ------------------------------ As of December 31, 2004, the Company had no off-balance sheet arrangements in the nature of guarantee contracts, retained or contingent interests in assets transferred to unconsolidated entities (or similar arrangements serving as credit, liquidity, or market risk support to unconsolidated entities for any such assets), or obligations (including contingent obligations) arising out of variable interests in unconsolidated entities providing financing, liquidity, market risk, or credit risk support to the Company, or that engage in leasing, hedging, or research and development services with the Company. Recently Issued Accounting Pronouncements - ----------------------------------------- In December 2003, the Company adopted SFAS No. 132 (revised), "Employers' Disclosures about Pensions and Other Postretirement Benefits" ("FAS 132R") as amended. This standard retains the existing disclosures and requires additional disclosures to provide details about pension plan assets, benefit obligations, cash flows, benefit costs, and related information. The disclosure requirements are included in the financial statements. In November 2004, the Financial Accounting Standards Board issued SFAS No. 151, "Inventory Costs an Amendment of ARB No. 43, Chapter 4" ("FAS 151"). FAS 151 provides for certain fixed production overhead cost to be reflected as a period cost and not capitalized as inventory. FAS 151 is effective for the beginning of 2006. The adoption of FAS 151 is not expected to have a material impact on the Company's financial statements. In December 2004, the Financial Accounting Standards Board issued SFAS No. 123 (revised) "Share-Based Payment" ("FAS 123R"). FAS 123R addresses all forms of share-based payment awards, including shares issued under employee stock purchase plans, stock options, restricted stock, and stock appreciation rights. It will require companies to recognize in the statement of operations the grant-date fair value of stock options and other equity-based compensation issued to employees, but expresses no preference for a type of valuation model. The statement eliminates the intrinsic value-based method prescribed by APB Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations, that the Company currently uses. The Company is required to adopt FAS 123R beginning in the third quarter of 2005. The adoption of FAS 123R is not expected to have a material impact on the Company's financial statements. 39 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements (2) Uncompleted Contracts - --- --------------------- Costs and estimated earnings on uncompleted contracts are as follows (in thousands):
December 31, December 31, 2004 2003 ---------------- ---------------- Costs and estimated earnings on uncompleted contracts............................ $ 14,323 13,584 Less: billings to date............................. 14,824 15,243 ------ ------ $ (501) (1,659) ====== ====== Included in accompanying balance sheets under the following captions: Costs and estimated earnings in excess of billings.......................... $ 1,059 521 Customers' deposits and billings in excess of costs and estimated earnings....................................... (1,560) (2,180) ------ ------ $ (501) (1,659) ====== ======
(3) Line of Credit - --- -------------- The Company has a line of credit facility which may not exceed $5,000,000, $4,800,000 is available, and is to be used primarily for working capital purposes. Interest on the line of credit facility is at the LIBOR Market Index Rate plus 1.4%. The line of credit facility contains various non-financial covenants and is secured by all accounts receivable and inventory. The Company was in compliance with all covenants as of December 31, 2004. As of December 31, 2004, the Company did not have any borrowings under the line of credit facility, and the line of credit facility expires effective June 30, 2005. The Company expects to renew the line of credit facility under similar terms and conditions during 2005. (4) Long-Term Debt - --- -------------- The Company received $14,000,000 in the form of a seven-year term loan from its principal bank to finance the acquisition of Ermanco on September 30, 1999. The interest rate on the term loan was variable at a rate equal to the three-month LIBOR Market Index Rate plus 2.65%. Also in connection with the acquisition of Ermanco, on September 30, 1999, the Company issued promissory notes to the stockholders of Ermanco, including notes in the amounts of $1,382,861 and $1,001,382 to Steven Shulman and Leon C. Kirschner, respectively. Mr. Shulman is a director of the Company, and Mr. Kirschner serves as the President of Ermanco and Chief Operating Officer of the Company. The notes, with an original term of seven years, bore interest at an annual rate of 10% through September 30, 2002, and 12% from October 1, 2002 through the prepayment date. Interest on the promissory notes was payable quarterly, in cash or under certain conditions, in the Company's common stock upon approval of the Company's Board of Directors. In 2003, the Company prepaid all of its outstanding term and subordinated debt. The settlement of the subordinated debt resulted in a gain of $150,000, which is included in interest expense. 40 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements (Continued) (5) Capital Stock Options - --- --------------------- The following is a summary of options available for grant and changes in options outstanding under the Company's 1997 Equity Compensation Plan ("ECP") for the years ended December 31, 2004, 2003, and 2002:
2004 2003 2002 ------------------------- ------------------------- ------------------------- Weighted Weighted Weighted Average Average Average Number of Exercise Number of Exercise Number of Exercise Stock Options Price Stock Options Price Stock Options Price Outstanding Per Share Outstanding Per Share Outstanding Per Share ------------- --------- ------------- --------- ------------- --------- 1997 ECP: Balance as of January 1........ 339,122 $ 7.40 525,516 $ 7.78 556,771 $ 7.81 Granted........................ - - - - 20,000 8.20 Exercised...................... (67,789) 7.40 (39,706) 6.67 (5,563) 6.69 Lapsed......................... (61,550) 8.40 (146,688) 8.95 (45,692) 8.47 ------- ---- ------- ---- ------- ---- Balance as of December 31.... 209,783 $ 7.11 339,122 $ 7.40 525,516 $ 7.78 ======= ==== ======= ==== ======= ====
41 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements (5) Capital Stock Options (Continued) - --- --------------------- The following table summarizes information about stock options outstanding as of December 31, 2004:
Options Outstanding Options Exercisable - ----------------------------------------------------- -------------------------------- Number of Remaining Number of Exercise Stock Options Life Exercise Stock Options Price Outstanding (Years) Price Exercisable - ------------- ----------------- -------------- ----------- ---------------- $7.06 7,000 .11 7.06 7,000 6.63 106,283 .84 6.63 106,283 7.50 76,500 1.61 7.50 57,375 8.12 10,000 2.47 8.12 5,000 8.27 10,000 2.27 8.27 5,000 ---- -------- ---- ---- ------- $7.11 209,783 1.46 7.01 180,658 ==== ======= ==== ==== =======
In July 1997, the stockholders adopted the 1997 Equity Compensation Plan ("ECP"), which will expire in July 2007. The ECP provides for grants of stock options, restricted stock, and stock appreciation rights to selected employees, key advisors who perform valuable services, and directors of the Company. In addition, the ECP provides for grants of performance units to employees and key advisors. The ECP, as amended by shareholders in August 2000 and June 2001, authorizes up to 1,012,500 shares of common stock for issuance pursuant to the terms of the plan. Under the Company's ECP, officers, directors, and key employees have been granted options to purchase shares of common stock at the market price at the date of grant. The Company recognizes compensation expense on options granted to non-employee directors. Options become exercisable in increments of 25% on the anniversary date of the grant; thus, at the end of four years, the options are fully exercisable. As of December 31, 2004, 209,783 options are outstanding under the plan, and all options have a term of five years. (6) Employee Benefit Plans - --- ---------------------- The Company maintains a defined benefit plan for employees covered by its collective bargaining agreement. Retirement benefits are based on the employee's years of service multiplied by the appropriate monthly benefit amount. Employee compensation does not impact pension benefits. The Company's policy is to fund plans in compliance with applicable laws and regulations. The benefit obligations for the Company's defined benefit plan were (in thousands):
2004 2003 -------------------- --------------------- Change in benefit obligations: Benefit obligation at beginning of year............. $ 692 1,526 Service cost (excluding administrative expenses)......................................... 96 88 Interest cost....................................... 46 60 Actuarial loss...................................... 85 197 Benefits and expenses paid.......................... (16) (1,179) ---- ----- Benefit obligation at end of year................... $ 903 692 ==== =====
42 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements (6) Employee Benefit Plans (Continued) - --- ---------------------------------- The fair value of the plan assets of the Company's defined benefit plan follows (in thousands):
2004 2003 -------------------- --------------------- Change in plan assets: Fair value of plan assets at beginning of year...... $ 712 1,730 Actual return on plan assets........................ 61 49 Employer contribution............................... 146 112 Expenses............................................ (10) (35) Benefits paid....................................... (6) (1,144) --- ----- Fair value of plan assets at end of year............ $ 903 712 === =====
Prepaid pension asset included in the Company's balance sheets were (in thousands):
2004 2003 -------------------- --------------------- Reconciliation to balance sheets: Funded status: Plan assets in excess of benefit obligation......... $ - 20 Unrecognized net actuarial loss..................... 227 152 Unrecognized net obligation......................... (10) (11) Unrecognized prior service costs.................... 5 5 --- ----- Prepaid pension asset recognized in the Company's balance sheets.......................... $ 222 166 ==== =====
The Company uses the projected unit credit actuarial method to compute pension expense, which includes amortization of past service costs over the average remaining service lives of the employees expected to receive benefits. The net periodic pension expense (benefit) and total pension expense (benefit) for the years ended December 31, 2004, 2003, and 2002 includes the following components (in thousands):
2004 2003 2002 ---------------- ----------------- ----------------- Service cost-benefits earned during the period............................. $ 96 88 71 Interest cost on projected benefit obligation............................ 46 60 216 Expected return on plan assets - increase.............................. (60) (91) (302) Amortization of net asset................ (1) - - Amortization of prior service cost....... - - - Recognized net actuarial gain............ 9 (2) (86) --- --- --- Net periodic pension expense (benefit)............................. 90 55 (101) Settlement credit........................ - (144) (859) --- --- --- Total pension expense (benefit).......... $ 90 (89) (960) === === ===
43 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements (6) Employee Benefit Plans (Continued) - --- ---------------------- The weighted average rates and actuarial assumptions used to develop the net periodic pension expense (benefit) and the projected benefit obligation for the plans were:
2004 2003 2002 -------------------- ------------------- -------------------- Discount rate.................. 6.0% 6.5% 5.32% and 7.0% Expected long-term rate of return on plan assets....... 8.0% 8.0% 8.0% and 8.50%
The expected long-term rate of return on assets was developed through analysis of historical market returns, current market conditions, the plans past experience, and the general mix of assets held by the plans. The Company made contributions to its defined benefit plan during the years ended December 31, 2004 and 2003 of $146,000 and $112,000, respectively. The Company expects total pension plan contributions to its defined benefit plan to approximate $90,000 for the year ended December 31, 2005. The plan's weighted-average target allocation and asset allocations by asset category are as follows (in thousands):
Target Allocations 2004 2003 ------------------ ------------------ ------------------ Asset Category: Equity securities................ 60% 56% 48% Fixed income securities.......... 35% 34% 42% Cash and equivalents............. 5% 10% 10% --- --- --- Total......................... 100% 100% 100% === === ===
The primary investment objective of the plan is to ensure, over the long-term life of the plan, an adequate pool of assets to support the benefit obligations to participants, retirees, and beneficiaries. A secondary objective of the plan is to achieve a level of investment return consistent with a prudent level of portfolio risk that will minimize the financial impact of the plan on the Company. The Company operates a number of defined contribution plans for employees. The plans contain a Company match feature and one plan also contains provisions for profit sharing contributions in the form of cash as determined annually by the Board of Directors. Total expense for these plans was $180,000, $157,000, and $157,000 for the years ended December 31, 2004, 2003, and 2002, respectively. 44 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements (7) Income Taxes - --- ------------ The provision for income tax expense (benefit) consists of the following (in thousands):
For the Year For the Year For the Year Ended Ended Ended December 31 December 31, December 31, 2004 2003 2002 ------------------ ------------------ ------------------ Federal - current.................. $ (497) 1,982 (1,146) - deferred................. 1,099 (214) 1,326 ----- ----- ----- 602 1,768 180 ----- ----- ----- State - current.................. 145 388 22 - deferred................. (7) 265 63 ----- ----- ----- 138 653 85 ----- ----- ----- Foreign - current.................. 3 3 2 ----- ----- ----- $ 743 2,424 267 ===== ===== =====
The reconciliation between the U.S. federal statutory rate and the Company's effective income tax rate is (in thousands):
For the Year For the Year For the Year Ended Ended Ended December 31, December 31, December 31, 2004 2003 2002 ------------------ ----------------- ------------------ Computed tax expense (benefit) at statutory rate of 34%......... $ 753 2,111 316 Increase (reduction) in taxes resulting from: State income taxes, net of federal benefit.............. 28 431 56 Equity in income of joint venture and dividend received deduction from joint venture distribution... - (272) (109) Change in state effective tax rate..................... (48) - - Miscellaneous items............ 10 154 4 --- ----- --- $ 743 2,424 267 === ===== ===
45 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements (7) Income Taxes (Continued) - --- ------------ The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and liabilities at December 31, 2004 and 2003 are presented below (in thousands):
December 31, December 31, 2004 2003 ----------------- ----------------- Deferred tax assets: Net operating and built-in loss carryforward (federal loss of $172 expires through 2008).......... $ 251 188 Inventories............................................ 186 298 Accrued restructuring costs............................ 24 26 Accrued warranty costs................................. 248 355 Accrued settlement costs............................... - 420 Accruals for other expenses, not yet deductible for tax purposes......................................... 613 741 ----- ----- Total gross deferred tax assets.................... 1,322 2,028 ----- ----- Deferred tax liabilities: Plant and equipment, principally due to differences in depreciation.......................... (170) (159) Amortization........................................... (2,271) (1,854) Other.................................................. (123) (165) ----- ----- Total gross deferred tax liabilities............... (2,564) (2,178) ----- ----- Net deferred tax assets (liabilities).............. $ (1,242) (150) ===== =====
In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities, projected future taxable income, and tax planning strategies in making this assessment. Based upon historical taxable income and projections for future taxable income over the periods in which the deferred tax assets are deductible, management believes it is more likely than not that the Company will realize the benefits of these deductible differences at December 31, 2004. (8) Contingencies - --- ------------- In July 2003, a competitor filed an action against the Company in the United States District Court for the District of New Jersey alleging that certain of the Company's products infringed patents held by the competitor and also asserting claims for breach of contract, unjust enrichment, unfair competition, tortious interference with prospective economic advantage, and violation of New Jersey's consumer fraud act as a result of alleged improper use of the competitor's trade secrets, technology, and other proprietary information. Based on these allegations, the competitor was seeking monetary damages and injunctive relief against the Company. In February 2004, a settlement was reached between the Company and the competitor. Under the settlement, the competitor dismissed the action and agreed that the Company's products involved in the litigation are immune from suit for infringement of any of the competitor's intellectual property rights. In exchange, Paragon agreed to dismiss its counterclaims and paid the competitor $1,125,000. Total costs associated with the litigation recognized during 2003, inclusive of settlement costs and legal costs, were $1,375,000. 46 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements (8) Contingencies (Continued) - --- ------------- The Company is involved in various other claims and legal actions arising in the ordinary course of business. In the opinion of management, the ultimate disposition of these matters will not have a material adverse effect on the Company's consolidated financial position, results of operations, or liquidity. (9) Commitments and Related Party Transactions - --- ------------------------------------------ Ermanco's operations are located in a 94,000 square foot steel building in Spring Lake, Michigan. The building is leased from a limited liability company that is affiliated with the Company through a common director and officer of the Company, Messrs. Shulman and Kirschner. The leasing agreement, as amended, requires fixed monthly rentals of $29,310 (with annual increases of 2.5%). The terms of the lease require the payment by Ermanco of all taxes, insurance, and other ownership related costs of the property. The lease, as amended on April 1, 2004, expires on September 30, 2008. The Company paid $387,000, $395,000, and $394,000 in the years ended December 31, 2004, 2003, and 2002, respectively, under this leasing arrangement. In connection with the February 2003 sale of the Company's Easton, Pennsylvania facility, the Company entered into a leaseback arrangement for 25,000 square feet of office space for five years. The leasing agreement requires fixed monthly rentals of $17,703 (with annual increases of 3%). The terms of the lease also require the payment of a proportionate share of the facility's operating expenses. The lease expires on February 21, 2008. The sale-leaseback resulted in a total gain of $2,189,000, of which $1,363,000 was recorded as a gain in 2003. The remaining gain of $826,000 was deferred and is being recognized as a reduction in rent expense over the term of the lease. During 2004 and 2003, $165,000 and $138,000, respectively, of the deferred gain was recognized. The Company also leases certain office equipment, computer equipment, and software under various operating leases with terms extending through September 2007. Total rental expense, including short-term leases, in the years ended December 31, 2004, 2003, and 2002 approximated $724,000, $718,000, and $555,000, respectively. Future minimum rental commitments at December 31, 2004 are as follows (in thousands):
Operating Leases ----------------------- 2005............................................ $ 636 2006............................................ 590 2007............................................ 606 2008............................................ 318 2009............................................ - ----- Total ........................................ $ 2,150 =====
The Company has an employment agreement with Leon C. Kirschner, an officer of the Company and President of Ermanco Incorporated. The employment agreement entitles Mr. Kirschner to receive annual compensation during the term of the employment agreement, participate in a bonus plan, plus usual and customary fringe benefits associated with being an employee of the Company. Under certain circumstances, the employment agreement provides for post termination severance payments. See Note 11 of Notes to Consolidated Financial Statements for transactions related to the Company's former SI/BAKER joint venture. 47 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements (Continued) (10) Cash Flow Information - ---- --------------------- Supplemental disclosures of cash flow information for the years ended December 31, 2004, 2003, and 2002 are as follows (in thousands):
For the Year For the Year For the Year Ended Ended Ended December 31, December 31, December 31, 2004 2003 2002 ---------------- ----------------- ---------------- Supplemental disclosures of cash flow information: Cash paid (received) during the period for: Interest..................... $ 4 456 761 === === === Income taxes................. $ 512 720 (667) === === === Supplemental disclosures of noncash investing and financing activities: Equity impact from exercise of non-qualified stock options....... $ - 40 - === === === Withholding of common shares for income tax withholding obligations arising from exercise of non-qualified stock options..................... $ - (31) - === === ===
48 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements (Continued) (11) Joint Ventures - ---- -------------- On September 19, 2003, the Company sold its entire ownership interest in its SI/BAKER joint venture. Prior to the sale, the Company had entered into various transactions with its former SI/BAKER joint venture as follows:
2004 2003 2002 ---------------- ----------------- ---------------- Statements of Operations Data (in thousands): Systems and services sold under various subcontracts................ $ - 62 194 Reimbursement for administrative and other services provided............. - 9 24 Royalty income........................ - 226 167
Information pertaining to the Company's former investment in its SI/BAKER joint venture is as follows (in thousands): Balance at December 31, 2002......................................................... $ 1,325 Equity in net earnings............................................................... 256 Cash dividends....................................................................... (1,000) Sale of the Company's 50% investment in the SI/BAKER joint venture............................................................ (581) ------ Balance at December 31, 2003......................................................... $ - ======
Summary operating results prior to the sale of the Company's former SI/BAKER joint venture are set forth in the following table (in thousands):
2004 2003 2002 ----------------- ---------------- ------------------ Net sales.............................. $ - 11,279 8,329 ====== ====== ====== Net earnings........................... $ - 513 116 ====== ====== ======
49 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements (12) Major Segments of Business - ---- -------------------------- Operating segments are defined as components of an enterprise in which separate financial information is available and evaluated regularly by the chief operating decision maker in deciding how to allocate resources and in assessing performance. The Company identified such segments based on both management responsibility and types of products offered for sale. The Company operates in two major market segments, and products are sold worldwide as follows (in thousands):
For the year ended December 31, 2004: SI Systems Ermanco Total - ----------------- ------------ ------------ ------------ Sales........................................ $ 11,702 30,553 42,255 Earnings (loss) before interest expense, interest income, and income taxes.......... (344) 2,488 2,144 Total assets................................. 6,167 26,538 32,705 Capital expenditures......................... 63 198 261 Depreciation and amortization expense........ 104 337 441
For the year ended December 31, 2003: SI Systems Ermanco Total - ----------------- ------------ ------------ ------------ Sales........................................ $ 12,083 25,212 37,295 Earnings before interest expense, interest income, equity in income of joint venture, gain on sale of SI/BAKER joint venture, gain on disposition of property, plant and equipment, and income taxes................ 120 178 298 Gain on sale of SI/BAKER joint venture....... 4,901 - 4,901 Gain on disposition of property, plant and equipment.............................. 1,354 - 1,354 Total assets................................. 5,263 28,511 33,774 Capital expenditures......................... 76 161 237 Depreciation and amortization expense........ 139 333 472
For the year ended December 31, 2002: SI Systems Ermanco Total - ----------------- ------------ ------------ ------------ Sales........................................ $ 14,906 23,318 38,224 Earnings (loss) before interest expense, interest income, equity in income of joint venture, and income taxes.................. 2,248 (442) 1,806 Total assets................................. 9,046 27,657 36,703 Capital expenditures......................... 64 211 275 Depreciation and amortization expense........ 233 428 661
All of the Company's sales originate in the United States, and there are no long-lived assets existing outside the United States. International sales were $3,514,000, $2,865,000, and $1,682,000 for the years ended December 31, 2004, 2003, and 2002, respectively. 50 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Notes To Consolidated Financial Statements (Continued) (13) Quarterly Financial Information (Unaudited) - ---- ------------------------------------------- Selected Quarterly Financial Data --------------------------------- (In thousands, except per share amounts)
For the Year Ended First Second Third Fourth December 31, 2004 Quarter Quarter Quarter Quarter ----------------- ------- ------- ------- ------- Net sales................................. $10,576 9,638 10,754 11,287 Gross profit on sales..................... $ 2,630 2,334 3,016 2,998 Net earnings.............................. $ 341 129 465 538 Basic earnings per share.................. $ .08 .03 .11 .13 Diluted earnings per share................ $ .08 .03 .11 .12 For the Year Ended First Second Third Fourth December 31, 2003 Quarter Quarter Quarter Quarter* ----------------- ------- ------- ------- ------- Net sales................................. $ 8,564 10,983 8,742 9,006 Gross profit on sales..................... $ 2,204 2,924 2,234 2,086 Net earnings (loss)....................... $ 1,011 617 2,412 (255) Basic earnings (loss) per share........... $ .24 .14 .56 (.06) Diluted earnings (loss) per share......... $ .23 .14 .55 (.06) For the Year Ended First Second Third Fourth December 31, 2002 Quarter Quarter Quarter Quarter ----------------- ------- ------- ------- ------- Net sales................................. $10,752 9,908 9,010 8,554 Gross profit on sales..................... $ 2,889 2,486 1,891 2,007 Net earnings (loss)....................... $ 343 123 (402) 599 Basic earnings (loss) per share........... $ .08 .03 (.09) .14 Diluted earnings (loss) per share......... $ .08 .03 (.09) .13 * The fourth quarter of 2003 included severance charges of $387,000 and settlement and legal costs of $355,000 associated with an action against the Company by a competitor relating to the Company's intellectual property.
(14) Stock Repurchase Program - ---- ------------------------ In August 2004, the Company's Board of Directors approved a program to repurchase up to $1,000,000 of its outstanding common stock. As of December 31, 2004, the Company had repurchased 34,700 shares of common stock at a weighted average cost, including brokerage commissions, of $9.38 per share. Cash expenditures for the stock repurchases were $325,632. As of December 31, 2004, $674,368 remained available for repurchases under the stock repurchase program. Based on market conditions and other factors, additional repurchases may be made from time to time, in compliance with SEC regulations, in the open market or through privately negotiated transactions at the discretion of the Company. There is no expiration date with regards to the stock repurchase program. 51 PARAGON TECHNOLOGIES, INC. AND SUBSIDIARY Schedule II ----------- VALUATION AND QUALIFYING ACCOUNTS For the Years Ended December 31, 2004, 2003, and 2002 (In Thousands) Additions Balance Charged to at Costs Balance Beginning and at End of Year Expenses Deductions of Year ------------ ------------- -------------- ----------- Allowance for doubtful accounts: Year ended December 31, 2004................. $ 265 123 157 231 === === === === Year ended December 31, 2003................. $ 221 44 - 265 === === === === Year ended December 31, 2002................. $ 54 171 4 221 === === === ===
52 Item 9. Changes in and Disagreements with Accountants on Accounting and - ------- --------------------------------------------------------------- Financial Disclosure -------------------- None. Item 9A. Controls and Procedures - -------- ----------------------- (a) An evaluation was performed under the supervision and with the participation of the Company's management, including its Chief Executive Officer, or CEO, and Chief Financial Officer, or CFO, of the effectiveness of the Company's disclosure controls and procedures, as such term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), as of December 31, 2004. Based on that evaluation, the Company's management, including the CEO and CFO, concluded that the Company's disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in reports that it files or submits under the Exchange Act, is recorded, processed, summarized, and reported as specified in Securities and Exchange Commission rules and forms. (b) There were no changes in the Company's internal control over financial reporting identified in connection with the evaluation of such controls that occurred during the Company's most recent fiscal year likely to materially affect the Company's internal control over financial reporting. Item 9B. Other Information - -------- ----------------- Not applicable. PART III -------- Item 10. Directors and Executive Officers of the Registrant - -------- -------------------------------------------------- Information concerning the Company's directors is as follows:
Name, Other Positions or Offices With The Company Director and Principal Occupation for Past Five Years Since Age - -------------------------------------------------------------------------------- ----------- ----- L. Jack Bradt................................................................... 1958 77 L. Jack Bradt was the founder in 1958 and for 30 years President and CEO of SI Handling Systems, Inc., renamed Paragon Technologies, Inc. shortly after the Company acquired Ermanco Incorporated. Mr. Bradt has continued as a director of the Company since its inception. He is active as a director in a number of local, state, and national organizations involved in business, education, human services, and government. Theodore W. Myers............................................................... 2002 61 Theodore W. Myers is the Chairman of the Board of the Company. Mr. Myers retired from Tucker Anthony Sutro, an investment banking firm, where he was First Vice President and Branch Manager of the Phillipsburg, New Jersey satellite office, where he served from 1991 to 2000.
53
Name, Other Positions or Offices With The Company Director and Principal Occupation for Past Five Years Since Age - -------------------------------------------------------------------------------- ----------- ----- Anthony W. Schweiger............................................................ 2001 63 Anthony W. Schweiger is President and CEO of The Tomorrow Group, LLC, a governance and management consultancy. He is also a principal of e-brilliance, LLC, a software and IT education consultancy. Mr. Schweiger's business experience includes governance oversight, capital market management, risk management, technology, and strategic planning. Since 1992, he has been a director and Governance Chair of Radian Group Inc., a NYSE traded global provider of credit enhancement products. He also serves on Radian's Audit and Executive Committees. Since 2004, Mr. Schweiger has been a director and Audit Chair and Governance Chair of United Financial Mortgage Corp. He has also been an investor and director of Input Technologies, LLC, a supplier of human-to-machine interface products and services since February 1998. In his capacity as a consultant, Mr. Schweiger advises various service and technology businesses on governance, operational, and strategic issues. Steven Shulman.................................................................. 1999 64 Steven Shulman has been an investment banker through his wholly-owned company, The Hampton Group. Currently, Mr. Shulman is a shareholder and director in a diversified group of companies, including Transportation Technologies, Inc., TNP Enterprises, Inc., Terrace Food Group, Inc., PlasmaSol Corp., C3i Inc., Beacon Capital Partners, Inc., and Ark Restaurants Corp. In addition, he serves as Chairman of Terrace Food Group, Inc. Mr. Shulman serves as Vice Chairman of the Board of Stevens Institute of Technology. Mr. Shulman was also a director of Ermanco Incorporated at the time of its acquisition by the Company on September 30, 1999. Leonard S. Yurkovic............................................................. 2002 67 Leonard S. Yurkovic returned to the Company as President and CEO in October 2003 and is also the Vice Chairman of the Board of the Company. Mr. Yurkovic started with the Company in 1979 as Vice President - Finance. Throughout the 1980s, Mr. Yurkovic was appointed to several executive-level positions at the Company, having been named President and Chief Operating Officer in 1985, Managing Director of European Operations in 1987, and then President and Chief Executive Officer in 1988. Mr. Yurkovic originally retired from the Company as CEO and a member of the Board of Directors in 1999.
The names, ages, and offices with the Company of its executive officers are as follows:
Name Age Office ---- --- ------ Leonard S. Yurkovic 67 President and Chief Executive Officer, Director Leon C. Kirschner 64 Chief Operating Officer, President - Ermanco Ronald J. Semanick 43 Vice President - Finance, Chief Financial Officer, Treasurer, and Secretary Gordon A. Hellberg 51 Vice President - Sales, Vice President - Sales of Ermanco Incorporated
54 Item 10. Directors and Executive Officers of the Registrant (Continued) - -------- -------------------------------------------------- Information regarding Mr. Yurkovic is provided above. Mr. Kirschner is the Chief Operating Officer of the Company and the President of Ermanco since 1983. From 1968 to 1983, Mr. Kirschner was the Senior Vice President of W&H Systems. Mr. Kirschner began his career in 1961 as an engineer at Celanese Plastics, and from 1963 to 1968 he worked for P.P.G. Industries as Plant Engineer. Mr. Kirschner holds an M.B.A. from New York University and a B.S. in Engineering from Stevens Institute of Technology. Mr. Semanick was appointed Vice President - Finance, Chief Financial Officer, and Treasurer of the Company on May 10, 2000, and was appointed Secretary of the Company on July 13, 1994. Previously, Mr. Semanick held the positions of Controller, Manager of Financial Accounting, Senior Financial Accountant, and Financial Accountant. Prior to joining the Company in 1985, Mr. Semanick was employed as a Certified Public Accountant by Arthur Andersen & Company of Philadelphia, Pennsylvania. Mr. Semanick received a Bachelor's Degree in Accounting from Moravian College and his MBA in Finance from Wilkes University. Mr. Semanick is a Certified Public Accountant in Pennsylvania. Mr. Hellberg was appointed Vice President - Sales of the Company on March 10, 2004, and has served Ermanco in various management positions since 1987, including Vice President - Sales. Mr. Hellberg's previous employers include with Haworth, Inc., L.S.I./Rapistan Division, and psb - Advanced Material Handling Systems, Inc. Mr. Hellberg received his B.S. in Engineering from Western Michigan University. SECTION 16(a) -- BENEFICIAL OWNERSHIP REPORTING COMPLIANCE Section 16(a) of the Securities Exchange Act of 1934 requires our directors and executive officers and persons who beneficially own more than 10% of our common stock (collectively, the "reporting persons") to file reports of ownership and changes in ownership with the Securities and Exchange Commission. Based on our records and other information, we believe that in 2004 all of our directors and executive officers met all applicable Section 16(a) filing requirements. ------------------------------ Audit Committee - --------------- The Audit Committee consists of three directors, Messrs. Bradt, Myers, and Schweiger, all of whom are "independent" as defined by the rules of the Securities and Exchange Commission and American Stock Exchange. The Board of Directors has determined that the Audit Committee does not currently have a member who qualifies as an "audit committee financial expert" as defined in regulations of the Securities and Exchange Commission under the Sarbanes-Oxley Act of 2002. Although no one member of the Audit Committee appears to meet all of the requirements of the definition of "audit committee financial expert", the Board of Directors believes that the members of the Audit Committee collectively possess the required attributes concerning the understanding of U.S. generally accepted accounting principles and financial statements, the application of such principles in connection with accounting for estimates, accruals and reserves, the understanding of internal control over financial reporting and the understanding of Audit Committee functions. 55 Item 10. Directors and Executive Officers of the Registrant (Continued) - -------- -------------------------------------------------- Code of Conduct - --------------- The Company has a Code of Business Conduct and Ethics, which is attached as Exhibit 14 to this annual report and can be viewed on the Company's website at www.ptgamex.com. The Company requires all employees, officers, and directors to adhere to this Code in addressing the legal and ethical issues encountered in conducting their work. The Code of Business Conduct and Ethics requires that the Company's employees avoid conflicts of interest, comply with all laws and other legal requirements, conduct business in an honest and ethical manner, and otherwise act with integrity and in the Company's best interest. The Company's Code of Business Conduct and Ethics is intended to comply with Item 406 of the SEC's Regulation S-K and the rules of the American Stock Exchange. The Code of Business Conduct and Ethics includes procedures for reporting violations of the Code, which are applicable to all employees. The Sarbanes-Oxley Act of 2002 requires companies to have procedures to receive, retain, and treat complaints received regarding accounting, internal accounting controls, or auditing matters and to allow for the confidential and anonymous submission by employees of concerns regarding questionable accounting or auditing matters. The Code of Business Conduct and Ethics also includes these required procedures. ------------------------------ Item 11. Executive Compensation - -------- ---------------------- Set forth below is certain information relating to compensation received by the Company's Chief Executive Officer and other executive officers (the "Named Executive Officers") of the Company.
Summary Compensation Table Long Term Comp. Awards Fiscal Other Annual Stock All Other Year Salary Bonus Compensation Options Compensation Name and Position Ended ($)(1) ($) ($)(2) (#)(3) ($)(4) - ------------------- -------- -------- ----- ------------ ------- ------------ Leonard S. Yurkovic 12/31/04 $212,160 $ - $9,600 - $28,838 President and 12/31/03 48,960 - 2,215 - 7,894 Chief Executive 12/31/02 - - - 10,000 - Officer (5) Leon C. Kirschner 12/31/04 272,328 - 9,600 - 2,050 Chief Operating 12/31/03 260,545 - 9,600 - 2,000 Officer and 12/31/02 272,328 - 8,800 - 2,000 President of Ermanco Incorporated Gordon A. Hellberg 12/31/04 136,927 - 8,991 - 1,040 Vice President - 12/31/03 117,678 - 7,164 - 1,060 Sales and Vice 12/31/02 126,950 - 6,628 - 1,040 President - Sales of Ermanco Incorporated (6) Ronald J. Semanick 12/31/04 119,755 - 9,600 - 4,967 Vice President - 12/31/03 112,236 - 9,969 - 4,843 Finance, Chief 12/31/02 115,000 - 9,600 - 4,452 Financial Officer, and Treasurer 56 Item 11. Executive Compensation (Continued) - -------- ---------------------- Summary Compensation Table (Continued) - ------------------------- (1) This column includes employee pre-tax contributions to the Company's 401(k) Retirement Savings Plans. (2) This column consists of an auto allowance for the business usage of personal automobiles for Messrs. Yurkovic and Semanick, and also automobile benefits for Messrs. Kirschner and Hellberg. The monthly auto allowance is $800. (3) Options become exercisable in increments of 25% on the anniversary date of the grant. Thus at the end of four years the options are fully exercisable. All options have a term of five years. (4) This column includes the amounts expensed for financial reporting purposes for Company contributions to the Company's 401(k) Retirement Savings Plans pertaining to basic, matching, and profit sharing contributions for all Named Executive Officers. This column includes meals and lodging expenses of $20,515 and $6,262 for 2004 and 2003, respectively, for Mr. Yurkovic while away from his Maryland residence and working at the Company's headquarters in Easton, Pennsylvania. (5) Mr. Yurkovic became President and Chief Executive Officer of the Company in October 2003. His fiscal year 2003 compensation represents compensation from October 2003 through December 2003. (6) Mr. Hellberg as appointed Vice President - Sales of the Company on March 10, 2004. His fiscal year 2004 compensation represents total compensation for the entire fiscal year 2004.
57 Item 11. Executive Compensation (Continued) - -------- ---------------------- Stock Options Granted to Named Executive Officers During the Year Ended December 31, 2004. There were no options for the purchase of the Company's common stock awarded to the Named Executive Officers during the year ended December 31, 2004. Stock Options Exercised During the Year Ended December 31, 2004 and Held by Named Executive Officers as of December 31, 2004. The following table sets forth certain information regarding options for the purchase of the Company's common stock that were exercised and/or held by the Company's Named Executive Officers during the year ended December 31, 2004.
Aggregated Option Exercises in the Year Ended December 31, 2004 and Year-End Option Values -------------------------- Number of Value of Shares Covered Unexercised # of By Unexercised In-The-Money Shares Options at Options at Acquired December 31, 2004 December 31, 2004 On Value Exercisable/ Exercisable/ Name Exercise Realized Unexercisable Unexercisable - ------------------- -------- -------- ----------------- ----------------- Leonard S. Yurkovic - $ - 5,000/5,000 $ 8,900/8,900 Leon C. Kirschner 50,000 (1) 92,188 43,750/6,250 126,875/15,000 Ronald J. Semanick 7,839 (2) 26,229 15,833/1,250 48,572/3,000 Gordon A. Hellberg - - 17,750/1,250 51,788/3,000 (1) On June 23, 2004, Mr. Kirschner acquired 50,000 shares of common stock by exercising 50,000 options to obtain the shares (2) On June 23, 2004, Mr. Semanick acquired 7,839 shares of common stock by exercising 7,839 options to obtain the shares.
Employment Agreement with Leon C. Kirschner - ------------------------------------------- The Company entered into an employment agreement with Leon C. Kirschner, a former stockholder of Ermanco Incorporated, on October 1, 1999. In accordance with the employment agreement, Mr. Kirschner was appointed as Corporate Vice President and a director of the Company and President of Ermanco Incorporated. On June 25, 2001, Mr. Kirschner was appointed Chief Operating Officer of the Company. The employment agreement was amended and restated effective August 28, 2002. Terms of the employment agreement include a base salary of $272,328 per year. The employment agreement entitles Mr. Kirschner to participate in the Company's Management Incentive Plan that provides for the opportunity to receive a bonus based upon the achievement of goals as defined for each fiscal year by the Board of Directors. Effective January 6, 2003, Mr. Kirschner's annual salary was temporarily reduced by 10% to $245,095 as part of a cost reduction initiative. Effective June 30, 2003, Mr. Kirschner's annual salary was adjusted to $258,712 and, effective October 13, 2003, Mr. Kirschner's annual salary was restored to $272,328. Under the terms of the employment agreement, Mr. Kirschner shall perform his duties and responsibilities at the Company's Spring Lake, Michigan facility or at such other location in western Michigan as may be established from time to time by the President and CEO of the Company. 58 Item 11. Executive Compensation - -------- ---------------------- Employment Agreement with Leon C. Kirschner (Continued) - ------------------------------------------- The Company has the right to terminate Mr. Kirschner's employment with or without cause. Cause is defined as any material breach of the employment agreement, disloyalty to the Company, willful misconduct, and conviction of a felony or other criminal act. Mr. Kirschner has the right to terminate the employment agreement voluntarily by giving the Company written notice of such termination no less than 180 days prior to the effective date of the termination. The employment agreement may also be terminated upon a change in control of the Company. The employment agreement provides for severance benefits that allow Mr. Kirschner to receive his salary for a period of 18 months plus a lump sum payment in an amount equal to one and one-half times the average of the bonus paid for the two (2) fiscal years preceding the year in which the termination becomes effective in the event of termination upon a change of control. In the event of termination without cause, the employment agreement also provides for severance benefits that allow Mr. Kirschner to receive his salary and health insurance coverage for a period of one year following effective date of the termination. Other benefits normally made available by the Company to executive officers, including participation in a health plan, retirement savings plan, and receipt of automobile benefits are also made available to Mr. Kirschner under the employment agreement. ------------------------------ COMPENSATION OF DIRECTORS Directors who are also employees of the Company receive no additional remuneration for their services as directors. The Chairman of the Board of Directors and other non-employee directors receive an annual retainer of $24,000 and $12,000, respectively; a fee of $1,500 for each Board meeting attended; a fee of $600 per day for all Company-related activities undertaken at the request of the Chairman of the Board or the Chief Executive Officer of the Company; a fee of $300 per interview for all Company-related activities undertaken in connection with interviewing qualified candidates to fill vacancies in key positions within the Company; and a fee of $250 for each Board Meeting held by telephone conference. The Chairman of the Audit Committee receives an annual retainer of $5,000, and directors are paid for serving on Committees of the Board of Directors. Committee members receive a fee of $250 for each Committee Meeting held by telephone conference, a fee of $250 for each Committee Meeting held in conjunction with a Board Meeting, and a fee of $1,500 for each Committee Meeting except those held in conjunction with a Board Meeting. Directors are also reimbursed for their customary and usual expenses incurred in attending Board and Committee Meetings including those for travel, food, and lodging. The Company permits its directors, at their election, to defer receipt of payment of directors' fees. During the year ended December 31, 2004, $3,250 of directors' fees was deferred. Deferred directors' fees accrue interest at the prime rate of interest charged by the Company's principal bank or may be invested in units equivalent to shares of common stock of the Company. During the year ended December 31, 2004, there were no distributions under the Directors' Deferred Compensation Plan. COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION The Compensation Committee is currently comprised of Mr. Shulman, Chairman, and Messrs. Bradt and Schweiger. Mr. Bradt was formerly the CEO of the Company. No executive officer of the Company serves as a member of the Board of Directors or Compensation Committee of any entity that has one or more executive officers serving as a member of the Company's Board of Directors or Compensation Committee. Mr. Shulman is a party to certain transactions with the Company as described in Item 13, Certain Relationships and Related Transactions. 59 Item 12. Security Ownership of Certain Beneficial Owners and Management - -------- -------------------------------------------------------------- and Related Stockholder Matters ------------------------------- The following table sets forth certain information as of March 24, 2005 (unless otherwise noted) regarding the ownership of common stock (i) by each person known by the Company to be the beneficial owner of more than 5% of the outstanding common stock, (ii) by each director or nominee of the Company, (iii) by the executive officers of the Company named in the Summary Compensation Table, and (iv) by all current executive officers and directors of the Company as a group. Unless otherwise stated, the beneficial owners exercise sole voting and/or investment power over their shares.
Right to Number of Acquire Under Shares Options Beneficially Exercisable Percentage Beneficial Owner Owned Within 60 Days of Class (1) - ---------------- ------------ ---------------- ------------ Emerald Advisers, Inc. (2)................ 1,290,140 - 30.2% 1703 Oregon Pike Suite 101 Lancaster, PA 17601 L. Jack Bradt (3)......................... 312,324 10,000 7.5% 580 Riverwoods Way Bethlehem, PA 18018 Leon C. Kirschner......................... 190,091 43,750 5.4% Theodore W. Myers (4)..................... 26,200 7,500 * Anthony W. Schweiger ..................... 30,000 7,500 * Steven Shulman............................ 169,109 10,000 4.2% Leonard S. Yurkovic....................... 58,000 5,000 1.5% Ronald J. Semanick........................ 7,839 15,833 * Gordon A. Hellberg........................ 1,520 10,750 * All current directors and executive officers as a group (8 persons) (3) (4) ................... 795,083 110,333 20.7% - ----------------------------------- *Less than 1%. (1) The percentage for each individual, entity or group is based on the aggregate number of shares outstanding as of March 24, 2005 (4,266,710) and all shares issuable upon the exercise of outstanding stock options held by each individual or group that are presently exercisable or exercisable within 60 days after March 24, 2005. (2) This information is presented in reliance on information disclosed in a Schedule 13G/A filed with the Securities and Exchange Commission on February 2, 2005. (3) Includes 45,883 shares held by members of Mr. Bradt's immediate family. Mr. Bradt disclaims beneficial ownership of such shares. (4) Includes 2,800 shares held by members of Mr. Myers' immediate family. Mr. Myers disclaims beneficial ownership of such shares.
60 Item 12. Security Ownership of Management and Certain Beneficial Owners - -------- -------------------------------------------------------------- (Continued) Equity Compensation Plan Information - ------------------------------------ The Company maintains the 1997 Equity Compensation Plan (the "1997 Plan") pursuant to which it may grant equity awards to eligible persons. The Company also maintains a deferred compensation plan for directors (the "Directors' Plan") which is described in more detail below. The following table gives information about equity awards under the Company's 1997 Plan and the Directors' Plan.
(a) (b) (c) -------------------- -------------------- ----------------------- Number of securities remaining Number of available for future securities to be Weighted- issuance under issued upon average exercise equity exercise of price of compensation plans outstanding outstanding (excluding options, warrants options, warrants securities reflected Plan Category and rights and rights in column (a)) - ------------------------------ -------------------- -------------------- ----------------------- Equity compensation 209,783 $ 7.11 669,347 plans approved by security holders.......... Equity compensation plans not approved by security holders.......... - - 2,239 ------- ---- ------- Total........................ 209,783 $ 7.11 671,586 ======= ==== =======
Directors' Plan - --------------- Directors may elect to defer receipt of payment of directors' fees. Deferred directors' fees accrue interest at the prime rate of interest charged by the Company's principal bank or may be invested in phantom units equivalent to shares of common stock of the Company. There are currently no phantom units outstanding. 61 Item 13. Certain Relationships and Related Transactions - -------- ---------------------------------------------- To complete the acquisition of Ermanco on September 30, 1999, the Company issued $3,000,000 in subordinated promissory notes to the stockholders of Ermanco, including notes in the original principal amounts of $1,382,861 and $1,001,382 to Steven Shulman and Leon C. Kirschner, respectively. During 2003, the Company prepaid all of its outstanding subordinated debt. Mr. Shulman is a director of the Company, and Mr. Kirschner serves as the President of Ermanco and Chief Operating Officer of the Company. Note 4 of the Notes to Consolidated Financial Statements provides additional information regarding the promissory notes issued to the fourteen stockholders of Ermanco, eight of whom continue to be employees of the Company. Ermanco's operations are located in a 94,000 square foot steel building in Spring Lake, Michigan. The building is leased from a limited liability company that is affiliated with the Company through a common director and officer of the Company, Messrs. Shulman and Kirschner. The leasing agreement, as amended, requires fixed monthly rentals of $29,310 (with annual increases of 2.5%). The terms of the lease require the payment by Ermanco of all taxes, insurance, and other ownership-related costs of the property. The lease, as amended on April 1, 2004, expires on September 30, 2008. The Company has an employment agreement with Leon C. Kirschner, an officer of the Company and President of Ermanco Incorporated. The employment agreement entitles Mr. Kirschner to receive annual compensation during the term of the employment agreement, participate in a bonus plan, plus usual and customary fringe benefits associated with being an employee of the Company. Under certain circumstances, the employment agreement provides for post termination severance payments. Item 14. Principal Accountant Fees and Services - -------- -------------------------------------- KPMG LLP ("KPMG") served as the Company's independent registered public accountants for 2004 and 2003. Audit Fees - ---------- KPMG's fees for professional services rendered in connection with the audit of financial statements included in the Company's Form 10-K and review of financial statements included in the Company's Forms 10-Q and all other SEC regulatory filings were $145,000 for 2004 and $159,800 for 2003. Audit-Related Fees - ------------------ KPMG's fees for audit-related services were $10,000 for 2004 and $10,000 for 2003. These services were rendered in connection with audits of the Company's employee benefit plans. Tax Fees - -------- KPMG's fees for tax compliance and tax consultation services related to our annual federal and state tax returns were $63,100 for 2004 and $80,850 for 2003. All Other Fees - -------------- No other fees were charged by KPMG to the Company other than those referenced above. In accordance with our Audit Committee Charter, the Audit Committee approves in advance any and all audit services, including audit engagement fees and terms, and non-audit services provided to us by our independent registered public accountants (subject to the de minimus exception for non-audit services contained in Section 10A(i)(1)(B) of the Securities Exchange Act of 1934, as amended), all as required by applicable law or listing standards. The independent auditors and our management are required to periodically report to the Audit Committee the extent of services provided by the independent registered public accountants and the fees associated with these services. 62 PART IV ------- Item 15. Exhibits and Financial Statement Schedules - -------- ------------------------------------------ (a) 1. Index to Consolidated Financial Statements Report of Independent Registered Public Accounting Firm Consolidated Financial Statements: Consolidated Balance Sheets, December 31, 2004 and 2003 Consolidated Statements of Operations for the years ended December 31, 2004, 2003, and 2002 Consolidated Statements of Stockholders' Equity for the years ended December 31, 2004, 2003, and 2002 Consolidated Statements of Cash Flows for the years ended December 31, 2004, 2003, and 2002 Notes to Consolidated Financial Statements 2. Index to Financial Statement Schedule II Valuation and Qualifying Accounts All other schedules are omitted as the required information is inapplicable or the information is presented in the consolidated financial statements or related notes. 3. Exhibits: 2.1 Stock Purchase Agreement dated as of August 6, 1999 among SI Handling Systems, Inc., Ermanco Incorporated, and the stockholders of Ermanco Incorporated (incorporated by reference to Exhibit 2.1 to Form 10-Q for the quarterly period ended August 29, 1999). 2.2 Stock Purchase Agreement by and among McKesson Automation Systems, Inc., Paragon Technologies, Inc., and SI/BAKER, INC. dated September 19, 2003 (incorporated by reference to Exhibit 2.2 on Form 8-K, filed on October 1, 2003). 3.1 Articles of Incorporation of Paragon Technologies, Inc., a Delaware corporation (incorporated by reference to Exhibit 3.1 on Form 8-K, filed on December 11, 2001). 3.2 Bylaws of Paragon Technologies, Inc., a Delaware corporation (incorporated by reference to Exhibit 3.2 on Form 8-K, filed on December 11, 2001). 10.1 Executive Officer Incentive Plan* (incorporated by reference to Exhibit 10.5 to Annual Report on Form 10-K for the fiscal year ended February 26, 1995). 10.2 Directors' Deferred Compensation Plan* (incorporated by reference to Exhibit 10.6 to the Company's Registration Statement on Form S-8 [No. 333-10181]). 10.3 1997 Equity Compensation Plan* (incorporated by reference to Exhibit 10.7 to the Company's Registration Statement on Form S-8 [No. 333-36397]). 10.4 Executive Employment Agreement with William R. Johnson dated March 29, 1999* (incorporated by reference to Exhibit 10.10 to Form 10-Q for the quarterly period ended May 30, 1999). 10.5 Employment Agreement with Leon C. Kirschner* (incorporated by reference to Exhibit 10.11 to Form 8-K filed on October 15, 1999). 10.6 Line of Credit Loan Agreement entered into September 30, 1999 by and between SI Handling Systems, Inc., Ermanco Incorporated, and First Union National Bank (incorporated by reference to Exhibit 10.12 to Form 8-K filed on October 15, 1999). 63 PART IV (Continued) ------- Item 15. Exhibits and Financial Statement Schedules (Continued) - -------- ------------------------------------------ 10.7 Promissory Note related to the Line of Credit Loan Agreement entered into September 30, 1999 by and between SI Handling Systems, Inc., Ermanco Incorporated, and First Union National Bank (incorporated by reference to Exhibit 10.13 to Form 8-K filed on October 15, 1999). 10.8 First Amendment to Term Note and Loan Agreement dated March 30, 2000 (incorporated by reference to Exhibit 10.17 to Form 10-Q, filed on May 15, 2000). 10.9 Registration Rights Agreement (incorporated by reference to Exhibit 10.1 to Form S-3, filed on July 5, 2000). 10.10 Amended and Restated Executive Employment Agreement with William R. Johnson dated October 1, 2001* (incorporated by reference to Exhibit 10.22 to Amendment No. 1 to Annual Report on Form 10-K for the year ended December 31, 2001). 10.11 Amended and Restated Executive Employment Agreement with Leon C. Kirschner dated August 28, 2002* (incorporated by reference to Exhibit 10.23 to Form 10-Q, filed on November 14, 2002). 10.12 Sixth Amendment to Line of Credit Note and Loan Agreement dated August 9, 2002 (incorporated by reference to Exhibit 10.24 to Form 10-Q, filed on November 14, 2002). 10.13 Sixth Amendment to Promissory Note and Loan Agreement (Term Loan) dated November 13, 2002 (incorporated by reference to Exhibit 10.25 to Annual Report on Form 10-K for the year ended December 31, 2002). 10.14 Seventh Amendment to Line of Credit Note and Loan Agreement (Line of Credit) dated November 13, 2002 (incorporated by reference to Exhibit 10.26 to Annual Report on Form 10-K for the year ended December 31, 2002). 10.15 Agreement of Sale between J. G. Petrucci Company, Inc. or its Assigns and Paragon Technologies, Inc. dated November 8, 2002 (incorporated by reference to Exhibit 10.27 to Form 10-Q, filed on May 14, 2003). 10.16 Amendment I to Agreement of Sale between J. G. Petrucci Company, Inc. and Paragon Technologies, Inc. dated January 2, 2003 (incorporated by reference to Exhibit 10.28 to Form 10-Q, filed on May 14, 2003). 10.17 Amendment II to Agreement of Sale between Triple Net Investments XIII, L.P. and Paragon Technologies, Inc. dated January 13, 2003 (incorporated by reference to Exhibit 10.29 to Form 10-Q, filed on May 14, 2003). 10.18 Amendment III to Agreement of Sale between Triple Net Investments, XIII, L.P. and Paragon Technologies, Inc. dated January 17, 2003 (incorporated by reference to Exhibit 10.30 to Form 10-Q, filed on May 14, 2003). 10.19 Lease Agreement between Triple Net Investments XIII, L.P. and Paragon Technologies, Inc. dated February 21, 2003 (incorporated by reference to Exhibit 10.31 to Form 10-Q, filed on May 14, 2003). 10.20 Eighth Amendment to Line of Credit Note and Loan Agreement (Line of Credit) dated June 5, 2003 (incorporated by reference to Exhibit 10.32 to Form 10-Q, filed on August 14, 2003). 10.21 Loan Agreement (Term Loan A and Term Loan B) entered into June 5, 2003 by and between Paragon Technologies, Inc., Ermanco Incorporated, and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.33 to Form 10-Q, filed on August 14, 2003). 64 PART IV (Continued) ------- Item 15. Exhibits and Financial Statement Schedules (Continued) - -------- ------------------------------------------ 10.22 Promissory Note related to Term Loan A entered into June 5, 2003 by and between Paragon Technologies, Inc., Ermanco Incorporated, and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.34 to Form 10-Q, filed on August 14, 2003). 10.23 Promissory Note related to Term Loan B entered into June 5, 2003 by and between Paragon Technologies, Inc., Ermanco Incorporated, and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.35 to Form 10-Q, filed on August 14, 2003). 10.24 Security Agreement related to Term Loan A dated June 5, 2003 by and between Paragon Technologies, Inc. and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.36 to Form 10-Q, filed on August 14, 2003). 10.25 First Amendment to Term Loan A and B Agreement dated August 4, 2003 by and between Paragon Technologies, Inc. and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.37 to Form 10-Q, filed on November 13, 2003). 10.26 Ninth Amendment to Line of Credit Note and Loan Agreement dated August 4, 2003 by and between Paragon Technologies, Inc. and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.38 to Form 10-Q, filed on November 13, 2003). 10.27 Amendment to Lease Agreement by and between Spring Lake Properties Holdings, L.C. and Ermanco Incorporated dated April 1, 2004 (incorporated by reference to Exhibit 10.27 to Form 10-Q, filed on August 12, 2004). 10.28 Lease Agreement related to the Line of Credit entered into August 6, 2004 by and between Paragon Technologies, Inc., Ermanco Incorporated, and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.28 to Form 10-Q, filed on November 12, 2004). 10.29 Promissory Note related to the Line of Credit entered into August 6, 2004 by and between Paragon Technologies, Inc., Ermanco Incorporated, and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.29 to Form 10-Q, filed on November 12, 2004). 10.30 Security Agreement related to the Line of Credit dated August 6, 2004 by and between Paragon Technologies, Inc., Ermanco Incorporated, and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.30 to Form 10-Q, filed on November 12, 2004). 14 Code of Business Conduct and Ethics (filed herewith). 21 Subsidiaries of the Registrant (filed herewith). 23.1 Consent of Independent Registered Public Accounting Firm (filed herewith). 31.1 Certification by Chief Executive Officer pursuant to Rule 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 signed by Leonard S. Yurkovic, President and CEO (filed herewith). 31.2 Certification by Chief Financial Officer pursuant to Rule 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 signed by Ronald J. Semanick, Chief Financial Officer and Vice President - Finance and Treasurer (filed herewith). 32.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 signed by Leonard S. Yurkovic, President and CEO (filed herewith). 32.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 signed by Ronald J. Semanick, Chief Financial Officer and Vice President - Finance and Treasurer (filed herewith). 66 PART IV (Continued) ------- Item 15. Exhibits and Financial Statement Schedules (Continued) - -------- ------------------------------------------ 99.1 Cautionary Statement (filed herewith). * Management contract or compensatory plan or arrangement required to be filed as an Exhibit pursuant to Item 15(c) of this report. (b) Exhibits 14, 21, 23.1, 31.1, 31.2, 32.1, 32.2, and 99.1 are filed with this report. (c) Not applicable. 66 SIGNATURES ---------- Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this Annual Report to be signed on its behalf by the undersigned, thereunto duly authorized. PARAGON TECHNOLOGIES, INC. Dated: March 30, 2005 By /s/ Theodore W. Myers ------------------------------------------- Theodore W. Myers Chairman of the Board of Directors Dated: March 30, 2005 By /s/ Leonard S. Yurkovic ------------------------------------------- Leonard S. Yurkovic President and Chief Executive Officer 67 Pursuant to the requirements of the Securities Exchange Act of 1934, this Annual Report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. This Annual Report may be signed in multiple identical counterparts, all of which taken together, shall constitute a single document. Dated: March 30, 2005 /s/ Theodore W. Myers ------------------------------------------------ Theodore W. Myers Chairman of the Board of Directors Dated: March 30, 2005 /s/ Leonard S. Yurkovic ------------------------------------------------ Leonard S. Yurkovic President & Chief Executive Officer, Director Dated: March 30, 2005 /s/ Ronald J. Semanick ------------------------------------------------ Ronald J. Semanick Vice President-Finance, Chief Financial Officer, Treasurer, and Secretary (Principal Accounting and Financial Officer) Dated: March 30, 2005 /s/ Leon C. Kirschner ------------------------------------------------ Leon C. Kirschner Chief Operating Officer, President of Ermanco Incorporated Dated: March 30, 2005 /s/ L. Jack Bradt ------------------------------------------------ L. Jack Bradt Director Dated: March 30, 2005 /s/ Anthony W. Schweiger ------------------------------------------------ Anthony W. Schweiger Director Dated: March 30, 2005 /s/ Steven Shulman ------------------------------------------------ Steven Shulman Director 68 EXHIBIT INDEX 2.1 Stock Purchase Agreement dated as of August 6, 1999 among SI Handling Systems, Inc., Ermanco Incorporated, and the stockholders of Ermanco Incorporated (incorporated by reference to Exhibit 2.1 to Form 10-Q for the quarterly period ended August 29, 1999). 2.2 Stock Purchase Agreement by and among McKesson Automation Systems, Inc., Paragon Technologies, Inc., and SI/BAKER, INC. dated September 19, 2003 (incorporated by reference to Exhibit 2.2 on Form 8-K, filed on October 1, 2003). 3.1 Articles of Incorporation of Paragon Technologies, Inc., a Delaware corporation (incorporated by reference to Exhibit 3.1 on Form 8-K, filed on December 11, 2001). 3.2 Bylaws of Paragon Technologies, Inc., a Delaware corporation (incorporated by reference to Exhibit 3.2 on Form 8-K, filed on December 11, 2001). 10.1 Executive Officer Incentive Plan* (incorporated by reference to Exhibit 10.5 to Annual Report on Form 10-K for the fiscal year ended February 26, 1995). 10.2 Directors' Deferred Compensation Plan* (incorporated by reference to Exhibit 10.6 to the Company's Registration Statement on Form S-8 [No. 333-10181]). 10.3 1997 Equity Compensation Plan* (incorporated by reference to Exhibit 10.7 to the Company's Registration Statement on Form S-8 [No. 333-36397]). 10.4 Executive Employment Agreement with William R. Johnson dated March 29, 1999* (incorporated by reference to Exhibit 10.10 to Form 10-Q for the quarterly period ended May 30, 1999). 10.5 Employment Agreement with Leon C. Kirschner* (incorporated by reference to Exhibit 10.11 to Form 8-K filed on October 15, 1999). 10.6 Line of Credit Loan Agreement entered into September 30, 1999 by and between SI Handling Systems, Inc., Ermanco Incorporated, and First Union National Bank (incorporated by reference to Exhibit 10.12 to Form 8-K filed on October 15, 1999). 10.7 Promissory Note related to the Line of Credit Loan Agreement entered into September 30, 1999 by and between SI Handling Systems, Inc., Ermanco Incorporated, and First Union National Bank (incorporated by reference to Exhibit 10.13 to Form 8-K filed on October 15, 1999). 10.8 First Amendment to Term Note and Loan Agreement dated March 30, 2000 (incorporated by reference to Exhibit 10.17 to Form 10-Q, filed on May 15, 2000). 10.9 Registration Rights Agreement (incorporated by reference to Exhibit 10.1 to Form S-3, filed on July 5, 2000). 10.10 Amended and Restated Executive Employment Agreement with William R. Johnson dated October 1, 2001* (incorporated by reference to Exhibit 10.22 to Amendment No. 1 to Annual Report on Form 10-K for the year ended December 31, 2001). 10.11 Amended and Restated Executive Employment Agreement with Leon C. Kirschner dated August 28, 2002* (incorporated by reference to Exhibit 10.23 to Form 10-Q, filed on November 14, 2002). 10.12 Sixth Amendment to Line of Credit Note and Loan Agreement dated August 9, 2002 (incorporated by reference to Exhibit 10.24 to Form 10-Q, filed on November 14, 2002). 10.13 Sixth Amendment to Promissory Note and Loan Agreement (Term Loan) dated November 13, 2002 (incorporated by reference to Exhibit 10.25 to Annual Report on Form 10-K for the year ended December 31, 2002). 10.14 Seventh Amendment to Line of Credit Note and Loan Agreement (Line of Credit) dated November 13, 2002 (incorporated by reference to Exhibit 10.26 to Annual Report on Form 10-K for the year ended December 31, 2002). 10.15 Agreement of Sale between J. G. Petrucci Company, Inc. or its Assigns and Paragon Technologies, Inc. dated November 8, 2002 (incorporated by reference to Exhibit 10.27 to Form 10-Q, filed on May 14, 2003). 10.16 Amendment I to Agreement of Sale between J. G. Petrucci Company, Inc. and Paragon Technologies, Inc. dated January 2, 2003 (incorporated by reference to Exhibit 10.28 to Form 10-Q, filed on May 14, 2003). 69 EXHIBIT INDEX (Continued) 10.17 Amendment II to Agreement of Sale between Triple Net Investments XIII, L.P. and Paragon Technologies, Inc. dated January 13, 2003 (incorporated by reference to Exhibit 10.29 to Form 10-Q, filed on May 14, 2003). 10.18 Amendment III to Agreement of Sale between Triple Net Investments, XIII, L.P. and Paragon Technologies, Inc. dated January 17, 2003 (incorporated by reference to Exhibit 10.30 to Form 10-Q, filed on May 14, 2003). 10.19 Lease Agreement between Triple Net Investments XIII, L.P. and Paragon Technologies, Inc. dated February 21, 2003 (incorporated by reference to Exhibit 10.31 to Form 10-Q, filed on May 14, 2003). 10.20 Eighth Amendment to Line of Credit Note and Loan Agreement (Line of Credit) dated June 5, 2003 (incorporated by reference to Exhibit 10.32 to Form 10-Q, filed on August 14, 2003). 10.21 Loan Agreement (Term Loan A and Term Loan B) entered into June 5, 2003 by and between Paragon Technologies, Inc., Ermanco Incorporated, and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.33 to Form 10-Q, filed on August 14, 2003). 10.22 Promissory Note related to Term Loan A entered into June 5, 2003 by and between Paragon Technologies, Inc., Ermanco Incorporated, and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.34 to Form 10-Q, filed on August 14, 2003). 10.23 Promissory Note related to Term Loan B entered into June 5, 2003 by and between Paragon Technologies, Inc., Ermanco Incorporated, and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.35 to Form 10-Q, filed on August 14, 2003). 10.24 Security Agreement related to Term Loan A dated June 5, 2003 by and between Paragon Technologies, Inc. and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.36 to Form 10-Q, filed on August 14, 2003). 10.25 First Amendment to Term Loan A and B Agreement dated August 4, 2003 by and between Paragon Technologies, Inc. and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.37 to Form 10-Q, filed on November 13, 2003). 10.26 Ninth Amendment to Line of Credit Note and Loan Agreement dated August 4, 2003 by and between Paragon Technologies, Inc. and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.38 to Form 10-Q, filed on November 13, 2003). 10.27 Amendment to Lease Agreement by and between Spring Lake Properties Holdings, L.C. and Ermanco Incorporated dated April 1, 2004 (incorporated by reference to Exhibit 10.27 to Form 10-Q, filed on August 12, 2004). 10.28 Lease Agreement related to the Line of Credit entered into August 6, 2004 by and between Paragon Technologies, Inc., Ermanco Incorporated, and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.28 to Form 10-Q, filed on November 12, 2004). 10.29 Promissory Note related to the Line of Credit entered into August 6, 2004 by and between Paragon Technologies, Inc., Ermanco Incorporated, and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.29 to Form 10-Q, filed on November 12, 2004). 10.30 Security Agreement related to the Line of Credit dated August 6, 2004 by and between Paragon Technologies, Inc., Ermanco Incorporated, and Wachovia Bank, National Association (incorporated by reference to Exhibit 10.30 to Form 10-Q, filed on November 12, 2004). 14 Code of Business Conduct and Ethics (filed herewith). 21 Subsidiaries of the Registrant (filed herewith). 23.1 Consent of Independent Registered Public Accounting Firm (filed herewith). 31.1 Certification by Chief Executive Officer pursuant to Rule 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 signed by Leonard S. Yurkovic, President and CEO (filed herewith). 70 EXHIBIT INDEX (Continued) 31.2 Certification by Chief Financial Officer pursuant to Rule 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 signed by Ronald J. Semanick, Chief Financial Officer and Vice President - Finance and Treasurer (filed herewith). 32.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 signed by Leonard S. Yurkovic, President and CEO (filed herewith). 32.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 signed by Ronald J. Semanick, Chief Financial Officer and Vice President - Finance and Treasurer (filed herewith). 99.1 Cautionary Statement (filed herewith). *Management contract or compensatory plan or arrangement required to be filed as an Exhibit pursuant to Item 14(c) of this report. 71 EX-14 2 ex-14.txt CODE OF BUSINESS CONDUCT AND ETHICS Exhibit 14 ---------- PARAGON TECHNOLOGIES, INC. CODE OF BUSINESS CONDUCT AND ETHICS Introduction This Code of Business Conduct and Ethics ("Code") provides a general statement of the expectations of Paragon Technologies, Inc. ("Company") regarding the ethical standards that each director, officer, and employee should adhere to while acting on behalf of the Company. It does not cover every issue that may arise, but it sets out basic principles to guide all employees, officers, and directors of the Company. All of our employees, officers, and directors must conduct themselves accordingly and seek to avoid even the appearance of improper behavior. This Code may also be provided to the Company's agents and representatives, including consultants, who are expected to follow the same basic principles when providing services for the Company. The Company's Board of Directors is responsible for setting the standards of business conduct contained in this Code and updating these standards as it deems appropriate to reflect changes in the legal and regulatory framework applicable to the Company, the business practices within the Company's industry, the Company's own business practices, and the prevailing ethical standards of the communities in which the Company operates. While the Company's Chief Executive Officer will oversee the procedures designed to implement this Code to ensure that they are operating effectively, it is the individual responsibility of each director, officer, and employee of the Company to comply with this Code. Each director, officer, and employee is expected to read and become familiar with the ethical standards described in this Code and may be required, from time to time, to affirm in writing his or her agreement to adhere to such standards. If a law conflicts with a policy in this Code, you must comply with the law; however, if a local custom or policy conflicts with this Code, you must comply with the Code. If you have any questions about these conflicts, you should ask your supervisor how to handle the situation. Those who violate the standards in this Code will be subject to disciplinary action. If you are in a situation which you believe may violate or lead to a violation of this Code, follow the guidelines described in Section 14 of this Code. 1. Compliance with Laws, Rules and Regulations Obeying the law, both in letter and in spirit, is the foundation on which this Company's ethical standards are built. The Company expects that all directors, officers, and employees acting on behalf of the Company will obey the laws of the cities, states, and countries in which we operate. Although you may not know the details of these laws, it is important to know enough to determine when to seek advice from supervisors, managers, or other appropriate advisors. The Company publishes policies and holds information and training sessions to promote compliance with applicable laws, rules and regulations. 2. Conflicts of Interest A "conflict of interest" exists when a person's private interest interferes in any way with the interests of the Company. A conflict situation can arise when an employee, officer, or director takes actions or has interests that may make it difficult to perform his or her Company work objectively and effectively. Conflicts of interest may also arise when an employee, officer, or director, or a member of his or her family, receives improper personal benefits as a result of his or her position in the Company. Loans to, or guarantees of obligations of, employees and their family members may create conflicts of interest. It is almost always a conflict of interest for a Company employee to work simultaneously for a competitor, customer, or supplier. You are not allowed to work for a competitor as a consultant or board member. The best policy is to avoid any direct or indirect business connection with our customers, suppliers, or competitors, except on the Company's behalf. Conflicts of interest are prohibited as a matter of Company policy, except under guidelines approved by the Board of Directors. Conflicts of interest may not always be clear-cut, so if you have a question, you should consult with higher levels of management. Any employee, officer, or director who becomes aware of a conflict or potential conflict should bring it to the attention of a supervisor, or consult the procedures described in Section 14 of this Code. 3. Insider Trading Employees who have access to confidential information are not permitted to use or share that information for stock trading purposes or for any other purpose except the conduct of our business. All non-public information about the Company should be considered confidential information. To use non-public information for personal financial benefit or to "tip" others who might make an investment decision on the basis of this information is not only unethical but also illegal. If you have any questions, please consult the Company's Policy Statement on Dealing with Company Information, including Inside Information, Prohibition of Insider Trading and Conflicts of Interest. 4. Corporate Opportunities Employees, officers, and directors are prohibited from taking for themselves personally any opportunities that are discovered through the use of Company property, information, or position, except with the consent of the Board of Directors. No employee may use Company property, information, or position for improper personal gain, and no employee may compete with the Company directly or indirectly. Employees, officers, and directors owe a duty to the Company to advance its legitimate interests when the opportunity to do so arises. 5. Competition and Fair Dealing We seek to outperform our competition fairly and honestly. We seek competitive advantages through superior performance, never through unethical or illegal business practices. Stealing proprietary information, possessing trade secret information that was obtained without the owner's consent, or inducing such disclosures by past or present employees of other companies is prohibited. Each employee should endeavor to respect the rights of and deal fairly with the Company's customers, suppliers, competitors, and employees. No employee should take unfair advantage of anyone through manipulation, concealment, abuse of privileged information, misrepresentation of material facts, or any other intentional unfair-dealing practice. To maintain the Company's valuable reputation, compliance with our quality processes and safety requirements is essential. In the context of ethics, quality requires that our products and services be designed and manufactured to meet our obligations to customers. All inspection and testing documents must be handled in accordance with all applicable regulations. The purpose of business entertainment and gifts in a commercial setting is to create good will and sound working relationships, not to gain unfair advantage with customers. No gift or entertainment should ever be offered, given, provided or accepted by any Company employee, or family member of an employee, or agent unless it: (1) is not a cash gift, (2) is consistent with customary business practices, (3) is not excessive in value, (4) cannot be construed as a bribe or payoff, and (5) does not violate any laws or regulations. Please discuss with your supervisor any gifts or proposed gifts that you believe may be, or may appear to be, inappropriate. 2 6. Discrimination and Harassment The diversity of the Company's employees is a tremendous asset. We are firmly committed to providing equal opportunity in all aspects of employment and will not tolerate any illegal discrimination or harassment or any kind. Examples include derogatory comments based on racial or ethnic characteristics and unwelcome sexual advances. 7. Health and Safety The Company strives to provide each employee with a safe and healthful work environment. Each employee has the responsibility for maintaining a safe and healthy workplace for all employees by following safety and health rules and practices and reporting accidents, injuries, and unsafe equipment, practices, or conditions. Violence and threatening behavior are not permitted. Employees should report to work in condition to perform their duties, free from the influence of illegal drugs or alcohol. The use of illegal drugs in the workplace will not be tolerated. 8. Record-Keeping The Company requires honest and accurate recording and reporting of information in order to make responsible business decisions. For example, only the true and actual number of hours worked should be reported. Many employees regularly use business expense accounts, which must be documented and recorded accurately. If you are not sure whether a certain expense is legitimate, ask your supervisor, the CFO, Finance Manager, Accounting Manager, or another member of the Finance/Accounting Department. All of the Company's books, records, accounts, and financial statements must be maintained in reasonable detail, must appropriately reflect the Company's transactions, and must conform both to applicable legal requirements and to the Company's system of internal controls. The Company's internal controls system is designed to ensure that the process of gathering and processing financial data results in the accurate preparation of the Company's financial statements. It is the Company's policy that no employee may take any action that is not consistent with those accounting controls. The Company's outside auditors play a large role in ensuring the accuracy of our financial statements and their involvement in that process must not be compromised through conflicts of interest or other improper pressure or coercion. The provisions of this Code concerning business entertainment of customers and suppliers also apply to dealings with the Company's independent public accountants. In addition, it is prohibited under federal law and Company policy to fraudulently influence, coerce, manipulate, or mislead the Company's independent public accountants for the purpose of rendering the Company's financial statements materially misleading. Business records and communications often become public, and we should avoid exaggeration, derogatory remarks, guesswork, or inappropriate characterizations of people and companies that can be misunderstood. This applies equally to e-mail, eRooms, internal memos, and formal reports. Records should be retained or destroyed according to the Company's record retention policies, including any specific instructions in the event of any litigation or governmental investigation affecting the Company. 9. Accurate and Timely Periodic Reports The Company is committed to providing its stockholders and the investment community with full, fair, accurate, timely, and understandable disclosure in its press releases and filings made with the Securities and Exchange Commission. 3 The Company must maintain a system of disclosure controls and procedures that will provide reasonable assurances to management that material information about the Company is made known to management, particularly during the periods in which the Company's periodic reports are being prepared. All employees, officers, and directors are responsible for providing prompt, accurate, and complete information in connection with implementation of these procedures and preparation of these reports. 10. Confidentiality; Protection and Proper Use of the Company's Assets Directors, officers, and employees must maintain the confidentiality of confidential information entrusted to them by the Company or its suppliers, customers, or other business partners, except when disclosure is authorized by the CEO or legally required. Confidential information includes all non-public information that might be of use to competitors, or harmful to the Company or its suppliers, customers, or other business partners, if disclosed. It also includes information that suppliers, customers, and other business partners have entrusted to us. The obligation to preserve confidential information continues even after employment or service to the Company ends. Directors, officers, and employees are personally responsible for protecting those Company assets that are entrusted to them and for helping to protect the Company's assets in general. Company equipment should not be used for non-Company business, though incidental personal use may be permitted. The obligation of employees, officers, and directors to protect the Company's assets includes its intellectual property, such as trade secrets, patents, trademarks, and copyrights, as well as business, marketing, and service plans, engineering and manufacturing ideas, designs, databases, records, salary information, and any unpublished financial data and reports. Unauthorized use or distribution of this information is prohibited. 11. Payments to Government Personnel The U.S. Foreign Corrupt Practices Act prohibits giving anything of value, directly or indirectly, to officials of foreign governments or foreign political candidates in order to obtain or retain business. It is strictly prohibited to make illegal payments to government officials of any country. In addition, the U.S. government has a number of laws and regulations regarding business gratuities which may be accepted by U.S. government personnel. The promise, offer, or delivery to an official or employee of the U.S. government of a gift, favor, or other gratuity in violation of these rules would not only violate Company policy but could also be a criminal offense. State and local governments, as well as foreign governments, may have similar rules. The CEO can provide guidance to you in this area. 12. Waivers of the Code of Business Conduct and Ethics The provisions of this Code may be waived for directors or executive officers only by a resolution of the Company's independent directors. The provisions of this Code may be waived for employees who are not directors or executive officers by the Company's CEO. Any waiver of this Code granted to an executive officer or director will be publicly disclosed as required by the securities exchange or association on which the Company's securities are listed for trading. Any change in or waiver of this Code for senior financial officers will be publicly disclosed as required by the Securities and Exchange Commission. 4 13. Reporting and Effect of Violations Directors and officers should report, in person or in writing, any known or suspected violations of laws, governmental regulations, or this Code to the CEO. Employees who are not directors or officers are encouraged to report such violations, initially, to their immediate supervisor. If in doubt about the best course of action in a particular situation, contact your supervisor. It is the policy of the Company not to allow any retaliation for reports of misconduct by others that are made in good faith by directors, officers, or employees. Allowing retaliation for such reports is a violation of Federal law. The Supervisor-Cost Estimating of the Company will oversee an investigation of any reported violations and the implementation of an appropriate response. All directors, officers, and employees are expected to cooperate in internal investigations of misconduct. 14. Compliance Procedures We must all work to ensure prompt and consistent action against violations of this Code. However, in some situations it is difficult to know right from wrong. Since we cannot anticipate every situation that will arise, it is important that we have a way to approach a new question or problem. These are the steps to keep in mind: o Make sure you have all the facts. In order to reach the right -------------------------------- solutions, we must be as fully informed as possible. o Ask yourself: What, specifically, am I being asked to do? Does it ----------------------------------------------------------------- seem unethical or improper? This will enable you to focus on the --------------------------- specific question you are faced with, and the alternatives you have. Use your judgment and common sense; if something seems unethical or improper, it probably is. o Clarify your responsibility and role. In most situations, there is ------------------------------------ shared responsibility. Are your colleagues informed? It may help to get others involved and discuss the problem. o Discuss the problem with your supervisor. This is the basic ---------------------------------------- guidance for all situations. In many cases, your supervisor will be more knowledgeable about the question, and will appreciate being brought into the decision-making process. Remember that it is your supervisor's responsibility to help solve problems. o Seek help from other Company resources. In any case where it may -------------------------------------- not be appropriate to discuss an issue with your supervisor, or where you do not feel comfortable approaching your supervisor with your question, you should promptly discuss it with other appropriate Company resources. If you are concerned about general compliance matters, you may consult the CEO, or, if you prefer to write, address your concerns to the CEO. If you are concerned about the Company's accounting or financial reporting practices, you may submit your concerns to the Chairman of the Audit Committee on a confidential and anonymous basis. You may obtain the current contact information for the Chairman of the Audit Committee from the Supervisor-Cost Estimating of the Company. o You may report ethical violations in confidence and without fear ---------------------------------------------------------------- of retaliation. If your situation requires that your identity be -------------- kept secret, your anonymity will be protected to the fullest extent possible. The Company does not permit retaliation of any kind against employees for good faith reports of ethical violations. o Always ask first, act later: If you are unsure of what to do in --------------------------- any situation, seek guidance before you act. -------------- 5 15. Protection of Whistleblowers The Company strives to conduct its business at all times with integrity and in an ethical manner. The Company has a strong practice of compliance with all applicable laws, adherence to all contractual requirements, conduct of ethical Company practices, and observance of Company guidelines. The Company encourages its employees to report any incident inconsistent with these guidelines to the Company and specifically avoids discouraging employees from reporting violations of law to governmental agencies responsible for enforcement of such laws. It is the practice of the Company to provide unconditional protection to employees involved in identifying and reporting incidents of non-compliance with law, breach of contract requirements, or unethical Company practices. This employee protection policy is based on the following: The Company will maintain a reporting process that is intended to achieve maximum individual or group anonymity. Any employee who becomes aware of an incident involving non-compliance with law, contractual obligations, ethical requirements, or Company guidelines should immediately report the incident (anonymously or otherwise) to the Supervisor-Cost Estimating of the Company. No employee who reports a possible ethical violation or other violation of law or statute will be discharged, demoted, suspended, harassed, or discriminated against in any manner as a result of the employee's reporting of a possible violation. Voluntary disclosure by employees of incidents involving non-compliance with law, contractual obligations, ethical requirements, or Company guidelines is encouraged. Any employee who believes he or she has been discriminated against on the basis of making a voluntary disclosure in accordance with this guideline should immediately bring the problem to the attention of the Supervisor-Cost Estimating of the Company. Any employee who reasonably believes that there has been a material violation of this Code of Ethics and Business Conduct caused by questionable accounting or auditing matters has the right to submit a confidential, anonymous complaint to the Supervisor-Cost Estimating. The complaint should be made in written form and provide sufficient information so that a reasonable investigation can be conducted. The complaint should be addressed to the Supervisor-Cost Estimating of the Company. 6 EX-21 3 ex-21.txt SUBSIDIARIES OF THE REGISTRANT Exhibit 21 ---------- SUBSIDIARIES OF THE REGISTRANT Ermanco Incorporated, a wholly-owned subsidiary of Paragon Technologies, Inc. EX-23 4 ex23-1.txt CONSENTS OF EXPERTS AND COUNSEL Exhibit 23.1 ------------ Consent of Independent Registered Public Accounting Firm -------------------------------------------------------- The Board of Directors Paragon Technologies, Inc.: We consent to the incorporation by reference in the registration statements (No. 333-25555, No. 333-36397, No. 333-59226, and No. 333-65870) on Form S-8 and No. 333-40834 on Form S-3 of Paragon Technologies, Inc. of our report dated March 4, 2005, with respect to the consolidated balance sheets of Paragon Technologies, Inc. and subsidiary as of December 31, 2004 and 2003, and the related consolidated statements of operations, stockholders' equity and cash flows for each of the years in the three-year period ended December 31, 2004, and the related financial statement schedule, which report appears in the December 31, 2004 annual report on Form 10-K of Paragon Technologies, Inc. /s/ KPMG LLP Philadelphia, Pennsylvania March 28, 2005 EX-31 5 ex31-1.txt EXHIBIT 31.1 - SECTION 302 CERTIFICATION Exhibit 31.1 ------------ SECTION 302 CERTIFICATION I, Leonard S. Yurkovic, certify that: 1. I have reviewed this annual report on Form 10-K of Paragon Technologies, Inc.; 2. Based on my knowledge, this annual 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 annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual 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 annual report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) 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 annual report is being prepared; b) 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 c) 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 that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent function): 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 controls over financial reporting. Date: /s/ March 30, 2005 ---------------------------------------------------------------- /s/ Leonard S. Yurkovic - ----------------------------------------------------------------------- Leonard S. Yurkovic President and CEO EX-31 6 ex31-2.txt EXHIBIT 31.2 - SECTION 302 CERTIFICATION Exhibit 31.2 ------------ SECTION 302 CERTIFICATION I, Ronald J. Semanick, certify that: 1. I have reviewed this annual report on Form 10-K of Paragon Technologies, Inc.; 2. Based on my knowledge, this annual 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 annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual 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 annual report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) 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 annual report is being prepared; b) 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 c) 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 that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent function): 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 controls over financial reporting. Date: /s/ March 30, 2005 ---------------------------------------------------------------- /s/ Ronald J. Semanick - ----------------------------------------------------------------------- Ronald J. Semanick Chief Financial Officer, and Vice President - Finance and Treasurer EX-32 7 ex32-1.txt EXHIBIT 32.1 - CERTIFICATION OF PRESIDENT AND CEO Exhibit 32.1 ------------ CERTIFICATION OF PRESIDENT AND CEO 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 Paragon Technologies, Inc. (the "Company") Annual Report on Form 10-K for the year ended December 31, 2004 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Leonard S. Yurkovic, President and CEO of the Company, certify, pursuant to 18 U.S.C. ss. 1350, as adopted pursuant to ss. 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 result of operations of the Company. /s/ Leonard S. Yurkovic ---------------------------------------------------- Leonard S. Yurkovic President and Chief Executive Officer March 30, 2005 EX-32 8 ex32-2.txt EXHIBIT 32.2 - CERTIFICATION OF CFO Exhibit 32.2 ------------ CERTIFICATION OF 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 Paragon Technologies, Inc. (the "Company") Annual Report on Form 10-K for the year ended December 31, 2004 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Ronald J. Semanick, Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. ss. 1350, as adopted pursuant to ss. 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 result of operations of the Company. /s/ Ronald J. Semanick ---------------------------------------------------- Ronald J. Semanick Chief Financial Officer and Vice President - Finance and Treasurer March 30, 2005 EX-99 9 ex99-1.txt EXHIBIT 99.1 - CAUTIONARY STATEMENT Exhibit 99.1 ------------ CAUTIONARY STATEMENT -------------------- THE FOLLOWING CAUTIONARY STATEMENTS ARE MADE TO PERMIT PARAGON TECHNOLOGIES, INC. TO TAKE ADVANTAGE OF THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 Investing in the Company's Common Stock will provide an investor with an equity ownership interest in the Company. Shareholders will be subject to risks inherent in the Company's business. The performance of Paragon's shares will reflect the performance of the Company's business relative to, among other things, general economic and industry conditions, market conditions, and competition. The value of the investment in the Company may increase or decline and could result in a loss. An investor should carefully consider the following factors as well as other information contained in this Form 10-K before deciding to invest in shares of the Company's Common Stock. This Form 10-K also contains forward-looking statements that involve risks and uncertainties. The Company's actual results could differ materially from those anticipated in the forward-looking statements as a result of many factors, including the risk factors described below and the other factors described elsewhere in this Form 10-K. The Company wishes to inform its investors of the following important factors that in some cases have affected, and in the future could affect, the Company's results of operations and that could cause such future results of operations to differ materially from those expressed in any forward looking statements made by or on behalf of the Company. Disclosure of these factors is intended to permit the Company to take advantage of the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995. Many of these factors have been discussed in prior SEC filings by the Company. Though the Company has attempted to list comprehensively these important cautionary factors, the Company wishes to caution investors that other factors may in the future prove to be important in affecting the Company's results of operations. ------------------------------ Sales of the Company's products depend on the capital spending decisions of its customers. Automated, integrated material handling systems using the Company's products can range in price from $100,000 to several million dollars. Accordingly, purchases of the Company's products represent a substantial capital investment by its customers, and the Company's success depends directly on their capital expenditure budgets. The Company's future operations may be subject to substantial fluctuations as a consequence of domestic and foreign economic conditions, industry patterns, and other factors affecting capital spending. The current domestic and international economic conditions in the Company's major markets for Ermanco and SI Systems' branded products, such as the electronics, telecommunications, semiconductor, appliance, pharmaceutical, food processing, and automotive components industries, have resulted in cutbacks in capital spending which has caused a direct, material adverse impact on the Company's product sales in recent years. The Company's business is largely dependent upon a limited number of large contracts with a limited number of customers. This dependence can cause unexpected fluctuations in sales volume. Since the Company recognizes sales on a percentage of completion basis for its systems contracts, fluctuations in the Company's sales and earnings occur with increases or decreases in major installations. Various external factors affect the customers' decision-making process on expanding or upgrading their current production or distribution sites. The customers' timing and placement of new orders is often affected by factors such as the current economy, current interest rates, and future expectations. The Company cannot estimate when or if a sustained revival in the markets for its products will occur. If the Company is unable to maintain an increased level of sales of its products, the Company's sales will continue to be adversely affected. The Company is largely dependent upon a limited number of large contracts, including contracts with a federal government agency. The Company is largely dependent upon a limited number of large contracts from large domestic corporations and a federal government agency. This dependence can cause unexpected fluctuations in sales volume and operating results from period to period. In the years ended December 31, 2004, 2003, and 2002, no customer accounted for over 10% of sales. The Company received $351,000 or 0.8% of its total sales from sales to government agencies in the fiscal year ended December 31, 2004. Accordingly, our sales have been impacted as a result of government spending cuts, general budgetary constraints, and the complex and competitive government procurement processes. If the Company is unable to attain an increased level of government-related sales, the Company's sales will continue to be adversely affected. The Company's contracts with government agencies are subject to adjustment pursuant to federal regulations. From time to time, the Company receives contracts from federal agencies. Each of the Company's contracts with federal agencies include various federal regulations that impose certain requirements on the Company, including the ability of the government agency or general contractor to alter the price, quantity, or delivery schedule of the Company's products. In addition, the government agency retains the right to terminate the contract at any time at its convenience. Upon alteration or termination of these contracts, the Company would normally be entitled to an equitable adjustment to the contract price so that the Company may receive the purchase price for items it has delivered and reimbursement for allowable costs it has incurred. From time to time, a portion of the Company's backlog is from government-related contracts. The Company's total backlog of orders at December 31, 2004 was $11,206,000, of which $29,000 was associated with U.S. government projects. Accordingly, because contracts with federal agencies can be terminated, the Company cannot assure you that backlog associated with government contracts will result in sales. The Company has not previously experienced material adjustments or terminations of government contracts. The Company must accurately estimate its costs prior to entering into contracts on a fixed-price basis. The Company frequently enters into contracts with its customers on a fixed-price basis. In order to realize a profit on these contracts, the Company must accurately estimate the costs the Company will incur in completing the contract. The Company believes that it has the ability to reasonably estimate the total costs and applicable gross profit margins at the inception of the contract for all of its systems contracts. The Company's failure to estimate accurately can result in cost overruns, which will result in the loss of profits if the Company determines that it has significantly underestimated the costs involved in completing contracts. At times, uncertainty exists with respect to the resources required to accomplish the contractual scope of work dealing with the final integration of state-of-the-art automated material handling systems. As a result of past experience with cost overruns, the Company established enhanced business controls, estimating, and procurement disciplines to attempt to reduce future cost overruns. Since the Company established these controls, it has not experienced additional significant cost overruns on new contracts; however, additional cost overruns in the future could result in reduced revenues and earnings. 2 The Company faces intense competition, which could result in the Company's loss of customers. The markets in which the Company competes are highly competitive. The Company competes with a number of different manufacturers, both domestically and abroad, with respect to each of its products and services. Some of the Company's competitors have greater financial and other resources than the Company has. The Company's ability to compete depends on factors both within and outside its control, including: o product availability, performance, and price; o product brand recognition; o distribution and customer support; o the timing and success of its newly developed products; and o the timing and success of newly developed products by its competitors. These factors could possibly limit the Company's ability to compete successfully. The Company may lose market share if it is not able to develop new products or enhance its existing products. The Company's ability to remain competitive and its future success depends greatly upon the technological quality of its products and processes relative to those of its competitors. The Company may need to develop new and enhanced products and to introduce these new products at competitive prices and on a timely and cost-effective basis. The Company may not be successful in selecting, developing, and manufacturing new products or in enhancing its existing products on a timely basis or at all. The Company's new or enhanced products may not achieve market acceptance. If the Company cannot successfully develop and manufacture new products, timely enhance its existing technologies, or meet customers' technical specifications for any new products, the Company's products could lose market share, its sales and profits could decline, and it could experience operating losses. New technology or product introductions by the Company's competitors could also cause a decline in sales or loss of market share for the Company's existing products or force the Company to significantly reduce the prices of its existing products. From time to time, the Company has experienced and will likely continue to experience delays in the introduction of new products. The Company has also experienced and may continue to experience technical and manufacturing difficulties with introductions of new products and enhancements. Any failure by the Company to develop, manufacture, and sell new products in quantities sufficient to offset a decline in sales from existing products or to manage product and related inventory transitions successfully could harm the Company's business. The Company's success in developing, introducing, selling, and supporting new and enhanced products depends upon a variety of factors, including timely and efficient completion of hardware and software design and development, timely and efficient implementation of manufacturing processes, and effective sales, marketing, and customer service. The Company depends on key personnel and may not be able to retain these employees or recruit additional qualified personnel, which would harm the Company's business. The Company is highly dependent upon the continuing contributions of its key management, sales, and product development personnel. The loss of the services of any of its senior managerial, technical, or sales personnel could have a material adverse effect on the Company's business, financial condition, and results of operations. Only one of the Company's executive officers has an employment agreement with the Company. The Company does not maintain key man life insurance on the lives of any of its key personnel. The Company's future success also heavily depends on its continuing ability to attract, retain, and motivate highly qualified managerial, technical, and sales personnel. The Company's inability to recruit and train adequate numbers of qualified personnel on a timely basis could adversely affect its ability to design, manufacture, market, and support its products. 3 The Company may face costly intellectual property infringement claims. On a few occasions, the Company has received communications from third parties asserting that it is infringing certain patents and other intellectual property rights of others, or seeking indemnification against the alleged infringement. As claims arise, the Company evaluates their merits. Any claims of infringement brought by third parties could result in protracted and costly litigation, in the Company paying damages for infringement, and in the need for the Company to obtain a license relating to one or more of its products or current or future technologies. Such a license may not be available on commercially reasonable terms or at all. Litigation, which could result in substantial cost to the Company and diversion of its resources, may be necessary to enforce its patents or other intellectual property rights, or to defend the Company against claimed infringement of the rights of others. Any intellectual property litigation and the failure to obtain necessary licenses or other rights could have a material adverse effect on the Company's business, financial condition, and results of operations. As occurred in 2003, a competitor filed an action against the Company in the United States District Court for the District of New Jersey alleging that certain of the Company's products infringed patents held by the competitor and also asserting claims for breach of contract, unjust enrichment, unfair competition, tortious interference with prospective economic advantage, and violation of New Jersey's consumer fraud act as a result of alleged improper use of the competitor's trade secrets, technology, and other proprietary information. Based on these allegations, the competitor was seeking monetary damages and injunctive relief against the Company. In February 2004, a settlement was reached between the Company and the competitor. Under the settlement, the competitor dismissed the action and agreed that the Company's products involved in the litigation are immune from suit for infringement of any of the competitor's intellectual property rights. In exchange, Paragon agreed to dismiss its counterclaims and paid the competitor $1,125,000. The Company's failure to protect its intellectual property and proprietary technology may significantly impair the Company's competitive advantage. Third parties may infringe or misappropriate the Company's patents, copyrights, trademarks, and similar proprietary rights. The Company cannot be certain that the steps the Company has taken to prevent the misappropriation of the Company's intellectual property are adequate, particularly in foreign countries where the laws may not protect the Company's proprietary rights as fully as in the United States. The Company relies on a combination of patent, copyright, and trade secret protection and nondisclosure agreements to protect its proprietary rights. However, the Company cannot be certain that patent and copyright law and trade secret protection will be adequate to deter misappropriation of its technology, that any patents issued to the Company will not be challenged, invalidated, or circumvented, that the rights granted thereunder will provide competitive advantages to the Company, or that the claims under any patent application will be allowed. The Company may be subject to or may initiate interference proceedings in the United States Patent and Trademark Office, which can demand significant financial and management resources. The process of seeking patent protection can be time-consuming and expensive, and there can be no assurance that patents will issue from currently pending or future applications or that the Company's existing patents or any new patents that may be issued will be sufficient in scope or strength to provide meaningful protection or any commercial advantage to the Company. The Company may in the future initiate claims or litigation against third parties for infringement of the Company's proprietary rights in order to determine the scope and validity of the Company's proprietary rights or the proprietary rights of the Company's competitors. These claims could result in costly litigation and the diversion of the Company's technical and management personnel. 4 New software products may contain defects that could result in expensive and time-consuming design modifications or large warranty charges, damage customer relationships, and result in loss of market share. New software products or enhancements may contain errors or performance problems when first introduced, when new versions or enhancements are released, or even after such products or enhancements have been used in the marketplace for a period of time. Despite the Company's testing, product defects may be discovered only after a product has been installed and used by customers. Errors and performance problems may be discovered in future shipments of the Company's products. These errors could result in expensive and time-consuming design modifications or large warranty charges, damage customer relationships, and result in loss of market share. To date, there have been no known defects in the Company's software products, which materially affected the Company's operations. The Company relies on distributors to sell many of Ermanco's products. The Company believes that its ability to sell Ermanco branded products through distributors will continue to be important to the Company's success. Historically, between 80% to 90% of the Company's sales of Ermanco branded products are to distributors that specialize in material handling equipment. The Company's relationships with distributors are generally not exclusive, and some of the Company's distributors may expend a significant amount of effort or give higher priority to selling products of the Company's competitors. In the future, any of these distributors may discontinue their relationships with the Company or form additional competing arrangements with the Company's competitors. Although to date none of the Company's distributors have accounted for a material percentage of the Company's sales, the loss of, or a significant reduction in sales from, distributors to which the Company sells a significant amount of its product could have a material adverse effect on the Company's results of operations. As the Company enters new geographic and applications markets, the Company must locate distributors to assist the Company in building sales in those markets. The Company may not be successful in obtaining effective new distributors or in maintaining sales relationships with them. If a number of the Company's distributors experience financial problems, terminate their relationships with the Company, or substantially reduce the amount of the Company's products they sell, or if the Company fails to build an effective systems integrator channel in any new markets, the Company's sales and operating results would be materially adversely affected. The concentration of ownership of the Company's stock could limit the ability of stockholders to influence the outcome of director elections and other transactions submitted for a vote of the Company's stockholders. The Company's officers and directors and their affiliates together control approximately 19% of the Company's outstanding voting power. Consequently, these stockholders, if they act together, may be able to exert influence over matters requiring stockholder approval, including the election of directors and other significant corporate transactions. The Company may be subject to product liability claims, which can be expensive, difficult to defend, and may result in large judgments or settlements against the Company. On a few occasions, the Company has received communications from third parties asserting that the Company's products have caused bodily injury to others. Product liability claims can be expensive, difficult to defend, and may result in large judgments or settlements against the Company. In addition, third party collaborators and licensees may not protect the Company from product liability claims. Although the Company maintains product liability insurance in the amount of approximately $26 million, claims could exceed the coverage obtained. A successful product liability claim in excess of the Company's insurance coverage could harm the Company's financial condition and results of operations. In addition, any successful claim may prevent the Company from obtaining adequate product liability insurance in the future on commercially desirable terms. Even if a claim is not successful, defending such a claim may be time-consuming. 5 The Company's presence in international markets exposes it to risk. With the Company's acquisition of Ermanco, the Company has experienced a greater presence in international markets. Maintenance and continued growth of this segment of the Company's business may be affected by changes in trade, monetary and fiscal policies, laws and regulations of the United States and other trading nations by foreign currency exchange rate fluctuations. Availability of product components could harm the Company's profitability. The Company obtains raw materials and certain manufactured components from third party suppliers. Although the Company deems that it maintains an adequate level of raw material inventory, even brief unanticipated delays in delivery by suppliers, including those due to capacity constraints, labor disputes, impaired financial condition of suppliers, weather emergencies, or other natural disasters, may adversely affect the Company's ability to satisfy its customers on a timely basis and thereby affect the Company's financial performance. 6 -----END PRIVACY-ENHANCED MESSAGE-----