COMTECH TELECOMMUNICATIONS CORP /DE/
10-Ks and 10-Qs
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UNITED
STATES SECURITIES AND EXCHANGE COMMISSION
Washington,
D.C. 20549
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FORM
10-Q
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(Mark
One)
Quarterly Report Pursuant
to Section 13 or 15(d) of the Securities Exchange Act of 1934
For
the quarterly period ended January 31, 2010
Transition Report Pursuant
to Section 13 or 15(d) of the Securities Exchange Act of 1934
Commission
File Number: 0-7928
(Exact
name of registrant as specified in its charter)
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Delaware
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11-2139466
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(State
or other jurisdiction of incorporation /organization)
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(I.R.S.
Employer Identification Number)
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68
South Service Road, Suite 230,
Melville,
NY
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11747
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(Address
of principal executive offices)
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(Zip
Code)
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(631)
962-7000
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(Registrant’s
telephone number, including area code)
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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.
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Yes
No
Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files).
Yes
No
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
the definitions of “large accelerated filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act.
Large
accelerated filer
Accelerated
filer
Accelerated
filer
Non-accelerated
filer
Smaller
reporting company
Smaller
reporting company
Indicate by check mark whether
registrant is a shell company (as defined in Rule 12b-2 of the Exchange
Act).
Yes
No
APPLICABLE
ONLY TO CORPORATE ISSUERS:
As of
March 1, 2010, the number of outstanding shares of Common Stock, par value $.10
per share, of the registrant was 28,271,218 shares.
COMTECH TELECOMMUNICATIONS
CORP.
INDEX
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Page
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2
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3
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4
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6
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23
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43
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44
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45
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45
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46
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47
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1
COMTECH TELECOMMUNICATIONS
CORP. AND SUBSIDIARIES
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January
31,
2010
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July
31,
2009
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||||||
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Assets
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(Unaudited)
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(as
adjusted-
See
Note 2)
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||||||
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Current
assets:
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||||||||
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Cash
and cash equivalents
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$ | 514,155,000 | 485,450,000 | |||||
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Accounts
receivable, net
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100,828,000 | 79,477,000 | ||||||
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Inventories,
net
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90,420,000 | 95,597,000 | ||||||
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Prepaid
expenses and other current assets
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7,430,000 | 13,398,000 | ||||||
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Deferred
tax asset
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14,073,000 | 15,129,000 | ||||||
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Total
current assets
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726,906,000 | 689,051,000 | ||||||
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Property,
plant and equipment, net
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35,348,000 | 38,486,000 | ||||||
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Goodwill
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149,253,000 | 149,253,000 | ||||||
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Intangibles
with finite lives, net
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51,856,000 | 55,272,000 | ||||||
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Deferred
financing costs, net
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5,368,000 | 6,053,000 | ||||||
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Other
assets, net
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1,284,000 | 556,000 | ||||||
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Total
assets
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$ | 970,015,000 | 938,671,000 | |||||
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Liabilities
and Stockholders’ Equity
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||||||||
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Current
liabilities:
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||||||||
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Accounts
payable
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$ | 33,631,000 | 19,233,000 | |||||
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Accrued
expenses and other current liabilities
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41,539,000 | 51,741,000 | ||||||
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Customer
advances and deposits
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11,186,000 | 19,571,000 | ||||||
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Interest
payable
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1,531,000 | 1,418,000 | ||||||
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Income
taxes payable
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6,290,000 | 563,000 | ||||||
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Total
current liabilities
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94,177,000 | 92,526,000 | ||||||
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Convertible
senior notes
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200,000,000 | 200,000,000 | ||||||
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Other
liabilities
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2,325,000 | 2,283,000 | ||||||
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Income
taxes payable
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5,363,000 | 4,267,000 | ||||||
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Deferred
tax liability
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8,246,000 | 10,466,000 | ||||||
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Total
liabilities
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310,111,000 | 309,542,000 | ||||||
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Commitments
and contingencies (See Note 19)
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||||||||
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Stockholders’
equity:
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||||||||
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Preferred
stock, par value $.10 per share; shares authorized and unissued
2,000,000
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- | - | ||||||
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Common
stock, par value $.10 per share; authorized 100,000,000 shares; issued
28,482,155 shares and 28,390,855 shares at January 31, 2010 and July 31,
2009, respectively
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2,848,000 | 2,839,000 | ||||||
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Additional
paid-in capital
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341,057,000 | 335,656,000 | ||||||
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Retained
earnings
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316,184,000 | 290,819,000 | ||||||
| 660,089,000 | 629,314,000 | |||||||
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Less:
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||||||||
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Treasury
stock (210,937 shares)
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(185,000 | ) | (185,000 | ) | ||||
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Total
stockholders’ equity
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659,904,000 | 629,129,000 | ||||||
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Total
liabilities and stockholders’ equity
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$ | 970,015,000 | 938,671,000 | |||||
See
accompanying notes to condensed consolidated financial
statements.
2
COMTECH TELECOMMUNICATIONS
CORP. AND SUBSIDIARIES
(Unaudited)
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Three
months ended January 31,
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Six
months ended January 31,
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|||||||||||||||
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2010
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2009
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2010
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2009
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(as
adjusted-
See
Note 2)
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(as
adjusted-
See
Note 2)
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Net
sales
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$ | 171,132,000 | 143,886,000 | 304,948,000 | 335,801,000 | |||||||||||
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Cost
of sales
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107,631,000 | 84,409,000 | 191,673,000 | 189,345,000 | ||||||||||||
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Gross
profit
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63,501,000 | 59,477,000 | 113,275,000 | 146,456,000 | ||||||||||||
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Expenses:
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Selling,
general and administrative
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22,909,000 | 25,969,000 | 44,628,000 | 54,947,000 | ||||||||||||
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Research
and development
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11,431,000 | 12,522,000 | 22,755,000 | 26,647,000 | ||||||||||||
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Amortization
of acquired in-process research and development (See Note
7)
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- | - | - | 6,200,000 | ||||||||||||
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Amortization
of intangibles
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1,765,000 | 1,796,000 | 3,529,000 | 3,589,000 | ||||||||||||
| 36,105,000 | 40,287,000 | 70,912,000 | 91,383,000 | |||||||||||||
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Operating
income
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27,396,000 | 19,190,000 | 42,363,000 | 55,073,000 | ||||||||||||
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Other
expenses (income):
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Interest
expense
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1,966,000 | 1,894,000 | 3,933,000 | 3,719,000 | ||||||||||||
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Interest
income and other
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(178,000 | ) | (626,000 | ) | (413,000 | ) | (1,903,000 | ) | ||||||||
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Income
before provision for income taxes
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25,608,000 | 17,922,000 | 38,843,000 | 53,257,000 | ||||||||||||
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Provision
for income taxes
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9,275,000 | 5,826,000 | 13,478,000 | 19,520,000 | ||||||||||||
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Net
income
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$ | 16,333,000 | 12,096,000 | 25,365,000 | 33,737,000 | |||||||||||
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Net
income per share (See Note 6):
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Basic
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$ | 0.58 | 0.49 | 0.90 | 1.37 | |||||||||||
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Diluted
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$ | 0.51 | 0.46 | 0.81 | 1.26 | |||||||||||
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Weighted
average number of common shares outstanding – basic
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28,250,000 | 24,759,000 | 28,236,000 | 24,673,000 | ||||||||||||
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Weighted
average number of common and common equivalent shares outstanding –
diluted
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34,080,000 | 28,633,000 | 34,069,000 | 28,585,000 | ||||||||||||
See
accompanying notes to condensed consolidated financial
statements.
3
COMTECH TELECOMMUNICATIONS
CORP. AND SUBSIDIARIES
(Unaudited)
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Six
months ended January 31,
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2010
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2009
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(as
adjusted-
See
Note 2)
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Cash
flows from operating activities:
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Net
income
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$ | 25,365,000 | 33,737,000 | |||||
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Adjustments
to reconcile net income to net cash provided by operating
activities:
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Depreciation
and amortization of property, plant and equipment
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5,820,000 | 5,965,000 | ||||||
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Amortization
of acquired in-process research and development
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- | 6,200,000 | ||||||
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Amortization
of intangible assets with finite lives
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3,529,000 | 3,589,000 | ||||||
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Amortization
of stock-based compensation
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3,426,000 | 4,710,000 | ||||||
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Amortization
of fair value inventory step-up
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- | 1,520,000 | ||||||
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Deferred
financing costs
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693,000 | 2,615,000 | ||||||
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Loss
on disposal of property, plant and equipment
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86,000 | 10,000 | ||||||
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Provision
for allowance for doubtful accounts
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69,000 | 785,000 | ||||||
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Provision
for excess and obsolete inventory
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1,626,000 | 2,012,000 | ||||||
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Excess
income tax benefit from stock award exercises
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(231,000 | ) | (2,491,000 | ) | ||||
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Deferred
income tax benefit
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(1,164,000 | ) | (1,583,000 | ) | ||||
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Changes
in assets and liabilities, net of effects of acquisitions and sale of
certain assets and liabilities:
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Accounts
receivable
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(21,420,000 | ) | (4,489,000 | ) | ||||
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Inventories
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1,393,000 | 1,087,000 | ||||||
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Prepaid
expenses and other current assets
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6,228,000 | (2,902,000 | ) | |||||
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Other
assets
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(728,000 | ) | (63,000 | ) | ||||
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Accounts
payable
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14,398,000 | (14,549,000 | ) | |||||
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Accrued
expenses and other current liabilities
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(10,065,000 | ) | (15,169,000 | ) | ||||
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Customer
advances and deposits
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(8,278,000 | ) | (935,000 | ) | ||||
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Other
liabilities
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42,000 | 212,000 | ||||||
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Interest
payable
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113,000 | - | ||||||
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Income
taxes payable
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7,061,000 | 4,104,000 | ||||||
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Net
cash provided by operating activities
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27,963,000 | 24,365,000 | ||||||
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Cash
flows from investing activities:
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Purchases
of property, plant and equipment
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(3,040,000 | ) | (7,844,000 | ) | ||||
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Purchases
of other intangibles with finite lives
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(113,000 | ) | (100,000 | ) | ||||
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Proceeds
from sale of certain assets and liabilities
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2,038,000 | - | ||||||
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Payments
for business acquisitions, net of cash acquired
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- | (205,223,000 | ) | |||||
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Net
cash used in investing activities
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(1,115,000 | ) | (213,167,000 | ) | ||||
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Cash
flows from financing activities:
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||||||||
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Proceeds
from exercises of stock options
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1,073,000 | 7,864,000 | ||||||
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Proceeds
from issuance of employee stock purchase plan shares
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679,000 | 658,000 | ||||||
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Excess
income tax benefit from stock award exercises
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231,000 | 2,491,000 | ||||||
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Transaction
costs paid associated with issuance of convertible senior
notes
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(118,000 | ) | - | |||||
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Origination
fees paid associated with line of credit
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(8,000 | ) | - | |||||
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Principal
payments on other obligations
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- | (71,000 | ) | |||||
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Net
cash provided by financing activities
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1,857,000 | 10,942,000 | ||||||
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Net
increase (decrease) in cash and cash equivalents
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28,705,000 | (177,860,000 | ) | |||||
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Cash
and cash equivalents at beginning of period
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485,450,000 | 410,067,000 | ||||||
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Cash
and cash equivalents at end of period
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$ | 514,155,000 | 232,207,000 | |||||
See
accompanying notes to condensed consolidated financial statements.
(Continued)
4
COMTECH TELECOMMUNICATIONS
CORP. AND SUBSIDIARIES
CONDENSED CONSOLIDATED
STATEMENTS OF CASH FLOWS (continued)
(Unaudited)
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Six
months ended January 31,
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||||||||
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2010
|
2009
|
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(as
adjusted-
See
Note 2)
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Supplemental cash flow
disclosures:
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Cash
paid during the period for:
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Interest
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$ | 3,038,000 | 1,054,000 | |||||
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Income
taxes
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$ | 7,702,000 | 17,214,000 | |||||
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Non
cash investing activities:
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Radyne
acquisition transaction costs not yet paid (See Note 7)
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$ | - | 428,000 | |||||
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Common
stock issued in exchange for convertible senior notes (See Note
13)
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$ | - | 345,000 | |||||
See accompanying notes to condensed
consolidated financial statements.
5
COMTECH TELECOMMUNICATIONS
CORP. AND SUBSIDIARIES
(Unaudited)
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(1)
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General
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The
accompanying condensed consolidated financial statements of Comtech
Telecommunications Corp. and Subsidiaries (“Comtech,” “we,” “us,” or
“our”) as of and for the three and six months ended January 31, 2010 and
2009 are unaudited. In the opinion of management, the
information furnished reflects all material adjustments (which include
normal recurring adjustments) necessary for a fair presentation of the
results for the unaudited interim periods. Our results of
operations for such periods are not necessarily indicative of the results
of operations to be expected for the full fiscal year. For the three
and six months ended January 31, 2010 and 2009, comprehensive income was
equal to net income.
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The
preparation of our financial statements in conformity with accounting
principles generally accepted in the United States of America requires us
to make estimates and assumptions that affect the reported amount of
assets and liabilities, and disclosure of contingent assets and
liabilities, at the date of the financial statements, and the reported
amounts of revenues and expenses during the reported period. Actual
results may differ from those
estimates.
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Our
condensed consolidated financial statements should be read in conjunction
with our audited consolidated financial statements, filed with the
Securities and Exchange Commission (“SEC”), for the fiscal year ended July
31, 2009 and the notes thereto contained in our Annual Report on Form
10-K, and all of our other filings with the
SEC.
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(2)
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Impact of Adoption of
New Accounting Standards Codification and Adoption of New Accounting
Standards
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Adoption of Financial
Accounting Standards Board Accounting Standards
Codification
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On
August 1, 2009, we adopted the Financial Accounting Standards Board
(“FASB”) Accounting Standards Codification (“ASC”) which was issued in
June 2009. The FASB ASC requires that, in addition to rules and
interpretive releases of the SEC and federal securities law, and except
for certain accounting standards which were grandfathered, we are required
to use FASB ASC in our current and future financial statements as the
source for all authoritative generally accepted accounting principles,
which is commonly referred to as “GAAP.” Our adoption of FASB ASC
had no impact on our financial position or results of operations.
However, as a result of the adoption of FASB ASC, except for
grandfathered accounting standards, historical references to original
accounting standards adopted or utilized by us in prior periods reflect
references that are contained in the FASB ASC.
Adoption of New
Accounting Standard Relating to Historical Reporting of our 2.0%
Convertible Senior
Notes
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On August
1, 2009, although our 2.0% convertible senior notes were no longer outstanding,
we were required to retroactively adjust the historical reporting relating to
our 2.0% convertible senior notes in accordance with FASB ASC 470-20, “Debt -
Debt with Conversion and Other Options.” FASB ASC 470-20 requires that we
retroactively separate the imputed liability and equity components of our 2.0%
convertible senior notes in our consolidated balance sheet on a fair value basis
and record interest expense at our estimated imputed non-convertible debt
borrowing rate of 7.5%. The adoption of FASB ASC 470-20 did not impact our
historically reported diluted earnings per share. On November 13, 2009, we
filed a Report on Form 8-K with the SEC which contains our financial statements
for the historical fiscal years ended July 31, 2005 through July 31, 2009, as
retroactively adjusted for the adoption of FASB ASC 470-20.
The
required retroactive application of FASB ASC 470-20 resulted in the following
adjustments to our historically reported Consolidated Statement of Operations
for the three and six months ended January 31, 2009: (i) an increase in interest
expense of $1,183,000 and $2,342,000, respectively; (ii) a decrease in provision
for income taxes of $439,000 and $868,000, respectively; and (iii) a decrease in
net income of $744,000 and $1,474,000, respectively. The retroactive application
also resulted in the following adjustments to our Consolidated Balance Sheet at
July 31, 2009: (i) an increase of $13,020,000 to additional paid-in capital; and
(ii) a decrease of $13,020,000 to retained earnings. Our future quarterly
comparative financial statements for the remainder of fiscal 2010 will contain
similar adjustments to quarterly historical financial information for fiscal
2009.
6
Adoption of New Accounting
Standard Relating to Future Business Combinations
On August
1, 2009, we adopted FASB ASC 805, “Business Combinations,” which applies
prospectively to business combinations for which the acquisition date is on or
after August 1, 2009. Except as we note below, accounting standards
relating to our prior acquisitions have been grandfathered. Amongst other
items, the new accounting standard requires that: (i) acquisition costs be
recognized as expenses; (ii) known contractual contingencies at the time of the
acquisition will be considered part of the liabilities acquired that are
measured at their fair value; all other contingencies will be part of the
liabilities acquired that are measured at their fair value only if it is more
likely than not that they meet the definition of a liability; (iii) contingent
consideration based on the outcome of future events will be recognized and
measured at the time of the acquisition; and (iv) a bargain purchase will
require that the excess of fair value over purchase price be recognized as a
gain attributable to the acquirer. In addition, if the fair value of assets or
liabilities cannot be reasonably determined, then they would generally be
recognized in accordance with ASC 450-20, “Contingencies – Loss
Contingencies.”
Accounting
standards relating to our historical acquisitions have been grandfathered,
except for the accounting standards relating to the resolution of
acquisition-related tax contingencies. FASB ASC 805-740, “Business Combinations
– Income Taxes,” requires that any adjustments to our historical
acquisition-related tax contingencies be recorded in our consolidated statement
of operations when our estimates change or when the item is resolved. At August
1, 2009, we had approximately $3,566,000 of tax contingencies recorded in our
Consolidated Balance Sheet relating to our historical acquisitions.
Adoption of New Accounting
Standard Relating to Financial Instruments
On August
1, 2009, we adopted FASB ASC 825, “Financial Instruments,” which requires us to
disclose for annual and interim reporting periods, the fair value of financial
instruments for which it is practicable to estimate that value and the method(s)
and assumptions used to estimate the fair value. These disclosures are included
in our current reporting in Note 5
“Fair Value
Measurement.”
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(3)
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Reclassifications
|
Certain
reclassifications have been made to previously reported financial statements to
conform to our current financial statement format.
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(4)
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Stock-Based
Compensation
|
We issue
stock-based awards to certain of our employees and our Board of Directors and we
recognize related stock-based compensation for both equity and
liability-classified stock-based awards in our consolidated financial
statements. These awards are issued pursuant to our Stock Option Plan and
our 2001 Employee Stock Purchase Plan (the “ESPP”).
Stock-based
compensation for equity-classified awards is measured at the date of grant,
based on an estimate of the fair value of the award and is generally expensed
over the vesting period of the grant. Stock-based compensation for
liability-classified awards is determined the same way, except that the fair
value of liability-classified awards is remeasured at the end of each reporting
period until the award is settled, with changes in fair value recognized
pro-rata for the portion of the requisite service period rendered.
7
Stock-based
compensation for awards issued is reflected in the following line items in our
Condensed Consolidated Statements of Operations:
|
Three
months ended
January
31,
|
Six
months ended
January
31,
|
|||||||||||||||
|
2010
|
2009
|
2010
|
2009
|
|||||||||||||
|
Cost
of sales
|
$ | 148,000 | 267,000 | 307,000 | 352,000 | |||||||||||
|
Selling,
general and administrative expenses
|
1,184,000 | 1,647,000 | 2,474,000 | 3,531,000 | ||||||||||||
|
Research
and development expenses
|
318,000 | 378,000 | 645,000 | 827,000 | ||||||||||||
|
Stock-based
compensation expense before income tax benefit
|
1,650,000 | 2,292,000 | 3,426,000 | 4,710,000 | ||||||||||||
|
Income
tax benefit
|
(651,000 | ) | (838,000 | ) | (1,295,000 | ) | (1,620,000 | ) | ||||||||
|
Net
stock-based compensation expense
|
$ | 999,000 | 1,454,000 | 2,131,000 | 3,090,000 | |||||||||||
Of the
total stock-based compensation expense before income tax benefit recognized in
the three months ended January 31, 2010 and 2009, $75,000 and $109,000,
respectively, related to awards issued pursuant to our ESPP. Of the
total stock-based compensation expense before income tax benefit recognized in
the six months ended January 31, 2010 and 2009, $163,000 and $165,000,
respectively, related to awards issued pursuant to our ESPP.
Included
in total stock-based compensation expense before income tax benefit in the three
months ended January 31, 2010 and 2009 is an expense of $39,000 and a benefit of
$80,000, respectively, as a result of the required fair value remeasurement of
our liability-classified stock appreciation rights (“SARs”) at the end of each
of the respective reporting periods. Included in total stock-based compensation
expense before income tax benefit in the six months ended January 31, 2010 and
2009 is an expense of $6,000 and a benefit of $51,000, respectively, related to
SARs.
Stock-based
compensation that was capitalized and included in ending inventory at both
January 31, 2010 and July 31, 2009 was $277,000.
We
estimate the fair value of stock-based awards using the Black-Scholes option
pricing model. The Black-Scholes option pricing model includes assumptions
regarding dividend yield, expected volatility, expected option term and
risk-free interest rates. The assumptions used in computing the fair value
of stock-based awards reflect our best estimates, but involve uncertainties
relating to market and other conditions, many of which are outside of our
control. Estimates of fair value are not intended to predict actual future
events or the value ultimately realized by the employees who receive stock-based
awards.
The per
share weighted average grant-date fair value of stock-based awards granted
during the three months ended January 31, 2010 and 2009 approximated $8.86 and
$14.95, respectively. The per share weighted average grant-date fair value
of stock-based awards granted during the six months ended January 31, 2010 and
2009 approximated $9.32 and $15.59, respectively. In addition to the exercise
and grant-date prices of the awards, certain weighted average assumptions that
were used to estimate the initial fair value of stock-based awards in the
respective periods are listed in the table below:
|
Three
months ended
January
31,
|
Six
months ended
January
31,
|
|||||||||||||||
|
2010
|
2009
|
2010
|
2009
|
|||||||||||||
|
Expected
dividend yield
|
0 | % | 0 | % | 0 | % | 0 | % | ||||||||
|
Expected
volatility
|
38.00 | % | 40.44 | % | 38.00 | % | 40.36 | % | ||||||||
|
Risk-free
interest rate
|
1.21 | % | 1.02 | % | 1.33 | % | 2.81 | % | ||||||||
|
Expected
life (years)
|
3.50 | 3.52 | 3.50 | 3.61 | ||||||||||||
Stock-based
awards granted during the three months ended January 31, 2010 and 2009 have
exercise prices equal to the fair market value of the stock on the date of
grant, a contractual term of five years and a vesting period of three years.
All stock-based awards granted through July 31, 2005 have exercise prices
equal to the fair market value of the stock on the date of grant, a contractual
term of ten years and generally a vesting period of five years. We settle
employee stock option exercises with new shares. All SARs granted through
January 31, 2010 may only be settled with cash.
Included in accrued
expenses at January 31, 2010 and July 31, 2009 is $121,000 and $115,000,
respectively, relating to the cash settlement of SARs.
8
We
estimate expected volatility by considering the historical volatility of our
stock, the implied volatility of publicly traded call options on our stock, the
implied volatility of call options embedded in our 3.0% convertible senior notes
and our expectations of volatility for the expected life of stock-based
awards. The risk-free interest rate is based on the U.S. treasury yield
curve in effect at the time of grant. The expected option term is the
number of years we estimate that stock-based awards will be outstanding prior to
exercise based on prior exercise patterns. The expected life of awards
issued after July 31, 2005 and through July 31, 2007 was determined using a
“simplified method”
which is generally the
sum of the vesting term and the contractual term, divided by 2. Effective
August 1, 2007, the expected life of the awards issued was determined by
employee groups with sufficiently distinct behavior patterns.
The
following table provides the components of the actual income tax benefit
recognized for tax deductions relating to the exercise of stock-based
awards:
|
Six
months ended January 31,
|
||||||||
|
2010
|
2009
|
|||||||
|
Actual
income tax benefit recorded for the tax deductions relating to the
exercise of stock-based awards
|
$ | 422,000 | 3,718,000 | |||||
|
Less:
Tax benefit initially recognized on exercised stock-based awards vesting
subsequent to the adoption of accounting standards that require us to
expense stock-based awards
|
(184,000 | ) | (1,227,000 | ) | ||||
|
Excess
income tax benefit recorded as an increase to additional paid-in
capital
|
238,000 | 2,491,000 | ||||||
|
Less:
Tax benefit initially disclosed but not previously recognized on exercised
equity-classified stock-based awards vesting prior to the adoption of
accounting standards that require us to expense stock-based
awards
|
(7,000 | ) | - | |||||
|
Excess
income tax benefit from exercised equity-classified stock-based awards
reported as a cash flow from financing activities in our Condensed
Consolidated Statements of Cash Flows
|
$ | 231,000 | 2,491,000 | |||||
At
January 31, 2010, total remaining unrecognized compensation cost related to
unvested stock-based awards was $8,910,000, net of estimated forfeitures of
$849,000. The net cost is expected to be recognized over a weighted
average period of approximately 1.7 years.
|
(5)
|
Fair Value
Measurement
|
The value
of our 3.0% convertible senior notes that are included in our Condensed
Consolidated Balance Sheet, as of January 31, 2010, reflects historical cost,
which is equal to its original issuance value. As such, changes in the
estimated fair value of our 3.0% convertible senior notes are not recorded in
our consolidated financial statements. As of January 31, 2010, we estimate that
the fair value of our 3.0% convertible senior notes was approximately
$231,000,000 based on recent trading activity.
As of
January 31, 2010, the only assets that are included in our Condensed
Consolidated Balance Sheet at estimated fair value is approximately $448,343,000
of our cash and cash equivalents which were invested in money market mutual
funds. FASB ASC 820 requires us to define fair value as the price that would be
received from the sale of an asset or paid to transfer a liability in an orderly
transaction between market participants at the measurement date. As such,
using the fair value hierarchy described in FASB ASC 820, we valued our money
market mutual funds using Level 1 inputs that were based on quoted market
prices.
If we
acquire different types of assets or incur different types of liabilities in the
future, we might be required to use different FASB ASC fair value
methodologies.
|
(6)
|
Earnings Per
Share
|
Our basic
earnings per share (“EPS”) is computed based on the weighted average number of
shares outstanding. Our diluted EPS reflects the dilution from potential
common stock issuable pursuant to the exercise of equity-classified stock-based
awards and convertible senior notes, if dilutive, outstanding during each
period.
9
Equity-classified
stock-based awards to purchase 2,050,000 and 1,115,000 shares, for the three
months ended January 31, 2010 and 2009, respectively, were not included in our
diluted EPS calculation because their effect would have been
anti-dilutive. Equity-classified stock-based awards to purchase 2,053,000
and 1,113,000 shares, for the six months ended January 31, 2010 and 2009,
respectively, were not included in our diluted EPS calculation because their
effect would have been anti-dilutive. Liability-classified stock-based
awards do not impact and are not included in the denominator for EPS
calculations. The following table reconciles the numerators and
denominators used in our basic and diluted EPS calculations:
|
Three
months ended
January
31,
|
Six
months ended
January
31,
|
|||||||||||||||
|
2010
|
2009
|
2010
|
2009
|
|||||||||||||
|
(as
adjusted-
See
Note 2)
|
(as
adjusted-
See
Note 2)
|
|||||||||||||||
|
Numerator:
|
||||||||||||||||
|
Net
income for basic calculation
|
$ | 16,333,000 | 12,096,000 | 25,365,000 | 33,737,000 | |||||||||||
|
Effect
of dilutive securities:
|
||||||||||||||||
|
Interest
expense (net of tax) on 2.0% convertible senior notes
|
- | 1,161,000 | - | 2,307,000 | ||||||||||||
|
Interest
expense (net of tax) on 3.0% convertible senior notes
|
1,117,000 | - | 2,234,000 | - | ||||||||||||
|
Numerator
for diluted calculation
|
$ | 17,450,000 | 13,257,000 | 27,599,000 | 36,044,000 | |||||||||||
|
Denominator:
|
||||||||||||||||
|
Denominator
for basic calculation
|
28,250,000 | 24,759,000 | 28,236,000 | 24,673,000 | ||||||||||||
|
Effect
of dilutive securities:
|
||||||||||||||||
|
Stock
options
|
342,000 | 541,000 | 345,000 | 579,000 | ||||||||||||
|
Conversion
of 2.0% convertible senior notes
|
- | 3,333,000 | - | 3,333,000 | ||||||||||||
|
Conversion
of 3.0% convertible senior notes
|
5,488,000 | - | 5,488,000 | - | ||||||||||||
|
Denominator
for diluted calculation
|
34,080,000 | 28,633,000 | 34,069,000 | 28,585,000 | ||||||||||||
|
(7)
|
August 1, 2008
Acquisition of Radyne
Corporation
|
|
|
On
August 1, 2008, we acquired Radyne Corporation (“Radyne”) for an aggregate
purchase price of $231,393,000 (including transaction costs and
liabilities assumed for outstanding share-based awards). In
accordance with grandfathered accounting standards that were not included
in the FASB ASC, we allocated the final aggregate purchase price for
Radyne as set forth below:
|
|
Fair
value of Radyne net tangible assets acquired
|
$ | 66,296,000 | |||
|
Fair
value adjustments to net tangible assets:
|
|||||
|
Acquisition-related
restructuring liabilities (See Note 11)
|
(2,713,000 | ) | |||
|
Inventory
step-up
|
1,520,000 | ||||
|
Deferred
tax assets, net
|
441,000 | ||||
|
Fair
value of net tangible assets acquired
|
65,544,000 | ||||
|
Adjustments
to record intangible assets at fair value:
|
Estimated Useful Lives
|
||||
|
In-process
research and development
|
6,200,000 |
Expensed
immediately
|
|||
|
Customer
relationships
|
29,600,000 |
10
years
|
|||
|
Technologies
|
19,900,000 |
7
to 15 years
|
|||
|
Trademarks
and other
|
5,700,000 |
2
to 20 years
|
|||
|
Goodwill
|
124,873,000 |
Indefinite
|
|||
|
Deferred
tax liabilities, net
|
(20,424,000 | ) | |||
| 165,849,000 | |||||
|
Aggregate
purchase price
|
$ | 231,393,000 |
10
The fair
value of technologies and trademarks was based on the discounted capitalization
of royalty expense saved because we now own the assets. The fair value of
customer relationships and other intangibles with finite lives was primarily
based on the value of the discounted cash flows that the related intangible
asset could be expected to generate in the future.
The fair
value ascribed to acquired in-process research and development projects of
$6,200,000 was based upon the excess earnings approach utilizing the estimated
economic life of the ultimate products to be developed, the estimated timing of
when the ultimate products were expected to be commercialized and the related
net cash flows expected to be generated. These net cash flows were
discounted back to their net present value utilizing a weighted average cost of
capital. The fair value of $6,200,000 was expensed immediately during the
three months ended October 31, 2008.
The
$6,200,000 of in-process research and development projects acquired consisted of
four projects. To date, we have completed three of these projects which
represented $5,229,000 of the total value of acquired in-process research and
development projects. The remaining in-process research and development project
is for new technology that we expect to be used by our RF microwave amplifiers
segment. This project is expected to be completed in fiscal
2010.
At the
time of acquisition, the in-process research and development projects acquired
were complex and unique in light of the nature of the technology, which is
generally state-of-the-art. Risks and uncertainties associated with
completing the remaining in-process project include the availability of skilled
engineers, the introduction of similar technologies by others, changes in market
demand for the technologies and changes in industry standards affecting the
technology. We do not believe that a failure to eventually complete the
remaining acquired in-process research and development project will have a
material impact on our consolidated results of operations.
|
|
|
(8)
|
A
ccounts
Receivable
|
Accounts receivable consist of the
following:
| January 31, 2010 | July 31, 2009 | |||||||
|
Billed
receivables from the U.S. government and its agencies
|
$ | 17,936,000 | 33,125,000 | |||||
|
Billed
receivables from commercial customers
|
38,990,000 | 43,813,000 | ||||||
|
Unbilled
receivables on contracts-in-progress
|
45,192,000 | 3,791,000 | ||||||
| 102,118,000 | 80,729,000 | |||||||
|
Less
allowance for doubtful accounts
|
1,290,000 | 1,252,000 | ||||||
|
Accounts
receivable, net
|
$ | 100,828,000 | 79,477,000 |
Unbilled
receivables on contracts-in-progress include $45,047,000 and $3,791,000 at
January 31, 2010 and July 31, 2009, respectively, due from the U.S. government
and its agencies.
A
substantial majority of our unbilled receivables at January 31, 2010 relates to
MTS equipment that was shipped to and accepted by the U.S. Army in January
2010. Almost all of these amounts were billed in February 2010 and are
expected to be collected during the second half of fiscal 2010. There was
$158,000 and $13,000 of retainage included in unbilled receivables at January
31, 2010 and July 31, 2009, respectively. We believe that substantially
all of the remaining unbilled balance will be billed and collected within one
year.
|
(9)
|
Inventories
|
Inventories consist of the
following:
| January 31, 2010 | July 31, 2009 | |||||||
|
Raw
materials and components
|
$ | 56,190,000 | 64,209,000 | |||||
|
Work-in-process
and finished goods
|
46,527,000 | 43,132,000 | ||||||
| 102,717,000 | 107,341,000 | |||||||
|
Less
reserve for excess and obsolete inventories
|
12,297,000 | 11,744,000 | ||||||
|
Inventories,
net
|
$ | 90,420,000 | 95,597,000 |
Our
inventories include amounts directly related to long-term contracts (including
contracts-in-progress). The amount of inventory directly related to
long-term contracts, which primarily relate to our contracts for the U.S. Army’s
Movement Tracking System (“MTS”) and the U.S. Army’s Force XXI Battle Command,
Brigade-and-Below command and control systems (also known as Blue Force Tracking
(“BFT”)), was $30,704,000 and $21,144,000 at January 31, 2010 and July 31, 2009,
respectively.
11
As of
January 31, 2010, included in the $30,704,000 of inventories directly related to
long-term contracts (and also classified as raw materials and components
inventory), is approximately $5,144,000 of ruggedized computers and related
components that have been or can be included in MTS systems that we sell to the
U.S. Army. In fiscal 2009, the U.S. Army informed us that it intends to
upgrade previously deployed MTS systems and purchase new MTS systems using a
different ruggedized computer model. Although we have sold the older
version MTS computer model to the U.S. Army since their selection of a new
ruggedized MTS computer, we expect demand for the older ruggedized computers and
related components which we currently have on hand to decline.
We
continue to actively market these ruggedized computers and related components to
the U.S. Army, who, during the three months ended January 31, 2010, confirmed
their interest in purchasing some or all of these older ruggedized computers and
related components. We expect that we will ultimately sell these computers
and related components for more than their current net book value based on a
variety of factors. These factors include our belief that there may be
additional deployments of MTS systems using these computers, our recent
inclusion of these computers in our Quick Deploy Satellite System (known as
“QDSS”) configurations and that we intend to continue to actively market them to
potential customers including the Army National Guard and NATO. In the future,
if we determine that this inventory will not be utilized or cannot be sold for
more than its current net book value, we would be required to record a
write-down of the value of such inventory in our consolidated financial
statements at the time of such determination.
If our
MTS and BFT contracts are not renewed or extended, the level of our MTS and BFT
inventories or our outstanding purchase commitments could be excessive and we
may be left with large inventories of unusable parts that we would have to
write-off. Any such charges could be material to our consolidated results
of operations in the period that we make such determination.
At
January 31, 2010 and July 31, 2009, $2,978,000 and $4,724,000, respectively, of
the inventory balance above related to contracts from third party commercial
customers who outsource their manufacturing to us.
|
(10)
|
Accrued
Expenses
|
Accrued expenses
and
other current liabilities consist of the following:
|
January
31, 2010
|
July
31, 2009
|
|||||||
|
Accrued
wages and benefits
|
$ | 13,293,000 | 20,411,000 | |||||
|
Accrued
warranty obligations
|
12,264,000 | 14,500,000 | ||||||
|
Accrued
commissions and royalties
|
3,197,000 | 3,603,000 | ||||||
|
Accrued
acquisition-related restructuring liabilities (See Note
11)
|
- | 161,000 | ||||||
|
Other
|
12,785,000 | 13,066,000 | ||||||
|
Accrued expenses and other
current liabilities
|
$ | 41,539,000 | 51,741,000 | |||||
We
provide warranty coverage for most of our products for a period of at least one
year from the date of shipment. We record a liability for estimated
warranty expense based on historical claims, product failure rates and other
factors. Some of our product warranties are provided under long-term
contracts, the costs of which are incorporated into our estimates of total
contract costs.
Changes
in our product warranty liability during the six months ended January 31, 2010
and 2009 were as follows:
|
January
31, 2010
|
January
31, 2009
|
|||||||
|
Balance
at beginning of period
|
$ | 14,500,000 | 12,308,000 | |||||
|
Provision
for warranty obligations
|
3,494,000 | 4,216,000 | ||||||
|
Warranty
obligations acquired from Radyne
|
- | 1,975,000 | ||||||
|
Warranty
obligation transferred with sale of certain assets and liabilities (See
Note 11)
|
(400,000 | ) | - | |||||
|
Reversal
of warranty liability
|
(888,000 | ) | (62,000 | ) | ||||
|
Charges
incurred
|
(4,442,000 | ) | (3,669,000 | ) | ||||
|
Balance
at end of period
|
$ | 12,264,000 | 14,768,000 | |||||
12
|
(11)
|
Radyne
Acquisition-Related Restructuring Plan and Other Cost Reduction
Actions
|
Radyne Acquisition-Related
Restructuring Plan
In
connection with our August 1, 2008 acquisition of Radyne, we immediately adopted
a restructuring plan to achieve operating synergies. In connection with this
plan, we vacated and subleased Radyne’s Phoenix, Arizona manufacturing facility
and integrated Radyne’s satellite earth station manufacturing and engineering
operations into our high-volume technology manufacturing center located in
Tempe, Arizona. In addition, Radyne’s corporate functions were moved to
our Melville, New York corporate headquarters.
The
Radyne acquisition-related restructuring was completed in fiscal
2009.
In
connection with these activities, we recorded approximately $2,713,000 of
estimated restructuring costs, including $2,100,000 related to facility exit
costs and $613,000 related to severance for Radyne employees who were informed
they were terminated on August 1, 2008. In accordance with grandfathered
accounting standards that were not incorporated into FASB ASC, we recorded these
costs, at fair value, as assumed liabilities as of August 1, 2008, with a
corresponding increase to goodwill. As such, these costs are not included
in our Condensed Consolidated Statement of Operations for the six months ended
January 31, 2009. The estimated facility exit costs of approximately
$2,100,000 reflect the net present value of the total gross non-cancelable lease
obligations of $12,741,000 and related costs (for the period of November 1, 2008
through October 31, 2018) associated with the vacated manufacturing facility,
less the net present value of estimated gross sublease income of $8,600,000.
We estimated sublease income based on the terms of fully executed sublease
agreements for the facility and our assessment of future uncertainties relating
to the real estate market. Although we are attempting to sublease the
facility, we currently believe that it is not probable that we will be able to
sublease the facility beyond the executed sublease terms which expire on October
31, 2015. Costs associated with operating the manufacturing facility through
October 31, 2008 were expensed in the Condensed Consolidated Statement of
Operations for the three months ended October 31, 2008.
The
following represents a summary of the acquisition-related restructuring
liabilities as of January 31, 2010:
|
Net
Accrued
July
31, 2009
|
Net
Cash Outflow
|
Accretion
of Interest
|
Net
Accrued
January
31, 2010
|
Total
Costs
Accrued
to Date
(1)
|
Total
Net
Expected
Costs
(2)
|
|||||||||||||||||||
|
Facilities
|
$ | 2,444,000 | (573,000 | ) | 79,000 | $ | 1,950,000 | $ | 1,950,000 | $ | 4,141,000 | |||||||||||||
|
Severance
|
- | - | - | - | 613,000 | 613,000 | ||||||||||||||||||
|
Total
restructuring costs
|
$ | 2,444,000 | (573,000 | ) | 79,000 | $ | 1,950,000 | $ | 2,563,000 | $ | 4,754,000 | |||||||||||||
|
(1)
|
Facilities-related
restructuring costs are presented at net present value; accreted interest
from inception to date that was recorded in interest expense is
$198,000.
|
|
(2)
|
Facilities-related
restructuring costs include accreted
interest.
|
At
January 31, 2010, net accrued restructuring costs of $1,950,000 represents
$2,325,000 for accrued lease run-out costs (which is included in other
liabilities in our consolidated balance sheet) less $375,000 for sublease rental
payments received in excess of lease payments made (which is included in prepaid
expenses and other current assets in our consolidated balance sheet).
Interest accreted on the facility-related costs during the three and six months
ended January 31, 2010 was approximately $36,000 and $79,000, respectively, as
compared to $42,000 for both the three and six months ended January 31, 2009,
and is included in interest expense for each respective fiscal
period.
Other Cost Reduction
Actions
In
connection with cost reduction actions that took place in July 2009, in August
2009 we sold certain assets and liabilities relating to our video encoder and
decoder product lines. During the six months ended January 31, 2010, we
received $2,038,000 which represents the entire purchase price paid by the
buyer.
13
|
(12)
|
Credit
Facility
|
In June
2009, we entered into a three-year $100,000,000 unsecured revolving credit
facility (“Credit Facility”) with a syndicate of lenders. The Credit
Facility provides for the extension of credit to us in the form of revolving
loans, including letters of credit, at any time and from time to time during its
term, in an aggregate principal amount at any time outstanding not to exceed
$100,000,000 for both revolving loans and letters of credit, with sub-limits of
$10,000,000 for commercial letters of credit and $25,000,000 for standby letters
of credit. The Credit Facility includes a provision pursuant to which we
may request that the lenders increase the maximum amount of commitments by an
amount not to exceed $50,000,000. The maximum amount of credit available under
the Credit Facility, including such increased commitments, cannot exceed
$150,000,000. The Credit Facility may be used for working capital and
other general corporate purposes.
At our
election, borrowings under the Credit Facility will bear interest either at
LIBOR plus an applicable margin or at the base rate plus an applicable margin.
The interest rate margin over LIBOR ranges from 2.25 percent, up to a
maximum amount of 2.75 percent. The base rate is a fluctuating rate
equal to the highest of (i) the Prime Rate; (ii) the Federal Funds
Effective Rate from time to time plus 0.5 percent; and (iii) two hundred (200)
basis points in excess of the floating rate of interest determined, on a daily
basis, in accordance with the terms of the agreement. The interest rate margin
over the base rate ranges from 1.25 percent up to a maximum amount of
1.75 percent. In both cases, the applicable interest rate is based on the
ratio of our consolidated total indebtedness to our consolidated earnings before
interest, taxes, depreciation and amortization (“Consolidated EBITDA”). As
defined in the Credit Facility, Consolidated EBITDA is adjusted for certain
items.
The
Credit Facility contains certain covenants, including covenants limiting certain
debt, certain liens on assets, certain sales of assets and receivables, certain
payments (including dividends), certain repurchases of shares of our common
stock, certain sale and leaseback transactions, certain guaranties and certain
investments. The Credit Facility also contains certain financial condition
covenants including that we (i) maintain a minimum Consolidated EBITDA as
adjusted for certain items and defined in the Credit Facility, (measured, on a
consolidated basis, based on the four prior consecutive fiscal quarters then
ending); (ii) not exceed a maximum ratio of consolidated total indebtedness to
Consolidated EBITDA, each as defined in the Credit Facility and or adjusted for
certain items, and; (iii) maintain a minimum fixed charge ratio, as defined in
the Credit Facility and or adjusted for certain items; in each case measured on
the last day of each fiscal quarter.
The
Credit Facility includes certain events of default, including: failure to make
payments; failure to perform or observe terms, covenants and agreements;
material inaccuracy of any representation or warranty; payment default relating
to any indebtedness, as defined, with a principal amount in excess of $7,500,000
or acceleration of such indebtedness; occurrence of one or more final judgments
or orders for the payment of money in excess of $7,500,000 that remain
unsatisfied; incurrence of certain liabilities in connection with failure to
maintain or comply with the Employee Retirement Income Security Act of 1974
(“ERISA”); any bankruptcy or insolvency; or a change of control, including if a
person or group becomes the beneficial owner of 50 percent or more of our
voting stock. If an event of default occurs, the interest rate on
outstanding borrowings increases by an incremental default rate and the lenders
may, among other things, terminate their commitments and declare all outstanding
borrowings to be immediately due and payable together with accrued interest and
fees. All amounts borrowed or outstanding under the Credit Facility are
due and mature on June 24, 2012, unless the commitments are terminated
earlier either at our request or if certain events of default
occur.
At
January 31, 2010, we had $2,195,000 of standby letters of credit outstanding
related to our guarantees of future performance on certain customer contracts
and $23,000 outstanding for commercial letters of credit related to payments for
goods and supplies.
At
January 31, 2010, had borrowings been outstanding under the Credit Facility, the
applicable interest rate margin above LIBOR and base rate borrowings would have
been 2.75 percent and 1.75 percent, respectively. We are also subject to
an undrawn line fee based on the ratio of our consolidated total indebtedness to
our Consolidated EBITDA, as defined and adjusted for certain items in the Credit
Facility. Interest expense, including amortization of deferred financing costs,
related to our credit facility recorded during the three and six months ended
January 31, 2010 was $153,000 and $299,000, respectively. There were no
such fees in the first half of fiscal 2009.
14
|
(13)
|
Convertible Senior
Notes
|
3.0% Convertible Senior
Notes
In May
2009, we issued $200,000,000 of our 3.0% convertible senior notes in a private
offering pursuant to Rule 144A under the Securities Act of 1933, as amended.
The net proceeds from this transaction were $194,541,000 after deducting
the initial purchasers’ discount and other transaction costs of
$5,459,000.
The 3.0%
convertible senior notes bear interest at an annual rate of 3.0% and are
convertible into shares of our common stock at an initial conversion price of
$36.44 per share (a conversion rate of 27.4395 shares per $1,000 original
principal amount of notes) at any time prior to the close of business on the
second scheduled trading day immediately preceding the maturity date, subject to
adjustment in certain circumstances. We may, at our option, redeem some or
all of the 3.0% convertible senior notes on or after May 5, 2014. Holders
of the 3.0% convertible senior notes will have the right to require us to
repurchase some or all of the outstanding 3.0% convertible senior notes, solely
for cash, on May 1, 2014, May 1, 2019 and May 1, 2024 and upon certain events,
including a change in control. If not redeemed by us or repaid pursuant to the
holders’ right to require repurchase, the 3.0% convertible senior notes mature
on May 1, 2029.
The 3.0%
convertible notes are senior unsecured obligations of Comtech. We intend to use
the net proceeds of the offering to fund our acquisition strategy and for
general corporate purposes.
2.0% Convertible Senior
Notes
On
January 27, 2004, we issued $105,000,000 of our 2.0% convertible senior notes in
a private offering pursuant to Rule 144A under the Securities Act of 1933, as
amended. The net proceeds from this transaction were $101,179,000 after
deducting the initial purchaser’s discount and other transaction costs of
$3,821,000, of which $2,685,000 was allocated to deferred financing costs (as it
represented the imputed debt issuance costs) and $1,136,000 was allocated to
additional paid-in capital (as it represented the imputed equity issuance
costs). The 2.0% convertible senior notes had a stated annual interest
rate of 2.0%.
The 2.0%
convertible senior notes were general unsecured obligations of Comtech.
All of our U.S. domiciled wholly-owned subsidiaries had issued full and
unconditional guarantees in favor of the holders of our 2.0% convertible senior
notes. These full and unconditional guarantees were joint and
several.
Interest
expense, included in our condensed consolidated statement of operations for the
three and six months ended January 31, 2009, associated with the 2.0%
convertible senior notes, includes interest at our imputed non-convertible debt
borrowing rate of 7.5% and the amortization of other deferred financing costs
related to the 2.0% convertible senior notes.
As of
February 12, 2009, all of the 2.0% convertible senior notes were converted by
the noteholders, and we issued 3,333,327 shares of our common stock, plus
cash in lieu of fractional shares. As such, since February 13, 2009, there
were no 2.0% convertible senior notes outstanding.
15
|
(14)
|
Income
Taxes
|
At
January 31, 2010 and July 31, 2009, total unrecognized tax benefits, excluding
interest, were $6,832,000 and $6,613,000, respectively. At January 31,
2010 and July 31, 2009, the amount of unrecognized tax benefits that would
impact our effective tax rate, if recognized, was $6,832,000 and $3,047,000,
respectively. The unrecognized tax benefits at January 31, 2010 that would
impact the effective tax rate if recognized reflects the impact of our adoption
of FASB ASC 805-740 “Business Combinations – Income Taxes,” on August 1,
2009. Unrecognized tax benefits result from income tax positions
taken or expected to be taken on our income tax returns for which a tax benefit
has not been recorded in our financial statements. Of the total unrecognized tax
benefits, $5,363,000 and $4,267,000 were recorded as non-current income taxes
payable in our Condensed Consolidated Balance Sheets at January 31, 2010 and
July 31, 2009, respectively.
Our
policy is to recognize interest and penalties relating to uncertain tax
positions in income tax expense. At January 31, 2010 and July 31, 2009,
interest accrued relating to income taxes was $526,000 and $564,000,
respectively, net of the related income tax benefit.
Consolidated
tax returns filed by Comtech Telecommunications Corp. for years prior to fiscal
2006 are not subject to examination by the U.S. federal tax authorities. In
fiscal 2008, the Internal Revenue Service (“IRS”) completed its audit of Comtech
Telecommunications Corp.’s federal income tax returns for fiscal 2004 and fiscal
2005. During the six months ended January 31, 2010, we reached an
agreement with the IRS relating to the allowable amount of federal research and
experimentation credits utilized and interest expense relating to our 2.0%
convertible senior notes on our federal income tax return for the fiscal year
ended July 31, 2006. The IRS continues to audit Comtech Telecommunications
Corp.’s federal income tax return for fiscal 2007.
Consolidated
tax returns filed by Radyne Corporation prior to the acquisition by Comtech
Telecommunications Corp. for tax years prior to calendar year 2006 may no longer
be examined by the U.S. federal tax authorities under the applicable statutes of
limitation. Although it could do so in the future, the IRS is not currently
examining any of the federal income tax returns filed by Radyne Corporation for
tax years prior to the acquisition by Comtech Telecommunications Corp. As
of August 1, 2008, Radyne Corporation is included in the consolidated federal
income tax returns of Comtech Telecommunications Corp.
If the
final outcome of the fiscal 2007 IRS audit or any potential future audits differ
materially from our original income tax provision, our results of operations and
financial condition could be materially impacted.
|
(15)
|
Stock Option Plan and
Employee Stock Purchase Plan
|
We issue
stock-based awards pursuant to the following plan:
2000 Stock Incentive Plan
–
The 2000 Stock Incentive Plan, as amended, provides for the granting to all
employees and consultants of Comtech (including prospective employees and
consultants) non-qualified stock options, SARs, restricted stock, performance
shares, performance units and other stock-based awards. In addition, our
employees are eligible to be granted incentive stock options. Our non-employee
directors are eligible to receive non-discretionary grants of nonqualified stock
options subject to certain limitations. The aggregate number of shares of
common stock which may be issued may not exceed 8,962,500.
Grants of
incentive and non-qualified stock awards may not have a term exceeding ten years
or no more than five years in the case of an incentive stock award granted to a
stockholder who owns stock representing more than 10% of the voting
power.
As of
January 31, 2010, we had granted stock-based awards representing the right to
purchase an aggregate of 6,380,997 shares (net of 725,203 canceled awards) at
prices ranging between $3.13 - $51.65, of which 2,981,370 are outstanding at
January 31, 2010. As of January 31, 2010, 3,399,627 stock-based awards have been
exercised.
16
The
following table summarizes certain stock option plan activity during the six
months ended January 31, 2010:
|
Number
of Shares
Underlying
Stock-Based Awards
|
Weighted
Average Exercise Price
|
Weighted
Average Remaining Contractual Term (Years)
|
Aggregate
Intrinsic Value
|
|||||||||||||
|
Outstanding
at July 31, 2009
|
3,065,245 | $ | 33.26 | |||||||||||||
|
Granted
|
3,000 | 34.15 | ||||||||||||||
|
Expired/canceled
|
(20,300 | ) | 44.26 | |||||||||||||
|
Exercised
|
(49,275 | ) | 15.71 | |||||||||||||
|
Outstanding
at October 31, 2009
|
2,998,670 | 33.48 | ||||||||||||||
|
Granted
|
5,000 | 30.46 | ||||||||||||||
|
Expired/canceled
|
(4,650 | ) | 43.65 | |||||||||||||
|
Exercised
|
(17,650 | ) | 16.92 | |||||||||||||
|
Outstanding
at January 31, 2010
|
2,981,370 | $ | 33.55 | 2.69 | $ | 15,792,000 | ||||||||||
|
Exercisable
at January 31, 2010
|
1,754,845 | $ | 30.21 | 2.11 | $ | 12,843,000 | ||||||||||
|
Expected
to vest at January 31, 2010
|
1,096,730 | $ | 38.13 | 3.63 | $ | 2,744,000 | ||||||||||
Included
in the number of shares underlying stock-based awards outstanding at January 31,
2010, in the above table, are 38,500 SARs with an aggregate intrinsic value of
$49,500.
The total
intrinsic value of stock-based awards exercised during the three months ended
January 31, 2010 and 2009 was $356,000 and $786,000, respectively. The
total intrinsic value of stock-based awards exercised during the six months
ended January 31, 2010 and 2009 was $1,232,000 and $9,192,000,
respectively.
2001 Employee Stock Purchase
Plan
– The ESPP was approved by the shareholders on December 12, 2000,
and 675,000 shares of our common stock were reserved for issuance. The
ESPP is intended to provide our eligible employees the opportunity to acquire
our common stock at 85% of fair market value at the date of issuance through
participation in the payroll-deduction based ESPP. Through the second
quarter of fiscal 2010, we issued 356,077 shares of our common stock to
participating employees in connection with the ESPP.
|
(16)
|
Customer and
Geographic Information
|
Sales by geography and customer type,
as a percentage of consolidated net sales, are as follows
:
|
Three
months ended
January
31,
|
Six
months ended
January
31,
|
|||||||||||||||
|
2010
|
2009
|
2010
|
2009
|
|||||||||||||
|
United States
|
||||||||||||||||
|
U.S.
government
|
64.7 | % | 51.3 | % | 65.1 | % | 57.2 | % | ||||||||
|
Commercial
customers
|
6.1 | % | 12.4 | % | 6.7 | % | 10.9 | % | ||||||||
|
Total
United States
|
70.8 | % | 63.7 | % | 71.8 | % | 68.1 | % | ||||||||
|
International
|
29.2 | % | 36.3 | % | 28.2 | % | 31.9 | % | ||||||||
International
sales for the three months ended January 31, 2010 and 2009, which include sales
to U.S. domestic companies for inclusion in products that will be sold to
international customers, were $50,024,000 and $52,299,000, respectively.
International sales for the six months ended January 31, 2010 and 2009, which
include sales to U.S. domestic companies for inclusion in products that will be
sold to international customers, were $86,079,000 and $107,083,000,
respectively.
For the
three and six months ended January 31, 2010 and 2009, except for sales to the
U.S. government which include sales to prime contractors of the U.S. government,
no other customer or individual country, including sales to U.S. domestic
companies for inclusion in products that will be sold to a foreign country,
represented more than 10% of consolidated net sales.
17
|
(17)
|
Segment
Information
|
Reportable
operating segments are determined based on Comtech’s management approach.
The management approach, as defined by accounting standards which have
been codified into FASB ASC 280, “Segment Reporting,” is based on the way that
the chief operating decision-maker organizes the segments within an enterprise
for making decisions about resources to be allocated and assessing their
performance. Our chief operating decision-maker is our President and Chief
Executive Officer.
While our
results of operations are primarily reviewed on a consolidated basis, the chief
operating decision-maker also manages the enterprise in three operating
segments: (i) telecommunications transmission, (ii) mobile data communications,
and (iii) RF microwave amplifiers.
Telecommunications
transmission products include satellite earth station products (such as analog
and digital modems, frequency converters, power amplifiers, transceivers and
voice gateways) and over-the-horizon microwave communications products and
systems (such as digital troposcatter modems). Mobile data communications
products include satellite-based mobile location tracking and messaging hardware
(such as mobile satellite transceivers and third-party produced ruggedized
computers) and related services and the design and production of
microsatellites. RF microwave amplifier products include traveling wave
tube amplifiers and solid-state, high-power broadband amplifier products that
use the microwave and radio frequency spectrums.
Unallocated
expenses result from such corporate expenses as legal, accounting and executive
compensation. In addition, for the three and six months ended January 31, 2010,
unallocated expenses include $1,650,000 and $3,426,000, respectively, of
stock-based compensation expense and for the three and six months ended January
31, 2009, unallocated expenses include $2,292,000 and $4,710,000, respectively,
of stock-based compensation expense. Interest expense (which includes
amortization of deferred financing costs) associated with our convertible senior
notes and our Credit Facility is not allocated to the operating
segments. Depreciation and amortization includes amortization of
stock-based compensation. Unallocated assets consist principally of cash,
deferred financing costs and deferred tax assets. Substantially all of our
long-lived assets are located in the U.S.
Depreciation
and amortization for the six months ended January 31, 2009 includes $6,200,000
of acquired in-process research and development, of which $3,300,000 was related
to our RF microwave amplifiers segment, and $2,900,000 was related to our
telecommunications transmission segment.
Corporate
management defines and reviews segment profitability based on the same
allocation methodology as presented in the segment data tables
below:
|
Three
months ended January 31, 2010
|
||||||||||||||||||||
|
(in
thousands)
|
Telecommunications
Transmission
|
Mobile
Data Communications
|
RF
Microwave Amplifiers
|
Unallocated
|
Total
|
|||||||||||||||
|
Net
sales
|
$ | 58,463 | 84,186 | 28,483 | - | $ | 171,132 | |||||||||||||
|
Operating
income (loss)
|
13,656 | 16,925 | 2,330 | (5,515 | ) | 27,396 | ||||||||||||||
|
Interest
income and other (expense)
|
16 | 2 | (3 | ) | 163 | 178 | ||||||||||||||
|
Interest
expense
|
40 | - | - | 1,926 | 1,966 | |||||||||||||||
|
Depreciation
and amortization
|
2,706 | 783 | 1,144 | 1,700 | 6,333 | |||||||||||||||
|
Expenditure
for long-lived assets, including intangibles
|
970 | 535 | 411 | 17 | 1,933 | |||||||||||||||
|
Total
assets at January 31, 2010
|
259,293 | 88,569 | 103,615 | 518,538 | 970,015 | |||||||||||||||
18
|
Three
months ended January 31, 2009
|
||||||||||||||||||||
|
(in
thousands)
|
Telecommunications
Transmission
|
Mobile
Data Communications
|
RF
Microwave Amplifiers
|
Unallocated
(as
adjusted-
See
Note 2)
|
Total
(as
adjusted-
See
Note 2)
|
|||||||||||||||
|
Net
sales
|
$ | 69,523 | 38,871 | 35,492 | - | $ | 143,886 | |||||||||||||
|
Operating
income (loss)
|
17,098 | 4,292 | 3,690 | (5,890 | ) | 19,190 | ||||||||||||||
|
Interest
income and other (expense)
|
(13 | ) | (7 | ) | 20 | 626 | 626 | |||||||||||||
|
Interest
expense
|
49 | - | - | 1,845 | 1,894 | |||||||||||||||
|
Depreciation
and amortization
|
3,243 | 822 | 1,490 | 2,345 | 7,900 | |||||||||||||||
|
Expenditure
for long-lived assets, including intangibles
|
1,604 | 1,540 | 355 | 19 | 3,518 | |||||||||||||||
|
Total
assets at January 31, 2009
|
290,839 | 48,997 | 119,770 | 257,093 | 716,699 | |||||||||||||||
|
Six
months ended January 31, 2010
|
||||||||||||||||||||
|
(in
thousands)
|
Telecommunications
Transmission
|
Mobile
Data Communications
|
RF
Microwave Amplifiers
|
Unallocated
|
Total
|
|||||||||||||||
|
Net
sales
|
$ | 105,125 | 138,324 | 61,499 | - | $ | 304,948 | |||||||||||||
|
Operating
income (loss)
|
22,111 | 24,980 | 5,424 | (10,152 | ) | 42,363 | ||||||||||||||
|
Interest
income and other (expense)
|
6 | 24 | (18 | ) | 401 | 413 | ||||||||||||||
|
Interest
expense
|
88 | - | - | 3,845 | 3,933 | |||||||||||||||
|
Depreciation
and amortization
|
5,417 | 1,568 | 2,263 | 3,527 | 12,775 | |||||||||||||||
|
Expenditure
for long-lived assets, including intangibles
|
1,769 | 781 | 586 | 17 | 3,153 | |||||||||||||||
|
Total
assets at January 31, 2010
|
259,293 | 88,569 | 103,615 | 518,538 | 970,015 | |||||||||||||||
|
Six
months ended January 31, 2009
|
||||||||||||||||||||
|
(in
thousands)
|
Telecommunications
Transmission
|
Mobile
Data Communications
|
RF
Microwave Amplifiers
|
Unallocated
(as
adjusted-
See
Note 2)
|
Total
(as
adjusted-
See
Note 2)
|
|||||||||||||||
|
Net
sales
|
$ | 144,084 | 120,777 | 70,940 | - | $ | 335,801 | |||||||||||||
|
Operating
income (loss)
|
36,370 | 28,746 | 3,609 | (13,652 | ) | 55,073 | ||||||||||||||
|
Interest
income and other (expense)
|
14 | (7 | ) | 95 | 1,801 | 1,903 | ||||||||||||||
|
Interest
expense
|
54 | - | - | 3,665 | 3,719 | |||||||||||||||
|
Depreciation
and amortization
|
9,301 | 1,591 | 6,277 | 4,815 | 21,984 | |||||||||||||||
|
Expenditure
for long-lived assets, including intangibles
|
131,136 | 8,831 | 49,996 | 37 | 190,000 | |||||||||||||||
|
Total
assets at January 31, 2009
|
290,839 | 48,997 | 119,770 | 257,093 | 716,699 | |||||||||||||||
Intersegment
sales for the three months ended January 31, 2010 and 2009 by the
telecommunications transmission segment to the mobile data communications
segment were $30,530,000 and $10,489,000, respectively. For the six months
ended January 31, 2010 and 2009, intersegment sales by the telecommunications
transmission segment to the mobile data communications segment were $30,595,000
and $44,870,000, respectively.
For the
three months ended January 31, 2010 and 2009, intersegment sales by the
telecommunications transmission segment to the RF microwave amplifiers segment
were $909,000 and $2,727,000, respectively. Intersegment sales for the six
months ended January 31, 2010 and 2009 by the telecommunications transmission
segment to the RF microwave amplifiers segment were $5,041,000 and $5,199,000,
respectively.
There
were no intersegment sales by the RF microwave amplifiers segment to the
telecommunications transmission segment for the three and six months ended
January 31, 2010. Intersegment sales for the three and six months ended January
31, 2009 by the RF microwave amplifiers segment to the telecommunications
transmission segment were $0 and $145,000, respectively.
All
intersegment sales have been eliminated from the tables above.
19
|
(18)
|
Intangible
Assets
|
Intangible
assets with finite lives as of January 31, 2010 and July 31, 2009 are as
follows:
|
January
31, 2010
|
||||||||||||||||
|
Weighted
Average Amortization Period
|
Gross
Carrying Amount
|
Accumulated
Amortization
|
Net
Carrying Amount
|
|||||||||||||
|
Technologies
|
10.5 | $ | 42,224,000 | 20,561,000 | $ | 21,663,000 | ||||||||||
|
Customer
relationships
|
10.0 | 29,931,000 | 4,678,000 | 25,253,000 | ||||||||||||
|
Trademarks
and other
|
17.5 | 6,044,000 | 1,104,000 | 4,940,000 | ||||||||||||
|
Total
|
$ | 78,199,000 | 26,343,000 | $ | 51,856,000 | |||||||||||
|
July
31, 2009
|
||||||||||||||||
|
Weighted
Average Amortization Period
|
Gross
Carrying Amount
|
Accumulated
Amortization
|
Net
Carrying Amount
|
|||||||||||||
|
Technologies
|
10.5 | $ | 42,311,000 | 18,944,000 | $ | 23,367,000 | ||||||||||
|
Customer
relationships
|
10.0 | 29,931,000 | 3,176,000 | 26,755,000 | ||||||||||||
|
Trademarks
and other
|
17.5 | 6,344,000 | 1,194,000 | 5,150,000 | ||||||||||||
|
Total
|
$ | 78,586,000 | 23,314,000 | $ | 55,272,000 | |||||||||||
Amortization
expense for the three months ended January 31, 2010 and 2009 was $1,765,000 and
$1,796,000, respectively. Amortization expense for the six months ended January
31, 2010 and 2009 was $3,529,000 and $3,589,000, respectively. The estimated
amortization expense related to intangible assets with finite lives for the
fiscal years ending July 31, 2010, 2011, 2012, 2013 and 2014 is $7,014,000,
$6,586,000, $5,649,000, $5,442,000 and $5,324,000, respectively.
The
carrying amount of goodwill, by segment, at both January 31, 2010 and July 31,
2009 is as follows:
|
Telecommunications
transmission
|
$ | 107,779,000 | |
|
Mobile
data communications
|
11,899,000 | ||
|
RF
microwave amplifiers
|
29,575,000 | ||
|
Balance
at January 31, 2010 and July 31, 2009
|
$ | 149,253,000 |
20
|
(19)
|
L
egal Matters and
Proceedings
|
Export
Matters
As a
result of a customs export enforcement subpoena that our Florida-based
subsidiary, Comtech Systems, Inc. (“CSI”) first received in October 2007 from
the U.S. Immigration and Customs Enforcement (“ICE”) branch of the Department of
Homeland Security (“Homeland Security”), the Enforcement Division of the Office
of Defense Trade Controls Compliance (“DDTC”) of the U.S. Department of
State informed us that it sought to confirm our company-wide International
Traffic in Arms Regulations (“ITAR”) compliance for the five-year period ended
March 2008.
Since the
original receipt of the ICE subpoena, we have engaged outside counsel and export
consultants to investigate the matters relating to the ICE subpoena and help us
assess and improve, as appropriate, our internal controls with respect to
export-related laws and regulations, including ITAR, the Export Administration
Regulations (“EAR”) and laws governing record keeping and dealings with foreign
representatives. We have provided detailed information and a summary of
our findings to the U.S. Department of State. Our findings (which include the
matter related to the ICE subpoena) indicated that there were certain instances
of exports and defense services provided during the five-year period for which
we did not have the appropriate authorization from the U.S. Department of
State.
In
February 2009, we engaged a third-party export compliance firm to perform an
independent export compliance audit. This audit was completed in June 2009
and we submitted the results of the audit to the DDTC. Although this
third-party audit found that there were additional procedures and steps that we
could take to improve our overall compliance program, the third-party audit did
not find any further violations of ITAR other than instances that we found
ourselves. We continue to implement these procedures as well as
others as we continue to find areas and opportunities for improving our
procedures to comply with laws and regulations relating to exports.
In
January 2010, at our request, we met with the DDTC to discuss both the status of
our compliance program and the DDTC’s five-year review of our company-wide ITAR
compliance. At this meeting, we presented the steps that we were taking to
improve our overall compliance program and the DDTC provided its own insight,
suggestions and recommendations. At this meeting, we agreed with the DDTC
to establish a corporate level Office of Trade Compliance whose purpose is to
ensure that our decentralized subsidiaries have a dedicated and skilled resource
available to them on a full-time basis. We also agreed with the DDTC that
we will continue to enhance our procedures, most notably in the area of
job-specific training and desktop procedures for our employees.
We intend
to continue to work cooperatively with the DDTC. Violations discovered by us as
part of our internal control assessment, including those by Radyne that occurred
prior to August 1, 2008, have been voluntarily reported to the U.S. Department
of State. To date, we have accrued for and paid fines relating to our
export violations. In March 2009, CSI paid a fine aggregating $7,500
(seven-thousand five hundred dollars) relating to the export of hardware that
was the subject of the ICE subpoena. In June 2009, Comtech PST Corp., a
New York-based subsidiary wholly-owned by Comtech, (“Comtech PST”), paid a fine
of $1,000 (one-thousand dollars) because it made administrative errors in
processing shipping documents.
We
continue to take numerous steps to significantly improve our export control
processes and we expect to continue to remediate, improve and enhance our
internal controls relating to exports. As such, we cannot determine the ultimate
outcome of these matters. Violations of U.S. export control-related laws
and regulations could result in additional civil or criminal fines and/or
penalties and/or result in an injunction against us, all of which could, in the
aggregate, materially impact our business, results of operations and cash flows.
Should we identify a material weakness relating to our compliance, the ongoing
costs of remediation could be material.
21
Purported Class Action
Lawsuits
We have
been sued in two nearly identical purported class action lawsuits (
Pompano Beach Police &
Firefighters’ Retirement System, etc., v. Comtech Telecommunications Corp. et
al.
, 09 Civ. 3007 (SJF/AKT) and
Lawing v. Comtech Telecommunications
Corp
., 09 Civ. 3182 (JFB)), both filed in the United States District
Court for the Eastern District of New York (the “Complaints”). Our Chief
Executive Officer and Chief Financial Officer are also named as defendants. The
Complaints, filed in July 2009, allege that we violated Section 10(b) of the
Securities Exchange Act of 1934 by making materially false and misleading
statements with respect to revenue and earnings guidance for fiscal year 2009.
The plaintiffs purport to sue on behalf of purchasers of our stock between
September 17, 2008 and March 9, 2009. The essence of the Complaints is
that we allegedly failed to disclose certain adverse facts that were allegedly
known to exist at the time we issued the revenue and earnings guidance at issue
in the Complaints. We have, to date, only been served with a complaint by the
Pompano Beach Police and Firefighters’ Retirement System (“Pompano Beach”). On
September 10, 2009, the District Court entered a scheduling order in the Pompano
Beach lawsuit, and pursuant to that order, Pompano Beach filed a motion seeking
consolidation of the two related actions and appointment as lead plaintiff under
the procedure set out in the Private Securities Litigation Reform Act of
1995. That motion has not yet been decided upon. We believe the case has
no merit and we intend to vigorously defend ourselves and our officers in this
action. Although the ultimate outcome of litigation is difficult to accurately
predict, we believe that the final outcome of this action will not have a
material adverse effect on our consolidated financial condition.
Other
Proceedings
In prior
periods, we sold approximately $1,900,000 of certain electronic components to a
customer who was named as a defendant, with several others, in a patent
infringement-related lawsuit. The customer requested that we indemnify it
for any losses sustained or legal costs incurred as a result of the lawsuit and
although we do not believe we are contractually obligated to indemnify the
customer and initially denied their indemnity and defense request, we agreed to
defend and indemnify certain claims from our customer and the plaintiff agreed
to delay, for now, certain claims. During the three months ended January
31, 2010, our customer reached an undisclosed settlement with the plaintiff and,
subsequently, the Federal Court in the Eastern District of Texas dismissed the
entire case as to all parties.
We are
party to certain other legal actions, which arise in the normal course of
business. Although the ultimate outcome of litigation is difficult to
accurately predict, we believe that the outcome of these actions will not have a
material adverse effect on our consolidated financial condition or results of
operations.
22
CAUTIONARY STATEMENT
REGARDING FORWARD-LOOKING STATEMENTS
Certain
information in this Quarterly Report on Form 10-Q contains forward-looking
statements, including but not limited to, information relating to our future
performance and financial condition, plans and objectives of our management and
our assumptions regarding such future performance, financial condition, and
plans and objectives that involve certain significant known and unknown risks
and uncertainties and other factors not under our control which may cause our
actual results, future performance and financial condition, and achievement of
our plans and objectives to be materially different from the results,
performance or other expectations implied by these forward-looking statements.
These factors include the nature and timing of receipt of, and our
performance on, new or existing orders that can cause significant fluctuations
in net sales and operating results, the timing and funding of government
contracts, adjustments to gross profits on long-term contracts, risks associated
with international sales, rapid technological change, evolving industry
standards, frequent new product announcements and enhancements, changing
customer demands, changes in prevailing economic and political conditions, risks
associated with the results of ongoing investigations into our compliance with
export regulations, risks associated with the Radyne acquisition, risks
associated with our legal proceedings and other matters, risks associated with
our recent MTS orders, risks associated with our MTS and BFT contracts, risks
associated with our obligations under our revolving credit facility, and other
factors described in our filings with the Securities and Exchange
Commission.
OVERVIEW
We
design, develop, produce and market innovative products, systems and services
for advanced communications solutions. We believe many of our solutions play a
vital role in providing or enhancing communication capabilities when terrestrial
communications infrastructure is unavailable, inefficient or too
expensive. We conduct our business through three complementary operating
segments: telecommunications transmission, mobile data communications and RF
microwave amplifiers. We sell our products to a diverse customer base in
the global commercial and government communications markets. We believe we
are a leader in the market segments that we serve.
Our
telecommunications transmission segment provides sophisticated equipment and
systems that are used to enhance satellite transmission efficiency and that
enable wireless communications in environments where terrestrial communications
are unavailable, inefficient or too expensive. Our telecommunications
transmission segment also operates our high-volume technology manufacturing
center that is utilized, in part, by our mobile data communications and RF
microwave amplifiers segments and to a much lesser extent by third-party
commercial customers who outsource a portion of their manufacturing to us.
Accordingly, our telecommunications transmission segment’s operating results are
impacted positively or negatively by the level of utilization of our high-volume
technology manufacturing center. Our mobile data communications segment
provides customers with an integrated solution, including mobile satellite
transceivers and satellite network support, to enable global satellite-based
communications when mobile, real-time, secure transmission is required for
applications including logistics, support and battlefield command and control.
Our mobile data communications segment also designs and manufactures
microsatellites and related components. Our RF microwave amplifiers
segment designs, manufactures and markets satellite earth station traveling wave
tube amplifiers and solid-state amplifiers, including high-power, broadband RF
microwave amplifier products.
A
substantial portion of our sales may be derived from a limited number of
relatively large customer contracts, such as our Movement Tracking System
(“MTS”) and our Blue Force Tracking (“BFT”) indefinite delivery/indefinite
quantity (“IDIQ”) contracts with the U.S. Army. Timing of future orders
and revenues associated with IDIQ and other large contracts are difficult to
accurately predict. Quarterly and period-to-period sales and operating results
may be significantly affected by our MTS or BFT contracts. In addition, our
gross profit is affected by a variety of factors, including the mix of products,
systems and services sold, production efficiencies, estimates of warranty
expense, price competition and general economic conditions. Our gross
profit may also be affected by the impact of any cumulative adjustments to
contracts that are accounted for under the percentage-of-completion
method.
Our
contracts with the U.S. government can be terminated at any time and orders are
subject to unpredictable funding, deployment and technology decisions by the
U.S. government. Some of these contracts, such as the MTS and BFT
contracts, are IDIQ contracts, and as such, the U.S. government is not obligated
to purchase any equipment or services under these contracts. We have in
the past experienced and we continue to expect future significant fluctuations
in sales and operating results from quarter-to-quarter and
period-to-period. As such, comparisons between periods and our current
results may not be indicative of a trend or future performance.
23
Revenue
from the sale of our products is generally recognized when the earnings process
is complete, upon shipment or customer acceptance. Revenue from contracts
relating to the design, development or manufacture of complex electronic
equipment to a buyer’s specification or to provide services relating to the
performance of such contracts is generally recognized in accordance with
accounting standards that have been codified into Financial Accounting Standards
Board (“FASB”) Accounting Standards Codification (“ASC”) 605-35, “Revenue
Recognition - Construction-Type and Production-Type Contracts” (“ASC
605-35”). Revenue from contracts that contain multiple elements that are
not accounted for under FASB ASC 605-35 is generally accounted for in accordance
with accounting standards that have been codified into FASB ASC 605-25, “Revenue
Recognition - Multiple Element Arrangements.” Revenue from these contracts is
allocated to each respective element based on each element’s relative fair value
and is recognized when the respective revenue recognition criteria for each
element is met.
STATUS OF OUR MTS AND BFT
CONTRACTS
Since
1999 and through January 31, 2010, cumulative orders from the U.S. government
for our MTS and BFT solutions have exceeded $1.2 billion (including over $348.8
million of funded orders in our backlog as of January 31, 2010). Although we are
in the process of competing for both the next-generation MTS and BFT contracts,
we believe that the U.S. Army’s significant investment and its large installed
base of our equipment are important competitive advantages for us as these and
potentially other programs move forward.
Both our
MTS and BFT contracts are near their contract ceiling limits and we can not
receive significant new orders unless the U.S. government authorizes contract
ceiling increases or awards us new contracts. During fiscal 2007, we
experienced a similar situation when the ceiling on our then existing $418.2
million MTS contract was increased by $45.0 million and the U.S. Army extended
our performance period while we negotiated our current $605.1 million MTS
contract. In February 2010, our BFT contract ceiling was increased from $216.0
million to $243.5 million. Although we cannot be certain that our MTS
and BFT contract ceilings will be increased from their current levels, or if we
will be awarded new MTS and BFT contracts, our business outlook for fiscal 2010
and beyond assumes that we will generate significant revenue from both the MTS
and BFT programs in the future.
In
December 2009, the U.S. Army publicly issued a competitive Request for Proposal
(“RFP”) for Blue Force Tracking-2 or (“BFT-2”), the U.S. Army’s next generation
BFT system. The BFT-2 RFP indicated that the U.S. Army intends to acquire
an entire BFT-2 turn-key network and will engage a single contractor for
acquiring, installing and maintaining the necessary resources of the BFT-2
network which would include ground and airborne satellite transceivers,
satellite ground station equipment, a network operations center (including
related equipment and software), leasing of satellite and communication
connectivity bandwidth and overall support and engineering services in support
of the BFT-2 network.
Also, in
December 2009, the U.S. Army issued a draft competitive MTS RFP which seeks
industry input for “state-of-the-art” technologies to meet MTS requirements, and
which includes the ability to seamlessly migrate and transition from the
existing MTS to an alternative one that will have an open source environment
with full government-purpose rights and complete portability, flexibility and
adaptability to meet future challenges in either a peacetime or wartime
environment. We expect a final competitive MTS RFP to be issued
shortly.
In order
to better position us to win and secure follow-on contracts for next-generation
MTS and BFT programs, in the past several years, we have committed considerable
research and development resources with a focus on designing and delivering
backward compatible next-generation solutions. Our solutions are based on our
internally developed Advanced Software Defined Radio (“ASDR”) which is designed
to provide increased operational flexibility with multiple data rates, allowing
the U.S. Army to choose a cost-effective satellite service for each mission or
operating theater. Our next-generation transceivers incorporate a new advanced
design antenna that can enable higher message completion rates on multiple
satellite channels, at almost all elevation angles and in environments where
conventional communications are unavailable or unreliable. Our
transceivers support broadband-like data rate transfer speeds. In addition, our
transceivers have been designed using a modular approach which provides
additional flexibility for installation and field maintenance. We are in
the process of upgrading our BFT network to incorporate our new patent-pending
AMD technology which enables a significant increase in both the overall system
performance and an increase in the number of possible concurrent network users.
This technology is enabling our BFT customer to experience improved
performance today. We believe our next-generation solutions not only meet
the future operational needs of the U.S. Army, but also provide significant
advantages relative to other sources. Because our MTS and BFT next-generation
solutions are backward compatible, we believe our solutions provide the U.S.
Army the unique ability to leverage its existing technology investment by
continuing to use the existing deployed units and world-wide support
infrastructure while ultimately and seamlessly transitioning to the
next-generation MTS and BFT systems.
24
The MTS
and BFT orders that are in our backlog as of January 31, 2010 were primarily
funded from budget appropriations relating to the U.S. government’s fiscal year
2009 and prior and we are uncertain as to the remaining but appropriated funds
that may be available for potential future MTS or BFT orders from these fiscal
years. In February 2010, the U.S. Army publicly issued a Draft of the Department
of the Army’s Procurement Programs which contains their budget estimates for the
U.S. government’s fiscal years 2010 and 2011 which operate from October 1
through September 30. These estimates indicate that the MTS cost element for the
government’s fiscal years 2010 and 2011 is $78.4 million and $93.7 million,
respectively. In the case of BFT, the exact budget estimate dedicated for BFT is
largely unknown because the amount is included in the total Force XXI Battle
Command, Brigade and Below (“FBCB2”) cost element which, for the government’s
fiscal years 2010 and 2011, is $514.1 million and $175.3 million,
respectively. Currently, the appropriations and authorization committees
of the U.S. Congress are reviewing these estimates and will establish the final
funding levels for the upcoming government fiscal year 2011. Once these levels
are enacted into law, the Executive Office of the President will administer the
funds to the agencies. Thereafter, we can potentially receive additional
orders should we be successful in securing contract ceiling increases for our
current MTS and/or BFT contracts or if we are awarded next-generation MTS and/or
BFT contracts.
In order
to maintain a competitive procurement process, the U.S. Army provides interested
companies with information about its program plans; however, detailed program
requirements and related strategic funding decisions are subject to daily, if
not constant, change. The U.S. Army has stated that it eventually intends to
converge onto a single mobile system configuration known as Joint Battle
Command-Platform (“JBC-P”) with a goal of unifying tracking and battlefield
situational awareness. JBC-P is intended for all U.S. military services (e.g.,
the U.S. Army and U.S. Marines). In addition, there are other existing and
emerging U.S. military programs that have goals similar to JBC-P. As such, it is
possible, that both our MTS and BFT programs could be combined into one or more
other programs, or be combined with each other. We have shared our technology
plans and product roadmaps with the U.S. Army and are incorporating suggestions
and other improvements at their request into our products. Our
next-generation MTS and BFT solutions have been designed with this overall goal
in mind and we believe our solutions can enable the U.S. Army to gradually
transition and migrate both programs to JBC-P or similar new programs, should it
ultimately occur.
We have
responded and will continue to respond to the U.S. Army’s RFPs in a way that we
believe best meets the U.S. Army’s requirements and we believe that we will
continue to generate future revenues relating to the MTS and BFT programs. We
believe our next-generation solutions not only meet the future operational needs
of the U.S. Army, but also provide significant advantages relative to other
sources. Because they are backward compatible, we believe our solutions provide
the U.S. Army the unique ability to leverage its existing technology investment
by continuing to use the existing deployed units and world-wide support
infrastructure while ultimately and seamlessly transitioning to the
next-generation MTS and BFT systems. If our next-generation solutions do not
meet the U.S. Army’s operational needs or strategic objectives, or if the U.S.
Army makes strategic fielding plan changes that we are unable to address, it
would have a material adverse impact on our business and results of
operations.
CRITICAL ACCOUNTING
POLICIES
We
consider certain accounting policies to be critical due to the estimation
process involved in each.
Revenue
Recognition on Long-Term Contracts.
Revenues and related
costs from long-term contracts relating to the design, development or
manufacture of complex electronic equipment to a buyer’s specification or to
provide services relating to the performance of such contracts are recognized in
accordance with FASB ASC 605-35. We primarily apply the
percentage-of-completion method and generally recognize revenue based on the
relationship of total costs incurred to total projected costs, or,
alternatively, based on output measures, such as units delivered or produced.
Profits expected to be realized on such contracts are based on total estimated
sales for the contract compared to total estimated costs, including warranty
costs, at completion of the contract.
Indirect
costs relating to long-term contracts, which include expenses such as general
and administrative, are charged to expense as incurred and are not included in
our work in process (including our contracts-in-progress) inventory or cost of
sales. Total estimated costs are reviewed and revised periodically throughout
the lives of the contracts, and adjustments to profits resulting from such
revisions are made cumulative to the date of the change. Estimated losses on
long-term contracts are recorded in the period in which the losses become
evident. Long-term U.S. government cost-reimbursable type contracts are also
specifically covered by FASB ASC 605-35.
25
We have
been engaged in the production and delivery of goods and services on a continual
basis under long-term contractual arrangements for many years. Historically, we
have demonstrated an ability to accurately estimate total revenues and total
expenses relating to our long-term contracts. However, there exist inherent
risks and uncertainties in estimating revenues, expenses and progress toward
completion, particularly on larger or longer-term contracts. If we do not
accurately estimate the total sales, related costs and progress towards
completion on such contracts, the estimated gross margins may be significantly
impacted or losses may need to be recognized in future periods. Any such
resulting changes in margins or contract losses could be material to our results
of operations and financial condition.
In
addition, most government contracts have termination for convenience clauses
that provide the customer with the right to terminate the contract at any time.
Such terminations could impact the assumptions regarding total contract revenues
and expenses utilized in recognizing profit under the percentage-of-completion
method of accounting. Changes to these assumptions could materially impact our
results of operations and financial condition. Historically, we have not
experienced material terminations of our long-term contracts. We also address
customer acceptance provisions in assessing our ability to perform our
contractual obligations under long-term contracts. Our inability to perform on
our long-term contracts could materially impact our results of operations and
financial condition. Historically, we have been able to perform on our long-term
contracts.
Accounting for
Stock-Based Compensation
.
As further discussed in
“Notes to Condensed
Consolidated Financial Statements – Note (4) Stock-Based Compensation,”
we issue stock-based awards to certain of our employees and our Board of
Directors and we recognize related stock-based compensation for both equity and
liability-classified stock-based awards in our consolidated financials
statements.
We have
used and expect to continue to use the Black-Scholes option pricing model to
compute the estimated fair value of stock-based awards. The Black-Scholes option
pricing model includes assumptions regarding dividend yields, expected
volatility, expected option term and risk-free interest rates. The assumptions
used in computing the fair value of stock-based awards reflect our best
estimates, but involve uncertainties relating to market and other conditions,
many of which are outside of our control. We estimate expected volatility by
considering the historical volatility of our stock, the implied volatility of
publicly traded call options on our stock, the implied volatility from call
options embedded in our 3.0% convertible senior notes and our expectations of
volatility for the expected life of stock-based awards. The expected option term
is the number of years that we estimate that share-based awards will be
outstanding prior to exercise based upon prior exercise patterns. The risk-free
interest rate is based on the U.S. treasury yield curve in effect at the time of
grant for an instrument which closely approximates the expected option term. As
a result, if other assumptions or estimates had been used for options granted,
stock-based compensation expense that was recorded could have been materially
different. Furthermore, if different assumptions are used in future periods,
stock-based compensation expense could be materially impacted in the
future.
Impairment of
Goodwill and Other Intangible Assets
.
As of January 31,
2010, our goodwill and other intangible assets aggregated $201.1 million. For
purposes of reviewing impairment and the recoverability of goodwill, each of our
three operating segments constitutes a reporting unit and we must make various
assumptions regarding estimated future cash flows and other factors in
determining the fair values of each reporting unit. If these estimates or their
related assumptions change in the future, or if we change our reporting
structure, we may be required to record impairment charges in future periods. If
global economic conditions deteriorate from current levels, or if the market
value of our equity or assets significantly declines, or if we are not
successful in achieving our expected sales levels (including sales associated
with our Radyne acquisition and our MTS and BFT contracts), our goodwill may
become impaired in future periods. We perform an annual impairment review in the
first quarter of each fiscal year. Based on the impairment review performed at
the start of our first quarter of fiscal 2010, there was no impairment of
goodwill.
As
further discussed in Item 2.
“Management’s Discussion and
Analysis of Financial Condition – Status of MTS and BFT Contracts,”
we
are currently competing for next-generation MTS and BFT contracts. We believe
that we will continue to generate significant revenues from both the MTS and BFT
programs for the foreseeable future. If we do not secure contract ceiling
increases or we are not awarded new contracts for both the MTS and BFT
next-generation programs, we may need to perform an interim impairment test
relating to the $11.9 million of goodwill that is recorded in our mobile data
communications segment. In addition, in the future, unless there are other
indicators of impairment, such as a significant adverse change in our future
financial performance, our next impairment review for goodwill will be performed
and completed in the first quarter of fiscal 2011. Any impairment charges that
we may take in the future could be material to our results of operations and
financial condition.
26
Provision for
Warranty Obligations.
We provide warranty coverage for most of our
products, including products under long-term contracts, for a period of at least
one year from the date of shipment. We record a liability for estimated warranty
expense based on historical claims, product failure rates and other factors.
Costs associated with some of our warranties that are provided under long-term
contracts are incorporated into our estimates of total contract costs. There
exist inherent risks and uncertainties in estimating warranty expenses,
particularly on larger or longer-term contracts. As such, if we do not
accurately estimate our warranty costs, any changes to our original estimates
could be material to our results of operations and financial
condition.
Accounting for
Income Taxes.
Our deferred tax assets and liabilities are determined
based on temporary differences between financial reporting and tax bases of
assets and liabilities, and applying enacted tax rates expected to be in effect
for the year in which the differences are expected to reverse. The provision for
income taxes is based on domestic (including federal and state) and
international statutory income tax rates in the tax jurisdictions where we
operate, permanent differences between financial reporting and tax reporting and
available credits and incentives. We recognize interest and penalties related to
uncertain tax positions in income tax expense. The U.S. federal government is
our most significant income tax jurisdiction.
Significant
judgment is required in determining income tax provisions and tax positions. We
may be challenged upon review by the applicable taxing authority and positions
taken by us may not be sustained. We recognize all or a portion of the benefit
of income tax positions only when we have made a determination that it is
more-likely-than-not that the tax position will be sustained upon examination,
based upon the technical merits of the position and other factors. For tax
positions that are determined as more-likely-than-not to be sustained upon
examination, the tax benefit recognized is the largest amount of benefit that is
greater than 50% likely of being realized upon ultimate settlement. The
development of reserves for income tax positions requires consideration of
timing and judgments about tax issues and potential outcomes, and is a
subjective critical estimate. In certain circumstances, the ultimate outcome of
exposures and risks involves significant uncertainties. If actual outcomes
differ materially from these estimates, they could have a material impact on our
results of operations and financial condition.
Provisions for
Excess and Obsolete Inventory.
We record a provision for
excess and obsolete inventory based on historical and future usage trends. Other
factors may also influence our provision, including decisions to exit a product
line, technological change and new product development. These factors could
result in a change in the amount of excess and obsolete inventory on hand.
Additionally, our estimates of future product demand may prove to be inaccurate,
in which case we may have understated or overstated the provision required for
excess and obsolete inventory. In the future, if we determine that our inventory
was overvalued, we would be required to recognize such costs in our financial
statements at the time of such determination. Any such charges could be material
to our results of operations and financial condition.
Included
in inventories as of January 31, 2010, is approximately $26.9 million of
inventory related to our MTS and BFT contracts, including $5.1 million of
ruggedized computers and related components that have been or can be included in
MTS systems that we sell to the U.S. Army. In fiscal 2009, the U.S. Army
informed us that it intends to upgrade previously deployed MTS systems and
purchase new MTS systems using a different ruggedized computer model. Although
we have sold the older version MTS computer model to the U.S. Army since their
selection of a new ruggedized MTS computer, we expect demand for the older
ruggedized computers and related components which we currently have on hand to
decline.
We
continue to actively market these ruggedized computers and related components to
the U.S. Army who, during the three months ended January 31, 2010, confirmed
their interest in purchasing some or all of these older ruggedized computers and
related components. We expect that we will ultimately sell these computers and
related components for more than their current net book value based on a variety
of factors. These factors include our belief that there may be additional
deployments of MTS systems using these computers, our recent inclusion of these
computers in our Quick Deploy Satellite System (“QDSS”) configurations and that
we intend to continue to actively market them to potential customers including
the Army National Guard and NATO. In the future, if we determine that this
inventory will not be utilized or cannot be sold for more than its current net
book value, we would be required to record a write-down of the value of such
inventory in our consolidated financial statements at the time of such
determination.
If our
MTS and BFT contracts are not renewed or extended, the level of our MTS and BFT
inventories or our outstanding purchase commitments could be excessive and we
may be left with large inventories of unusable parts that we would have to
write-off. Any such charges could be material to our consolidated results of
operations in the period that we make such determination.
27
Allowance for
Doubtful Accounts.
We perform credit evaluations of our
customers and adjust credit limits based upon customer payment history and
current creditworthiness, as determined by our review of our customers’ current
credit information. Generally, we will require cash in advance or payment
secured by irrevocable letters of credit before an order is accepted from an
international customer that we do not do business with regularly. In addition,
we seek to obtain credit insurance for certain domestic and international
customers. We monitor collections and payments from our customers and maintain
an allowance for doubtful accounts based upon our historical experience and any
specific customer collection issues that we have identified. In light of ongoing
tight credit market conditions, we continue to see requests from our customers
for higher credit limits and longer payment terms. Because of our strong cash
position and the nominal amount of interest we are earning on our cash and cash
equivalents, we have, on a limited basis, approved certain customer requests. We
continue to monitor our accounts receivable credit portfolio and have not had
any significant negative customer credit experiences to date. While our credit
losses have historically been within our expectations of the allowances
established, we cannot guarantee that we will continue to experience the same
credit loss rates that we have in the past, especially in light of current
global economic conditions and the much tighter credit environment. Measurement
of such losses requires consideration of historical loss experience, including
the need to adjust for current conditions, and judgments about the probable
effects of relevant observable data, including present economic conditions such
as delinquency rates and the financial health of specific customers. Changes to
the estimated allowance for doubtful accounts could be material to our results
of operations and financial condition.
Although
weak economic and challenging business conditions continue to prevail and our
third-party supplier of new MTS ruggedized computers is no longer able to meet
our previous delivery timetable, we continue to believe that fiscal 2010 will be
another year of record consolidated net sales and that our operating income in
fiscal 2010 will be significantly higher than it was in fiscal 2009. The global
economic environment is slowly improving and we are expecting our bookings in
the second half of fiscal 2010 to increase as compared to the first half of
fiscal 2010. We have approximately $446.8 million in backlog as of January 31,
2010, of which a substantial portion is expected to ship during the second half
of fiscal 2010. As of January 31, 2010, we had $514.2 million of cash and cash
equivalents and are continuing our efforts to supplement our expected organic
growth and diversify our business by making one or more
acquisitions.
Our
revenue outlook by business segment for fiscal 2010 is as follows:
|
·
|
Telecommunications
transmission segment – Primarily as a result of weak economic conditions,
we currently expect annual sales in our telecommunications transmission
segment in fiscal 2010 to be lower than the sales level we achieved in
fiscal 2009. As we look to the second half of fiscal 2010, we are seeing
some signs that the global economy is slowly improving and we believe that
such improvement will ultimately result in our satellite earth station
product line bookings increasing from the levels we achieved in the first
half of fiscal 2010. Bookings in our over-the-horizon microwave
system product line are also expected to increase during the second half
of fiscal 2010 as compared to the first half of fiscal 2010. We continue
to be involved in negotiations and discussions relating to large
international over-the-horizon microwave system opportunities. Although
these potential contracts have had and continue to experience lengthy
sales cycles, we have made significant progress with one of these
opportunities during our most recent quarter and we ultimately expect to
book a large order in the second half of fiscal 2010. This potential
contract is expected to generate nominal revenues in our fiscal 2010 with
the majority of its revenues in fiscal 2011 and beyond. Notwithstanding
the increased visibility that we believe we have related to this one
particular opportunity, it remains difficult to predict the timing of any
potential contract award or related revenue. Sales and profitability in
our telecommunications transmission segment can fluctuate dramatically
from period-to-period due to many factors, including the strength of our
satellite earth station product line bookings and the nature, timing and
related receipt of, and performance on, large contracts from the U.S.
government and international customers for our over-the-horizon microwave
systems.
|
|
·
|
Mobile
data communications segment – Although specific customer fielding
schedules, amounts and timing of future orders and product mix
requirements remain almost unpredictable, we expect that our mobile data
communications segment will report record sales in fiscal 2010.
However,
the amount of expected sales in our mobile data communications segment in
fiscal 2010 is anticipated to be lower than we previously expected. In
January and April 2009, we announced the receipt of large orders from the
U.S. Army aggregating $378.7 million primarily for new MTS ruggedized
computers and related accessories and new MTS systems which include these
computers. These computers and certain related accessories are
manufactured by a third-party supplier. As previously reported in prior
SEC filings, our third-party supplier has experienced production and
technical issues. These issues, which have not yet been fully resolved,
resulted in, and are expected to continue to result in, shipping and
related deployment delays to the U.S. Army. As such, we now believe it is
likely that approximately $90.0 million to $100.0 million of these orders
that we previously expected to ship in fiscal 2010 will ship in fiscal
2011.
|
28
We
continue to work with our third-party supplier to facilitate its steps to meet
its delivery obligations to us. As of January 31, 2010, we had approximately
$358.7 million of funded backlog in this segment, of which a substantial portion
relates to these MTS orders. Except for the $90.0 million to $100.0 million of
these orders previously expected to ship in fiscal 2010, our current business
outlook assumes that MTS ruggedized computer related orders currently in our
backlog will be recognized as revenue during the second half of our fiscal 2010,
with the fourth quarter of fiscal 2010 expected to be the peak quarter of
shipments. It is possible that additional delays could occur that would result
in a further shift of revenue and related operating income from fiscal 2010 to
fiscal 2011. In addition, as further discussed in Item 2.
“Management’s Discussion and
Analysis of Financial Condition – Status of MTS and BFT Contracts,”
we
currently cannot receive additional significant MTS and BFT orders unless the
U.S. government authorizes contract ceiling increases or awards us new
contracts. Bookings, sales and profitability in our mobile data communications
segment can fluctuate dramatically from period-to-period due to many factors,
including unpredictable funding, deployment and technology decisions by the U.S.
government, as well as risks associated with the uncertainty of the prevailing
political and economic environments.
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·
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RF
microwave amplifiers segment – We currently expect annual sales in our RF
microwave amplifiers segment to be significantly lower in fiscal 2010 as
compared to the record sales we achieved in fiscal 2009. Sales in fiscal
2009 significantly benefited from our participation in the Counter
Remote-Control Improvised Explosive Device Electronic Warfare (“CREW”) 2.1
defense program which uses our solid-state, high-power broadband radio
signal jamming amplifiers and switches in systems to help protect U.S.
troops from the threat of radio-controlled roadside bombs. RF microwave
amplifiers segment bookings in the first half of fiscal 2010 were
generally soft, and based on the anticipated timing of shipments
associated with our current backlog and orders that we expect to receive,
sales in the second half of fiscal 2010 are expected to be lower than the
first half of fiscal 2010. At the same time, we are seeing some signs that
the global economy is slowly improving and we currently believe that such
improvement will ultimately result in our RF microwave amplifiers
segment’s bookings in the second half of fiscal 2010 increasing from the
levels we achieved in the first half of fiscal 2010. Bookings, sales and
profitability in our RF microwave amplifiers segment can fluctuate
dramatically from period-to-period due to many factors, including the
receipt of and performance on large contracts from the U.S. government and
international customers.
|
Below is
a summary of our aggregated fiscal 2010 business outlook on certain income
statement line items:
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·
|
Our
gross profit as a percentage of our expected fiscal 2010 net sales is
expected to significantly decline from the percentage we achieved in
fiscal 2009 and our gross profit as a percentage of sales in the second
half of fiscal 2010 is expected to be lower than the percentage we
achieved in the first half of fiscal 2010. This decrease is primarily
attributable to changes in product mix. In fiscal 2010, a significant
portion of our sales are expected to be for new versions of MTS ruggedized
computers and MTS systems. Almost all of the MTS systems that we expect to
ship during fiscal 2010 will include the new version of the MTS ruggedized
computer. These new MTS ruggedized computers are manufactured by a
third-party supplier and have significantly lower gross margins than prior
MTS ruggedized computers. As a result, gross margins in fiscal 2010 are
expected to significantly decline as compared to prior periods and gross
margins in any particular future period will be highly influenced by the
ultimate quantity of MTS ruggedized computers shipped in those periods. In
addition, our telecommunications transmission segment, which operates our
high-volume technology manufacturing center located in Tempe, Arizona, is
expected to experience lower gross margins due to overall anticipated
lower overhead absorption.
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|
·
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Our
selling, general and administrative expenses, as a percentage of fiscal
2010 net sales, are expected to be significantly lower than they were in
fiscal 2009. This decrease is primarily due to the increase in
consolidated net sales that we expect to achieve in fiscal 2010. In
addition, our selling, general and administrative expenses are expected to
benefit from lower expenses associated with our cost-reduction efforts,
including our decision to no longer offer video encoder and decoder
products or market fiberglass antennas to commercial broadcast customers.
We expect to continue to incur selling, general and administrative
expenses to, among other things, help us secure follow-on contracts to our
current MTS and BFT contracts which expire in July 2010 and December 2011,
respectively.
|
|
·
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Research
and development expenses, as a percentage of fiscal 2010 net sales, are
expected to be lower than they were in fiscal 2009. This decrease is
primarily attributable to the increase in consolidated net sales that we
expect to achieve in fiscal 2010. During fiscal 2010, we expect to
continue to make investments in our backward compatible next-generation
MTS and BFT products, as well as continue to fund other research and
development efforts.
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29
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·
|
Total
amortization of stock-based compensation (which is allocated to cost of
sales, selling, general and administrative and research and development
expense line items in our consolidated statement of operations), for
fiscal 2010, is expected to be lower than it was in fiscal 2009, due in
part, to cost-reduction actions taken in fiscal 2009 that resulted in a
lower number of stock-based awards issued as compared to prior fiscal
years.
|
|
|
|
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·
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Amortization
of intangibles for fiscal 2010 is currently expected to be slightly lower
than it was in fiscal 2009 and, excluding the impact of any possible
future acquisitions, is anticipated to approximate $7.0
million.
|
|
·
|
Interest
income is expected to be significantly lower in fiscal 2010 as compared to
fiscal 2009 primarily due to the expectation of a continued low interest
rate environment. All of our available cash and cash equivalents are
currently invested in commercial and government money market mutual funds,
certificates of deposit, short-term U.S. Treasury obligations and bank
deposits, and currently yield a blended annual interest rate of
approximately 0.16%.
|
|
·
|
Interest
expense is expected to increase in fiscal 2010 as compared to fiscal 2009
primarily due to incremental interest expense associated with the issuance
of $200.0 million of our 3.0% convertible senior notes. Our interest
expense in fiscal 2009 (as retroactively adjusted and presented to reflect
implied interest expense associated with our 2.0% convertible senior
notes) was $6.4 million.
|
|
·
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Excluding
the impact of discrete tax items, our fiscal 2010 estimated effective tax
rate is expected to approximate 36.0%. Our actual tax rate in fiscal
2009 was 35.1% (as retroactively adjusted and presented to reflect lower
income taxes due to the increase in implied interest expense related to
our 2.0% convertible senior notes). The expected year-over-year increase
in our tax rate is primarily related to our expected increase in pre-tax
income in fiscal 2010, as well as the expiration of the federal research
and experimentation credit on December 31, 2009. Our ultimate effective
income tax rate in fiscal 2010 will depend on various factors including,
but not limited to, future tax legislation enacted, the actual geographic
composition of our revenue and pre-tax income, the finalization of our IRS
audits, future acquisitions, and any future non-deductible
expenses.
|
We remain
confident in the long-term demand drivers for our businesses; however, all three
of our segments are operating in difficult market conditions and it remains
difficult for us to forecast our business outlook for the remainder
of fiscal 2010. Although we have seen signs of improvements in certain
end-markets, we are unable to predict with accuracy when global business
conditions will meaningfully and sustainably improve. If our current or
prospective customers materially postpone, reduce or even forgo purchases of our
products and services to a greater extent than we currently anticipate, or if we
fail to receive MTS or BFT contract ceiling increases, contract extensions, or
new awards, our business outlook will be adversely affected.
COMPARISON OF THE RESULTS OF
OPERATIONS FOR THE THREE MONTHS ENDED JANUARY 31, 2010 AND JANUARY 31,
2009
Net Sales.
Consolidated net sales were $171.1 million and $143.9 million for the
three months ended January 31, 2010 and 2009, respectively, representing an
increase of $27.2 million, or 18.9%. The period-over-period increase in net
sales is attributable to higher sales in our mobile data communications segment
offset, in part, by lower sales in both our telecommunications transmission and
RF microwave amplifiers segments.
Telecommunications
transmission
Net sales
in our telecommunications transmission segment were $58.4 million and $69.5
million for the three months ended January 31, 2010 and 2009, respectively, a
decrease of $11.1 million, or 16.0%. Our telecommunications transmission segment
represented 34.1% of consolidated net sales for the three months ended January
31, 2010 as compared to 48.3% for the three months ended January 31,
2009. Net sales in this segment reflect significantly lower sales of
our satellite earth station products partially offset by an increase in sales of
our over-the-horizon microwave systems. Although relatively nominal, sales in
our telecommunications transmission segment for the three months ended January
31, 2009 include sales related to video encoder and decoder products and
fiberglass antennas for commercial broadcast customers which we are no longer
offering to our customers.
Sales of
our satellite earth station products for the three months ended January 31, 2010
were significantly lower than the three months ended January 31, 2009. Bookings
during the three months ended January 31, 2010 were sluggish and were
significantly lower than the three months ended January 31, 2009 due to
difficult economic conditions which continue to impact this product line. We
continue to see signs that the global economic environment is slowly improving
and we believe this improvement will ultimately result in our satellite earth
station product line bookings increasing from current levels.
30
Sales of our over-the-horizon microwave systems for the three months ended January 31, 2010 were modest; however, they were higher than sales in the three months ended January 31, 2009 primarily due to increased sales to certain international customers.
Bookings,
sales and profitability in our telecommunications transmission segment can
fluctuate from period-to-period due to many factors, including the book and ship
nature associated with our satellite earth station products, the current adverse
conditions in the global economy and credit markets, and the timing of, and our
related performance on, contracts from the U.S. government and international
customers for our over-the-horizon microwave systems.
Mobile data
communications
Net sales
in our mobile data communications segment were $84.2 million for the three
months ended January 31, 2010 and $38.9 million for the three months ended
January 31, 2009, an increase of $45.3 million, or 116.5%. Our mobile data
communications segment represented 49.2% of consolidated net sales for the three
months ended January 31, 2010 as compared to 27.0% for the three months ended
January 31, 2009.
The
period-over-period increase in our mobile data communications segment sales is
primarily attributable to significantly higher MTS sales to the U.S. Army offset
by a significant decline in BFT sales. Sales relating to the design and
manufacture of microsatellites during both the three months ended January 31,
2010 and 2009 were nominal.
During
the three months ended January 31, 2010, we continued to ship orders that were
in our backlog related to new third-party produced MTS ruggedized computers.
Although our third-party supplier experienced production-related and technical
issues that resulted in shipping and related deployment delays, sales to the
U.S. Army under our MTS contract were significantly higher during the three
months ended January 31, 2010 as compared to the three months ended January 31,
2009. There is a possibility that we could experience further delays and, if
such delays occur, revenues that we are currently expecting in fiscal 2010 could
shift to fiscal 2011. Assuming no further changes to our current assumptions, we
expect that the majority of our mobile data communications segment backlog will
be shipped during the remainder of fiscal 2010 and that the fourth quarter of
our fiscal 2010 will be the peak quarter of sales in our mobile data
communications segment.
Sales to
the U.S. Army pursuant to our existing BFT contract were significantly lower
during the three months ended January 31, 2010 as compared to the three months
ended January 31, 2009. Sales related to our existing BFT contract during the
three months ended January 31, 2010 substantially reflect sales related to
satellite transponder capacity and related network and engineering services. In
addition, sales during the three months ended January 31, 2010 include revenues
associated with building, testing and delivering our next-generation BFT-HC
transceivers (our BFT-2 offering) pursuant to an $8.0 million order we received
in fiscal 2009 from the U.S. Army.
Through
January 31, 2010, we had received $590.4 million in total orders under our
$605.1 million MTS contract, which expires in July 2010, and $214.1 million in
total orders under our $243.5 million BFT contract, which expires in December
2011.
We have
experienced and we expect to continue to experience significant fluctuations in
sales and orders related to the MTS and BFT programs. Bookings, sales and
profitability in our mobile data communications segment can fluctuate
dramatically from period-to-period due to many factors, including unpredictable
funding, deployment and technology decisions by the U.S. government. As such,
period-to-period comparisons of our results may not be indicative of a trend or
future performance. Our MTS and BFT contracts are both IDIQ contracts and, as
such, the U.S. Army is not obligated to purchase any equipment or services under
these contracts. As discussed above, almost all of our mobile data
communications segment backlog as of January 31, 2010 includes orders relating
to MTS ruggedized computers and certain related accessories which are
manufactured by a third-party supplier. If we do not receive these MTS
ruggedized computers and certain related accessories in a timely manner or if
field deployment schedules change, we could experience further delays in
fulfilling funded and anticipated orders from our customers.
31
RF microwave
amplifiers
Net sales
in our RF microwave amplifiers segment were $28.5 million for the three months
ended January 31, 2010, as compared to $35.5 million for the three months ended
January 31, 2009, a decrease of $7.0 million, or 19.7%. Our RF microwave
amplifiers segment represented 16.7% of consolidated net sales for the three
months ended January 31, 2010 as compared to 24.7% for the three months ended
January 31, 2009.
The
decline in our RF microwave amplifiers segment sales during the three months
ended January 31, 2010 as compared to the three months ended January 31, 2009,
is primarily attributable to significantly lower sales to the U.S. government,
primarily lower CREW 2.1 related sales. RF microwave amplifiers segment bookings
during the three months ended January 31, 2010 were generally soft primarily due
to difficult economic conditions which continue to impact this segment. Based on
the anticipated timing of shipments associated with our current backlog and
orders that we expect to receive, quarterly sales in our RF microwave amplifiers
segment for the balance of fiscal 2010 are expected to be slightly lower than,
or similar to, the sales level we achieved during the three months ended January
31, 2010. We continue to see signs that the global economic environment is
slowly improving and we believe this improvement will ultimately result in our
RF microwave amplifiers segment bookings increasing from current
levels.
Bookings,
sales and profitability in our RF microwave amplifiers segment can fluctuate
from period-to-period due to many factors including the current adverse
conditions in the global economy and credit markets, and the timing of, and our
related performance on, contracts from the U.S. government and international
customers.
Geography and Customer
Type
Sales to
the U.S. government (including sales to prime contractors of the U.S.
government) represented 64.7% and 51.3% of consolidated net sales for the three
months ended January 31, 2010 and 2009, respectively. International sales (which
include sales to U.S. companies for inclusion in products that are sold to
international customers) represented 29.2% and 36.3% of consolidated net sales
for the three months ended January 31, 2010 and 2009, respectively. Domestic
commercial sales represented 6.1% and 12.4% of consolidated net sales for the
three months ended January 31, 2010 and 2009, respectively.
Gross Profit.
Gross profit was $63.5 million and $59.5 million for the three months
ended January 31, 2010 and 2009, respectively, representing an increase of $4.0
million. The increase in gross profit is attributable to the significant
increase in net sales reported during the three months ended January 31, 2010.
Gross profit as a percentage of net sales was 37.1% for the three months ended
January 31, 2010 as compared to 41.3% for the three months ended January 31,
2009. The decrease in gross profit as a percentage of net sales during the three
months ended January 31, 2010 is primarily attributable to an anticipated
significant change in overall product mix, as further discussed
below.
Our
telecommunications transmission segment’s gross profit percentage for the three
months ended January 31, 2010 was slightly lower than the gross profit
percentage for the three months ended January 31, 2009. The decline in gross
profit percentage was primarily the result of a less favorable product mix and
lower overall usage of our high-volume technology manufacturing center, located
in Tempe, Arizona, that was driven by a decline in satellite earth station
product sales. This decline was partially offset by the benefit of
cost-reduction actions that were completed in prior periods.
Our
mobile data communications segment experienced an anticipated significant
decline in gross profit percentage during the three months ended January 31,
2010 as compared to the three months ended January 31, 2009 primarily due to a
change in product mix
which was
slightly offset by lower than expected warranty claims on our first MTS contract
whose warranty terms are nearing expiration
. A substantial
portion of our mobile data communications segment’s sales during our most recent
quarter related to the shipment of orders that were in our backlog for new MTS
third-party produced ruggedized computers and related accessories or new MTS
systems which include these computers. These new MTS computers have
significantly lower gross margins than our MTS and BFT equipment and services
sold during the three months ended January 31, 2009. Significant
period-to-period fluctuations in our gross margins can occur in our mobile data
communications segment as a result of the nature, timing and mix of actual
deliveries which are primarily driven by the U.S. Army’s
requirements.
Our RF
microwave amplifiers segment experienced a slightly higher gross profit
percentage during the three months ended January 31, 2010 as compared to the
three months ended January 31, 2009. For the three months ended January 31,
2009, gross margins in this segment were negatively impacted by long production
times relating to certain complex solid-state, high-power amplifiers and
high-power switches that employed newer technology.
32
As
further discussed in Item 2.
“Management’s Discussion and
Analysis of Financial Condition – Business Outlook for Fiscal 2010,”
our
consolidated gross margins for the second half of fiscal 2010 are expected to be
lower than the percentage we achieved in the first half of fiscal 2010. Gross
margins in any particular future period will be highly influenced by the
ultimate quantity of MTS ruggedized computers and related systems shipped in
those periods.
Included
in cost of sales for both the three months ended January 31, 2010 and 2009 are
provisions for excess and obsolete inventory of $1.0 million. Included in cost
of sales for the three months ended January 31, 2009 is amortization of $0.7
million related to the estimated fair value step-up of Radyne inventory
acquired. As discussed in Item 2
. “Management’s Discussion and
Analysis of Financial Condition and Results of Operations – Critical Accounting
Policies – Provisions for Excess and Obsolete Inventory,”
we regularly
review our inventory and record a provision for excess and obsolete inventory
based on historical and projected usage assumptions.
Selling, General
and Administrative Expenses
.
Selling, general
and administrative expenses were $22.9 million and $26.0 million for the three
months ended January 31, 2010 and 2009, respectively, representing a decrease of
$3.1 million, or 11.9%. The decrease is primarily attributable to: (i) the
benefit from ongoing cost reduction activities including our decision in fiscal
2009 to no longer offer video encoder and decoder products or market fiberglass
antennas to our broadcast customers, and (ii) lower professional fees (primarily
related to the legal matters discussed in
“Notes to Condensed Consolidated
Financial Statements - Note (19) Legal Matters and
Proceedings”
). In addition, amortization of stock-based
compensation expense recorded as selling, general and administrative expenses
decreased to $1.2 million in the three months ended January 31, 2010 from $1.6
million in the three months ended January 31, 2009.
As a
percentage of consolidated net sales, selling, general and administrative
expenses were 13.4% and 18.1% for the three months ended January 31, 2010 and
2009, respectively.
Research and
Development Expenses.
Research and development expenses were
$11.4 million and $12.5 million for the three months ended January 31, 2010 and
2009, respectively, representing a decrease of $1.1 million, or 8.8%. The
decrease in expenses is attributable to reductions in spending, including
reductions in internal funding incurred on research and development efforts
associated with our next-generation MTS and BFT products which were introduced
during fiscal 2009. As noted below, we received a contract in fiscal 2009 from
the U.S. Army to fund some of our next-generation BFT efforts.
As a
percentage of consolidated net sales, research and development expenses were
6.7% and 8.7% for the three months ended January 31, 2010 and 2009,
respectively.
For the
three months ended January 31, 2010 and 2009, research and development expenses
of $7.1 million and $7.3 million, respectively, related to our
telecommunications transmission segment, $1.5 million and $3.1 million,
respectively, related to our mobile data communications segment, $2.5 million
and $1.7 million, respectively, related to our RF microwave amplifiers segment,
with the remaining expenses related to the amortization of stock-based
compensation expense which is not allocated to our three operating segments.
Amortization of stock-based compensation expense recorded as research and
development expenses was $0.3 million and $0.4 million for the three months
ended January 31, 2010 and 2009, respectively.
As an
investment for the future, we are continually enhancing our existing products
and developing new products and technologies. Whenever possible, we seek
customer funding for research and development to adapt our products to
specialized customer requirements. During the three months ended January 31,
2010 and 2009, customers reimbursed us $3.3 million and $1.9 million,
respectively, which is not reflected in the reported research and development
expenses, but is included in net sales with the related costs included in cost
of sales. During the three months ended January 31, 2010, we continued our
efforts associated with building, testing and delivering our next-generation
BFT-HC transceivers pursuant to an $8.0 million order we received from the U.S.
Army in fiscal 2009.
Amortization of
Intangibles.
Amortization relating to intangible assets with finite lives
was $1.8 million for both the three months ended January 31, 2010 and 2009,
respectively.
Operating Income.
Operating income for the three months ended January 31, 2010 and 2009 was
$27.4 million and $19.2 million, respectively. As further discussed below, the
significant increase is primarily attributable to higher operating income in our
mobile data communications segment as well as lower unallocated operating
expenses, partially offset by declines in operating income in both our
telecommunications transmission and RF microwave amplifiers
segments.
Operating
income in our telecommunications transmission segment was $13.7 million for the
three months ended January 31, 2010 as compared to $17.1 million for the three
months ended January 31, 2009. The decrease in operating income is primarily due
to this segment’s decline in net sales which were partially offset by cost
reduction activities.
33
Our
mobile data communications segment generated operating income of $16.9 million
for the three months ended January 31, 2010 as compared to $4.3 million for the
three months ended January 31, 2009. The increase in operating income is
primarily due to this segment’s significantly higher net sales and lower
research and development expenditures, as discussed above.
Our RF
microwave amplifiers segment generated operating income of $2.3 million for the
three months ended January 31, 2010 as compared to $3.7 million for the three
months ended January 31, 2009. The decrease in operating income is primarily due
to this segment’s decline in net sales and an increase in research and
development expenditures, as discussed above.
Unallocated
operating expenses decreased to $5.5 million for the three months ended January
31, 2010 from $5.9 million for the three months ended January 31, 2009 primarily
due to (i) lower amortization of stock-based compensation and (ii) lower
professional fees (primarily related to the legal matters discussed in
“Notes to Condensed Consolidated
Financial Statements - Note (19) Legal Matters and Proceedings”
)
both of which were partially offset by an increase in cash-based incentive
compensation due to overall higher consolidated operating income. Amortization
of stock-based compensation expense, which is included in unallocated operating
expenses, was $1.7 million in the three months ended January 31, 2010 as
compared to $2.3 million in the three months ended January 31,
2009.
Interest
Expense.
Interest expense was $2.0 million and $1.9 million
for the three months ended January 31, 2010 and 2009, respectively. Interest
expense during the three months ended January 31, 2010 is primarily due to
incremental interest expense associated with the issuance of $200.0 million of
our 3.0% convertible senior notes. Our interest expense during the three months
ended January 31, 2009 reflects a retroactive adjustment to record implied
interest expense at 7.5% related to our 2.0% convertible senior notes. Our 2.0%
convertible senior notes were fully converted into common shares during the
third quarter of our fiscal 2009.
Interest Income
and Other.
Interest income and other for the three months
ended January 31, 2010 was $0.2 million, as compared to $0.6 million for the
three months ended January 31, 2009. The decrease of $0.4 million is primarily
attributable to a significant decline in period-over-period interest
rates.
All of
our available cash and cash equivalents are currently invested in commercial and
government money market mutual funds, certificates of deposit, short-term U.S.
Treasury obligations and bank deposits, and currently yield a blended annual
interest rate of approximately 0.16%.
Provision for
Income Taxes.
The provision for income taxes was $9.3 million
and $5.8 million for the three months ended January 31, 2010 and 2009,
respectively. Our effective tax rate was 36.2% for the three months ended
January 31, 2010 as compared to 32.5% for the three months ended January 31,
2009. Our effective tax rate for the three months ended January 31, 2009 has
been retroactively adjusted and presented to reflect lower income taxes due to
the increase in implied interest expense related to our 2.0% convertible senior
notes.
Our
effective tax rate for the three months ended January 31, 2010 and 2009 was
impacted by net discrete tax expenses of $0.1 million and a discrete tax benefit
of $0.3 million, respectively. Excluding discrete items in both periods, our
estimated effective tax rate for the three months ended January 31, 2010 was
36.0% as compared to 34.3% for the three months ended January 31,
2009. This increase in our effective tax rate is primarily
attributable to the expiration of the federal research and experimentation
credit on December 31, 2009. Excluding the impact of discrete tax
items, our fiscal 2010 effective tax rate is expected to approximate
36.0%.
During
the three months ended January 31, 2010, similar to the agreements we reached
with the IRS for our federal income tax returns for fiscal 2004 and 2005, we
reached an agreement with the IRS relating to the allowable amount of federal
research and experimentation credits utilized and interest expense relating to
our 2.0% convertible senior notes for fiscal 2006. This agreement did not result
in any material change to our income tax provision for the three months ended
January 31, 2010.
The IRS
continues to audit our federal income tax return for the fiscal year ended July
31, 2007 for which we believe they are focusing on the allowable amount of
federal research and experimentation credits utilized, interest expense relating
to our 2.0% convertible senior notes as well as the amount of our domestic
production activities deduction. The IRS is not currently examining any of the
federal income tax returns filed by Radyne Corporation for the tax years prior
to our August 1, 2008 acquisition of Radyne. Although adjustments relating to
the audits and related settlements of our fiscal 2004, 2005 and 2006 tax returns
were immaterial, a resulting tax assessment or settlement for fiscal 2007 or
other potential future periods could have a material adverse impact on our
consolidated results of operations and financial condition.
34
COMPARISON OF THE RESULTS OF
OPERATIONS FOR THE SIX MONTHS ENDED JANUARY 31, 2010 AND JANUARY 31,
2009
Net Sales.
Consolidated net sales were $304.9 million and $335.8 million for the six
months ended January 31, 2010 and 2009, respectively, representing a decrease of
$30.9 million, or 9.2%. The period-over-period decrease in net sales is
attributable to lower sales, as anticipated, in both our telecommunications
transmission and RF microwave amplifiers segments, partially offset by an
increase in sales in our mobile data communications segment.
Telecommunications
transmission
Net sales
in our telecommunications transmission segment were $105.1 million and $144.1
million for the six months ended January 31, 2010 and 2009, respectively, a
decrease of $39.0 million, or 27.1%. Our telecommunications transmission segment
represented 34.5% of consolidated net sales for the six months ended January 31,
2010 as compared to 42.9% for the six months ended January 31, 2009. Net sales
in this segment reflect lower sales of our satellite earth station products,
partially offset by an increase in sales of our over-the-horizon microwave
systems. Although relatively nominal, sales in our telecommunications
transmission segment for the six months ended January 31, 2009 include sales
related to video encoder and decoder products and fiberglass antennas for
commercial broadcast customers which we are no longer offering to our
customers.
Sales of
our satellite earth station products for the six months ended January 31, 2010
were lower than they were in the six months ended January 31, 2009 due to
difficult economic conditions. Bookings during the six months ended
January 31, 2010 were sluggish and were significantly lower than bookings in the
six months ended January 31, 2009 due to difficult economic conditions which
continue to impact this product line. We continue to see signs that the global
economic environment is slowly improving and we believe this improvement will
ultimately result in our satellite earth station product line bookings
increasing from current levels.
Sales of
our over-the-horizon microwave systems for the six months ended January 31, 2010
were modest; however, they were higher than they were in the six months ended
January 31, 2009 primarily due to increased sales to certain international
customers.
Bookings,
sales and profitability in our telecommunications transmission segment can
fluctuate from period-to-period due to many factors, including the book and ship
nature associated with our satellite earth station products, the current adverse
conditions in the global economy and credit markets, and the timing of, and our
related performance on, contracts from the U.S. government and international
customers for our over-the-horizon microwave systems.
Mobile data
communications
Net sales
in our mobile data communications segment were $138.3 million for the six months
ended January 31, 2010 and $120.8 million for the six months ended January 31,
2009, an increase of $17.5 million, or 14.5%. Our mobile data communications
segment represented 45.4% of consolidated net sales for the six months ended
January 31, 2010 as compared to 36.0% for the six months ended January 31,
2009.
The
period-over-period increase in our mobile data communications segment sales is
primarily attributable to significantly higher MTS sales to the U.S. Army offset
by a significant decline in BFT sales. Sales relating to the design
and manufacture of microsatellites during both the six months ended January 31,
2010 and 2009 were nominal.
During
the six months ended January 31, 2010, we continued to ship orders that were in
our backlog related to new third-party produced MTS ruggedized
computers. Sales related to our existing BFT contract during the six months
ended January 31, 2010 substantially reflect sales related to satellite
transponder capacity and related network and engineering services. In addition,
sales during the six months ended January 31, 2010 include revenues associated
with building, testing and delivering our next-generation BFT-HC transceivers
(our BFT-2 offering) pursuant to an $8.0 million order we received in fiscal
2009 from the U.S. Army.
35
We have
experienced and we expect to continue to experience significant fluctuations in
sales and orders related to the MTS and BFT programs. Bookings, sales and
profitability in our mobile data communications segment can fluctuate
dramatically from period-to-period due to many factors, including unpredictable
funding, deployment and technology decisions by the U.S. government. As such,
period-to-period comparisons of our results may not be indicative of a trend or
future performance. Our MTS and BFT contracts are both IDIQ contracts and, as
such, the U.S. Army is not obligated to purchase any equipment or services under
these contracts. As discussed above, a substantial portion of our mobile data
communications segment backlog as of January 31, 2010 includes orders relating
to MTS ruggedized computers and certain related accessories which are
manufactured by a third-party supplier. If we do not receive these MTS
ruggedized computers and certain related accessories in a timely manner or if
field deployment schedules change, we could experience further delays in
fulfilling funded and anticipated orders from our customers.
RF microwave
amplifiers
Net sales
in our RF microwave amplifiers segment were $61.5 million for the six months
ended January 31, 2010, as compared to $70.9 million for the six months ended
January 31, 2009, a decrease of $9.4 million, or 13.3%. Our RF microwave
amplifiers segment represented 20.1% of consolidated net sales for the six
months ended January 31, 2010 as compared to 21.1% for the six months ended
January 31, 2009.
The
decline in our RF microwave amplifiers segment sales during the six months ended
January 31, 2010 as compared to the six months ended January 31, 2009, is
primarily attributable to significantly lower sales to the U.S. government,
primarily lower CREW 2.1 related sales. RF microwave amplifiers segment bookings
during the first half of fiscal 2010 were generally soft primarily due to
difficult economic conditions which continue to impact this
segment.
Bookings,
sales and profitability in our RF microwave amplifiers segment can fluctuate
from period-to-period due to many factors including the current adverse
conditions in the global economy and credit markets, and the timing of, and our
related performance on, contracts from the U.S. government and international
customers.
Geography and Customer
Type
Sales to
the U.S. government (including sales to prime contractors of the U.S.
government) represented 65.1% and 57.2% of consolidated net sales for the six
months ended January 31, 2010 and 2009, respectively. International sales (which
include sales to U.S. companies for inclusion in products that are sold to
international customers) represented 28.2% and 31.9% of consolidated net sales
for the six months ended January 31, 2010 and 2009, respectively. Domestic
commercial sales represented 6.7% and 10.9% of consolidated net sales for the
six months ended January 31, 2010 and 2009, respectively.
Gross Profit.
Gross profit was $113.2 million and $146.5 million for the six months
ended January 31, 2010 and 2009, respectively, representing a decrease of $33.3
million. Gross profit as a percentage of net sales was 37.1% for the six months
ended January 31, 2010 as compared to 43.6% for the six months ended January 31,
2009. The decrease in gross profit and gross profit as a percentage of net sales
during the six months ended January 31, 2010 was primarily attributable to the
decrease in consolidated net sales as well as an anticipated significant change
in product mix, as further discussed below.
Our
telecommunications transmission segment’s gross profit percentage for the six
months ended January 31, 2010 was lower than the gross profit percentage for the
six months ended January 31, 2009. The decline in gross profit percentage was
primarily the result of a less favorable product mix and lower overall usage of
our high-volume technology manufacturing center, located in Tempe, Arizona, that
was driven by a decline in satellite earth station product sales and lower
production of mobile satellite transceivers and certain related accessories. Our
telecommunications transmission segment manufactures mobile satellite
transceivers and certain accessories for our mobile data communications segment,
which, in turn, sells them to its customers, primarily the U.S. Army. This
decline was partially offset by the benefit of cost-reduction actions that were
completed in prior periods.
Our
mobile data communications segment experienced an anticipated significant
decline in gross profit percentage during the six months ended January 31, 2010
as compared to the six months ended January 31, 2009 primarily due to a change
in product mix
which was
slightly offset by lower than expected warranty claims on our first MTS contract
whose warranty terms are nearing expiration.
During the six
months ended January 31, 2010, a substantial portion of our mobile data
communications segment’s sales related to the shipment of orders that were in
our backlog for new MTS third-party produced ruggedized computers and related
accessories or new MTS systems which include these computers. These new MTS
computers have significantly lower gross margins than our MTS and BFT equipment
and services sold during the six months ended January 31, 2009. Significant
period-to-period fluctuations in our gross margins can occur in our mobile data
communications segment as a result of the nature, timing and mix of actual
deliveries which are primarily driven by the U.S. Army’s
requirements.
36
Our RF
microwave amplifiers segment experienced a slightly higher gross profit
percentage during the six months ended January 31, 2010 as compared to the six
months ended January 31, 2009. For the six months ended January 31, 2009, gross
margins in this segment were negatively impacted by long production times
relating to certain complex solid-state, high-power amplifiers and high-power
switches that employed newer technology.
As
further discussed in Item 2.
“Management’s Discussion and
Analysis of Financial Condition – Business Outlook for Fiscal 2010,”
our
consolidated gross margins for the second half of fiscal 2010 are expected to be
lower than the percentage we achieved in the first half of fiscal 2010. Gross
margins in any particular future period will be highly influenced by the
ultimate quantity of MTS ruggedized computers and related systems shipped in
those periods.
Included
in cost of sales for the six months ended January 31, 2010 and 2009 are
provisions for excess and obsolete inventory of $1.6 million and $2.0 million,
respectively. Included in cost of sales for the six months ended January 31,
2009 is amortization of $1.5 million related to the estimated fair value step-up
of Radyne inventory acquired. As discussed in our Item 2.
“Management’s Discussion and
Analysis of Financial Condition and Results of Operations – Critical Accounting
Policies – Provisions for Excess and Obsolete Inventory,”
we regularly
review our inventory and record a provision for excess and obsolete inventory
based on historical and projected usage assumptions.
Selling, General
and Administrative Expenses
.
Selling, general
and administrative expenses were $44.6 million and $55.0 million for the six
months ended January 31, 2010 and 2009, respectively, representing a decrease of
$10.4 million, or 18.9%. The decrease is primarily attributable to: (i) the
benefit from ongoing cost reduction activities including our fiscal 2009
decision to no longer offer video encoder and decoder products or market
fiberglass antennas to our broadcast customers, (ii) lower cash-based incentive
compensation (as a result of lower consolidated net sales and operating income),
and (iii) lower professional fees (primarily related to the legal matters
discussed in
“Notes to
Condensed Consolidated Financial Statements - Note (19) Legal Matters and
Proceedings”
). In addition, amortization of stock-based compensation
expense recorded as selling, general and administrative expenses decreased to
$2.5 million in the six months ended January 31, 2010 from $3.5 million in the
six months ended January 31, 2009.
Selling,
general and administrative expenses, as a percentage of consolidated net sales,
were 14.6% and 16.4% for the six months ended January 31, 2010 and 2009,
respectively.
Research and
Development Expenses.
Research and development expenses were
$22.8 million and $26.6 million for the six months ended January 31, 2010 and
2009, respectively, representing a decrease of $3.8 million, or 14.3%. The
decrease in expenses is attributable to reductions in spending, including
reductions in internal funding incurred on research and development efforts
associated with our next-generation MTS and BFT products which were introduced
during fiscal 2009. As noted below, we received a contract in fiscal 2009 from
the U.S. Army to fund some of our next-generation BFT efforts.
As a
percentage of consolidated net sales, research and development expenses were
7.5% and 7.9% for the six months ended January 31, 2010 and 2009,
respectively.
For the
six months ended January 31, 2010 and 2009, research and development expenses of
$14.0 million and $15.9 million, respectively, related to our telecommunications
transmission segment, $2.6 million and $5.8 million, respectively, related to
our mobile data communications segment, $5.6 million and $4.1 million,
respectively, related to our RF microwave amplifiers segment, with the remaining
expenses related to the amortization of stock-based compensation expense which
is not allocated to our three operating segments. Amortization of stock-based
compensation expense recorded as research and development expenses was $0.6
million and $0.8 million for the six months ended January 31, 2010 and 2009,
respectively.
As an
investment for the future, we are continually enhancing our existing products
and developing new products and technologies. Whenever possible, we seek
customer funding for research and development to adapt our products to
specialized customer requirements. During the six months ended January 31, 2010
and 2009, customers reimbursed us $6.3 million and $4.0 million, respectively,
which is not reflected in the reported research and development expenses, but is
included in net sales with the related costs included in cost of sales. During
the six months ended January 31, 2010, we continued our efforts associated with
building, testing and delivering our next-generation BFT-HC transceivers
pursuant to an $8.0 million order we received from the U.S. Army in fiscal
2009.
37
Amortization of
Acquired In-Process Research and Development.
There was no amortization
of acquired in-process research and development projects for the six months
ended January 31, 2010.
During
the six months ended January 31, 2009, in connection with our August 1, 2008
acquisition of Radyne, we immediately amortized $6.2 million for the estimated
fair value of acquired in-process research and development projects. The
acquired in-process research and development projects were expensed upon
acquisition because technological feasibility had not been established and no
future alternative use existed.
Of the
$6.2 million of amortization of acquired in-process research and development for
the six months ended January 31, 2009, $3.3 million related to our RF microwave
amplifiers segment and $2.9 million related to our telecommunications
transmission segment. Such amounts are included in each respective segment’s
operating income results.
Amortization of
Intangibles.
Amortization relating to intangible assets with finite lives
was $3.5 million and $3.6 million for the six months ended January 31, 2010 and
2009, respectively.
Operating Income.
Operating income for the six months ended January 31, 2010 and 2009 was
$42.3 million and $55.1 million, respectively. As further discussed below, the
decrease is primarily attributable to operating income declines in both our
telecommunications transmission and mobile data communications segments. These
declines were partially offset by an increase in operating income in our RF
microwave amplifiers segment as well as lower unallocated operating expenses.
Operating income during the six months ended January 31, 2009 reflects a $6.2
million charge for acquired in-process research and development projects
associated with our Radyne acquisition.
Operating
income in our telecommunications transmission segment was $22.0 million for the
six months ended January 31, 2010 as compared to $36.4 million for the six
months ended January 31, 2009. The decrease in operating income is primarily due
to this segment’s decline in net sales and gross margins which were partially
offset by cost reduction activities, as discussed above. Operating income for
the six months ended January 31, 2009 includes the impact of $2.9 million of
immediate amortization of acquired in-process research and development projects
associated with our Radyne acquisition.
Our
mobile data communications segment generated operating income of $25.0 million
for the six months ended January 31, 2010 as compared to $28.7 million for the
six months ended January 31, 2009. Despite the increase in net sales in our
mobile data communications segment during the six months ended January 31, 2010
as compared to the six months ended January 31, 2009, operating income declined
due to the significant reduction in gross profit percentage associated with the
shipment of orders that were in our backlog for new MTS third-party produced
ruggedized computers and related accessories or new MTS systems, as discussed
above.
Our RF
microwave amplifiers segment generated operating income of $5.4 million for the
six months ended January 31, 2010 as compared to $3.6 million for the six months
ended January 31, 2009. Despite the decrease in net sales during the six months
ended January 31, 2010 as compared to the six months ended January 31, 2009,
operating income increased due to the increase in gross profit percentage, as
discussed above. Operating income for the six months ended January 31, 2009
includes amortization of $3.3 million of acquired in-process research and
development projects associated with our Radyne acquisition.
Unallocated
operating expenses decreased to $10.1 million for the six months ended January
31, 2010 as compared to $13.6 million for the six months ended January 31, 2009
primarily due to (i) lower cash-based incentive compensation due to overall
lower operating income, (ii) lower professional fees (primarily related to the
legal matters discussed in
“Notes to Condensed Consolidated
Financial Statements - Note (19) Legal Matters and Proceedings”
) and,
(iii) lower amortization of stock-based compensation. Amortization of
stock-based compensation expense, which is included in unallocated operating
expenses, amounted to $3.4 million in the six months ended January 31, 2010 as
compared to $4.7 million in the six months ended January 31, 2009.
Interest
Expense.
Interest expense was $3.9 million and $3.7 million
for the six months ended January 31, 2010 and 2009, respectively. The increase
in interest expense during the six months ended January 31, 2010 as compared to
the six months ended January 31, 2009 is primarily due to incremental interest
expense associated with the issuance of $200.0 million of our 3.0% convertible
senior notes. Our interest expense during the six months ended January 31, 2009
reflects a retroactive adjustment to record implied interest expense at 7.5%
related to our 2.0% convertible senior notes. Our 2.0% convertible senior notes
were fully converted into common shares during the third quarter of our fiscal
2009.
38
Interest Income
and Other.
Interest income and other for the six months ended
January 31, 2010 was $0.4 million, as compared to $1.9 million for the six
months ended January 31, 2009. The decrease of $1.5 million is primarily
attributable to a significant decline in period-over-period interest
rates.
All of
our available cash and cash equivalents are currently invested in commercial and
government money market mutual funds, certificates of deposit, short-term U.S.
Treasury obligations and bank deposits, and currently yield a blended annual
interest rate of approximately 0.16%.
Provision for
Income Taxes.
The provision for income taxes was $13.5 million
and $19.5 million for the six months ended January 31, 2010 and 2009,
respectively. Our effective tax rate was 34.7% for the six months ended January
31, 2010 compared to 36.7% for the six months ended January 31, 2009. Our
effective tax rate for the six months ended January 31, 2009 has been
retroactively adjusted and presented to reflect lower income taxes due to the
increase in implied interest expense related to our 2.0% convertible senior
notes.
Our
effective tax rate for the six months ended January 31, 2009 was significantly
impacted by the fact that we recorded an amortization charge of $6.2 million for
acquired in-process research and development, which was non-deductible for
income tax purposes. In addition, we recorded discrete tax benefits of $0.9
million which primarily relate to the passage of legislation that included the
retroactive extension of the expiration of the federal research and
experimentation credit from December 31, 2007 to December 31, 2009. Our
effective tax rate for the six months ended January 31, 2010 reflects net
discrete tax benefits of approximately $0.5 million, primarily relating to the
reversal of tax contingencies no longer required due to the expiration of
applicable statutes of limitation.
Excluding
the aforementioned non-deductible acquired in-process research and development
and discrete tax items in both periods, our effective tax rate for the six
months ended January 31, 2010 was approximately 36.0% as compared to 34.4% for
the six months ended January 31, 2009. The increase in our effective tax rate is
primarily attributable to the expiration of the federal research and
experimentation credit on December 31, 2009.
Excluding
the impact of discrete tax items, our fiscal 2010 effective tax rate is
expected to approximate 36.0%.
During
the six months ended January 31, 2010, similar to the agreements we reached with
the IRS for our federal income tax returns for fiscal 2004 and 2005, we reached
an agreement with the IRS relating to the allowable amount of federal research
and experimentation credits utilized and interest expense relating to our 2.0%
convertible senior notes for fiscal 2006. This agreement did not result in any
material change to our income tax provision for the six months ended January 31,
2010.
The IRS
continues to audit our federal income tax return for the fiscal year ended July
31, 2007 for which we believe they are focusing on the allowable amount of
federal research and experimentation credits utilized, interest expense relating
to our 2.0% convertible senior notes as well as the amount of our domestic
production activities deduction. The IRS is not currently examining any of the
federal income tax returns filed by Radyne Corporation for the tax years prior
to our August 1, 2008 acquisition of Radyne. Although adjustments relating to
the audits and related settlements of our fiscal 2004, 2005 and 2006 tax returns
were immaterial, a resulting tax assessment or settlement for fiscal 2007 or
other potential future periods could have a material adverse impact on our
consolidated results of operations and financial condition.
LIQUIDITY AND CAPITAL
RESOURCES
Our
unrestricted cash and cash equivalents increased to $514.2 million at January
31, 2010 from $485.5 million at July 31, 2009, representing an increase of $28.7
million. The increase in cash and cash equivalents during the six months ended
January 31, 2010 was primarily driven by the following:
|
·
|
Net
cash provided by operating activities of $28.0 million for the six months
ended January 31, 2010 as compared to $24.4 million for the six months
ended January 31, 2009. The net increase in cash provided by operating
activities was primarily attributable to a significant decrease in net
working capital requirements during the six months ended January 31, 2010
as compared to the six months ended January 31, 2009. Net cash expected to
be provided by operating activities for the remainder of the fiscal year
is currently difficult to predict and will be significantly impacted by
the timing of actual deliveries, collections and vendor payments relating
to our overall performance on our MTS contract with the U.S.
Army.
|
39
|
·
|
Net
cash used in investing activities for the six months ended January 31,
2010 and January 31, 2009 was $1.1 million and $213.2 million,
respectively. During the six months ended January 31, 2010, we
spent $3.0 million to purchase property, plant and equipment, including
expenditures relating to ongoing equipment upgrades, as well as
enhancements to our high-volume technology manufacturing center in Tempe,
Arizona and we received proceeds of $2.0 million from the sale of certain
assets and liabilities relating to our video encoder and decoder product
line. For the six months ended January 31, 2009, $205.2 million of cash
and cash equivalents (net of cash acquired) was used to purchase
Radyne.
|
|
·
|
Net
cash provided by financing activities was $1.9 million for the six months
ended January 31, 2010 as compared to $10.9 million for the six months
ended January 31, 2009, primarily due to substantially lower proceeds
related to stock option exercises.
|
Our
investment policy relating to our unrestricted cash and cash equivalents is
intended to minimize principal loss while at the same time maximize the income
we receive without significantly increasing risk. To minimize risk, we generally
invest our cash and cash equivalents in money market mutual funds (both
government and commercial), certificates of deposit, bank deposits, and U.S.
Treasury securities. Many of our money market mutual funds invest in direct
obligations of the U.S. government, bank securities guaranteed by the Federal
Deposit Insurance Corporation, certificates of deposits and commercial paper and
other securities issued by other companies. While we cannot predict future
market conditions or market liquidity, we believe our investment policies are
appropriate in the current environment. Ultimately, the availability of our cash
and cash equivalents is dependent on a well-functioning liquid
market.
As of
January 31, 2010, our material short-term cash requirements primarily consist of
working capital needs. Our material long-term cash requirements primarily
consist of the possible use of cash to repay our 3.0% convertible senior notes
and operating leases, including the present value of the net contractual
non-cancelable lease obligations and related costs (through October 31, 2018) of
$2.0 million related to Radyne’s former Phoenix, Arizona manufacturing and
engineering facility, which we have subleased to a third party through October
31, 2015.
We have
historically met both our short-term and long-term cash requirements with funds
provided by a combination of cash and cash equivalent balances, cash generated
from operating activities and cash generated from financing transactions. In
light of ongoing tight credit market conditions, we continue to receive requests
from our customers for higher credit limits and longer payment terms. Because of
our strong cash position and the nominal amount of interest we are earning on
our cash and cash equivalents, we have, on a limited basis, approved certain
customer requests. We continue to monitor our accounts receivable credit
portfolio and have not had any material negative customer credit experiences to
date. Based on our anticipated level of future sales and operating income, we
believe that our existing cash and cash equivalent balances and our cash
generated from operating activities will be sufficient to meet both our
currently anticipated short-term and long-term operating cash
requirements.
As of
January 31, 2010, we have approximately $514.2 million of cash and cash
equivalents. In fiscal 2010, we may redeploy a significant portion of our
existing cash and cash equivalents to acquire one or more businesses or
technologies.
Although
it is difficult in the current economic and credit environment to predict the
terms and conditions of financing that may be available in the future, should
our short-term or long-term cash requirements increase beyond our current
expectations, we believe that we would have sufficient access to credit from
financial institutions and/or financing from public and private debt and equity
markets.
As
discussed in “
Notes to
Condensed Consolidated Financial Statements – Note (19) Legal Matters and
Proceedings,”
we are incurring expenses associated with certain legal
proceedings and other matters. The outcome of these legal proceedings and other
matters is inherently difficult to predict and an adverse outcome in one or more
matters could have a material adverse effect on our consolidated financial
condition and results of operations in the period of such
determination.
FINANCING
ARRANGEMENTS
In May
2009, we issued $200.0 million of our 3.0% convertible senior notes in a private
offering pursuant to Rule 144A under the Securities Act of 1933, as amended. The
net proceeds from this transaction were approximately $194.5 million after
deducting the initial purchasers’ discount and transaction costs. For further
information, see
“Notes to
Condensed Consolidated Financial Statements – Note (13) Convertible Senior
Notes.”
40
In June
2009, we entered into a committed $100.0 million three-year, unsecured revolving
credit facility (“Credit Facility”) with a syndicate of bank lenders (see
“Notes to Condensed Consolidated
Financial Statements – Note (12) Credit Facility”).
At January 31, 2010,
we have approximately $2.2 million of standby letters of credit outstanding
under this Credit Facility relating to the guarantee of future performance on
certain customer contracts and less than $0.1 million of commercial letters of
credit outstanding for the payment of goods and supplies.
COMMITMENTS
Except as
disclosed in the below table, in the normal course of business, we routinely
enter into binding and non-binding purchase obligations primarily covering
anticipated purchases of inventory and equipment. We do not expect that these
commitments, as of January 31, 2010, will materially adversely affect our
liquidity.
At
January 31, 2010, we had contractual cash obligations relating to: (i) our
$281.5 million and $97.2 million MTS orders, (ii) our operating lease
commitments (including satellite lease expenditures relating to our mobile data
communications segment’s MTS and BFT contracts) and (iii) the potential cash
repayment of our 3.0% convertible senior notes. Payments due under these
long-term obligations, excluding interest on the 3.0% convertible senior notes,
are as follows:
|
Obligations
Due by Fiscal Years (in thousands)
|
||||||||||||||||||||
|
Total
|
Remainder
of
2010
|
2011
and
2012
|
2013
and
2014
|
After
2014
|
||||||||||||||||
|
MTS
purchase orders
|
$ | 210,631 | 210,631 | - | - | - | ||||||||||||||
|
Operating
lease commitments
|
37,056 | 10,729 | 11,445 | 4,882 | 10,000 | |||||||||||||||
|
3.0%
convertible senior notes
|
200,000 | - | - | - | 200,000 | |||||||||||||||
|
Total
contractual cash obligations
|
447,687 | 221,360 | 11,445 | 4,882 | 210,000 | |||||||||||||||
|
Less
contractual sublease payments
|
(7,117 | ) | (598 | ) | (2,416 | ) | (2,488 | ) | (1,615 | ) | ||||||||||
|
Net
contractual cash obligations
|
$ | 440,570 | 220,762 | 9,029 | 2,394 | 208,385 | ||||||||||||||
In
connection with our $281.5 million and $97.2 million of orders from the U.S.
Army, we were required to place multiple purchase orders for ruggedized
computers and related accessories with a third party. As is typical with U.S.
government contract awards, we believe that if the U.S. Army were to terminate
its contract with us for convenience, we should be able to cancel our
purchase orders with our vendor and/or recover any unreimbursed costs from the
U.S. Army.
In the
ordinary course of business, we include indemnification provisions in certain of
our customer contracts. Pursuant to these agreements, we have agreed to
indemnify, hold harmless and reimburse the indemnified party for losses suffered
or incurred by the indemnified party, including but not limited to losses
related to third-party intellectual property claims. To date, there have not
been any material costs or expenses incurred in connection with such
indemnification claims. Our insurance policies may not cover the cost of
defending indemnification claims or providing indemnification. As a result, if a
claim were asserted against us by any party that we have agreed to indemnify, we
could incur future legal costs and damages.
As
further discussed in
“Notes to
Condensed Consolidated Financial Statements – Note (13) Convertible Senior
Notes,”
on May 8, 2009, we issued $200.0 million of our 3.0% convertible
senior notes. Holders of the notes will have the right to require us to
repurchase some or all of the outstanding notes, solely for cash, on May 1,
2014, May 1, 2019 and May 1, 2024 and upon certain events, including a change in
control. If not earlier redeemed by us or repaid pursuant to the holders’ right
to require repurchase, the notes mature on May 1, 2029.
We have
approximately $2.2 million of standby letters of credit outstanding under our
Credit Facility related to the guarantee of future performance on certain
contracts and less than $0.1 million of commercial letters of credit outstanding
under our Credit Facility for the payment of goods and supplies.
41
In
connection with our August 2006 acquisition of certain assets and assumed
liabilities of Insite Consulting, Inc. (“Insite”), a logistics application
software company, we may be required to make certain earn-out payments based on
the achievement of future sales targets. The first part of the earn-out cannot
exceed $1.4 million and is limited to a five-year period ending August 2011. The
second part of the earn-out, which is for a ten-year period ending August 2016,
is unlimited and based on a per unit future sales target primarily related to
new commercial satellite-based mobile data communications markets. Through
January 31, 2010 we made aggregate payments of approximately $17,000, none of
which were paid during the six months ended January 31, 2010. If we are
successful in selling our MTS software 5.16 (which incorporates an application
developed by Insite) to the U.S. Army, it is possible that the first part of the
earn-out will be payable in full during fiscal 2010. In accordance with
accounting standards that were grandfathered by the FASB ASC (see additional
discussion below) we will record any earn-out payments we make as additional
purchase price which will result in an increase in goodwill. Such amounts are
not included in the above table.
We have
change of control agreements and indemnification agreements with certain of our
executive officers and certain key employees. All of these agreements may
require payments, in certain circumstances, including, but not limited to, an
event of a change in control of our Company. Such amounts are not included in
the above table.
RECENT ACCOUNTING
PRONOUNCEMENTS
As
further discussed in
“Notes to
Condensed Consolidated Financial Statements – Note (2) Impact of Adoption of New
Accounting Standards Codification and Adoption of New Accounting Standards,”
during the six months ended January 31, 2010, we adopted:
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·
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An
accounting standard now known as FASB ASC 820-10, “Fair Value Measurements
and Disclosures – Overall,” which clarifies (i) how to measure
the fair value of liabilities when a quoted price in an active market for
the identical liability is not available; (ii) that when estimating the
fair value of a liability, a reporting entity is not required to include a
separate input or adjustment to other inputs relating to the existence of
a restriction that prevents the transfer of the liability; and (iii) that
both a quoted price in an active market for the identical liability at the
measurement date and the quoted price for the identical liability when
traded as an asset in an active market when no adjustments to the quoted
price of the asset are required are Level 1 fair value
measurements.
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·
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The
FASB ASC which was issued in June 2009 and required that, except for
grandfathered accounting standards, historical references to original
accounting standards that were adopted or utilized by us in prior periods
must now reflect references that are contained in the FASB
ASC.
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·
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An
accounting standard now known as FASB ASC 470-20, “Debt - Debt With
Conversion and Other Options” relating to our 2.0% convertible senior
notes, which resulted in a retroactive adjustment to our historical
financial statements to separate the imputed liability and equity
components of our 2.0% convertible senior notes in our consolidated
balance sheet, on a fair value basis, and an adjustment to our interest
expense in our consolidated statement of operations to reflect our
non-convertible debt borrowing rate of
7.5%.
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·
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An
accounting standard now known as FASB ASC 805, “Business Combinations”
relating to acquisitions of businesses, which will impact business
combinations that we enter into in the future and will impact certain tax
contingencies relating to our historical
acquisitions.
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·
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An
accounting standard now known as FASB ASC 825, “Financial Instruments”
which requires disclosures of the fair value of financial instruments and
the method(s) and assumptions used to determine fair value for annual and
interim reporting periods of publicly traded
companies.
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The
adoption of these accounting standards did not have any material impact on our
consolidated statement of operations or financial position.
42
The FASB
ASC is subject to updates by FASB, which are known as Accounting Standards
Updates (“ASU”). The following are FASB ASUs which have been issued,
incorporated into the FASB ASC and not yet adopted by us:
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·
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FASB
ASU No. 2010-06, issued in January 2010, amends the disclosure
requirements of FASB ASC 820-10, “Fair Value Measurements and Disclosures
– Overall.” This FASB ASU requires, effective in our first quarter of
fiscal 2012, that in Level 3 fair value measurements reconciliations,
information about purchases, sales, issuances and settlements should be
presented separately on a gross basis. In addition, the FASB ASU,
effective in our third quarter of fiscal 2010, requires that (i) the
amounts of significant transfers in and out of Level 1 and Level 2 fair
value measurements be disclosed separately along with the reasons for the
transfer; (ii) a reporting entity should provide fair value measurement
disclosures for each class of assets and liabilities; and (iii) a
reporting entity should provide disclosures about the valuation techniques
and inputs used to measure fair value for both recurring and nonrecurring
Level 2 and Level 3 fair value measurements. We value our money market
mutual funds and certificates of deposit using Level 1 inputs. Because we
currently do not have any liabilities outstanding which must be remeasured
at fair value, we do not believe this FASB ASU will have any impact on our
consolidated financial statements.
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·
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FASB
ASU No. 2009-14, issued in October 2009, amends FASB ASC 985 “Software”
and, unless adopted early by us as permitted, is effective prospectively
for our annual reporting period beginning August 1, 2010 (our fiscal
2011). As a result of this FASB ASU, tangible products
containing both software and non-software components that function
together to deliver the tangible product’s essential functionality are no
longer within the scope of the software revenue guidance in FASB ASC
985-605. This FASB ASU also requires that hardware components
of a tangible product containing software components always be excluded
from the software revenue guidance. We are currently evaluating
the impact that this FASB ASU will have on our consolidated financial
statements.
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·
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FASB
ASU No. 2009-13, issued in October 2009, is an update of FASB ASC 605-25
“Revenue Recognition - Multiple-Element Arrangements” and, unless adopted
early by us as permitted, is effective prospectively for our annual
reporting period beginning August 1, 2010 (our fiscal 2011). In addition
to establishing a hierarchy for determining the selling price of a
deliverable, this FASB ASU eliminates the residual method of allocation of
arrangement consideration and instead requires use of the relative selling
price method. We are currently evaluating the impact that this FASB ASU
will have on our consolidated financial
statements.
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Our
earnings and cash flows are subject to fluctuations due to changes in interest
rates, primarily from our investment of available cash balances. Under our
current policies, we do not use interest rate derivative instruments to manage
exposure to interest rate changes. As of January 31, 2010, we had cash and cash
equivalents of $514.2 million, which consisted of cash and highly-liquid money
market mutual funds, bank deposits and U.S. Treasury securities. Many of these
investments are subject to fluctuations in interest rates, which could impact
our results. Based on our investment portfolio balance as of January 31, 2010, a
hypothetical change in interest rates of 10% would have a nominal impact on
interest income over a one-year period. Ultimately, the availability of our cash
and cash equivalents is dependent on a well-functioning liquid
market.
Our 3.0%
convertible senior notes bear a fixed rate of interest. As such, our earnings
and cash flows are not sensitive to changes in interest rates on our long-term
debt. As of January 31, 2010, we estimate the fair market value on our 3.0%
convertible senior notes to be $231.0 million based on recent trading
activity.
43
Evaluation
of Disclosure Controls and Procedures
As of the
end of the period covered by this Quarterly Report on Form 10-Q, an evaluation
of the effectiveness of the design and operation of our disclosure controls and
procedures was carried out under our supervision and with the participation of
our management, including our Chief Executive Officer and Chief Financial
Officer. Based on that evaluation, our Chief Executive Officer and Chief
Financial Officer concluded that our disclosure controls and procedures were
effective as of the end of the period covered by the report to provide
reasonable assurance that the information required to be disclosed by us in
reports filed under the Securities Exchange Act of 1934, as amended, is
recorded, processed, summarized and reported within the time periods specified
in the SEC’s rules and forms. A system of controls, no matter how well designed
and operated, cannot provide absolute assurance that the objectives of the
system of controls are met, and no evaluation of controls can provide absolute
assurance that all control issues and instances of fraud, if any, within a
company have been detected.
There
have been no changes in our internal controls over financial reporting during
the most recent fiscal quarter that have materially affected, or are reasonably
likely to materially affect, our internal controls over financial
reporting.
The
certifications of our Chief Executive Officer and Chief Financial Officer, that
are Exhibits 31.1 and 31.2, respectively, should be read in conjunction with the
foregoing information for a more complete understanding of the references in
those Exhibits to disclosure controls and procedures and internal control over
financial reporting.
44
See
“Notes to Condensed Consolidated
Financial Statements – Note (19) Legal Matters and Proceedings,”
in Part
I, Item 1. of this Form 10-Q for information regarding legal
proceedings.
There
have been no material changes from the risk factors previously disclosed in our
Form 10-K for the fiscal year ended July 31, 2009, except as
follows:
There
are number of unique risks associated with our Movement Tracking System orders
from the U.S. Army.
We
currently have approximately $358.7 million of backlog related to our mobile
data communications segment of which the substantial majority relates to MTS
orders for the sale of new ruggedized computers and certain related accessories
to be supplied to the U.S. Army which are manufactured by a third-party
supplier. These ruggedized computers are intended to replace older ruggedized
computers which are currently deployed as part of our MTS system. As part of our
ongoing mobile data communications business, we maintain substantial inventory
in order to provide products to the U.S. Army on a timely basis. As such,
included in inventories as of January 31, 2010, is approximately $5.1 million of
older ruggedized computers and related components that have been or can be
included in MTS systems that we sell to the U.S. Army. Accordingly, we expect
demand for these older ruggedized computers and related components to
decline.
We
continue to actively market these ruggedized computers and related components to
the U.S. Army who, during the three months ended January 31, 2010, confirmed
their interest in purchasing some or all of these older ruggedized computers and
related components. We expect that we will ultimately sell these computers and
related components for more than their current net book value based on a variety
of factors. These factors include our belief that there may be additional
deployments of MTS systems using these computers, our recent inclusion of these
computers in our Quick Deploy Satellite System (known as “QDSS”) configurations
and that we intend to continue to actively market them to potential customers
including the Army National Guard and NATO. In the future, if we determine that
this inventory will not be utilized or cannot be sold for more than its current
net book value, we would be required to record a write-down of the value of such
inventory in our consolidated financial statements at the time of such
determination. Any such charge could be material to our consolidated results of
operations in the period we make such determination.
During
the first half of our fiscal 2010, we recorded significant revenue relating to
the shipment of new MTS ruggedized computers and certain related accessories.
Our third-party supplier continues to experience production and technical issues
and we have experienced shipping and related deployment delays to the U.S. Army.
These issues have not been been fully resolved and we are uncertain as to
whether or not our third-party supplier will take appropriate steps to meet our
expected delivery timetable for the remainder of fiscal 2010. There is a
possibility that we could experience further shipping delays or that deployment
schedules could change. If one or more of these events occur, revenue and
operating income that we are currently expecting in our fiscal 2010 could shift
to fiscal 2011.
Our MTS
backlog (including the MTS ruggedized computers) is subject to the terms and
conditions of our MTS contract which contains termination for convenience
clauses and termination for default clauses that provide the U.S. Army with the
right to terminate the order at any time. Historically, we have not experienced
material terminations of our government orders; however, we understand that a
third party that produces a different ruggedized computer has initiated actions
which have resulted in a government review. This review could ultimately lead to
a decision by the U.S. Army to delay or cancel MTS orders which are currently in
our backlog. If orders are delayed or canceled, it would have a material adverse
impact on our business outlook.
45
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(a)
|
Exhibits
|
…
Certain portions of this agreement have been omitted and filed separately with
the Securities and Exchange Commission pursuant to a request for confidential
treatment.
46
Pursuant
to the requirements of the Securities Exchange Act of 1934, the Registrant has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized.
COMTECH TELECOMMUNICATIONS
CORP.
(Registrant)
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Date: March
3, 2010
|
By:
/s/ Fred
Kornberg
|
|||||
|
Fred
Kornberg
|
||||||
|
Chairman
of the Board
|
||||||
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Chief
Executive Officer and President
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||||||
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(Principal
Executive Officer)
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||||||
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Date: March
3, 2010
|
By:
/s/ Michael D.
Porcelain
|
|||||
|
Michael
D. Porcelain
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||||||
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Senior
Vice President and
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||||||
|
Chief
Financial Officer
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||||||
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(Principal
Financial and Accounting Officer)
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||||||
47
TABLE OF CONTENTS
Part IItem 1. January 31, 2010 July 31, 2009Item 2. Management S Discussion and Analysis Of Financial Condition and Results Of OperationsItem 2. Management S Discussion and Analysis Of Financial ConditionItem 3. Quantitative and Qualitative Disclosures About Market RiskItem 4. Controls and ProceduresPart IIItem 1. Legal ProceedingsItem 1A. Risk FactorsItem 6. Exhibits