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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ý | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | |
For the fiscal year ended September 30, | ||
OR | ||
o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | |
For the transition period from to . |
Commission File No. 0-31157
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
(Exact name of registrant as specified in its charter)
Pennsylvania (State or other jurisdiction of incorporation) | 23-2507402 (IRS Employer Identification No.) | |
720 Pennsylvania Drive, Exton, Pennsylvania (Address of principal executive offices) | 19341 (Zip Code) |
(610) 646-9800
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class: | Name of each exchange on which registered | |
---|---|---|
Common Stock par value $.001 per share | The NASDAQ Stock Market, LLC |
Securities registered pursuant to Section 12(g) of the Act:None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes o No ý
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act Yes o No ý
Note: Checking the box above will not relieve any registrant required to file reports pursuant to Section 13 or section 15(d) of the Exchange Act from their obligations under those sections.
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No o
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 oý No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter)229.405) is not contained herein, and will not be contained, to the best of the registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ý
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," "non-accelerated filer," and "smaller reporting company," in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer o | Accelerated filer | Non-accelerated filer o | Smaller Reporting Company |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yeso Noý
The aggregate market value of the Registrant's common stock held by non-affiliates of the Registrant as of March 31, 20092012 (the last business day of the registrant's most recently completed second quarter) was approximately $53.7$45.4 million. Shares of common stock held by each executive officer and director and by each person who owns 10% or more of ourthe Registrant's outstanding common stock have been excluded since such persons may be deemed affiliates. This determination of affiliate status is not necessarily a conclusive determination for other purposes.
As of December 04, 2009,November 30, 2012, there were 16,745,37916,583,037 outstanding shares of the Registrant's Common Stock
Documents Incorporated by Reference
Portions of the Registrant's Proxy Statement for the 20102012 Annual Meeting of Shareholders to be filed prior to January 28, 201025, 2013 are incorporated by reference into Part III of this Report. Such Proxy Statement, except for the parts therein which have been specifically incorporated by reference, shall not be deemed "filed" for the purposes of this Report on Form 10-K.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
2009
2012 Annual Report on Form 10-K
Table of Contents
| | Page | ||
---|---|---|---|---|
Part I | ||||
Item 1. | Business | |||
Item 1A. | Risk Factors | |||
Item 1B. | Unresolved Staff Comments | |||
Item 2. | Properties | |||
Item 3. | Legal Proceedings | |||
Item 4. |
| |||
Part II | ||||
Item 5. | Market for the Registrant's Common Equity, Related Stockholder Matters and Issuer Repurchases of Equity Securities | |||
Item 6. | Selected Consolidated Financial Data | |||
Item 7. | Management's Discussion and Analysis of Financial Condition and Results of Operations | |||
Item 7A. | Quantitative and Qualitative Disclosures About Market Risk | |||
Item 8. | Financial Statements and Supplementary Data | |||
Item 9. | Changes in and Disagreements with Accountants on Accounting and Financial Disclosure | |||
Item 9A. | Controls and Procedures | |||
Part III | ||||
Item 10. | Directors, Executive Officers and Corporate Governance | |||
Item 11. | Executive Compensation | |||
Item 12. | Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters | |||
Item 13. | Certain Relationships and Related Transactions and Director Independence | |||
Item 14. | Principal Accounting Fees and Services | |||
Part IV | ||||
Item 15. | Exhibits, Financial Statement Schedules |
This report contains forward looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934. We have based these1934, as amended (the "Exchange Act"). These forward looking statements are based largely on our current expectations and projections about future events and trends affecting our business.the business, are not guarantees of future performance and involve a number of risks, uncertainties and assumptions that are difficult to predict. In this report, the words "believe,"anticipates," "believes," "may," "will," "estimate,"estimates," "continue,"continues," "anticipate,"anticipates," "intend,"intends," "forecast,"forecasts," "expect,"expects," "plan,"plans," "could," "should," "is"would,""is likely" and similar expressions, as they relate to ourthe business or ourto its management, are intended to identify forward looking statements, but they are not exclusive means of identifying them. Unless the context otherwise requires, all references herein to "IS&S," "the Registrant," "the Company," "we," "us" or "our" are to Innovative Solutions and Support, Inc. and its consolidated subsidiaries.
The forward looking statements in this report are only predictions and actual events or results may differ materially. In evaluating such statements, a number of risks, uncertainties and other factors could cause our actual results, performance, financial condition, cash flows, prospects and opportunities to differ materially from those expressed in, or implied by, the forward-lookingforward looking statements. These risks, uncertainties and other factors include those set forth in Item 1A (Risk Factors) of this Annual Report on Form 10-K and the following factors:
Except as expressly required by the federal securities laws, we undertakethe Company undertakes no obligation to publicly update or revise any forward looking statements, whether as a result of new information, future events or otherwise after the date of this report. Our resultsResults of operations in any past period should not be considered indicative of the results to be expected for future periods. Fluctuations in operating results may also result in fluctuations in the price of ourthe Company's common stock.
Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this Form 10-K. The Company does not undertake any obligation to publicly release any revisions to these forward-looking statements to reflect events, circumstances or changes in expectations after the date of this Form 10-K, or to reflect the occurrence of unanticipated events. The forward-looking statements in this document are intended to be subject to the safe harbor protection provided by Sections 27A of the Securities Act of 1933, as amended (the "Securities Act") and 21E of the Exchange Act.
Investors should also be aware that while we do,the Company, from time to time, communicatecommunicates with securities analysts, it is against ourits policy to disclose any material non-public information or other confidential commercial information. Accordingly, shareholders should not assume that we agreethe Company agrees with any statement or report issued by any analyst irrespective of the content of the statement or report. Furthermore, we havethe Company has a policy against issuing or confirming financial forecasts or projections issued by others. Thus, to the extent that reports issued by securities analysts contain any projections, forecasts or opinions, such reports arenot the responsibility of Innovative Solutions and Support, Inc.
Overview
Innovative Solutions and Support, Inc. (the "Company," or "IS&S" or "we") was founded in 1988. The Company is a systems integrator that designs, manufactures and sells Flat Panel Display Systems, Flight Information Computersflight guidance and advanced monitoringcockpit display systems to the Department of Defense (DoD), government agencies, defense contractors, commercial air transport carriers,for original equipment manufacturers (OEMs),("OEMs") and corporate/general aviation markets.retrofit applications. The Company supplies integrated Flight Management Systems ("FMS") and advanced Global Positioning System ("GPS") receivers for precision reduced carbon footprint navigation.
Increasingly, the Company is increasingly positioning itself as a system integrator; thisintegrator, which capability provides the Company with the potential to generate more substantive orders over a broader product base. The Company has demonstrated an ability to incorporate added electronic flight bag functionality such as electronic flight bags, charting and mapping systems into its Flat Panel Display SystemSystems ("FPDS") product line. OurThe strategy, as both a manufacturer and integrator, is to leverage the latest technologies developed for the personal computer and telecommunications industries into advanced and cost-effective solutions for both the general aviation, industrycommercial, the United States Department of Defense ("DoD")/governmental and DoD. We believe thisforeign military markets. This approach, combined with ourthe Company's industry experience, enables usIS&S to develop high-quality products and systems, reduce substantially reduce product time to market and achieve cost advantages over products offered by ourits competitors.
For several years the Company has been working with advances in technology to provide pilots increasing amounts ofwith more information thatto enhance both the safety and efficiency of flying. These advances have come together in the Company'sflying, and has developed its COCKPIT/IP™ (CockpitIP® Cockpit Information Portal or CIP) or("CIP") product line, referred to as Flat Panel Display System product line("FPDS"), that incorporates proprietary technology, low cost, reduced power consumption, decreased weight, and diverseincreased functionality. The Company's Flat Panel Display SystemCompany believes the FPDS product line is suited to address market demand that we believe will be driven by regulatory mandates, new technologies, and agingthe high cost of maintaining aging/obsolete equipment on airplanes that have been in service for up to fifty years. We believeIS&S believes that the transition to Flat Panel Display SystemsFPDS as part of airplane retrofit requirements is underway. Thiswill continue. The shift in regulatory and technological environment is illustrated by the dramatic increase in the number of Wide Area Augmentation System (WAAS)("WAAS") approach qualified airports. Aircraft equipped with our Flat Panel Display Systemthe Company's FMS and FPDS product line (equipped with a WAAS enabled navigator) will be qualified to land at such airports and comply with upcoming Federal Aviation Administration ("FAA") mandates for Required Navigation Performance ("RNP"), and Automatic Dependent Surveillance-Broadcast ("ADS-B") navigation, a fact which we believeIS&S believes will further increase the demand for ourthe Company's products.
In fiscal 2009, IS&S announced it began delivering a new productsells to both the U.S. military; high resolution, 20 inch diagonal displays. These displaysretrofit market and OEMs. Customers include the DoD and its commercial contractors, aircraft operators, aircraft modification centers, foreign militaries, and various OEMs. Occasionally, IS&S sells its products directly to DoD; however, the Company sells its products primarily to commercial customers for end use in DoD programs. Sales to defense contractors are used in the rearmade on commercial terms, although some of the aircraft by tactical mission officers. The Company also initiated shipmentstermination and other provisions of government contracts are applicable to these contracts.
In October 2012 Eclipse Aerospace, Inc. placed a production order with IS&S for an initial fifty ship sets of a three hundred ship set contract for the Flat Panel Display System being marketed by CessnaIS&S advanced avionics suite for the production model Eclipse 550. IS&S is the supplier of Primary Flight and Multi-Function Displays as well as the "AdViz" cockpit upgrade solution for legacy Citation 500/501, 550/551, S550 and 560 aircraft. "AdViz" provides access to navigational aids such as XM Weather, navigation charts, remote radio tuning, and enhanced video all while improving reliability and reducing weight. IS&S received an amended Supplement Type Certificate (STC) on the PC-12 Flat Panel DisplayIntegrated Flight Management System ("IFMS") for the WAAS program with LateralEclipse Jet. The advanced avionics suite will include Dual Flight Management systems, Auto Throttles, Synthetic Vision, integrated Terrain Awareness System ("TAWS") and Vertical Precision Performance with a fully coupled auto-pilot. The company also received a Supplemental Type Certificate (STC) for RVSM Compliance of its PC-12 Flat Panel DisplayEnhanced Vision System in fiscal 2009.
In fiscal 2008 IS&S announced an addition to its Cockpit/IP™ product line: the IS&S Vantage COCKPIT/IP™, an open architecture flat panel display system capable of interfacing with most third party avionics. The Vantage system can be retrofitted into a variety of airframes. The Company launched a Wide Area Augmentation System (WAAS) program with Lateral and Vertical Precision Performance with a fully coupled auto-pilot for its PC-12 Flat Panel Display System. WAAS capability allows PC-12 operators to fly precision approaches at smaller airports. This capability is also available on other aircraft platforms. IS&S received amended Supplemental Type Certificates (STC) for the Boeing 757/767 platform from the Federal Aviation Administration (FAA) adding increased functionality to the Cockpit/IP Flat Panel Display System. The Company increased the volume of work it is conducting for Homeland Security's Pilatus PC-12 and Lockheed Martin C-130 fleets.("EVS").
In August 2012, the FAA issued its Supplemental Type Certificate ("STC") to IS&S for its FPDS for use on Classic B-737 aircraft. This certification enables IS&S to expand its marketing of its FPDS to owners of B737 in the United States.
In October 2011, Eclipse Aerospace Inc. selected IS&S to design and develop the advanced avionics suite for the production model Eclipse 550.
Our In July 2011, the National Nuclear Security Administration ("NNSA") awarded IS&S a contract for the complete Systems Integration and Cockpit Avionics upgrade of their B737-400 classic aircraft. Upon completion, this upgrade will provide NNSA full Communication Navigation Surveillance/Air Traffic Management ("CNS/ATM") capabilities and similar efficiency and performance to the B737 Next Generation ("NG") at the fraction of the cost of a new aircraft. This program complements the IS&S FPDS contracts for more than 400 B757/B767 aircraft with more than 160 aircraft already in revenue service. The upgrade for the B737-300/-400/-500 series aircraft and the existing B757/B767 FPDS are platforms for compliance with NextGen and Single European Sky ATM Research ("SESAR") requirements, is Controller Pilot Data Link Communication ("CPDLC"), RNP, ADS-B and in-Trail capable, provides power and weight savings, and reduces fuel consumption and CO2 emissions.
In June 2011, Boeing awarded IS&S a contract to design and develop the Aerial Refueling Operator Control and Display Units ("AROCDU") for the KC-46A Tanker Program.
In March 2011, IS&S announced it received FAA STC for its FMS and dual GPS receivers for the Eclipse Aerospace, Inc. ("EAI") Twin-Engine Jet. The IS&S FMS displays controls all major systems on the aircraft and includes improvements to e-Chart, mapping and satellite weather functionality and precision navigation. Eclipse Twin-Engine Jet operators are now able to upgrade their aircraft within Integrated Flight Management System through EAI.
In February 2011, the FAA issued its Technical Standard Order authorization ("TSO") to IS&S for its Beta-3 Global Positioning System ("GPS")—Satellite Based Augmentation System ("SBAS") Receiver. This certification enabled IS&S to expand its product offering to include a GPS in its FPDS. Additionally, the FAA also issued a TSO in March 2011 for the IS&S Class Gamma 3 FMS and a Type 2 FAA Letter of Acceptance ("LOA") that allows IS&S to provide navigation data. The combination of these certifications enables IS&S to be a flight management system provider to its customers.
In December 2010, the European Aviation Safety Agency ("EASA"), the European counterpart of the FAA issued its Supplemental Type Certificate ("STC") to IS&S for the B757 FPDS. Further, in August 2011, IS&S obtained an STC from EASA for its B767 FPDS. These certifications enable IS&S to expand its marketing of its B757 and B767 FPDS to customers in Europe.
Industry
A wide range of information including airspeed and altitude, is critical for proper and safe operation of aircraft. With advances in technology, new types of information to assist pilots are becoming available for display in cockpits, such as satellite based weather and ground terrain maps, are becoming available for display in cockpits. We believemaps. The Company believes that aircraft cockpits will increasingly become information centers, capable of delivering additional information that is either mandated by regulation or demanded by pilots to assist in the safe and efficient operation of aircraft.
There are three general types of flight data: aircraft heading and altitude information, flight critical aircraft control data, and navigation data. Aircraft heading and altitude information includes aircraft speed, altitude, and rates of ascent and descent. Flight critical aircraft control information includes engine data such as fuel and oil quantity, and other engine measurements. Navigation data includes radio position, flight management, Global Positioning System (GPS)GPS, and alternative source information; which is information not originating on the aircraft, including weather depiction maps, GPS navigation, and surface terrain maps. Air data calculations are based primarily on air pressure measurements derived from sensors on the
aircraft. Engine data are determined by measuring various indices such as temperature, volume, revolutions per minute (RPM)("RPM"), and pressure within an aircraft's engines and other mechanical equipment. AlternativeGPS and alternative source information isare derived typically derived from satellites or equipment located on land and fed by satellite or radio signals to the aircraft. Pilots can thenpresently display this information in the cockpit for reference and enhanced position awareness.
Traditionally, flight data and other cockpit information were displayed on a series of separate analog mechanical instruments. In the early 1980s, digital displays using Cathode Ray Tubes (CRT)("CRT") began to replace some individual analog instruments. ThePresently, the industry now offers high resolution color flat panels using active matrix liquid crystal displays (AMLCD)Active Matrix Liquid Crystal Displays ("AMLCD") to replace traditional analog instruments or CRT displays. We expectIS&S expects that the ability to display more information in a space efficient and customizedcustom platform will become increasingly important if additional information, such as weather depiction maps, traffic information, and surface terrain maps, becomebecomes mandated by regulation or demanded by pilots. Accordingly, we believethe Company believes flat panel displays, which can integrate and display a "suite" of information, will increasingly replace individual instruments and CRTs as the method for delivering and orderingdisplaying information displayed in cockpits.
EquipmentIn the past, equipment data, such as engine and fuel related information, were traditionally displayed on conventional analog mechanical instruments. Engine and fuel instruments provide information on engine activity, including oil and hydraulic pressures, and temperature. These instruments are clustered throughout an aircraft's cockpit. Engine and fuel instruments tend to be replaced more frequently than other instruments due to increased obsolescence problems and normal wear-and-tear. AsInasmuch as information displayed by this instrumentationthese instruments is vital for safe and efficient flight, aircraft operators continue to purchase individual conventional engine and fuel instruments to replace older or non-functioning instruments.as replacements. Increasingly, operators are beginning to replacereplacing their individual instrument clusters of analog mechanical instruments with integrated Flat Panel Display Systems.FPDS.
As the skies and airports are becomingbecome more crowded, the aviation industry and its regulators are concentrating on new technologies, procedures, and regulations that allow more aircraft to operate in the skies and on the ground safely, efficiently and with less impact on the environment. These new technologies and procedures, such as traffic avoidance, ground awareness, increased precision of navigation and vertical position, runway incursion prevention, and increased digital communication, will require innovation and intuitive methods to display situational awareness information for the pilots. The Company believes that flat panel displays areprovide the best methodsolution to handle these and future requirements.
Strategy
OurThe Company's objective is to become a leading supplier and integrator of cockpit information. We believe ourinformation, and believes that its industry experience and reputation, our technology and products, and our business strategy provide athe basis to achieve this objective. Key elements of ourthe Company's strategy include:
Company's patented and proprietary Integrity Checking Processor and Zooming features provide increased situational awareness, reliability, performance, and utility to the owner/operator. Accordingly, we believethe Company believes that these advantages will allow usIS&S to generate significant revenues from ourthe COCKPIT/IP™IP® product, and increase market share. DemandIn addition, demand for new aircraft, FAA mandates to upgrade older aircraft and obsolescence issues on older aircraft will fuelcontribute to this growth.
Products
Our currentCurrent line of products includes:
Flat Panel Display Systems
In recent years color flat panel displays have been introduced into aircraft cockpits. Flat panel displays are Liquid Crystal Display (LCD)("LCD") screens that can replicate the display of one or a suite of analog or digital displays on one screen. LikeAs with other instrumentation, flat panel displays can be installed in new aircraft or used to replace existing displays in aircraft already in use.legacy aircraft. LCDs are also used for security monitoring on-board aircraft and as tactical workstations on military aircraft. The flat panel product line also presents numerous advantages for presentation of engine performance data. During fiscal 2009, 20082012, 2011 and 2007 we derived 75%2010 revenues related to FPDS accounted for 87%, 77%79% and 53%68%, respectively, of our total revenues from sales of Flat Panel Display Systems.sales.
We developed a Flat Panel Display System thatThe Company's FPDS can replace conventional analog and digital displays used currently used in a cockpit and can display additional information thatwhich is not now commonly displayed in the cockpit. Ourcockpit with conventional analog and digital displays. The COCKPIT/IP™IP® is capable of displaying nearly all types of air data, engine and fuel data, altitude, heading and navigational data, and alternative source information. As technology and information delivery systems develop further, develop, additional information will be displayed in the cockpit, such as surface terrain maps and data link messaging, will be displayed inmessaging. IS&S designed the cockpit. We designed our COCKPIT/IP™IP® to be capable of displaying information generated from a variety of sources, including ourits Reduced Vertical Separation Minimum (RVSM)("RVSM") air data system, engine and fuel instrumentation, and third-party data and information products.
The Company's new Integrated Multifunction Standby Unit ("IMSU") can be installed in a variety of fixed wing aircraft and helicopters. The IMSU measures, processes, and displays altitude, attitude, airspeed, slip/skid, and navigation display information into an intuitive and concise single instrument display. The IMSU incorporates an integral Inertial Measurement Unit ("IMU") and includes an air data module to measure static and total pressure for independent display of altitude, airspeed, and Mach number. The unit also has an optional battery module that provides one hour of operation of the unit during emergency conditions or complete electrical system failures.
From time to time, customers may order one or more flat panel display systemsFPDSs customized to their particular requirements. Depending on the amount of non-recurring engineering effort needed to accommodate the customized request,Typically, the Company has and will continue to charge a feecharges for added development cost. This will result insource of revenue to the Company that is characterized as Engineering- modification and developmentEMD on the income statement.statement of operations. Consistent with this approach, engineering costcosts incurred in the performance of customizing the flat panel display system will be allocated from Operating expenses (Research and development) to Cost of Sales (Engineering—modification and development) and will beFPDSs are included in the Company's gross profit calculations.cost of sales (Engineering—Modification and Development).
Air Data Systems and Components
OurThe Company's air data products calculate and display various measures such as aircraft speed, altitude, and rate of ascent and descent. The functionality of ourThese air data systems useproducts utilize advanced sensors to gather air pressure data and use customized algorithms to interpret data, thus allowing the system to calculate altitude more accurately calculate altitude.accurately. During fiscal 2009, 2008,2012, 2011, and 2007 we derived 25%, 23%, and 47%, respectively, of our total revenues from2010, sales of air data systems and related products.components accounted for 13%, 21%, and 32%, respectively, of total revenues.
We sellIS&S sells individual components as well as partial and complete air data systems. OurThe components and systems include:
We develop, manufactureIS&S develops, manufactures and marketmarkets engine and fuel displays. OurThese solid-state multifunction displays convey information with respect to fuel and oil levels, and engine activity, such as oil and hydraulic pressure and temperature. This instrumentation includes individual and multiple displays clusteredinstalled throughout an aircraft'sthe cockpit. OurThe displays can be used in conjunction with our ownthe Company's engine and fuel data equipment or that of other manufacturers.
Engine and fuel displays are found in all aircraft and are vital to safe and proper aircraft flight. In addition, accurate conveyance of engine and fuel information is critical for the monitoring of engine stress and the maintenance of engine parts. Engine and fuel displays tend to be replaced more frequently than other displays, and have remained largely unchanged since their introduction due to their low cost, standard design and universal use.
We believe ourIS&S believes that its air data engine and fuel displays are extremely reliable, and we have been designed them to be programmable to adaptand adaptable easily without major modification to most modern aircraft. OurThese products have been installed on C-130H, DC-9, DC-10, P-3, F-16, and A-10 aircraft.
Customers
OurThe Company's customers include the United States government (including DoD, DOI and the Department of Homeland Security), ABX Air, American Airlines, The Boeing Company, BombardierBAE Systems, Eclipse Aerospace, Cessna Aircraft Corporation,Inc., Federal Express Corporation ("FedEx"), Icelandair, L-3 Communication,Communications, Lockheed Martin Corporation, Raytheon, Rockwell Collins, Marshalls of Cambridge, United Kingdom, and the Department of National Defense Canada.(Canada), among others. In fiscal 2012, the three largest customers, Eclipse Aerospace, FedEx and National Nuclear Security Administration, accounted for 20%, 14% and 13% of total revenue, respectively. In fiscal year 2011, the two largest customers, Eclipse Aerospace, Inc. and FedEx, accounted for 20% and 15% of total revenue, respectively. In fiscal year 2010 the two largest customers, Lockheed Martin and FedEx, accounted for 11% and 10% of total revenue, respectively.
On November 29, 2011, AMR Corporation, the parent company of American Airlines, Inc. ("AAI") and certain of its other U.S. based subsidiaries filed voluntary petitions for Chapter 11 reorganization in the U.S. Bankruptcy Court for the Southern District of New York (the "Bankruptcy"). The Company's revenues from American Airlines, Inc. accounted for 5%, 8% and 8% of total revenue for the fiscal years 2012, 2011 and 2010, respectively. As at September 30, 2012, orders from American Airlines, Inc. account for a material portion of the Company's backlog. AAI continued to purchase products from the Company in the ordinary course of business after November 29, 2011. (See Note 13—Commitments and Contingencies in Notes to Consolidated Financial Statements attached).
Retrofit Market
Historically, a majority of ourthe Company's sales have come from the retrofit market. Among other reasons, we haveIS&S has pursued the retrofit market specifically because of its continued rapid growth in response to the increasing need to support the world's aging fleet of aircraft. In fiscal 2009 our two largest customers, American Airlines and DoD, accounted for 24% and 11% of our total revenue, respectively. In fiscal year 2008 our two largest customers, Eclipse and FedEx, accounted for 42% and 10% of our total revenue, respectively. In fiscal year 2007 our three largest customers, DoD, Eclipse and Western Aircraft, accounted for 20%, 16% and 10% of our total revenue, respectively.
Updating an individual aircraft's existing electronics equipment has become increasingly common as new technology makesobsoletes existing instrumentation outdated while an aircraft is still structurally and mechanically
sound. Retrofitting an aircraft is generally a substantially less expensive alternative tothan purchasing a new aircraft. We expect ourIS&S expects its main customers in the retrofit market to be:
Department of Defense and Defense Contractors. We sell ourThe Company sells its products directly to the DoD as well asand to domestic and international defense contractors for end use on military aircraft retrofit programs. DoD programs generally take one of two forms,forms: a subcontract with a prime government contractor, such as Boeing, Lockheed Martin, or Rockwell Collins,L-3 Communications; or a direct contract with the appropriate government agency, such as the U.S. Air Force to satisfy its requirement for replacing Central Air Data
Computers on its fleet of A-10 aircraft.Force. The government's desire for a cost-effective retrofittingretrofit of aircraft has led it to purchase commercial off-the-shelf equipment rather than requiring development ofto develop specially designed products, which are usually more costly and take longer to develop.implement. These contracts tend to be on arms length commercial terms, although some termination and other provisions of government contracts described under "Government Regulation" below are typically applicable to these contracts.contracts, as described under "Government Regulation" below. Each government agency or general contractor retains the right to terminate a contract at any time at its convenience. Upon such alteration or termination, we typicallyIS&S generally would be entitled to an equitable adjustment to the contract price andso that it would receive the purchase price for already delivered items, and reimbursement for allowable costs incurred.
Aircraft Operators. WeThe Company also sell oursells its products to aircraft operators, including commercial airlines, cargo carriers, and business and general aviation. Ouraviation aircraft owners or suppliers. The products are used mostly in retrofitting aircraft owned or operated by these customers, which generally retrofit and maintain their aircraft themselves. OurThe Company's commercial fleet customers include or have included, among others, American Airlines, ABX Air, Air Canada, Federal ExpressFedEx, Icelandair and Northwest Airlines. We sellIS&S sells these customers a range of products from flat panel display systemsFPDS to air data systems.
Aircraft Modification Centers. The primary retrofit market for private and corporate jets is through aircraft modification centers, which repair and retrofit private aircraft in a manner similar to the way auto mechanics service a person's car. We haveaircraft. IS&S has established relationships with a number of aircraft modification centers throughout the United States. These modification centers essentially act as distribution outlets for ourthe Company's products. We believe our air data systems and related components are being promoted by aircraft modification centers to update older or outdated equipment. Our large modification center customers include Bombardier Learjet, Western Aircraft, Aeromech, Star Aviation, Duncan Aviation, and Raytheon Aircraft Services.
OEM Market
The Company has been selected to provide the cockpit avionics suite for the Eclipse Aerospace, Inc. ("Eclipse") new production aircraft designated the E550. Eclipse is the successor to Eclipse Aviation, Inc. ("Aviation") which declared bankruptcy in late 2008. In fiscallate 2010, Sikorsky Aircraft (a unit of United Technologies Corp.) announced its intention to invest in Eclipse. In October 2011, Eclipse announced the planned production in 2013 of the E550 aircraft and selected IS&S as the system integrator. During the years 2006 through late 2008, the Company suspended work onprovided cockpit displays in support of Aviation production of approximately 150 aircraft. Eclipse purchased the assets of Aviation in 2009. During the past three years, IS&S has been providing, through Eclipse, VLJ program. Eclipseenhanced capability through retrofits to numerous owners of the Aviation filed for Chapter 11 Bankruptcy on November 25, 2008.produced aircraft.
WeIS&S also market ourmarkets its products to other original equipment manufacturers, particularly manufacturers of corporateincluding Boeing and private jets as well as to contractors manufacturing military jets. Customers of our products have included Bombardier (the manufacturer of Learjet), Gulfstream, Boeing, Raytheon, Piaggio and Lockheed.Lockheed Martin.
Backlog
As of September 30, 20092012 and 2008, our2011, the Company's backlog was $34.1$19.7 million and $57.3$27.5 million, respectively. Backlog represents the value of contracts and purchase orders received, less the revenue recognized to date on those contracts and purchase orders. The year over year decrease of $23.2$7.8 million or 40.5%
was the result of $20.7booking $28.2 million in new business offset by $36.7$24.6 million of recognized revenue and $7.2order reductions of $11.4 million of Company initiated order de-bookings.primarily by American Airlines. Air Data product backlog as of September 30, 2009 decreased2012 increased by $6.3$0.4 million from September 30, 2008; while Flat Panel Display Systems2011, and FPDS backlog as of September 30, 20092012 decreased by $16.9$8.2 million from September 30, 2008.2011. The Company expects backlog to improve in the future because of potential future sole source production sales resulting from the present customer-funded EMD contracts. Although the Company believes that the orders included in backlog are firm, most of the backlog involves orders that can be modified or terminated by the customer. As of September 30, 2012, approximately 36% of the Company's backlog is not expected to be filled within fiscal 2013.
Engineering Development
The Company invests a large percentage of its sales on engineering development, both R&D and EMD. At September 30, 2012, approximately 50% of the Company's employees were engineers engaged in various engineering development projects. IS&S invests a large percentage of its sales in engineering development to allow its customers to benefit from the latest technological advancements. Total engineering development expense is comprised of both internally funded R&D and product development and design charges related to specific customer contracts. Engineering development expense consists primarily of payroll-related expenses of employees engaged in engineering development projects, engineering related product materials and equipment and subcontracting costs. R&D charges incurred for product design, product enhancements and future product development are expensed as incurred. Product development and design charges related to specific customer contracts are charged to cost of sales-engineering modification and development based on the method of contract accounting (either percentage of completion or completed contract) applicable to such contracts.
Sales and Marketing
We focus ourIS&S focuses its sales efforts on passenger and cargo carrying aircraft operators, general aviation operators, aircraft modification centers, the DoD, DoD contractors, and OEMs. We continually evaluate ourThe Company periodically evaluates its sales and marketing efforts with respect to these focus areas and, where appropriate, have mademakes use of third-party sales representatives who receive compensation through commissions based on performance.
We believe ourThe Company's ability to provide prompt and effective repair and upgrade service is critical to ourits marketing efforts. As part of ourThe customer service program we offeroffers a 24-hour hotline thatcustomer hotline. The Company services its customers
can call for product repair or upgrade concerns. We employ utilizing either field service engineers to service our equipmentor its in-house repair and depending on the service required, we may either dispatch a service crewupgrade facility. The Company can lend spare units to make necessary repairs or request the customer return the product to us for repairs or upgrades at our facility. In the event repairs or upgrades are required to be made at our facility, we provide spare products for use by our customers during the repair time. Ourperiods when it is repairing or overhauling their equipment. The Company's in-house turnaround times for both repairs and upgrades average less than 30 days. Before returning our products to customers, all repaired or upgraded products are retested for airworthiness.
In connection with our customer service program, we typically provideGenerally, IS&S provides customers with a two-year warranty on new products. We also offerThe Company offers customers extended warranties of varying terms for additional fees.
The majority of the Company's sales, operating resultspersonnel and identifiable assets are inwithin the United States. In fiscal year 2009, 2008,2012, 2011 and 20072010 net sales outside the United States amounted to $4.4 million, $1.7$4.0 million and $1.1$2.8 million, respectively.
Government Regulation
TheFAA regulations govern the manufacture and installation of ourthe Company's products in aircraft owned and operated in the United States, is governed by FAA regulations. We maintain a productionand the IS&S facility that is FAA certified. The most significant of the product and installation regulations focus on Technical Standard Order Authorizationsare TSO and Supplemental Type Certificates. These certifications set forthSTC, which establish the minimum product performance standards that a certain type of equipment should meet. As required, we deliver our product in accordance with FAA regulations.standards.
SalesGenerally, sales of ourIS&S products to European or other non-U.S. owners of aircraft also typically require approval of the European Aviation Safety Agency (EASA),EASA, the European counterpart of the FAA, or another appropriateother relevant governmental agency. agencies.
EASA certification requirements for manufacturingthe manufacture and installation of ourthe Company's products in European owned aircraft mirror FAA regulations. Much like the FAA certification process, theThe EASA has established a process for granting European Certifications.certifications is similar to that of the FAA.
In addition to product related regulations, we are alsoIS&S is subject to U.S. Government procurement regulations with respect to the sale of ourthe Company's products to government entities or government contractors. These regulations dictate the manner inestablish requirements which products may be sold to the government and set forth other requirements thatcontractors must be met in ordermeet to do business with or on behalf of government entities. For example, the government agency or general contractor may alter the price, quantity or delivery schedule of our products. In addition, theThe government agency or general contractor retains the right to terminate thea contract at any time at its convenience. Upon such alteration or termination, we would typically beIS&S is generally entitled to an equitable adjustment to the contract price so that we would receivethe Company receives the purchase price for products or services already delivered, items and reimbursement for allowable costs incurred.incurred and for termination related costs.
Manufacturing, Assembly and Materials Acquisition
OurThe Company's manufacturing activities consist primarily of assembling and testing components and subassemblies, and integrating them into a fully tested finished system. We believesystems. IS&S believes this methodapproach allows usit to achieve relatively flexible manufacturing capacity while minimizingand to minimize expenses. We typically purchaseTypically, the Company purchases components for our products from third-party suppliers and assembleassembles them in a clean room environment to reduce impurities and improve the performance of our products.environment. Many of the components we purchasepurchased are standard products, although certain parts are made to ourthe Company's specifications.
When appropriate, we enterIS&S enters into long-term supply agreements and use ouruses its relationships with long-term suppliers to improve product quality and availability, and to reduce delivery times and product costs. In addition, we continually identifythe Company identifies alternative suppliers for important component parts. UsingGenerally, the introduction of component parts from new suppliers in ourexisting products generally requires FAA certification of the entire finished product if the newly sourced component varies significantly from ourthe original drawings
and specifications. To date, we haveIS&S has not experienced any significant delays in delivery of our products caused by the inability to obtain either component parts or FAA approval of products incorporating new component parts.
Quality Assurance
Product quality is of vital importance to ourthe Company's customers and we have taken steps to enhance the overall quality of our products. We areIS&S. The Company is ISO 9001 and AS 9100B9100C certified. ISO 9001 and AS 9100BThese standards arerepresent an international consensus on effective management practices with the goal of ensuring that a company can consistently deliver its products and related services consistently in a manner that meets or exceeds customer quality requirements. TheseIS&S's certification to these standards allow usallows the Company to represent to customers that we maintainit maintains high quality industry standards in the education of ourits employees, and in the design and manufacture of ourits products. In addition, ourthe Company's products undergo extensive quality control testing prior to being delivered to customers. As part of ourits quality assurance procedures, we maintainIS&S maintains detailed records of test results and ourits quality control processes.
Our Competition
The market for ourthe Company's products is highly competitive, and characterized bythe Company competes in several industry niches in which a number of manufacturers specialize. Our competitorsCompetitors vary in size and resources, and substantially all of ourthe Company's competitors are much larger than IS&S and have substantially greater resources than us.resources. With respect to air data systems and related products, ourthe Company's principal competitors include Honeywell International Inc., Rockwell Collins, Inc., Thales, and GE Aviation.Garmin. With respect to flat panel displays, our principal competitors currently include Honeywell, Rockwell Collins, Inc., L-3 Communications, and GE Aviation. However, because the flat panel display industry is a new and
evolving market, as the demand for flat panel displays increases, weIS&S may face future competition in this area from additional companies in the future.other suppliers.
We believeThe Company believes that the principal competitive factors in its markets we serve are cost, development cycle time, responsiveness to customer preferences, product quality, technology, and reliability. We believe ourIS&S believes that its significant and long-standing customer relationships reflect ourthe Company's ability to compete favorably with respect to these factors.
Intellectual Property and Proprietary Rights
We relyIS&S relies on patents to protect ourits proprietary technology. As of September 30, 20092012 the Company holds 2024 U.S. patents and has 65 U.S. patent applications pending relating to ourits technology. In addition, we hold 24IS&S holds 25 international patents and have 26has 25 international patent applications pending. Certain of these patents and patent applications cover technology relating to air data measurement systems and calibration techniques while others cover technology relating to flat panel display systems and other aspects of ourthe COCKPIT/IP™IP® solution. While we believeIS&S believes these patents have significant value in protecting ourits technology, we also believeit believes that the innovative skill, technical expertise, and know-how of ourthe Company's personnel in applying the technology reflected in ourits patents would be difficult, costly, and time consuming to reproduce.
While we areIS&S is not aware of any pending lawsuits against us regardingthe Company alleging patent infringement or the violation of other intellectual property rights, weit cannot be certain such infringement claims will not be asserted against usthe Company in the future.
Our Employees
As of September 30, 2009, we2012, IS&S had 140 employees, 48 were in engineering, research and development, 63 in manufacturing and assembly operations, 8 in quality and 21 in selling and general administrative positions.
Our105 employees. The Company's future success depends on ourits ability to attract, train and retain highly qualified personnel. We planIS&S plans to hire additional personnel, including, in particular sales and marketing personnel,R&D engineers, during the next twelve months. Competition for such qualified personnel is intense, and wethe Company may not be able to attract, train, and retain highly qualified personnel in the future. Our employees are not represented by a laborThe Company is non union.
Executive Officers of the Registrant
The following is a list of ourthe Company's executive officers, their ages and their positions:
Name | Age | Position | |||
---|---|---|---|---|---|
Geoffrey S. M. Hedrick | Chairman of the Board and Chief Executive Officer | ||||
Shahram Askarpour | President | ||||
Ronald C. | Chief Financial Officer |
Geoffrey S. M. Hedrick was the Chief Executive Officer sincefrom the time he founded IS&Sthe Company in February 1988 through June 4, 2007, and was reappointed as Chief Executive Officer on September 8, 2008. He has also been Chairman of the Board since 1997. Prior to founding IS&S, Mr. Hedrick served as President and Chief Executive Officer of Smiths Industries North American Aerospace Companies. He also founded Harowe Systems, Inc. in 1971, which was subsequently acquired by Smiths Industries. Mr. Hedrick has over 3540 years of experience in the avionics industry, and he holds a number of patents in the electronics, optoelectric, electromagnetic, aerospace, and contamination-controlcontamination control fields.
Roman G. PtakowskiShahram Askarpour has been President since March 2003. Prior to that, Mr. Ptakowski served2012. Dr. Askarpour joined the Company as a Group Vice PresidentDirector of Engineering in 2003, and General Manager and, before that, as awas promoted to Vice President of SalesEngineering in 2005. Dr. Askarpour has more than 30 years of aerospace industry experience in managerial and Marketing at B/Etechnical positions. Prior to joining IS&S he was employed by Smiths Aerospace Inc. Previously, Mr. Ptakowski held(a division of Smiths Group PLC), Instrumentation Technology and Marconi Avionics. He holds a number of positions with increasing responsibility within ASEA Brown Boveri Power T&D Company, Inc. There, he was General Managerkey patents in
the Protective Relay Division before leaving to join B/E Aerospace, Inc. Mr. Ptakowskiaviation field. Dr. Askarpour received a B.S.his engineering education in the United Kingdom, and received an undergraduate degree in Electrical Engineering from New YorkMiddlesex University, a post graduate Certificate of Advanced Study in Systems Engineering, and a PhD in Automatic Control from Brunel University. He was awarded the title of Associate Research Fellow for three consecutive years by Brunel University, and a MBA from Duke University.has published numerous papers in leading international, peer reviewed journals. In addition, he has completed management courses at Carnegie Mellon University and finance courses at the Wharton Business School.
JohnRonald C. LongAlbrecht has been Chief Financial Officer since January 2008.August 2010. Prior to joining the Company, Mr. LongAlbrecht served in a varietynumber of executive positions, both operational and financial, with Arrow International, Inc., includingSmiths Aerospace (UK). Smiths Aerospace was acquired by GE Aviation Systems ("GEAS") in 2007. Most recently, Mr. Albrecht served as Vice President and General Manager of Smiths Aerospace Electro Mechanical Business from January, 2003 to January, 2008 as Treasurer from January, 2003 to October, 2007, as Secretary from April, 2004 to October, 2007 and, as Assistant Treasurersubsequently, of GEAS' Electro Mechanical Business from 19952007 to January 2003.2010. Prior to joining Arrow International, Mr. Longhis operational roles, he served as Controller for the Jaindl Companies, a groupChief Financial Officer of privately held companies involvedSmiths Aerospace, based in agribusinessLondon, and real estate development, from 1989 to 1995. From 1986 to 1989,has substantial mergers & acquisition and strategic planning experience. Mr. Long was employed in the Allentown, Pennsylvania office of the accounting firm, Concannon, Gallagher, Miller & Co. Mr. Long also served as a director and Audit Committee Chairman of D&E Communications, Inc., an integrated communications provider. Mr. LongAlbrecht received a B.S.B.A. in AccountingGovernment and Economics from Wilkes UniversityDartmouth College and a MBA in Finance from ColumbiaStanford University. He is a Certified Public Accountant (California/Inactive).
Other
The public may read and copy any materials filed by usIS&S with the SEC at the SEC's public reference room located at 100 F Street, N.E., Washington, D.C. 20549. The public may obtain information about the operation of the SEC's public reference rooms by calling the SEC at 1-800-SEC-0330. The SEC also maintains a website at http://www.sec.gov that contains reports, proxy and information statements and other information about issuers such as that file electronically with the SEC.
Our primary IS&S maintains its corporate website isat http://www.innovative-ss.com. We makewww.innovative-ss.com and makes available, free of charge, at our corporateon that website our(under the "Investor Relations" tab) the Company's annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those as reasonably practicable after weit electronically filefiles such material with, or furnishfurnishes it to, the SEC. The information on ourthe Company's web site is not incorporated as part of this annual report.
YouEach reader should carefully consider the risks, uncertainties and other factors described below, in addition to the other information set forth in this report, because they could materially and adversely affect ourthe Company's business, operating results, financial condition, cash flows, and prospects, as well as adversely affectand the value of an investment in ourIS&S common stock.
Risks Related to OurIS&S Business
Reductions in government expenditures could adversely affect IS&S business.
The Budget Control Act of 2011 (the "Budget Act") will result in reduced U.S. government funding of the defense industry unless Congress acts. The Budget Act set $900 billion in immediate cuts to discretionary government spending for 2012 through 2021. It also established a bi-partisan congressional Joint Select Committee on Deficit Reduction (the "Super Committee") and charged it with recommending legislation by November 23, 2011, the result of which would reduce net government spending by at least $1.2 trillion over the next 10 years, in addition to the $900 billion in immediate discretionary spending reductions. The failure of the Super Committee to meet its objectives has triggered an automatic sequestration of discretionary appropriations, which if not altered by Congress, will make up any shortfall necessary to achieve the $1.2 trillion target. Under the Budget Act, 50% of any shortfall from the $1.2 trillion target would automatically be applied as a reduction to discretionary appropriations for national defense programs. Unless the U.S. Government takes further action, the Budget Control Act of 2011 (Budget Act) will trigger substantial, automatic reductions in both defense and discretionary spending in January 2013. While the impact of sequestration is yet to be determined, automatic across-the-board cuts would be in addition to reductions already reflected in the defense funding over a ten-year period. The resulting automatic across-the board budget cuts in sequestration could have negative consequences to the Company's business and industry. There could be disruption of ongoing programs and initiatives, and the resulting personnel reductions could negatively impact the Company's manufacturing operations and engineering expertise, and accelerate the loss of skills and knowledge. The impact of any resulting reductions in defense appropriations, and/or reductions in U.S. defense spending could negatively affect the Company's revenues, financial condition and results of operations.
The global recession and continued credit tightening could adversely affect us.IS&S.
The global recession and continued concern regarding credit tightening,availability, including failures of financial institutions, has initiated unprecedented government intervention in the U.S., Europe and other regions of the world. If these concerns continue or worsen, risks to usIS&S include:
A portion of ourIS&S sales havehas been, and we expect willis expected to continue to be, to defense contractors or government agencies in connection with government aircraft retrofit or original equipment manufacturing contracts. Sales to government contractors and government agencies could decline as a result of DoD spending cuts and general budgetary constraints which may become more frequentsevere as tax revenues decline due to the continued weakeningfederal budget deficit remains high.
Table of general economic conditions.Contents
Tax changes could affect the Company's effective tax rate and future profitability.
The Company's future results could be affected negatively by changes in the effective tax rate as a result of changes in the overall profitability and changes to statutory tax rates in the United States, changes in tax legislation, and the results of audits and examination of previously filed tax returns.
The loss of a key customer or a significant deterioration in the financial condition of a key customer could have a material adverse effect on ourthe Company's results of operations.
OurThe Company's revenue is concentrated with a limited number of customers. During fiscal year 2009 we2012 IS&S derived 56%63% of revenue from the top 5 five customers: American Airlines, DoD, Boeing, Lockheed Martin and Cessna. We derived 72% of revenue during fiscal year 2008 from five customers: Eclipse, FedEx, American Airlines, DoD and Marshall of Cambridge. We derived 58% of revenue during fiscal year 2007 from five customers: DoD, Eclipse, Western Aircraft, ABX Air and FedEx. We expectcustomers. IS&S expects a relatively small number of customers to account for a majority of ourits revenues for the foreseeable future. As a result of ourthe concentrated customer base, a loss of one or more of these customers or a dispute or litigation with one of these key customers could have a material adverse effect on ourits revenue and results of operations. In addition, we continually monitorthe Company monitors and evaluateevaluates the credit status of ourits customers and attemptattempts to adjust sales terms as appropriate. Despite these efforts, a significant deterioration in the financial condition or bankruptcy filing of a key customer could have a material adverse effect on ourthe Company's business, results of operations, and financial condition.
On November 25, 2008, Eclipse Aviation29, 2011, AMR Corporation, the parent company of American Airlines, Inc. and certain of its other U.S.-based subsidiaries, filed a voluntary petitionpetitions for relief under Chapter 11 ofreorganization in the U.S. Bankruptcy Code.Court for the Southern District of New York. The Company has not receivedCompany's revenues from American Airlines, Inc. accounted for 5%, 8% and does not anticipate receiving any payment on its pre-petition claims.8% total revenue for the fiscal years 2012, 2011 and 2010, respectively. (See Note 13—Commitments and Contingencies in Notes to Consolidated Financial Statements attached).
Growth of ourthe Company's customer base could be limited by delays or difficulties in completing development and introduction of our planned products or product enhancements. If we failIS&S fails to enhance existing products, or to develop and achieve market acceptance for flat panel displays and other new products that meet customer requirements, ourits business will be adversely affected.
Although historically a substantial majority of our revenue has come from sales of air data systems and related products, weIS&S currently spendspends a large portion of ourits research and development efforts in developing and marketing our flat panel display systemsthe FPDS and complementary products. OurThe Company's ability to grow and diversify ourits operations through introduction and sale of new products is dependent upon ourthe continued success in continuing product development and engineering activities, as well as ourits sales and marketing efforts, and our ability to obtain requisiteregulatory approvals to sell such products. Our salesSales growth will also depend in part on market acceptance of and demand for our CIPthe FPDS and future products. WeIS&S cannot be certain wethat it will be able to develop, introduce or market our CIPits FPDS or other new products or product enhancements in a timely or cost-effective manner, or that any new products will receive market acceptance or necessary regulatory approval.
During fiscal 2009, 2008, and 2007 we derived 75%, 77% and 53% of our total revenue from the sale of flat panel display systems, respectively. We expect revenues from our air data products will continue to decline as a percent of total sales as peak demand associated with the FAA's RVSM mandate has been accommodated. Our revenues and profitability will decrease if new products such as our Flat Panel Display Systems do not receive market acceptance or if our existing customers do not continue to incorporate our products in their retrofitting or manufacturing of aircraft. In seeking new customers, itthe Company may have difficulty in displacing the products of incumbent competitors. Accordingly, IS&S cannot be difficult for our products to displace competing products. Accordingly, we cannot assure youassured that potential customers will accept ourits products or that existing customers will not abandon them.
OurThe Company's revenue and operating results may vary significantly from quarter to quarter, which may cause ourits stock price to decline.
OurThe Company's revenue and operating results may vary significantly from quarter to quarter due to a number of factors, including:
We planIS&S plans to expand ourstructure its sales and marketing operations and to fund levels of product development proportionatein proportion to ourits total sales. As a result, a delay in generating revenues could cause significant variations in ourits operating results from quarter to quarter.
Contracts can be terminated by customers at any time and, therefore, may not result in sales.
OurThe Company's retrofit projects are generally pursuant to either a direct contract with a customer or a subcontract with a general contractor to a customer (including government agencies). Each contract, including our contracts with government agencies, includes various terms and conditions that impose certain requirements on us,IS&S, including the ability of the customer or general contractor to alter the
price, quantity or delivery schedule of ourthe products. In addition, typically, the customer or general contractor typically retains the right to terminate the contract at any time at its convenience. Upon alteration or termination of these contracts, weIS&S could be entitled to an equitable adjustment to the contract price, so wethat it may receive the purchase price for items we havethat it has delivered and reimbursement for allowable costs we have incurred. Accordingly, because these contracts can be terminated, wethe Company cannot assure yoube assured that ourits retrofit backlog will result in sales.
We dependThe Company enters into fixed-price contracts or service arrangements to perform specified design and EMD services related to its products that could subject IS&S to losses in the event the Company incurs cost overruns on its projects.
During fiscal 2012, approximately 25% percent of the Company's total sales were from fixed-price customer funded EMD service arrangements to perform specified design and EMD services related to its products. This allows IS&S to benefit by recovering some of the cost of its engineering development group, but it carries the burden of potential cost overruns because the Company assumes all of the cost risk. If the Company's initial cost estimates are incorrect, it can potentially incur large one time charges and losses on these contracts. These EMD service arrangements can expose the Company, potentially, to losses because the customer may compel IS&S to complete a project or, in the event of a termination for default, pay the incremental cost of its replacement by another provider regardless of the size of any cost overruns that occur over the life of the contract. Because some of these projects involve new technologies and applications, and can last for more than a year, unforeseen events such as technological difficulties, fluctuations in the price of raw materials, problems with subcontractors, and cost overruns can result in the contractual price becoming less favorable or even unprofitable to IS&S over time. Furthermore, if the Company does not meet project deadlines or specifications, it may need to renegotiate contracts on less favorable terms, be forced to pay penalties or liquidated damages, or suffer losses if the customer exercises its right to terminate. The Company's results of operations are dependent on its ability to maximize earnings from the EMD service arrangements. Lower earnings caused by cost overruns could have a negative impact on the Company's financial condition, operating results and cash flows.
IS&S depends on key personnel to manage ourits business effectively, and if we are unablean inability to retain ourits key employees ourcould adversely impact the Company's ability to compete could be harmed.compete.
OurThe Company's success depends on the efforts, abilities, and expertise of ourits senior management and other key personnel. There can be no assurance weIS&S will be able to retain such employees, the
loss of some of whom could hurt ourdamage its ability to execute ourits business strategy. We intendThe Company intends to continue hiring key management, engineering, and sales and marketing personnel. In spite of a 10.2%, as of October 2009, U.S. unemployment rate of approximately 8% during 2012, competition for suchskilled personnel is intense, and weIS&S may not be able to attract or retain additional qualified personnel.
OurThe Company's future success will depend in part on ourits ability to implement and improve ourits operational, administrative and financial systems and controls and to manage, train and expand ourits employee base. WeIS&S cannot assure yoube assured that, after giving effect to ourits cost containment initiatives, that our current and planned personnel levels, systems, procedures and controls will be adequate to support ourthe current and future customer base. If inadequate, weIn such a circumstance, the Company may not be able to exploit existing and potential market opportunities. Any delays or difficulties we encounterencountered could impair ourthe Company's ability to attract new customers or maintain ourits relationships with existing customers.
We relyIS&S relies on third party suppliers for components of ourits products, and any interruption in the supply of these components could hinder ourits ability to deliver our products.products on a timely basis.
OurThe Company's manufacturing process consists primarily of assembling components purchased from ourits supply chain. TheseThe suppliers may not continue to be available to us.IS&S. If we arethe Company is unable to maintain relationships with key third party suppliers, the development and distribution of ourits products could be delayed until equivalent components can be obtained and integrated into ourthe products. In addition, substitution of certain components from other manufacturers may require product redesign, FAA or other approval, which could delay ourthe Company's ability to ship products.
OurThe Company's competition includes other manufacturers of air data systems and flight information displays against whom weit may not be able to compete successfully.
The markets for ourthe Company's products are intensely competitive and subject to rapid technological change. Our competitorsCompetitors include Honeywell International Inc., Rockwell Collins, Inc., Thales Communications, Inc., GE Aviation and L-3 Communications. Substantially all of ourAll these competitors have substantially significantly greater financial, technical and human resources than we do.does IS&S. In addition, ourthese competitors have much greater experience in and resources for marketing their products. As a result, ourthese competitors may be able to respond more quickly to new or emerging technologies and customer preferences, or to devote greater resources to development, promotion and sale of their products than weIS&S can. OurThe Company's competitors may also have greater name recognition and more extensive customer bases that they can use to their benefit. Thisbases. Such competition could result in price reductions, fewer customer orders, reduced gross margins, and loss of market share.
OurThe Company's success depends on ourits ability to protect ourits proprietary rights and there is aagainst potential risk of infringement. If we areIS&S is unable to protect and enforce ourits intellectual property rights, weit may be unable to compete effectively.
OurThe Company's success and ability to compete will depend in part on ourits ability to obtain and maintain patent or other protection for ourits technology and products, both in the United States and abroad.internationally. In addition, weIS&S must operate without infringing the proprietary rights of others.
WeIS&S currently hold 20holds 24 U.S. patents and have 6has 5 U.S. patent applications pending. In addition, we hold 24the Company holds 25 international patents and have 26has 25 international patent applications pending. WeIS&S cannot be certain that patents will be issued on any of ourits present or future applications. In addition, our existing patents or any future patents may not adequately protect ourthe Company's technology if they are not broad enough and are successfully challenged, or if other entities are able to develop competing methods without violating ourits patents. If we areIS&S is not successful in protecting ourits intellectual property, competitors could begin to offer products that incorporate ourthe Company's technology. Patent protection involves complex legal and factual questions, and, therefore, is highly uncertain, and litigationuncertain. Litigation relating to
intellectual property is often very time consuming and expensive. If a successful claim of patent infringement were made against us or we areIS&S, and if the Company were unable to develop non-infringing technology, or to license the infringed or similar technology on a timely and cost-effective basis, wethe Company might not be able to makeproduce and sell some of ourits products. In addition, we have in the pastFurther, IS&S has incurred and may continue in the future to incur significant legal and other costs in defense of ourits intellectual property.
Potential lendersA cybersecurity incident could have a negative impact.
A cyber-attack that bypasses the Company's information technology (IT) security systems causing an IT security breach, may have suffered losses relatedlead to a material disruption of its IT business systems and/or the loss of business information resulting in an adverse business impact. Risks may include:
Potential lenders may have suffered losses related to their lending and other financial relationships, especially because of the general weakening of the national economy and increased financial instability of many borrowers. As a result, lenders may become insolventcustomers, partners or tighten their lending standards, which could make it more difficult for us to borrow or to obtain new financing on favorable terms or at all, if we determine that it would be in our interests to obtain such financing, whether to finance acquisitions or otherwise. Our financial condition and results of operations could be adversely affected if we were unable to obtain cost-effective financing in the future.
WeIS&S may not be able to identify or complete acquisitions, or weit may consummate an acquisition that adversely affects ourthe Company's operating results.
One of ourthe Company's strategies is to acquire businesses or technologies that complement ourits existing operations. We haveIS&S has limited experience in acquiring businesses or technologies. There can be no assurance weIS&S will be able to acquire or profitably manage acquisitions or successfully integrate them into ourits operations. Furthermore, certain risks are inherent in pursuing acquisitions, such as the demands of management's time and attention and combining disparate company cultures and facilities. Acquisitions may have an adverse effect on ourthe Company's operating results, particularly in quarters immediately following the consummation of such transactions, as we integratethe Company integrates operations of acquired businesses into ourits operations. Once integrated, acquisitions may not perform as expected.expected or be accretive to the Company's results of operations.
Risks Related to Ourthe Company's Industry
If we areIS&S is unable to respond to rapid technological change, ourits products could become obsolete and ourits reputation could suffer.
Future generations of air data systems, engine and fuel displays, and flat panel displays embodyingwhich embody new technologies or new industry standards could render ourthe Company's products obsolete. The market for
aviation products is subject to rapid technological change, new product introductions, changes in customer preferences, and evolving industry standards. Ourstandards and government regulations. The Company's future success will depend on ourits ability to:
Our future success will also depend on our developing high quality, cost-effective products and enhancements to our products that satisfy needs of customers and on our introducing these new technologies to the marketplace in a timely manner. If we failIS&S fails to modify or improve ourits products in response to evolving industry standards ourand government regulations, its products could rapidly become obsolete.
OurThe Company's products are currently subject to direct regulation by the FAA, its European counterpart, the European Aviation Safety Administration (EASA),EASA, and other comparableequivalent organizations. OurThe Company's products, as they relate to
aircraft applications, must be approved by the FAA, EASA or other comparableequivalent organizations before they can be usedinstalled in an aircraft. To be certified, weIS&S must demonstrate that ourits products are accurate and able to maintain certain levels of repeatability over time. Although certification requirements of the FAA and the EASA are substantially similar, there is no formal reciprocity exists between the two systems.regulators. Accordingly, even though some of ourthe Company's products are FAA-approved, weit may need to obtain approval from the EASA or other appropriate organizations to have them certified for installation outside the United States.
Significant delay in receiving certification for newly developed products or enhancements to ourthe Company's products, or losingthe loss of certification for ourits existing products could result in lost sales or delays in sales. Furthermore, adoption of additionalnew regulations or product standards, as well asand changes to existing product standards could require usIS&S to change ourits products and underlying technology. WeIS&S cannot assure youensure that weit will receive regulatory approval on a timely basis or at all.
Because ourInasmuch as the Company's products utilize sophisticated technology and are deployed in complex aircraft cockpit environments, problems with these products may arise that could seriously harm ourthe Company's reputation for quality assurance and, our business.consequently, its business prospects.
OurThe Company's products use complex system designs and components that may contain errors, omissions, or defects, particularly when we incorporatethe Company incorporates new technologies into ourits products or we releasewhen it releases new versions or enhancements of ourits existing products. Despite ourthe Company's quality assurance process, errors, omissions or defects could occur in ourits current products, in new products, or in new versions or enhancements of existing products after commercial shipment has begun. Weproducts. IS&S may be required to redesign or recall those products or pay damages. Such an event could result in the following:
Although we currently carryIS&S carries product liability insurance, this insurance may not be adequate to cover ourits losses in the event of a large product liability claim. Moreover, weIn addition, IS&S may not be able to maintain such insurance in the future.
We haveThe Company has limited experience in marketing and distributing ourits products internationally.
We expectIS&S expects to derive an increasing amount of ourits revenues from sales outside the United States, particularly in Europe. There are certain risksRisks inherent in doing business on an international basis, such as:internationally include:
Currently, all of ourthe Company's international sales are denominated in U.S. dollars. An increase in the dollar's value compared to other currencies could make ourrender its products less competitive in foreignthe international markets. In the future, weIS&S may be required to conduct sales in the foreign country's local currencies,currency, thus exposing usthe Company to changesfluctuations and volatility in exchange rates that could adversely affect ourits operating results.
Item 1B. Unresolved Staff Comments.
None
In fiscal 2001, weIS&S purchased 7.5 acres of land in the Eagleview Corporate Park in Exton, Pennsylvania. Shortly thereafter, the Company constructed a 44,80045,000 square foot design, manufacturing and office facility on this site. Land development approval allows for expansion of up to 20,400 square feet. ThisSuch expansion would provide for a 65,200 square foot facility. The construction was principally funded with a Chester County, Pennsylvania, Industrial Revenue Bond. The building served as securityfacility which is adequate to meet the needs of the Company for the Industrial Revenue Bond until the bond was repaid in August 2009.foreseeable future.
In the ordinary course of business, we are at timesthe Company is subject to various legal proceedings and claims. We doIS&S does not believe any such matters that are currently pending will have a material adverse effect on ourthe Company's results of operations or financial position.
On September 26, 2011, Farhad Daghigh, a former employee of the Company, filed a lawsuit against IS&S in the Court of Common Pleas of Chester County alleging breach of contract and violation of the Pennsylvania Wage Payment and Collection Law claiming unpaid sales commissions, prejudgment interest, and liquidated damages totaling approximately $583,000 for the fiscal years ended 2007, 2008, 2009 and 2010. The Company vehemently denies any allegations of liability and is vigorously defending the lawsuit. This matter has not been resolved as of the date hereof. The Company believes that the probability of an unfavorable outcome on this claim is remote, and therefore, no contingent liability has been recorded as of September 30, 2012.
On January 17, 2007 the Company filed suit in the Court of Common Pleas for Delaware County, Pennsylvania against Strathman Associates, a former software consultant for IS&S, alleging that Strathman had improperly used IS&S trade secret and proprietary information in assisting J2 and Kollsman in developing the J2/Kollsman Air Data Computer. The case is ongoing.has not been resolved as of the date hereof.
Item 4. Submission of Matters to a Vote of Security Holders.Mine Safety Disclosures.
No matters were submitted to a vote of our shareholders during the three months ended September 30, 2009.Not applicable.
Item 5. Market for the Registrant's Common Equity, Related Stockholder Matters, and Issuer Repurchases of Equity Securities.
OurThe Company's common stock has been traded on the NasdaqNASDAQ Stock Market, LLC under the symbol "ISSC" since ourits initial public offering on August 4, 2000. The following table lists the high and low per share sale prices for ourthe common stock for the periods indicated:
| Fiscal Year 2009 | Fiscal Year 2008 | Fiscal Year 2012 | Fiscal Year 2011 | ||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Period | High | Low | High | Low | High | Low | High | Low | ||||||||||||||||||
First Quarter | $7.65 | $ | 3.02 | $ | 22.20 | $ | 9.00 | $ | 4.80 | $ | 3.20 | $ | 6.07 | $ | 4.61 | |||||||||||
Second Quarter | 6.06 | 2.52 | 12.61 | 7.73 | 4.51 | 3.50 | 6.16 | 5.67 | ||||||||||||||||||
Third Quarter | 5.90 | 4.02 | 12.00 | 6.39 | 4.75 | 3.02 | 5.87 | 5.15 | ||||||||||||||||||
Fourth Quarter | 6.00 | 3.34 | 9.18 | 4.52 | 4.50 | 3.20 | 5.80 | 4.42 |
On December 04, 2009,November 30, 2012, there were 1617 holders of record of the shares of outstanding common stock. This total does not reflect beneficial shareholders who hold their stock in nominee or "street" name through brokerage firms.
We paidThe Company did not pay dividends in fiscal 2012 or fiscal 2011. On December 7, 2012 the Company's Board of Directors declared a special cash dividend in the amount of $1.00$1.50 per share, payable on September 29, 2008or about December 27, 2012 to shareholders of record as of the close of business on our common stock.December 17, 2012. The amounts necessaryaggregate amount of the payment to pay the special dividend were funded in cash from the proceeds receivedbe made in connection with the Company's settlement with Kollsman, Inc. We do not expect to declare or pay cash dividends on our common stockdividend will be approximately $24.9 million. The declaration and payment of any dividend in the near future. We intend to retain any earnings to financefuture will be at the growthdiscretion of our business.the Company's Board of Directors.
On February 22, 2009,18, 2011, the Company's Board of Directors approved a common stockthe Company's repurchase program to acquire up to 1,000,000 shares of the Company's outstanding common stock. Under the repurchase program, the Company may purchase shares of its common stock through open market transactions, or in privately negotiated block purchases, or in other private transactions (either solicited or unsolicited). The timing and amount of repurchase transactions under this program will depend on market conditions, and corporate and regulatory considerations. The plan will expireprogram expired on February 22, 2010, unless10, 2012 and was extended by the Board of Directors; however, theDirectors on February 3, 2012 until February 10, 2013. The program may be discontinued or suspended at any time. During the year endingended September 30, 2009,2012, the Company purchased 25,000211,722 shares of common stock under the program at a cost of $0.1 million, or$798,445 at an average market pricecost of $4.33$3.77 per share, financed with available cash. The following table sets forth the purchases made under this new plan for each month since adoption throughof the fiscal year ended September 30, 2009:2012:
Period | Total Number of Shares Purchased | Average Price Paid per Share | Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs | Maximum number of Shares that May Yet Be Purchased Under the Program | |||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|
February, 2009 | — | — | — | 1,000,000 | |||||||||
March, 2009 | 25,000 | 4.33 | 108,250 | 975,000 | |||||||||
April, 2009 | — | — | — | 975,000 | |||||||||
May, 2009 | — | — | — | 975,000 | |||||||||
June, 2009 | — | — | — | 975,000 | |||||||||
July, 2009 | — | — | — | 975,000 | |||||||||
August, 2009 | — | — | — | 975,000 | |||||||||
September, 2009 | — | — | — | 975,000 | |||||||||
25,000 | 108,250 | ||||||||||||
Period | Total Number of Shares Purchased | Average Price Paid per Share | Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs | Number of Shares that May Yet Be Purchased Under the Program | |||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|
October 2011 | 17,263 | $ | 4.67 | 17,263 | 908,337 | ||||||||
November 2011 | 16,155 | 4.35 | 16,155 | 892,182 | |||||||||
December 2011 | 55,098 | 3.56 | 55,098 | 837,084 | |||||||||
January 2012 | 31,518 | 3.96 | 31,518 | 805,566 | |||||||||
February 2012 | 19,726 | 4.02 | 19,726 | 785,840 | |||||||||
March 2012 | 1,341 | 4.28 | 1,341 | 784,499 | |||||||||
April 2012 | — | — | — | 784,499 | |||||||||
May 2012 | 4,900 | 3.24 | 4,900 | 779,599 | |||||||||
June 2012 | 34,500 | 3.33 | 34,500 | 745,099 | |||||||||
July 2012 | 23,477 | 3.34 | 23,477 | 721,622 | |||||||||
August 2012 | 3,944 | 3.32 | 3,944 | 717,678 | |||||||||
September 2012 | 3,800 | 4.00 | 3,800 | 713,878 | |||||||||
211,722 | $ | 3.75 | 211,722 | ||||||||||
COMPARISON OF 5 YEAR CUMULATIVE TOTAL RETURN*Among Innovative Solutions and Support, Inc., The NASDAQ Composite Index,The Russell 2000 Index And Dow Jones US Aerospace & Defense Index
| 9/04 | 9/05 | 9/06 | 9/07 | 9/08 | 9/09 | |||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Innovative Solutions and Support, Inc. | 100.00 | 94.97 | 88.85 | 116.00 | 40.06 | 36.83 | |||||||||||||
NASDAQ Composite | 100.00 | 113.65 | 120.81 | 144.35 | 109.35 | 112.92 | |||||||||||||
Russell 2000 | 100.00 | 117.95 | 129.66 | 145.65 | 124.56 | 112.67 | |||||||||||||
Dow Jones US Aerospace & Defense | 100.00 | 119.78 | 144.83 | 196.45 | 146.21 | 137.14 |
Fiscal year ending September 30.
The graph abovebelow shows the cumulative shareholder return on $100 invested at the market close on September 30, 20042007 through and including September 30, 2009,2012, the last trading day before the end of ourthe Company's most recently completed fiscal year, with the cumulative total return over the same time period of the same amount invested in the Nasdaq,NASDAQ Composite Index, the Russell 2000 Index, and the Dow Jones US Aerospace & Defense Index.
COMPARISON OF 5 YEAR CUMULATIVE TOTAL RETURN*
Among Innovative Solutions and Support, Inc., the NASDAQ Composite Index, the Russell 2000 Index, and the Dow Jones US Aerospace & Defense Index
| 9/07 | 9/08 | 9/09 | 9/10 | 9/11 | 9/12 | |||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Innovative Solutions and Support, Inc. | 100.00 | 34.53 | 31.75 | 30.99 | 30.60 | 25.22 | |||||||||||||
NASDAQ Composite | 100.00 | 69.59 | 74.90 | 84.99 | 86.87 | 110.79 | |||||||||||||
Russell 2000 | 100.00 | 85.52 | 77.35 | 87.68 | 84.58 | 111.57 | |||||||||||||
Dow Jones US Aerospace & Defense | 100.00 | 74.43 | 69.81 | 79.20 | 80.28 | 95.95 |
Fiscal year ending September 30.
Copyright© 2012 Dow Jones & Co. All rights reserved.
Item 6. Selected Consolidated Financial Data.Data.
The following tables present portions of ourthe Company's consolidated financial statements. You should read theThe following selected consolidated financial data set forth below should be read together with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and ourthe consolidated financial statements and related notes to ourthe consolidated financial statements appearing elsewhere herein. The selected statement of operations data for the fiscal years ended September 30, 2009, 20082012, 2011 and 20072010 and the balance sheet data as of September 30, 20092012 and 20082011 are derived from ourthe Company's audited consolidated financial statements included elsewhere in this Annual Report on Form 10-K. The selected statements of operations data for the fiscal years ended September 30, 20062009 and 20052008 and the balance sheet data as of September 30, 2007, 20062010, 2009 and 20052008 are derivedextracted from ourthe Company's audited consolidated financial statements that are not included in this Annual Report on Form 10-K.
| | Fiscal year ended September 30, | Fiscal year ended September 30, | ||||||||||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2009 | 2008 | 2007 | 2006 | 2005 | 2012 | 2011 | 2010 | 2009 | 2008 | ||||||||||||||||||||||
Statement of Operations Data: | Statement of Operations Data: | ||||||||||||||||||||||||||||||||
Net sales | $ | 36,734,150 | $ | 30,533,311 | $ | 18,348,128 | $ | 16,721,967 | $ | 63,264,359 | |||||||||||||||||||||||
Net Sales | $ | 24,578,198 | $ | 25,737,652 | $ | 25,257,323 | $ | 36,734,150 | $ | 30,533,311 | |||||||||||||||||||||||
Cost of sales | Cost of sales | 17,895,984 | 20,551,857 | 14,154,425 | 8,631,761 | 20,888,729 | 14,067,933 | 11,945,184 | 11,520,029 | 17,895,984 | 20,551,857 | ||||||||||||||||||||||
Gross profit | Gross profit | 18,838,166 | 9,981,454 | 4,193,703 | 8,090,206 | 42,375,630 | 10,510,265 | 13,792,468 | 13,737,294 | 18,838,166 | 9,981,454 | ||||||||||||||||||||||
Research and development | Research and development | 5,313,007 | 10,304,279 | 5,180,360 | 6,749,426 | 6,057,889 | 2,693,554 | 5,500,924 | 5,234,240 | 5,313,007 | 10,304,279 | ||||||||||||||||||||||
Selling, general and administrative | Selling, general and administrative | 8,647,506 | 22,306,016 | 15,840,255 | 9,863,758 | 8,898,622 | 7,400,199 | 7,683,637 | 8,099,587 | 8,647,506 | 22,306,016 | ||||||||||||||||||||||
Asset Impairment | Asset Impairment | — | 2,475,000 | — | — | — | — | — | — | — | 2,475,000 | ||||||||||||||||||||||
Total operating expenses | 13,960,513 | 35,085,295 | 21,020,615 | 16,613,184 | 14,956,511 | ||||||||||||||||||||||||||||
Total operating expenses | 10,093,753 | 13,184,561 | 13,333,827 | 13,960,513 | 35,085,295 | ||||||||||||||||||||||||||||
Operating income (loss) | Operating income (loss) | 4,877,653 | (25,103,841 | ) | (16,826,912 | ) | (8,522,978 | ) | 27,419,119 | 416,512 | 607,907 | 403,467 | 4,877,653 | (25,103,841 | ) | ||||||||||||||||||
Interest income, net | Interest income, net | 315,765 | 1,415,732 | 2,886,602 | 3,091,986 | 1,764,246 | 100,414 | 142,433 | 185,815 | 315,765 | 1,415,732 | ||||||||||||||||||||||
Other income | Other income | 50,099 | 17,300,000 | — | — | — | 65,005 | 150,010 | 50,000 | 50,099 | 17,300,000 | ||||||||||||||||||||||
Income (loss) before income taxes | Income (loss) before income taxes | 5,243,517 | (6,388,109 | ) | (13,940,310 | ) | (5,430,992 | ) | 29,183,365 | 581,931 | 900,350 | 639,282 | 5,243,517 | (6,388,109 | ) | ||||||||||||||||||
Income tax expense (benefit), net | 234,856 | 1,509,139 | (5,095,022 | ) | (2,548,600 | ) | 10,598,563 | ||||||||||||||||||||||||||
Income tax (benefit) expense, net | (2,397,063 | ) | 183,760 | (109,094 | ) | 234,856 | 1,509,139 | ||||||||||||||||||||||||||
Net income (loss) | Net income (loss) | $ | 5,008,661 | $ | (7,897,248 | ) | $ | (8,845,288 | ) | $ | (2,882,392 | ) | $ | 18,584,802 | $ | 2,978,994 | $ | 716,590 | $ | 748,376 | $ | 5,008,661 | $ | (7,897,248 | ) | ||||||||
Net income (loss) per common share: | Net income (loss) per common share: | ||||||||||||||||||||||||||||||||
Basic | $ | 0.30 | $ | (0.47 | ) | $ | (0.52 | ) | $ | (0.17 | ) | $ | 1.04 | ||||||||||||||||||||
Diluted | $ | 0.30 | $ | (0.47 | ) | $ | (0.52 | ) | $ | (0.17 | ) | $ | 1.02 | ||||||||||||||||||||
Weighted average shares outstanding | |||||||||||||||||||||||||||||||||
Basic | 16,745,379 | 16,887,049 | 16,865,028 | 17,388,524 | 17,873,780 | ||||||||||||||||||||||||||||
Diluted | 16,760,500 | 16,887,049 | 16,865,028 | 17,388,524 | 18,259,856 | ||||||||||||||||||||||||||||
Cash Dividends declared per Common Share | $ | — | $ | 1.00 | $ | — | $ | — | $ | — | |||||||||||||||||||||||
Basic | $ | 0.18 | $ | 0.04 | $ | 0.04 | $ | 0.30 | $ | (0.47 | ) | ||||||||||||||||||||||
Diluted | $ | 0.18 | $ | 0.04 | $ | 0.04 | $ | 0.30 | $ | (0.47 | ) | ||||||||||||||||||||||
Weighted average shares outstanding: | |||||||||||||||||||||||||||||||||
Basic | 16,641,895 | 16,782,223 | 16,751,528 | 16,745,379 | 16,887,049 | ||||||||||||||||||||||||||||
Diluted | 16,641,900 | 16,824,621 | 16,777,886 | 16,760,500 | 16,887,049 | ||||||||||||||||||||||||||||
Cash dividends declared per Common Share | $ | — | $ | — | $ | — | $ | — | $ | 1.00 |
| As of September 30, | As of September 30, | ||||||||||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2009 | 2008 | 2007 | 2006 | 2005 | 2012 | 2011 | 2010 | 2009 | 2008 | ||||||||||||||||||||||
Balance Sheet Data: | ||||||||||||||||||||||||||||||||
Cash and cash equivalents | $ | 35,565,694 | $ | 35,031,932 | $ | 49,151,078 | $ | 62,984,829 | $ | 83,172,582 | $ | 42,977,501 | $ | 42,625,854 | $ | 40,916,346 | $ | 35,565,694 | $ | 35,031,932 | ||||||||||||
Working capital | 44,624,477 | 42,491,253 | 62,453,234 | 73,751,866 | 93,455,475 | $ | 49,087,538 | $ | 47,332,110 | $ | 46,311,056 | $ | 44,624,477 | $ | 42,491,253 | |||||||||||||||||
Total Assets | 57,536,012 | 59,896,714 | 84,585,785 | 87,232,880 | 107,034,878 | |||||||||||||||||||||||||||
Total assets | $ | 62,597,231 | $ | 58,257,604 | $ | 57,590,522 | $ | 57,536,012 | $ | 59,896,714 | ||||||||||||||||||||||
Debt and capital lease obligations, less current portion | 26,991 | 4,362,725 | 4,382,542 | 4,339,587 | 4,248,113 | $ | — | $ | — | $ | 15,560 | $ | 26,991 | $ | 4,362,725 | |||||||||||||||||
Total shareholders' equity | 52,398,742 | 46,804,126 | 70,733,779 | 78,201,353 | 97,866,098 | $ | 57,080,403 | $ | 54,260,787 | $ | 53,468,037 | $ | 52,398,742 | $ | 46,804,126 |
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.
The following discussion and analysis should be read in conjunction with "Selected Consolidated Financial Data" and ourthe financial statements and related notes included in this report.
Overview
Innovative Solutions and Support was founded in 1988. The Company is a systems integrator that designs, develops, manufactures, and sells flight information computers, large flat-panel displays,guidance and cockpit display systems for original equipment manufacturers ("OEMs") and retrofit applications. The Company supplies integrated flight management systems ("FMS") and advanced monitoringglobal positioning system ("GPS") receivers for precision reduced carbon footprint navigation. Increasingly, the Company is positioning itself as a system integrator, which capability provides the Company with the potential to generate more substantive orders over a broader product base. The Company has demonstrated an ability to incorporate added electronic flight bag functionality such as charting and mapping systems that measureinto its Flat Panel Display Systems ("FPDS") product line. The strategy, as both a manufacturer and display critical flight information, including data relativeintegrator, is to aircraft separation, airspeed, altitude as well as engineleverage the latest technologies developed for the computer and fuel data measurements.telecommunications industries into advanced and cost-effective solutions for the general aviation, commercial, the United States Department of Defense ("DoD")/governmental, and foreign military markets. This approach, combined with the Company's industry experience, enables IS&S to develop high-quality products and systems, reduce substantially product time to market, and achieve cost advantages over products offered by its competitors.
OurThe Company's sales are derived from the sale of ourits products to both the retrofit market and to a lesser extent, original equipment manufacturers ("OEMs"). Our customersOEMs. Customers include the United States Department of Defense ("DoD")DoD and theirits commercial contractors, aircraft operators, aircraft modification centers, foreign militaries, and various OEMs. Although we occasionally sell ourOccasionally, IS&S sells its products directly to DoD; however, the DoD, weCompany sells its products primarily have sold our products to commercial customers for end use in DoD programs. Sales to defense contractors are made on commercial terms, although some of the termination and other provisions of government contracts are applicable to these contracts.
Our costCost of sales related to product sales is comprised of material and components purchased through ourfrom the Company's supplier base and direct in-house assembly labor and overhead costs. Many components we useused in assembling ourthe products are standard, although certain parts are manufactured to meet ourthe Company's specifications. The overhead portion of cost of sales is comprised primarily comprised of salaries and benefits, building occupancy costs, depreciation, supplies, and outside service costs related to our production, purchasing, material control, and quality departments, and warranty costs.
OurIS&S cost of sales related to Engineering—modificationEngineering-Modification and developmentDevelopment ("EMD") is comprised of engineering labor, consulting services, and other costcosts associated with specific design and development projects that are billable under specific customer agreements.
We intendThe Company intends to continue investing in development of new products that complement ourits current product offerings and will expense associated costs as they are incurred.
Our selling,Selling, general and administrative expenses consist of sales, marketing, business development, professional services andcosts; salaries and benefits for executive and administrative personnel as well aspersonnel; facility, costs, recruiting, legal and accounting costs; and other general corporate expenses.
We sell ourIS&S sells its products to agencies of the United States and foreign governments, aircraft operators, aircraft modification centers, and original equipment manufacturers. OurThe Company's customers have been and may continue to be affected by the ongoing adverse economic conditions that currently exist both in the United States and abroad. Such conditions may cause ourthe Company's customers to curtail or delay spending on both new and existing aircraft. Factors that can impact general economic conditions and the level of spending by ourIS&S customers include, but are not limited to, general levels of consumer spending, increases in fuel and energy costs, conditions in the real estate and mortgage markets, labor and healthcare costs, access to credit, consumer confidence, and other macroeconomic
factors affectingwhich can affect spending behavior. In addition, future spending by government agencies may be further reduced due tobecause of declining tax revenues associated with thisthe present economic downturn.environment. If ourthe Company's customers curtail or delay their spending, or are forced to declare bankruptcy or liquidate their operations due to continuingbecause of adverse economic conditions, ourIS&S's revenues and results of operations will be adverselynegatively affected. However, we believethe Company believes that, in a declining economic environment, a customercustomers that may have otherwise elected to purchase newly manufactured aircraft, will insteadmay be interested instead in retrofitting existing aircraft as a cost effective alternative, which will create a market opportunity for ourIS&S's products.
Table On November 29, 2011, AMR Corporation, the parent company of ContentsAmerican Airlines, Inc. and certain of its other U.S.-based subsidiaries filed voluntary petitions for Chapter 11 reorganization in the U.S. Bankruptcy Court for the Southern District of New York. The Company's revenues from American Airlines, Inc. accounted for 5%, 8% and 8% total revenue for the fiscal years 2012, 2011 and 2010, respectively. As at September 30, 2012, orders from American Airlines, Inc. account for a material portion of the Company's backlog. (See Note 13—Commitments and Contingencies in Notes to Consolidated Financial Statements attached).
The companyCompany experienced significant reductions related to overall headcountof personnel costs in fiscal 2009, as2012 and 2011, primarily through resignation and retirements of employees who were not replaced, and a result of a 52 person workforceplanned reduction that was implemented in late fiscal 2008.workforce. The reductions affected most departments in the Company with the majority coming from the engineering department.Company.
Results of Operations
FollowingThe following table sets forth statement of operations data expressed as a percentage of total net sales for the fiscal years indicated (some items may not add due to rounding):
| | Fiscal year Ending September 30th, | Twelve Months Ending September 30, | |||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2009 | 2008 | 2007 | 2012 | 2011 | 2010 | |||||||||||||||
Net sales: | Net sales: | |||||||||||||||||||||
Product | 74.4 | % | 97.8 | % | 92.6 | % | ||||||||||||||||
Engineering—modification and development | 25.6 | % | 2.2 | % | 7.4 | % | ||||||||||||||||
Product | 86.7 | % | 85.0 | % | 82.2 | % | ||||||||||||||||
Total net sales | 100.0 | % | 100.0 | % | 100.0 | % | ||||||||||||||||
Engineering—modification and development | 13.3 | % | 15.0 | % | 17.8 | % | ||||||||||||||||
Cost of sales | ||||||||||||||||||||||
Product | 38.2 | % | 45.8 | % | 42.5 | % | ||||||||||||||||
Engineering—modification and development | 19.0 | % | 0.6 | % | 3.1 | % | ||||||||||||||||
Total net sales | 100.0 | % | 100.0 | % | 100.0 | % | ||||||||||||||||
Cost of sales: | ||||||||||||||||||||||
Product | 45.2 | % | 57.6 | % | 48.9 | % | ||||||||||||||||
Engineering—modification and development | 3.5 | % | 9.7 | % | 28.3 | % | ||||||||||||||||
Total cost of sales | 48.7 | % | 67.3 | % | 77.1 | % | ||||||||||||||||
Total cost of sales | 57.2 | % | 46.4 | % | 45.6 | % | ||||||||||||||||
Gross profit | Gross profit | 51.3 | % | 32.7 | % | 22.9 | % | 42.8 | % | 53.6 | % | 54.4 | % | |||||||||
Operating expenses: | Operating expenses: | |||||||||||||||||||||
Research and development | 11.0 | % | 21.4 | % | 20.7 | % | ||||||||||||||||
Selling, general and administrative | 30.1 | % | 29.9 | % | 32.1 | % | ||||||||||||||||
Research and development | 14.5 | % | 33.7 | % | 28.2 | % | ||||||||||||||||
Total operating expenses | 41.1 | % | 51.3 | % | 52.8 | % | ||||||||||||||||
Selling, general and administrative | 23.5 | % | 73.1 | % | 86.3 | % | ||||||||||||||||
Asset Impairment | 0.0 | % | 8.1 | % | 0.0 | % | ||||||||||||||||
Total operating expenses | 38.0 | % | 114.9 | % | 114.6 | % | ||||||||||||||||
Operating income (loss) | 13.3 | % | (82.2 | )% | (91.7 | )% | ||||||||||||||||
Operating income | 1.7 | % | 2.3 | % | 1.6 | % | ||||||||||||||||
Interest income | Interest income | 1.1 | % | 5.2 | % | 16.8 | % | 0.4 | % | 0.6 | % | 0.7 | % | |||||||||
Interest expense | (0.2 | )% | (0.5 | )% | (1.1 | )% | ||||||||||||||||
Interest (expense) | (0.1 | %) | (0.1 | %) | (0.0 | %) | ||||||||||||||||
Other income | Other income | 0.1 | % | 56.7 | % | 0.0 | % | 0.3 | % | 0.6 | % | 0.2 | % | |||||||||
Income (loss) before income taxes | 2.3 | % | 3.4 | % | 2.5 | % | ||||||||||||||||
Income tax expense (benefit) | (9.8 | %) | 0.7 | % | (0.4 | %) | ||||||||||||||||
Income (loss) before income taxes | 14.3 | % | (20.9 | )% | (76.0 | )% | ||||||||||||||||
Net income | 12.1 | % | 2.7 | % | 3.0 | % | ||||||||||||||||
Income taxes expense (benefit) | 0.6 | % | 4.9 | % | (27.8 | )% | ||||||||||||||||
Net income (loss) | 13.6 | % | (25.9 | )% | (48.2 | )% | ||||||||||||||||
Fiscal Year Ended September 30, 20092012 Compared to Fiscal Year Ended September 30, 20082011
Net sales. Net sales increased $6.2decreased $1.2 million, or 20.3%4.5%, to $36.7$24.5 million for fiscal 20092012 from $30.5$25.7 million for fiscal 2008.2011. For fiscal 2009,2012, product sales increased $5.9decreased $6.9 million and EMD sales increased $0.3$5.7 million from fiscal 2008.2011. The increasedecrease in product sales was primarily relatedthe result of decreased shipments to growth in flat panel display associated with B757/B767 and C130 aircraft, partially offset by sales declines associated withcustomers who slowed or delayed their respective retrofit programs, while the Eclipse 500 aircraft ($12.8 million in 2008 and $0.1 million in 2009), which resulted due to the bankruptcy of Eclipse on November 25, 2008. Excluding Eclipse sales from fiscal 2008, the Company's net sales would have increased $19.0 million or 107% for fiscal 2009. The increase in EMD sales was primarilyresulted from new customer design and EMD programs. For fiscal 2012 and 2011, the Company recognized equal amounts of revenue and cost of $2.4 million and $0, respectively, related to certain contracts for which a resultzero margin approach to applying the percentage of a new agreementcompletion method is used in accordance with the DoD.guidance of Financial Accounting Standards Board Accounting Standards Codification Topic 605-35, "Construction-Type and Production-Type Contracts", which substantially explains the lower gross profit percentage on EMD revenues for the year ended September 30, 2012 when compared to the year ended September 30, 2011.
Cost of sales. Cost of sales decreased $2.7increased $2.1 million, or 12.9%17.8%, to $17.9$14.1 million, or 48.7%57.2% of net sales for fiscal 20092012 from $20.6$11.9 million, or 67%46.4% of net sales for fiscal 2008.2011. The increase resulted primarily from the change in sales mix and the decrease was primarily driven by inventory reservesin product sales volume in fiscal 2008 of approximately $1.9 million, associated with suspension of activity related2012 as compared to the Eclipse program in anticipation of Eclipse's bankruptcy, which occurred on
November 25, 2008, the financial impact of this event did not repeat in fiscal 2009. Decrease was also attributable to lower employee related expenses as2011. As a result of the cost containment efforts described at the end of the Overview section of Management's Discussion and Analysis of Financial Condition and Results of Operations, partially offset by thedecreased sales volume, product cost of sales associated withfor the year ended September 30, 2012 was lower as a percentage of total net sales growth. Costat 38.2% compared to 45.8% for the year ended September 30, 2011. The combination of decreased net sales for fiscal 2009 included reserves of approximately $0.5 million for warranty and costs associated withchange in product support program initiated bymix resulted in a lower gross profit percentage compared to the Company.same period in the prior year.
Research and development. Research and development expense decreased $5.0$2.8 million, or 48%51.0%, to $5.3$2.7 million or 15%11.0% of net sales for fiscal 2009;2012, from $10.3$5.5 million or 34%21.4% of net sales for fiscal 2008.2011. The decreaseddecrease in research and development expense in fiscal 2009for the year ended September 30, 2012 was primarily duethe result of the change in mix whereby a higher number of engineering hours were devoted to a reduction in headcount related costsworking on new customer design and a decrease in costs from third-party subcontractorsEMD programs instead of $3.3 millioninternal research and $3.5 million, respectively, offset by an increase in deferred EMD costs of $1.8 million.development.
Selling, general, and administrative. Selling, general and administrative expenses decreased $13.7$0.3 million, or 61.2%3.7%, to $8.6$7.4 million, or 23.5%30.1% of net sales for fiscal 20092012 from $22.3$7.7 million or 73%29.9% of net sales for fiscal 2008.2011. The slight decrease in selling, general, and administrative expense for the year ended September 30, 2012 was primarily duethe result of a reduced number of personnel compared to the prior year period and cost containment efforts. The increase as a reduction in professional fees, specifically legal costs incurred in connection with litigation relatedpercentage of net sales for the year ended September 30, 2012, compared to protecting its intellectual property, and athe prior year ended September 30, 2011, is attributable primarily to the decrease in headcount related costs of $5.7 million and $2.1 million respectively.net sales.
Interest (income) expense,income, net. Net interest income decreased $1.1 millionby $42,000 to $100,000 or 78%, to $0.3 million0.4% of net sales for fiscal 20092012 from $1.4 million$142,000 or 0.6% of net sales for fiscal 2008 which2011. The decrease in interest income was primarily the resultbecause of lower interest rates during fiscal 20092012 compared to fiscal 2008.2011.
Other income. Other income wasdecreased marginally by $0.1 million forin fiscal 2009 as2012 when compared to $17.3 million for fiscal 2008. Other2011 from proceeds of miscellaneous income in fiscal 2008 was driven by the receipt of $17.0 million in proceeds related to the settlement of the Company's trade secret litigation and $0.3 million related to short-swing profit disgorgement proceeds from a shareholder that occurred in 2008.items.
Income taxes. The income tax benefit for fiscal year ended September 30, 2012 was $2.4 million compared to an income tax expense of $0.2 million for the fiscal year ended September 30, 2011. The tax benefit was attributable primarily to the reversal of valuation allowances of $2.4 million for the fiscal year ended September 30, 2012 related to federal net deferred tax assets in accordance with ASC Topic 740 "Income Taxes" because of the recent history of income before income taxes, together with projections of profitability in fiscal 2013 and future years.
The effective tax benefit rate for the year ended September 30, 2012 was (411.9%). The effective tax benefit rate differs from the statutory rate for the year ended September 30, 2012 primarily because of the reversal of valuation allowances of $2.4 million for the fiscal year ended September 30, 2012 related to federal net deferred tax assets in accordance with ASC Topic 740 "Income Taxes".
The effective tax rate for the year ended September 30, 2011 was 20.4%. The effective tax rate differs from the statutory rate for the year ended September 30, 2011 primarily due to the utilization of research and development tax credits.
The Company had maintained a full valuation allowance against its deferred tax assets in prior years due to uncertainty as to the extent and timing of profitability in future periods. At September 30, 2012, the Company considered all available evidence, including the recent history of pre-tax income, together with projections of profitability in future periods. As a result of this analysis, the Company determined that the positive evidence at September 30, 2012 was sufficient to conclude that it was appropriate to reverse the valuation allowance previously recorded against its net federal deferred tax assets at September 30, 2012. The Company believes that its estimate of future taxable income is inherently uncertain, and if its current or future operations generate losses, further adjustments to the valuation allowance are possible. The current balance of the deferred tax valuation allowance relates principally to net operating losses ("NOL") of certain state taxing jurisdictions. There is currently no assurance of such future income before income taxes.
Net income. As a result of the factors described above, the Company's net income for fiscal 2012 was $3.0 million for fiscal 2012 compared to net income of $0.7 million for fiscal 2011. On a fully diluted basis, the net income per share was $0.18 for fiscal 2012, compared to $0.04 for fiscal 2011.
Fiscal Year Ended September 30, 2011 Compared to Fiscal Year Ended September 30, 2010
Net sales. Net sales increased $0.5 million, or 1.9%, to $25.7 million for fiscal 2011 from $25.2 million for fiscal 2010. For fiscal 2011, product sales increased $1.8 million and EMD sales decreased $1.3 million from fiscal 2010. The increase in product sales was primarily the result of sales to new commercial customers and retrofit upgrades for Eclipse E500 aircraft owners through Eclipse Aerospace Inc., while the decrease in EMD sales was primarily the result of a reduction in volume and a delayed contract award.
Cost of sales. Cost of sales increased $0.4 million, or 3.7%, to $11.9 million, or 46.4% of net sales for fiscal 2011 from $11.5 million, or 45.6% of net sales for fiscal 2010. The increase resulted primarily from an increase in variable production costs associated with increased sales volume and higher material costs in fiscal 2011 compared to fiscal 2010.
Research and development. Research and development expense increased $0.3 million, or 5.1%, to $5.5 million or 21.4% of net sales for fiscal 2011 from $5.2 million, or 20.7% of net sales for fiscal 2010. This increase resulted from research and development investment incurred to win EMD contracts, and is consistent with the Company's strategy to target a percentage of total sales in a given period, for the purposes of continued investment in on-going research and development. The Company's R&D expense consists primarily of payroll-related expenses of employees engaged in R&D activities, engineering related product materials and equipment and subcontracting costs.
Selling, general, and administrative. Selling, general and administrative expenses decreased $0.4 million, or 5.1%, to $7.7 million, or 29.9% of net sales for fiscal 2011 from $8.1 million or 32.1% of net sales for fiscal 2010. The decrease was primarily the result of a reduction in selling expenses (primarily reduced participation in trade shows) and travel expenses during the year.
Interest income, net. Net interest income decreased slightly by $43,000 to $142,000 or 0.6% of net sales for fiscal 2011 from $186,000 or 0.7% of net sales for fiscal 2010. The decrease was primarily because of lower interest rates during fiscal 2011 compared to fiscal 2010.
Other income. Other income increased marginally by $0.1 million in fiscal 2011 compared to fiscal 2010 from proceeds of settlements of legal proceedings.
Income taxes. The income tax expense for fiscal 2009year ended September 30, 2011 was $0.2 million compared to $1.5an income tax benefit of $0.1 million for the fiscal 2008. Decreasedyear ended September 30, 2010. The increase in the amount of tax from a tax benefit to an expense was attributable primarily to the increase in pre-tax income for the fiscal year ended 2011, and less net reversals of deductible temporary differences in the fiscal year ended September 30, 2011 compared to the fiscal year ended September 30, 2010.
The effective tax expense israte for the year ended September 30, 2011 was 20.4%. The effective tax rate differs from the statutory rate for the year ended September 30, 2011 primarily due to the result of: 1)utilization of research and development tax credits.
The effective tax benefit rate for the year ended September 30, 2010 was (17.1%). The effective tax rate differs from the statutory rate for the year ended September 30, 2010 due to the reversal of certain deductible temporary differences in the fiscal year 2009ended September 30, 2010, which at September 30, 20082009 were offset by a valuation allowance, as such reversals generated current tax benefits in fiscal year 2009; and 2) establishment of a full valuation allowance on deferred tax assets during the period ended March 31, 2008. The establishment of the valuation allowance as of March 31, 2008 caused the Company to recognize income tax expense for the twelve months ended September 30, 2008 relating to net deferred tax assets that are not likely to be realized. The Company continues to maintain a full valuation allowance as of thefiscal year ended September 30, 2009 on its net deferred2010, and decreases in uncertain tax assets. In accordance with Statement of Financial Accounting Standard (SFAS 109),Accounting for Income Taxes (ASC Topic 740,Income Taxes) the Company will continue to evaluate the need for a full or partial valuation allowance in future periods.
Effective tax rates for the twelve months ended September 30, 2009 and 2008 were 5% and (24%), respectively. The effective tax rate differs from the statutory rate for the twelve months ended September 30, 2009 due to: 1) reversal of certain deductible temporary differences in fiscal year 2009 which at September 30, 2008 were offset by a valuation allowance, as such reversals generated current tax benefits in fiscal year 2009, and 2) utilization of research and experimentation tax credits. The effective tax rate differs from the statutory rate for the twelve months ended September 30, 2008positions due to the establishmentlapse of a full valuation allowance on net deferred tax assets during the quarter ended March 31, 2008.applicable statutes of limitation.
Net income (loss).income. As a result of the factors described above, ourthe Company's net income for fiscal 20092011 was $5.0 million. The net loss$0.7 million for both fiscal 2008 was ($7.9 million).2011 and fiscal 2010. On a fully diluted basis, the net income per share of $0.30was $0.04 for both fiscal 2009 compares to a loss per share of ($0.47) for fiscal 2008.
Fiscal Year Ended September 30, 2008 Compared to Fiscal Year Ended September 30, 2007
Net sales. Net sales increased $12.2 million or 66% to $30.5 million in fiscal 2008 from $18.3 million in fiscal 2007. Flat panel display system sales for fiscal 2008 grew by $13.9 million or 142% from fiscal 2007 while air data sales for fiscal 2008 declined by $1.7 million or 20% from fiscal 2007. The increase in net sales was the result of a $1.3 million increase in EMD flat panel display system sales associated with the Eclipse 500, Pilatus PC-12 and C-130 airplanes. The increase in product sales of $10.9 million for fiscal 2008 was the result of increased shipments of flat panel display systems associated with the Eclipse 500, and the 757/767 product sold to American Airlines and Federal Express as these programs moved from development into production. The decline in air data product sales was a result of variability in customer demand that is not directly attributable to any particular customer or specific product.
Cost of sales. Cost of sales increased $6.4 million or 45% to $20.6 million, or 67% of net sales, for fiscal 2008 from $14.2 million, or 77% of net sales, for fiscal 2007. The increase in the dollar amount was mainly due to increased volume and establishment of an inventory reserve associated with suspension of activity related to the Eclipse program, due to the bankruptcy of Eclipse on November 28, 2008, offset by a decrease in the direct costs associated with various EMD projects. The dollar amount of product cost of sales increased by $8.6 million or 96% in fiscal 2008 from fiscal 2007. On a percent to product sales basis the increase amounted to eight percentage points from the prior fiscal year.
Research and development. Research and development expenses increased $5.1 million, or 99% to $10.3 million, or 34% of net sales for fiscal 2008 from $5.2 million or 28% of net sales for fiscal 2007. The dollar increase was a result of a significant increase in staffing and other costs to bring a variety of development projects to completion in fiscal 2008. When you combine research and development expenses with EMD cost of sales, combined engineering research and development related expenses increased by $2.9 million or 29% to $13.3 million in fiscal 2008 from $10.4 million in fiscal 2007. The combined increase was due to increased salaries and associated benefits tied to employee additions, consultants and supplies.
Selling, general and administrative expenses. Selling, general and administrative expenses increased $6.5 million or 41% to $22.3 million, or 73% of net sales, for fiscal 2008 from $15.8 million, or 86% of net sales, for fiscal 2007. The increase in the dollar amount was principally due to the establishment of a bad debt reserve related to the Company's decision to suspend activity related to the Eclipse program, due to the bankruptcy of Eclipse on November 28, 2008 and expenses associated with the termination of the former CEO and the retirement of the former CFO.
Interest (income) expense, net. Net interest income decreased $1.5 million or 51% to $1.4 million for fiscal 2008 from $2.9 million for fiscal 2007. The net interest income decline in fiscal 2008 was due to lower average cash balances during the year.
Other income. Other income was $17.3 million for fiscal 2008 primarily the result of receipt of $17.0 million in proceeds related to settlement of the Company's trade secret litigation and $0.3 million related to short-swing profit disgorgement proceeds from a shareholder.
Income taxes. Income tax expense for fiscal 2008 was $1.5 million compared with an income tax benefit for fiscal 2007 of $5.1 million. The effective tax rate for fiscal 2008 was an expense of 24%2011 and for fiscal 2007 was a benefit of 37%. For fiscal 2008 there was no tax benefit due to inability of the Company, per the provisions of SFAS 109 (ASC Topic 740), to recognize tax benefits associated with the current year pretax loss and need to establish a valuation allowance to eliminate the book value of all net deferred tax assets based upon negative evidence that existed. The effective tax rate for fiscal2010.
2007 differs from the statutory rate due to state tax expense, partially offset by utilization of research and development tax credits.
Net income (loss). As a result of the factors described above, our net loss for fiscal 2008 was $7.9 million. The net loss for fiscal 2007 was $8.8 million. On a fully diluted basis, the loss per share of $0.47 for fiscal 2008 compares to a loss per share of $0.52 for fiscal 2007.
Related-Party Transactions:
The Company incurred legal fees of $105,000, $128,000 and $146,000 with a law firm whose partners are shareholders of the Company for the years ended September 30, 2009, 2008 and 2007, respectively. The fees paid and services rendered were comparable with fees paid to other unrelated law firms.
For the years ended September 30, 2009, 2008 and 2007, respectively, we incurred service fees of $0, $67,000 and $18,000 with a commercial graphics firm controlled by an individual who is married to a shareholder and a daughter of the Company's Chairman and Chief Executive Officer.
Liquidity and Capital Resources
| September 30, 2012 | September 30, 2011 | |||||
---|---|---|---|---|---|---|---|
Cash and cash equivalents | $ | 42,977,501 | $ | 42,625,854 | |||
Accounts receivable, net | $ | 3,978,512 | $ | 3,124,114 | |||
Current assets | $ | 54,377,366 | $ | 50,572,834 | |||
Current liabilities | $ | 5,289,828 | $ | 3,240,724 | |||
Deferred revenue | $ | 1,426,552 | $ | 232,630 | |||
Total debt and other non-current liabilities(1) | $ | 227,000 | $ | 769,282 | |||
Quick ratio(2) | 8.88 | 14.12 | |||||
Current ratio(3) | 10.28 | 15.61 |
| Twelve Months Ended September 30, | |||||||||
---|---|---|---|---|---|---|---|---|---|---|
| 2012 | 2011 | 2010 | |||||||
Cash flow activites: | ||||||||||
Net cash provided by operating activites | $ | 1,380,831 | $ | 2,276,166 | $ | 5,600,467 | ||||
Net cash used in investing activites | (217,533 | ) | (255,454 | ) | (189,790 | ) | ||||
Net cash used in financing activites | (811,651 | ) | (311,204 | ) | (60,025 | ) |
The following table highlights key financial measurements of the Company:
| September 30, 2009 | September 30, 2008 | |||||
---|---|---|---|---|---|---|---|
Cash and cash equivalents | $ | 35,565,694 | $ | 35,031,932 | |||
Accounts receivable, net | $ | 6,188,706 | $ | 4,218,443 | |||
Working capital | $ | 44,624,477 | $ | 42,491,253 | |||
Deferred revenue | $ | 225,648 | $ | 564,998 | |||
Total debt and other non-current liabilities(1) | $ | 918,072 | $ | 5,047,146 | |||
Quick ratio | 10.02 | 4.94 | |||||
Current ratio | 11.71 | 6.35 |
| Twelve Months Ending September 30, | |||||||
---|---|---|---|---|---|---|---|---|
| 2009 | 2008 | ||||||
Cash flow activites: | ||||||||
Net cash provided by operating activites | $ | 5,319,549 | $ | 4,196,190 | ||||
Net cash (used in) investing activites | (331,895 | ) | (570,357 | ) | ||||
Net cash (used in) financing activites | (4,453,892 | ) | (17,744,979 | ) |
Our primaryThe Company's principal source of liquidity washas been cash flow provided by operating activities. We requireflows from current year operations and cash accumulated from prior years' operations. Cash is used principally to finance inventory, payrollaccounts receivable and payroll.
Operating Activities
During fiscal 2012, the Company generated $1.4 million in cash from operating activities. Cash generated from operations was due primarily to increases in accounts receivable.payable, accrued expenses and deferred revenues resulting from advance billings to customers as scheduled by the respective EMD program contracts. These were offset partially by increases in inventory and unbilled receivables, which funded materials, inventory and third party service providers to fulfill the Company's obligations under the EMD programs.
The Company generated $2.3 million in cash flow from operating activities during fiscal 2011. A focus on inventory reduction contributed to the positive cash flow, and was offset by increases in accounts receivable and decreases in accounts payable and accrued expenses. Increase in accounts receivable at the end of 2011 was due to higher sales to customers on normal credit terms at the end of the year compared to sales to customers on advance payment terms at the end of 2010.
Cash flow provided by operating activities was $5.3$5.6 million in fiscal 2010, or a $0.3 million increase from fiscal 2009, as compared to $4.2despite the $4.3 million from operating activitiesdecline in net income in fiscal 2008.2010. The $1.1 million differenceincrease was attributable primarily attributable to improved profitabilitydecreases in accounts receivable, prepaid expenses, inventory reductions and a continued focus on inventory reduction, offset by an increase in accounts receivable andincome tax payable, offset by a decrease in accounts payable and accrued expenses and income taxes payable. The Company had negative operating cash flow of $10.6 million for fiscal 2007 primarily as a result of the net operating loss realized.
Table of ContentsInvesting Activities
Cash used in investing activities was $0.2 million, $0.3 million $0.6 million and $3.9$0.2 million for fiscal year 2009, 2008,2012, 2011 and 20072010 respectively, and consisted of spending for licensing fees, production equipment, and laboratory test equipment.equipment and licensing fees. The Company plans to continue investing in capital expenditures at approximately the same level it has in prior years.
Financing Activities
Cash used in financing activities was $4.5$0.8 million for fiscal year 20092012 and consistedwas used primarily for the repurchase of 211,722 shares of the repayment in full of the Industrial Development Bond of $4.3 million and the share repurchases of 25,000 shares ofCompany's common stock for $0.1 million.stock. Cash used in financing activities was $17.7$0.3 million for fiscal year 20082011 and consisted primarily of a special dividendthe repurchase of $16.7 million paid along with share repurchases62,400 shares of $1.0 million.the Company's common stock. Cash provided byused in financing activities was $0.1 million for fiscal 2007 was $0.6 millionyear 2010 and consisted primarily of proceeds from stock option exercises.the repurchase of 12,000 shares of the Company's common stock.
Summary
To accommodate future growth, in 2001 the Company purchased 7.5 acres of land in the Eagleview Corporate Park, Exton, Pennsylvania, where we built a 44,800 square foot facility that is expandable to 65,200 square feet. Both the land and building cost approximate $6.5 million, $4.3 million of which was funded through an Industrial Development Bond (IDB) and the remainder from cash from operations. The Company retired the IDB during August 2009, for $4.3 million.
Our futureFuture capital requirements depend onupon numerous factors, including market acceptance of ourthe Company's products, (in particular flat panel display systems), the timing and rate of expansion of our business, acquisitions, joint ventures, and other factors. We haveIS&S has experienced increases in our expenditures since ourits inception, consistent with growth in our operations, personnel, and product line and we anticipateanticipates that our operations and expenditures will continue to increase in the foreseeable future. We believe ourOn December 7, 2012 the Company's Board of Directors declared a special cash dividend in the amount of $1.50 per share, payable on or about December 27, 2012 to shareholders of record as of the close of business on December 17, 2012. The aggregate amount of the payment to be made in connection with the dividend will be approximately $24.9 million. The Company believes that its cash and cash equivalents after payment of the special cash dividend will still be sufficient to provide sufficient capital to fund our operations for at least the next twelve months. However, weFurther, IS&S may need to raise additional funds through public or private financing or other arrangements in order to support more rapid expansion of our business than we currently anticipate. Potential lenders may have suffered losses related to their lending and other financial relationships, especially because of the general weakening of the national economy and increased financial instability of many borrowers. As a result, lenders may become insolvent or tighten their lending standards, which could make it more difficult for us to borrow or to obtain new financing on favorable terms or at all. Our financial condition and results of operations would be adversely affected if we were unable to obtain cost-effective financing in the future. Further, we may develop and introduce new or enhanced products, to respond to competitive pressures, to invest in or acquire businesses or technologies, or to respond to unanticipated requirements or developments. If additional funds are raised through the issuance of equity securities, dilution to existing shareholders may result. If insufficient funds are available, the Company may not be able to introduce new products or to compete effectively.
Contractual Obligations
OurThe Company's contractual obligations as of September 30, 20092012 mature as follows:
| Payments Due by Period | |||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Contractual Obligations | Total | Less than 1 Year | 1-3 Years | 4-5 Years | After 5 Years | |||||||||||
Office lease | 10,577 | 10,577 | — | — | — | |||||||||||
Purchase obligations* | 1,881,045 | 1,620,695 | 77,282 | 183,068 | — | |||||||||||
Other liabilities | 98,002 | — | 98,002 | — | — | |||||||||||
$ | 1,989,624 | $ | 1,631,272 | $ | 175,284 | $ | 183,068 | $ | — | |||||||
| Payments Due by Period | |||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Total | Less than 1 Year | 1-3 Years | 4-5 Years | After 5 Years | |||||||||||
Contractual Obligations(1) | ||||||||||||||||
Capital Leases, including interest | $ | 41,364 | $ | 13,788 | $ | 27,576 | $ | — | $ | — | ||||||
Purchase Obligations(2) | 1,507,063 | 579,870 | 54,525 | 690,288 | 182,380 | |||||||||||
$ | 1,548,427 | $ | 593,658 | $ | 82,101 | $ | 690,288 | $ | 182,380 | |||||||
order commitments entered in the ordinary course of business with vendors and subcontractors pertaining to fulfillment of ourthe Company's current order backlog.
Off-Balance Sheet Arrangements
The Company has no off-balance sheet arrangements.
Inflation
We doIS&S does not believe inflation had a material effect on ourits financial position or results of operations during the past three years, however, weyears. However, it cannot predict future effects of inflation.
Critical Accounting Policies
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America ("GAAP") requires management to make estimates and assumptions that affect reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements and the reported amount of revenues and expenses during the reporting period. The Company's most critical accounting policies are revenue recognition, income taxes, inventory valuation, share based compensation and warranty reserves.
Revenue recognition
The Company enters into sales arrangements with customers that, in general, provide for the Company to design, develop, manufacture and deliver large flat-panel display systems, flight information computers, large flat-panel displays, and advanced monitoring systems that measure and display critical flight information, including data relative to aircraft separation, airspeed, and altitude, as well as engine and fuel data measurements. The Company's sales arrangements may include multiple deliverables as defined in Emerging Issues Task Force Issue No. 00-21 (EITF 00-21),Revenue Arrangements with Multiple Deliverables (ASCFASB ASC Topic 605-25 "Multiple-Element ArrangementsArrangements" ("ASC Topic 605-25"), which typically include design and engineering services and the production and delivery of the flat panel display and related components. The Company includes any design and engineering services elements in EMD sales and any functional upgrade and product elements in product sales on the accompanying consolidated statement of operations.
To the extent that an arrangement contains software elements that are essential to the functionality of tangible products sold in the arrangement, the Company recognizes revenue for the deliverables in
accordance with the guidance included in FASB Accounting Standards Update 2009-14, "Revenue Arrangements That Include Software Elements", ("ASU 2009-14"), ASU 2009-13 and FASB ASC Topic 605, "Revenue Recognition" ("ASC Topic 605").
To the extent that an arrangement contains software components, which include functional upgrades, that are sold on a standalone basis and which the Company has deemed outside the scope of the exception defined by ASU 2009-14, the Company recognizes software revenue in accordance with ASC Topic 985, "Software" ("ASC Topic 985").
Multiple Element Arrangements—
The Company identifies all goods and/or services that are to be delivered separately under such a sales arrangement and allocates revenue to each deliverable (if more than one) based on that deliverable's fair value.selling price. The Company then considers the appropriate recognition method for each deliverable; deliverables underdeliverable. The Company's multiple element arrangements arecan include typically purchased engineeringdefined design and design servicesdevelopment activities and/or functional upgrades, along with product sales.
The Company utilizes the selling price hierarchy that has been established by FASB Accounting Standards Update 2009-13, "Multiple-Deliverable Revenue Arrangements—a consensus of the FASB Emerging Issues Task Force" ("ASU 2009-13"), which requires that the selling price for each deliverable be based on vendor-specific objective evidence if available, third-party evidence if vendor-specific objective evidence is not available, or estimated selling price if neither vendor-specific objective evidence nor third-party evidence is available. To the extent that an arrangement includes a deliverable for which estimated selling price is used, the Company's determines the best estimate of selling price by applying the same pricing policies and product sales.methodologies that would be used to determine the price to sell the deliverable on a standalone basis.
To the extent that an arrangement contains defined design and developmentEMD activities as an identified deliverable in addition to products (resulting in a multiple element arrangement), the Company recognizes as Engineering—Modification and Development ("EMD")EMD revenue amounts earned during the design and development phase of the contract following the guidance included in the American Institute of Certified Public Accountants ("AICPA") Statement of Position 81-1 (SOP 81-1),Accounting for Performance of Construction-Type and Certain Production-Type Contracts (ASCFASB ASC Topic 605-35, "Construction-Type and Production-Type ContractsContracts" ("ASC Topic 605-35"). To the extent that multiple element arrangements include product sales, revenue is generally recognized once revenue recognition criteria for the product deliverable hashave been met based on the provisions of Staff Accounting Bulletin No. 104 (SAB 104),Revenue Recognition (ASCFASB ASC Topic 605,Revenue Recognition).605. The Company includes any design and engineering services elements in EMD sales and any functional upgrade and product elements in "Product" sales on the accompanying consolidated statement of operations.
Single Element Arrangements—
Products—
To the extent that a single element arrangement provides for product sales and repairs, the Company recognizes revenue is generally recognized oncewhen revenue recognition criteria for the product deliverable hashave been met based on the provisions of SAB 104 (ASCASC Topic 605).605. The Company also receives orders for existing equipment and parts. RevenueGenerally, revenue from the sale of such products is generally recognized upon shipment to the customer.
The Company offers its customers extended warranties for additional fees. These warranty sales are recorded as deferred revenue and recognized as sales on a straight-line basis over the warranty period.
Engineering Services—Engineering—modification and development services
The Company also may enter into service arrangementscontracts to perform specified design and developmentEMD services related to its products. The Company recognizes revenue from these arrangements as EMD revenue, following the guidance included in SOP 81-1 (ASCASC Topic 605-35). The Company605-35, and considers the nature of these service arrangementscontracts (including
term, size of contract, and level of effort) when determining the appropriate accounting treatment for a particular contract. The Company recognizes the revenue fromCertain of these contracts using eitherare accounted for under the percentage-of-completion method or completed contract method of accounting.
The Company records revenue relating to these contracts using the percentage-of-completion methodaccounting when the Company determines that progress toward completion is reasonable and reliably estimable, and the contract is long-term in nature; thenature. The Company uses the completed contract method for all others.others contracts. Sales and earnings under the percentage-of-completion method are recorded based on the ratio of actual costs incurred to total estimated costs expected to be incurred related to the contract under the cost-to-cost method (for development effort).
The percentage-of-completion method of accounting requires the Company to estimate the profit margin for each individual contract, and to apply that profit margin on a uniform basis as sales are recorded under the contract. The estimation of profit margins requires the Company to make projections of the total sales to be generated and the total costs that will be incurred under a contract. These projections require the Company to make numerous assumptions and estimates relating to items such as the complexity of design and related development costs, performance of subcontractors, availability and cost of materials, engineering productivity and cost, overhead and capital costs. These contracts sometime include purchase options for additional quantities and customer change orders for additional or revised product functionality. Sales and costs related to profitable purchase options are included in the Company's estimates only when the options are exercised, while sales and costs related to unprofitable purchase options are included in the Company's estimates when exercise is determined to be probable. Sales related to change orders are included in profit estimates only if they can be reliably estimated and collectability is reasonably assured. Purchase options and change orders are accounted for either as an integral part of the original contract, or separately depending upon the nature and value of the item. Anticipated losses on contracts are recognized in full in the period in which losses become probable and estimable.
For contracts for which uncertainty regarding the performance against certain contract terms remains and in which no loss is expected, the Company uses the zero profit margin approach to applying the percentage of completion method following the guidance included in FASB ASC Topic 605-35.
Estimates of profit margins for contracts are reviewed typically by the Company on a quarterly basis. Assuming the initial estimates of sales and costs under a contract are accurate, the percentage-of-completion method results in the profit margin being recorded evenly as revenue is recognized under the contract. Changes in these underlying estimates due to revisions in sales and cost estimates, or the exercise of contract options may result in profit margins being recognized unevenly over a contract as such changes are accounted for on a cumulative basis in the period estimates are revised. Significant changes in estimates related to accounting for long-term contracts may have a material effect on the Company's results of operations in the period in which the revised estimate is made. Cumulative catch-up adjustments resulting from changes in estimates did not have a material effect on our results of operations during the years ended September 30, 2012, 2011 or 2010.
Income taxes
Income taxes are recorded in accordance with SFAS No. 109 (ASCFASB ASC Topic 740). Provisions740, "Income Taxes" ("ASC Topic 740"), which utilizes a balance sheet approach to provide for federal and state income taxes are calculated on reported financial statement pre-tax income based on current tax law. Thetaxes. Under this method, the Company recognizes deferred tax assets and liabilities for temporary differences between the financial reporting basis and the tax basis of the Company's assets, and liabilities and expected benefits of utilizing net operating loss and tax credit carry forwards.carry-forwards. The impact on deferred taxes of changes in tax rates and laws, if any, are applied to the years during which temporary differences are expected to be settled, and are reflected in the consolidated financial statements in the period of enactment.
As required by SFAS 109 (ASC Topic 740), we record a valuation allowance to reduce our deferredDeferred tax assets toare reduced by valuation allowances if, based on the amount thatconsideration of all available evidence, it is more likely than not to be realized. In evaluating our ability to recover ourthat some portion of the deferred tax assets we consider all available positive and negative evidence, including our operating results, ongoing tax planning, and forecasts of future taxable income on a jurisdiction by jurisdiction basis. In the event we were to determine that we wouldasset will not be able to realize our deferred tax assets in the future in excess of their net recorded amount, we would make an adjustment to the valuation allowance which would reduce the provision for income taxes.
Effective October 1, 2007 (the first day of fiscal 2008), the Company adopted Financial Accounting Standards Board (FASB) Interpretation No. 48 (FIN 48),Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109 (ASC Topic 740,Income Taxes). FIN 48 (ASC Topic 740) prescribes a comprehensive model for how a company should recognize, measure, present and disclose in its financial statements uncertain tax positions that the company has taken or expects to take on a tax return. FIN 48 (ASC Topic 740) states that a tax benefit from an uncertain tax position may be recognized only if it is "more likely than not" that the position is sustainable based on its technical
merits.realized. Significant weight is given to evidence that can be objectively verified, and significant management judgment is required in determining any valuation allowances recorded against net deferred tax assets. The Company evaluates deferred income taxes on a quarterly basis to determine if valuation allowances are required by considering available evidence. Deferred tax assets are recognized when expected future taxable income is sufficient to allow the related tax benefits to reduce taxes that would otherwise be payable. The sources of taxable income that may be available to realize the benefit of deferred tax assets are future reversals of existing taxable temporary differences, future taxable income exclusive of reversing temporary differences and credit carry-forwards, taxable income in carry-back years, and tax planning strategies which are both prudent and feasible. The Company believes that its estimate of future taxable income is inherently uncertain, and if its current or future operations generate losses, further adjustments to the valuation allowance are possible. The current balance of the deferred tax valuation allowance relates principally to net operating losses ("NOL") of certain state taxing jurisdictions. There is currently no assurance of such future income before income taxes.
The accounting for uncertainty in income taxes requires a qualifying position is the largest amountmore likely than not threshold for financial statement recognition and measurement of tax benefit that is greater than 50% likely of being realized upon settlement with a taxing authority having full knowledge of all relevant information. Under FIN 48 (ASC Topic 740), the liability for unrecognized tax benefits is classified as noncurrent unless the liability ispositions taken or expected to be settledtaken in cash within 12 monthsa tax return. The Company records a liability for the difference between the (i) benefit recognized and measured for financial statement purposes and (ii) the tax position taken or expected to be taken on the Company's tax return. To the extent that the Company's assessment of such tax positions changes, the reporting date. We havechange in estimate is recorded in the period in which the determination is made. The Company has elected to record any interest or penalties from theassociated with uncertain tax positionpositions as income tax expense (see Note 10).expense.
Inventory valuation
We prepare and file tax returns based on our interpretation of tax laws and regulations, and we record estimates based on these judgments and interpretations. In the normal course of business, our tax returns are subject to examination by various taxing authorities. Such examinations may result in future tax and interest assessments by these taxing authorities and we record a liability when we believe that it is probable that we will be assessed. We adjust our estimates periodically because of ongoing examinations by and settlements with the various taxing authorities, as well as changes in tax laws, regulations and precedent. The consolidated tax provision of any given year includes adjustments to prior year income tax accruals that are considered appropriate and any related estimated interest. We believe adequate accruals have been made for income taxes. Differences between estimated and actual amounts determined upon ultimate resolution, individually or in the aggregate, are not expected to have a material adverse effect on our consolidated financial position but could possibly be material to our consolidated results of operations or cash flow of any one period.
Inventories
We value ourCompany values inventory at the lower of cost (first-in, first-out) or market through the establishment of inventory reserves.market. Inventories are written down for estimated obsolescence equal to the difference between inventory cost and estimated net realizable value based on a combination of historical usage and assumptions aboutbased on expected usage related to estimated future customer and market conditions. Our reservedemands. The Company's method of valuing inventory contains uncertainties because the calculation requires management to consider inventory aging, to make assumptions regarding expected usage, and to apply judgment regarding inventory aging,judgments on forecasted future demand, market conditions, and technological obsolescence. If actual future demand or market conditions are less favorable than those projected by management, additional inventory write-downswrite-down may be required.
Share-basedStock-based compensation
The Company adopted the provisions of SFAS No. 123(R) (SFAS 123(R)),Share-Based Payment (ASCaccounts for stock-based compensation under FASB ASC Topic 505-50,"Equity-Based Payments to Non-EmployeesNon-Employees" ("ASC Topic 505-50") and FASB ASC Topic 718, "Stock Compensation" ("ASC Topic 718"), usingwhich require the modified prospective approach and now accountsCompany to measure the cost of employee or non-employee director services received in exchange for share-based compensation applyingan award of equity instruments based on the grant-date fair value methodof the award using an option pricing model. That cost is recognized over the period during which an employee or non-employee director is required to provide service in exchange for expensing stock options.the award.
Accordingly, adoption of SFAS 123(R)'s (ASCASC Topic 505-50505-50's and ASC Topic 718)718's fair value method results in recording compensation costs under the Company's stock based compensation plans. We determineThe Company determined the fair value of ourits stock option awards at the date of grant using the Black-Scholes option pricing model. Option-pricingOption pricing models and generally accepted valuation techniques require management to make assumptions and to apply judgment to determine the fair value of ourits awards. These assumptions and judgments include estimating future volatility of ourthe Company's stock price, expected dividend yield, future employee turnover rates and future employee stock option exercise behaviors.
Changes in these assumptions can materially affect fair value estimates. We doThe Company does not believe that there is a reasonable likelihood that there will be a material change in future estimates or assumptions we useused to determine stock-based compensation expense. However, if actual results are not consistent with ourthe Company's estimates or assumptions, we may be exposedthe Company would have to changes in stock-based compensation expense thatadjust its estimates. Such adjustments could be material.have a material impact on the Company's financial position.
Warranty reserves
We offerThe Company offers warranties on someall products of various lengths. At the time of shipment, we establishand when sold separately, the Company establishes a reserve for estimated costs of warranties based on ourits best estimate of the amounts necessary to settle future and existing claims using historical data on products sold as of the balance sheet date. The
length of the warranty period, the product's failure rates and the customer's usage affectsaffect warranty cost. If actual warranty costs of warranties differ from ourthe Company's estimated amounts, future results of operations could be adversely affected. Warranty cost is recorded as cost of sales and the reserve balance recorded as an accrued expense. While the Company maintains product quality programs and processes, its warranty obligation is affected by product failure rates and the related corrective costs. If actual product failure rates and/or corrective costs differ from the estimates, the Company revises estimated warranty liability.
New Accounting Pronouncements
In December 2007,May 2011 the FASB issued SFAS No. 160 (SFAS 160)ASU 2011-04, "Fair Value Measurement (Topic 820),Noncontrolling Interests Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in Consolidated Financial Statements—an Amendment of ARB No. 51 (ASC Topic 810,Consolidation). SFAS 160 (ASC Topic 810) establishes accountingU.S. GAAP and reporting standards for ownership interests in subsidiaries held by parties other thanIFRSs". ("ASU 2011-04"). ASU 2011-04 amends the parent, changes in a parent's ownership of a noncontrolling interest, calculation and disclosure of the consolidated net income attributable to the parent and the noncontrolling interest, changes in a parent's ownership interest while the parent retains its controlling financial interest and fair value measurement of any retained noncontrolling equity investment. SFAS 160 (ASC Topic 810) isand disclosure guidance to converge GAAP and IFRS requirements for measuring amounts at fair value as well as disclosures about these measurements. ASU 2011-04 was to be adopted prospectively and was effective for financial statements issued for fiscal yearsthe interim and annual periods beginning after December 15, 2008 (the Company's fiscal year 2010).2011. The Company does not expect the adoption of SFAS 160 (ASC Topic 810) toASU 2011-04 did not have anya material impact on itsthe Company's consolidated financial statements.
In February 2008,June 2011, the FASB issued FASB Staff Position 157-2 (FSP 157-2),Effective DateASU No. 2011-05, "Comprehensive Income (Topic 220): Presentation of FASB Statement No. 157 (ASC Topic 820,Fair Value Measurements and DisclosuresComprehensive Income" ("ASU 2011-05") which delaysrequires that all non-owner changes in stockholders' equity be presented either in a single continuous statement of comprehensive income or in two separate but consecutive statements. In the two-statement approach, the first statement would present total net income and its components followed consecutively by a second statement that would present total other comprehensive income, the components of other comprehensive income, and the total of comprehensive income. ASU 2011-05 is to be adopted retrospectively and is effective for annual periods beginning after December 2011. The adoption of ASU 2011-05 will not have an impact on the Company's consolidated financial position, results of operations, or cash flows, because the guidance only changes the presentation of financial information. On December 15, 2011, the FASB issued ASU 2011-12 deferring the effective date for implementation of SFAS No. 157 (SFAS 157),Fair Value Measurements (ASC Topic 820,Fair Value Measurements and Disclosures) for nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value onASU 2011-05 related only to reclassification out of accumulated other comprehensive income until a recurring basis, at least annually, until fiscal years beginning after November 15, 2008 (the Company's fiscal year 2010) and interim periods within those fiscal years. The Company does not expect the adoption of SFAS 157 (ASC Topic 820) to have any impact on its financial statements.
In June 2008, the FASB issued FASB Staff Position EITF 03-6-1 (FSP EITF 03-6-1),Determining Whether Instruments Granted in Share-Based Payment Transactions are Participating Securities (ASC Topic 260,Earnings per Share). FSP EITF 03-6-1 (ASC Topic 260) requires that unvested stock-based compensation awards that contain non-forfeitable rights to dividends or dividend equivalents (whether paid or unpaid) should be classified as participating securities and should be included in the computation of earnings per share pursuant to the class method as described by SFAS 128,Earnings per Share (ASC Topic 260,Earnings per Share). FSP EITF 03-6-1(ASC Topic 260) is effective for financial statements issued for fiscal years beginning on or after December 15, 2008 and earlier adoption is prohibited. The Company adopted FSP EITF 03-6-1(ASC Topic 260) on October 1, 2009 and the adoption had no impact on the consolidated financial statements.
In May 2009, the FASB issued SFAS No. 165 (SFAS 165),Subsequent Events (ASC Topic 855,Subsequent Events). SFAS 165 (ASC Topic 855) establishes general accounting for and disclosure of events that occur after the balance sheetlater date but before financial statements are issued or available to be issued. This statement also outlines the circumstances under which an entity would need to record transactions occurringdetermined after the balance sheet date in the financial statements. These new disclosures identify the date through which the entity has evaluated subsequent events. SFAS 165 (ASC Topic 855) is effective for interim or annual financial periods ending after June 15, 2009. The Company adopted SFAS 165 (ASC Topic 855) and the adoption had no impact on the consolidated financial statements.
In June 2009, the FASB issued SFAS No. 168 (SFAS 168),The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles—a Replacement of FASB No. 162 (ASC Topic 105,Generally Accepted Accounting Principles). SFAS 168 (ASC Topic 105) establishes the FASB Accounting Standards Codification as the source of authoritative accounting principles recognizedfurther consideration by the FASB to be applied by nongovernmental entities in the preparation of financial statements in conformity with Generally Accepted Accounting Principles. SFAS 168 (ASC Topic 105) is effective for interim and annual periods ending after September 15, 2009. The Company
adopted SFAS 168 (ASC Topic 105) effective July 1, 2009, and the adoption had no financial impact on the consolidated financial statements.
In October 2009, the FASB issued Accounting Standards Update No. 2009-13 (ASU 2009-13),Multiple-Deliverable Revenue Arrangements which updates ASC Topic 605-25,Multiple Elements Arrangements (formerly EITF 00-21), of the FASB codification. ASU 2009-13 provides new guidance on how to determine if an arrangement involving multiple deliverables contains more than one unit of accounting, and if so allows companies to allocate arrangement considerations in a manner more consistent with the economics of the transaction. ASU 2009-13 is effective for the Company, prospectively, for revenue arrangements entered into or materially modified in fiscal years beginning on or after June 15, 2010; early application is permitted. The Company is currently evaluating the impact of adopting ASU 2009-13 on its financial statements.
In October 2009, the FASB issued Accounting Standards Update No. 2009-14 (ASU 2009-14),Revenue Arrangements That include Software Elements which amends ASC Topic 985-605,Software—Revenue Recognition (formerly SOP 97-2,Software Revenue Recognition) in regard to the scope of software guidance. ASU 2009-14 excludes software components of tangible products that function together to provide the tangible product's essential functionality. While ASU 2009-14 does not create any new methods of revenue recognition, it could significantly affect the Company's recognition of revenue from period to period. ASU 2009-14 is effective for the Company, prospectively, for revenue arrangements entered into or materially modified in fiscal years beginning on or after June 15, 2010; early application is permitted as long as the guidance from ASU 2009-13 is applied. The Company is currently evaluating the impact of adopting ASU 2009-14 on its financial statements.FASB.
Business Segments
The Company operates in one principal business segment which designs, manufactures and sells flight information computers, large flat-panel displays and advanced monitoring systems to the DoD, government agencies, defense contractors, commercial air transport carriers and corporate/general aviation markets. The Company currently derives virtually allthe majority of its revenues from the sale of this equipment and related EMD services. Almost all of the Company's sales, operating results and identifiable assets are in the United States. Net sales, operating results, and identifiable assets outside the U.S. are not significant.
In fiscal year 2009, 2008,2012, 2011, and 20072010 net sales outside the United States amounted to $4.4 million, $1.7$4.0 million and $1.1$2.8 million, respectively.
Item 7A. Quantitative and qualitative disclosures about market risk.
The Company's operations are exposed to market risks primarily as a result of changes in interest rates. The Company does not use derivative financial instruments for speculative or trading purposes. The Company's exposure to market risk for changes in interest rates relates to its cash equivalents. The Company's cash equivalents consist of funds invested in money market accounts, which bear interest at a variable rate. Assuming that the balances during fiscal 20092012 were to remain constant and no actions were taken to alter the existing interest rate sensitivity, a hypothetical 1% increase in ourthe Company's variable interest rates would have affected interest income by approximately $0.4 million. This would result in a net impact on cash flows of approximately $0.4 million for fiscal 2009.2012.
Item 8. Financial statements and supplementary data.
The financial statements of Innovative Solutions and Support, Inc. listed in the index appearing under Item 8 herein are filed as part of this Report.
Innovative Solutions and Support, Inc.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
| Page | |
---|---|---|
Report of Independent Registered Public Accounting Firm | ||
Consolidated Balance Sheets | ||
Consolidated Statements of Operations | ||
Consolidated Statements of Shareholders' Equity | ||
Consolidated Statements of Cash Flows | ||
Notes to Consolidated Financial Statements |
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders of
Innovative Solutions and Support, Inc.
Exton, Pennsylvania
We have audited the accompanying consolidated balance sheets of Innovative Solutions and Support, Inc. and subsidiaries (the "Company") as of September 30, 20092012 and 2008,2011, and the related consolidated statements of operations, cash flows, and shareholders' equity for each of the three years in the period ended September 30, 2009.2012. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of the Company as of September 30, 20092012 and 2008,2011, and the results of its operations and its cash flows for each of the three years in the period ended September 30, 2009,2012, in conformity with accounting principles generally accepted in the United States of America.
As discussed in Note 10 to the consolidated financial statements, the Company adopted Financial Accounting Standards Board Interpretation No. 48,Accounting for Uncertainty in Income Taxes (ASC Topic 740,Income Taxes), effective October 1, 2007.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the Company's internal control over financial reporting as of September 30, 2009,2012, based on the criteria established inInternal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated December 14, 200912, 2012 expressed an unqualified opinion on the Company's internal control over financial reporting.
/s/ DELOITTE & TOUCHE LLP
Philadelphia, Pennsylvania
December 14, 20092012
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
CONSOLIDATED BALANCE SHEETS
| | September 30, 2009 | September 30, 2008 | September 30, 2012 | September 30, 2011 | |||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
ASSETS | ASSETS | ASSETS | ||||||||||||||
CURRENT ASSETS: | ||||||||||||||||
Current assets | ||||||||||||||||
Cash and cash equivalents | $ | 42,977,501 | $ | 42,625,854 | ||||||||||||
Accounts receivable, net | 3,978,512 | 3,124,114 | ||||||||||||||
Inventories | 3,801,547 | 3,508,595 | ||||||||||||||
Deferred income taxes | 1,588,162 | 438,635 | ||||||||||||||
Prepaid expenses and other current assets | 2,031,644 | 875,636 | ||||||||||||||
Cash and cash equivalents | $ | 35,565,694 | $ | 35,031,932 | ||||||||||||
Accounts receivable, net | 6,188,706 | 4,218,443 | ||||||||||||||
Inventories | 5,306,985 | 9,361,257 | ||||||||||||||
Deferred income taxes | 503,993 | 414,636 | ||||||||||||||
Prepaid expenses and other current assets | 1,227,413 | 1,406,260 | ||||||||||||||
Total current assets | 48,792,791 | 50,432,528 | ||||||||||||||
Total current assets | 54,377,366 | 50,572,834 | ||||||||||||||
Property and equipment, net | Property and equipment, net | 8,343,701 | 8,958,346 | 7,214,378 | 7,476,362 | |||||||||||
Non-current deferred income taxes | 846,887 | — | ||||||||||||||
Other assets | Other assets | 399,520 | 505,840 | 158,600 | 208,408 | |||||||||||
TOTAL ASSETS | $ | 57,536,012 | $ | 59,896,714 | ||||||||||||
Total assets | $ | 62,597,231 | $ | 58,257,604 | ||||||||||||
LIABILITIES AND SHAREHOLDERS' EQUITY | LIABILITIES AND SHAREHOLDERS' EQUITY | LIABILITIES AND SHAREHOLDERS' EQUITY | ||||||||||||||
CURRENT LIABILITIES: | ||||||||||||||||
Current liabilities | ||||||||||||||||
Current portion of capitalized lease obligations | $ | — | $ | 13,189 | ||||||||||||
Accounts payable | 1,139,464 | 443,516 | ||||||||||||||
Accrued expenses | 2,723,812 | 2,551,389 | ||||||||||||||
Deferred revenue | 1,426,552 | 232,630 | ||||||||||||||
Current portion of capitalized lease obligations | $ | 9,908 | $ | 9,908 | ||||||||||||
Total current liabilities | 5,289,828 | 3,240,724 | ||||||||||||||
Non-current deferred income taxes | 128,998 | 566,963 | ||||||||||||||
Other liabilities | 98,002 | 189,130 | ||||||||||||||
Accounts payable | 1,207,990 | 2,349,981 | ||||||||||||||
Total liabilities | 5,516,828 | 3,996,817 | ||||||||||||||
Accrued expenses | 2,785,560 | 5,130,463 | ||||||||||||||
Commitments and contingencies (See Note 13) | — | — | ||||||||||||||
Shareholders' equity | ||||||||||||||||
Preferred Stock, 10,000,000 shares authorized, $.001 par value, of which 200,000 shares are authorized as Class A Convertible stock. No shares issued and outstanding at September 30, 2012 and 2011 | — | — | ||||||||||||||
Common stock, $.001 par value: 75,000,000 shares authorized, 18,329,314 and 18,286,884 issued at September 30, 2012 and 2011, respectively | 18,329 | 18,287 | ||||||||||||||
Additional paid-in capital | 47,845,732 | 47,206,690 | ||||||||||||||
Retained earnings | 29,605,236 | 26,626,242 | ||||||||||||||
Treasury stock, at cost, 1,756,632 and 1,544,910 shares at September 30, 2012 and 2011, respectively | (20,388,894 | ) | (19,590,432 | ) | ||||||||||||
Deferred revenue | 164,856 | 450,923 | ||||||||||||||
Total current liabilities | 4,168,314 | 7,941,275 | ||||||||||||||
Note payable | — | 4,335,000 | ||||||||||||||
Long-term portion of capitalized lease obligations | 26,991 | 37,633 | ||||||||||||||
Deferred revenue | 60,792 | 114,075 | ||||||||||||||
Deferred income taxes | 642,651 | 414,636 | ||||||||||||||
Other liabilities | 238,522 | 249,969 | ||||||||||||||
Total liabilities | 5,137,270 | 13,092,588 | ||||||||||||||
Commitments and contingencies (Note 14) | — | — | ||||||||||||||
Shareholder's Equity: | ||||||||||||||||
Preferred Stock, 10,000,000 shares authorized, $.001 par value, of which 200,000 shares are authorized as Class A Convertible stock. No share issued and outstanding at September 30, 2009 and 2008 | — | — | ||||||||||||||
Common stock, $.001 par value: 75,000,000 shares authorized, 18,206,839 and 18,177,024 issued at September 30, 2009 and 2008, respectively | 18,207 | 18,177 | ||||||||||||||
Additional paid-in capital | 46,462,135 | 45,767,960 | ||||||||||||||
Retained earnings | 25,161,276 | 20,152,615 | ||||||||||||||
Treasury stock | (19,242,876 | ) | (19,134,626 | ) | ||||||||||||
Total shareholders' equity | 52,398,742 | 46,804,126 | ||||||||||||||
Total Shareholders' Equity | 57,080,403 | 54,260,787 | ||||||||||||||
Total liabilities and shareholders' equity | Total liabilities and shareholders' equity | $ | 57,536,012 | $ | 59,896,714 | $ | 62,597,231 | $ | 58,257,604 | |||||||
The accompanying notes are an integral part of these statements.
INNOVATIVE SOLUTIONS &AND SUPPORT, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
| For the Fiscal Year Ended September 30, | |||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2009 | 2008 | 2007 | |||||||||
Net sales: | ||||||||||||
Product | $ | 31,855,060 | $ | 25,946,917 | $ | 15,083,465 | ||||||
Engineering—modification and development | 4,879,090 | 4,586,394 | 3,264,663 | |||||||||
Total net sales | 36,734,150 | 30,533,311 | 18,348,128 | |||||||||
Cost of sales: | ||||||||||||
Product | 16,601,739 | 17,584,314 | 8,968,939 | |||||||||
Engineering—modification and development | 1,294,245 | 2,967,543 | 5,185,486 | |||||||||
Total cost of sales | 17,895,984 | 20,551,857 | 14,154,425 | |||||||||
Gross profit | 18,838,166 | 9,981,454 | 4,193,703 | |||||||||
Operating expenses: | ||||||||||||
Research and development | 5,313,007 | 10,304,279 | 5,180,360 | |||||||||
Selling, general and administrative | 8,647,506 | 22,306,016 | 15,840,255 | |||||||||
Asset Impairment | — | 2,475,000 | — | |||||||||
Total operating expenses | 13,960,513 | 35,085,295 | 21,020,615 | |||||||||
Operating income (loss) | 4,877,653 | (25,103,841 | ) | (16,826,912 | ) | |||||||
Interest income | 398,041 | 1,576,599 | 3,090,919 | |||||||||
Interest expense | (82,276 | ) | (160,867 | ) | (204,317 | ) | ||||||
Other income | 50,099 | 17,300,000 | — | |||||||||
Income (loss) before income taxes | 5,243,517 | (6,388,109 | ) | (13,940,310 | ) | |||||||
Income taxes expense (benefit) | 234,856 | 1,509,139 | (5,095,022 | ) | ||||||||
Net income (loss) | $ | 5,008,661 | $ | (7,897,248 | ) | $ | (8,845,288 | ) | ||||
Net income (loss) per common share: | ||||||||||||
Basic | $ | 0.30 | $ | (0.47 | ) | $ | (0.52 | ) | ||||
Diluted | $ | 0.30 | $ | (0.47 | ) | $ | (0.52 | ) | ||||
Weighted average shares outstanding: | ||||||||||||
Basic | 16,745,379 | 16,887,049 | 16,865,028 | |||||||||
Diluted | 16,760,500 | 16,887,049 | 16,865,028 | |||||||||
| For the Fiscal Year Ended September 30, | |||||||||
---|---|---|---|---|---|---|---|---|---|---|
| 2012 | 2011 | 2010 | |||||||
Net sales: | ||||||||||
Product | $ | 18,289,963 | $ | 25,174,846 | $ | 23,383,504 | ||||
Engineering—modification and development | 6,288,235 | 562,806 | 1,873,819 | |||||||
Total net sales | 24,578,198 | 25,737,652 | 25,257,323 | |||||||
Cost of sales | ||||||||||
Product | 9,389,904 | 11,790,885 | 10,732,091 | |||||||
Engineering—modification and development | 4,678,029 | 154,299 | 787,938 | |||||||
Total cost of sales | 14,067,933 | 11,945,184 | 11,520,029 | |||||||
Gross profit | 10,510,265 | 13,792,468 | 13,737,294 | |||||||
Operating expenses: | ||||||||||
Research and development | 2,693,554 | 5,500,924 | 5,234,240 | |||||||
Selling, general and administrative | 7,400,199 | 7,683,637 | 8,099,587 | |||||||
Total operating expenses | 10,093,753 | 13,184,561 | 13,333,827 | |||||||
Operating income | 416,512 | 607,907 | 403,467 | |||||||
Interest income | 101,012 | 143,942 | 188,171 | |||||||
Interest (expense) | (598 | ) | (1,509 | ) | (2,356 | ) | ||||
Other income | 65,005 | 150,010 | 50,000 | |||||||
Income before income taxes | 581,931 | 900,350 | 639,282 | |||||||
Income tax (benefit) expense | (2,397,063 | ) | 183,760 | (109,094 | ) | |||||
Net income | $ | 2,978,994 | $ | 716,590 | $ | 748,376 | ||||
Net income per common share: | ||||||||||
Basic | $ | 0.18 | $ | 0.04 | $ | 0.04 | ||||
Diluted | $ | 0.18 | $ | 0.04 | $ | 0.04 | ||||
Weighted Average Shares Outstanding: | ||||||||||
Basic | 16,641,895 | 16,782,223 | 16,751,528 | |||||||
Diluted | 16,641,900 | 16,824,621 | 16,777,886 | |||||||
The accompanying notes are an integral part of these statements.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
| Common Stock | Additional Paid-in Capital | Retained Earnings | Treasury Stock | Total | Common Stock | Additional Paid-In Capital | Retained Earnings | Treasury Stock | Total | ||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Balance, September 30, 2006 | 18,088 | 43,230,352 | 53,039,341 | (18,086,428 | ) | 78,201,353 | ||||||||||||||||||||||||||
Exercise of options to purchase common stock | 58 | 652,060 | — | — | 652,118 | |||||||||||||||||||||||||||
Share-based compensation | — | 505,652 | — | — | 505,652 | |||||||||||||||||||||||||||
Issuance of stock to directors | 15 | 219,929 | 219,944 | |||||||||||||||||||||||||||||
Net loss | — | — | (8,845,288 | ) | — | (8,845,288 | ) | |||||||||||||||||||||||||
Balance, September 30, 2007 | 18,161 | 44,607,993 | 44,194,053 | (18,086,428 | ) | 70,733,779 | ||||||||||||||||||||||||||
Exercise of options to purchase common stock | 5 | 22,055 | — | — | 22,060 | |||||||||||||||||||||||||||
Balance, September 30, 2009 | $ | 18,207 | $ | 46,462,135 | $ | 25,161,276 | $ | (19,242,876 | ) | $ | 52,398,742 | |||||||||||||||||||||
Share-based compensation | 938,013 | — | — | 938,013 | — | 169,565 | — | — | 169,565 | |||||||||||||||||||||||
Issuance of stock to directors | 11 | 199,899 | — | — | 199,910 | 38 | 199,946 | — | — | 199,984 | ||||||||||||||||||||||
Purchase of treasury stock | — | — | — | (1,048,198 | ) | (1,048,198 | ) | — | — | — | (48,630 | ) | (48,630 | ) | ||||||||||||||||||
Cumulative effect of adoption of FIN 48 | — | — | 587,324 | — | 587,324 | |||||||||||||||||||||||||||
Dividends | (16,731,514 | ) | (16,731,514 | ) | ||||||||||||||||||||||||||||
Net loss | — | — | (7,897,248 | ) | — | (7,897,248 | ) | |||||||||||||||||||||||||
Net Income | — | — | 748,376 | — | 748,376 | |||||||||||||||||||||||||||
Balance, September 30, 2008 | 18,177 | 45,767,960 | 20,152,615 | (19,134,626 | ) | 46,804,126 | ||||||||||||||||||||||||||
Balance, September 30, 2010 | $ | 18,245 | $ | 46,831,646 | $ | 25,909,652 | $ | (19,291,506 | ) | $ | 53,468,037 | |||||||||||||||||||||
Share-based compensation | 494,084 | — | — | 494,084 | — | 177,399 | — | — | 177,399 | |||||||||||||||||||||||
Issuance of stock to directors | 30 | 200,091 | — | — | 200,121 | 42 | 197,645 | — | — | 197,687 | ||||||||||||||||||||||
Purchase of treasury stock | — | — | — | (108,250 | ) | (108,250 | ) | — | — | — | (298,926 | ) | (298,926 | ) | ||||||||||||||||||
Net income | — | — | 5,008,661 | — | 5,008,661 | — | — | 716,590 | — | 716,590 | ||||||||||||||||||||||
Balance, September 30, 2009 | $ | 18,207 | $ | 46,462,135 | $ | 25,161,276 | $ | (19,242,876 | ) | $ | 52,398,742 | |||||||||||||||||||||
Balance, September 30, 2011 | $ | 18,287 | $ | 47,206,690 | $ | 26,626,242 | $ | (19,590,432 | ) | $ | 54,260,787 | |||||||||||||||||||||
Share-based compensation | — | 439,085 | — | — | 439,085 | |||||||||||||||||||||||||||
Issuance of stock to directors | 42 | 199,957 | — | — | 199,999 | |||||||||||||||||||||||||||
Purchase of treasury stock | — | — | — | (798,462 | ) | (798,462 | ) | |||||||||||||||||||||||||
Net income | — | — | 2,978,994 | — | 2,978,994 | |||||||||||||||||||||||||||
Balance, September 30, 2012 | $ | 18,329 | $ | 47,845,732 | $ | 29,605,236 | $ | (20,388,894 | ) | $ | 57,080,403 | |||||||||||||||||||||
The accompanying notes are an integral part of these statements.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
| | For the Twelve Months Ended September 30 | For the Fiscal Year Ended September 30, | |||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2009 | 2008 | 2007 | 2012 | 2011 | 2010 | |||||||||||||||||
CASH FLOWS FROM OPERATING ACTIVITIES: | CASH FLOWS FROM OPERATING ACTIVITIES: | |||||||||||||||||||||||
Net income | $ | 2,978,994 | $ | 716,590 | $ | 748,376 | ||||||||||||||||||
Adjustments to reconcile net income to net cash provided by operating activities: | ||||||||||||||||||||||||
Depreciation and amortization | 529,325 | 672,196 | 826,748 | |||||||||||||||||||||
Deposit forfeiture, installation kits | — | — | 118,660 | |||||||||||||||||||||
Share-based compensation expense: | ||||||||||||||||||||||||
Stock options | 444,507 | 170,586 | 171,491 | |||||||||||||||||||||
Nonvested stock awards | 199,998 | 199,712 | 199,946 | |||||||||||||||||||||
Excess tax adjustment from share-based compensation: | ||||||||||||||||||||||||
Nonvested stock awards | (5,422 | ) | 6,813 | (1,926 | ) | |||||||||||||||||||
Provision for (recovery) loss on accounts receivable | (1,373 | ) | 17,225 | — | ||||||||||||||||||||
Loss on disposal of property and equipment | — | 2,413 | 4,917 | |||||||||||||||||||||
Excess and obsolete inventory cost | 113,456 | 471,496 | — | |||||||||||||||||||||
Deferred income taxes | (2,434,379 | ) | 751 | (11,081 | ) | |||||||||||||||||||
(Increase) decrease in: | ||||||||||||||||||||||||
Accounts receivable | (853,025 | ) | (611,363 | ) | 3,658,730 | |||||||||||||||||||
Inventories | (406,408 | ) | 676,301 | 650,593 | ||||||||||||||||||||
Prepaid expenses and other current assets | (1,156,008 | ) | 78,066 | 273,711 | ||||||||||||||||||||
Other non-current assets | — | (121,237 | ) | — | ||||||||||||||||||||
Increase (decrease) in: | ||||||||||||||||||||||||
Accounts Payable | 695,948 | (100,362 | ) | (664,113 | ) | |||||||||||||||||||
Accrued expenses | 192,101 | (188,354 | ) | (200,500 | ) | |||||||||||||||||||
Income taxes payable | (110,805 | ) | 219,324 | (116,058 | ) | |||||||||||||||||||
Deferred revenue | 1,193,922 | 66,009 | (59,027 | ) | ||||||||||||||||||||
Net income (loss) | $ | 5,008,661 | $ | (7,897,248 | ) | $ | (8,845,288 | ) | ||||||||||||||||
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities: | ||||||||||||||||||||||||
Depreciation and amortization | 1,085,316 | 1,048,267 | 946,215 | |||||||||||||||||||||
Share-based compensation expense: | ||||||||||||||||||||||||
Stock options | 490,989 | 938,013 | 505,652 | |||||||||||||||||||||
Nonvested stock awards | 200,121 | 199,910 | 219,944 | |||||||||||||||||||||
Tax benefit from share-based arrangements: | ||||||||||||||||||||||||
Stock options | — | 10,497 | 162,985 | |||||||||||||||||||||
Nonvested stock awards | 3,095 | (21,655 | ) | (3,588 | ) | |||||||||||||||||||
Provision for losses on accounts receivable | 185,848 | 4,077,319 | — | |||||||||||||||||||||
Excess tax benefits from share-based payments arrangements | — | (11,424 | ) | (154,873 | ) | |||||||||||||||||||
Loss on disposal of property and equipment | 56,678 | 9,531 | 7,278 | |||||||||||||||||||||
Excess and obsolete inventory expense | 506,656 | 1,856,827 | 100,000 | |||||||||||||||||||||
Asset Impairment | — | 2,475,000 | — | |||||||||||||||||||||
Deferred income taxes | (89,357 | ) | 1,227,955 | (635,096 | ) | |||||||||||||||||||
(Increase) decrease in: | — | |||||||||||||||||||||||
Accounts receivable | (2,156,111 | ) | (2,047,156 | ) | (2,915,475 | ) | ||||||||||||||||||
Inventories | 3,547,616 | (1,854,289 | ) | (2,997,639 | ) | |||||||||||||||||||
Prepaid expenses and other current assets | 178,847 | 4,802,544 | (2,143,108 | ) | ||||||||||||||||||||
Other non current assets | (1,870 | ) | (41,080 | ) | (88,446 | ) | ||||||||||||||||||
Increase (decrease) in: | ||||||||||||||||||||||||
Accounts payable | (1,141,991 | ) | (1,727,808 | ) | 3,718,971 | |||||||||||||||||||
Accrued expenses | (1,658,551 | ) | 1,046,955 | 1,548,291 | ||||||||||||||||||||
Income taxes payable | (686,352 | ) | — | |||||||||||||||||||||
Deferred revenue | (339,350 | ) | (145,937 | ) | (1,682 | ) | ||||||||||||||||||
Other non current liabilities | 129,304 | 249,969 | — | |||||||||||||||||||||
Net cash provided by (used in) operating activities | 5,319,549 | 4,196,190 | (10,575,859 | ) | ||||||||||||||||||||
Net cash provided by operating activities | 1,380,831 | 2,276,166 | 5,600,467 | |||||||||||||||||||||
CASH FLOWS FROM INVESTING ACTIVITIES: | CASH FLOWS FROM INVESTING ACTIVITIES: | |||||||||||||||||||||||
Purchases of property and equipment | (217,533 | ) | (255,454 | ) | (189,790 | ) | ||||||||||||||||||
Purchases of property and equipment | (332,515 | ) | (573,357 | ) | (1,276,508 | ) | ||||||||||||||||||
Purchase of other assets | — | — | (2,616,500 | ) | ||||||||||||||||||||
Proceeds on sale of property and equipment | 620 | 3,000 | — | |||||||||||||||||||||
Net cash used in investing activities | (331,895 | ) | (570,357 | ) | (3,893,008 | ) | ||||||||||||||||||
Net cash (used in) investing activities | (217,533 | ) | (255,454 | ) | (189,790 | ) | ||||||||||||||||||
CASH FLOWS FROM FINANCING ACTIVITIES: | CASH FLOWS FROM FINANCING ACTIVITIES: | |||||||||||||||||||||||
Purchase of treasury stock | (798,462 | ) | (298,926 | ) | (48,630 | ) | ||||||||||||||||||
Repayment of capitalized lease obligations | (13,189 | ) | (12,278 | ) | (11,431 | ) | ||||||||||||||||||
Other | — | — | 36 | |||||||||||||||||||||
Repayment of Industrial Development Bond | (4,335,000 | ) | — | — | ||||||||||||||||||||
Net cash (used in) financing activities | (811,651 | ) | (311,204 | ) | (60,025 | ) | ||||||||||||||||||
Proceeds from exercise of stock options | — | 33,218 | 492,721 | |||||||||||||||||||||
Net increase in cash and cash equivalents | 351,647 | 1,709,508 | 5,350,652 | |||||||||||||||||||||
Cash and cash equivalents, beginning of year | 42,625,854 | 40,916,346 | 35,565,694 | |||||||||||||||||||||
Purchase of treasury shares | (108,250 | ) | (1,048,198 | ) | — | |||||||||||||||||||
Dividend paid | — | (16,731,514 | ) | — | ||||||||||||||||||||
Repayment of capitalized lease obligations | (10,642 | ) | (9,909 | ) | (12,478 | ) | ||||||||||||||||||
Excess tax benefits from share-based payments arrangements | — | 11,424 | 154,873 | |||||||||||||||||||||
Net cash (used in) provided by financing activities | (4,453,892 | ) | (17,744,979 | ) | 635,116 | |||||||||||||||||||
Net increase (decrease) in cash and cash equivalents | 533,762 | (14,119,146 | ) | (13,833,751 | ) | |||||||||||||||||||
Cash and cash equivalents, beginning of period | 35,031,932 | 49,151,078 | 62,984,829 | |||||||||||||||||||||
Cash and cash equivalents, end of period | $ | 35,565,694 | $ | 35,031,932 | $ | 49,151,078 | ||||||||||||||||||
Cash and cash equivalents, end of year | $ | 42,977,501 | $ | 42,625,854 | $ | 40,916,346 | ||||||||||||||||||
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION | SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION | |||||||||||||||||||||||
Cash paid for interest | $ | 599 | $ | 1,509 | $ | 2,357 | ||||||||||||||||||
Cash paid for interest | $ | 48,303 | $ | 120,650 | $ | 164,091 | ||||||||||||||||||
Cash paid for income tax | $ | 153,327 | $ | 11,500 | $ | 121,473 | ||||||||||||||||||
Cash received from income tax refund | $ | 4,096 | $ | 43,253 | $ | 1,000 | ||||||||||||||||||
Cash paid for income tax | $ | 804,486 | $ | 9,073 | $ | — | ||||||||||||||||||
Cash received from income tax refunds | $ | (25,115 | ) | $ | (5,107,269 | ) | $ | (2,424,704 | ) | |||||||||||||||
The accompanying notes are an integral part of these statements.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Background:
Innovative Solutions and Support, Inc., (the "Company" or "IS&S"), was incorporated in Pennsylvania on February 12, 1988. The Company's primary businessCompany is the design, manufacturea systems integrator that designs, manufactures and sale ofsells flight information computers, large flat panel displaysguidance and advanced monitoringcockpit display systems tofor original equipment manufacturers ("OEMs") and retrofit applications. Customers include commercial air transport carriers and corporate/general/aviation companies, the Department of Defense ("DoD"), defense and its commercial contractors, commercial air transportaircraft operators, aircraft modification centers, foreign militaries and corporate/general aviation markets.various OEMs.
2. Concentrations:
Major Customers and Products
In fiscal 2009, 2008,2012, 2011 and 20072010, the Company derived 56%63%, 72%61%, and 58%48%, respectively, of total sales from five customers, although not all the same customers in each year. Accounts receivable related to those top five customers was $2.8$1.7 million, $2.3$1.8 million, and $4.7$0.3 million for fiscal 2009, 2008,as at September 30, 2012, 2011 and 2007,2010, respectively.
InDuring fiscal 2009 two2012, three of the Company's customers, American AirlinesEclipse Aerospace, FedEx, and the United States Department of Defense,National Nuclear Security Administration accounted for 24%20%, 14%, and 11%13% of total sales, respectively. In fiscal 20082011, two of the Company's customers, Eclipse Aerospace and Fed Ex,FedEx, accounted for 42%20% and 10%15% of total sales, respectively. In fiscal 2007 three2010, two of the Company's customers, United States Department of Defense, EclipseLockheed Martin and Western Aircraft,FedEx, accounted for 20%, 16%11% and 11%10% of total sales, respectively.
Sales of air data systems and components were 25%13%, 23%21%, and 47%32% of total sales for the years ended September 30, 2009, 2008,2012, 2011 and 20072010, respectively. Flat Panel sales were 75%87%, 77%79%, and 53%68% of total sales in the years ended September 30, 2009, 2008,2012, 2011 and 20072010, respectively. Sales to government contractors and agencies accounted for approximately 46%45%, 23%30%, and 36%43% of total sales during fiscal years 2009, 2008,2012, 2011 and 2007,2010, respectively. While under these contracts the government agency or general contractor typically retains the right to terminate the contract at any time at its convenience, to date these contracts have generally have included provisions requiring the payment to the Company of all revenue earned and costs incurred by the Company through the date of contract termination and do not entitle the customer to receive a refund of any previously paid fees.
On November 29, 2011, AMR Corporation, the parent company of AAI and certain of its other U.S.-based subsidiaries filed voluntary petitions for Chapter 11 reorganization in the U.S. Bankruptcy Court for the Southern District of New York. The Company's revenues from AAI accounted for 5%, 8% and 8% total revenue for the fiscal years 2012, 2011 and 2010, respectively. (See also Note 13—Commitments and Contingencies).
Major Suppliers
The Company currently buys several of its components from sole source suppliers. Although there are a limited number of manufacturers of particular components, management believes other suppliers could provide similar components on comparable terms.
During fiscal 2009 two suppliers, AMES (previously named ABX Air Inc)2012 and Arrow Electronics2011 the Company had one supplier who accounted for 38%20% and 10%27%, respectively, of the Company's total inventory related purchases, respectively.purchases.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
2. Concentrations: (Continued)
Concentration of Credit Risk
Financial instruments that potentially subject the Company to concentration of credit risk consist principally of cash balances and accounts receivable. The Company invests its excess cash where preservation of principal is the major consideration. The Company's customer base consists principally consists of companies within the aviation industry. The Company routinely requestsmay request advance payments and/or letters of credit from new customers.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
2. Concentrations: (Continued)customers or existing customers whose credit ratings do not meet the Company's standards for extending normal credit terms.
The Company maintained a reservereserves for doubtful accounts in the amount of $0.2 million and $4.1$0.2 million for fiscal year 2009at September 30, 2012 and 2008,2011, respectively. The current reserve balance isbalances for both fiscal 20092012 and 2011 related to sales of EMDEngineering—Modification and Development services ("EMD") to a customer that was negatively impacted by the current economic environment. The increase inAs of September 30, 2012, the reserve for doubtful accounts in fiscal year 2008 was related toCompany had pre-Bankruptcy outstanding accounts receivable of $760,000 from Eclipse Aviation, a customer that filed for bankruptcy under Chapter 11 subsequent toAAI. Based on the Company's year end. During fiscal 2009present status of the Bankruptcy proceedings, the Company wrote offis not able to determine the entire Eclipse receivable against the previously established reserve. There were no accounts receivable write-offs in fiscal 2008.amount, if any, that could be uncollectible. (See also Note 13—Commitments and Contingencies).
3. Summary of Significant Accounting Policies:
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and its subsidiaries. All significant inter-company balances and transactions have been eliminated in consolidation.
Use of Estimates
Preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect reported amounts of assets and liabilities, and disclosure of contingent assets and liabilities, as of the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Estimates are used in accounting for, among other items, allowance for doubtful accounts, inventory obsolescence, product warranty cost liability, income taxes, percentage of completion on customer funded EMD contracts, and contingencies. Actual results could differ materially from those estimates.
Cash and Cash Equivalents
Highly liquid investments purchased with an original maturity of three months or less are classified as cash equivalents. Cash equivalents at September 30, 20092012 and 20082011 consist of fundscash invested in money market accountsfunds with financial institutions.
Inventories
Inventories are stated at the lower of cost (first-in, first-out) or market and consist of the following:
| September 30, 2009 | September 30, 2008 | |||||
---|---|---|---|---|---|---|---|
Raw materials | $ | 3,535,109 | $ | 4,705,134 | |||
Work-in-process | 315,179 | 3,046,451 | |||||
Finished goods | 1,456,697 | 1,609,672 | |||||
$ | 5,306,985 | $ | 9,361,257 | ||||
The balances above are net of Excess and Obsolete Inventory reserves of $3.3 million and $2.8 million for fiscal 2009 and 2008, respectively.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
3. Summary of Significant Accounting Policies: (Continued)
Inventory valuation
Inventories are stated at the lower of cost (first-in, first-out) or market and consist of the following:
| September 30, 2012 | September 30, 2011 | |||||
---|---|---|---|---|---|---|---|
Raw materials | $ | 2,752,833 | $ | 2,520,437 | |||
Work-in-process | 555,495 | 223,437 | |||||
Finished goods | 493,219 | 764,721 | |||||
$ | 3,801,547 | $ | 3,508,595 | ||||
Property and Equipment
Property and equipment isare stated at cost. Depreciation is provided using an accelerated method over estimated useful lives of the assets (the lesser of three to seven years or over the lease term), except for the corporate airplane and manufacturing facility, which are depreciated using the straight-line method over a straight-line method.estimated useful lives of ten years and thirty-nine years. During fiscal 2012, no depreciation was provided for the airplane because it had been depreciated to its estimated salvage value. Major additions and improvements are capitalized, while maintenance and repairs that do not improve or extend the life of assets are charged to expense as incurred. Depreciation expense was $0.9 million and $1.0 million for the fiscal years ended September 30, 2009 and 2008, respectively.
Long-Lived Assets
The Company assesses the impairment of long-lived assets in accordance with SFAS No. 144 (SFAS 144),Accounting for the Impairment or Disposal of Long-Lived Assets (ASCFASB ASC Topic 360-10, "Property, Plant and Equipment)Equipment". This statement requires that long-lived assets be reviewed for impairment whenever events or changes in circumstances indicate the carrying amount of an asset may not be recoverable. Also, in general,In addition, long-lived assets to be disposed of should be reported at the lower of the carrying amount or fair value less cost to sell. The Company considers historical performance and future estimated results in its evaluation of potential impairment and then compares the carrying amount of the asset to estimated future cash flows expected to result from use of the asset. If the carrying amount of the asset exceeds the estimated expected undiscounted future cash flows, the Company measures the amount of the impairment by comparing the carrying amount of the asset to its fair value. The estimation of fair value is generally measured by discounting expected future cash flows. No impairment charges were recorded in fiscal year 2009, in fiscal year 2008 the Company recorded an asset impairment charge of $2.5 million.years 2012, 2011 or 2010.
Revenue Recognition
The Company enters into sales arrangements with customers that, in general, provide for the Company to design, develop, manufacture and deliver large flat-panel display systems, flight information computers large flat-panel displays, and advanced monitoring systems that measure and display critical flight information, including data relative to aircraft separation, airspeed, and altitude, as well asand engine and fuel data measurements. The Company's sales arrangements may include multiple deliverables as defined in Emerging Issues Task Force Issue No. 00-21(EITF 00-21),FASB ASC Topic 605-25, "Revenue Arrangements with Multiple Deliverables (ASC Topic 605-25,Multiple-ElementElement Arrangements" ("ASC Topic 605-25"), which typically include customer funded design, and engineeringEMD services, and production and delivery of the flat panel display and related components. The Company includes any design and EMD elements in EMD sales, and any
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
3. Summary of Significant Accounting Policies: (Continued)
functional upgrades and product elements in product sales on the accompanying consolidated statement of operations.
To the extent that an arrangement contains software elements that are essential to the functionality of tangible products sold in the arrangement, the Company recognizes revenue for the deliverables in accordance with the guidance included in FASB Accounting Standards Update No. 2009-14, "Revenue Arrangements That Include Software Elements" ("ASU 2009-14"), ASU 2009-13, and FASB ASC Topic 605, "Revenue Recognition" ("ASC Topic 605").
To the extent that an arrangement contains software components, which include functional upgrades, that are sold on a standalone basis and which the Company has deemed outside the scope of the exception defined by ASU 2009-14, the Company recognizes software revenue in accordance with ASC Topic 985,"Software", although no such sales have occurred to date.
Multiple Element Arrangements—Arrangements
The Company identifies all goods and/or services that are to be delivered separately under such a sales arrangement and allocates revenue to each deliverable (if more than one) based on that deliverable's fair value.selling price. The Company then considers the appropriate recognition method for each deliverable; deliverables underdeliverable. The Company's multiple element arrangements are typically purchased engineeringcan include defined design and design servicesEMD activities and/or functional upgrades, along with product sales.
The Company utilizes the selling price hierarchy that has been established by FASB Accounting Standards Update No. 2009-13, "Multiple Deliverable Revenue Arrangements—a consensus of the FASB Emerging Issues Task Force" ("ASU 2009-13"), which requires that the selling price for each deliverable be based on vendor specific objective evidence if available, third party evidence if vendor specific objective evidence is not available, or estimated selling price if neither vendor specific objective evidence nor third party evidence is available. To the extent that an arrangement includes a deliverable for which estimated selling price is used, the Company determines the best estimate of selling price by applying the same pricing policies and product sales.methodologies that would be used to determine the price to sell the deliverable on a standalone basis.
To the extent that an arrangement contains defined design and developmentEMD activities as an identified deliverable in addition to products (resulting in a multiple element arrangement), the Company recognizes as Engineering—Modification and Development ("EMD")EMD revenue amounts earned during the design and developmentEMD phase of the contract following the guidance included in the American Institute of Certified Public Accountants ("AICPA") Statement of Position 81-1 (SOP 81-1),FASB ASC Topic 605-35, "Accounting for Performance of Construction-Type and CertainProduction-Type Contracts" ("ASC Topic 605-35"). To the extent that multiple element arrangements include product sales, the Company recognizes revenue when revenue recognition criteria for the product deliverable have been met based on the provisions of ASC Topic 605. The Company includes any design and engineering services elements in EMD sales, and any functional upgrades and product elements in product sales on the accompanying consolidated statement of operations.
Single Element Arrangements
Products
To the extent that a single element arrangement provides for product sales and repairs, the Company recognizes revenue when revenue recognition criteria for the product deliverable have been
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
3. Summary of Significant Accounting Policies: (Continued)
Production-Type Contracts (ASC Topic 605-35,Construction-Type and Production-Type Contracts). To the extent that multiple element arrangements include product sales, revenue is generally recognized once revenue recognition criteria for the product deliverable has been met based on the provisions of Staff Accounting Bulletin No. 104 (SAB 104),Revenue Recognition (ASCASC Topic 605,Revenue Recognition).
Single Element Arrangements—
Products—
To the extent that a single element arrangement provides for product sales and repairs, revenue is generally recognized once revenue recognition criteria for the product deliverable has been met based on the provisions of SAB 104 (ASC Topic 605).605. The Company also receives orders for existing equipment and parts. RevenueGenerally, revenue from the sale of such products is generally recognized upon shipment to the customer.
The Company offers its customers extended warranties for additional fees. These warranty sales are recorded as deferred revenue and recognized as sales on a straight-line basis over the warranty period.
Engineering Services—Engineering—modification and development services
The Company also may enter into service arrangementscontracts to perform specified design and developmentEMD services related to its products. The Company recognizes revenue from these arrangements as EMD revenue, following the guidance included in SOP 81-1(ASC Topic 605-35). The Company605-35, and considers the nature of these service arrangementscontracts (including term, size of contract, level of effort) when determining the appropriate accounting treatment for a particular contract. The Company recognizes the revenue fromCertain of these contracts using eitherare accounted for under the percentage-of-completion method or completed contract method of accounting.
The Company records revenue relating to these contracts using the percentage-of-completion methodaccounting when the Company determines that progress toward completion is reasonable and reliably estimable, and the contract is long-term in nature; thenature. The Company uses the completed contract method for all others.others contracts. Sales and earnings under the percentage-of-completion method are recorded based on the ratio of actual costs incurred to total estimated costs expected to be incurred related to the contract under the cost-to-cost method (for development effort).
The percentage-of-completion method of accounting requires the Company to estimate the profit margin for each individual contract, and to apply that profit margin on a uniform basis as sales are recorded under the contract. The estimation of profit margins requires the Company to make projections of the total sales to be generated and the total costs that will be incurred under a contract. These projections require the Company to make numerous assumptions and estimates relating to items such as the complexity of design and related development costs, performance of subcontractors, availability and cost of materials, engineering productivity and cost, overhead and capital costs. These contracts sometime include purchase options for additional quantities and customer change orders for additional or revised product functionality. Sales and costs related to profitable purchase options are included in the Company's estimates only when the options are exercised, while sales and costs related to unprofitable purchase options are included in the Company's estimates when exercise is determined to be probable. Sales related to change orders are included in profit estimates only if they can be reliably estimated and collectability is reasonably assured. Purchase options and change orders are accounted for either as an integral part of the original contract, or separately depending upon the nature and value of the item. Anticipated losses on contracts are recognized in full in the period in which losses become probable and estimable.
For contracts for which uncertainty regarding the performance against certain contract terms remains and in which no loss is expected, the Company uses the zero profit margin approach to applying the percentage of completion method following the guidance included in FASB ASC Topic 605-35.
Estimates of profit margins for contracts are reviewed typically by the Company on a quarterly basis. Assuming the initial estimates of sales and costs under a contract are accurate, the percentage-of-completion method results in the profit margin being recorded evenly as revenue is recognized under the contract. Changes in these underlying estimates due to revisions in sales and cost estimates, or the exercise of contract options may result in profit margins being recognized unevenly over a contract as such changes are accounted for on a cumulative basis in the period estimates are
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
3. Summary of Significant Accounting Policies: (Continued)
revised. Significant changes in estimates related to accounting for long-term contracts may have a material effect on the Company's results of operations in the period in which the revised estimate is made. Cumulative catch-up adjustments resulting from changes in estimates did not have a material effect on our results of operations during the years ended September 30, 2012, 2011 or 2010.
Income Taxes
Income taxes are recorded in accordance with SFAS No. 109 (ASCFASB ASC Topic 740)740, "Income Taxes" ("ASC Topic 740"), which principally utilizes a balance sheet approach to provide for income taxes. Under this method, the Company recognizes deferred tax assets and liabilities for temporary differences between the financial reporting basis and the tax basis of the Company's assets, and liabilities and expected benefits of utilizing net operating loss and tax credit carryforwards.carry-forwards. The impact on deferred taxes of changes in tax rates and laws, if any, are applied to the years during which temporary differences are expected to be settled and are reflected in the consolidated financial statements in the period of enactment.
Deferred tax assets are reduced by valuation allowances if, based on the consideration of all available evidence, it is more likely than not that some portion of the deferred tax asset will not be realized. Significant weight is given to evidence that can be verified objectively, and significant management judgment is required in determining any valuation allowances recorded against net deferred tax assets. The Company evaluates deferred income taxes on a quarterly basis to determine if valuation allowances are required by considering available evidence. Deferred tax assets are recognized when expected future taxable income is sufficient to allow the related tax benefits to reduce taxes that would otherwise be payable. The sources of taxable income that may be available to realize the benefit of deferred tax assets are future reversals of existing taxable temporary differences, future taxable income exclusive of reversing temporary differences and credit carry-forwards, taxable income in carry-back years, and tax planning strategies which are both prudent and feasible. The Company believes that its estimate of future taxable income is inherently uncertain, and if its current or future operations generate losses, further adjustments to the valuation allowance are possible. The current balance of the deferred tax valuation allowance relates principally to net operating losses ("NOL") of certain state taxing jurisdictions. There is currently no assurance of such future income before income taxes.
The accounting for uncertainty in income taxes requires a more likely than not threshold for financial statement recognition and measurement of tax positions taken or expected to be taken in a tax return. The Company records a liability for the difference between the (i) benefit recognized and measured for financial statement purposes and (ii) the tax position taken or expected to be taken on the Company's tax return. To the extent that the Company's assessment of such tax positions changes, the change in estimate is recorded in the period in which the determination is made. The Company has elected to record any interest or penalties associated with uncertain tax positions as income tax expense.
The Company files a consolidated United States federal income tax return (see Note 10).
Effective October 1, 2007 (the first dayreturn. The Company prepares and files tax returns based on the interpretation of fiscal 2008), income tax contingencieslaws and regulations, and records estimates based on these judgments and interpretations. In the normal course of business, the tax returns are accounted forsubject to examination by various taxing authorities. Such examinations may result in accordance with FASB Interpretation No. 48 (FIN 48),"Accounting for Uncertainty in Income Taxes—future tax and interest assessments by these taxing authorities, and the Company records a liability when it is probable that there will be an Interpretationassessment. The Company adjusts the estimates periodically as a result of FASB Statement No. 109 (ASC Topic 740,Income Taxes), which prescribes a comprehensive model for how a company should recognize, measure, present and disclose in itsongoing
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
3. Summary of Significant Accounting Policies: (Continued)
financial statements uncertainexaminations by and settlements with the various taxing authorities, and changes in tax positionslaws, regulations and precedent. The consolidated tax provision of any given year includes adjustments to prior years' income tax accruals that the company has taken or expects to take on a tax return. Significant judgment is required in determining our provision for income taxes and recording the related assets and liabilities. In the normal course of our business, there are transactions and calculations where the ultimate tax determination is less than certain. The Company and its subsidiaries are subject to examination by Federal and state tax authorities. The Company regularly assesses the potential outcomes of these examinationsconsidered appropriate, and any future examinations for the current or prior years in determining the adequacy of the provisionrelated estimated interest. Management believes that adequate accruals have been made for income taxes. The Company continually assesses the likelihoodDifferences between estimated and amount of potential adjustments and records any necessary adjustmentsactual amounts determined upon ultimate resolution, individually or in the period in whichaggregate, are not expected to have a material effect on the facts that give riseCompany's consolidated financial position, but could possibly be material to a revision become known. The Company has elected to recordits consolidated results of operations or cash flow of any interest or penalties from the uncertain tax position as income tax expense (see Note 10).one period.
Research andEngineering Development
ResearchTotal engineering development expense is comprised of both internally funded R&D and product development and design charges related to specific customer contracts. Engineering development expense consists primarily of payroll-related expenses of employees engaged in engineering development projects, engineering related product materials and equipment and subcontracting costs. R&D charges incurred for product design, product enhancements and future product development are expensed as incurred. Product development and design charges incurred related to a specific customer agreement thatcontracts are billable are capitalized and then charged to cost of sales—engineeringsales-engineering modification and development asbased on the revenue relatedmethod of contract accounting (either percentage of completion or completed contract) applicable to the agreements are recognized.such contracts.
Comprehensive Income
Pursuant to SFAS No. 130 (SFAS 130),Reporting Comprehensive Income (ASCFASB ASC Topic 220,Comprehensive Income) "Comprehensive Income" ("ASC Topic 220"), the Company is required to classify items of other comprehensive income by their nature in a financial statement and display the accumulated balance of other comprehensive income separately from retained earnings and additional paid-in capital in the equity section of ourits condensed consolidated balance sheets. For fiscal 20092012 and 2008,2011, comprehensive income consistsconsisted of net income only, and there were no items of other comprehensive income for any of the periods presented.
Fair Value of Financial Instruments
The Company adopted SFAS No. 157 (SFAS 157),Fair Value Measurements (ASC Topic 820,Fair Value Measurementsnet carrying amounts of cash and Disclosures) in the first quarter of fiscal 2009 for financial assetscash equivalents, accounts receivable, cash overdraft, accounts payable and liabilities. This standard definesshort-term debt approximate their fair value asdue to the price at which an asset could be exchanged in a current transaction between knowledgeable, willing parties. A liability's fair value is defined as the amount that would be paid to transfer the liability to a new obligor, not the amount that would be paid to settle the liability with the creditor.
Assetsshort-term nature of these instruments. For financial assets and liabilities measured at fair value are categorized based uponon a recurring basis, fair value is the level of judgment associatedprice the Company would receive to sell an asset or pay to transfer a liability in an orderly transaction with a market participant at the measurement date. A three-level fair value hierarchy prioritizes the inputs used to measure their fair value. Hierarchical levels, defined by SFAS 157 (ASC Topic 820) and directly related to the amount of subjectivity associated with the inputs to fair valuation of these assets and liabilities, arevalue as follows:
Level 1—Unadjusted quoted prices that are available in active markets for the identical assets or liabilities at the measurement date.
Level 2—Other observable inputs available at the measurement date, other than quoted prices included in Level 1, either directly or indirectly, including:
Level 1— | Unadjusted quoted prices that are available in active markets for the identical assets or liabilities at the measurement date. | |||
Level 2— | Other observable inputs available at the measurement date, other than quoted prices included in Level 1, either directly or indirectly, including: | |||
• Quoted prices for similar assets or liabilities in active markets; | ||||
• Quoted prices for identical or similar assets in non-active markets; | ||||
• Inputs other than quoted prices that are observable for the asset or liability; and | ||||
• Inputs that are derived principally from or corroborated by other observable market data. |
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
3. Summary of Significant Accounting Policies: (Continued)
Level 3—Unobservable inputs that cannot be corroborated by observable market data and reflect the use of significant management judgment. These values are generally determined using pricing models for which the assumptions utilize management's estimates of market participant assumptions.
Level 3— | Unobservable inputs that cannot be corroborated by observable market data and reflect the use of significant management judgment. These values are generally determined using pricing models for which the assumptions utilize management's estimates of market participant assumptions. |
The following table sets forth by level within the fair value hierarchy the Company's financial assets and liabilities that were accounted for at fair value on a recurring basis as of September 30, 20092012 and 2008,2011, according to the valuation techniques the Company used to determine their fair values.
| Fair Value Measurement on September 30, 2009 | |||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|
| Quoted Price in Active Markets for Identical Assets | Significant Other Observable Inputs | Significant Unobservable Inputs | |||||||||
| (Level 1) | (Level 2) | (Level 3) | |||||||||
Assets | ||||||||||||
Cash and cash equivalents: | ||||||||||||
Money market funds | $ | 34,793,543 | $ | — | $ | — |
| Fair Value Measurement on September 30, 2012 | |||||||||
---|---|---|---|---|---|---|---|---|---|---|
| Quoted Price in Active Markets for Identical Assets | Significant Other Observable Inputs | Significant Unobservable Inputs | |||||||
| (Level 1) | (Level 2) | (Level 3) | |||||||
Assets | ||||||||||
Cash and cash equivalents: | ||||||||||
Money market funds | $ | 40,384,756 | $ | — | $ | — |
| Fair Value Measurement on September 30, 2008 | |||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|
| Quoted Price in Active Markets for Identical Assets | Significant Other Observable Inputs | Significant Unobservable Inputs | |||||||||
| (Level 1) | (Level 2) | (Level 3) | |||||||||
Assets | ||||||||||||
Cash and cash equivalents: | ||||||||||||
Money market funds | $ | 33,394,283 | $ | — | $ | — |
| Fair Value Measurement on September 30, 2011 | |||||||||
---|---|---|---|---|---|---|---|---|---|---|
| Quoted Price in Active Markets for Identical Assets | Significant Other Observable Inputs | Significant Unobservable Inputs | |||||||
| (Level 1) | (Level 2) | (Level 3) | |||||||
Assets | ||||||||||
Cash and cash equivalents: | ||||||||||
Money market funds | $ | 40,330,266 | $ | — | $ | — |
Stock-BasedShare-Based Compensation
The Company accounts for stock-basedshare-based compensation under SFAS No. 123(R) (SFAS 123(R)),Share-Based Payment (ASCFASB ASC Topic 505-50, "Equity-Based Payments to Non-EmployeesNon-Employees" ("ASC Topic 505-50") and ASC Topic 718, "Stock CompensationCompensation" ("ASC Topic 718"), which requires the Company to measure the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award using an option pricing model. That cost is recognized over the period during which an employee is required to provide service in exchange for the award.
Warranty
We offerIS&S offers warranties on someall products of various lengths. At the time of shipment, we establishthe Company establishes a reserve for estimated costs of warranties based on ourits best estimate of the amounts necessary to settle future and existing claims using historical data on products sold as of the balance sheet date. The length of the warranty period, the product's failure rates and the customer's usage affectsaffect warranty cost. If actual warranty costs differ from the Company's estimated amounts, future results of operations could be adversely affected. Warranty cost is recorded as cost of sales and the reserve balance recorded as an accrued expense. While the Company maintains product quality programs and processes, its warranty obligation is affected by product failure rates and the related corrective costs. If actual product failure rates and/or corrective costs differ from the estimates, the Company revises estimated warranty liability.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
3. Summary of Significant Accounting Policies: (Continued)
If actual warranty costs differ from our estimated amounts, future results of operations could be adversely affected.
New Accounting Pronouncements
In December 2007,May 2011 the FASB issued SFAS No. 160 (SFAS 160),ASU 2011-04,Noncontrolling Interests"Fair Value Measurement (Topic 820), Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in Consolidated Financial Statements—an Amendment of ARB No. 51 (ASC Topic 810,Consolidation)U.S. GAAP and IFRSs". SFAS 160 (ASC Topic 810) establishes accounting and reporting standards for ownership interests in subsidiaries held by parties other than("ASU 2011-04"). ASU 2011-04 amends the parent, changes in a parent's ownership of a noncontrolling interest, calculation and disclosure of the consolidated net income attributable to the parent and the noncontrolling interest, changes in a parent's ownership interest while the parent retains its controlling financial interest and fair value measurement of any retained noncontrolling equity investment. SFAS 160 (ASC Topic 810) isand disclosure guidance to converge GAAP and IFRS requirements for measuring amounts at fair value as well as disclosures about these measurements. ASU 2011-04 was to be adopted prospectively and was effective for financial statements issued for fiscal yearsthe interim and annual periods beginning after December 15, 2008 (the Company's fiscal year 2010).2011. The Company does not expect the adoption of SFAS 160 (ASC Topic 810) toASU 2011-04 did not have anya material impact on its financial statements.
In February 2008, the FASB issued FASB Staff Position 157-2 (FSP 157-2),Effective Date of FASB Statement No. 157 (ASC Topic 820,Fair Value Measurements and Disclosures) which delays the effective date of SFAS No. 157 (SFAS 157),Fair Value Measurements (ASC Topic 820,Fair Value Measurements and Disclosures) for nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value on a recurring basis, at least annually, until fiscal years beginning after November 15, 2008 (the Company's fiscal year 2010) and interim periods within those fiscal years. The Company does not expect the adoption of SFAS 157 (ASC Topic 820) to have any impact on itsconsolidated financial statements.
In June 2008,2011, the FASB issued FASB Staff Position EITF 03-6-1 (FSP EITF 03-6-1),ASU No. 2011-05, "Determining Whether Instruments GrantedComprehensive Income (Topic 220): Presentation of Comprehensive Income" ("ASU 2011-05") which requires that all non-owner changes in Share-Based Payment Transactions are Participating Securitiesstockholders' equity be presented either in a single continuous statement of comprehensive income or in two separate but consecutive statements. In the two-statement approach, the first statement would present total net income and its components followed consecutively by a second statement that would present total other comprehensive income, the components of other comprehensive income, and the total of comprehensive income. ASU 2011-05 is to be adopted retrospectively and is effective for annual periods beginning after December 2011. The adoption of ASU 2011-05 will not have an impact on the Company's consolidated financial position, results of operations, or cash flows, because the guidance only changes the presentation of financial information. In December 15, 2011, the FASB issued ASU 2011-12 deferring the effective date for implementation of ASU 2011-05 related only to reclassification out of accumulated other comprehensive income until a later date to be determined after further consideration by the FASB.
4. Net Income Per Share:
(ASCNet income per share is calculated pursuant to ASC Topic 260,Earnings per Share ("ASC Topic 260"). FSP EITF 03-6-1 (ASC Topic 260) requires that unvested stock-based compensation awards that contain non-forfeitable rights to dividends or dividend equivalents (whether paid or unpaid) should be classified as participating securities and should be included in the computation ofBasic earnings per share pursuant to the class method as described by SFAS 128,Earnings per Share (ASC Topic 260,Earnings per Share). FSP EITF 03-6-1(ASC Topic 260) is effective for financial statements issued for fiscal years beginning on or after December 15, 2008 and earlier adoption is prohibited. The Company adopted FSP EITF 03-6-1(ASC Topic 260) on October 1, 2009 and the adoption of FSP EITF 03-6-1(ASC Topic 260) had no impact on the consolidated financial statements.
In May 2009, the FASB issued SFAS No. 165 (SFAS 165),Subsequent Events (ASC Topic 855,Subsequent Events). SFAS 165 (ASC Topic 855) establishes general accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or available to be issued. This statement also outlines the circumstances under which an entity would need to record transactions occurring after the balance sheet date in the financial statements. These new disclosures identify the date through which the entity has evaluated subsequent events. SFAS 165 (ASC Topic 855) is effective for interim or annual financial periods ending after June 15, 2009. The Company adopted SFAS 165 (ASC Topic 855) and the adoption had no impact on the consolidated financial statements.
In June 2009, the FASB issued SFAS No. 168 (SFAS 168),The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles—a Replacement of FASB No. 162 (ASC Topic 105,Generally Accepted Accounting Principles). SFAS 168 (ASC Topic 105)
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
3. Summary of Significant Accounting Policies: (Continued)
establishes the FASB Accounting Standards Codification as the source of authoritative accounting principles recognized by the FASB to be applied by nongovernmental entities in the preparation of financial statements in conformity with Generally Accepted Accounting Principles. SFAS 168 (ASC Topic 105) is effective for interim and annual periods ending after September 15, 2009. The Company adopted SFAS 168 (ASC Topic 105) effective July 1, 2009, and the adoption had no financial impact on the consolidated financial statements.
In October 2009, the FASB issued Accounting Standards Update No. 2009-13 (ASU 2009-13),Multiple-Deliverable Revenue Arrangements which updates ASC Topic 605-25,Multiple Elements Arrangements (formerly EITF 00-21), of the FASB codification. ASU 2009-13 provides new guidance on how to determine if an arrangement involving multiple deliverables contains more than one unit of accounting, and if so allows companies to allocate arrangement considerations in a manner more consistent with the economics of the transaction. ASU 2009-13 is effective for the Company, prospectively, for revenue arrangements entered into or materially modified in fiscal years beginning on or after June 15, 2010; early application is permitted. The Company is currently evaluating the impact of adopting ASU 2009-13 on its financial statements.
In October 2009, the FASB issued Accounting Standards Update No. 2009-14 (ASU 2009-14),Revenue Arrangements That include Software Elements which amends ASC Topic 985-605,Software—Revenue Recognition (formerly SOP 97-2,Software Revenue Recognition("EPS") in regard to the scope of software guidance. ASU 2009-14 excludes software components of tangible products that function together to provide the tangible product's essential functionality. While ASU 2009-14 does not create any new methods of revenue recognition, it could significantly affect the Company's recognition of revenue from period to period. ASU 2009-14 is effective for the Company, prospectively, for revenue arrangements entered into or materially modified in fiscal years beginning on or after June 15, 2010; early application is permitted as long as the guidance from ASU 2009-13 is applied. The Company is currently evaluating the impact of adopting ASU 2009-14 on its financial statements.
4. Net Income (Loss) Per Share:
Net income (loss) per share is calculated pursuant to SFAS 128 (ASC Topic 260). Net income (loss) per share (EPS) excludesexclude potentially dilutive securities and is computed by dividing net income by the weighted average number of Common shares outstanding for the period. Diluted EPS is computed assuming the conversion or exercise of all dilutive securities such as employee stock options.
In fiscal 20092012 there was a difference of 15,121five shares between basic weighted average shares outstanding and diluted weighted average shares outstanding used in the computation of diluted EPS. There is noIn fiscal 2011 there was a difference of 42,398 shares between basic weighted average shares outstanding and diluted weighted average shares outstanding used to computein the computation of diluted EPS forEPS. In fiscal year 2008, due to2010 there was a difference of 26,358 shares between basic weighted average shares outstanding and diluted weighted average shares outstanding used in the Company experiencing a net loss.computation of diluted EPS.
The number of incremental shares from the assumed exercise of stock options is calculated by using the treasury stock method. As of September 30, 2012 and 2011, there were 836,200 and 617,800 options to purchase common stock outstanding, respectively. For fiscal year 2009, 425,9492012, 806,200 options to purchase common stock were excluded from the computation of diluted earnings per share, asbecause the effect would be anti-dilutive. For the fiscal years ended September 30, 2009 and 2008, there were 606,549 and 750,608year 2011, 184,300 options to purchase common stock outstanding, respectively. For fiscal year 2008 and 2007, these options were excluded from the computation of diluted earnings per share, asbecause the effect would be anti-dilutive.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
5. Prepaid expenses and other current assets:
Prepaid expenses and other current assets consist of the following:
| September 30, 2009 | September 30, 2008 | September 30, 2012 | September 30, 2011 | ||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Revenue recognized not yet invoiced | $ | 491,417 | $ | 747,789 | $ | 1,595,436 | $ | 384,640 | ||||||
Prepaid Insurance | 307,477 | 248,799 | ||||||||||||
Deferred Engineering | 81,957 | — | ||||||||||||
Prepaid insurance | 176,340 | 254,171 | ||||||||||||
Other | 346,562 | 409,672 | 259,868 | 236,825 | ||||||||||
$ | 1,227,413 | $ | 1,406,260 | $ | 2,031,644 | $ | 875,636 | |||||||
6. Property and equipment:
Property and equipment, net consists of the following balances:
| September 30, 2009 | September 30, 2008 | September 30, 2012 | September 30, 2011 | ||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Computer equipment | $ | 1,986,028 | $ | 1,960,664 | $ | 2,090,556 | $ | 2,055,128 | ||||||
Corporate airplane | 3,082,186 | 3,076,400 | 3,082,186 | 3,082,186 | ||||||||||
Furniture and office equipment | 1,074,031 | 1,074,029 | 1,076,849 | 1,074,279 | ||||||||||
Manufacturing facility | 5,558,553 | 5,576,536 | 5,605,616 | 5,605,616 | ||||||||||
Equipment | 4,037,689 | 3,918,698 | 4,378,714 | 4,205,243 | ||||||||||
Land | 1,021,245 | 1,021,245 | 1,021,245 | 1,021,245 | ||||||||||
16,759,732 | 16,627,572 | 17,255,166 | 17,043,697 | |||||||||||
Less: Accumulated depreciation and amortization | (8,416,031 | ) | (7,669,226 | ) | (10,040,788 | ) | (9,567,335 | ) | ||||||
$ | 8,343,701 | $ | 8,958,346 | $ | 7,214,378 | $ | 7,476,362 | |||||||
Depreciation and amortization related to property and equipment was approximately $0.9$0.5 million, $1.0$0.5 million and $0.9$0.8 million for fiscal 2009, 20082012, 2011 and 2007,2010, respectively.
7. Other assets:
Other assets consist of the following:
| September 30, 2009 | September 30, 2008 | |||||
---|---|---|---|---|---|---|---|
Intangible assets, net of accumulated amortization | |||||||
of $198,140 and $89,950 at September 30, 2009 and September 30, 2008 | $ | 280,860 | $ | 289,050 | |||
Installation kits | 118,660 | 118,660 | |||||
Other | — | 98,130 | |||||
$ | 399,520 | $ | 505,840 | ||||
| September 30, 2012 | September 30, 2011 | |||||
---|---|---|---|---|---|---|---|
Intangible assets, net of accumulated amortization of $441,637 and $391,829 at September 30, 2012 and September 30, 2011 | $ | 158,600 | $ | 208,408 | |||
Intangible assets consist of licensing and certification rights which are amortized over a defined number of units. The Company had no non-cash purchases of other assets of $100,000, $0in 2012, 2011 and $0 in 2009, 2008 and 2007, respectively.2010. No impairment charge wascharges were recorded in fiscal 2009 compared to an asset2012, 2011 or 2010.
Total intangible amortization expense was approximately $0.1 million, $0.1 million and $0.1 million for fiscal 2012, 2011 and 2010, respectively. Since the intangible assets are being amortized over a defined number of units, the timing of future amortization expense is not determinable.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
7. Other assets: (Continued)
impairment charge of $2.5 million in 2008 related to acquired engineering software that was determined to offer no future cash flow generation and is no longer part of the Company's product offerings.
Total intangible amortization expense was approximately $0.2 million, $0.1 million and $0.1 million for fiscal 2009, 2008 and 2007, respectively. Because the intangible assets are being amortized over a defined number of units, the future amortization expense over the next five years cannot be determined at this time.
8. Accrued expenses:
Accrued expenses consist of the following:
| September 30, 2009 | September 30, 2008 | |||||
---|---|---|---|---|---|---|---|
Warranty | $ | 808,544 | $ | 736,815 | |||
Salary, benefits and payroll taxes | 617,224 | 904,904 | |||||
Reduction in workforce / Severance(a) | 166,453 | 904,163 | |||||
Professional fees | 188,349 | 474,730 | |||||
Income taxes payable | 112,449 | 798,801 | |||||
Materials on order | 108,210 | 467,759 | |||||
Other | 784,331 | 843,291 | |||||
$ | 2,785,560 | $ | 5,130,463 | ||||
| September 30, 2012 | September 30, 2011 | |||||
---|---|---|---|---|---|---|---|
Warranty | $ | 850,499 | $ | 955,549 | |||
Salary, benefits and payroll taxes | 531,862 | 476,152 | |||||
Professional fees | 330,858 | 352,559 | |||||
Income taxes payable | 132,980 | 152,658 | |||||
Materials on order | 43,374 | 89,392 | |||||
Other | 834,239 | 525,079 | |||||
$ | 2,723,812 | $ | 2,551,389 | ||||
9. Warranty:
The Company provides for the estimated cost of product warranties at the time revenue is recognized. Warranty cost is recorded as cost of sales and the reserve balance recorded as an accrued expense in the financial statements. While the Company engages in extensive product quality programs and processes, the Company's warranty obligation is affected by product failure rates and by the related material, labor and delivery costs incurred in correcting a product failure. ShouldIf actual product failure rates, material or labor costs differ from the Company's estimates, further revisions to the estimated warranty liability would be required.recorded.
Warranty cost and accrual information for fiscal years ended September 30, 20092012 and 2008:2011:
| 2009 | 2008 | 2012 | 2011 | ||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Warranty accrual as of October 1, | $ | 736,815 | $ | 592,524 | ||||||||||
Warranty Accrual as of October 1, | $ | 955,549 | $ | 933,270 | ||||||||||
Accrued expense for fiscal year | 353,726 | 317,968 | 89,815 | 244,408 | ||||||||||
Warranty costs incurred for fiscal year | (281,997 | ) | (173,677 | ) | ||||||||||
Warranty cost incurred for fiscal year | (194,865 | ) | (222,129 | ) | ||||||||||
Warranty accrual as of September 30, | $ | 808,544 | $ | 736,815 | $ | 850,499 | $ | 955,549 | ||||||
10. Income Taxes:
Income taxes are recorded in accordance with ASC Topic 740"Income Taxes", which utilizes a balance sheet approach to provide for income taxes. Under this method, the Company recognizes deferred tax assets and liabilities for temporary differences between the financial reporting basis and the tax basis of the Company's assets, liabilities, and expected benefits of utilizing net operating loss and tax credit carry-forwards. The impact on deferred taxes of changes in tax rates and laws, if any, are applied to the years during which temporary differences are expected to be settled, and are reflected in the consolidated financial statements in the period of enactment.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
10. Income Taxes: (Continued)
The Company accounts for income taxes under SFAS 109 (ASC Topic 740), which generally provides that deferred tax assets and liabilities be recognized for temporary differences between financial reporting and tax basis of the Company's assets and liabilities and expected benefits of utilizing net operating loss (NOL) carry forwards. The impact on deferred taxes of changes in tax rates and laws, if any, applied to the years during which temporary differences are expected to be settled are reflected in the financial statements in the period of enactment.
Componentscomponents of income taxes are as follows:
| | For the Fiscal Year Ended September 30, | For the Fiscal Year Ended September 30, | ||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2009 | 2008 | 2007 | 2012 | 2011 | 2010 | ||||||||||||||
Current provision (benefit): | Current provision (benefit): | ||||||||||||||||||||
Federal | $ | 46,792 | $ | 183,527 | $ | (33,770 | ) | ||||||||||||||
State | (9,476 | ) | (518 | ) | (64,243 | ) | |||||||||||||||
Federal | $ | 134,560 | $ | 236,170 | $ | (4,463,302 | ) | ||||||||||||||
Total current provision (benefit) | 37,316 | 183,009 | (98,013 | ) | |||||||||||||||||
State | (38,362 | ) | (30,708 | ) | 3,377 | ||||||||||||||||
Deferred (benefit) provision: | |||||||||||||||||||||
Federal | (2,435,049 | ) | — | — | |||||||||||||||||
State | 670 | 751 | (11,081 | ) | |||||||||||||||||
Total deferred (benefit) provision | (2,434,379 | ) | 751 | (11,081 | ) | ||||||||||||||||
96,198 | 205,462 | (4,459,925 | ) | ||||||||||||||||||
Total current and deferred (benefit) provision | $ | (2,397,063 | ) | $ | 183,760 | $ | (109,094 | ) | |||||||||||||
Deferred provision (benefit): | |||||||||||||||||||||
Federal | — | 883,439 | (639,263 | ) | |||||||||||||||||
State | 138,658 | 420,238 | 4,166 | ||||||||||||||||||
138,658 | 1,303,677 | (635,097 | ) | ||||||||||||||||||
$ | 234,856 | $ | 1,509,139 | $ | (5,095,022 | ) | |||||||||||||||
Following is a reconciliation of the statutory federal rate to the Company's effective income tax rate:
| For the Fiscal Year Ended September 30, | |||||||||
---|---|---|---|---|---|---|---|---|---|---|
| 2009 | 2008 | 2007 | |||||||
Federal statutory tax rate | 34.0 | % | 34.0 | % | 34.0 | % | ||||
State income taxes, net of federal benefit | (0.1 | )% | 7.3 | % | 0.0 | % | ||||
Research and development tax credits | (13.1 | )% | 1.8 | % | 5.1 | % | ||||
Valuation allowance | (14.1 | )% | (74.5 | )% | — | |||||
Additional benefit from federal amended and carryback claims | 0.0 | % | 6.3 | % | — | |||||
Other | (2.2 | )% | 1.5 | % | (2.6 | )% | ||||
4.5 | % | (23.6 | )% | 36.5 | % | |||||
In October of 2008, an extension of the Research and Experimentation ("R&E") tax credit was enacted into law. This retroactive extension is for amounts paid or incurred after December 31, 2007. The entire impact of this retroactive extension was recognized in the first quarter of the fiscal year ending September 30, 2009 as required by SFAS 109 (ASC Topic 740).
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
10. Income Taxes: (Continued)
Following is a reconciliation of the statutory federal rate to the Company's effective income tax rate:
| For the Fiscal Year Ended September 30, | |||||||||
---|---|---|---|---|---|---|---|---|---|---|
| 2012 | 2011 | 2010 | |||||||
U.S. Federal statutory tax rate | 34.0 | % | 34.0 | % | 34.0 | % | ||||
State income taxes, net of federal benefit | 6.5 | % | (7.1 | )% | 13.8 | % | ||||
Permanent items | (1.8 | )% | (0.4 | )% | 1.3 | % | ||||
Research and development tax credits | (3.6 | )% | (27.5 | )% | (20.7 | )% | ||||
Valuation allowance | (433.5 | )% | 14.2 | % | (38.7 | )% | ||||
Change in unrecognized tax benefits | (13.5 | )% | 7.2 | % | (6.8 | )% | ||||
Effective income tax rate | (411.9 | )% | 20.4 | % | (17.1 | )% | ||||
In December of 2010, Congress enacted a two-year extension of the Research and Development Tax Credit ("R&D Tax Credit"), which retroactively reinstated and extended the federal R&D Tax Credit for amounts paid or incurred from January 1, 2010 to December 31, 2011. The Company recognized the entire impact of this retroactive extension in the quarter ended December 31, 2010, as required by ASC Topic 740. The Company's effective tax rate for the year ended September 30, 2011 reflects the benefit of the R&D Tax Credit generated over the period January 1, 2010 through September 30, 2011. The amount reported above for the year ended September 30, 2012 reflects R&D Tax Credits generated from October 1, 2011 through December 31, 2011.
The deferred tax effect of temporary differences giving rise to the Company's deferred tax assets and liabilities consists of the components below.
| | September 30, | As of September 30, | ||||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | 2009 | 2008 | 2012 | 2011 | ||||||||||||||||||||||
| | Current | Non Current | Current | Non Current | Current | Non Current | Current | Non Current | ||||||||||||||||||
Deferred tax assets: | Deferred tax assets: | ||||||||||||||||||||||||||
Deferred revenue | $ | — | $ | — | $ | 3,058 | $ | — | |||||||||||||||||||
Reserves and accruals | 1,514,711 | 240,390 | 1,677,183 | 238,179 | |||||||||||||||||||||||
Research and development credits | 80,000 | 774,318 | 80,000 | 848,669 | |||||||||||||||||||||||
NOL carryforwards—state | — | 1,236,554 | — | 1,226,649 | |||||||||||||||||||||||
Stock options | — | 614,087 | — | 503,978 | |||||||||||||||||||||||
Other | — | 6,304 | — | 12,973 | |||||||||||||||||||||||
Deferred revenue | $ | 19,265 | $ | 21,981 | $ | 77,920 | $ | — | |||||||||||||||||||
Reserves and accruals | 1,740,317 | 277,324 | 3,172,061 | 237,460 | 1,594,711 | 2,871,653 | 1,760,241 | 2,830,448 | |||||||||||||||||||
Less: Valuation allowance | (6,549 | ) | (1,448,177 | ) | (1,307,517 | ) | (2,696,113 | ) | |||||||||||||||||||
Research and development credit | 582,329 | 142,027 | 184,837 | — | |||||||||||||||||||||||
Software | 298,297 | — | — | 596,469 | |||||||||||||||||||||||
NOL carryforwards—state | — | 1,146,081 | — | 1,050,052 | |||||||||||||||||||||||
Stock options | — | 865,445 | — | 687,353 | |||||||||||||||||||||||
Other | — | 40,138 | — | 55,131 | |||||||||||||||||||||||
2,640,208 | 2,492,996 | 3,434,818 | 2,626,465 | ||||||||||||||||||||||||
Less: Valuation allowance | (2,136,215 | ) | (2,425,047 | ) | (3,002,107 | ) | (2,295,589 | ) | |||||||||||||||||||
Deferred tax asset | 503,993 | 67,949 | 432,711 | 330,876 | |||||||||||||||||||||||
Total deferred tax assets | 1,588,162 | 1,423,476 | 452,724 | 134,335 | |||||||||||||||||||||||
Deferred tax liabilities: | Deferred tax liabilities: | ||||||||||||||||||||||||||
Depreciation | — | (705,587 | ) | — | (701,298 | ) | |||||||||||||||||||||
Other | — | — | (14,089 | ) | — | ||||||||||||||||||||||
Depreciation | — | (710,600 | ) | — | (745,512 | ) | |||||||||||||||||||||
Other | — | — | (18,075 | ) | — | ||||||||||||||||||||||
Deferred tax liability | — | (710,600 | ) | (18,075 | ) | (745,512 | ) | ||||||||||||||||||||
Total deferred tax liabilities | — | (705,587 | ) | (14,089 | ) | (701,298 | ) | ||||||||||||||||||||
Net deferred tax asset (liability) | Net deferred tax asset (liability) | $ | 503,993 | $ | (642,651 | ) | $ | 414,636 | $ | (414,636 | ) | $ | 1,588,162 | $ | 717,889 | $ | 438,635 | $ | (566,963 | ) | |||||||
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
10. Income Taxes: (Continued)
During the fiscal year endedAt September 30, 20072012, the Company generated a federal net operating loss (NOL) of approximately $14.2 million. The NOL was carried-back to previous tax years and the Company received a refund of previously paid federal income tax of approximately $5.1 million during the quarter ended March 31, 2008. As of September 30, 2009, the Company hashad state net operating losses ("NOL") carryforwards of $19.6$21.1 million, which begin to expire in varying amounts beginning inafter fiscal year ending September 30, 2026. In addition, the Company has federal research and development tax creditR&D Tax Credit carryforwards of approximately $582 thousand,$646,000, which begin to expire in varying amounts beginning inafter fiscal years afteryear ending September 30, 2028, and state research and development tax creditR&D Tax Credit carryforwards of $142 thousand$208,000 (net of federal impact), which begin to expire in varying amounts beginning inafter fiscal years afteryear ending September 30, 2023.
The Company's financial statements contain certain Deferred tax assets are reduced by valuation allowances if, based on the consideration of all available evidence, it is more likely than not that some portion of the deferred tax assets which have arisen primarily as a result ofasset will not be realized. Significant weight is given to evidence that can be verified objectively, and significant management judgment is required in determining any valuation allowances recorded against net deferred tax benefits associated with the loss before income tax incurred during the twelve months ended September 30, 2008, as well asassets. The Company evaluates deferred income taxes on a quarterly basis to determine if valuation allowances are required by considering available evidence, including historical and projected taxable income and tax assets resulting from temporary differences in prior tax years. SFAS 109 (ASCplanning strategies which are both prudent and feasible. ASC Topic 740)740 "Income Taxes" requires the consideration of a valuation allowance to reflect the likelihood of realization of deferred tax assets. Significant management judgment is required in determining any valuation allowance recorded against net deferred tax assets. The
At September 30, 2012, the Company considered all available positive and negative evidence, including significant operating losses incurred in 2006, 2007, and 2008, and the uncertainty as to the extent and timingrecent history of income before income taxes, together with projections of profitability in future periods, and ongoing tax planning strategies. Based on the weightperiods. As a result of available evidence,this analysis, the Company determined that the positive evidence, which relates primarily to the recent history of income before income taxes, and projections of future profits, was sufficient to conclude that it was appropriate to reverse the valuation allowances previously recorded a fullagainst its net federal deferred tax assets. The valuation allowance againstdecreased by $2.4 million for the year ended September 30, 2012 primarily because of the reversal of certain valuation allowances described above. The valuation allowance decreased by $48,000 for the year ended September 30, 2011 primarily because of net reversals of deductible temporary differences.
The current balance of the deferred tax valuation allowance relates principally to net operating losses ("NOL") of certain state taxing jurisdictions. In the event the Company were to determine that it would be able to realize these deferred tax assets in the future, an adjustment would be made to the valuation allowance which would reduce the provision for income taxes. The Company will continue to maintain the balance of the valuation allowance until an appropriate level of profitability is sustained to warrant a conclusion that it is no longer more likely than not that a portion of these net deferred tax assets duringwill not be realized in future periods. There is currently no assurance of such future income before taxes. The Company believes that its estimate of future taxable income is inherently uncertain, and if its current or future operations generate losses, further adjustments to the quarter ended March 31, 2008.valuation allowance are possible.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
10. Income Taxes: (Continued)
There were no significant changes in management's judgment during the year ended September 30, 2009, and the Company continues to carry a full valuation allowance against its net deferred tax assets. The valuation allowance decreased by $736,000 for the year ended September 30, 2009 and increased by $4,758,000 for the year ended September 30, 2008.
If realization of deferred tax assets in the future is considered more likely than not, a reduction to the valuation allowance related to deferred tax assets would increase net income in the period such determination is made. The amount of deferred tax assets considered realizable is based on significant estimates, and it is possible that changes in these estimates could materially affect the financial condition and results of operations. The Company's effective tax rate may vary from period to period based on changes in estimated taxable income or loss; changes to the valuation allowance; changes to federal or state tax laws; and as a result of acquisitions.
The Company adopted the provisions of FIN 48 (ASC Topic 740) on October 1, 2007. As a result of implementation of FIN 48 (ASC Topic 740) the Company recognized a decrease of approximately $587,000 in the liability for unrecognized tax benefits, which was accounted for as an increase to the October 1, 2007 balance of retained earnings.
Following is a reconciliation of beginning and ending balances of total amounts of gross unrecognized tax benefits:
| For the Fiscal Year Ended September 30, | For the Fiscal Year Ended September 30, | |||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2009 | 2008 | 2012 | 2011 | 2010 | ||||||||||||
Balance at beginning of year | $ | 324,000 | $ | 435,000 | $ | 491,000 | $ | 425,000 | $ | 474,000 | |||||||
Unrecognized tax benefits related to prior years | — | (125,000 | ) | — | — | — | |||||||||||
Unrecognized tax benefits related to the current year | 191,000 | 72,000 | |||||||||||||||
Unrecognized tax benefits related to current year | 12,000 | 67,000 | 34,000 | ||||||||||||||
Settlements | — | — | — | — | — | ||||||||||||
Decrease in unrecognized tax benefits due to the lapse of applicable statute of limitations | (41,000 | ) | (58,000 | ) | (100,000 | ) | (1,000 | ) | (83,000 | ) | |||||||
Balance at end of year | $ | 474,000 | $ | 324,000 | $ | 403,000 | $ | 491,000 | $ | 425,000 | |||||||
The total liabilities associated with the unrecognized tax benefits that, if recognized, would impact the Company's effective tax rate were $474,000$403,000, $491,000 and $324,000$425,000 at September 30, 20092012, 2011 and 2008,2010, respectively. It is not anticipated that the balance of unrecognized tax benefits taken regarding previously filed returnsat September 30, 2012 will change significantly over the next twelve months.
The Company's policy is to recognize interest accrued and, if applicable, penalties related to unrecognized tax benefits in income tax expense for all periods presented. The Company has accrued approximately $19,000$4,000 and $21,000$12,000 for the payment of interest, net of tax benefits, at September 30, 20092012 and 2008,2011, respectively. There is no accrual recorded for penalties.
For the fiscal year ended September 30, 2009,2012, 2011 and 2010, the Company recognized a benefitexpense (benefit) of $2,000 of$(8,000), $4,000 and ($10,000), respectively, for interest (net of federal impact) within income tax expense ($6,000 benefit, net of federal impact, for the fiscal year ended September 30, 2008).expense.
The Company is subject to income taxes in the U.S. federal and various state jurisdictions. Tax regulations within each jurisdiction are subject to the interpretation of related tax laws and regulations and require significant judgment to apply. The Company's federal income tax returns for the fiscal years ended September 30, 2009 and thereafter are open years subject to examination by the Internal Revenue Service ("IRS"). The Company also files income tax returns in various state jurisdictions, as appropriate, with varying statutes of limitation. During fiscal year 2012, the IRS examined the Company's income tax return for the year ended September 30, 2010; no adjustments resulted from this examination. There are no state income tax examinations in process at this time.
11. Savings Plan:
The Company sponsors a voluntary defined contribution savings plan covering all employees. The Company made contributions of $145,000, $167,000, and $175,000 for the fiscal years ended September 30, 2012, 2011 and 2010, respectively.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
10. Income Taxes: (Continued)
and require significant judgment to apply. During the fiscal year ended September 30, 2008, the Internal Revenue Service concluded an examination for tax years through September 30, 2006. The Company also files income tax returns in various state jurisdictions, as appropriate, with varying statutes of limitation. There are no state income tax examinations in process at this time.
11. Notes Payable:
The Company entered into a $4,335,000 loan agreement dated August 1, 2000 with the Chester County, Pennsylvania Industrial Development Authority. The purpose of the loan was to fund the construction of the Company's new office and manufacturing facility. The loan was scheduled to mature in 2015 and carried an interest rate set by the remarketing agent that was consistent with 30-day tax-exempt commercial paper. The Company exercised its option to pay-down the outstanding balance during August, 2009.
The interest cost related to this debt for fiscal years 2009 and 2008 was $45,000 and $117,000 respectively. The interest rate on this debt was 3.98% at September 30, 2008. The Company was required to maintain a letter of credit in the amount of $5,000,000 covering the debt, prior to the August, 2009 retirement.
12. Savings Plan:
The Company sponsors a voluntary defined contribution savings plan covering all employees. The Company made contributions of $195,000, $172,000, and $0 for the fiscal years ended September 30, 2009, 2008 and 2007, respectively.
13. Share-Based Compensation:
The Company adoptedaccounts for share-based compensation under the provisions of SFAS 123(R) (ASCASC Topic 505-50 and ASC Topic 718)718 by using the modified prospective approach and now accounts for share-based compensation applying the fair value method for expensing stock options and non-vested stock awards.
Total share-based compensation expense was $692,000, $1,138,000$645,000, $371,000 and $726,000$371,000 for the fiscal years ended September 30, 2009, 2008,2012, 2011 and 2007,2010, respectively. The total income tax impact is recognized as a (charge) credit to additional paid-inpaid—in capital in the statement of shareholders' equity related to share-based compensation arrangements was $2,000, $(11,000)($5,000), $7,000 and $265,000($2,000) for the fiscal years ended September 30, 2009, 2008,2012, 2011 and 2007,2010, respectively. Compensation expense related to share-based awards is recorded as a component of general and administrative expense.
The Company maintainshas three share-based compensation plans, the 1998 Stock Option Plan (the "1998 Plan"), the 2003 Restricted Stock Plan (the "Restricted Plan") and the 2009 Stock-Based Incentive Compensation Plan (the "2009 Plan"). These plans were each approved by the Company's shareholders. The 1998 Plan expired on November 13, 2008. The last awards under the Restricted Plan were made in 2010 and no further shares remain to award under the Restricted Plan.
1998 Stock Option Plan
The 1998 Plan allowed granting of incentive and nonqualified stock options to employees, officers, directors and independent contractors and consultants. No stock options were granted to independent contractors or consultants under this Plan. Total compensation expense was $492,000, $938,000, and $506,000 for fiscal years ended September 30, 2009, 2008, and 2007 respectively.plan. Incentive stock options
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
13. Share-Based Compensation: (Continued)
granted under the 1998 Plan have exercise prices that must beare at least equal to the fair value of the common stock on grant date. Nonqualified stock options granted under the Planplan have exercise prices that may beare less than, equal to or greater than the fair value of the common stock on the date of grant. The Company reserved 3,389,000 shares of Common Stock for awards under the plan. On November 13, 2008, the 1998 Plan expired and no additional shares were granted under the Plan after that date.
Following is a summary of option activity under the Plan for fiscal years ended September 30, 2009, 2008, and 2007 and changes during the periods then ended:
| Options | Weighted Average Exercise Price | Aggregate Intrinsic Value | ||||||||
---|---|---|---|---|---|---|---|---|---|---|---|
Outstanding at September 30, 2006 | 701,854 | $ | 8.76 | ||||||||
Granted | 49,000 | 24.42 | |||||||||
Exercised | (57,995 | ) | 8.50 | ||||||||
Cancelled | (119,900 | ) | 14.79 | ||||||||
Outstanding at September 30, 2007 | 572,959 | $ | 10.30 | ||||||||
Granted | 409,000 | 10.16 | |||||||||
Exercised | (4,497 | ) | 7.31 | ||||||||
Cancelled | (226,854 | ) | 11.88 | ||||||||
Outstanding at September 30, 2008 | 750,608 | $ | 9.76 | ||||||||
Granted | — | — | |||||||||
Exercised | — | — | |||||||||
Cancelled | (144,059 | ) | 11.09 | ||||||||
Outstanding at September 30, 2009 | 606,549 | $ | 9.45 | $ | 145,415 | ||||||
Vested and expected to vest | 598,819 | $ | 8.41 | $ | 145,415 | ||||||
Options exercisable at September 30, 2009 | 451,949 | $ | 8.41 | $ | 145,415 | ||||||
In fiscal 2009 there were no options granted or exercised, therefore there is no weighted-average grant date fair value of individual options granted and no intrinsic value of exercised options. The weighted-average grant date fair value of individual options granted during the fiscal years ended September 30, 2008 and 2007 was $5.05 and $14.38, respectively. The total intrinsic value of options exercised during the fiscal years ended September 30, 2008 and 2007 was $33,000 and $620,000, respectively.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
13.12. Share-Based Compensation: (Continued)
Following is a summary of option activity under the 1998 Plan for fiscal years ended September 30, 2012, 2011, and 2010 and changes during the periods then ended:
| Options | Weighted Average Exercise Price | Aggregate Intrinsic Value | |||||||
---|---|---|---|---|---|---|---|---|---|---|
Outstanding at September 30, 2009 | 606,549 | $ | 9.45 | $ | — | |||||
Granted | — | — | — | |||||||
Exercised | — | — | — | |||||||
Cancelled | (115,349 | ) | 10.49 | — | ||||||
Outstanding at September 30, 2010 | 491,200 | $ | 9.21 | $ | — | |||||
Granted | — | — | — | |||||||
Exercised | — | — | — | |||||||
Cancelled | (103,400 | ) | 10.95 | — | ||||||
Outstanding at September 30, 2011 | 387,800 | $ | 8.74 | $ | — | |||||
Granted | — | — | — | |||||||
Exercised | — | — | — | |||||||
Cancelled | (11,600 | ) | 12.65 | — | ||||||
Outstanding at September 30, 2012 | 376,200 | $ | 8.62 | — | ||||||
Vested and expected to vest | 375,200 | $ | 8.60 | $ | — | |||||
Options exercisable at September 30, 2012 | 366,200 | $ | 8.64 | $ | — | |||||
In fiscal 2012 and 2011, no options were granted or exercised under the 1998 Plan; therefore, there is no weighted-average grant date fair value of individual options granted and no intrinsic value attributable to exercised options.
The following table summarizes information about stock options under the 1998 Plan at September 30, 2009:2012:
Options Outstanding | Options Exercisable | |||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Range of Exercise Prices | Outstanding As of September 30, 2009 | Weighted- Average Remaining Contractual Life | Weighted- Average Exercise Price | As of September 30, 2009 | Weight- Average Exercise Price | |||||||||||
$ — – $ 5.00 | 181,800 | 3.7 | $ | 4.21 | 181,800 | $ | 4.21 | |||||||||
$ 5.01 – $10.00 | 181,049 | 4.0 | $ | 7.72 | 141,049 | $ | 7.71 | |||||||||
$10.01 – $15.00 | 174,000 | 7.5 | $ | 12.04 | 83,200 | $ | 12.52 | |||||||||
$15.01 – $20.00 | 35,000 | 5.4 | $ | 16.90 | 29,900 | $ | 16.93 | |||||||||
$20.01 – $26.00 | 34,700 | 7.3 | $ | 25.41 | 16,000 | $ | 24.91 | |||||||||
606,549 | 5.2 | $ | 9.45 | 451,949 | $ | 8.41 | ||||||||||
| Options Outstanding | Options Exercisable | ||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Range of Exercise Prices | Outstanding As of September 30, 2012 | Weighted- Average Remaining Contractual Life | Weighted- Average Exercise Price | As of September 30, 2012 | Weighted- Average Exercise Price | |||||||||||
$ — - $ 5.00 | 181,800 | 0.6 | $ | 4.21 | 181,800 | $ | 4.21 | |||||||||
$ 5.01 - $10.00 | 101,400 | 3.3 | 7.60 | 91,400 | 7.58 | |||||||||||
$10.01 - $15.00 | 47,500 | 2.5 | 13.62 | 47,500 | 13.62 | |||||||||||
$15.01 - $20.00 | 12,000 | 2.5 | 16.93 | 12,000 | 16.93 | |||||||||||
$20.01 - $27.00 | 33,500 | 4.3 | 25.57 | 33,500 | 25.57 | |||||||||||
376,200 | 1.9 | $ | 8.62 | 366,200 | $ | 8.64 | ||||||||||
Fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model. Options are exercisable over a maximum term of ten years from date of grant and typically vest over periods of three to five years from the grant date. The expected term of options
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
12. Share-Based Compensation: (Continued)
represents the period of time that options granted are expected to be outstanding and is based on historical experience. Expected volatility is based on historical volatility of the Company's stock. The risk free interest rate is based on U.S. Treasuries with constant maturities in effect at the time of grant. Compensation expense for employee stock options also includes an estimate for forfeitures, and is recognized ratably over the vesting term. Below are fair value assumptions used to record compensation expense for the period identified:
| Fiscal Year Ended September 30, | ||||||||
---|---|---|---|---|---|---|---|---|---|
| 2009 | 2008 | 2007 | ||||||
Expected dividend rate | * | — | — | ||||||
Expected volatility | * | 61.9 | % | 64.4 | % | ||||
Weighted average risk-free interest rate | * | 2.1 | % | 2.3 | % | ||||
Expected lives (years) | * | 8.00 | 8.62 |
Total compensation expense associated with stock option awards to employees under the 1998 Plan was $67,000, $117,000, and $159,000 for fiscal years ended September 30, 2012, 2011 and 2010, respectively.
At September 30, 2009, there was approximately $627,000 of2012, unrecognized compensation cost,expense of $11,000, net of forfeitures related to non-vested stock options, which is expected to be recognized over a period of approximately 5 years.during fiscal 2013.
Restricted Plan
The Restricted Plan for non-employee directors was approved by shareholders at the Company's February 26, 2004 Annual Meeting of Shareholders. It callscalled for an annual award of non-vested stock having a fair market value of $40,000 at close of business on October 1 of the current fiscaleach year for all eligible non-employee directors. The stock iswas awarded in four quarterly installments during the fiscal year provided the director iswas still serving on the board on the quarterly issue date. The last awards under the Restricted Plan were made in 2010, and no further shares remain to award under this Plan. However, the Company continued to make an annual grant of non-vested stock under the 2009 Plan. Total share-based compensation expense associated with the annual grant of non-vested stock to non-employee directors under the Restricted Plan was $200,000, $200,000$0, $0 and $220,000$200,000 for the fiscal years ended September 30, 2009, 2008,2012, 2011 and 2007,2010, respectively.
The following table outlines restricted stock awards from the Restricted Plan for fiscal years ended September 30, 2012, 2011 and 2010:
| Non-vested Stock Awards | Weighted Average Share Price | |||||
---|---|---|---|---|---|---|---|
Balance at September 30, 2009 | 9,050 | $ | 5.52 | ||||
Granted | 41,150 | 4.86 | |||||
Issued | (37,862 | ) | 5.02 | ||||
Cancelled | — | — | |||||
Balance at September 30, 2010 | 12,338 | $ | 4.86 | ||||
Granted | 43,385 | 4.61 | |||||
Issued | (42,237 | ) | 5.49 | ||||
Cancelled | — | — | |||||
Balance at September 30, 2011 | 13,486 | $ | 4.61 | ||||
Granted | — | — | |||||
Issued | — | — | |||||
Cancelled | — | — | |||||
Balance at September 30, 2012 | 13,486 | $ | 4.61 | ||||
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
13.12. Share-Based Compensation: (Continued)
respectively. The following table outlines restricted stock awards for fiscal years ended September 30, 2009, 2008, and 2007:
| Non-vested Stock Awards | Weighted Average Share Price | ||||||
---|---|---|---|---|---|---|---|---|
Balance at September 30, 2006 | 3,275 | $ | 15.25 | |||||
Granted | 15,939 | 14.43 | ||||||
Issued | (15,056 | ) | 14.61 | |||||
Cancelled | (693 | ) | 14.43 | |||||
Balance at September 30, 2007 | 3,465 | $ | 14.43 | |||||
Granted | 10,525 | 19.00 | ||||||
Issued | (11,355 | ) | 17.61 | |||||
Cancelled | — | — | ||||||
Balance at September 30, 2008 | 2,635 | $ | 19.00 | |||||
Granted | 36,230 | 5.52 | ||||||
Issued | (29,815 | ) | 6.71 | |||||
Cancelled | — | — | ||||||
Balance at September 30, 2009 | 9,050 | $ | 5.52 | |||||
2009 Stock-Based Incentive Compensation Plan
The 2009 Plan authorizes the grant of Stock Appreciation Rights ("SARs"), Restricted Stock, Options and other equity-based awards under the 2009 Plan (collectively referred to as "Awards"). Options granted under the 2009 Plan may be either "incentive stock options" as defined in section 422 of the Internal Revenue Code of 1986, as amended (the "Code"), or nonqualified stock options, as determined by the Compensation Committee of the Company's Board of Directors (the "Committee""Compensation Committee").
Subject to an adjustment necessary upon a stock dividend, recapitalization, forward split or reverse split, reorganization, merger, consolidation, spin-off, combination, repurchase or share exchange, extraordinary or unusual cash distribution or other similar corporate transaction or event, the maximum number of shares of Common Stockcommon stock available for Awards under the 2009 Plan shall be 1,200,000, all of which may be issued pursuant to Awards of incentive stock options. In addition, the Plan provides that no more than 300,000 shares of common stock may be awarded to any employee as a performance-based Award under Section 162(m) of the Code. At September 30, 20092012 there were 1,200,000655,333 shares of Common Stockcommon stock available for awards under the plan.
If any Award is forfeited, or if any Option terminates, expires or lapses without being exercised, the related shares of Common Stockcommon stock subject to such Award will again be available for future grant. Any shares tendered by a participant in payment of the exercise price of an Option or the tax liability with respect to an Award (including, in any case, shares withheld from any such Award) will not be available for future grant under the 2009 Plan. If there is any change in the Company's corporate capitalization, the Compensation Committee shallmust proportionately and equitably adjust the number and kind of shares of Common Stockcommon stock which may be issued in connection with future Awards, the number and kindtype of shares of Common Stockcommon stock covered by Awards then outstanding under the 2009 Plan, the number and kindtype of shares of Common Stockcommon stock available under the 2009 Plan, the exercise or grant price of any Award, or if deemed appropriate, make provision for a cash payment with respect to any outstanding Award, provided that no adjustment may be made that would adversely affect the status of any Award that is intended to be
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
13. Share-Based Compensation: (Continued)
a performance-based Award under Section 162(m) of the Code, unless otherwise determined by the Compensation Committee. In addition, the Compensation Committee may make adjustments in the terms and conditions of any Awards, including any performance goals, in recognition of unusual or nonrecurring events affecting the Company or any subsidiary, or in response to changes in applicable laws, regulations or accounting principles, provided that no adjustment may be made that would adversely affect the status of any Award that is intended to be a performance-based Award under Section 162(m) of the Code, unless otherwise determined by the Compensation Committee.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
12. Share-Based Compensation: (Continued)
Following is a summary of option activity under the 2009 Plan for fiscal years ended September 30, 2012 and 2011, and changes during the periods then ended:
| Options | Weighted Average Exercise Price | Aggregate Intrinsic Value | |||||||
---|---|---|---|---|---|---|---|---|---|---|
Outstanding at September 30, 2010 | 50,000 | $ | 4.50 | $ | — | |||||
Granted | 180,000 | 5.28 | — | |||||||
Exercised | — | — | — | |||||||
Cancelled | — | — | — | |||||||
Outstanding at September 30, 2011 | 230,000 | $ | 5.11 | $ | — | |||||
Granted | 280,000 | 3.92 | — | |||||||
Exercised | — | — | — | |||||||
Cancelled | (50,000 | ) | 4.50 | — | ||||||
Outstanding at September 30, 2012 | 460,000 | $ | 4.45 | $ | — | |||||
Vested and expected to vest | 460,000 | $ | 4.45 | $ | — | |||||
Options exercisable at September 30, 2012 | 60,003 | $ | 5.28 | $ | — | |||||
In fiscal 2012 and 2011, no options were exercised under the 2009 Plan; therefore, there is no intrinsic value attributable to exercised options.
The following table summarizes information about stock options under the 2009 Plan at September 30, 2012:
| Options Outstanding | Options Exercisable | ||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Range of Exercise Prices | Outstanding As of September 30, 2012 | Weighted- Average Remaining Contractual Life | Weighted- Average Exercise Price | As of September 30, 2012 | Weighted- Average Exercise Price | |||||||||||
$ — - $ 5.00 | 280,000 | 9.4 | $ | 3.92 | — | $ | — | |||||||||
$5.01 - $10.00 | 180,000 | 8.9 | 5.28 | 60,003 | 5.28 | |||||||||||
460,000 | 9.2 | $ | 4.45 | 60,003 | $ | 5.28 | ||||||||||
Fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model. Options are exercisable over a maximum term of ten years from date of grant and typically vest over periods of three to five years from the grant date. The expected term of options represents the period of time that options granted are expected to be outstanding and is based on historical experience and the expected turnover rate of the employees receiving the options. Expected volatility is based on historical volatility of the Company's stock. The risk free interest rate is based on U.S. Treasuries with constant maturities in effect at the time of grant. Compensation expense for employee stock options includes an estimate for forfeitures and is recognized ratably over the vesting term.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
12. Share-Based Compensation: (Continued)
Below are the fair value assumptions used to record compensation expense, related to the 2009 Plan, for the period identified:
2009 Plan | ||||||||||
---|---|---|---|---|---|---|---|---|---|---|
| Fiscal Year Ended September 30, | |||||||||
| 2012 | 2011 | 2010 | |||||||
Expected dividend rate | — | — | — | |||||||
Expected volatility | 71.1 | % | 63.0 | % | 70.0 | % | ||||
Weighted average risk-free interest rate | 2.1 | % | 1.9 | % | 2.6 | % | ||||
Expected lives (years) | 8.70 | 10.00 | 4.15 |
Total compensation expense associated with stock option awards to employees under the 2009 Plan was $377,000, $54,000 and $23,000 for fiscal years ended September 30, 2012, 2011 and 2010, respectively.
Total share-based compensation expense associated with the annual grant of restricted stock to non-employee directors under the 2009 Plan was $200,000, $200,000 and $0 for the fiscal years ended September 30, 2012, 2011 and 2010, respectively.
At September 30, 2009, there was no2012, unrecognized compensation costexpense of approximately $1,074,000, net of forfeitures, related to non-vested stock options under the 2009 Plan.Plan, is expected to be recognized over a period of approximately 2 years.
14.13. Commitments and Contingencies:
Capital Lease
The Company leases certain equipment under capital leases with terms of five years and an implicit interest rate of 7.2%. The capitalized cost of $57,450 and related accumulatedannual amortization of $10,050, $22,816$5,000, $5,000 and $8,207$7,000 have been included in property and equipment at September 30, 2009, 20082012, 2011 and 20072010, respectively. The balance due on these leases was $36,899, $47,542$0, $13,000 and $57,450$26,000 as of September 30, 2009, 20082012, 2011 and 20072010, respectively. Future payments, including interest relating to these leases are $13,788 annually for the next three years.
Operating Leases
Rent expense under operating leases totaled $39,065, $196,000$30,000, $31,000 and $109,000$26,000 for the years ended September 30, 2009, 20082012, 2011 and 2007,2010, respectively. As of September 30, 20092012 the companyCompany has no future minimum payments related to any non-cancelable operating leases in fiscal 2010.2012.
Product Liability
The Company has product liability insurance of $50,000,000, which management believes is adequate to cover potential liabilities that may arise.$50,000,000. The Company has not experienced any material product liability claims in the past.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
13. Commitments and Contingencies: (Continued)
Legal Proceedings
In the ordinary course of business, we arethe Company is at times subject to various legal proceedings and claims. We doIS&S does not believe any such matters that are currently pending will have a material adverse effect on ourits results of operations or financial position.
On November 29, 2011, AMR Corporation, the parent company of AAI and certain of its other U.S. based subsidiaries filed voluntary petitions for Chapter 11 reorganization in the U.S. Bankruptcy Court for the Southern District of New York (the "Bankruptcy"). For the year ended September 30, 2012 and 2011, AAI accounted for approximately 5% and 8%, respectively, of net sales. AAI continued to purchase and pay for products from the Company in the ordinary course of business after November 29, 2011. As of November 29, 2011, the Company had pre-Bankruptcy outstanding accounts receivable of $760,000 from AAI. Based on the present status of the Bankruptcy proceedings, the Company is not able to determine the amount, if any, that could be uncollectible. In the 90 days preceding the filing of the Bankruptcy petition, the Company received $828,000 from AAI in the ordinary course of business. Under the U.S. bankruptcy laws, debtors have the right to avoid certain payments made during the 90 days preceding the filing of the bankruptcy petition. No such avoidance action has been asserted or filed, and the Company believes that it would have valid defenses against any such action.
On September 26, 2011, Farhad Daghigh, a former employee of the Company, filed a lawsuit against IS&S in the Court of Common Pleas of Chester County alleging breach of contract and violation of the Pennsylvania Wage Payment and Collection Law claiming unpaid sales commissions, prejudgment interest and liquidated damages totaling approximately $583,000 for the fiscal years ended 2007, 2008, 2009 and 2010. The Company vehemently denies any allegations of liability and will vigorously defend the lawsuit. This matter has not been resolved as of the date hereof. The Company believes that the probability of an unfavorable outcome on this claim is remote, and, therefore, no contingent liability has been recorded as at September 30, 2012.
On January 17, 2007 the Company filed suit in the Court of Common Pleas for Delaware County, Pennsylvania against Strathman Associates, a former software consultant for IS&S, alleging that Strathman had improperly used IS&S trade secret and proprietary information in assisting J2 and Kollsman in developing the J2/Kollsman Air Data Computer. The case is ongoing.has not been resolved as of the date hereof.
15. Related-Party14. Related Party Transactions:
The Company incurred legal fees of $105,000, $128,000$110,000, $116,000 and $146,000$138,000 for the fiscal years ended September 30, 2012, 2011 and 2010, respectively with a law firm which is a shareholder of the Company forCompany.
For the years ended September 30, 2009, 20082012, 2011 and 2007, respectively. The2010, respectively, the Company incurred service fees paidof $2,000, $0, and services rendered were comparable$25,000 with fees paida commercial graphics firm controlled by an individual who is married to other unrelated law firms.a shareholder and a daughter of the Company's Chairman and Chief Executive Officer.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
15. Related-Party Transactions: (Continued)
For the years ended September 30, 2009, 2008 and 2007, respectively, the Company incurred service fees of $0, $67,000, and $18,000 with a commercial graphics firm controlled by an individual who is married to a shareholder and a daughter of the Company's Chairman and Chief Executive Officer.
16. Quarterly Financial Data (unaudited):
Summarized quarterly results of operations of the Company for the years ended September 30, 20092012 and September 30, 20082011 are presented below:
| | Fiscal Year Ended September 30, 2009 | Fiscal Year Ended September 30, 2012 | ||||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | First Quarter | Second Quarter | Third Quarter | Fourth Quarter | First Quarter | Second Quarter | Third Quarter | Fourth Quarter | ||||||||||||||||||
Net sales | $ | 10,575,346 | $ | 10,465,726 | $ | 7,759,300 | $ | 7,933,778 | |||||||||||||||||||
Net Sales | $ | 4,755,459 | $ | 6,760,221 | $ | 6,134,492 | $ | 6,928,026 | |||||||||||||||||||
Cost of sales | Cost of sales | 5,255,173 | 5,217,613 | 3,621,045 | 3,802,153 | 2,629,860 | 3,659,505 | 3,518,867 | 4,259,701 | ||||||||||||||||||
Gross profit | Gross profit | 5,320,173 | 5,248,113 | 4,138,255 | 4,131,625 | 2,125,599 | 3,100,716 | 2,615,625 | 2,668,325 | ||||||||||||||||||
Operating income (loss) | Operating income (loss) | 1,680,365 | 1,365,346 | 1,010,287 | 821,655 | (658,199 | ) | 346,543 | 355,162 | 373,006 | |||||||||||||||||
Net income (loss) | Net income (loss) | 1,823,386 | 1,347,530 | 1,252,311 | 585,434 | (342,979 | ) | 288,873 | 259,971 | 2,773,129 | |||||||||||||||||
Net income (loss) per common share | Net income (loss) per common share | ||||||||||||||||||||||||||
Basic | $ | 0.11 | $ | 0.08 | $ | 0.07 | $ | 0.03 | |||||||||||||||||||
Diluted | $ | 0.11 | $ | 0.08 | $ | 0.07 | $ | 0.03 | |||||||||||||||||||
Basic | $ | (0.02 | ) | $ | 0.02 | $ | 0.02 | $ | 0.17 | ||||||||||||||||||
Diluted | $ | (0.02 | ) | $ | 0.02 | $ | 0.02 | $ | 0.17 |
| | Fiscal Year Ended September 30, 2008 | Fiscal Year Ended September 30, 2011 | ||||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | First Quarter | Second Quarter | Third Quarter | Fourth Quarter | First Quarter | Second Quarter | Third Quarter | Fourth Quarter | ||||||||||||||||||
Net sales | $ | 4,725,647 | $ | 6,824,360 | $ | 8,751,309 | $ | 10,221,995 | |||||||||||||||||||
Net Sales | $ | 6,529,811 | $ | 6,746,070 | $ | 5,971,494 | $ | 6,490,277 | |||||||||||||||||||
Cost of sales | Cost of sales | 3,659,059 | 3,790,661 | 4,568,303 | 8,533,834 | 2,935,655 | 2,873,414 | 2,811,960 | 3,324,155 | ||||||||||||||||||
Gross profit | Gross profit | 1,066,588 | 3,033,699 | 4,183,006 | 1,688,161 | 3,594,156 | 3,872,656 | 3,159,534 | 3,166,122 | ||||||||||||||||||
Operating income (loss) | Operating income (loss) | (6,599,986 | ) | (4,477,323 | ) | (4,795,875 | ) | (9,230,657 | ) | 151,200 | 466,686 | (104,935 | ) | 94,956 | |||||||||||||
Net income (loss) | Net income (loss) | (4,121,941 | ) | (7,060,157 | ) | (4,288,871 | ) | 7,573,721 | 284,780 | 499,152 | (78,981 | ) | 11,639 | ||||||||||||||
Net income (loss) per common share | Net income (loss) per common share | ||||||||||||||||||||||||||
Basic | $ | (0.24 | ) | $ | (0.42 | ) | $ | (0.25 | ) | $ | 0.45 | ||||||||||||||||
Diluted | $ | (0.24 | ) | $ | (0.42 | ) | $ | (0.25 | ) | $ | 0.45 | ||||||||||||||||
Basic | $ | 0.02 | $ | 0.03 | $ | (0.00 | ) | $ | 0.00 | ||||||||||||||||||
Diluted | $ | 0.02 | $ | 0.03 | $ | (0.00 | ) | $ | 0.00 |
Quarterly and total year earnings per share are calculated independently based on the weighted average number of shares outstanding during each period.
17.16. Business SegmentsSegments:
The Company operates in one principal business segment which designs, manufactures and sells flat panel displays, flight information computers, flat panel displays and advanced monitoring systems to the DoD, DOI, government agencies, commercial air transport carriers and corporate/general aviation markets. The Company currently derives virtually all of its revenues from the sale of this equipment. Almost allequipment and related EMD services. Most of the Company's sales, operating results and identifiable assets are in the United States. Net sales, operating results and identifiable assets outside the U.S. are not material. During fiscal 2009, 20082012, 2011 and 2007 we2010, IS&S derived 75%87%, 77%,79% and 53%68%, respectively, of ourits total revenues from the sale of Flat Panel Display Systems.FPDS. During fiscal 2009, 2008,2012, 2011 and 2007 we2010, the Company derived 25%13%, 23%,21% and 47%32%, respectively, of total revenues from the sale of air data systems related products. During fiscal 2012, 2011 and 2010, the Company derived 26%, 2% and 7%, respectively, of total revenues from the sale of EMD services.
INNOVATIVE SOLUTIONS AND SUPPORT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
17.16. Business SegmentsSegments: (Continued)
Geographic Data
Almost allMost of the Company's sales, operating results and identifiable assets are in the United States. Net sales, operating results and identifiable assets outside the U.S. are not material. In fiscal year 2009, 20082012, 2011 and 20072010, net sales outside the United States amounted to $4.4 million, $1.7$4.0 million and $1.1$2.8 million, respectively.
Product Data
OurThe Company's current product line includes flat panel display systemsFPDS and air data systems and components,components. During fiscal 2009, 20082012, 2011 and 2007,2010, the Company derived 75%87%, 77%,79% and 53%68%, respectively, of its revenue from sales of flat panel display systems.FPDS. The remaining revenue for each of the fiscal years was from sales of air data systems and components.
18.17. Subsequent EventsEvent:
On December 7, 2012 the Company's Board of Directors declared a special cash dividend in the amount of $1.50 per share, payable on or about December 27, 2012 to shareholders of record as of the close of business on December 17, 2012. The Company has evaluated subsequent events that have occurred afteraggregate amount of the balance sheet date but before the financial statements were availablepayment to be issued, which the Company considers to be the date of filingmade in connection with the Securities and Exchange Commission. The Company has concluded that no events or transactions have occurred that would require adjustments to, or disclosure in, its financial statements.dividend will be approximately $24.9 million.
Item 9. Changes in and disagreements with accountants on accounting and financial disclosure.
None
Item 9A. Controls and procedures
Management's Reportreport on Internal Controlinternal control over financial reporting
Management of Innovative Solutions & Support, Inc. and its subsidiaries (the Company)"Company") is responsible for establishing and maintaining adequate internal control over financial reporting. The Company's internal control over financial reporting is a process designed under the supervision of the Company's principal executive officer and principal financial officer to provide reasonable assurance regarding the reliability of financial reporting and preparation of the Company's financial statements for external purposes in accordance with accounting principles generally accepted in the United States of America.
The Company's internal control over financial reporting includes policies and procedures that (1) pertain to maintenance of records that, in reasonable detail, accurately and fairly reflect transactions and dispositions of the assets of the Company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of Company assets that could have a material effect on financial statements.
Due to its inherent limitations, internal control over financial reporting may not prevent or detect misstatements and, even when determined to be effective, can only provide reasonable, not absolute, assurance with respect to financial statement preparation and presentation. Projections of any evaluation of effectiveness to future periods are subject to risk that controls may become inadequate as a result of changes in conditions or deterioration in the degree of compliance.
Management assessed the effectiveness of the Company's internal control over financial reporting as of September 30, 2009.2012. This assessment was based on criteria for effective internal control over financial reporting described in "Internal Control—Integrated Framework," issued by the Committee on Sponsoring Organizations of the Treadway Commission. Based on this assessment, management believes that, as of September 30, 2009,2012, internal control over financial reporting was effective to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements in accordance with U.S. generally accepted accounting principles.
OurThe Company's internal control over financial reporting has been audited by Deloitte & Touche LLP, an independent registered public accounting firm, as stated in their report which is included herein.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders of
Innovative Solutions and Support, Inc.
Exton, Pennsylvania
We have audited the internal control over financial reporting of Innovative Solutions and Support, Inc. and subsidiaries (the "Company") as of September 30, 2009,2012, based on criteria established inInternal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. The Company's management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management's Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company's internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company's internal control over financial reporting is a process designed by, or under the supervision of, the company's principal executive and principal financial officers, or persons performing similar functions, and effected by the company's board of directors, management, and other personnel to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements.
Because of the inherent limitations of internal control over financial reporting, including the possibility of collusion or improper management override of controls, material misstatements due to error or fraud may not be prevented or detected on a timely basis. Also, projections of any evaluation of the effectiveness of the internal control over financial reporting to future periods are subject to the risk that the controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of September 30, 2009,2012, based on the criteria established inInternal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated financial statements as of and for the year ended September 30, 20092012 of the Company and our report dated December 14, 200912, 2012 expressed an unqualified opinion on those consolidated financial statements and included an explanatory paragraph relating to the Company's adoption of Financial Accounting Standards Board (FASB) Interpretation No. 48 (FIN 48),Accounting for Uncertainty in Income Taxes (ASC Topic 740,Income Taxes), effective October 1, 2007.statements.
/s/ DELOITTE & TOUCHE LLP
Philadelphia, Pennsylvania
December 14, 20092012
Item 10. Directors, executive officers and corporate governance.
This information (other than information relating to executive officers included in Part I Item 1.) will be included in ourthe Company's Proxy Statement relating to ourits Annual Meeting of Shareholders, which will be filed within 120 days after the close of ourthe Company's fiscal year covered by this Report, and is hereby incorporated by reference to such Proxy Statement. We haveIS&S has adopted a written code of business conduct and ethics, known as ourthe Company's code of conduct, which applies to all of ourits directors, officers, and employees, including ourits chief executive officer, ourits president and ourits chief financial officer. OurThe Company's code of conduct is available on ourits Internet website,www.innovative-ss.com. OurThe code of conduct may also be obtained by contacting investor relations at (610) 646-9800. Any amendments to ourthe Company's code of conduct or waivers from provisions of the code for ourits directors and our officers will be disclosed on ourthe Company's Internet website promptly following the date of such amendment or waiver.
Item 11. Executive compensation.
This information will be included in ourthe Company's Proxy Statement relating to ourits Annual Meeting of Shareholders, which will be filed within 120 days after close of ourthe Company's fiscal year covered by this Report, and is hereby incorporated by reference to such Proxy Statement.
Item 12. Security ownership of certain beneficial owners and management and related stockholder matters.
This information will be included in ourthe Company's Proxy Statement relating to ourits Annual Meeting of Shareholders, which will be filed within 120 days after close of ourthe Company's fiscal year covered by this Report, and is hereby incorporated by reference to such Proxy Statement.
Equity Compensation Plan Information
The following table gives information about ourthe Company's common stock that may be issued upon the exercise of options and rights under all of ourits existing equity compensation plans and arrangements as of September 30, 2009.2012.
Plan Category | Number of Securities to be issued upon exercise of outstanding options and rights | Weighted-average exercise price of outstanding options and rights | Number of Securities remaining available for future issuance under equity compensation plans (excluding securities reflected in second column) | Number of Securities to be issued upon exercise of outstanding options and rights | Weighted-average exercise price of outstanding options and rights | Number of Securities remaining available for future issuance under equity compensation plans (excluding securities reflected in second column) | ||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Equity compensation plans approved by security holders | 615,599 | $ | 9.39 | 1,570,982 | 870,668 | $ | 6.37 | 656,471 | ||||||||||||
Equity compensation plans not approved by security holders | — | $ | — | — | — | $ | — | — | ||||||||||||
615,599 | $ | 9.39 | 1,570,982 | |||||||||||||||||
The 2003 Restricted Stock Plan for non-employee directors was approved by shareholders at the Company's February 26, 2004 Annual Meeting of Shareholders. The Plan called for an annual award of restricted stock having a fair market value of $25,000 as of the close of business on October 1 of the current fiscal year for all eligible non-employee directors. In fiscal year 2005 the annual award was increased to $40,000 effective the fourth quarter of the fiscal year. The stock is awarded in four installments quarterly during the fiscal year provided the director is still serving on the board on the quarterly issue date. In fiscal year 2005The last awards under the Restricted Plan were made in 2010, and there are no further shares to award under this Plan. However, the Company continued to make an annual awardgrant of restricted shares under the 2009 Plan. Total share-based compensation expense for non-employee
directors was increased to $40,000 effective the fourth quarter of$200,000, $200,000 and $200,000 for the fiscal year.years ended September 30, 2012, 2011 and 2010, respectively.
In the fiscal years ended September 30, 2009, 20082012, 2011 and 2007,2010, awards to ourthe Company's non-employee directors under the Plan were 29,815, 11,35542,430, 42,237 and 15,05637,862 shares respectively.
Item 13. Certain relationships and related transactions and Directordirector independence.
Related Party Transactions
This information will be included in ourthe Company's Proxy Statement relating to ourits Annual Meeting of Shareholders, which will be filed within 120 days after close of ourthe Company's fiscal year covered by this Report, and is hereby incorporated by reference to such Proxy Statement.
Item 14. Principal accounting fees and services
This information will be included in ourthe Company's Proxy Statement relating to ourits Annual Meeting of Shareholders, which will be filed within 120 days after close of ourthe Company's fiscal year covered by this Report, and is hereby incorporated by reference to such Proxy Statement.
Item 15. Exhibits, financial statement schedules.
See index to Financial Statements at Item 8 on page 2931 of this report.
Schedules have been omitted because they are not applicable or are not required or the information required to be set forth therein is included in the financial statements or notes thereto.
Exhibit Number | Exhibit Title | ||
---|---|---|---|
3.1 | Articles of Incorporation of IS&S.(2) | ||
3.2 | Bylaws of IS&S.(7) | ||
10.1 | IS&S 1988 Incentive Stock Option Plan.(1)(3) | ||
10.2 | IS&S 1998 Stock Option Plan.(1)(4) | ||
10.3 | IS&S 2003 Restricted Stock | ||
10.4 | |||
IS&S 2009 Stock-Based Incentive Compensation | |||
Employment Agreement, dated February 14, 2012, between IS&S and Shahram Askarpour(10) | |||
21 | Subsidiaries of IS&S. | ||
23.1 | Consent of Deloitte and Touche LLP. | ||
31.1 | Certification of Chief Executive Officer pursuant to Rule 13a-14(a) | ||
31.2 | Certification of Chief Financial Officer Pursuant to Rule 13a-14(a) | ||
32.1 | Certification Pursuant to U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. | ||
99.1 | Amendment to the IS&S 1998 Stock Option | ||
101.INS | XBRL Instance Document(9) | ||
101.SCH | XBRL Taxonomy Extension Scheme Document(9) | ||
101.CAL | XBRL Taxonomy Extension Calculation Linkbase Document(9) | ||
101.DEF. | XBRL Taxonomy Extension Definition Linkbase Document(9) | ||
101.LAB | XBRL Taxonomy Extension Label Linkbase Document(9) | ||
101.PRE. | XBRL Taxonomy Extension Presentation Linkbase Document(9) |
Pursuant to the requirements of Section 13 or 15(d) 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 authorizedauthorized.
INNOVATIVE SOLUTIONS AND SUPPORT, INC. | ||||
By: | /s/ GEOFFREY S. M. HEDRICK Geoffrey S. M. Hedrick Chairman & Chief Executive Officer | |||
Dated: December 14, |
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
Signature | Title | Date | ||
---|---|---|---|---|
/s/ GEOFFREY S. M. HEDRICK Geoffrey S. M. Hedrick | Chairman & Chief Executive Officer | December 14, | ||
/s/ | President | December 14, | ||
/s/ | Chief Financial Officer (Principal Accounting Officer) | December 14, | ||
/s/ GLEN R. BRESSNER Glen R. Bressner | Director | December 14, | ||
/s/ WINSTON J. CHURCHILL Winston J. Churchill | Director | December 14, | ||
/s/ | Director | December 14, | ||
/s/ ROBERT E. MITTELSTAEDT, JR. Robert E. Mittelstaedt, Jr. | Director | December 14, | ||
/s/ ROBERT H. RAU Robert H. Rau | Director | December 14, |