Our management views revenues, the sources of our revenues, gross profit margin and the level of inventory compared to revenues as the key performance indicators in assessing our company’s financial condition and results of operations. While our management believes that demand for our products will continue to grow, our business is subject to a high degree of volatility because of the impact of geopolitical events, government budgeting, and competition.
The following table sets forth the breakdown of sales by segment for the three months ended June 30, 2009 and 2008.
Selling Expenses. Selling expenses for the three months ended June 30, 2009 decreased by 60.2% to $148,279 from $372,690 for the three months ended June 30, 2008. The decrease in our selling expenses was attributable primarily to the decrease in export sales commissions.
General and Administrative Expenses. General and administrative expenses for the three months ended June 30, 2009 decreased by 24.3% to $456,474 from $602,904 for the three months ended June 30, 2008. This decrease is primarily attributable to the appreciation of the U.S. dollar against the NIS.
Compensation from Israeli Government. Export Erez and Mayotex received $53,002 and $170,911, respectively, as compensation from the Israeli Government under the “Property tax and compensation payments for war damages” regulations, for the loss of employment days and potential revenues during the last two years due to the security and military situation in the area in which Export Erez and Mayotex are located.
Financial (Expenses) Income, Net. We had financial expenses, net of $224,056 for the three months ended June 30, 2009 compared to financial expenses, net of $151,243 for the three months ended June 30, 2008. Our financial expenses are primarily due to the change in the U.S. dollar exchange rate versus the NIS, which resulted in a loss of $233,599 for the three months ended June 30, 2009 compared to a loss of $134,483 for the three months ended June 30, 2008.
Other Income (Expense), Net. We had other income, net for the three months ended June 30, 2009 of $57,001 as compared to other expense, net of $56,189 for the three months ended June 30, 2008. Our other income in three months ended June 30, 2009 is attributable to a $42,489 gain derived from revaluation of funds in respect of employee rights upon retirement, a $4,805 gain derived from sales of tradable securities and a $9,707 unrealized gain on tradable securities. Our other expense for the three months ended June 30, 2008 is mainly attributable to a $12,416 loss from sales of tradable securities and a $45,777 unrealized loss on tradable securities.
Income Tax Expense. Our income tax expense for the three months ended June 30, 2009 was $73,375 compared to income tax expense of $9,310 for the three months ended June 30, 2008. The increase in income tax expense was mainly due to the increase in our income before income taxes in the three months ended June 30, 2009.
Extraordinary Income.We didn’t record any extraordinary income for the three months ended June 30, 2009. For the three months ended June 30, 2008, we recognized and recorded extraordinary income of $228,703, net of tax, from the payments to our three subsidiaries, Export Erez, Mayotex and Achidatex, by the Israeli Government with respect to their evacuation from the Gaza Industrial Zone.
Noncontrolling Interest.For the three months ended June 30, 2009, we did not recognize or record any noncontrolling interest, compared with the noncontrolling interest in our profit of $18,042 for the three months ended June 30, 2008 with respect to a subsidiary that is now wholly-owned.
Net Income.For the three months ended June 30, 2009 our consolidated net income of controlling interest was $131,355, compared to $195,087 for the three months ended June 30, 2008.
Six Months Ended June 30, 2009 Compared with Six Months Ended June 30, 2008
Net Revenues. Net revenues for the six months ended June 30, 2009 increased to $9,389,425 from $7,602,388 in the six months ended June 30, 2008, an increase of 23.5%. The increase is mainly attributable to an increase in our local military and export military market segments. In the period ended June 30, 2009, revenues from our local military market segment increased by approximately $1.4 million and our military export market segment grew by approximately $1.6 million. The increased revenues in our local military market segment are attributable to an increase in demand for our products. The increased revenues in our export military market segment are attributable to a general increase in demand for our products during the first quarter, especially armored vehicles, which demand moderated during the second quarter of 2009. The following table sets forth the breakdown of sales by segment for the six months ended June 30, 2009 and 2008.
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| | Six Months Ended
June 30,
|
|---|
| | 2009
| 2008
|
|---|
| | | |
|---|
| | | |
|---|
| | | |
|---|
| Local civilian market | | | $ | 1,155,330 | | $ | 2,186,102 | |
| Export civilian market | | | | 422,853 | | | 591,372 | |
| Local military market | | | | 4,206,024 | | | 2,784,788 | |
| Export military market | | | | 3,605,218 | | | 2,040,126 | |
| |
| |
| |
| Total | | | $ | 9,389,425 | | $ | 7,602,388 | |
| |
| |
| |
Gross Profit. Gross profit for the six months ended June 30, 2009 was $2,244,353 compared to $1,919,906 for the six months ended June 30, 2008. This increase in gross profit is primarily attributable to the increase in revenues from sales. Our gross profit margin for the six months ended June 30, 2009 decreased to 23.9% compared to 25.3% for the six months ended June 30, 2008.
Selling Expenses. Selling expenses for the six months ended June 30, 2009 decreased by 37.3% to $332,055 from $529,834 for the six months ended June 30, 2008. The decrease in our selling expenses was attributable primarily to lower commissions due to the decrease in sales in our export civilian market.
General and Administrative Expenses. General and administrative expenses for the six months ended June 30, 2009 decreased by 13.6% to $986,368 from $1,141,229 for the six months ended June 30, 2008. This decrease is primarily attributable to the appreciation of the U.S. dollar against the NIS.
Financial (Expenses) Income, Net. We had financial income, net of $216,969 for the six months ended June 30, 2009 compared to financial expenses, net of $266,501 for the six months ended June 30, 2008. Our financial income is primarily due to the change in the U.S. dollar exchange rate versus the NIS, which resulted in a gain of $157,368 for the six months ended June 30, 2009 compared to a loss of $261,540 for the six months ended June 30, 2008.
Other Income (Expense), Net. We had other income, net for the six months ended June 30, 2009 of $221,205 as compared to other expense, net of $96,669 for the six months ended June 30, 2008. Our other income in six months ended June 30, 2009 is mainly attributable to revaluation of funds in respect of employee rights upon retirement of $81,240, a gain derived from sales of tradable securities of $24,680 and an unrealized gain of $115,285 on tradable securities. Our other expense in six months ended June 30, 2008 is mainly attributable to a $55,046 loss derived from sales of tradable securities and a $53,007 unrealized loss on tradable securities.
Income Tax Expense. Our income tax expense for the six months ended June 30, 2009 was $358,226 compared to income tax expense of $89,004 for the six months ended June 30, 2008. The increase in income tax expense was mainly due to the increase in our income before income taxes in the six months ended June 30, 2009.
Extraordinary Income. We did not record any extraordinary income for the six months ended June 30, 2009. For the six months ended June 30, 2008, we recognized and recorded extraordinary income of $4,910,541, net of tax, from the payments to our three subsidiaries, Export Erez, Mayotex and Achidatex, by the Israeli Government with respect to their evacuation from the Gaza Industrial Zone.
Noncontrolling Interest. For the six months ended June 30, 2009, we did not recognize or record any noncontrolling interest, compared with the noncontrolling interest in our profit of $59,459 for the six months ended June 30, 2008 with respect to a subsidiary that is now wholly-owned.
Net Income. In the six months ended June 30, 2009 our consolidated net income of controlling interest was $1,229,791, compared to $4,647,751 for the six months ended June 30, 2008.
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Liquidity and Capital Resources
As of June 30, 2009, we had $3,411,492 in cash and cash equivalents, $2,154,927 in trading securities and working capital of $10,148,693 as compared to $1,719,921 in cash and cash equivalents, $2,384,727 in trading securities and working capital of $10,088,528 at December 31, 2008.
The current economic climate and the uncertainty in the global financial markets resulting from the disruption in credit markets may affect our ability to raise additional funds in the future, if required. There can be no assurance that such additional financing will be available to us, or if available, will be on terms favorable to our company.
On October 30, 2008, our Board of Directors authorized a stock repurchase program, which authorizes the use of up to $450,000 for the purchase of shares of common stock of our company over a period of six months. We did not purchase any shares as part of this program, but we purchased 1,050,000 shares from our former minority shareholders in December 31, 2008 in connection with our purchase of their minority interests.
Cash Flows
The following table summarizes our cash flows for the periods presented:
| | Six months ended
|
|---|
| | June 30, 2009
| June 30, 2008
|
|---|
| | | |
|---|
| | | |
|---|
| | | |
|---|
| Net cash provided by (used in) operating activities | | | $ | 983,638 | | $ | (1,917,075 | ) |
| Cash provided by extraordinary items | | | | - | | | 4,910,541 | |
| Net cash provided by (used in) investing activities | | | | 2,066,130 | | | (1,995,114 | ) |
| Net cash used in financing activities | | | | (1,431,949 | ) | | (309,460 | ) |
| Net increase in cash and cash equivalents | | | | 1,691,571 | | | 728,486 | |
| Cash and cash equivalents at beginning of period | | | | 1,719,921 | | | 1,120,054 | |
| Cash and cash equivalents at end of period | | | | 3,411,492 | | | 1,848,540 | |
Net cash provided by operating activities was $983,638 for the six months ended June 30, 2009 as compared to $1,917,075 used in operating activities in the six months ended June 30, 2008. This was primarily provided from net income of $1,229,791, a decrease in trading securities of $268,088, and a decrease in other current assets of $417,792, offset by a decrease in accounts payable of $237,215, and a decrease in other current liabilities of $245,656.
Net cash provided by investing activities was $2,066,130 for the six months ended June 30, 2009 as compared to $1,995,114 net cash used in the six months ended June 30, 2008. During the six months ended June 30, 2009, $3,000,000 was provided from the redemption of bank deposits, $23,658 was provided from the sale of fixed assets, $76,594 was used to purchase fixed assets and $880,934 was used to purchase of a business.
Net cash used in financing activities was $1,431,949 for the six months ended June 30, 2009 as compared to $309,460 net cash used in financing activities for the six months ended June 30, 2008. During the six months ended June 30, 2009, we incurred additional short-term debt of $46,314, repaid $185,635 of long-term debt and repaid $1,200,000 to related party creditors for the purchase of the minority interest in Achidatex and 1,050,000 of our shares.
Most of our large contracts, which are Israeli Governmental contracts, are supported by letters of credit. As a result, we believe that we have limited exposure to doubtful accounts receivables. We have strived to balance our accounts payable and accounts receivable.
Subject to an unexpected growth in inventories as a result of future growth in sales and to a significant change in raw material prices, we intend to use our cash flow from operations for the acquisition of companies or equipment to expand our capabilities.
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We anticipate that our research and development expenses in 2009 will total approximately $140,000.
We believe that we have sufficient working capital and borrowing capability to sustain our current level of operations for the next twelve months.
Foreign Currency Exchange Risk
We develop products in Israel and sell them in Israel, North and South America, Asia, Africa and several European countries. Our sales in Israel are denominated in NIS while most of our export sales are denominated in U.S. dollars. In addition, our labor expenses are primarily paid in NIS while our expenses for raw materials are paid in U.S. dollars and Euros. As a result, our financial results could be affected by factors such as changes in foreign currency exchange rates or weak economic conditions in foreign markets.
Our foreign currency exposure with respect to our sales is mitigated, and we expect it will continue to be mitigated, through salaries, materials and support operations, in which part of these costs are denominated in NIS.
In the year ended December 31, 2008, the inflation rate in Israel was 3.8% and the NIS appreciated in relation to the U.S. dollar at a rate of 1.14%, from NIS 3.846per $1 on December 31, 2007 to NIS 3.802 per $1 on December 31, 2008. In the six months ended in June 30, 2009 deflation in Israel was2.2% while the NIS devaluated in relation to the U.S. dollar at a rate of 3.1%. If future inflation in Israel exceeds the devaluation of the NIS against the U.S. dollar or if the timing of such devaluation lags behind increases in inflation in Israel, our results of operations may be materially adversely affected.
We did not enter into any foreign exchange contracts or hedging transactions in the six months ended June 30, 2009.
Inflation and Seasonality
We do not believe that our operating results have been materially affected by inflation during the preceding two years. There can be no assurance, however, that our operating results will not be affected by inflation in the future. Our business is subject to minimal seasonal variations with slightly increased sales historically in the second and third quarters of fiscal year.
Off-balance Sheet Arrangements
None.
Contractual Obligations
The following table summarizes our contractual obligations and commercial commitments as of June 30, 2009.
Contractual Obligations
| | Payments due by Period
|
|---|
| Total
| Less than 1 year
| 2 - 3 years
| 4 - 5 years
| more than 5 years
|
|---|
| | | | | | |
|---|
| | | | | |
|---|
| Long-term debt obligations | | | $ | 688,814 | | $ | 298,709 | | $ | 334,819 | | $ | 55,286 | | $ | - | |
| Estimated interest payments on long-term debt obligations | | | | 57,423 | | | 31,538 | | | 23,524 | | | 2,361 | | | - | |
| Operating lease obligations | | | | 302,135 | | | 251,612 | | | 50,523 | | | - | | | - | |
|
| |
| |
| |
| |
| |
| | | |
| Total | | | $ | 1,048,372 | | $ | 581,859 | | $ | 408,866 | | $ | 57,647 | | $ | - | |
|
| |
| |
| |
| |
| |
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Critical Accounting Policies
A discussion of our critical accounting policies was provided in Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2008. There were no significant changes to these policies in the six months ended June 30, 2009.
Recent Accounting Pronouncements
In April 2009, the Financial Accounting Standard Based (“FASB”) issued FSP FAS 157-4, “Determining Fair Value When Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly” (FSP 157-4). FSP 157-4 provides guidance on how to determine the fair value of assets and liabilities when the volume and level of activity for the asset/liability has significantly decreased. FSP 157-4 also provides guidance on identifying circumstances that indicate a transaction is not orderly. In addition, FSP 157-4 requires disclosure in interim and annual periods of the inputs and valuation techniques used to measure fair value and a discussion of changes in valuation techniques. FSP 157-4 is effective for us beginning in the second quarter of fiscal year 2009. The adoption of FSP 157-4 did not have a significant impact on our interim financial statements.
In April 2009, the FASB issued FSP FAS 115-2 and FAS 124-2, “Recognition and Presentation of Other-Than-Temporary Impairment” (FSP 115-2/124-2). FSP 115-2/124-2 amends the requirements for the recognition and measurement of other-than-temporary impairments for debt securities by modifying the pre-existing “intent and ability” indicator. Under FSP 115-2/124-2, an other-than-temporary impairment is triggered when there is an intent to sell the security, it is more likely than not that the security will be required to be sold before recovery, or the security is not expected to recover the entire amortized cost basis of the security. Additionally, FSP 115-2/124-2 changes the presentation of an other-than-temporary impairment in the income statement for those impairments involving credit losses. The credit loss component will be recognized in earnings and the remainder of the impairment will be recorded in other comprehensive income. FSP 115-2/124-2 is effective for us beginning in the second quarter of fiscal year 2009. FSP 115-2/124-2 did not have a significant impact on our interim financial statements.
In April 2009, the FASB issued FSP FAS 107-1 and APB 28-1, “Interim Disclosure about Fair Value of Financial Instruments” (FSP 107-1/APB 28-1). FSP 107-1/APB 28-1 requires interim disclosures regarding the fair values of financial instruments that are within the scope of FAS 107, “Disclosures about the Fair Value of Financial Instruments.” Additionally, FSP 107-1/APB 28-1 requires disclosure of the methods and significant assumptions used to estimate the fair value of financial instruments on an interim basis as well as changes of the methods and significant assumptions from prior periods. FSP 107-1/APB 28-1 does not change the accounting treatment for these financial instruments and is effective for the us beginning in the second quarter of fiscal year 2009.
In May 2009, SFAS No. 165, Subsequent Events, was issued by the FASB, which establishes general standards of accounting for and disclosure of events that occur after the balance sheet date but before the financial statements are issued or are available to be issued. SFAS No. 165 provides guidance on the period after the balance sheet date during which management of a reporting entity should evaluate events or transactions that may occur for potential recognition or disclosure in the financial statements, the circumstances under which an entity should recognize events or transactions occurring after the balance sheet date in its financial statements and the disclosures that an entity should make about events or transactions that occurred after the balance sheet date. SFAS No. 165 is effective for interim or annual financial periods ending after June 15, 2009. Accordingly, we have adopted SFAS No. 165 for the period ended June 30, 2009, and its application had no impact on our condensed financial statements. Events subsequent to the balance sheet date have been evaluated for inclusion in the accompanying financial statements through the issuance date, August 14, 2009.
In June 2009, the FASB issued SFAS No. 168, The FASB Accounting Standards CodificationTM and the Hierarchy of Generally Accepted Accounting Principles–a replacement of FASB Statement No. 162 (SFAS 168). The statement confirmed that the FASB Accounting Standards Codification (the Codification) will become the single official source of authoritative U.S. GAAP (other than guidance issued by the SEC), superseding existing FASB, American Institute of Certified Public Accountants, Emerging Issues Task Force (EITF), and related literature. After that date, only one level of authoritative U.S. GAAP will exist. All other literature will be considered non-authoritative. The Codification does not change U.S. GAAP; instead, it introduces a new structure that is organized in an easily accessible, user-friendly online research system. The Codification, which changes the referencing of financial standards, becomes effective for interim and annual periods ending on or after September 15, 2009. We will apply the Codification beginning in the third quarter of 2009. We do not expect the adoption of SFAS 168 to have any substantive impact on our Condensed Consolidated Financial Statements or related footnotes.
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| Item 3. | | Quantitative and Qualitative Disclosures About Market Risk |
Interest Rate Risk
We do not believe that we have any material exposure to interest rate risk other than sensitivity to prevailing interest rates that may affect income from our cash deposits and marketable securities.
Foreign Exchange Risk
Most of our sales are currently denominated in dollars, while the majority of our operating expenses are incurred in foreign currencies, principally the NIS. As a result, the decrease in the value of the U.S. dollar against these currencies has resulted in increased expenses for our company. In 2006, 2007 and 2008, the U.S dollar depreciated against the NIS by approximately 8%, 9%, 1%, respectively. In the first six months of 2009, the U.S dollar appreciated by approximately 3.1% in relation to the NIS.
| Item 4T. | | Controls and Procedures |
We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our Securities Exchange Act of 1934, or the Exchange Act, reports is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to our chief executive officer and chief financial officer to allow timely decisions regarding required disclosure. Our management, including our chief executive officer and chief financial officer, conducted an evaluation of the effectiveness of our disclosure controls and procedures, as defined under Exchange Act Rule 13a-15(e), as of the end of the period covered by this Quarterly Report on Form 10-Q. Based upon that evaluation, our chief executive officer and chief financial officer have concluded that, as of such date, our disclosure controls and procedures were effective.
Changes in Internal Control over Financial Reporting
There was no change in our internal control over financial reporting that occurred during the quarter ended June 30, 2009 that has materially affected, or is reasonably likely to materially affect, our internal controls over financial reporting.
PART II – OTHER INFORMATION:
On February 11, 2009, a lawsuit was filed in the Jerusalem District Court against our subsidiaries, Export Erez USA Inc. and Achidatex, and its chief executive officer, Mr. Avraham Hazor. The suit alleges that Achidatex materially breached its agreement with the plaintiff, dated February 22, 2000, relating to the development of inflatable mine-field crossing enabling sandals, because Achidatex allegedly failed to register patents for the technology worldwide and only registered patents in the United States. The plaintiff further claims that the defendants, jointly and severally, committed a breach of trust. The plaintiff is seeking damages in the amount of NIS 10 million (approximately $2.6 million), and claiming all rights in the patent. Contemporaneously with the filing of the claim, the plaintiff also filed a motion seeking an exemption from payment of the requisite court filing fee, which motion was subsequently granted. We believe that the plaintiff’s claim is unfounded and that we have substantial legal arguments to oppose the allegations. We intend to vigorously defend against the claim and we are considering a possible counterclaim.
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Our business may be negatively affected by the current global economic and credit crisis.
The current economic climate and the uncertainty in the global economic conditions resulting from the recent disruption in credit markets pose a risk to the overall economy that could impact customer demand for our products, as well as our ability to manage normal commercial relationships with our customers, suppliers and creditors. If the current situation deteriorates significantly, our business could be negatively impacted, including such areas as reduced demand for our products from a slow-down in the general economy, or supplier or customer disruptions resulting from tighter credit markets.
Reliance on a Limited Number of Key Personnel.
Our success has been significantly dependent on the services of our former chairman and chief executive officer, Joseph Postbinder. Mr. Postbinder passed away in June 2009 and we appointed Mrs. Meira Postbinder to succeed him as the chairman of our board of directors. Mr. Baruch Tosh, our president, was appointed as Chief Executive Officer. The death of Mr. Joseph Postbinder could have a material adverse effect on our business.
There have been no other material changes to our “Risk Factors” set forth in our Annual Report on Form 10-K for the year ended December 31, 2008.
Exhibits
| 31.1 | | Certification of Chief Executive Officer pursuant to Rule 13a-14(a) of the Securities Exchange Act, as amended. |
| 31.2 | | Certification of Chief Financial Officer pursuant to Rule 13a-14(a) of the Securities Exchange Act, as amended. |
| 32.1 | | Certification of Chief Financial Officer pursuant to Rule 13a-14(a) of the Securities Exchange Act, as amended. |
| 32.2 | | Certification of Chief Financial Officer pursuant to 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
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SIGNATURE
In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Dated: August 14, 2009 | | DEFENSE INDUSTRIES INTERNATIONAL, INC.
By: /s/ Baruch Tosh
——————————————
Baruch Tosh
Chief Executive Officer and President |
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