UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 30, 2005 |
Commission File Number 1-9014 |
Chyron Corporation |
(Exact name of registrant as specified in its charter) |
New York | 11-2117385 | |
(State or other jurisdiction of incorporation or organization) | (IRS Employer Identification No.) | |
5 Hub Drive, Melville, New York | 11747 | |
(Address of principal executive offices) | (Zip Code) | |
(631) 845-2000 | ||
(Registrant's telephone number, including area code) |
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days.
Yes | X | No |
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).
Yes | No | X |
Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practical date.
Common Stock $.01 Par Value - 41,378,610 as of October 31, 2005
This document consists of 22 pages
CHYRON CORPORATION
INDEX
PART I | FINANCIAL INFORMATION | Page |
Item 1. | Financial Statements | |
Consolidated Balance Sheets as of September 30, 2005 (unaudited) and | ||
December 31, 2004 | 3 | |
Consolidated Statements of Operations and Comprehensive | ||
Income (unaudited) for the Three Months ended | ||
September 30, 2005 and 2004 | 4 | |
Consolidated Statements of Operations and Comprehensive | ||
Income (Loss) (unaudited) for the Nine Months ended | ||
September 30, 2005 and 2004 | 5 | |
Consolidated Statements of Cash Flows (unaudited) for the Nine | ||
Months ended September 30, 2005 and 2004 | 6 | |
Notes to Consolidated Financial Statements (unaudited) | 7 | |
Item 2. | Management's Discussion and Analysis of Financial Condition | |
and Results of Operations | 14 | |
Item 3. | Quantitative and Qualitative Disclosure About Market Risk | 20 |
Item 4. | Controls and Procedures | 21 |
PART II | OTHER INFORMATION | |
Item 1. | Legal Proceedings | 21 |
Item 6. | Exhibits | 21 |
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CHYRON CORPORATION
CONSOLIDATED BALANCE SHEETS
(In thousands, except share amounts)
Unaudited | ||
September 30, | December 31, | |
ASSETS | 2005 | 2004 |
Current assets: | ||
Cash and cash equivalents | $1,659 | $2,855 |
Accounts receivable, net | 3,999 | 3,388 |
Inventories, net | 2,613 | 2,570 |
Prepaid expenses and other current assets | 248 | 718 |
Total current assets | 8,519 | 9,531 |
Property and equipment, net | 645 | 745 |
Other assets | 19 | 29 |
TOTAL ASSETS | $9,183 | $10,305 |
LIABILITIES AND SHAREHOLDERS' DEFICIT | ||
Current liabilities: | ||
Accounts payable and accrued expenses | $3,107 | $3,215 |
Convertible debentures | 1,304 | 1,239 |
Deferred revenue | 1,014 | 934 |
Pension liability | 529 | 362 |
Capital lease obligations | - | 8 |
Total current liabilities | 5,954 | 5,758 |
Convertible debentures | 2,792 | 3,979 |
Pension liability | 1,513 | 1,664 |
Other liabilities | 216 | 225 |
�� Total liabilities | 10,475 | 11,626 |
Commitments and contingencies | ||
Shareholders' deficit: | ||
Preferred stock, par value without designation | ||
Authorized - 1,000,000 shares, issued - none | - | - |
Common stock, par value $.01 | ||
Authorized - 150,000,000 shares | ||
Issued and outstanding - 41,367,039 at September 30, 2005 and | ||
41,326,016 at December 31, 2004 | 414 | 413 |
Additional paid-in capital | 71,985 | 71,968 |
Accumulated deficit | (73,690) | (73,701) |
Accumulated other comprehensive income | (1) | (1) |
Total shareholders' deficit | (1,292) | (1,321) |
TOTAL LIABILITIES AND SHAREHOLDERS' DEFICIT | $ 9,183 | $10,305 |
See Notes to Consolidated Financial Statements
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CHYRON CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE INCOME
THREE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004
(In thousands, except per share amounts)
(Unaudited)
2005 | 2004 | |
Net sales | $6,564 | $6,292 |
Cost of products sold | 2,624 | 2,504 |
Gross profit | 3,940 | 3,788 |
Operating expenses: | ||
Selling, general and administrative | 2,737 | 2,634 |
Research and development | 719 | 820 |
Total operating expenses | 3,456 | 3,454 |
Operating income | 484 | 334 |
Interest expense | (48) | (98) |
Interest income | 21 | 3 |
Other income (expense), net | (1) | 87 |
Net income | $ 456 | $ 326 |
Net income per common share - basic and diluted | $ 0.01 | $ 0.01 |
Weighted average shares outstanding: | ||
Basic | 41,352 | 40,782 |
Diluted | 41,659 | 41,519 |
Comprehensive income: | ||
Net income | $ 456 | $ 326 |
Other comprehensive income: | ||
Foreign currency translation gain | - | 2 |
Total comprehensive income | $ 456 | $ 328 |
See Notes to Consolidated Financial Statements
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CHYRON CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE INCOME (LOSS)
NINE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004
(In thousands, except per share amounts)
(Unaudited)
2005 | 2004 | |
Net sales | $18,321 | $16,904 |
Cost of products sold | 7,096 | 6,604 |
Gross profit | 11,225 | 10,300 |
Operating expenses: | ||
Selling, general and administrative | 8,954 | 7,568 |
Research and development | 2,128 | 2,564 |
Total operating expenses | 11,082 | 10,132 |
Operating income | 143 | 168 |
Interest expense | (167) | (343) |
Interest income | 77 | 39 |
Other income (expense), net | (42) | 344 |
Net income | $ 11 | $ 208 |
Net income per common share - basic and diluted | $ 0.00 | $ 0.01 |
Weighted average shares outstanding: | ||
Basic | 41,341 | 40,751 |
Diluted | 41,608 | 41,535 |
Comprehensive income (loss): | ||
Net income | $ 11 | $ 208 |
Other comprehensive income (loss): | ||
Foreign currency translation gain | - | 4 |
Unrealized loss on securities available for sale | - | (223) |
Total comprehensive income (loss) | $ 11 | $ (11) |
See Notes to Consolidated Financial Statements
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CHYRON CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
NINE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004
(In thousands)
(Unaudited)
2005 | 2004 | |
CASH FLOWS FROM OPERATING ACTIVITIES | ||
Net income | $ 11 | $ 208 |
Adjustments to reconcile net income to cash used in | ||
operating activities: | ||
Depreciation and amortization | 260 | 229 |
Non-cash settlement of interest liability | 138 | 235 |
Amortization of debt issue costs | 33 | 98 |
Gain on sale of securities | - | (224) |
Other | 11 | 54 |
Changes in operating assets and liabilities: | ||
Accounts receivable | (611) | (745) |
Inventories | (43) | (1,338) |
Prepaid expenses and other assets | 19 | (223) |
Accounts payable and accrued expenses | (108) | 256 |
Deferred revenue | 239 | 189 |
Other liabilities | (150) | (328) |
Net cash used in operating activities | (201) | (1,589) |
CASH FLOWS FROM INVESTING ACTIVITIES | ||
Acquisitions of property and equipment | (160) | (309) |
Receipt of proceeds from sale of Pro-Bel | 428 | 415 |
Proceeds from sale of securities | - | 289 |
Net cash provided by investing activities | 268 | 395 |
CASH FLOWS FROM FINANCING ACTIVITIES | ||
Payments of convertible debentures | (1,260) | (3,792) |
Proceeds from exercise of stock options | 5 | - |
Payments of capital lease obligations | (8) | (7) |
Net cash used in financing activities | (1,263) | (3,799) |
Change in cash and cash equivalents | (1,196) | (4,993) |
Cash and cash equivalents at beginning of period | 2,855 | 6,968 |
Cash and cash equivalents at end of period | $ 1,659 | $ 1,975 |
Supplemental cash flow information: | ||
Net interest received | $ 22 | $ 3 |
See Notes to Consolidated Financial Statements
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1.BASIS OF PRESENTATION
General
In the opinion of management of Chyron Corporation (the "Company" or "Chyron"), the accompanying unaudited consolidated interim financial statements reflect all adjustments (consisting of normal recurring adjustments) necessary to present fairly the financial position of the Company as of September 30, 2005 and the consolidated results of its operations and its cash flows for the periods ended September 30, 2005 and 2004. The results of operations for such interim periods are not necessarily indicative of the results that may be expected for the year ending December 31, 2005. In addition, management is required to make estimates and assumptions that affect the amounts reported and related disclosures. Estimates, by their nature, are based on judgment and available information. Also, during interim periods, certain costs and expenses are allocated among periods based on an estimate of time expired, benefit received, or other activity associated with the periods. Accordi ngly, actual results could differ from those estimates. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been omitted pursuant to the rules and regulations of the Securities and Exchange Commission. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 2004. The December 31, 2004 balance sheet included herein was derived from such audited consolidated financial statements. Certain reclassifications have been made to the 2004 financial statements to conform to the 2005 method of presentation.
Nature of Business
Chyron Corporation and its wholly-owned subsidiaries is a supplier of character generators ("CG") and graphics hardware and software related products to the television industry. The Company develops, manufactures, markets and supports hardware and software products that enhance the presentation of live and pre-recorded video, audio and other data. Chyron's products are used in broadcast production facilities worldwide for applications including news, sports, weather and election coverage. The Company's graphics products create, manipulate, store, playback and manage content including 2D/3D text, logos, graphics, animations and video stills/clips. In January 2005, Chyron expanded its products through the introduction of its ChyTV product line, providing low-cost, easy to use graphics for microcasting and digital displays applications.
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Liquidity
Our future growth and success will depend to a significant degree on the continued growth of various markets that use our products. We operate in a rapidly changing environment and must remain responsive to changes as they occur. In the event that revenues are significantly below forecasted revenues we believe we have the ability to reduce or delay discretionary expenditures, including capital purchases, and reduce headcount, according to our contingency plan so that we will have sufficient cash resources. However, there can be no assurance that we will be able to adjust our costs in sufficient time to respond to revenue and cash shortfalls, should that occur.
The long term success of the Company will be dependent on profitable operating results and the ability to raise additional capital should such additional capital be required. In the event the Company is unable to achieve expected goals of profitability or raise sufficient additional capital, if needed, we may have to scale back or eliminate certain parts of our operations.
In the event of a significant downturn in sales, we have a contingent restructuring plan that recommends, in the event it is necessary, to reduce and/or defer spending in staffing, travel, trade shows, professional fees, equipment, and bonuses, among other items. However, there can be no assurance we would be able to execute the plans in adequate time to provide a significant immediate or short-term benefit and if implemented, could have an adverse effect on our ability to conduct business.
We believe that cash on hand, net cash to be generated in the business, and availability under our line of credit, will be sufficient to meet our cash needs through mid April 2006 if we are able to achieve our planned results of operations and retain availability of credit under our line. Our line of credit with our lender expires April 14, 2006. We will commence renewal discussions in the fourth quarter of 2005. The Company has Series C convertible debentures in the amount of $1.3 million that will mature on April 30, 2006. We believe we will be able to refinance the debt prior to its maturity. The Company is exploring the possibility of alternative sources of funds, should it appear they will be needed, which could include a private common or preferred equity placement, a debenture private placement, or a term loan, in the fourth quarter of 2005 to first quarter of 2006. The amount of funds that the Company would seek in such a transaction has not been determined at this time but would take into consideration the Company's need for working capital and the $1.3 million of convertible debentures that will mature on April 30, 2006.
There can be no assurance we will be able to achieve our plan. Furthermore, there can be no assurance that our bank will permit us to borrow under our line of credit if we fail to meet financial covenants and other requirements of the agreement or that we will be able to raise additional capital, if needed. From the inception of our agreement with our U.S. bank and through June 30, 2005, the Company was in compliance with our covenants. However, as of July 31, 2005, the Company did not meet its tangible net worth requirement of $2 million by approximately $0.1 million, for which we obtained a waiver. Also at such time, the bank modified its agreement and reduced the tangible net worth requirements as stated in Note 6. The Company has been in compliance with its revised covenants for all months subsequent to this modification.
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Accounts Payable
A benefit of $0.2 million was realized in the three and nine month SG&A expenses from the reversal of old accounts payable relating to discontinued product lines and businesses, that were no longer deemed to be payable.
Net Income Per Share
Basic earnings per share is computed based on the weighted average number of common shares outstanding. Diluted earnings per share is based on the sum of the weighted average number of common shares outstanding and common stock equivalents. Shares used to calculate earnings per share are as follows (in thousands):
Three Months Ended | Nine Months Ended | |||
September 30, | September 30, | |||
2005 | 2004 | 2005 | 2004 | |
Basic weighted average shares outstanding | 41,352 | 40,782 | 41,341 | 40,751 |
Effect of dilutive stock options | 307 | 499 | 267 | 526 |
Effect of dilutive warrants | - | 238 | - | 258 |
Diluted weighted average shares outstanding | 41,659 | 41,519 | 41,608 | 41,535 |
Weighted average shares which are not | ||||
Stock options | 5,081 | 3,960 | 4,989 | 3,725 |
Convertible debentures | 4,917 | 5,371 | 4,917 | 5,371 |
Warrants | - | 1,018 | - | 998 |
9,998 | 10,349 | 9,906 | 10,094 |
2.EQUITY BASED COMPENSATION
We account for our stock compensation plans in accordance with the provisions of Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25"), and its related interpretations, which requires that compensation cost be recognized on the date of grant for stock options issued based on the difference, if any, between the fair market value of our stock and the exercise price. Under this intrinsic value method prescribed under APB 25, there was no compensation expense recognized for the three and nine month periods ended September 30, 2005 and 2004. We have adopted the disclosure requirements of SFAS 123, "Accounting for Stock-Based Compensation," as amended by SFAS No. 148, "Accounting for Stock-Based Compensation - Transition and Disclosure" which allows entities to continue to apply the provisions of APB 25 for transactions with employees and provides pro-forma earnings disclosures for employee stock grants as if th e fair value based method of accounting in SFAS No. 123 had been applied to these stock grants. The following table illustrates the effect on net income and net income per common share if the fair value method had been applied (in thousands, except per share amounts):
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| Three Months Ended | Nine Months Ended | ||
September 30, | September 30, | |||
2005 | 2004 | 2005 | 2004 | |
Net income | $ 456 | $ 326 | $ 11 | $ 208 |
Total stock-based compensation | ||||
determined under fair value based | ||||
method | (56) | (81) | (832) | (108) |
Pro forma net income (loss) | $ 400 | $ 245 | $(821) | $ 100 |
Net income (loss) per common share: | ||||
Basic and diluted - as reported | $0.01 | $0.01 | $ 0.00 | $0.01 |
Basic and diluted - pro forma | $0.01 | $0.01 | $(0.02) | $0.00 |
Pursuant to authorization received from the Board of Directors, on February 3, 2005 the Company accelerated the vesting of certain outstanding unvested stock options with an exercise price of greater than $0.47 per share. These options were originally scheduled to vest in equal increments at the end of each of the first, second and third years following their grant date. Options representing the right to purchase a total of 100,000 shares that were previously granted to non-employee Directors of the Board of Directors, and that would otherwise qualify for this acceleration, were excluded from the acceleration of vesting.
The Company accelerated these options in advance of the effective date of, and in anticipation of the detrimental earnings effect of, Statement of Financial Accounting Standards No. 123 "Share-Based Payment" ("SFAS 123R"), which was issued in December 2004. SFAS 123R will require that beginning January 1, 2006 (originally July 1, 2005), the Company record, as compensation expense, in its statement of operations the value of employee stock options. Until the Company commences accounting for stock options under SFAS 123R in 2006, it will continue its practice of accounting for stock options in accordance with the provisions of APB 25. The Company's decision to accelerate the vesting of the options was due to its desire to avoid recording compensation expense for these options in its statement of operations in future years when these options were originally scheduled to vest. The financial effect in the first quarter of 2005 was to accelerate the pro forma compensation ex pense by $0.7 million and thereby avoid recording compensation expense of $0.29 million in 2006 and $0.15 million in 2007 that would have been required once FAS 123R is implemented in January 2006. As a result of the acceleration of vesting, options to purchase 1,503,939 shares of the Company's common stock became immediately exercisable. The following table summarizes the accelerated stock options:
Exercise | Number of Option Shares Accelerated | ||||
Price | from Original Vesting in | ||||
2005 | 2006 | 2007 | Total | ||
$0.67 | 0 | 400,611 | 400,611 | 801,222 | |
0.62 | 73,333 | 73,333 | 73,334 | 220,000 | |
0.51 | 0 | 1,500 | 1,500 | 3,000 | |
0.48 | 159,905 | 159,906 | 159,906 | 479,717 | |
233,238 | 635,350 | 635,351 | 1,503,939 |
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3.MARKETABLE SECURITY
The Company had an investment in equity securities of vizrt Ltd. that was sold in the first quarter of 2004 and resulted in a gain of $0.2 million which is included in other income.
4.INVENTORIES
Inventory, net is comprised of the following (in thousands):
September 30, | December 31, | |
2005 | 2004 | |
Finished goods | $ 582 | $ 777 |
Work-in-progress | 488 | 466 |
Raw materials | 1,543 | 1,327 |
$2,613 | $2,570 |
5.SUBORDINATED CONVERTIBLE DEBENTURES
September 30, | December 31, | |
2005 | 2004 | |
(In thousands) | ||
Series C Convertible Debentures | $1,304 | $2,478 |
Series D Convertible Debentures | 2,792 | 2,740 |
$4,096 | $5,218 |
In late 2003 and early 2004, we closed on two exchange offers whereby previously outstanding Series A and B Debentures were exchanged for new Series C Subordinated Convertible Debentures ("Series C Debentures") and new Series D Subordinated Convertible Debentures ("Series D Debentures"). The Series C Debentures bear interest annually at 7%, payable in kind, and can be converted to common stock at a per share conversion price of $1.50. In March 2005, all holders of the Company's Series C Debentures agreed to an amendment that resulted in payment by the Company on March 31, 2005, of a total of $1.26 million, representing 50% of their principal and accrued interest balance on March 31, 2005. The amendment also provides an extension of the due date to April 30, 2006 for the remainder of the principal and accrued interest which total $1.3 million at September 30, 2005. All other original terms of the Series C Debentures remain the same. The Series D Debentures, which total $2.8 million, bear interest annually at 8%, payable in kind, will mature December 31, 2006 and carry a per share conversion price of $0.65.
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6.CREDIT FACILITY
The Company has a $2.5 million working capital line of credit with a U.S. bank which runs through April 14, 2006. The Company has the ability to borrow on a revolving credit basis based on levels of eligible accounts receivable. At September 30, 2005 and December 31, 2004 available borrowings on this basis were $2.0 million and $1.6 million, respectively. Interest will be payable at prime +1.5%, where prime is a minimum 4%, and we will be required to maintain certain levels of tangible net worth and cash or availability of $0.5 million. The lender defines tangible net worth ("TNW") as total assets less total liabilities, excluding subordinated convertible debentures, and 85% of the proceeds from the issuance of any new equity securities. The TNW requirement was $1.5 million at the end of April and May 2005, and $2.0 million at the end of June 2005. From the inception of our agreement with our U.S. bank and through June 30, 2005 we have been in compliance with our financial and n on-financial covenants. However, as of July 31, 2005, the Company did not meet its tangible net worth requirement of $2 million by approximately $0.1 million, for which we obtained a waiver. Also at such time, the bank modified its agreement to reduce the TNW requirement to $1.5 million at the end of August, October and November and $2.0 million at the end of September and December. The TNW requirements for 2006 of $2 million at the end of January and February and $3 million at the end of March remain unchanged. The Company has been in compliance with its covenants for all months subsequent to this modification. As is usual and customary in such lending agreements, our agreement contains certain non-financial requirements such as required periodic reporting to the bank and various representations and warranties. Throughout 2004 and 2005, there was no outstanding indebtedness under this line of credit or with any financial institution.
7.BENEFIT PLANS
The net periodic benefit cost is as follows (in thousands):
Three Months Ended | Nine Months Ended | |||
September 30, | September 30, | |||
2005 | 2004 | 2005 | 2004 | |
Service cost | $140 | $ 80 | $288 | $222 |
Interest cost | 58 | 53 | 142 | 127 |
Expected return on plan assets | (54) | (39) | (116) | (93) |
Amortization of prior service cost | (8) | (8) | (26) | (26) |
Amortization of prior gain | 4 | 20 | - | (8) |
$140 | $106 | $288 | $222 |
Currently, our policy is to fund the minimum contributions required under the Employee Retirement Income Security Act (ERISA). For the three and nine month periods ended September 30, 2005, we made contributions of $0.1 million and $0.3 million, respectively, to the Pension Plan. We expect to contribute at least $0.5 million over the next twelve months, representing the minimum contribution required under ERISA.
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8.GEOGRAPHIC INFORMATION
The details of the Company's geographic sales are as follows (in thousands):
| Three Months Ended | Nine Months Ended | ||
September 30, | September 30, | |||
2005 | 2004 | 2005 | 2004 | |
United States | $5,075 | $5,566 | $14,409 | $13,740 |
Europe | 781 | 645 | 2,456 | 2,076 |
Rest of world | 708 | 81 | 1,456 | 1,088 |
9.PRODUCT WARRANTY
We provide product warranties for our various products, typically for one year. Approximately one year ago, the Company instituted new control mechanisms to more precisely track warranty experience. As of September 30, 2005, we believe we have accumulated accurate data of warranty costs which enabled us to develop a more reasonable basis for establishing warranty reserves. As a result, we increased our warranty reserve by $0.1 million in the quarter ending September 30, 2005. We established our reserve based on such historical data, taking into consideration specific product information. The following table sets forth the movement in the warranty reserve (in thousands):
Three Months Ended | Nine Months Ended | |||
September 30, | September 30, | |||
2005 | 2004 | 2005 | 2004 | |
Balance at beginning of period | $ 50 | $ 50 | $ 50 | $ 50 |
Accruals | 111 | 85 | 316 | 309 |
Warranty services provided | - | (85) | (205) | (309) |
$161 | $ 50 | $ 161 | $ 50 |
10.RECENT ACCOUNTING PRONOUNCEMENTS
In December 2004, the FASB issued FAS No. 123R, "Share-Based Payment." FAS No. 123R supercedes APB No. 25, FAS No. 123, as amended by FAS No. 148, and related interpretations. Under FAS No. 123R, compensation cost for stock option grants is measured at the grant date based on the estimated fair value of the award and is required to be recognized as compensation expense over the vesting period. FAS No 123R will be effective for the Company as of January 1, 2006.
Pursuant to authorization received from the Board of Directors, on February 3, 2005, the Company accelerated the vesting of certain outstanding unvested stock options with an exercise price of greater than $0.47 per share. The Company accelerated these options in advance of the original July 1, 2005 effective date of, and in anticipation of the detrimental earnings effect of SFAS 123R. The Company's decision to accelerate the vesting of the options was due to its desire to avoid recording compensation expense for these options in its statement of operations in future years when these options were originally scheduled to vest. Note 2 to the Company's consolidated financial statements presents the pro forma net income (loss) the Company would have recognized had compensation costs for the Company's incentive compensation plans been
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determined consistent with FAS No. 123. Also included in Note 2 is the financial effect of the Q1 2005 acceleration of such options.
Based on grants that are currently outstanding and the elimination of the expense related to the accelerated vesting, the Company does not believe that the adoption of this standard will have a material impact on its financial position or results of operations. However, depending on the amount of options granted in the future, and their estimated value, both of which are unknown at this time, the adoption of this standard in the first quarter of 2006 could have a material impact on the Company's results of operations and financial position.
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
From time to time, including in this Quarterly Report on Form 10-Q, we may publish forward-looking statements relating to such matters as anticipated financial performance, business prospects, technological developments, changes in the industry, new products, research and development activities and similar matters. The Private Securities Litigation Reform Act of 1995 provides a safe harbor for such forward-looking statements. In order to comply with the terms of the safe harbor, we note that a variety of factors could cause our actual results to differ from the anticipated results or other expectations expressed in our forward-looking statements. The risks and uncertainties that may affect the operations, performance, development and results of our business include, without limitation, the following: product concentration in a mature market, dependence on the emerging digital market and the industry's transition to DTV and HDTV, consumer acceptance of DTV and HDTV, resistance within the b roadcast or cable industry to implement DTV and HDTV technology, use and improvement of the Internet, new technologies that could render certain Chyron products to be obsolete, a highly competitive environment, competitors with significantly greater financial resources, new product introductions by competitors, seasonality, fluctuations in quarterly operating results, ability to maintain adequate levels of working capital, viability of the OTC Bulletin Board as a trading platform, and expansion into new markets. Additional factors affecting future results, and which are described in more detail in our Annual Report on Form 10-K for the year ended December 31, 2004, include:
- We cannot assure you that we will maintain profitability because we have a history of losses.
- Our future operating results are likely to fluctuate and therefore may fail to meet expectations, which could cause our stock price to decline.
- If we fail to successfully develop, introduce and sell new products, we may be unable to compete effectively in the future.
- If we are unable to keep up with rapid change in our industry, our business will not grow.
- We expend substantial resources in developing and selling our products, and we may be unable to generate significant revenue as a result of these efforts.
- Our customers may cancel or change their product plans after we have expended substantial time and resources in the design of their products.
- If the digital video market does not grow, we will be unable to increase our revenues.
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- If the introduction of our new ChyTV products do not produce as expected, then there will be a negative impact on revenue, earnings and cash flows.
15
- Our principal stockholders have significant voting power and may vote for actions that may not be in the best interests of all our stockholders.
Results of Operations
This discussion should be read in conjunction with the Consolidated Financial Statements including the Notes thereto.
Comparison of the Three and Nine Months Ended September 30, 2005 and 2004
Revenues for the quarter ended September 30, 2005 were $6.6 million, an increase of $0.3 million, or 5% from the $6.3 million reported for the third quarter of 2004. Revenues for the nine months ended September 30, 2005 were $18.3 million, an increase of $1.4 million or 8% from the $16.9 million reported for the first nine months of 2004.
Revenues derived from U.S. customers were $5.1 million in the third quarter of 2005 as compared to $5.6 million in the third quarter of 2004. Revenues derived from international customers were $1.5 million in the third quarter of 2005 as compared to $0.7 million in the third quarter of 2004. Year-to-date revenues in the U.S. were $14.4 million in 2005 and $13.7 million in 2004. Year-to-date international revenues were $3.9 million in 2005 and $3.2 million in 2004. Revenues in 2005 have been enhanced by the introduction in late 2004 of the Duet HyperX systems which can be configured as HD, SD or a combination of both, offering a highly flexible and scalable migration path to high definition broadcasting. Also contributing to the growth in 2005 is the greater realization of sales in international markets, most notably Asia, Europe and South America as we continue to enhance our sales and marketing efforts outside of the U.S. Sales of our new microcasting and digital displays product line a ccounted for $0.1 million and $0.2 million, respectively, of third quarter and nine month 2005 revenues.
Gross margins in the third quarter of 2005 and 2004 were 60%. Gross margins in the nine month periods in 2005 and 2004 were 61%. In the third quarter of 2005, the Company recorded an increase in its warranty reserves of $0.1 million which had the effect of reducing gross margins in the three and nine month periods in 2005 by 1%. The Company believes this charge was prudent based on the accumulation of improved historical data regarding warranty experience. Otherwise margins continue to remain relatively consistent due to material costs that have also remained fairly level due to the interchangeability of raw material components across our product lines.
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Selling, general and administrative (SG&A) expenses increased by $0.1 million, to $2.7 million in the quarter ended September 30, 2005 compared to $2.6 million in the third quarter of 2004. SG&A expenses increased by $1.4 million, to $9.0 million in the first nine months of 2005 compared to $7.6 million for the first nine months of 2004. The primary reason contributing to the increase in SG&A expenses in the three and nine month periods were expenses attributable to the rollout of the ChyTV product line of $0.2 million and $0.9 million, respectively. Other increases in the third quarter of 2005 were $.05 million for consulting related to system upgrades and $.05 million related to increased cost of employee benefits. Other increases in the nine month period in 2005 were attributable to $0.2 million for consulting services for Sarbanes-Oxley compliance and systems consulting, $0.2 million of increased employee benefit costs, severance costs of $0.1 million, $0.1 million of trad e show costs and $0.1 million of other selling expenses, including the costs of overseas sales offices. A benefit of $0.2 million was realized in the three and nine months SG&A expenses from the reversal of old accounts payable relating to discontinued product lines and businesses, that we no longer deemed to be payable.
Research and development (R&D) costs in the third quarter of 2005 of $0.7 million decreased by $0.1 million compared to the quarter ended September 30, 2004. R&D costs decreased by $0.5 million, to $2.1 million in the first nine months of 2005, compared to $2.6 million for the first nine months of 2004. Reductions in spending in the three and nine month periods in 2005 are attributable to lower project materials costs, reduced services performed by outside consultants and lower personnel costs.
Interest expense in the third quarter of 2005 approximated $0.05 million as compared to $0.1 million in the third quarter of 2004. Interest expense in the first nine months of 2005 was $0.2 million as compared to $0.3 million in 2004. This is a direct result of the combination of lower balances and lower interest rates on the underlying debt instruments. In the fourth quarter of 2003 and first quarter of 2004, we closed on two exchange offers which resulted in the retirement of approximately $6 million of Series A and B debentures, with the balance exchanged for Series C and D debentures which carry a lower rate of interest. Furthermore, as discussed in Note 5, approximately $1.3 million of Series C debentures were retired in March 2005.
The components of other income (expense), net are as follows (in thousands):
Three Months Ended | Nine Months Ended | |||
September 30, | September 30, | |||
2005 | 2004 | 2005 | 2004 | |
Foreign exchange transaction gain (loss) | $(15) | $ 46 | $(83) | $ 80 |
Gain on sale of securities | - | - | - | 224 |
Other | 14 | 41 | 41 | 40 |
$ (1) | $ 87 | $(42) | $344 |
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Change in Accountants
During the third quarter of 2005, based on a decision by the Audit Committee of the Board of Directors, the Company dismissed PricewaterhouseCoopers LLP ("PwC"), its independent registered public accounting firm and engaged BDO Seidman, LLP ("BDO") as its new independent registered public accounting firm. There were no disagreements with PwC with respect to matters of accounting principles, practices or disclosures.
Liquidity and Capital Resources
At September 30, 2005, we had cash on hand of $1.7 million and working capital of $2.6 million.
During the nine months ended September 30, 2005, net cash of $0.2 million was used by operations and $1.3 million was used to retire a portion of our Series C Debentures. The utilization of cash from operations was driven primarily by an increase in receivables from sales that were realized late in the quarter, and therefore not yet collectable.
In March 2005, we amended the Series C Debentures such that half of the principal and accrued interest at March 31, 2005, became due and payable on that date and the remaining half of the principal, plus accrued interest through April 30, 2006, becomes due and payable on that date. As per the amended Series C Debenture terms, on March 31, 2005, $1.26 million was paid to holders and the remaining principal of $1.3 million, plus accrued interest, will be due on April 30, 2006. The Series D Debentures, which total $2.8 million, and bear interest annually at 8%, payable in kind, will mature December 31, 2006.
The Company received $0.4 million in May 2005, which represents the final payment of the proceeds from the sale of Pro-Bel.
The Company has a $2.5 million working capital line of credit with a U.S. bank which runs through April 14, 2006. The Company has the ability to borrow on a revolving credit basis based on levels of eligible accounts receivable. At September 30, 2005 and December 31, 2004 available borrowings on this basis were $2.0 million and $1.6 million, respectively. Interest will be payable at prime +1.5%, where prime is a minimum 4%, and we will be required to maintain certain levels of tangible net worth (as defined and determined in accordance with the credit agreement) and cash or availability of $0.5 million. As is usual and customary in such lending agreements, our agreement contains certain non-financial requirements such as required periodic reporting to the bank and various representations and warranties.
We provide graphics products to the broadcast industry for use in digital television. Our future growth and success will depend to a significant degree on the continued growth of various markets that use our products. We operate in a rapidly changing environment and must remain responsive to changes as they occur. In the event that revenues are significantly below forecasted revenues, we believe we have the ability to reduce or delay discretionary expenditures, including capital purchases, and reduce headcount, according to our contingency plan so that we will have sufficient cash resources. However, there can be no assurance that we will be able to adjust our costs in sufficient time to respond to revenue and cash shortfalls, should that occur.
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The long term success of the Company will be dependent on profitable operating results and the ability to raise additional capital should such additional capital be required. In the event the Company is unable to achieve expected goals of profitability or raise sufficient additional capital, if needed, we may have to scale back or eliminate certain parts of our operations.
In the event of a significant downturn in sales, we have a contingent restructuring plan that recommends, in the event it is necessary, to reduce and/or defer spending in staffing, travel, trade shows, professional fees, equipment, and bonuses, among other items. However, there can be no assurance we would be able to execute the plans in adequate time to provide a significant immediate or short-term benefit and if implemented, it could have an adverse effect on our ability to conduct business.
We believe that cash on hand, net cash to be generated in the business, and availability under our line of credit, will be sufficient to meet our cash needs through mid April 2006 if we are able to achieve our planned results of operations and retain availability of credit under our line. Our line of credit with our lender expires April 14, 2006. We will commence renewal discussions in the fourth quarter of 2005. The Company has Series C convertible debentures in the amount of $1.3 million that will mature on April 30, 2006. We believe we will be able to refinance the debt prior to its maturity. The Company is exploring the possibility of alternative sources of funds, should it appear they will be needed, which could include a private common or preferred equity placement, a debenture private placement, or a term loan in the fourth quarter of 2005 to first quarter of 2006. The amount of funds that the Company would seek in such a transaction has not been determined at this time but would t ake into consideration the Company's need for working capital and the $1.3 million of convertible debentures that will mature on April 30, 2006.
There can be no assurance we will be able to achieve our plan. Furthermore, there can be no assurance that our bank will permit us to borrow under our line of credit if we fail to meet financial covenants and other requirements of the agreement or that we will be able to raise additional capital, if needed. From the inception of our agreement with our U.S. bank and through June 30, 2005, the Company was in compliance with our covenants. However, as of July 31, 2005, the Company did not meet its tangible net worth requirement of $2 million by approximately $0.1 million, for which we obtained a waiver. Also at such time, the bank modified its agreement and reduced the tangible net worth requirements as stated in Note 6. The Company has been in compliance with its covenant for all months subsequent to this modification.
Recent Accounting Pronouncements
In December 2004, the FASB issued FAS No. 123R, "Share-Based Payment." FAS No. 123R supercedes APB No. 25, FAS No. 123, as amended by FAS No. 148, and related interpretations. Under FAS No. 123R, compensation cost for stock option grants is measured at the grant date based on the estimated fair value of the award and is required to be recognized as compensation expense over the vesting period. FAS No. 123R will be effective for the Company as of January 1, 2006.
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Pursuant to authorization received from the Board of Directors, on February 3, 2005, the Company accelerated the vesting of certain outstanding unvested stock options with an exercise price of greater than $0.47 per share. The Company accelerated these options in advance of the original July 1, 2005 effective date, and in anticipation of the detrimental earnings effect of SFAS 123R. The Company's decision to accelerate the vesting of the options was due to its desire to avoid recording compensation expense for these options in its statement of operations in future years when these options were originally scheduled to vest. Note 2 to the Company's consolidated financial statements presents the pro forma net income (loss) the Company would have recognized had compensation costs for the Company's incentive compensation plans been determined consistent with FAS No. 123. Also included in Note 2 is the financial effect of the Q1 2005 acceleration of such options.
Based on grants that are currently outstanding and the elimination of the expense related to the accelerated vesting, the Company does not believe that the adoption of this standard will have a material impact on its financial position or results of operations. However, depending on the amount of options granted in the future, and their estimated value, both of which are unknown at this time, the adoption of this standard in the first quarter of 2006 could have a material impact on the Company's results of operations and financial position.
Item 3.QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT
MARKET RISK
We are exposed to foreign currency and exchange risk in the normal course of business related to investments in our foreign subsidiaries and sales to foreign customers. For the three months ended September 30, 2005 and 2004, sales to foreign customers were 23% and 12% of total sales, respectively. For the nine month period ended September 30, 2005 and 2004, sales to foreign customers were 21% and 19%, respectively. All sales generated outside of the U.S. are denominated in British Pounds Sterling, Euros or U.S. Dollars. The Company does not hedge any of its foreign currency exposure.
The net impact on earnings of foreign exchange transactions in the three month periods ended September 30, 2005 and 2004 were minimal. The net impact of foreign exchange transactions in the nine months ended September 30, 2005 and 2004 were a loss of $0.08 million and a gain of $0.08 million, respectively. We record translation gain or loss as a separate component of other comprehensive income or loss in shareholders' equity (deficit).
Additionally, we are potentially exposed to interest rate risk with respect to borrowings, if any, under our line of credit which would carry a variable interest rate. Rates that affect the variable interest on this debt include the Prime Rate. Throughout 2004 and 2005, there was no outstanding indebtedness with variable interest rates. We have evaluated the foreign currency exchange risk and interest rate risk and believe that our exposure to these risks are not material to our near-term financial position, earnings or cash flows.
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Item 4. CONTROLS AND PROCEDURES
As of September 30, 2005, an evaluation was performed under the supervision and with the participation of the Company's management, including the Chief Executive Officer ("CEO") and Chief Financial Officer ("CFO"), of the effectiveness of the design and operation of the Company's disclosure controls and procedures. Based on that evaluation, the Company's management, including the CEO and CFO, concluded that the Company's disclosure controls and procedures were effective as of September 30, 2005. There have been no significant changes in the Company's internal control over financial reporting during the most recent quarter that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.
PART II. OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
The Company from time to time is involved in routine legal matters incidental to its business. In the opinion of management, the ultimate resolution of such matters will not have a material adverse effect on the Company's financial position, results of operations or liquidity.
Item 6. EXHIBITS
(a) Exhibits:
Exhibit No. | Description of Exhibit | |
31.1 | Certification of Chief Executive Officer pursuant to Rule 13A-14(a) or 15D-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 | |
31.2 | Certification of Chief Financial Officer pursuant to Rule 13A-14(a) or 15D-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 | |
32.1 | Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 | |
32.2 | Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
CHYRON CORPORATION | ||
(Registrant) | ||
November 10, 2005 | /s/ Michael Wellesley-Wesley | |
(Date) | Michael Wellesley-Wesley | |
President and | ||
Chief Executive Officer | ||
November 10, 2005 | /s/ Jerry Kieliszak | |
(Date) | Jerry Kieliszak | |
Chief Financial Officer and | ||
Senior Vice President |
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