SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q (Mark One) (X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Quarterly Period Ended March 31, 1994 OR ( ) 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. 0-12141 MICRO SECURITY SYSTEMS, INC. (Exact name of Registrant as specified in its Charter) Utah 87-0401894 (State or other jurisdiction of (I.R.S. Employer Identification Incorporation or Organization) Number) 150 Wright Brothers Drive, Suite 560 Salt Lake City, Utah 84116 (Address of Principal Executive Offices) (Zip Code) Registrant's Telephone Number, including Area Code: (801)575-6600 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: Number of Shares Outstanding of the Registrant's Common Stock as of March 31, 1994 was 6,084,638 PAGE 1 OF 14 CONSECUTIVELY NUMBERED PAGES. Micro Security Systems, Inc. INDEX PART I Financial Information Page Number ITEM 1 Financial Statements Consolidated Condensed Balance Sheets as of March 31, 1994 and June 30, 1993 . . . . . . . . . . .4 Consolidated Condensed Statements of Operations for the Three Months and Nine Months Ended March 31, 1993 and 1992 . . . . . . . . . . . . . . .6 Consolidated Condensed Statements of Cash Flows for the Three Months and Six Months Ended December 31, 1993 and 1992 . . . . . .7 Notes to Consolidated Condensed Financial Statements . . . 9 ITEM 2 Management's Discussion and Analysis Management's Discussion and Analysis of Financial Condition and Results of Operations . . . . . . . . . . . . . .11 PART II Other Information Item 1 Legal Proceeding . . . . . . . . . . . 13 Item 5 Other Information . . . . . . . . . . . 13 Item 6 Exhibits and Reports on Form 8-K . . . .13 SIGNATURE . . . . . . . . . . . . . . . . . . . . . . . . 14 PART I FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS REQUIRED BY FORM 10-Q Micro Security Systems, Inc. ("Registrant" or "Company") files herewith an unaudited balance sheet of the Registrant as of March 31, 1994, and the related statements of income and changes in financial position for the nine months ended March 31, 1994, and March 31, 1993. The unaudited financial statements included in this report on Form 10-Q have been prepared by the Company and have not been the subject of independent review. In the opinion of management of the Company, the financial statements fairly present the financial condition of the Company. MICRO SECURITY SYSTEMS, INC. Consolidated Balance Sheets ASSETS March 31, June 30, 1994 1993 (Unaudited) (Audited) CURRENT ASSETS Cash and cash equivalents $ 2,185 $ 71,606 Trade accounts receivable, less allowance for doubtful accounts of $8,025 and $8,025 356,426 267,484 Inventories 449,154 274,555 Prepaid Expenses 2,500 - Total Current Assets 810,265 613,645 OTHER ASSETS Property and equipment, at cost, less accumulated depreciation of $340,530 and $191,197, respectively 815,356 506,765 Deposits 11,094 30,660 Employee advances 15,188 - Total Other Assets 841,638 537,425 TOTAL ASSETS $1,651,903 $ 1,151,070 MICRO SECURITY SYSTEMS, INC. Consolidated Balance Sheets (Continued) LIABILITIES AND STOCKHOLDERS' EQUITY March 31, June 30, 1994 1993 (Unaudited) (Audited) CURRENT LIABILITIES Bank overdraft $ 100,415 $ - Trade accounts payable 231,260 74,452 Accrued expenses 41,720 37,775 Line-of-credit 436,290 - Notes payable - current portion 13,799 18,836 Capital lease payable - current portion 57,718 5,557 Total Current Liabilities 881,202 136,620 OTHER LIABILITIES Notes payable - long-term 52,545 65,216 Capital lease payable - long-term 234,886 12,927 Total Other Liabilities 287,431 78,143 Total Liabilities 1,168,633 214,763 STOCKHOLDERS' EQUITY Common stock; par value, $.001; authorized 50,000,000 shares; 6,084,638 shares issued and outstanding 6,084 6,084 Capital paid in excess of par value 1,648,985 1,648,985 Retained earnings (deficit) (1,171,799) (718,762) Total Stockholders' Equity 483,270 936,307 TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $1,651,903 $1,151,070 MICRO SECURITY SYSTEMS, INC. Consolidated Statements of Operations (Unaudited) For the Three Months Ended For the Nine Months Ended March 31, March 31, March 31, March 31, 1994 1993 1994 1993 SALES $ 490,870 $443,862 $1,237,729 $1,357,667 COST OF SALES 139,743 196,160 287,172 454,237 GROSS PROFIT 351,127 247,702 950,557 903,430 OPERATING EXPENSES Salaries and wages 201,960 131,824 536,559 333,075 General and administrative 331,261 232,196 691,624 482,058 Research and development 2,094 2,764 9,961 3,192 Depreciation 51,845 12,500 149,333 36,841 Total Operating Expenses 587,160 379,284 1,387,477 855,166 NET OPERATING INCOME (LOSS) (236,033) (131,582) (436,920) 48,264 OTHER INCOME (EXPENSE) Interest income 513 17 939 589 Interest expense (11,312) (2,525) (17,056) (7,304 ) Miscellaneous - 355 - 402 Total Other Income (Expense) (10,799) (2,153) (16,117) (6,313) Income (loss) before income taxes(246,832) (133,735) (453,037) 41,951 Provision for income taxes - - - - NET INCOME (LOSS) BEFORE EXTRAORDINARY ITEM (246,832) (133,735) (453,037) 41,951 EXTRAORDINARY ITEM - NET PROCEEDS FROM FIRE INSURANCE POLICY $ - $882,993 $ - $ 882,993 NET INCOME (LOSS) $(246,832) $749,258 $(453,037) $ 924,944 EARNINGS PER SHARE BEFORE EXTRAORDINARY ITEM $ (0.041) $ (0.022) $ (0.074) $ 0.007 EARNINGS PER SHARE AFTER EXTRAORDINARY ITEM $ (0.041) $ 0.123 $ (0.074) $ 0.152 MICRO SECURITY SYSTEMS, INC. Statement of Cash Flows (Unaudited) For the Three Months Ended For the Nine Months Ended March 31, March 31, March 31, March 31, 1994 1993 1994 1993 Cash Flows From Operating Activities: Net Income (Loss) $(246,832) $749,258 $(453,037) $ 924,944 Adjustments: Depreciation 51,845 12,500 149,333 36,844 Changes in Operating Assets and Liabilities: (Increase) decrease in Accounts receivable (211,369) (714,410) (88,942) (786,316) (Increase) decrease in inventories, prepaid expenses and other assets (28,795) (31,741) (172,721) (92,169) Increase (decrease) in cash overdraft (35,358) - 100,415 (10,012) Increase (decrease) in accounts payable and accrued expenses 106,049 (20,290) 160,753 52,049 Loss on abandonment of property and equipment - 9,142 - - Net Cash Provided (Used) by Operating Activities (364,460) 4,459 (304,199) 125,340 Cash Flow from Investing Activities: Investment in subsidiary - 38,001 - (191,206) Purchases of property and equipment (104,164) - (457,924) (53,915) Net Cash (Used) by Investing Activities: $ (104,164) $ 38,001 $(457,924) $(245,121) MICRO SECURITY SYSTEMS, INC. Statement of Cash Flows (Unaudited) For the Three Months Ended For the Nine Months Ended March 31, March 31, March 31, March 31, 1994 1993 1994 1993 Cash Flows from Financing Activities: Proceeds from line of credit $ 436,290 $ - $ 436,290 $ - Proceeds from capital lease - - - - Increase (decrease) in notes payable (5,267) 18,278 (17,708) 185,382 Increase (decrease) in capital lease 37,613 - 274,120 - Net Cash Provided (Used) by Financing Activities: 468,636 18,278 692,702 185,382 Increase (decrease) in cash and cash equivalents 12 60,738 (69,421) 65,601 Cash and cash equivalents at beginning of period 2,173 4,863 71,606 - Cash and cash equivalents at end of period $ 2,185 $ 65,601 $ 2,185 $ 65,601 Supplemental Disclosure of Cash Flow Information Cash paid during the year for: Interest $ 11,312 $ - $ 17,056 $ - Income taxes $ - $ - $ 100 $ 100 Non Cash Financing Activities: Equipment lease $ - $ - $ 245,649 $ - MICRO SECURITY SYSTEMS, INC. Notes to the Consolidated Financial Statements March 31, 1994 NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING PRINCIPLES Footnote disclosures, including significant accounting policies, required by generally accepted accounting principles have been omitted when they substantially duplicate disclosures presented in the audited financial statements, form 10-K. Refer to the form 10-K at June 30, 1993 for additional information. The financial statements and information included herein are unaudited; however, such information reflects all adjustments which, in the opinion of management, are necessary for a fair presentation of financial position for the interim period. NOTE 2 - INCOME TAXES Federal income tax (expense) benefit per books differs from the statutory tax (expense) benefit, determined from the federal statutory rate of 34%, for the following reasons: For the years ended June 30, 1993 1992 1991 Pre-tax income (loss) per books $ 477,802 $301,998 $ (192,485) Inventory write up (write down) - - 7,306 Unpaid vacation accrual 16,323 15,893 15,069 State tax provision - - (100) Non-deductible entertainment expense 405 1,868 3,688 Total $494,530 $ 319,759 $(166,522) Net operating loss carryforwards for income tax purposes expire as follows: For the year ended June 30, Amount 2005 $178,575 2006 144,547 Total $323,122 Differences between financial and income tax operating losses result primarily from the timing of recognition of doubtful collection of notes receivable, stock sales, inventory adjustments, and inventory capitalization rules. MICRO SECURITY SYSTEMS, INC. Notes to the Consolidated Financial Statements March 31, 1994 NOTE 2 - INCOME TAXES (Continued) In addition, the Company has an investment tax credit carryforward of $5,008 which expires as follows: $ 2,591 in 1999 $ 1,861 in 2000 $ 556 in 2001 NOTE 3 - COMMITMENTS UNDER LONG-TERM LEASES Capital Leases: Future minimum lease payments under leases capitalized at June 30, 1993 together with the present value of the minimum lease payments are as follows: Total Minimum Present Lease Value Payments Twelve months ended June 30, 1994 $34,748 $41,800 1995 50,480 69,004 1996 52,647 66,558 1997 55,970 64,821 1998 58,035 61,792 Later years 9,836 9,948 261,716 313,923 Total minimum payments less current portion (34,748) (41,800) Total long-term leases payable $ 226,968 $272,123 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS MATERIAL CHANGES IN FINANCIAL CONDITION At March 31, 1994, the Company had current assets of $810,265 as compared to $613,645 at June 30, 1993. Trade accounts receivable increased by $88,942 during the period from $267,484 as of June 30, 1993, to $356,426 as of March 31, 1994. Inventories increased by $174,599 from $274,555 as of June 30, 1993, to $449,154 as of March 31, 1994. Property and equipment increased by $308,591 from $506,765 as of June 30, 1993, to $815,356 as of March 31, 1994. Current liabilities increased by $744,582 from $136,620 as of June 30, 1993, to $881,202 as of March 31, 1994. The Company has available to it,a line of credit. Overdraft amounts shown on the financial statements shown herein are amounts utilized in association with the credit line. MATERIAL CHANGES IN RESULTS OF OPERATIONS Net sales for the three month period ending March 31, 1994, were $490,870 compared to sales of $443,862 for the same period in the prior year. This represents an increase of $47,008, or eleven per cent (11%). Net sales for the nine months ended March 31, 1994, were $1,237,729 compared to $1,357,667 for the first nine months of fiscal 1993 for a decrease of $119,938 or approximately nine per cent (9%) during the period compared to the same period a year earlier. The decrease in sales is primarily attributable to the loss of a major customer that no longer uses hardware security devices. The balance of the decrease is attributable to a downturn in business for our normal customer base. During the nine month period ending March 31, 1994, salaries and wages increased by $203,484 from $333,075 to $536,559 for the same period a year earlier. General and administrative expenses increased by $209,566 during the nine month period ended March 31, 1994, from $482,058 to $691,624 for the same period a year earlier. Research and development expenses during the nine month period ended March 31, 1994, increased by $6,769 from $3,192 to $9,961 for the same period a year earlier. Total operating expenses for the period ended March 31, 1994, increased by $532,311 from $855,166 to $1,387,477 for the same period a year earlier. This represents an increase of approximately sixty-two per cent (62%). The increase in salaries and wages and general and administrative expenses is due to an increase in the number of employees created by the addition and expansion of the Company's subsidiary Maxwell Systems. Research and development costs may be understated because some of these expenses are included in either salaries and wages or general and administrative expenses. For the three month period ended March 31, 1994, the Company had a net operating loss of ($236,033) compared to a net operating loss of ($131,582) for the three month period ended March 31, 1993. Net operating loss increased by $104,451. Net loss for the nine month period ended March 31, 1994, was $436,920 compared to a net income of $41,951 for the same period a year earlier. Net loss per share for the nine month period ended March 31, 1994, was ($0.074) compared to net income per share of $0.007 before extraordinary items for the same period a year earlier. The Company's sales increased during the quarter ended March 31, 1994. Even though there was an increase in sales, there was an increase in salaries and wages and an increase in general and administrative expenses during the quarter which resulted in a significant loss. The Company has spent funds to provide various administrative and support services for the startup of its subsidiary, Maxwell Systems, Inc. The Company's sales for the third quarter of fiscal 1994 ended March 31, 1994, were eleven per cent higher than the sales for the third quarter of fiscal 1993. The current ratio as of March 31, 1994, was .91 compared to a current ratio of 4.49 as of June 30, 1993. As of March 31, 1994, the Company has long-term debt for a capital lease in the amount of $234,886. Management believes that the increase in inventories is due to a demand by customers for a shorter lead time on deliveries and including work in process value in inventory valuation. Management anticipates for fiscal 1994 is that sales for the Company's SecuriKey line of products will increase as the customer base expands and becomes more diversified. It is management's goal for Registrant's sales to become more stable and experience smaller fluctuations from quarter to quarter. The Company has several customers which tend to dominate sales. Changes in orders of these customers has significantly impacted sales during this quarter and could, in the future either positively or negatively impact sales. LIQUIDITY Due to the losses the Company has sustained during the current fiscal year, the Company is experiencing severe liquidity difficulties. With the Company's expansion and changing business environment, there are substantial concerns of the Company's ability to resolve its short and medium term liquidity problems. Due to the losses incurred during the second and third quarters of fiscal 1994, the bank has called the outstanding notes, lines of credit and leases. Management is negotiating with the bank to secure acceptable terms for both parties. There are no assurances that the Company will be successful in these negotiations. If these negotiations are not successful, the notes loans and leases are in a default condition, and the Company will be forced to consider a reorganization. Subsequent to the reporting period, the Company has reduced its manufacturing work force due to unrealized anticipation of manufacturing contracts. Subsequent to the reporting period, the Registrant and its wholly- owned subsidiary Maxwell Systems, Inc. filed for relief under Chapter 11 of the United States Bankruptcy Code in the United States Bankruptcy Court for the District of Utah, Central Division. The case filed by the Registrant will be administered under Bankruptcy Case No. 94B-23643 and the case filed by Maxwell Systems, Inc. will be administered under Case No. 94B-23642. The officers and directors of the Registrant and Maxwell Systems, Inc. are in control of the respective companies and shall operate as debtors-in- possession pursuant to Bankruptcy Code provisions. EQUIPMENT LEASE The Company has leased automatic component placement equipment to be used in the manufacturing of the Company's products. Management believes the new equipment will increase the automation and efficiency of its manufacturing. The Company anticipates manufacturing electronic products on a contract basis for other entities to utilize any excess capacity. Manufacturing on a contract basis represents a new line of business for the Company. The Company has incurred "start-up" costs to bring the new equipment on line and to adapt its manufacturing procedures to the automated equipment. Generally, management believes that the financial stability and future of the Company is dependent on increasing sales and income from the SecuriKey products, and its ability to operate its manufacturing operation in a profitable manner. In the past, net profits and net losses from operations significantly varied from quarter to quarter. PART II ITEM 1. LEGAL PROCEEDING During the reporting period the Company was a party to the following material legal proceedings: In August 1993, the Company filed a Complaint in Third District Court of Salt Lake County, State of Utah, against Interstate Trucking Service, Interstate Commerce Tax Advisory Service, and certain of the officers of the companies. The complaint alleges breach of contract and misrepresentation in relation to previous transactions and seeks damages of approximately $130,000. In October 1993, a complaint was filed by S & D Limited in Third District Court of Salt Lake County, State of Utah, against the Company and other individuals including the former owners of Quick Circuits, Inc. alleging a breach of the lease covering certain facilities previously occupied by Quick Circuits. The action seeks monetary damages in an unspecified amount for the breach of the lease. The Company has referred this action to counsel and has not yet had the opportunity to fully evaluate the merits of the claim. The Company will investigate the matter fully and intends vigorously pursue all defenses available to it in regard to this action. ITEM 2. CHANGES IN SECURITIES None. ITEM 3. DEFAULTS UPON SENIOR SECURITIES The Registrant has no securities which are reportable under this item. ITEM 4. MATTERS SUBMITTED TO A VOTE OF THE COMPANY'S SHAREHOLDERS No matters were submitted to a vote of the Company's shareholders during the quarter. ITEM 5. OTHER INFORMATION In June 1994, a complaint was filed by First Security Bank in Third District Court of Salt Lake County, State of Utah against the Company and other individuals alleging a breach of contract in matters relating to loans and leases with First Security Bank of Utah. The Company will investigate the matter fully and intends vigorously pursue all defenses available to it in regard to this action. On July 21, 1994 the Registrant and its wholly-owned subsidiary Maxwell Systems, Inc. filed for relief under Chapter 11 of the United States Bankruptcy Code in the United States Bankruptcy Court for the District of Utah, Central Division. The case filed by the Registrant will be administered under Bankruptcy Case No. 94B-23643 and the case filed by Maxwell Systems, Inc. will be administered under Case No. 94B-23642. The officers and directors of the Registrant and Maxwell Systems, Inc. are in control of the respective companies and shall operate as debtors-in-possession pursuant to Bankruptcy Code provisions. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K Subsequent to the reporting period, the Company filed a report on Form 8-K disclosing the events of July 21, 1994, in which the Company filed for protection under Chapter 11 USC. 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. MICRO SECURITY SYSTEMS, INC. BY: Daniel C. Maxwell, Chief Executive and Financial Officer DATED: August 16, 1994