SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] Annual Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the fiscal year ended September 30, 1995
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 Number 0-10902
INTERFACE SYSTEMS, INC.
(Exact name of registrant as specified in its charter)
Delaware 38-1857379
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
5855 Interface Drive
Ann Arbor, Michigan 48103
(Address of principal executive offices)(Zip Code)
Registrant's telephone number, including area code: (313) 769-5900
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock Purchase Warrants
Common Stock, par value $.10
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, and (2) has been subject to such
filing requirements for the past 90 days.
YES [X] NO [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X]
The aggregate market value of the Registrant's voting stock held by non-
affiliates as of December 26, 1995, computed by reference to the closing
price per share for such stock on the Nasdaq Stock Market National Market on
such date, was approximately $38,176,196 (assuming, but not admitting for
any purpose, that all executive officers and directors of the registrant may
be deemed affiliates).
The number of shares outstanding of the Registrant's common stock as of
December 26, 1995 was 4,212,418. Portions of the Registrant's definitive
Proxy Statement for its 1996 Annual Meeting of Shareholders, which will be
filed with the Securities and Exchange Commission pursuant to Regulation
14A, not later than 120 days after the end of the fiscal year is
incorporated by reference in Part III (Items 10, 11, 12, and 13) of this
Form 10-K.
ITEM 1. BUSINESS
Interface Systems, Inc. ("Interface Systems") was organized under
the laws of the State of Delaware in 1969 as a result of the consolidation
of Kencorp, Inc. with Interface, Inc. Interface Systems and its
subsidiaries are referred to herein as the "Company". The Company's
executive offices are located at 5855 Interface Drive, Ann Arbor, Michigan
48103 and its telephone number is (313) 769-5900.
The Company designs, manufactures and markets two families of
products and services, all of which are used primarily to connect remote
users in large enterprises to legacy applications on IBM mainframe and
AS/400 computers. The Company's Presentation Products include printers and
software for managing printing and viewing in client-server environments.
The Cleo Products Group of the Company ("Cleo") designs and
manufactures specialty data communications systems. These systems are
largely aimed at linking personal and mini computers to large IBM mainframe
computers via IBM's 3270 and 3780 protocols. Cleo specializes in providing
UNIX capability to IBM users. Cleo's 3780 products are used for file
transfer in the growing EDI (Electronic Data Interchange) marketplace.
Through its wholly-owned subsidiary, I.G.K. Industries, Inc.
("IGK"), the Company manufactures and markets printed circuit boards which
are utilized in a variety of applications, including personal computers,
computer peripherals, medical instrumentation and robotic modules, as well
as printer controllers and communications cards assembled and marketed by
the Company.
In 1992, the Company acquired its European distributor Sintec
Peripherals, Ltd. ("Sintec"). Sintec, which has been renamed Interface
Systems International, Ltd. ("ISIL"), distributes the Company's printer and
communications products throughout Europe. Located outside of London,
England in Slough, and in Birmingham, England, ISIL also distributes laser
printers, personal computers and supplies from other manufacturers.
On February 26, 1993, the Company distributed all of the outstanding
stock of its wholly-owned subsidiary, Nematron Corporation ("Nematron"), to
Interface's shareholders.
On August 1, 1994, ISIL acquired the assets relating to the
distribution business of Mekom, plc, a wholly-owned subsidiary of Copymore,
plc. The purchased business distributes computer products and accessories
to dealers throughout the United Kingdom. The Mekom operations are located
in Birmingham, England. As of August 1, 1995, the Company terminated its
use of the Mekom name and incorporated the functions of the Mekom business
into ISIL.
Products
Printers: The Company currently produces approximately 15 models of
IBM-compatible mainframe and midrange system printers ranging in price from
$1,000 to $16,000. These products generally feature design and performance
advantages over their IBM equivalents including higher speed, unique
large-character and bar code printing capabilities, and versatile paper feed
and handling options. The Company competes in the medium and high
performance desktop segments of the market for IBM printers where users
require reliable printers principally for information processing, word
processing, graphics and other business or manufacturing applications. The
Company does not compete in the low-end personal computer segment of the
market.
2
Dot Matrix Printers: The Company produces the 7224 series of printers,
which is plug-compatible with the IBM 4224 printers, a series of dot matrix
printers. The IBM 4224 is different from previous IBM dot matrix printer
products in that it supports "Intelligent Printer Data Stream" ("IPDS")
which is a page description and printer management language. This language
is a subset of AFP "Advanced Function Presentation", IBM's stated long range
architectural strategy for managing computer output. Since the introduction
of the 7224 series of printers, management believes that the Company has
been the first printer manufacturer to deliver a printer product compatible
with each new IBM desktop IPDS printer series. In the third quarter of
1992, the Company also introduced the 7230 series of dot matrix printers to
compete with the IBM 4230 printer. These products are similar to the 7224
series except that they have additional features to emulate the IBM 4230
printer.
Laser Printers: The Company manufactures an 8 pages per minute ("ppm")
laser printer, Model 7028, which competes with the IBM 4028, a 10ppm laser
printer, and a model 7817, a 17 ppm laser printer. The Company's 7028 and
the 7817 laser printers include features which are unavailable in the IBM
printers and are designed to help solve printing problems for banks,
insurance companies and other industries, which utilize distributed data
processing, a method whereby documents are produced in one area but can be
printed at remote locations. The Model 7817T, a new 17ppm RISC processor
based laser printer, was introduced early in fiscal 1995. Later, in 1995,
the Company introduced the 9508, a unique desktop AFP printer with support
for duplex, 11" X 17" and a number of other advantages.
Other printer enhancements, such as MICR check printing, and AFP
Resource Caching (ARC), were introduced into Interface printers late in
fiscal 1993. ARC is the ability to save fonts and overlay forms in the
printer, eliminating the need to download the forms from the host at each
printing session. These features continue to be enhanced and are included
in the Company's new models that were introduced in fiscal 1995.
Circuit Boards: The Company through it's wholly owned subsidiary I.G.K.
manufactures printed circuits boards. The circuit boards are single sided,
double sided and multi-layered, with up to 10 layers.
Oasis: software for managing printing and viewing: In fiscal 1993, the
Company began development of a new product, "Oasis", a software product
which distributes AFP and other host printing capabilities to client-server
environments in remote branch offices. Oasis, enables users to print or view
business critical documents on LAN-attached printers and work-stations on
their desktop. The Company plans to develop Oasis such that it will be
available on all popular branch office operating systems, including Windows
NT, OS/2 for the IBM PC, AIX for IBM's RS/6000, and SCO UNIX in fiscal 1996.
Oasis is designed to improve business processes by distributing critical
documents to branch offices where they are needed. The Company believes
that Oasis can also decrease customer costs by reducing or eliminating the
need for high speed page printers, mail rooms, and mailing costs. In early
fiscal 1994, "Oasis" was introduced at a major computer printing trade show.
Further software development on Oasis has continued throughout fiscal 1994
and 1995.
In addition to Oasis, in 1995 the Company began re-marketing other
software applications and tools for managing AFP printing and viewing. The
Company has also begun offering consulting and training services in this
same area. The result is that a broader array of Company products are now
available to customers.
3
Data Communications
The Company's Cleo Products Group designs and manufactures products
used to connect personal computers, work-stations, and midrange computers to
IBM-compatible mainframes. A typical Cleo product combines terminal
emulation software and a communications board, which are installed in the
PC, work-station, or midrange system.
CLEO also focuses on providing connections to mainframe-based SNA
(Systems Network Architecture) networks for personal computers running UNIX
operating systems. Cleo's LINKix, recently renamed Cleo 3270, family of
UNIX-to-SNA connectivity solutions has expanded to include 3270 emulation,
3770 RJE emulation, HLLAPI (High-Level Language Application Program
Interface), and APPC (Advanced Program-to-Program communications)
capabilities.
In fiscal 1993, the variety of Cleo's LINKix products resulted in
several new contracts to connect remote UNIX systems to SNA host computers,
including a sale to Digital Equipment to be installed for a major retailer
with outlets throughout the U.S. and sales to two drug store chains. These
sales contributed to Cleo's revenue growth in fiscal 1993 and fiscal 1994.
Since 1994, IBM mainframe users have looked beyond traditional SNA
to explore alternative enterprise networking solutions. In response to this
trend, the Company extended its Cleo line of Unix-to-mainframe connectivity
products to work in TCP/IP, X.25, and Token-Ring networks. In 1994 the
Company also began work on new Cleo packages to support the Company's Oasis
products and the increasingly prevalent client/server approach to
distributed computing. Cleo 3270 client/server product was completed in
fiscal 1995.
Cleo also specializes in communications for EDI, the automated
transfer of standard business documents, such as purchase orders, invoices,
and shipping notices, over computer networks. Cleo's 3780Plus is the EDI
industry's leading product for 3780/2780 RJE (Remote Job Entry) emulation in
BSC (Binary Synchronous Communications) networks. 3780Plus has now been
installed on over 85,000 computer systems worldwide.
Changes continue to occur in the Company's EDI communications
business and, accordingly, the Company has continued the development and
enhancement of its 3780Plus products to ensure compatibility with virtually
every major PC and work-station platform. For example, the Company
developed a new Microsoft Windows-compatible version of its popular 3780Plus
batch file transfer package. In 1994, the Company also added 3780Plus
support for Digital Equipment Corporation's new Alpha AXP work-stations. In
fiscal 1995, the Company introduced a synchronous communications product
line called A+.
Marketing
The Company's customers include end-users, brand label customers,
original equipment manufacturers, distributors and system integrators. The
Company sells or leases its products domestically utilizing direct
advertising, Company sales personnel, independent manufacturers'
representatives and distributors. The Company has sales offices and
personnel in Ann Arbor, Michigan; Chicago, Illinois; Loves Park, Illinois;
King of Prussia, Pennsylvania; and Irvine, California; and manufacturers'
representatives in New York, North Carolina, Michigan, Kentucky, Illinois,
Wisconsin, and Ohio.
4
The Company's export sales are made to distributors and OEM's
throughout the world, who resell and service the Company's products in their
respective territories. The Company has written agreements with most of its
foreign distributors. Printer and communication products sales in Europe
are made through the Company's wholly-owned subsidiary, ISIL, a master
distributor in the United Kingdom which sells to OEM's and other
distributors throughout Europe.
The following table sets forth certain information with respect to
the Company's domestic and export sales during the fiscal years ended
September 30, 1995, 1994, and 1993:
Year Ended September 30,
1995 1994 1993
---- ---- ----
Domestic Revenues $15,787 $20,529 $18,097
Foreign Revenues 54,456 18,483 15,685
------- ------- -------
Net Revenues $70,243 $39,012 $33,782
======= ======= =======
See "Management's Discussion and Analysis of Financial Condition and Results
of Operations - Fiscal 1995 Compared to Fiscal 1994 and Fiscal 1994 Compared
to Fiscal 1993."
The Company markets its line of 3270-compatible printers and Oasis
printing and viewing solutions primarily to Fortune 1,000 companies. The
AS/400 printers extend the Company's market to small and medium-sized
companies. The Company's Cleo products are sold to companies which have IBM
mainframes or which access IBM mainframes from micro or midrange computers.
In fiscal 1995, the Company completed the process of combining the
communications sales and marketing with the printer sales and marketing, as
customer prospects for the Company's products continue to overlap. The
Company's printer customers include Alcatel Business Systems, Ltd., Amoco
Corporation, Chrysler Corp., Electronic Data Systems Corp., International
Business Machines Corporation, Moody's Investors Service, Boeing Computer
Services, Honda of America MFG, Inc., McDonnell Douglas Aerospace
Information Services Co., Mercy Center Hospital, Sears Roebuck and Co.,
Standard Electrik Lorenz Aktieng Ensellschaft, Morristown Memorial Hospital,
Tennessee Valley Authority and Union Pacific Railroad, Allstate, Inc.,
Charles Schwab and Kroger Company.
The Company maintains a printer service department which provides
direct service for customers in Southeastern Michigan, Columbus, Ohio and
Southern California. Elsewhere, the Company provides service through third
parties, Bell Atlantic Business System Services and Vanstar Corporation,
each of which has offices throughout the United States. Service to export
customers is performed by the personnel of each foreign distributor. The
Company trains and supports the personnel of Bell Atlantic Business System
Services, Vanstar Corporation and its foreign distributors at the Company's
headquarters.
Manufacturing and Supply
The Company's manufacturing operations consist primarily of the
assembly of parts purchased from other sources, including printer
mechanisms, logic boards and power supplies. These parts are assembled into
finished products which support the software developed at the Company. IGK
manufactures printed circuit boards which are sold to the Company and to
others. The Company has purchased and designed a variety of assembly and
test equipment to reduce the cost and ensure the
5
quality of the assembly process. A computerized system developed for the
Company is used to manage purchasing, production, scheduling and inventory.
Some components used in the Company's products are currently
purchased from single or limited sources of supply. The Company purchases
most of its printer mechanisms from Bull Italia and Canon. The Company
believes that the loss of one or more suppliers would not have a material
long-term impact on its operations but would cause significant production
delays.
The Company believes that backlog is not significant in its business
because of the relatively short time span (approximately 24 hours to 30
days) between receipt of customer orders and product delivery. In addition,
orders on hand may be subject to cancellation by the customer without
substantial penalty.
Competition
The Company operates in a highly competitive environment with
several well-established competitors, many of which have substantially
greater resources than the Company. Several of these competitors are
independent suppliers, offering one or more types of products in competition
with the Company. The Company believes that its major competitor is IBM.
While competition in the market for the Company's products was
previously primarily price-based, today the Company is differentiating
itself through the unique features of its hardware and software products, as
well as the products' reputation for reliability and ease of use, and the
quality of the Company's support services. With respect to printers, the
Company competes primarily on the basis of its ability to offer IBM
plug-compatible printers that feature advantages in software and hardware
design and performance over their IBM counterparts. Significant reductions
in IBM printer prices could adversely affect the Company's revenues and
margins. However, the effect on revenues and margins would be less than in
previous years because printer revenues represent a smaller percentage of
total revenues.
The Company's printers are designed to be compatible with the IBM
mainframe, and AS/400 and RS/6000 product lines. As IBM has periodically
introduced new products or modified its lines of products, the Company has
made appropriate modifications to its printers. If IBM discontinued or
significantly redesigned its product lines, the Company's printer business
could be adversely affected. With respect to Oasis printing and viewing
software, the Company competes primarily with IBM products on the basis of
features. Several other smaller companies are also attempting to enter this
market.
Competition for Cleo products consists of many large and smaller
companies selling competing IBM 3270 products, and a limited number of small
companies selling IBM 3780 products. Cleo has an excellent reputation in
the IBM 3780 market, and in the UNIX to IBM mainframe connectivity market.
Management believes that Cleo is viewed by the IBM connectivity
communications industry as a company offering quality and high performance
products, and engineering services capable of customizing user requirements.
The Company's business is subject to the computer industry trend
toward distributed data processing and downsizing or "rightsizing". The
Company believes that this trend, along with a greater interest in Open
Systems and LANS (Local Area Networks) at the branch office, offer new
opportunities as well as new competition, for the Company's Printer, Oasis
and Cleo products.
The Company is adapting to the changing marketplace by merging its
printer and communications technology for some of its new product
development. The Company's new Oasis
6
products are illustrative of this adaptation. The Oasis products use the
Company's Cleo product technology for connectivity from the LAN to the
headquarters mainframe and printer product software technology to provide
mainframe printing capability on the LAN.
Competition in Europe for core products sold by ISIL is similar to
that in the United States. Competition for our distribution business in the
UK consists of several distributors who are larger and carry broader product
lines than the Company's distribution business, as well as many smaller
competitors.
Product Development
Since its inception, the Company has maintained a product
development program and continues to supplement existing research and
development capabilities through active recruiting of technical personnel
and development of proprietary technology. Just as the Company is merging
the sales and marketing for its communications and printer products, it has
also begun to combine product development personnel. This combination is
driving development of the Company's new Oasis product(s) which utilize both
connectivity and printing software. The Company currently has a staff of
approximately 35 persons who work closely with marketing and field personnel
to determine emerging user needs in data processing, and who continually
review and evaluate technological changes affecting the Company's primary
market.
The Company places great emphasis on research and product
development and the employment of highly skilled and motivated individuals
in these areas. Management believes that a strong product development staff
is an important factor contributing to the Company's ability to compete
successfully in the markets in which its products are sold. During the
fiscal years ended September 30, 1995, 1994 and 1993, the Company expended
approximately $712,000, $619,000, and $837,000, and respectively, for
research, development and engineering. All of such costs were sponsored by
the Company. These figures do not include software development costs which
are capitalized under Financial Accounting Standards No. 86, equalling
$1,998,022, $1,991,416, and $1,504,449 for the years ended September 30,
1995, 1994 and 1993, respectively. See Note 1 of Notes to Consolidated
Financial Statements. See also "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Fiscal 1995 Compared to
Fiscal 1994."
Employees
The Company currently employs approximately 210 employees. None of
the Company's employees are represented by collective bargaining unit, and
the Company believes its employee relations to be good.
ITEM 2. PROPERTIES
The Company's principal office and manufacturing facilities occupy
approximately 66,000 square feet in two buildings located in Ann Arbor,
Michigan. All the facilities were designed and built to the Company's
specifications and the Company believes that they are adequate for its
present and for its future operations.
The Company also rents office space in London, England; Birmingham,
England; California, Illinois, Pennsylvania, and France, with an annual
rental expense of $301,000 expected for fiscal 1996. See Note 9 of Notes to
Consolidated Financial Statements.
7
ITEM 3. LEGAL PROCEEDINGS
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
The Company's Common stock is traded on the Nasdaq Stock Market
National Market under the symbol "INTF". The following table sets forth,
for the periods indicated, the range of high and low sales prices for the
Common Stock as reported on the Nasdaq National Market:
High Low
---- ----
Fiscal 1994
First Quarter $ 4.625 $3.625
Second Quarter 4.875 3.875
Third Quarter 5.625 4.375
Fourth Quarter 4.875 4.000
Fiscal 1995
First Quarter $10.00 $4.50
Second Quarter 9.25 6.75
Third Quarter 8.00 5.375
Fourth Quarter 6.25 4.875
The last reported sale price for the Company's Common Stock on
December 26, 1995, as reported on the Nasdaq National Market, was $10.75.
On December 26, 1995, there were approximately 930 holders of record of the
Company's Common Stock.
As of December 26, 1995, there were approximately 30 holders of
record of the Company's Warrants. The Warrants, which were extended in May
1995, expire on December 29, 1995. See Note 10 of Notes to Consolidated
Financial Statements for information relating to the Warrants.
The Company initiated the payment of cash dividends during fiscal
1994. Dividends of $0.4 per share, when declared are paid quarterly to
holders of the Company's Common Stock. A quarterly dividend of $0.04 per
share has been paid through November 1995. The payment of future dividends
will depend on the Company's business, prospects and other factors
considered by the Company's Board of Directors.
8
ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data was derived from the Company's
Consolidated Financial Statements which were audited by BDO Seidman, LLP.
The information set forth below should be read in conjunction with the
Company's Consolidated Financial Statements and the Notes thereto set forth
elsewhere in this report.
Year Ended September 30,
1995 1994 1993 1992 1991
---- ---- ---- ---- ----
(In thousands, except per share data)
Income Statement Data (1)(2):
Net Revenues............ $70,243 $39,012 $33,782 $42,533 $34,105
Cost of Revenues ....... 57,516 24,500 20,534 26,440 20,723
------ ------ ------ ------ ------
Gross Profit............ 12,727 14,512 13,248 16,093 13,382
Product Development Costs,
Selling, General and
Administrative
Expenses .............. 11,960 10,094 10,026 13,133 12,187
------ ------ ------ ------ ------
Operating Income........ 767 4,418 3,222 2,960 1,195
Dividend and Interest
Income................. 186 131 39 174 187
Interest Expense........ (264) (172) (210) (318) (324)
Net Losses and Costs
of Spin-off of
Subsidiary (2)........ -- -- (163) (400) ---
Miscellaneous........... 17 13 (6) (66) (80)
---- ---- ---- ---- ----
Income Before Taxes
on Income and
Accounting Change..... 706 4,390 2,882 2,350 978
---- ----- ----- ----- ----
Taxes on Income (3)..... 540 1,428 1,177 868 292
---- ----- ----- ----- ----
Income before
Accounting Change...... 166 2,962 1,705 1,482 686
Accounting Change (4)... -- (127) -- -- --
---- ----- ----- ----- -----
Net Income.............. $ 166 $ 2,835 $ 1,705 $1,482 $ 686
==== ======= ======= ====== ======
Earnings per Share (4)(5) $ .04 $ .68 $ .41 $ .35 $ .16
Dividends per Share..... $ .16 $ .16 --- --- ---
Weighted Average Shares
Outstanding (5)........ $ 4,239 $ 4,170 $ 4,141 $ 4,263 $ 4,232
9
As of September 30,
1995 1994 1993 1992 1991
---- ---- ---- ---- ----
(In thousands)
Balance Sheet Data (1)(2):
Working Capital......... $11,622 $12,420 $11,328 $ 9,754 $14,159
Total Assets............ 33,952 31,899 25,362 29,809 30,412
Long-Term Debt.......... 287 334 487 663 2,181
Stockholders' Equity.... 21,214 21,421 139 24,344 23,434
- -------------
(1) Reflects the operating results of ISIL since February 1, 1992 and the operating results of the
distribution business acquired from Mekom plc since August 1, 1994.
(2) The 1991 and 1992 financial statements include the accounts of Nematron Corporation, a former
wholly-owned subsidiary of the Company which was spun-off in February 1993. At September 30, 1992,
the measurement date of this transaction, the net assets of Nematron were separately classified in
the balance sheet as "Net Assets of Subsidiary Held for Disposal" and a provision of $400,000 was
recorded for the estimated 1993 losses of and costs of the spin-off. The 1993 results of operations
of Nematron are not reflected in the financial statements; however, the net loss of Nematron for the
five months ended February 28, 1993 and the 1993 costs of the spin-off in excess of the amount
provided for at September 30, 1992 are recorded as an other expense.
(3) See Note 7 of Notes to Consolidated Financial Statements.
(4) The accounting change reflects the Company's adoption of SFAS 109, "Accounting for Income Taxes" in
the first quarter of 1994. This accounting change reduced net income by $127,000 or $0.03 per
share. See Note 1 of Notes to Consolidated Financial Statements.
(5) See Note 1 of Notes to Consolidated Financial Statements.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Results of Operations
The following table is included as an aid to understanding the
Company's operating results and should be read in conjunction with the
selected financial data and Consolidated Financial Statements (including the
Notes thereto) appearing elsewhere in this report.
10
Percentage Relationship to Net Revenues
Year Ended September 30,
1995 1994 1993
---- ---- ----
Net Revenues............... 100.0% 100.0% 100.0%
Cost of Revenues........... 81.9 62.8 60.8
----- ----- -----
Gross Profit............... 18.1 37.2 39.2
Product Development,
Selling, General and
Administrative Expenses... 17.0 25.9 29.7
----- ----- -----
Operating Income........... 1.1 11.3 9.5
Losses and costs of spinoff
of subsidiary............ -- -- (0.5)
Other Income............... 0.3 0.4 0.1
Interest Expense........... (0.4) (0.4) 0.6
---- ---- ----
Income Before Taxes on
Income and Accounting
Change ................. 1.0 11.3 8.5
Accounting Change ......... -- (0.3) --
Taxes on Income............ 0.8 3.7 3.5
---- ---- ----
Net Income................. 0.2% 7.3% 5.0%
==== ==== ====
Overview
The Company has established itself in Advanced Function
Presentation(AFP) by offering a broad line of printers and software for
network servers that support printing and viewing of the output from IBM
mainframe and mini (AS/400) computers. The Company is active in XPLOR, the
national trade association that deals with electronic document management
solutions for large corporations. XPLOR's membership is made up of many
Fortune 500 companies and others.
The Company's Cleo 3270 products which made their first significant
contribution to revenues in fiscal 1992 gained in importance in fiscal 1993
and 1994. Installation of these products pursuant to several major
contracts with large retail companies began in fiscal 1993 and was completed
in fiscal 1994. The 3780 Plus product enhancements, introduced over the
last two years, continued to be well received by the electronic data
interchange (EDI) market. In fiscal 1995 the Cleo product group completed
its Cleo 3270 client server product and introduced A+, a synchronous file
transfer product.
In fiscal 1993, the Company began the process of combining printer
AFP engineering and 3270 LINKix engineering to design new products which the
Company anticipates will be responsive to the changing industry. "Oasis" is
the first product resulting from this combination and was introduced in
November 1993 at the annual XPLOR conference. This effort was significant
since it began the integration of the Company's major product lines which
heretofore had been separate. In fiscal 1994 and 1995, the Company has
continued the expansion and improvement of its Oasis product technology.
The Company currently is aggressively marketing Oasis. In fiscal 1995, the
Company moved the Cleo product
11
group into a 12,000 square foot addition to its corporate headquarters.
This physical combination of sales, marketing and engineering is part of the
Company's continuing efforts to expand areas of synergy between printing
connectivity and communication products.
In fiscal 1995 IGK continued to supply printed circuit boards to the
Company and outside customers throughout the midwest and the southeast.
As a result of the purchase of Mekom distribution by ISIL, the
Company's revenues increased significantly in fiscal 1995. These increased
revenues from the distribution of computer products in the UK generated
significantly lower margins compared to the Company's traditional product
mix.
Fiscal 1995 compared to Fiscal 1994
Net revenues for the fiscal year ended September 30, 1995 increased
80.1% over the previous fiscal year. The increase was due to higher revenues
from the ISIL distribution business in Slough and Birmingham, England
(Mekom). In fiscal 1995, the Company operated the Mekom business for 12
months versus 2 months in fiscal 1994. See Note 13 of Notes to Consolidated
Financial Statements. Core product sales (printers and communications) were
down approximately 20% from fiscal 1994. The majority of the reduction in
core product revenue was attributable to the lack of large corporate
communications sales of Cleo 3270 product in fiscal 1995. In fiscal 1994,
the Company had significant deliveries on four large corporate contracts for
its Cleo 3270 products. While there can be no assurance that there will be
future large contracts for the Company's Cleo 3270 products, opportunities
continue to be pursued. See the table on page 6 for revenue comparisons of
domestic versus foreign revenues for the last three years.
Cost of revenues for fiscal 1995 was 81.9% of net revenues versus
62.8% in fiscal 1994. The increase is primarily due to the increased
distribution business which has very high cost of sales. Margins in the
distribution business were very low due to the nature of the business which
has gross margins of 6% to 8%, as well as competitive pressures which can
drive margins even lower on very large sales. In the core product area, the
Company's cost of revenues were up approximately 4.5% due to the product mix
of reduced high margin Cleo 3270 software sales, the writedown of slow
moving printer inventory and amortization of software development cost
increases in fiscal 1995 versus 1994.
Product development, selling and general and administrative expenses
("operating expenses") were 17% of net revenues for fiscal 1995 versus 25.9%
for fiscal 1994. The large reduction in operating expenses as a percent of
revenues is due primarily to the large increase in revenues from the
Company's United Kingdom distribution business which has much lower
operating expenses as a percent of revenue than our core businesses. In
fiscal 1995, the Company had twelve months of revenues from the Mekom
acquisition versus only two months in fiscal 1994. In an absolute sense,
Product Development expenses were up 11.2% in 1995 vs. 1994 while
capitalized software development costs remained flat. The increase was due
to higher expenditures for Oasis and Cleo new product development. Selling
and general and administrative expenses were up 19.6% in an absolute sense,
primarily as a result of expenses that were required to support ISIL's
growth. In addition, a $669,000 bad debt charge was incurred in the UK
distribution business, due to a single customer filing for receivership.
The Company has modified its procedures to reduce the probability of similar
bad debt occurances in the future.
Operating Income was 1.1% of net revenues in fiscal 1995 versus 11.3
% in fiscal 1994. This decrease was primarily due to the poor performance
of ISIL which had an operating loss of $851,895 in fiscal 1995 versus an
operating loss of $53,918 in fiscal 1994. The increased operating loss at
ISIL was primarily due to the $669,000 bad debt loss previously mentioned.
The Company expects ISIL's performance to improve in fiscal 1996 due to
increased core product and distribution revenues, as well as
12
tighter accounting controls. The Companies Operating Income was also
negatively impacted by a significant reduction in revenue from the Company's
Cleo 3270 products in fiscal 1995 versus fiscal 1994. (See the first
paragraph under the caption Fiscal 1995 Compared To Fiscal 1994 above.)
Taxes on income were 0.8% of net revenues in fiscal 1995 versus 3.7%
in fiscal 1994. The effective tax rate in fiscal 1995 was 76.44% versus
32.5% in fiscal 1994. The higher effective tax rate in fiscal 1995 was
primarily due to the Non-deductible losses of our foreign subsidiary ISIL
and increased amortization of goodwill combined with lower pre-tax income.
See Note 7 of Notes to Consolidated Financial Statements.
As a result of the above factors, net income in fiscal 1995
decreased to 0.2% of net revenues versus 7.3% of net revenues in fiscal
1994.
Fiscal 1994 compared to Fiscal 1993
Net revenues for the fiscal year ended September 30, 1994 increased
15.5% over the previous fiscal year. The increase was primarily due to
increased revenues from ISIL and communications products, combined with
reduced sales of printer products. ISIL's revenue increase is primarily
attributable to the acquisition of the distribution business of Mekom, plc.
as of August 1, 1994.
Cost of revenues for fiscal 1994 was 62.8% of net revenues versus
60.8% in fiscal 1993. The increase is primarily due to slightly lower
margins for printer products and for ISIL sales, partially offset by higher
margins for communications products. In addition, cost of revenues was
increased in fiscal 1994 by increased amortization of software versus fiscal
1993.
Product development, selling and general and administrative expenses
("operating expenses") were 25.9% of net revenues for fiscal 1994 versus
29.7% for fiscal 1993. Operating expenses were down as a percentage of net
revenues due to lower costs associated with reduced revenues from the
Company's printer business, as well as only modest dollar (but not
percentage) increases at Cleo and ISIL. In addition, operating expenses
were reduced because of increased capitalization of software in development
costs fiscal 1994 versus fiscal 1993.
Operating income was 11.3% of net revenues in fiscal 1994 versus
9.5% in fiscal 1993. This increase was primarily due to increased revenues
and margins from our communication product sales combined with improved
performance by ISIL.
Taxes on income were 3.7% of net revenues in fiscal 1994 versus 3.5%
in fiscal 1993. The effective tax rate in fiscal 1994 was 32.5% versus
40.8% in fiscal 1993. The lower effective rate in fiscal 1994 was due to
the improved performance of ISIL, whose losses are not deductible for U.S.
tax purposes and research and development credits available in fiscal 1994.
See Note 7 to Notes to Consolidated Financial Statements. The accounting
change which has been previously discussed was 0.3% of net revenues in
fiscal 1994. See Note 1 to Notes to Consolidated Financial Statements.
As a result of the above factors, net income in fiscal 1994
increased to 7.3% of net revenues versus 5% of net revenues in fiscal 1993.
Liquidity and Capital Resources
Internally generated funds, supplemented by borrowing under the
Company's bank line of credit, have been the primary sources used to fund
the Company's needs for working capital and capital expenditures. The
Company believes that internally generated funds and existing lines of
credit will be
13
sufficient to meet its working capital needs and to fund anticipated capital
expenditures for the upcoming fiscal year.
As of September 30, 1995, the Company's working capital was
$11,622,000. The Company's working capital as of September 30, 1994 and
1993 was $12,420,000 and $11,328,000, respectively.
The Company experienced increases in its buildings and improvements
of $846,384 due to the addition of 12,000 square feet at our headquarters in
Ann Arbor and $930,986 of other fixed asset additions. Notes payable
increased by $2,224,258 in fiscal 1995 primarily due to the added borrowing
required to support the expanding distribution business in the UK.
At September 30, 1995, the Company had $3,735,758 in cash and short
term investments. The Company has lines of credit agreements for working
capital which currently permit it to borrow up to $8,388,500 on an unsecured
basis. These lines expire at various dates through June 30, 1996 and are
subject to annual renewal thereafter. As of September 30, 1995, $4,367,318
was outstanding under these lines of credit. See Note 5 of Notes to
Consolidated Financial Statements.
Cash Flows
Net cash provided by operating activities was $2,433,934 in fiscal
1995 compared to $6,746,465 in fiscal 1994. The decrease was primarily due
to the large reduction in net income. In addition, the change was caused by
decreased cash flows from other operating activities, primarily increases in
accounts receivable in prepaid expenses.
Net cash used in investing activities in fiscal 1995 was $3,754,258
down from $4,806,479 in fiscal 1994 when $2,017,200 was spent to purchase
the Mekom business. In fiscal 1995 $1,777,370 was spent on additions to
property and equipment, more than half of which was used to purchase of our
new building addition.
Net cash provided from financing activities in fiscal 1995 was
$1,704,893 compared to $479,102 used in financing activities in fiscal 1994.
The increase was primarily due to an increase in notes payable in fiscal
1995.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The financial statements and schedules filed herewith are set forth
in the Index to Financial Statements and Supplementary Data (on Page F-1 of
the separate financial section which follows page 15 of this report) and are
incorporated herein by reference.
ITEM 9. CHANGES IN AND DISAGREEMENT WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
Not applicable.
14
PART III
Information required by Part III (Items 10, 11,12, and 13) of the
Form 10-K is incorporated by reference from Interface Systems, Inc.'s
definitive Proxy Statement for its 1996 Annual Meeting of Shareholders,
which will be filed with the Securities and Exchange Commission, pursuant to
Regulation 14A, not later than 120 days after the end of the fiscal year,
all of which information is hereby incorporated by reference in, and made a
part of, this Form 10-K.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) Financial Statements, Schedules and Exhibits
1-2. The financial statements and schedules filed herewith are set
forth in the Index to Consolidated Financial Statements (on page F-1 of the
separate financial section which follows page 15 of this report) and are
incorporated herein by reference.
3. The exhibits filed herewith are set forth in the Index to
Exhibits (on the first page of the separate exhibit section which follows
the financial section of this report) and are incorporated herein by
reference.
(b) The Company filed no current reports on Form 8-K during the
last quarter of the Company's fiscal year ended September 30, 1995.
15
Interface Systems, Inc.
and Subsidiaries
Consolidated Financial Statements
Years Ended September 30, 1995, 1994 and 1993
Report of Independent Certified Public Accountants F-2
Financial Statements
Consolidated Balance Sheets F-3
Consolidated Statements of Income F-5
Consolidated Statements of Stockholders' Equity F-6
Consolidated Statements of Cash Flows F-7
Notes to Consolidated Financial Statements F-9
Financial Statement Schedules
Report of Independent Certified Public Accountants S-1
Schedule II - Valuation and Qualifying Accounts S-2
F-1
Report of Independent Certified Public Accountants
To the Board of Directors
Interface Systems, Inc.
Ann Arbor, Michigan
We have audited the accompanying consolidated balance sheets of Interface
Systems, Inc. and subsidiaries as of September 30, 1995 and 1994, and the
related consolidated statements of income, stockholders' equity and cash
flows for each of the three years in the period ended September 30, 1995.
These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Interface Systems, Inc.
and subsidiaries at September 30, 1995 and 1994, and the results of their
operations and their cash flows for each of the three years in the period
ended September 30, 1995 in conformity with generally accepted accounting
principles.
/S/ BDO SEIDMAN, LLP
BDO SEIDMAN, LLP
Troy, Michigan
November 10, 1995
F-2
Interface Systems, Inc. and Subsidiaries
Consolidated Balance Sheets
September 30, 1995 1994
- ------------- ---- ----
Assets
Current Assets:
Cash and equivalents $3,735,758 $3,347,282
Accounts receivable, less allowance for
doubtful accounts of $248,000 and $133,000 10,068,828 9,447,455
Inventories (Note 4) 7,360,204 7,735,229
Prepaid expenses and other current assets 1,115,256 495,597
Deferred income taxes (Note 7) 413,000 361,000
---------- ----------
Total Current Assets 22,693,046 21,386,563
Property and Equipment (Note 6)
Land 231,383 202,300
Buildings and improvements 2,603,851 1,757,467
Machinery and equipment 5,425,570 4,914,115
--------- ---------
8,260,804 6,873,882
Less accumulated depreciation 3,642,880 3,175,689
--------- ---------
Net Property and Equipment 4,617,924 3,698,193
--------- ---------
Other
Goodwill, less accumulated amortization of
$1,620,983 and $1,260,501 (Note 3) 3,204,694 3,546,452
Software development costs, less accumulated
amortization of $2,927,340 and $2,831,377 3,032,987 2,607,061
Miscellaneous 403,799 661,035
--------- ---------
Total Other Assets 6,641,480 6,814,548
---------- ----------
$33,952,450 $31,899,304
========== ==========
See accompanying notes to consolidated financial statements.
F-3
Interface Systems, Inc., and Subsidiaries
Consolidated Balance Sheets
September 30, 1995 1994
- ------------- ---- ----
Liabilities and Stockholders' Equity
Current Liabilities:
Notes payable (Note 5) $4,367,318 $2,143,060
Accounts payable 6,070,074 5,680,798
Accruals
Compensation 348,147 574,515
Other 2,230 221,605
Deferred revenue 230,663 199,236
Current maturities of long-term debt (Note 6) 52,400 147,400
---------- ---------
Total Current Liabilities 11,070,832 8,966,614
Long-Term Debt, less current maturities (Note 6) 286,546 333,816
Deferred Income Taxes (Note 7) 1,381,000 1,178,000
---------- ----------
Total Liabilities 12,738,378 10,478,430
---------- ----------
Commitments and Contingencies (Notes 8 and 9)
Stockholders' Equity (Notes 10 and 11)
Common stock, $.10 par value, shares
authorized 8,000,000; outstanding
4,212,418 and 4,153,368 421,242 415,337
Additional paid-in capital 9,114,577 8,827,685
Cumulative foreign currency translation
adjustment (198,169) (202,076)
Retained earnings 11,876,422 12,379,928
---------- ----------
Total Stockholders' Equity 21,214,072 21,420,874
---------- ----------
$33,952,450 $31,899,304
========== ==========
See accompanying notes to consolidated financial statements.
F-4
Interface Systems, Inc., and Subsidiaries
Consolidated Statements of Income
Year Ended September 30, 1995 1994 1993
Net Revenues $70,243,216 $39,012,086 $33,781,632
Cost of Revenues 57,516,563 24,500,363 20,534,203
---------- ---------- ----------
Gross Profit 12,726,653 14,511,723 13,247,429
---------- ---------- ----------
Product Development Costs 1,453,605 1,307,523 1,478,386
Selling, General and Administrative
Expenses 10,506,062 8,786,591 8,547,548
---------- --------- ---------
11,959,667 10,094,114 10,025,934
---------- ---------- ----------
Operating Income 766,986 4,417,609 3,221,495
------- --------- ---------
Other Income (Expense)
Interest expense (263,758) (171,701) (209,583)
Dividend and interest income 186,064 131,030 39,162
Net losses and costs of spin-off
of subsidiary (Note 2) -- -- (162,539)
Miscellaneous 17,094 12,839 (6,073)
------- ------- -------
Net Other Expenses (60,600) (27,832) (339,033)
------ ------ -------
Income Before Taxes On Income and Cumulative
Effect of Change in Accounting Principle 706,386 4,389,777 2,882,462
Taxes On Income (Note 7) 540,000 1,428,000 1,177,000
------- --------- ---------
Income Before Cumulative Effect of Change
in Accounting Principle 166,386 2,961,777 1,705,462
Cumulative Effect of Change in
Accounting Principle (Note 1) -- (127,000) --
------- --------- ---------
Net Income $ 166,386 $ 2,834,777 $ 1,705,462
======= ========= =========
Earnings Per Share Before Cumulative Effect
of Change in Accounting Principle $ 0.04 $ 0.71 $ 0.41
Cumulative Effect of Change in
Accounting Principle -- (.03) --
---- ---- ----
Net Earnings Per Share $ 0.04 $ 0.68 $ 0.41
==== ==== ====
See accompanying notes to consolidated financial statements.
F-5
Interface Systems, Inc., and Subsidiaries
Consolidated Statements of Stockholders' Equity
Years Ended September 30, 1995, 1994 and 1993
Cumulative
Additional Foreign Total
Common Stock Paid-In Currency Retained Stockholders'
Shares Amount Capital Translation Earnings Equity
------ ------ --------- ----------- ---------- -----------
Balance, September 30, 1992 4,147,882 $414,789 $8,817,604 $(153,238) $15,264,659 $24,343,814
Net income -- -- -- -- 1,705,462 1,705,462
Issuance of stock 9,009 900 29,901 -- -- 30,801
Retirement of stock (24,000) (2,400) (84,600) -- -- (87,000)
Spin-off of subsidiary
(Note 2) -- -- -- 30,601 (6,760,857) (6,730,256)
Foreign currency translation -- -- -- (124,073) -- (124,073)
-------- ------- --------- ------- ---------- ----------
Balance, September 30, 1993 4,132,891 413,289 8,762,905 (246,710) 10,209,264 19,138,748
Net income -- -- -- -- 2,834,777 2,834,777
Issuance of stock 20,477 2,048 64,780 -- -- 66,828
Cash dividends -
$.16 per share -- -- -- -- (664,113) (664,113)
Foreign currency translation -- -- -- 44,634 -- 44,634
--------- ------- --------- ------- ---------- ----------
Balance, September 30, 1994 4,153,368 415,337 8,827,685 (202,076) 12,379,928 21,420,874
Net income -- -- -- -- 166,386 166,386
Issuance of stock 59,050 5,905 286,892 -- -- 292,797
Cash dividends -
$.16 per share -- -- -- -- (669,892) (669,892)
Foreign currency translation -- -- -- 3,907 -- 3,907
--------- ------- --------- ------- ---------- ----------
Balance, September 30, 1995 4,212,418 $421,242 $9,114,577 $(198,169) $11,876,422 $21,214,072
========= ======= ========= ======= ========== ==========
See accompanying notes to consolidated financial statements.
F-6
Interface Systems, Inc., and Subsidiaries
Consolidated Statements of Cash Flows
Year Ended September 30, 1995 1994 1993
- ------------------------ ---- ---- ----
Cash Flows From Operating Activities
Net income $ 166,386 $ 2,834,777 $ 1,705,462
Adjustments to reconcile net income
to net cash provided by operating
activities
Depreciation and amortization 2,972,277 2,524,367 2,065,999
Deferred income taxes 151,000 372,000 287,000
Loss on sale of fixed assets 24,727 -- 4,398
Decrease (increase) in accounts
receivable (621,373) (4,561,440) 833,606
Decrease (increase) in inventories 375,025 1,406,909 (945,386)
Decrease (increase) in prepaid
expenses and other current assets (619,659) 140,532 (127,800)
Decrease (increase) in other assets 10,591 40,955 (237,739)
Increase (decrease) in accounts
payable 389,276 3,844,025 (108,352)
Increase (decrease) in accruals (445,743) 191,844 (9,793)
Increase (decrease) in deferred
revenue 31,427 (47,504) 91,220
--------- --------- ---------
Net Cash Provided By Operating Activities 2,433,934 6,746,465 3,558,615
--------- --------- ---------
Cash Flows From Investing Activities
Additions to property and equipment (1,777,370) (797,863) (1,014,484)
Proceeds from disposals of property
and equipment 21,134 -- 40,395
Additions to software development costs (1,998,022) (1,991,416) (1,504,449)
Cash paid for purchase of
Mekom Distribution -- (2,017,200) --
--------- --------- ---------
Net Cash Used In Investing Activities (3,754,258) (4,806,479) (2,478,538)
--------- --------- ---------
Cash Flows From Financing Activities
Net increase in notes payable 2,224,258 207,146 248,488
Additions to long-term debt -- -- 110,000
Reduction of long-term debt (142,270) (88,963) (255,189)
Issuance of stock 292,797 66,828 30,801
Retirement of stock -- -- (87,000)
Cash dividends paid (669,892) (664,113) --
--------- ------- -------
Net Cash Provided By (Used In)
Financing Activities 1,704,893 (479,102) 47,100
--------- ------- -------
Foreign Currency Translation 3,907 44,634 (124,073)
------- --------- ---------
Net Increase In Cash and Equivalents 388,476 1,505,518 1,003,104
Cash and Equivalents, beginning of year 3,347,282 1,841,764 838,660
--------- --------- ---------
Cash and Equivalents, end of year $3,735,758 $3,347,282 $1,841,764
========= ========= =========
See accompanying notes to consolidated financial statements.
F-7
Interface Systems, Inc., and Subsidiaries
Notes to Consolidated Financial Statements
1. Summary of Accounting Policies
Principles of Consolidation
The accompanying consolidated financial statements include the accounts of
Interface Systems, Inc. (the "Company") and its wholly-owned subsidiaries,
I.G.K. Industries, Inc. ("I.G.K."), Interface Systems International, Ltd.
("ISIL"), Interface Systems International, Inc. ("FSC"), and Scitronix
Corporation. All significant intercompany transactions and balances have
been eliminated in consolidation.
Concentrations of Credit Risk
Financial instruments which potentially subject the Company to
concentrations of credit risk consist principally of cash, cash equivalents
and accounts receivable. At times such cash and equivalents in banks are in
excess of the respective financial institution's FDIC insurance limit. The
Company attempts to minimize credit risk by reviewing all customers' credit
history before extending credit and by monitoring customers' credit exposure
on a continuing basis. The Company establishes an allowance for possible
losses on accounts receivable, when necessary, based upon factors
surrounding the credit risk of specific customers, historical trends and
other information.
Use of Estimates
In preparing financial statements in conformity with generally accepted
accounting principles, management is required to make estimates and
assumptions that affect (1) the reported amounts of assets and liabilities
and the disclosure of contingent assets and liabilities as of the date of
the financial statements, and (2) revenues and expenses during the reporting
period. Actual results could differ from those estimates which are made.
Inventories
Inventories are valued at the lower of cost or market. Cost is determined by
the first-in, first-out (FIFO) method.
F-8
Property, Equipment and Depreciation
Property and equipment are stated at cost. Depreciation is provided over the
estimated useful lives of the assets, ranging from 3 to 33 years, using
primarily the straight-line method for financial reporting purposes and
accelerated methods for tax reporting purposes.
Goodwill
Goodwill represents the excess of the cost of companies acquired over the
fair value of their net assets at dates of acquisition and is being
amortized on the straight-line method over periods not exceeding 15 years.
The Company reviews goodwill for impairment based upon undiscounted cash
flows over the remaining life of the goodwill. If necessary, impairment will
be measured based on the difference between undiscounted future cash flows
and the net book value of the related goodwill.
Software Development Costs
In compliance with Statement of Financial Accounting Standards No. 86,
"Accounting for the Costs of Computer Software to be Sold, Leased or
Otherwise Marketed," certain computer software development costs have been
capitalized. Capitalization of computer software development costs begins
upon the establishment of technological feasibility. The establishment of
technological feasibility and the ongoing assessment of recoverability of
capitalized computer software development costs require considerable
judgment by management with respect to certain external factors, including,
but not limited to, anticipated future gross revenues, estimated economic
life and changes in software and hardware technology.
Amortization of capitalized computer software development costs is provided
on a product-by-product basis using the straight-line method over the
remaining estimated economic lives of the respective products, ranging from
two to five years. Amortization amounted to $1,572,096, $1,221,715, and
$771,374 for the years ended September 30, 1995, 1994 and 1993,
respectively, and is included in cost of revenues.
F-9
Foreign Currency Translation
All assets and liabilities of foreign subsidiaries are translated at
exchange rates in effect on the balance sheet date, and revenue and expenses
are translated using a weighted average exchange rate during the period.
Cumulative adjustments resulting from translation of financial statements
are reflected as a separate component of stockholders' equity.
Revenue Recognition
Revenues from product sales are recognized upon shipment to the customer.
Lease and service revenues are recognized ratably over the contractual
period or as the services are performed. Revenues from licenses of software
products are recognized when the product is shipped and the Company has no
further obligation to the customer. Deferred revenue represents advance
billings on service contracts.
Research and Development Costs
Research and development costs, excluding the costs capitalized as computer
software development costs, are expensed in the period incurred. These
costs, representing engineering salaries, fringe benefits, other direct
expenses and a portion of the Company's overhead, are included in the
accompanying consolidated financial statements as product development costs.
Research and development expenses for the years ended September 30, 1995,
1994 and 1993 were approximately $712,000, $619,000 and $837,000,
respectively.
Taxes on Income
Deferred income taxes are recorded to reflect the future tax consequences of
temporary differences between the tax bases of assets and liabilities and
their financial reporting amounts at each year-end.
F-10
Effective October 1, 1993, the Company changed its method of accounting for
income taxes to the liability method required by Statement of Financial
Accounting Standards No. 109, "Accounting for Income Taxes." Prior year
financial statements have not been restated. The cumulative effect of
adopting Statement No. 109 as of October 1, 1993 was to decrease net income
for the year ended September 30, 1994 by $127,000.
Earnings Per Share
Earnings per share amounts have been calculated using the weighted average
number of shares and common stock equivalents outstanding for the respective
periods. The antidilutive effect of outstanding options and warrants of the
Company is excluded from the earnings per share calculations presented in
the consolidated statements of income. The weighted average number of shares
outstanding were 4,238,889, 4,169,781 and 4,141,290 for fiscal years 1995,
1994 and 1993, respectively.
Consolidated Statements of Cash Flows
For the purposes of this statement, the Company considers money market funds
to be cash equivalents.
2. Common Stock Distribution
In November 1992, the Board of Directors of the Company approved the
distribution of all of the outstanding stock of Nematron to Interface's
stockholders subject to, among other things, the receipt of regulatory
approvals. In February 1993, the Company distributed all of its Nematron
stock, totaling 1,377,776 shares. The transaction was accounted for as a
spin-off and, accordingly, stockholders' equity was decreased by $6,730,256
in fiscal 1993, representing the net asset value of Nematron at the spin-off
date.
The accompanying statement of income for the year ended September 30, 1993
includes the net losses and costs of the spin-off, in excess of the prior
year estimated provision, totaling $162,539.
F-11
3. Business Acquisition
In August 1994, ISIL acquired certain assets of Mekom Computer Products PLC
("Mekom"), a British company, for $2,017,200. The acquisition was accounted
for as a purchase and, accordingly, the acquired assets have been recorded
on ISIL's books at the estimated fair values at the date of acquisition. The
excess of the total purchase price over the estimated fair value of assets
acquired was $1,121,617 and is included as goodwill in the accompanying
consolidated balance sheets. The consolidated statements of income include
the operating results of Mekom from August 1994.
4. Inventories
Inventories are summarized as follows:
September 30, 1995 1994
---- ----
Purchased parts and accessories $2,853,910 $3,810,521
Finished goods 2,648,988 2,165,016
Work-in-process 1,005,203 839,574
Service parts and demo units 852,103 920,118
--------- ---------
$7,360,204 $7,735,229
========= =========
5. Lines-of-Credit and Notes Payable
The Company has a working capital credit facility with a bank, expiring
February 1996, under which the Company may borrow up to $3,500,000.
Borrowings under this agreement are unsecured and bear interest at the
bank's prime rate. There were no borrowings outstanding with respect to this
agreement at September 30, 1995 and 1994.
ISIL has a short-term credit facility with a bank, expiring February 1996,
under which it may borrow up to $4,738,500. Borrowings under this facility
are guaranteed by the Company, bear interest at LIBOR plus 2% (9.00% at
September 30, 1995 and 7.34% at September 30, 1994) and are due on demand.
Borrowings outstanding at September 30, 1995 and 1994 were $4,367,318 and
$2,143,060, respectively.
The ISIL credit facility contains a restrictive covenant requiring ISIL to
maintain positive tangible net worth. ISIL was in compliance with this
covenant at September 30, 1995 and 1994.
F-12
IGK has a short-term credit facility with a bank under which it may borrow
up to $150,000. Borrowings are collateralized by accounts receivable,
inventory, and machinery and equipment and bear interest at .5% over the
bank's prime rate. There were no borrowings outstanding under this facility
at September 30, 1995 and 1994.
6. Long-Term Debt
Long-term debt consists of the following:
September 30, 1995 1994
---- ----
Installment loan payable-bank, payable
in monthly installments of $3,696
including interest at 0.25% over
the bank's prime rate (9.0% at
September 30, 1995), due March
1997, unsecured $284,247 $304,972
Installment loan payable-bank, payable
in monthly installments of $2,212
plus interest at 7.65%, through
October 1997, collateralized by
equipment 54,699 81,244
Non-compete agreement, paid in full
during 1995 -- 95,000
------- -------
338,946 481,216
Less current maturities 52,400 147,400
------- -------
$286,546 $333,816
======= =======
The aggregate amounts of long-term debt maturing in each of the next three
fiscal years are as follows: 1996 - $52,400; 1997 - $285,000; and 1998 -
$1,546.
F-13
7. Taxes on Income
Provisions for taxes on income in the consolidated statements of income are
made up of the following components:
Year Ended September 30, 1995 1994 1993
---- ---- ----
Current - U.S. federal $389,000 $1,056,000 $890,000
Deferred - U.S. federal 151,000 372,000 287,000
------- --------- -------
$540,000 $1,428,000 $1,177,000
======== ========= ==========
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial
reporting purposes and the amounts used for income tax purposes.
Significant components of the Company's deferred tax liabilities and assets
are as follows:
September 30, 1995 1994
---- ----
Deferred Tax Liabilities
Tax depreciation and amortization
greater than book amounts $1,381,000 $1,178,000
========= =========
Deferred Tax Assets
Net operating loss carryforwards
of ISIL $612,000 $322,000
Receivable and inventory reserves 248,000 195,000
Employee benefit accruals 107,000 107,000
Inventory costs under uniform
capitalization rules 43,000 47,000
Other 15,000 12,000
--------- -------
1,025,000 683,000
Valuation Allowance for Deferred Tax
Assets of ISIL (612,000) (322,000)
-------- -------
Net Deferred Tax Assets $413,000 $361,000
======= =======
F-14
The following reconciles the statutory federal income tax rate to the
Company's effective tax rate:
Year Ended September 30, 1995 1994 1993
---- ---- ----
Income tax based on the federal
statutory rate 34.00% 34.00% 34.00%
Increase (decrease) in taxes
resulting from:
Benefits of FSC non-taxable
income (7.29) (.40) (2.15)
Research and development
credits (4.67) (2.74) --
Amortization of goodwill 13.74 2.21 3.43
Non-deductible losses of
foreign subsidiaries 41.00 .42 4.93
Other (.34) (.96) .62
----- ---- ----
76.44% 32.53% 40.83%
===== ===== =====
The domestic and foreign components of income (loss) before taxes on income
were as follows:
Year Ended September 30, 1995 1994 1993
---- ---- ----
Domestic $1,558,281 $4,443,695 $3,299,841
Foreign (851,895) (53,918) (417,379)
--------- --------- ---------
$706,386 $4,389,777 $2,882,462
======== ========= =========
ISIL has net operating loss carryforwards totalling approximately $1,799,000
at September 30, 1995.
F-15
8. Retirement Plan
The Company has established a defined contribution retirement plan for all
eligible employees. Participants may make basic contributions from 2% to 8%
of their compensation pursuant to Section 401(k) of the Internal Revenue
Code. The Company makes a basic contribution of 100% of the amount
contributed by participants, up to 4% of participant compensation, and may
make additional contributions as approved by the Board of Directors. The
Company recognized approximately $299,000, $223,000 and $251,000 of expense
related to this plan for the years ended September 30, 1995, 1994 and 1993,
respectively.
In addition, ISIL maintains a defined contribution pension plan for all
eligible employees. ISIL recognized approximately $112,000, $105,000 and
$89,000 of expense related to this plan for the years ended September 30,
1995, 1994 and 1993, respectively.
9. Commitments and Contingencies
The Company has various operating leases which require future minimum rental
payments in excess of one year as follows: 1996 - $301,000; 1997 -
$272,000; 1998 - $224,000; 1999 - $207,000; and 2000 - $207,000. Rent
expense for the years ended September 30, 1995, 1994 and 1993 was $375,000,
$243,000 and $210,000, respectively.
In August 1995, the Board of Directors authorized the acquisition by the
Company of up to 400,000 shares of its common stock at prices not to exceed
$5 per share. No common stock was acquired in 1995.
10. Stock Warrants
On August 3, 1983, the Company sold 300,000 units (consisting of two shares
of common stock and one warrant) through a public offering at $15.00 per
unit. Each warrant entitles the holder to purchase one share of common
stock. The warrants were exercisable at $6.50 per warrant and were to expire
July 1, 1995. In March 1995, the Board of Directors extended the expiration
date of the warrants to December 29, 1995. The Company may call the
warrants, upon 30 days written notice, at a price of $.63 per warrant.
During the year ended September 30, 1995, 3,350 of the warrants were
exercised at a price of $6.50 per warrant, and 296,650 warrants were
outstanding at September 30, 1995.
F-16
11. Stock Options
Incentive stock options are granted to executives and key employees for a
ten-year period with the option price being at least the fair market value
at date of grant. The incentive stock options can be exercised in three
annual installments starting one year after the date of the grant.
The Company has also granted non-qualified stock options to five
non-employee directors, which expire ten years and one day from date of
grant. All non-qualified stock options are cancelled if the grantee ceases
to be a director.
The Company has reserved approximately 629,400 shares of its common stock
for issuance under the various stock option plans ("Plans"). Approximately
196,500 shares are available for grant under the Plans at September 30,
1995.
Changes in stock options outstanding, adjusted to reflect stock dividends
and splits, are summarized as follows:
Qualified Non-Qualified
Option Option
Shares Price Shares Price
------ ------ ------ ------
$ $
Balance, October 1, 1992 418,132 3.31-7.50 16,500 7.04
Granted 150,000 5.25 30,000 5.25
Exercised (9,000) 3.31-3.81 -- --
Expired or terminated (90,900) 3.31-7.50 -- --
-------
Balance, September 30, 1993 468,232 3.31-7.50 46,500 5.25-7.04
Granted -- -- -- --
Exercised (20,477) 3.31-3.63 -- --
Expired or terminated (30,123) 3.31-7.50 -- --
-------
Balance, September 30, 1994 417,632 3.31-7.50 46,500 5.25-7.04
Granted 78,000 5.38-7.19 -- --
Exercised (55,700) 3.31-7.50 -- --
Expired or terminated (37,033) 3.63-7.50 -- --
-------
Balance, September 30, 1995 402,899 3.31-7.50 46,500 5.25-7.04
F-17
At September 30, 1995, 282,401 of the qualified and 36,500 of the
non-qualified options are exercisable.
In October 1995, the Financial Accounting Standards Board issued SFAS No.
123 "Accounting for Stock-Based Compensation" which is effective for years
beginning after December 15, 1994 for the proforma disclosure requirements
and after December 15, 1995 for the other disclosure requirements. This
statement allows entities to choose between a new fair value based method of
accounting for employee stock options or similar equity instruments and the
current method of accounting prescribed by Accounting Principles Board
Opinion No. 25. Entities electing to remain with the accounting in Opinion
No. 25 must make proforma disclosures of net income and earnings per share
as if the fair value method of accounting had been applied. The Company
expects to continue accounting for employee stock options in accordance with
Opinion No. 25 and has not made a calculation of the proforma effect due to
the complexity involved with such a calculation.
12. Supplemental Disclosures of Cash Flow Information
1995 1994 1993
---- ---- ----
Cash Paid During The Year For
Taxes on income $712,682 $970,694 $1,232,000
Interest 263,758 171,701 218,695
======= ======= =========
Non-Cash Investing and Financing Activities
During the year ended September 30, 1994, the Company repaid $190,000 to the
former shareholders of ISIL by reducing a receivable due from these
shareholders for the same amount.
13. Segment Information and Foreign Revenues
The Company and its subsidiaries are involved in one business segment; the
development, manufacture and sale of computer peripherals and data
communications software.
F-18
Financial information, summarized by geographic area, is as follows:
Year Ended
September 30, 1995 United States Europe Eliminations Consolidated
- ------------------ ------------- ------ ------------ ------------
Total Revenue
Unaffiliated customers $17,108,616 $53,134,600 $ -- $70,243,216
Inter-area transfers 2,556,049 -- (2,556,049) --
---------- ---------- --------- ----------
Total $19,664,665 $53,134,600 $(2,556,049) $70,243,216
========== ========== ========= ==========
Net Income (Loss) $1,018,281 $(851,895) $ -- $166,386
========= ========== ========= ==========
Total Assets $3,462,758 $12,925,606 $(2,435,914) $33,952,450
========= ========== ========= ==========
Year Ended
September 30, 1994 United States Europe Eliminations Consolidated
------------------ ------------- ------ ------------ ------------
Total Revenue
Unaffiliated customers $21,673,600 $17,338,486 $ -- $39,012,086
Inter-area transfers 2,685,930 -- (2,685,930) --
---------- ---------- --------- ----------
Total $24,359,530 $17,338,486 $(2,685,930) $39,012,086
========== ========== ========= ==========
Net Income (Loss) $2,888,695 $(53,918) $ -- $2,834,777
========== ========== ========= ==========
Total Assets $22,962,685 $10,634,228 $(1,697,609) $31,899,304
========== ========== ========= ==========
Year Ended
September 30, 1993 United States Europe Eliminations Consolidated
------------------ ------------- ------ ------------ ------------
Total Revenue
Unaffiliated customers $20,136,926 $13,644,706 $ -- $33,781,632
Inter-area transfers 4,300,690 -- (4,300,690) --
---------- ---------- --------- ----------
Total $24,437,616 $13,644,706 $(4,300,690) $33,781,632
========== ========== ========= ==========
Net Income (Loss) $2,122,841 $(417,379) $ -- $1,705,462
========== ========== ======= ==========
Total Assets $22,584,216 $3,671,931 $(894,517) $25,361,630
========== ========= ======= ==========
F-19
United States inter-area transfers represent shipments of equipment and
parts to foreign subsidiaries. These inter-area shipments are made at
transfer prices which are discounted from prices charged to unaffiliated
customers and have been eliminated from consolidated net revenues.
14. Selected Quarterly Financial Data (Unaudited)
The following is a summary of selected quarterly financial data for the
years ended September 30, 1995 and 1994.
First Second Third Fourth Fiscal
1995 Quarter Quarter Quarter Quarter Year
- ---- ------- ------- ------- ------- -----
Net Revenues $15,914,761 $19,840,268 $18,612,947 $15,875,240 $70,243,216
Gross Profit, as
previously reported 3,848,965 3,736,267 3,418,863 2,222,157 13,226,252
Adjustment (43,530) (313,961) (142,108) -- (499,599)
Gross Profit, as
restated 3,805,435 3,422,306 3,276,755 2,222,157 12,726,653
Net Income (Loss),
as previously reported 757,273 692,006 (223,022) (560,272) 665,985
Adjustment (43,530) (313,961) (142,108) -- (499,599)
Net Income (Loss), as
restated 713,743 378,045 (365,130) (560,272) 166,386
Net Earnings (Loss) Per
Share, as previously
reported 0.18 0.16 (0.05) (0.13) 0.16
Adjustment (0.01) (0.07) (0.04) -- (0.12)
Net Earnings (Loss) Per
Share, as restated 0.17 0.09 (0.09) (0.13) 0.04
The adjustment to fiscal 1995 quarterly earnings previously reported relates
to the write-off of certain costs at ISIL that should not have been
capitalized during the year.
F-20
In addition, during the fourth quarter of fiscal 1995, the Company recorded
certain year end accounting adjustments relating to inventories and royalty
obligations under license agreements. Such adjustments decreased net income
in the fourth quarter by approximately $298,000 or $.07 per share.
First Second Third Fourth Fiscal
1994 Quarter Quarter Quarter Quarter Year
------- ------ ------- ------- -------
Net Revenues $9,067,985 $9,961,551 $7,749,323 $12,233,227 $39,012,086
Gross Profit 3,608,699 3,749,283 3,171,241 3,982,500 14,511,723
Income Before
Cumulative Effect of
Change In Accounting
Principle 723,912 737,672 495,599 1,004,594 2,961,777
Net Income 596,912 737,672 495,599 1,004,594 2,834,777
Net Earnings Per Share .14 .18 .12 .24 .68
The cumulative effect of change in accounting principle relates to the
Company's adoption of SFAS 109 during the first quarter, the effect of which
was to reduce net income by $127,000 or $.03 per share.
F-21
FINANCIAL STATEMENT SCHEDULES
Report of Independent Certified Public Accountants
To the Board of Directors
Interface Systems, Inc.
Ann Arbor, Michigan
The audits referred to in our report dated November 10, 1995 relating to the
consolidated financial statements of Interface Systems, Inc. and
subsidiaries, which is contained in Item 8 of this Form 10-K included the
audits of the financial statement schedules listed in the accompanying
index.
In our opinion, such financial statement schedules present fairly the
information set forth therein.
/S/ BDO SEIDMAN
BDO SEIDMAN
Troy, Michigan
November 10, 1995
S-1
SCHEDULE II--Valuation and Qualifying Accounts
Years Ended September 30, 1995, 1994 and 1994
Additions
Balance at Charged to Balance
Beginning Cost and at End
Description of Year Expenses Deductions of Year
- ----------- ---------- ---------- ---------- -------
Year Ended September 30, 1995
Allowance for doubtful accounts
(deducted from accounts receivable) $133,000 251,000 (1)136,000 $248,000
======= ======= ======= =======
Year Ended September 30, 1994
Allowance for doubtful accounts
(deducted from accounts receivable) $117,000 31,000 (1)15,000 $133,000
======= ====== ====== =======
Year Ended September 30, 1993
Allowance for doubtful accounts
(deducted from accounts receivable) $105,000 27,000 (1)15,000 $117,000
Provision for estimated losses
of and costs of spin-off of
subsidiary $400,000 155,000 (2)555,000 $ --
======= ======= ======= =======
- ---------------
(1) Accounts deemed to be uncollectible.
(2) Reduced when actual losses and costs were incurred.
S-2
SIGNATURES
Pursuant to the requirements of Section 13 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.
INTERFACE SYSTEMS, INC.
Dated: December 22, 1995 By: /s/ Carl L. Bixby
Carl L. Bixby, President
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
Signature Title Date
/s/ Carl L. Bixby President and Director December 22, 1995
Carl L. Bixby (Principal Executive
Officer)
/s/ David O. Schupp Vice President, December 22, 1995
David O. Schupp Treasurer and Director
(Principal Financial
and Accounting Officer)
Director December , 1995
David C. Seigle
/s/ Robert C. Seigle Director December 22, 1995
Robert A. Seigle
Chairman of the Board December , 1995
Garnel F. Graber and Director
/s/ George W. Perrett Secretary and Director December 22, 1995
George W. Perrett
Director December , 1995
G. Paul Horst
/s/ Milton Handelman Director December 22, 1995
Milton Handelman
INDEX TO EXHIBITS
Exhibit
3(a) Certificate of Incorporation of the Company, as amended to date (1)
3(b) Bylaws of the Company, as amended to date (2)
4 Other instruments, notes or extracts from agreements defining the
rights of holders of long-term debt of the Registrant or its
subsidiaries have not been filed because (i) in each case the total
amount of long-term debt permitted thereunder does not exceed 10% of
the Registrant's consolidated assets, and (ii) the Registrant hereby
agrees that it will furnish such instruments, notes and extracts to
the Securities and Exchange Commission upon its request.
10(j) 1982 Incentive Stock Option Plan, effective May 21, 1982, as
amended, with Form of Stock Option Agreement with Stock Appreciation
Rights (3)
10(1) Form of Non-Qualified Stock Option Agreement (3)
10(2) 1992 Stock Option Plan, effective May 6, 1992 (4)
10(3) Non-Employee Director Stock Option Plan (5)
21 Subsidiaries of the Registrant (6)
23 Consent of BDO Seidman (7)
27 Financial Data Schedule (EDGAR filing only)
__________________
(1) This exhibit was filed with the Registrant's Form 10-K for the
fiscal year ended September 30, 1988 and is incorporated herein by
reference. The exhibit number used herein is identical to the
exhibit number as originally filed with the Form 10-K.
(2) This exhibit was filed with the Registrant's Form 10-K for the
fiscal year ended September 30, 1991 and is incorporated herein by
reference. The exhibit number used herein is identical to the
exhibit number as originally filed with the Form 10-K.
(3) These exhibits were filed under Item 16 of the Registrant's Form S-1
Registration Statement filed on July 15, 1986 pursuant to the
Securities Act of 1933, as amended, File No. 2-84204 and are
incorporated herein by reference. The exhibit numbers used herein
are identical to the exhibit numbers as originally filed with the
form S-1 Registration Statement.
(5) This exhibit was filed as Exhibit 19 to the Registrant's Form 10-Q
for the Quarter ended March 31, 1994 and is incorporated herein by
reference.
(6) This exhibit was filed as Exhibit 21 to the Registrant's Form 10-K
for the year ended September 30, 1994, and is incorporated herein by
reference.
(7) Filed herewith.
The Registrant will furnish to any stockholder a copy of any of the exhibits
listed above upon written request and upon payment of a specified reasonable
fee, which fee shall be equal to the Registrant's reasonable expenses in
furnishing the exhibit to the stockholder. Requests for exhibits and
information regarding the applicable fee shall be directed to: David
Schupp, at the address of the principal executive offices set forth on the
cover of this Report on Form 10-K.