UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-QSB/A
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended April 30, 2005
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF
THE EXCHANGE ACT
For the transition period from _______________ to _______________
Commission File Number: 000-30794
INTEGRATED PERFORMANCE SYSTEMS, INC.
-----------------------------------------------------------------
(Exact name of small business issuer as specified in its charter)
New York 11-3042779
------------------------ ---------------------------------
(State of incorporation) (IRS Employer Identification No.)
901 Hensley Lane
Wylie, Texas 75098
---------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
(972) 771-1930
---------------------------
(Issuer's telephone number)
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 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 [ ]
At June 2, 2005 there were 61,003,230 shares of the issuer's common
shares outstanding.
Transitional Small Business Disclosure Format (Check one): Yes [ ] No [X]
Statement Regarding this Amendment
We are amending our quarterly report on Form 10-QSB for the period ended
April 30, 2005, as originally filed on June 13, 2005. We have amended the
financial statements and the notes to the financial statements to consider
the charge for the $7.6 million to compensation expense for the options
issued by the CEO to certain employees and the $4.2 million to interest
expense related to the beneficial conversion feature of the related party
notes. In all other material respects, this Amended Quarterly Report
on Form 10-QSB/A is unchanged from the Quarterly Report on Form 10-QSB
previously filed on June 13, 2005.
GENERAL INDEX
Page
Number
- -----------------------------------------------------------------------------
PART I -
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.................................. 3
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR
PLAN OF OPERATION..................................... 18
ITEM 3. CONTROLS AND PROCEDURES............................... 21
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS..................................... 22
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND
USE OF PROCEEDS ...................................... 22
ITEM 3. DEFAULTS UPON SENIOR SECURITIES....................... 23
ITEM 5. OTHER INFORMATION..................................... 23
ITEM 6. EXHIBITS.............................................. 23
SIGNATURES...................................................... 24
EXHIBIT INDEX................................................... 25
PART 1 - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
INTEGRATED PERFORMANCE SYSTEMS, INC.
Restated Condensed Consolidated Balance Sheet
(Unaudited)
----------------------------------------------------------------------------
April 30,
2005
------------
ASSETS
Current assets:
Cash $ 1,193,456
Trade accounts receivable, net 4,417,962
Other receivables 9,467
Inventory 1,921,376
Deferred income tax asset 124,138
Income tax receivable 551,090
------------
Total current assets 8,217,489
------------
Property and equipment, net 2,071,996
------------
Other assets:
Goodwill 8,590,656
Customer base, net of accumulated
amortization of $225,854 4,110,537
Other 135,007
------------
12,836,200
------------
Total assets $ 23,125,685
============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 2,837,234
Accrued expenses (including $133,333
interest to related party) 1,696,375
Line of credit 1,855,560
Notes payable, current portion 730,691
Notes payable to related party 3,200,000
------------
Total current liabilities 10,319,860
------------
Noncurrent liabilities:
Notes payable, net of current maturities 17,079
Note payable to related party 1,000,000
Deferred income tax liability 1,732,864
------------
Total long-term, liabilities 2,749,943
------------
Stockholders' equity:
Preferred stock; par value $0.01; 10,000,000
shares authorized
Series F Convertible; 300,000 shares
authorized, 193,829 shares issued
and outstanding 1,938
Common stock; par value $0.01; 100,000,000
shares authorized; 58,603,230 shares
issued and outstanding 586,032
Additional paid-in capital 17,611,699
Retained earnings (8,143,787)
------------
Total stockholders' equity 10,055,882
------------
Total liabilities and stockholders' equity $ 23,125,685
============
The accompanying notes are an integral part of these condensed consolidated
financial statements.
INTEGRATED PERFORMANCE SYSTEMS, INC.
Restated Condensed Consolidated Statements of Operations
(Unaudited)
Three Three Nine Nine
Months Ended Months Ended Months Ended Months Ended
April 30, April 30, April 30, April 30,
2005 2004 2005 2004
----------- ----------- ----------- -----------
Net sales $ 8,615,431 $ 6,660,727 $22,972,424 $16,292,972
Cost of sales 6,859,260 5,597,009 19,055,236 13,690,984
---------- ---------- ---------- ----------
Gross profit 1,756,171 1,063,718 3,917,188 2,601,988
---------- ---------- ---------- ----------
Expenses:
Selling, general and
administrative expenses 1,350,710 614,017 10,743,008 2,002,820
Amortization of customer
base 135,513 - 225,854 -
---------- ---------- ---------- ----------
1,486,223 614,017 10,968,862 2,002,820
---------- ---------- ---------- ----------
Income (loss)
from operations 269,948 449,701 (7,051,674) 599,168
Other income (expense)
Interest expense (62,978) (17,946) (143,012) (47,691)
Interest expense
related party (80,000) - (4,333,333) -
Interest income 70 7 226 119
Other income 6,700 5,925 21,685 136,306
---------- ---------- ---------- ----------
(136,208) (12,014) (4,454,434) 88,734
---------- ---------- ---------- ----------
Income (loss) before
provision for income taxes 133,740 437,687 (11,506,108) 687,902
Provision for income taxes 39,293 161,932 110,566 262,126
---------- ---------- ---------- ----------
Net income (loss) $ 94,447 $ 275,755 $(11,616,674) $ 425,776
========== ========== =========== ==========
Net income (loss)
per share
Basic $ 0.00 $ - $ (0.35) $ -
========== ========== =========== ==========
Diluted $ 0.00 $ 0.00 $ (0.35) $ 0.00
========== ========== =========== ==========
Weighted average common
shares outstanding
Basic 58,209,972 - 33,399,660 -
=========== =========== =========== ===========
Diluted 282,438,972 193,829,000 33,399,660 193,829,000
=========== =========== =========== ===========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
INTEGRATED PERFORMANCE SYSTEMS, INC.
Restated Condensed Consolidated Statements of Cash Flows
(Unaudited)
Nine Months Ended April 30,
---------------------------
2005 2004
------------ ------------
Cash flows from operating activities:
Net income (loss) $ (11,616,674) $ 425,776
Adjustments to reconcile net income (loss)
to net cash provided by operating activities:
Depreciation and amortization 808,663 607,344
Stock-based compensation 7,689,000 -
Deferred tax expense 58,613 262,126
Non-cash interest expense from 4,200,000 -
beneficial conversion feature
Changes in operating assets and liabilities:
Trade accounts receivable (641,351) (1,051,531)
Other receivables (7,311) -
Inventory (79,173) (849,720)
Income tax receivable - 57,505
Other assets (50,387) 10,334
Bank overdraft - -
Accounts payable 565,455 849,950
Accrued expenses 362,773 (136,969)
------------ ------------
Net cash provided by operating activities 1,289,608 174,815
------------ ------------
Cash flows from investing activities:
Cash acquired through merger 78,763 -
Merger costs (209,805) -
Acquisition of property and equipment (199,451) (198,099)
------------ ------------
Net cash used in investing activities (330,493) (198,099)
------------ ------------
Cash flows from financing activities:
Payments on long-term debt (967,191) (326,801)
Net advances from related parties 37,972 162,028
Line of credit 945,560 283,194
------------ ------------
Net cash provided by financing activities 16,341 118,421
------------ ------------
Net increase in cash 975,456 95,137
Cash, beginning of period 218,000 195,319
------------ ------------
Cash, end of period $ 1,193,456 $ 290,456
============ ============
The accompanying notes are an integral part of these condensed consolidated
financial statements.
Integrated Performance Systems, Inc.
Notes to Restated Interim Consolidated Financial Statements
April 30, 2005
(Unaudited)
NOTE 1 - BASIS OF PRESENTATION
RESTATEMENT
These financial statements have been restated in order to reflect
adjustments to the Company's quarterly financial information originally
reported in our Quarterly Report on Form 10-QSB for the three and nine
months ended April 30, 2005. The decision to restate the originally
reported financial information is based on the determination of the value of
the Company's common stock on November 24, 2004 in connection with the
merger between Integrated Performance Systems, Inc. and Best Circuit Boards,
Inc. As a result of this determination there is a $7.6 million charge to
compensation expense for options issued by the CEO to certain employees (see
Note 11) and a $4.2 million charge to interest expense related to the
beneficial conversion feature of the related party notes (see Note 8).
UNAUDITED FINANCIAL INFORMATION
The unaudited condensed consolidated financial statements have been prepared
by Integrated Performance Systems, Inc. and its subsidiaries (the "Company"
or "IPS"), pursuant to the rules and regulations of the Securities and
Exchange Commission and reflect all adjustments consisting of normal
recurring entries, which, in the opinion of the Company, are necessary to
present fairly the results for the interim periods. Results of operations
for the periods presented are not necessarily indicative of the results to
be expected for the year ending July 31, 2005.
These financial statements should be read in conjunction with the financial
statements and notes thereto contained in the Company's Form 8-K/A dated
November 24, 2004, filed on February 7, 2005.
NOTE 2 - SIGNIFICANT ACCOUNTING POLICIES
Inventory
---------
Inventory consists of finished goods, work in process and raw materials and
is priced at lower of cost or market (determined product by product based on
management's knowledge of current market conditions and existing sales
levels). Cost of raw materials is determined on a weighted average basis;
cost of work in process and finished goods is determined using specific
identification. At April 30, 2005, inventory consisted of $775,648 in raw
materials, $1,063,209 in work in process, and $160,482 in finished goods,
less a valuation allowance of $77,963.
Revenue recognition
-------------------
The Company generates revenue from custom built printed circuit boards,
made to order using engineering and designs provided by the customer. All
orders are manufactured to specific industry standards. The Company
recognizes revenues when persuasive evidence of a sales arrangement exists,
the sales terms are fixed and determinable, title and risk of loss have
transferred, and collectibility is reasonably assured, generally when
products are shipped to the customer.
The Company does not give rebates to any of its customers. The Company does
not have customer acceptance provisions; the Company does, however, provide
customers a limited right of return for defective products. Because all
orders are manufactured to specific industry standard and are electrically
tested to insure compliance with such standards prior to shipment, returns
have historically been minimal and the amount of returns has been immaterial.
Stock based employee compensation
---------------------------------
The Company accounts for employee stock options in accordance with
Accounting Principles Board Opinion No. 25 (APB 25), Accounting for Stock
Issued to Employees, and Financial Accounting Standards Board Interpretation
No. 44, Accounting for Certain Transactions Involving Stock Compensation,
and interpretation of APB Opinion No. 25. Under APB 25, the Company
recognizes no compensation expense related to employee or director stock
options when options are granted with exercise prices at, or in excess of,
the fair value of the stock on the date of grant.
The Company has adopted the disclosure-only provisions of Statement of
Financial Accounting Standards No. 123 (FAS 123), Accounting for Stock-Based
Compensation, and Statement of Financial Accounting Standards No. 148 (FAS
148), Accounting for Stock-Based Compensation - Transition and Disclosure -
an Amendment of FASB Statement No. 123. Under the provisions of FAS 123,
compensation expense is recognized based on the fair value of options on the
grant date.
The following tables illustrate the effect on net income (loss) if the
Company had applied the fair value recognition provision of FAS 123 to stock
based compensation:
For the Three Months For the Nine Months
Ended April 30, Ended April 30,
---------------------------------------------
2005 2004 2005 2004
---------------------------------------------
Net income (loss), as reported $ 94,447 $ 275,755 $(11,616,674) $ 425,776
Add stock based employee
compensation expense included
in reported net income (loss) - - 7,600,000 -
Less stock based employee
compensation expense determined
under fair - value method - - (9,176,887) -
---------------------------------------------
Net income (loss), pro forma $ 94,447 $ 275,755 $(13,193,561) $ 425,776
=============================================
Basic earnings (loss) per
share - as reported $ 0.00 $ - $ (0.35) $ -
=============================================
Basic earnings (loss) per
share - pro forma $ 0.00 $ - $ (0.40) $ -
=============================================
Earnings per share
------------------
Basic net income per share is computed using the weighted average number of
common shares outstanding during the period. Diluted net income per share
is computed using the weighted average number of common and, if dilutive,
potential common shares outstanding during the period. As the Company
incurred a net loss for the nine months ended April 30, 2005, all
potentially dilutive securities would be considered antidilutive for that
period. Potentially dilutive securities include common shares issuable upon
conversion of preferred stock, convertible notes payable and convertible
notes payable to related parties. Warrants to purchase a total of 2,208,333
shares of common stock were excluded from the calculation of diluted
earnings per share because the exercise prices were greater than the average
market prices and the effect would be antidilutive. Options to purchase
40,000,000 shares of common stock were not considered as potentially
dilutive securities because no new shares will be issued upon exercise of
the options. Also see Note 11.
The following table sets forth the reconciliation of basic and diluted net
income (loss) per share:
For the Three Months For the Nine Months
Ended April 30, Ended April 30,
----------------------------------------------
2005 2004 2005 2004
----------------------------------------------
Net income (loss), as reported $ 94,447 $ 275,755 $(11,616,674) $ 425,776
Interest on convertible
notes payable to related
party 80,000 - -
----------------------------------------------
Net income (loss), diluted $ 174,447 $ 275,755 $(11,616,674) $ 425,776
==============================================
Weighted average common
shares outstanding - basic 58,209,972 - 33,399,660 -
Convertible note payable 2,400,000 - - -
Convertible notes payable
to related party 28,000,000 - - -
Convertible preferred stock 193,829,000 193,829,000 - 193,829,000
------------------------------------------------
Weighted average common
shares outstanding - diluted 282,438,972 193,829,000 33,399,660 193,829,000
================================================
Basic income (loss)
per share $ 0.00 $ - $ (0.35) $ -
================================================
Diluted income (loss)
per share $ 0.00 $ 0.00 $ (0.35) $ 0.00
================================================
The Company currently does not have a sufficient number of authorized shares
of common stock to allow for the conversion of all of its outstanding
convertible securities.
Recent Accounting Pronouncements
--------------------------------
In December 2004, the FASB issued SFAS No. 123R, "Share-Based Payment,"
which requires companies to recognize in the statement of operations all
share-based payments to employees, including grants of employee stock
options based on their fair values. Accounting for share-based compensation
transactions using the intrinsic method supplemented by pro forma
disclosures will no longer be permissible. In April 2005, the Securities and
Exchange Commission issued a ruling that SFAS No. 123(R) is now effective
for annual, rather than interim periods that begin for small pubic entities
after December 15, 2005. The Company has not yet completed its analysis of
the impact of adopting SFAS 123R.
NOTE 3 - CONCENTRATIONS OF RISK
At April 30, 2005, four customers accounted for approximately 59% of the
total accounts receivable and for the three and nine months ended April 30,
2005, these customers accounted for approximately 50% and 51% of net sales,
respectively.
NOTE 4 - MERGER WITH BEST CIRCUIT BOARDS, INC.
On November 24, 2004, a wholly owned subsidiary of Integrated Performance
Systems, Inc. merged with Best Circuit Boards, Inc., d/b/a Lone Star
Circuits ("LSC"), resulting in LSC becoming a wholly owned subsidiary of
IPS. The beneficial owner of LSC acquired controlling interest in the
Company and the Company has therefore determined that the transaction be
accounted for as a reverse merger. The transaction has been treated as if
LSC acquired the Company and, consequently, the historical financial
statements of LSC have become the historical financial statements of the
Company for all periods presented.
IPS is a printed circuit board and electronics component manufacturer
located in Frisco, Texas; LSC is a fabrication services company located in
Wylie, Texas, engaged in time sensitive, high technology prototypes, and
is a manufacturer of complex electronic circuit boards. IPS's corporate
headquarters have been moved to LSC's 101,000 square foot facility located
in Wylie, Texas. See Note 12.
The significant terms of the merger were as follows:
* LSC Asset Acquisition Corp. (a wholly owned subsidiary of LSC) acquired
all of the assets and some, but not all, of the liabilities of three
IPS subsidiaries (North Texas PC Dynamics, Inc. ("NTPCD"), Performance
Application Technologies, Inc. ("PAT"), and Performance Interconnect
Corp. of North Texas, Inc. ("PI"). These three subsidiaries comprised
substantially all of the business operations of IPS prior to the
merger.
* Immediately subsequent to the asset sales above, the Company sold its
100% ownership interest in NTPCD, PAT, and PI to Integrated Performance
Business Services Corp. ("IPBSC"), an entity controlled by D. Ronald
Allen, former chief executive officer, controlling shareholder and
director of the Company. These entities held liabilities having a book
value of $748,653.
* IPS issued $4.2 million in convertible promissory notes and 193,829
shares of IPS Series F Convertible Preferred Stock, subject to
adjustment to represent 67.25% of the Company's outstanding common
stock, to the beneficial owner of LSC in exchange for 100% of the
outstanding shares of LSC.
* Associates Funding Group and CMLP Group, Ltd., entities controlled by
D. Ronald Allen, agreed to contribute 8,634,000 shares of Company
common stock to the Company.
* D. Ronald Allen entered into a stock escrow and security agreement
whereby 10,851,832 shares of IPS common stock beneficially owned by
him were placed into escrow as security for (1) advances made by LSC
to IPS prior to the closing of the merger, (2) the Company's and Mr.
Allen's indemnification obligations under the merger agreement, and (3)
the convertible promissory notes issued to the beneficial owner of LSC.
The merger agreement provides that the shares used to satisfy those
obligations be valued based on a future equity financing of the
Company. As of the date of filing of this report, that equity
financing has not occurred.
* Brad Jacoby, the beneficial owner of LSC, became the majority
shareholder, Chief Executive Officer, and sole director of the Company.
Series F Convertible Preferred Stock
------------------------------------
The terms of the merger agreement provide for the issuance of 193,829 shares
of Series F Convertible Preferred Stock, subject to adjustment as discussed
below, to the beneficial owner of LSC as part of the consideration for
100% of the outstanding common stock of LSC. The terms of the Series F
Convertible Preferred Stock contain no mandatory redemption provisions. The
liquidation value per share is equal to the value of LSC divided by the
number of outstanding shares of Series F Convertible Preferred Stock, and is
payable prior to any distribution to the holders of the Company's common
stock. Holders of the Series F Convertible Preferred Stock have the right
to convert the preferred shares into common shares at the rate of one
thousand shares of common stock for each share of Series F Convertible
Preferred Stock outstanding. Holders of the Series F Convertible Preferred
Stock are entitled to one thousand votes for each share of Series F
Convertible Preferred Stock held. The merger agreement provides for
adjustment to the number of Series F Convertible Preferred Stock issuable to
the beneficial owner of LSC based upon a subsequent determination of the
number of shares of Series F Preferred Stock necessary to provide the
beneficial owner of LSC with the equivalent of 67.25% of the Company's
outstanding common stock, after an equity financing contemplated by the
merger agreement. As of the date of filing of this report, that equity
financing has not occurred.
Convertible Promissory Notes
----------------------------
Other terms of the merger include the issuance of $4.2 million in
convertible promissory notes (the "Notes") to the beneficial owner of LSC as
part of the merger consideration. The Notes are convertible into common
stock at any time at a conversion price of $.15 per share. Notes in the
principal amount of $3.2 million bear 8% interest payable monthly, with the
principal balance originally due February 28, 2005, subsequently renewed and
extended to July 31, 2005. (See Note 8 below regarding subsequent renewal).
A note in the principal amount of $1 million bears 8% interest payable semi-
annually, with the principal balance due in November 2007. The notes are
secured by all assets of the Company and of LSC, by the outstanding stock of
LSC and by the Company capital stock beneficially owned by D. Ronald Allen.
The issuance of the Notes has been accounted for as a distribution of
capital in the amount of $4.2 million. The value of the beneficial
conversion feature on the date the Notes were originally issued was
determined to be $4.2 million (based on the difference between the
conversion price and the quoted market price of the common stock on the date
of issuance), and charged to interest expense during the nine months ended
April 30, 2005 as the notes were convertible upon issuance.
Employment Agreement
--------------------
Prior to consummating the merger, the Company entered into a consulting
agreement with Mr. Jacoby to manage the Company. This arrangement was
superseded by a three year employment agreement as CEO effective December 1,
2004.
Stock Escrow and Security Agreement
-----------------------------------
In connection with the merger, D. Ronald Allen delivered 10,851,832 shares
of common stock beneficially owned by him into escrow as security for (1)
advances made by LSC to the Company prior to the closing of the merger, (2)
the Company's and Mr. Allen's indemnification obligations under the merger
agreement, and (3) the convertible promissory notes issued to the beneficial
owner of LSC. The term of the stock escrow and security agreement expires
on November 24, 2006. The former beneficial owner of LSC was also granted
the right to vote these shares for the duration of the escrow agreement.
Contribution of Common Shares
-----------------------------
In connection with the merger, entities controlled by D. Ronald Allen
contributed 8,634,000 shares of common stock into the Company's treasury at
fair value in the amount of $949,740. The treasury shares were canceled in
February 2005.
Commitments and Contingencies
-----------------------------
See Notes 8 and 12 for a description of certain contingencies arising in
connection with the merger.
Merger Accounting
-----------------
The merger was accounted for using the purchase method of accounting and LSC
has been determined to be the accounting acquirer. Accordingly, a new basis
was established for IPS's assets and liabilities based upon the fair values
thereof. The purchase price was determined to be $10,487,993 based upon
the fair value of IPS on the transaction measurement date ($10,278,188)
plus acquisition costs totaling $209,805. The measurement date for the
transaction was October 22, 2004, the date a substantially revised merger
agreement was signed and announced. The fair value of IPS was determined
based upon the quoted market price per share times the number of common
shares outstanding on October 22, 2004.
The preliminary purchase price allocation to the fair value of the IPS
assets and liabilities is as follows:
Cash $ 78,763
Accounts receivable 705,736
Inventory 425,143
Property and equipment 607,173
Goodwill 8,764,536
Customer base 4,336,391
Other assets 32,911
-----------
Total assets acquired 14,950,653
Accounts payable and accrued expenses 1,546,897
Deferred income taxes 1,597,618
Notes payable 1,318,145
-----------
Total liabilities assumed 4,462,660
-----------
$ 10,487,993
===========
The purchase price allocation has not been finalized and is subject to
change based upon the outcome of the July 2005 trial related to the Frisco,
Texas lease modification agreement (see Note 12). An unfavorable decision
regarding the effectiveness of the lease modification could result in an
increase in the allocation to liabilities assumed in the merger.
Customer base was recorded as a result of the merger and will be amortized
over a period of eight years. The fair value of customer base was
determined using estimated discounted future cash flows. Estimated future
amortization expense for the years ended July 31, is as follows:
2005 $ 361,366 *
2006 542,049
2007 542,049
2008 542,049
2009 542,049
Thereafter 1,806,829
-----------
Total $ 4,336,391
===========
* Includes the $225,854 expense recorded for the nine months ended
April 30, 2005.
Pro Forma Results of Operations
-------------------------------
The following unaudited pro forma consolidated results of operations have
been prepared as if the Best Circuit Boards, Inc. merger discussed above had
occurred on August 1, 2003:
For the Three Months For the Nine Months
Ended April 30, Ended April 30,
------------------------ -------------------------
2005 2004 2005 2004
-----------------------------------------------------
Revenues
As reported $ 8,615,430 $ 6,660,727 $ 22,972,423 $ 16,292,972
Pro forma $ 8,615,430 $ 8,105,795 $ 25,048,341 $ 20,279,496
Net Income (loss)
As reported $ 94,447 $ 275,755 $(11,616,674) $ 425,776
Pro forma $ 94,447 $ 315,459 $(12,867,974) $ (4,035,045)
Earnings (loss)
per share - Basic
As reported $ 0.00 $ - $ (0.35) $ -
Pro forma $ 0.00 $ 0.00 $ (0.39) $ (0.02)
The pro forma net loss for the nine months ended April 30,2004, includes a
non-recurring impairment charge of $1,710,472 incurred by IPS prior to the
merger. The pro forma net income (loss) for the three and nine months ended
April 30, 2004 included a non-recurring gain on the sale of subsidiaries in
the amount of $935,422 realized by IPS prior to the merger.
NOTE 5 - INCOME TAXES
The income tax provision for the three and nine month periods ended April
30, 2005 consists of the following:
Three Nine
Months Months
-------- --------
Current expense $ 51,953 $ 51,953
Deferred expense (benefit) (12,660) 58,613
---------------------
$ 39,293 $ 110,566
=====================
Significant temporary differences used in the computation of deferred tax
assets and liabilities at April 30, 2005 are as follows:
Deferred tax assets, current
Allowance for bad debts $ 5,032
Accrued vacation 90,383
Inventory reserves 28,723
----------
$ 124,138
==========
Deferred tax assets (liabilities) non-current
Depreciation of property and equipment $ (236,176)
Other 17,721
Net operating loss carry forwards 3,132,165
Valuation allowance (3,132,165)
Customer base (1,514,409)
----------
$(1,732,864)
==========
At April 30, 2005, the Company had tax net operating loss carry forwards
(NOLs) of approximately $8,470,548 that begin to expire in 2018. The
utilization of these NOLs is limited due to the change in ownership of a
majority of the outstanding shares of IPS. During the nine months ended
April 30, 2005, the Company utilized NOL totaling $471,960, resulting in a
decrease in the valuation allowance in the amount of $173,880. The decrease
to the valuation allowance was recorded as an adjustment to goodwill as the
allowance was originally recorded in connection with the merger.
In assessing the realization of deferred tax assets, management considers
whether it is more likely than not that some or all of its deferred tax
assets will not be realized. The ultimate realization of deferred tax
assets is dependent upon the existence of, or generation of, taxable income
in the periods in which those temporary differences are deductible.
Management considers the scheduled reversal of deferred tax liabilities,
projected future taxable income and tax planning strategies in making this
assessment. Based upon historical taxable income and projections of future
taxable income over the periods which the deferred tax assets are
deductible, management does not believe that further valuation allowances
are necessary as of April 30, 2005.
NOTE 6 - LINE OF CREDIT
Effective August 26, 2003, the Company entered into a $2 million line of
credit agreement ("LOC") with a bank, which was due on demand, bore interest
at the bank's prime rate plus 1% (6.5% at April 30, 2005) and matured
October 15, 2004. As of March 17, 2005, the LOC was renewed and extended
until October 31, 2006. The LOC is subject to certain financial and other
covenants, is collateralized by all of the Company's accounts receivable and
inventory, and is guaranteed by the Company's majority stockholder, chief
executive officer and sole director. At April 30, 2005, $1,855,560 was
outstanding under this LOC.
NOTE 7 - NOTES PAYABLE
Long-term debt consists of the following at April 30, 2005:
Note payable to financial institution payable in monthly
installments of $7,185 including interest
at 6.75%, matures March 31, 2006, collateralized
by equipment $ 75,046
Note payable to bank, payable in monthly
installments of $17,450 including interest
at 5.75%, matures August 29, 2005, collateralized
by equipment 68,960
Note payable to individual A, accruing interest at
24%, unsecured, in default as of June 20, 2004 117,858
Note payable to individual B, accruing interest at
24%, unsecured, in default as of August 4, 2004 50,000
Convertible note payable to individual C, accruing interest
at 12%, unsecured, in default as of September 27, 2004 15,000
Note payable to individual D, accruing interest at
24%, unsecured, in default as of April 15, 2005 45,000
Note payable to Company E, accruing interest at
8%, unsecured, maturing December 31, 2005
(see below) 73,035
Convertible note payable to Company F, accruing interest
at 8%, unsecured, in default as of November 22, 2004
(see below) 277,909
Other 24,962
--------
747,770
Less current maturities of long-term debt 730,691
--------
Total long-term debt, less current maturities $ 17,079
========
Subsequent to April 30, 2005, the Company settled the note payable to
Company E for $60,000, payable $15,000 upon execution of the settlement
agreement plus three monthly installments of $15,000.
The convertible note payable to Company F was in default as of November 22,
2004. The original face value of the note was $250,000. On November 22,
2004, under provisions provided in the agreement, the noteholders demanded
payment in the amount of 125% of the outstanding principal balance of
$222,327, bringing the demand amount to $277,909, plus accrued interest
through October 31, 2004 of $15,222.
Under the terms of the agreement, the per diem interest after October 31,
2004 was $49.41 plus an additional $5,000 monthly penalty for the first 90
days, increasing to $10,000 per month thereafter. Additionally, the
noteholder demanded that 10,000 shares of common stock be issued to the
noteholder per the default provisions. As of April 30, 2005, the Company
had accrued unpaid interest and penalties in the amount of $69,165 related
to this debt and had not issued the demanded shares of common stock.
The terms of this note allowed for the conversion of the debt, up to the
full principal amount, into common shares at the option of the holder. The
number of common shares into which this debt could be converted was equal to
the dollar amount of the principal being converted multiplied by eleven,
minus the product of the conversion price multiplied by six and two-thirds
times the dollar amount of the principal being converted, and the entire
foregoing result divided by the conversion price. The conversion price was
equal to the lesser of $1.50 or eighty percent of the average of the 5
lowest volume weighted average prices during the twenty trading days prior
to the holder's election to convert.
Subsequent to April 30, 2005, the Company settled this note and all other
obligations to the noteholder for $200,000 in cash and the conversion of the
note into 2,400,000 shares of common stock, with certain registration
rights. A warrant to purchase 1,666,666 common shares issued to the
noteholder was also cancelled. The dilutive effects of the common shares
have been considered in the computation of diluted earnings per share above.
NOTE 8 - NOTES PAYABLE TO RELATED PARTY
On November 24, 2004, the Company issued $4.2 million in convertible
promissory notes (the "Notes") to the beneficial owner of LSC as part of the
consideration in the merger. As a result of the merger, Mr. Jacoby became
the majority shareholder, chief executive officer and sole director of the
Company. The Notes are convertible into common stock at any time at a
conversion price of $.15 per share. Notes in the principal amount of $3.2
million bear interest at 8% payable monthly, with the principal balance
originally due February 28, 2005. A note in the principal amount of $1
million bears 8% interest payable semi-annually, with the principal balance
due in November 2007. The Notes are secured by all assets of the Company
and LSC, by the outstanding stock of LSC and by the Company capital stock
owned by D. Ronald Allen. As of April 20, 2005, the $3.2 million notes have
been extended to July 31, 2005. Interest expense related to these notes
totaled $80,000 and $4,333,333 for the three and nine months ended April 30,
2005. Interest expense for the nine month period includes a $4,200,000
charge for the value of the beneficial conversion feature recognized upon
issuance of the Notes.
The Company is in the process of negotiating the extension or conversion of
$3.2 million of the notes. No assurance can be given that the Company will
be successful in negotiating this extension or conversion or that such
extension or conversion would be on terms favorable to the Company. In the
event that the Company is unsuccessful in extending the $3.2 million of
notes or converting the notes into shares of common stock, Mr. Jacoby could
demand payment of the notes and exercise his security interests in
substantially all of our assets. The exercise of these security interests
would leave insufficient assets to continue our operations. These events
would have a material adverse effect on our business, financial condition
and results of operations.
NOTE 9 - RELATED PARTY TRANSACTIONS AND GUARANTEES
The Company leases both of its operating facilities from JACCO Investments,
Inc. ("JACCO") an entity majority owned by Mr. Jacoby and his wife. For the
quarters ended January 31, 2005 and 2004, the Company incurred lease expense
totaling $225,000 and $225,000, respectively, related to these operating
leases. The Company began leasing its operating facilities from JACCO in
2001. The terms of the leases are for fifteen and ten year periods ending in
2010 and 2017. Both leases have options to renew for two additional five-
year periods.
LSC guaranteed payment of mortgage notes owed by JACCO to financial
institutions. At April 30, 2005, amounts owed by JACCO under mortgage note
arrangements guaranteed by the Company and by Jacoby individually totaled
approximately $5,100,000. In the event that JACCO defaults on any of these
loans, the Company would be required to make cash payments equal to the
unpaid principal portion of the mortgage notes plus all accrued penalties
and interest. The terms of the guarantees run concurrent with the notes and
expire between February 2010 and January 2017. The guarantees do not
contain any recourse provisions or collateral for the Company in the event
that the guarantee payments are made. The current carrying amount of the
liability is $0.
Primarily because of the common control between the Company and JACCO, the
guarantee of the indebtedness on the leased JACCO property and the pledging
of personal assets of Mr. Jacoby and his wife as collateral for debt of
JACCO, the Company is exposed to the risk that it may be required to
subsidize losses of JACCO. The mortgages guaranteed by the Company are
secured by the leased real estate having an estimated fair value of
approximately $7 million. The maximum exposure for the Company would be the
carrying amount of the variable-rate bank loan of JACCO, however the
Company's normal monthly lease payments under the lease agreement discussed
above are sufficient to cover the principle amounts guaranteed by the
Company.
See Note 6 - Line of Credit above.
NOTE 10 - STOCK BASED COMPENSATION
The Company has entered into verbal and written agreements to pay common
stock in lieu of cash for professional services. For the three and nine
months ended April 30, 2005, the Company has recorded professional fees in
the amount of $59,000 and $89,000 and 700,000 shares of common stock have
been issued under these arrangements.
NOTE 11 - STOCK OPTIONS AND WARRANTS
On November 24, 2004, the Company's Chief Executive Officer, sole director
and controlling shareholder issued to certain employees of the Company
options to purchase 40,000,000 shares of common stock issuable to him upon
the conversion of shares of his Series F Preferred Stock. The options have
an exercise price of $.15 per share, vest immediately, and expire November
30, 2014. The Company is not a direct party to the agreement as no new
shares will be issued upon the exercise of the options. For financial
reporting purposes, these options will be accounted for as deemed grants
from the Company. The Company has recorded compensation expense totaling
$7.6 million for the nine months ended April 30, 2005, based upon the
intrinsic value of the options on the date of grant (measured as the excess
of the market price ($0.34) over the exercise price).
As of April 30, 2005, there were 500,000 outstanding warrants to purchase
common stock held by certain employees. These warrants have an exercise
price of $.75 per share and expire November 5, 2009.
As of April 30, 2005, there were 1,708,333 outstanding warrants to purchase
common stock held by debt holders. These warrants have an exercise price
of $1.50 per share and expire October 24, 2006 and February 8, 2011.
Subsequent to April 30, 2005, 1,666,666 warrants were canceled as a result
of the settlement of the associated debt. See Note 7 above.
NOTE 12 - COMMITMENTS AND CONTINGENCIES
New Lease Commitments
---------------------
In March 2005, the Company entered into a $1.2 million operating lease line
to provide financing for the acquisition of manufacturing equipment. As of
April 30, 2005 the Company had used $700,000 under the line comprised of two
operating leases with total monthly lease payments of $15,909. These leases
expire in March, 2009.
As of June 3, 2005 the Company used an additional $240,000 under the line
comprised of an additional operating lease with total monthly lease payment
of $4,935. This lease expires in June 2009.
Sale of Subsidiaries
--------------------
In connection with the merger with Best Circuit Boards, Inc. (see Note 4),
on November 24, 2004, the Company sold its 100% ownership interest in three
of its subsidiaries (North Texas PC Dynamics, Inc. ("NTPCD"), Performance
Application Technologies, Inc. ("PAT"), and Performance Interconnect Corp.
of North Texas, Inc. ("PI")) to Integrated Performance Business Services
Corp., an entity controlled by D. Ronald Allen, former chief executive
officer, controlling shareholder and director of the Company. On the date
of sale, these entities held liabilities having a book value of $748,653.
On April 23, 2004, the Company sold its 100% ownership interest in
subsidiaries Cadsouth Inc. ("CAD"), PC Dynamics Corporation ("PCD"), PC
Dynamics of Texas, Inc. ("PCDT"), and Integrated Performance Business
Services Corp. ("IPBSC"), including its wholly owned subsidiary, Power
Development, Inc. At the time of the sale these subsidiaries owned no
assets and maintained liabilities with an aggregate carrying value of
approximately $1,477,000. In exchange for the sale, IPS issued to the buyer
678,000 shares of common stock of IPS.
The debts of NTPCD, PAT, PI, CAD, PCD, PCDT, and IPBSC represent contingent
liabilities of the Company. Future enforcement of these debts against the
Company could have a material adverse impact on the cash flow and liquidity
of the Company.
Lease Agreement
---------------
The Company leases a 60,000 sq. ft. manufacturing facility in Frisco, Texas
from C-Gate Construction Company ("C-Gate"), an affiliate of D. Ronald
Allen, the former chief executive officer, controlling shareholder and
director of the Company. Prior to, and in connection with the merger, Mr.
Allen executed a lease modification document which, according to its terms,
reduced monthly rents from $35,000 to $17,000 and reduced the 20-year
lease term to a month-to-month tenancy. The enforceability of the lease
modification is currently being disputed by C-Gate's lender in litigation
against the Company pending in C-Gate's Chapter 11 bankruptcy proceedings in
the U.S. Bankruptcy Court for the Eastern District of Texas, Sherman
Division. The issues in that litigation include whether (a) C-Gate received
approval for the modification from its lender in accordance with the terms
of the mortgage on the property, (b) C-Gate had the authority to execute a
lease modification without the prior approval of the bankruptcy court, and
(c) an attornment agreement that was apparently previously executed by the
Company in favor of the lender, would prevent the Company from effecting a
modification of the lease without the lender's specific consent. In the
pending litigation, the Company has asserted certain claims against D.
Ronald Allen and C-Gate's principal to recover damages against them should
the lease modification document not be enforceable. Mr. Allen and C-Gate's
principal have indicated that they may assert claims for indemnification and
breach of contract under the merger agreement. The trial of the lender's
claims against the Company have been set for trial in July 2005, and the
Company's claims against Mr. Allen and C-Gate's principal for February 2006.
The ultimate outcome of the claims by and against the Company is uncertain.
Also, the Company is currently in arrears in its rent and property tax
payments under the lease and the lender has indicated that it may take
action to accelerate future rent payments under the lease, subject to
certain offsets. An unfavorable decision regarding the effectiveness of
lease modification document or action by the lender to accelerate future
rent payments would have a material adverse effect on the Company. The
Company is currently working to restructure these obligations, but no
assurance of such can be provided.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR
PLAN OF OPERATION
Forward Looking Statements
This report may contain "Forward Looking Statements," which are our
expectations, plans and projections, including statements concerning
expected income and expenses and the adequacy of our sources of cash to
finance current and future operations, which may or may not materialize and
which are subject to various risks and uncertainties. Factors which could
cause actual results to materially differ from our expectations include the
following: general economic conditions and growth in the high tech
industry; competitive factors and pricing pressures; changes in product mix;
the timely development and acceptance of new products; the effects of the
contingencies described herein; the availability of capital; loss of key
suppliers, significant customers or key management personnel; payment
defaults by our customers; limitations upon financial and operating
flexibility due to the terms of our indebtedness; changes in our business
strategy or development plans; and the risks described from time to time in
our other filings with the Securities and Exchange Commission ("SEC"). When
used in this report, the words "may," "will," "plans," "believes,"
"expects," "projects," "targets," "anticipates," "estimates," "continue,"
"intend" and similar expressions are intended to identify forward-looking
statements. These forward-looking statements speak only as of the date of
this report, and we have based our forward-looking statements on our current
assumptions and expectations about future events. We have expressed our
assumptions and expectations in good faith, and we believe there is a
reasonable basis for them. However, we cannot assure you that our
assumptions and expectations will prove to be accurate We expressly disclaim
any obligation or undertaking to release publicly any updates or change in
our expectations or any change in events, conditions or circumstances on
which any such statement may be based, except as may be otherwise required
by the securities laws.
Overview
On November 24, 2004, a wholly owned subsidiary of Integrated
Performance Systems, Inc. merged with Best Circuit Boards, Inc., d/b/a Lone
Star Circuits ("LSC"), resulting in LSC becoming a wholly owned subsidiary
of the Company. The beneficial owner of LSC acquired controlling interest
in the Company and the Company has therefore determined that the transaction
be accounted for as a reverse merger. The transaction has been treated as
if LSC acquired the Company and, consequently, the historical financial
statements of LSC have become the historical financial statements of the
Company for all periods presented.
The significant terms of the merger were as follows:
* LSC Asset Acquisition Corp. (a wholly owned subsidiary of LSC) acquired
all of the assets and some, but not all, of the liabilities of three
IPS subsidiaries (North Texas PC Dynamics, Inc. ("NTPCD"), Performance
Application Technologies, Inc. ("PAT"), and Performance Interconnect
Corp. of North Texas, Inc. ("PI"). These three subsidiaries comprised
substantially all of the business operations of IPS prior to the
merger.
* Immediately subsequent to the asset sales above, the Company sold its
100% ownership interest in NTPCD, PAT, and PI to Integrated Performance
Business Services Corp. ("IPBSC"), an entity controlled by D. Ronald
Allen, former chief executive officer, controlling shareholder and
director of the Company. These entities held liabilities having a book
value of $748,653.
* IPS issued $4.2 million in convertible promissory notes and 193,829
shares of IPS Series F Convertible Preferred Stock, subject to
adjustment to represent 67.25% of the Company's outstanding common
stock, to the beneficial owner of LSC in exchange for 100% of the
outstanding shares of LSC.
* Associates Funding Group and CMLP Group, Ltd., entities controlled by
D. Ronald Allen, agreed to contribute 8,634,000 shares of Company
common stock to the Company.
* D. Ronald Allen entered into a stock escrow and security agreement
whereby 10,851,832 shares of IPS common stock beneficially owned
by him were placed into escrow as security for (1) advances made by LSC
to IPS prior to the closing of the merger, (2) the Company's and Mr.
Allen's indemnification obligations under the merger agreement, and (3)
the convertible promissory notes issued to the beneficial owner of LSC.
The merger agreement provides that the shares used to satisfy those
obligations be valued based on a future equity financing of the
Company. As of the date of filing of this report, that equity
financing has not occurred.
* Brad Jacoby, the beneficial owner of LSC, became the majority
shareholder, Chief Executive Officer, and sole director of the Company.
Integrated Performance Systems, Inc. (the "Company") is a contract
manufacturer of high quality, high performance circuit boards located in
Wylie, Texas, just east of Dallas. The Company's products are used in
computers, communication equipment, the aerospace industry, defense
electronics and other applications requiring reliable, high performance
electrical capability.
The following discussion provides information to assist in the
understanding of our financial condition and results of operations for the
three and nine months periods ended April 30, 2005 and 2004. It should be
read in conjunction with the financial information for the twelve month
period ended July 31, 2004, appearing in the Form 8-K/A dated November 24,
2004, filed on February 7, 2005.
Results of Operations
Revenues. Net sales increased to $8,615,431 for the three months ended
April 30, 2005 from $6,660,727 for the same period in 2004, a net increase
of $1,954,704 or 29%. Net sales increased to $22,972,424 for the nine
months ended April 30, 2005 from $16,292,972 for the same period in 2004, a
net increase of $6,679,452 or 41%. The increase for the three months ended
April 30, 2005 is due to net sales increases of 17% to 10 of our major
customers, and approximately $1,300,000 from new customers acquired through
the merger. The increase for the nine months ended April 30, 2005 is due
primarily to a net sales increase of 50% to 10 of our major customers, and
from the addition of customers acquired through the merger.
Gross Profit. Gross profit for the three months ended April 30, 2005
was $1,756,171 versus a gross profit of $1,063,718 for the same period
in 2004. Gross profit for the nine months ended April 30, 2005 was
approximately $3,917,188 versus a gross profit of $2,601,988 for the same
period in 2004. The increases are attributable to the increase in sales
resulting in fixed costs being spread over a larger number of units produced
and higher demand for premium services. In addition during the three
months ended April 30, 2005 two of our largest customers placed high volume,
quick-turn premium orders for the period. These orders are non-recurring
and cannot necessarily be expected in the future. However, we are
continuing to see improvement in our gross margins, which were 20% and 17%,
respectively, for the three and nine months ended April 30, 2005.
Selling, general and administrative expenses. Selling, general and
administrative expenses consist primarily of the direct charges for
advertising, sales promotion, and marketing, as well as the cost of
executive, administrative and accounting personnel and related expenses as
well as professional fees. Selling, general and administrative expense
increased to $1,350,710 for the three months ended April 30, 2005 from
$614,017 in 2004, a net increase of $736,693. Selling, general and
administrative expense for the nine months ended April 30, 2005 included
$7,600,000 in stock-based employee compensation expense recognized in
conjunction with the grant of 40,000,000 stock options to several key
employees by Brad Jacoby. These options were not granted by the Company but
by Brad Jacoby directly from his personal holdings and have been deemed
contributed equity by the major shareholder. The $7,600,000 charge is a
non-cash charge measured as the difference between the option exercise price
($0.15) and the market value of the stock on the grant date ($0.34). No
stock-based employee compensation expense was recognized during the
comparable fiscal 2004 period. Excluding stock-based employee compensation
expense, selling, general and administrative expense increased to $3,143,008
for the nine months ended April 30, 2005 from $2,002,820 in 2004, a net
increase of $1,140,188. The increases were primarily attributable to
increased number of administrative and accounting personnel, increased
employee benefits and insurance expenses, and additional accounting, legal
and other professional fees relating to (1) the ongoing integration of the
merged entities and (2) the cost of filing and reporting as a public entity.
Amortization of Customer Base. Amortization of customer base was
$135,513 and $225,854 for the three and nine months ended April 30, 2005,
respectively. The customer base was recorded as a result of the merger,
effective November 24, 2004 and accordingly, no amortization was recorded in
the comparable periods in the prior year.
Other income (expense). Other income (expense) increased to $(136,208)
for the three months ended April 30, 2005 from ($12,014) in 2004. The nine
month period in fiscal 2005 includes $4,200,000 in non-cash interest expense
related to the beneficial conversion feature of the notes payable to related
party that were issued in November 2004 in connection with the merger.
There were no related party notes payable outstanding during the year ended
July 31, 2004. Excluding this charge, other income (expense) increased to
$(254,434) for the nine months ended April 30, 2005 from other income of
$88,734 for the same period in 2004. The increases are attributable to
(1) interest on notes payable acquired in the merger; (2) interest on notes
payable to the former beneficial owner of LSC issued in connection with the
merger; and (3) increased interest on the line of credit which had larger
average outstanding balances in 2005 compared to the comparable periods in
the prior year. Other income (expense) was comprised primarily of interest
income and expense and material reclamation.
Income Tax Provision. The income tax provision declined to $39,293 and
$110,566 for the three and nine months ended April 21, 2005, respectively,
from $161,932 and $262,126 for the three and nine months ended April 21,
2004, respectively. The lower income tax provision for these periods is the
result of the decline in pretax income.
Liquidity and Capital Resources
We have generally financed our business from cash generated by
operations and borrowings, and in some periods our majority shareholder has
loaned the Company operating capital at prevailing market rates of interest
or has guaranteed our indebtedness.
Cash flows from operations. Net cash of $1,289,608 provided by
operations during the nine months ended April 30, 2005 consisted of
$1,139,602 provided by net income, as adjusted from non-cash items and
$150,006 provided by working capital. This compares to $174,815 during the
same period in 2004 which consisted of $1,295,246 provided by net income, as
adjusted from non-cash items, and $1,120,431 used by working capital.
Cash used for investing activities. Net cash of $330,493 used for
investing activities during the nine months ended April 30, 2005 consisted
of cash acquired in the merger of $78,763, offset by merger related costs of
$209,805 and investments in property and equipment of $199,451. Cash used
for investing activities during the same period ending April 30, 2004, was
approximately $198,099, which is all attributable to the purchase of
property and equipment.
Cash flows from financing activities. Net cash provided by financing
activities during the nine months ended April 30, 2005 was $16,341,
consisted of proceeds of $945,560 from our line of credit, $739,343 of
which was used to pay off a high-interest factoring arrangement acquired
through the merger, $37,972 in advances from related parties ; and uses of
cash consisting of payments of $967,191 on notes payable, including
$739,343 to pay off of the factoring arrangement discussed above. Net cash
provided by financing activities during the nine months ended April 30, 2004
was $118,421, consisted primarily of proceeds of $283,194 from our line of
credit and advances of $162,028 from related parties, and payments of
$326,801 on long term debt.
Indebtedness and guarantees. We have a $2 million line of credit
described in Note 6 of our financial statements set forth in Part I, Item 1
above. We have other long-term indebtedness in the amount of approximately
$747,770, some of which was originally incurred by the acquired company
in the merger, as described in Note 7 to our financial statements.
Approximately $730,691 is accounted for as current maturities of long-term
debt, which includes certain amounts in default. Subsequent to April 30,
2005, we successfully settled or restructured $350,944 in long term debt
that was in default, as described in Note 7 to our financial statements. We
are currently attempting to negotiate resolution of the remaining
indebtedness that is in default, however, no assurance can be given that any
such resolution can be reached. We have issued $4.2 million in convertible
promissory notes to a related party, as described in Note 8 to our financial
statements. The maturity of these notes has been extended to July 31, 2005.
We have guaranteed certain indebtedness of related parties, as described in
Note 9 to our financial statements.
Contingent Liabilities. We are subject to significant contingent
liabilities, as described in Note 12 to our financial statements set forth
in Part I, Item 1 above.
Overview. We are subject to current liabilities substantially in
excess of our current assets and are subject to significant contingent
liabilities. We are in the process of negotiating the extension or
conversion of $3.2 million of current notes payable to our majority
shareholder and are in the process of restructuring our notes payable with
other lenders. We are in discussions with our bank to use our manufacturing
equipment as collateral for a midterm loan, the proceeds of which would be
used to pay down our line of credit and to provide working capital. We are
also attempting to restructure out obligations under our lease in Frisco,
Texas. We can provide no assurance that we will be successful in
restructuring, converting or extending our indebtedness, restructure our
lease obligations or that any such transaction would be on terms favorable
to the Company. In the event that we are unsuccessful in extending the $3.2
million notes payable to our majority shareholder or converting the notes
into shares of common stock, such shareholder could demand payment of the
notes and exercise his security interests in substantially all of our
assets. The exercise of these security interests would leave insufficient
assets to continue our operations. These events would have a material
adverse effect on our business, financial condition and results of
operations.
ITEM 3. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures. Our management, with
the participation of our Chief Executive Officer and Chief Financial
Officer, has reviewed and evaluated the effectiveness of the design and
operation of our disclosure controls and procedures (as defined in Rule 13a-
15(e) under the Securities Exchange Act of 1934) as of the end of the period
covered by this report. Based on that evaluation, and based on the fact
that our Form 10-QSB for the period ending January 31, 2005 was filed past
our extension date, our Chief Executive Officer and Chief Financial Officer
have concluded that our disclosure controls and procedures are not effective
to ensure that information required to be disclosed by us in the reports
that we file or submit under the Securities Exchange Act of 1934 is
recorded, processed, summarized and reported within the time periods
specified in the rules and forms of the Securities and Exchange Commission.
Our management expects to address and improve upon the weaknesses in our
disclosure controls and procedures in the near future.
Annual report on internal control over financial reporting. Based upon
the most recent pronouncements of the Securities and Exchange Commission,
our first annual report on internal control over financial reporting is due
for inclusion in our annual report on Form 10-KSB for the twelve month
period ending July 31, 2006. We expect to begin the process in the near
future of identifying a framework to use to evaluate the effectiveness of
our internal control over financial reporting as required by Rule 13a-15(c)
under the Securities Exchange Act of 1934. Although we have not yet begun
the formal evaluation process, we have informally identified certain areas,
such as project job cost accounting, in which we expect to see improvement
in our internal controls as a result of the process.
Changes in internal control over financial reporting. Our management,
with the participation of our Chief Executive Officer and Chief Financial
Officer, has evaluated whether any change in our internal control over
financial reporting occurred during the last fiscal quarter. Based on that
evaluation, our Chief Executive Officer and Chief Financial Officer have
concluded that there have been changes in our internal control over
financial reporting during the period that have materially affected or are
reasonably likely to materially affect our internal control over financial
reporting. As a result of the merger with LSC, the internal controls of LSC
have become the internal controls of the Company, including without
limitation the personnel, policies, systems and administrative and
accounting functions of LSC. Management has not had an opportunity to
conduct a detailed comparison of these changes.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company leases a 60,000 sq.ft. manufacturing facility in Frisco,
Texas from C-Gate Construction Company ("C-Gate"), an affiliate of D. Ronald
Allen, the former chief executive officer, controlling shareholder and
director of the Company. Prior to, and in connection with, the merger, Mr.
Allen executed a lease modification document which, according to its terms,
reduced monthly rents from $35,000 to $17,000 and reduced the 20-year
lease term to a month-to-month tenancy. The enforceability of the lease
modification is currently being disputed by C-Gate's lender, Legacy Bank of
Texas, in litigation against the Company pending in C-Gate's Chapter 11
bankruptcy proceedings in the U.S. Bankruptcy Court for the Eastern District
of Texas, Sherman Division initiated by Legacy Bank of Texas on March 4,
2005. The issues in that litigation include whether (a) C-Gate received
approval for the modification from its lender, enforceability of the lease
modification is currently being disputed by C-Gate's lender, Legacy Bank of
Texas, in accordance with the terms of the mortgage on the property, (b) C-
Gate had the authority to execute a lease modification without the prior
approval of the bankruptcy court, and (c) an attornment agreement that was
apparently previously executed by the Company in favor of the lender would
prevent the Company from effecting a modification of the lease without the
lender's specific consent. In the pending litigation, the Company has
asserted certain claims against D. Ronald Allen and C-Gate's principal to
recover damages against them should the lease modification document not be
enforceable. Mr. Allen and C-Gate's principal have indicated that they may
assert claims for indemnification and breach of contract under the merger
agreement. The trial of the lender's claims against the Company have been
set for trial in July 2005, and the Company's claims against Mr. Allen and
C-Gate's principal for February 2006. The ultimate outcome of the claims by
and against the Company is uncertain. Also, the Company is currently in
arrears in its rent payments under the lease and Legacy Bank of Texas has
indicated that it may take action to accelerate future rent payments under
the lease, subject to certain offsets. An unfavorable decision regarding
the effectiveness of lease modification document or action by Legacy Bank of
Texas to accelerate future rent payments would have a material adverse
impact on the Company. The Company is currently working to restructure
these obligations but no assurance of such can be provided.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Issuances of equity securities during the period covered by this report
that were not registered under the Securities Act of 1933 consisted of the
following:
On March 22, 2005, we issued to consultants 700,000 shares of Common
Stock in consideration for $89,000 in services rendered to the Company.
These issuances were made pursuant to the exemption from registration
provided by Section 4(2) of the Securities Act of 1933, in that they did not
involve a public offering.
Subsequent to April 30, 2005 in conjunction with the settlement and
conversion of a $277,909 convertible note payable and the settlement of all
related obligations, including the cancellation of a warrant to purchase
1,666,666 shares of common stock (see Note 7 to the consolidated financial
statements), we issued 2,400,000 shares of Common Stock to the noteholder,
an unrelated party. This issuance was made pursuant to the exemption from
registration provided by Section 4(2) of the Securities Act of 1933, in that
it did not involve a public offering.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
For information concerning defaults on our indebtedness, see Note 6 to
our financial statements set forth in Part I, Item 1 above and Management's
Discussion and Analysis or Plan of Operation in Part I, Item 2 above, which
are incorporated herein by reference.
ITEM 5. OTHER INFORMATION
We are currently in arrears in rent and property tax payments under the
lease for our Frisco, Texas manufacturing facility. The landlord has
indicated that it may take action to accelerate future rent payments under
the lease, subject to certain offsets. See Note 12 - Contingencies - Lease
Agreement to our financial statements set forth in Part I, Item 1 above and
Part II, Item 1 above, which are incorporated herein by reference.
Effective August 26, 2003, the Company entered into a $2 million line
of credit agreement with a bank, which was due on demand, bore interest at
the bank's prime rate plus 1% (6.5% at April 30, 2005) and matured October
15, 2004. As of March 17, 2005, the line of credit was renewed and extended
until October 31, 2006. The line of credit is subject to certain financial
and other covenants, is collateralized by all of the Company's accounts
receivable and inventory, and is guaranteed by the Company's majority
stockholder, chief executive officer and sole director. At April 30, 2005,
$1,855,560 was outstanding under this line of credit.
In March 2005, the Company entered into a $1.2 million operating lease
line to provide financing for the acquisition of manufacturing equipment.
As of April 30, 2005 the Company had used $777,300 under the line comprised
of two operating leases with total monthly lease payments of $15,909. These
leases expire in March 2009. As of June 3, 2005 the Company used an
additional $240,000 under the line comprised of an additional operating
lease with total monthly lease payment of $4,935. This lease expires in
June 2009.
ITEM 6. EXHIBITS
Reference is made to the Exhibit Index of this Form 10-QSB for a list
of all exhibits filed with and incorporated by reference in this report.
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto
duly authorized.
INTEGRATED PERFORMANCE SYSTEMS, INC.
(Registrant)
Date: February 1, 2006 By: /s/ BRAD J. PETERS
-------------------------------------------
Brad J. Peters
Vice President and Chief Financial Officer
(On behalf of the registrant and as
principal financial and accounting officer)
EXHIBIT INDEX
Exhibit
Number Description of Exhibit
------ ----------------------
10.1 * Compromise and Settlement Agreement, dated May 26, 2005, between
the Company and LaJolla Cove Investors, Inc. (filed as Exhibit
10.1 to the Company's Form 8-K filed on May 27, 2005).
10.2 * Compass Bank Letter Loan Agreement dated August 22, 2003 (filed as
Exhibit 10.2 to the Company's Form 10-QSB filed on June 13, 2005).
10.3 * M&I First National Leasing Corp. Lease of Personal Property
dated 3/21/05 (filed as Exhibit 10.3 to the Company's Form 10-QSB
filed on June 13, 2005).
31.1 ** Certification of Brad Jacoby, President and Chief Executive
Officer, pursuant to Rule 13a-14(a) of the Securities and Exchange
Act of 1934.
31.2 ** Certification of Brad J. Peters, Vice President and Chief
Financial Officer, pursuant to Rule 13a-14(a) of the Securities
and Exchange Act of 1934.
32.1 ** Certifications of Brad Jacoby, President and Principal Executive
Officer, and Brad J. Peters, Vice President and Chief Financial
Officer, pursuant to 18 U.S.C. Section 1350.
_______________________
* Incorporated herein by reference to the respective filings identified
above
** Filed herewith.