UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended January 31, 2006
[ ] 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.
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(Exact name of small business issuer as specified in its charter)
New York 11-3042779
------------------------ ------------------------------------
(State of incorporation) (I.R.S. Employer Identification No.)
901 Hensley Lane Wylie, Texas 75098
---------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
Issuer's telephone number: (214) 291-1427
Indicate by check mark whether the registrant (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 [ ]
Check whether the issuer is a shell company (as defined in Rule 12b-2
of the Exchange Act). Yes [ ] No [X]
At January 31, 2006 there were 61,152,194 shares of the issuer's common
shares outstanding.
Transitional Small Business Disclosure Format (Check one): Yes [ ] No [X]
GENERAL INDEX
Page
Number
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PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.................................. 3
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR
PLAN OF OPERATION..................................... 13
ITEM 3. CONTROLS AND PROCEDURES............................... 15
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS..................................... 15
ITEM 5. OTHER INFORMATION..................................... 16
ITEM 6. EXHIBITS.............................................. 16
SIGNATURES...................................................... 18
INTEGRATED PERFORMANCE SYSTEMS, INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheet
(Unaudited)
January 31,
2006
------------
ASSETS
Current assets:
Cash $ 1,359,744
Trade accounts receivable, net of allowance
for doubtful accounts of $38,041 5,202,789
Prepaid expenses and other 155,462
Inventory 1,877,429
Deferred income tax asset 96,121
Income tax receivable 153,267
------------
Total current assets 8,844,812
------------
Property and equipment, net 1,722,481
Other assets:
Goodwill 8,275,034
Customer base, net 3,704,001
------------
13,701,516
------------
Total assets $ 22,546,328
============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 2,984,441
Accrued expenses (including $88,667 interest
to related party) 828,267
Notes payable, current portion 572,752
------------
Total current liabilities 4,385,460
------------
Noncurrent liabilities:
Long-term debt, net of current maturities 1,698,667
Note payable to related party 4,200,000
Deferred income tax liability 1,639,674
------------
Total long-term liabilities 7,538,341
------------
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; 61,152,194 shares issued and outstanding 611,522
Additional paid-in capital 17,839,618
Retained earnings (7,830,551)
------------
Total stockholders' equity 10,622,527
------------
Total liabilities and stockholders' equity $ 22,546,328
============
The accompanying notes are an integral part
of these condensed consolidated financial statements.
INTEGRATED PERFORMANCE SYSTEMS, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Operations
(Unaudited)
Three Three Six Six
Months Months Months Months
Ended Ended Ended Ended
January 31, January 31, January 31, January 31,
2006 2005 2006 2005
----------- ----------- ----------- -----------
Net sales $ 9,088,258 $ 7,604,706 $17,136,805 $14,356,993
Cost of sales 7,522,687 6,486,898 13,835,125 12,195,976
---------- ---------- ---------- ----------
Gross profit 1,565,571 1,117,808 2,385,113 2,161,017
---------- ---------- ---------- ----------
Expenses:
General and
administrative expenses 1,223,055 8,595,249 2,385,113 9,392,298
Amortization of
customer base 135,512 90,341 271,024 90,341
---------- ---------- ---------- ----------
1,358,567 8,685,590 2,656,137 9,482,639
---------- ---------- ---------- ----------
Income (loss) from
operations 207,004 (7,567,782) 645,543 (7,321,622)
---------- ---------- ---------- ----------
Other income (expense):
Interest expense (35,412) (58,269) (62,948) (75,500)
Interest expense -
related party (88,667) (4,257,867) (171,865) (4,257,867)
Interest income 956 74 1,525 156
Other income 18,958 739 36,977 14,985
---------- ---------- ---------- ----------
(104,165) (4,315,323) (196,311) (4,318,226)
---------- ---------- ---------- ----------
Income (loss) before
provision for income taxes 102,839 (11,883,105) 449,232 (11,639,848)
Provision for income taxes 26,552 (21,363) 156,626 71,273
---------- ---------- ---------- ----------
Net income (loss) $ 76,287 $(11,861,742) $ 292,606 $(11,711,121)
=========== ========== =========== ==========
Net income (loss)
per share
Basic $ .00 $ (0.28) $ .00 $ (0.55)
=========== ========== =========== ==========
Diluted $ .00 $ (0.28) $ .00 $ (0.55)
=========== ========== =========== ==========
Weighted average common
shares
Basic 61,152,194 42,796,040 61,152,194 21,399,020
=========== ========== =========== ==========
Diluted 282,981,194 42,796,040 282,981,194 21,399,020
=========== ========== =========== ==========
The accompanying notes are an integral part of these condensed consolidated
financial statements
INTEGRATED PERFORMANCE SYSTEMS, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
(Unaudited)
Six Months Ended January 31,
----------------------------
2006 2005
------------ ------------
Cash flows from operating activities:
Net income $ 292,606 $ (11,711,121)
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 553,802 484,070
Stock based compensation - 7,600,000
Non-cash interest expense from beneficial
conversion feature - 4,200,000
Deferred tax expense 126,303 71,273
Changes in operating assets and liabilities:
Trade accounts receivable (1,078,111) (474,160)
Inventory 203,001 162,125
Prepaid expenses and other (59,738) (33,100)
Income tax receivable 578,751 -
Accounts payable 468,316 219,642
Accrued expenses (91,143) 104,118
------------ ------------
Net cash provided by operating activities 993,787 622,847
------------ ------------
Cash flows from investing activities:
Merger costs - (209,805)
Cash acquired through merger. - 78,762
Acquisition of property and equipment (83,264) (46,386)
------------ ------------
Net cash used in investing activities (83,264) (177,429)
------------ ------------
Cash flows from financing activities:
Net borrowings (payments) on line of credit (1,455,560) 950,000
Payments on long-term debt (308,219) (907,525)
Interest paid to related party (309,866) -
Borrowing on new term note 2,250,000 -
Collections on advances to related parties - 37,972
------------ ------------
Net cash provided by financing activities 176,355 80,447
------------ ------------
Net increase in cash 1,086,878 525,865
Cash, beginning of period 272,866 218,000
------------ ------------
Cash, end of period $ 1,359,744 $ 743,865
============ ============
The accompanying notes are an integral part of these condensed consolidated
financial statements.
Integrated Performance Systems, Inc. and Subsidiaries
Notes to Interim Condensed Consolidated Financial Statements
January 31, 2006
(Unaudited)
NOTE 1 - BASIS OF PRESENTATION
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, 2006.
These financial statements should be read in conjunction with the financial
statements and notes thereto contained in the Company's annual report on
Form 10-KSB for the year ended July 31, 2005, filed on January 5, 2006.
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. A valuation allowance is established and adjusted
periodically to provide for estimated obsolescence based upon the aging of
inventory and market trends. At January 31, 2006, inventory consisted of
$766,656 in raw materials, $759,041 in work in process, and $379,732 in
finished goods, less a valuation allowance of $28,000.
In November 2004 the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 151, "Inventory Costs - an
amendment of ARB No. 43, Chapter 4" ("SFAS 151"). SFAS 151 amends the
guidance in ARB No. 43, Chapter 4, "Inventory Pricing," to clarify the
accounting for abnormal amounts of idle facility expense, freight, handling
costs and wasted material (spoilage). Among other provisions, the new rule
requires that items such as idle facility expense, excessive spoilage,
double freight and rehandling costs be recognized as current-period charges
regardless of whether they meet the criterion of "so abnormal" as stated in
ARB No. 43. Additionally, SFAS 151 requires that the allocation of fixed
production overheads to the costs of conversion be based on the normal
capacity of the production facilities. SFAS 151 is effective for fiscal
years beginning after June 15, 2005. Effective for the quarter ended October
31, 2005, the Company adopted SFAS 151. The adoption did not have a material
impact on the Company's consolidated financial condition and results of
operations.
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 standards 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, "Accounting for Stock Issued to
Employees" ("APB 25") and Financial Accounting Standards Board
Interpretation No. 44, "Accounting for Certain Transactions Involving Stock
Compensation - an 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, "Accounting for Stock-Based
Compensation" ("SFAS 123") and Statement of Financial Accounting Standards
No. 148, "Accounting for Stock-Based Compensation-Transition and Disclosure-
an amendment of FASB Statement No. 123". Under the provisions of SFAS 123,
compensation expense is recognized based on the fair value of options on the
grant date.
During the three months ended January 31, 2006 and 2005, the Company did not
recognize any compensation expense under APB 25, nor did the Company
recognize any compensation expense under the disclosure-only provisions of
SFAS 123.
Earnings Per Share
------------------
Basic earnings per share is computed using the weighted average number of
common shares outstanding during the period. Diluted earnings per share is
computed using the weighted average number of common and, if dilutive,
potential common shares outstanding during the period. Potential common
shares consist of the incremental common shares issuable upon the exercise
of stock options and the conversion of the Company's convertible preferred
stock and notes payable.
The following table sets forth the computation of basic and diluted net
income per share:
For the Three Months For the Six Months
Ended January 31, Ended January 31,
----------------------------------------------
2006 2005 2006 2005
-------- -------- -------- --------
Numerator
Numerator for basic earnings
per share - net income
(loss) $ 76,287 $(11,861,742) $ 292,606 $(11,711,121)
Effect of dilutive securities
on net income 85,866 - 171,733 -
-------- ----------- -------- -----------
Numerator for diluted earnings
per share $ 162,153 $(11,861,742) $ 464,339 $(11,711,121)
======== =========== ======== ===========
Denominator
Denominator for basic
earnings per share 61,152,194 42,796,040 61,152,194 21,399,020
Effect of dilutive securities 28,000,000 - 28,000,000 -
Convertible preferred stock 193,829,000 - 193,829,000 -
----------- ----------- ----------- -----------
Denominator for diluted
earnings per share 282,981,194 42,796,040 282,981,194 21,399,020
=========== =========== =========== ===========
Basic earnings per share $ 0.00 $ (0.28) $ 0.00 $ (0.55)
======== ======== ======== ========
Diluted earnings per share $ 0.00 $ (0.28) $ 0.00 $ (0.55)
======== ======== ======== ========
Warrants to purchase a total of 531,667 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 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 FASB issued Statement of Financial Accounting Standards No.
123 (revised 2004), "Share-Based Payment" ("SFAS 123(R)") 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 SEC issued a ruling that SFAS
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 123(R).
NOTE 3 - CONCENTRATIONS OF RISK
At January 31, 2006, four customers accounted for approximately 49% of the
total accounts receivable. For the three and six months ended January 31,
2006, respectively, these customers accounted for approximately 60% and
56% of net sales. At January 31, 2005, five customers accounted for
approximately 52% of the total accounts receivable and for the three and six
months ended January 31, 2005, these customers accounted for approximately
50% of net sales.
NOTE 4 - MERGER
On November 24, 2004 a wholly owned subsidiary of the Company merged with
Best Circuit Boards, Inc., d/b/a Lone Star Circuits "LSC"), and LSC became
a wholly owned subsidiary of the Company. Brad Jacoby ("Jacoby"), the
beneficial owner of LSC, acquired a controlling interest in the Company. The
transaction has been accounted for as a reverse merger (the transaction
being referred to in this quarterly report as the "Merger"). This means the
Merger has been treated as if LSC acquired the Company and, consequently,
the historical financial statements of LSC became the historical financial
statements of the Company for all periods presented.
NOTE 5 - INCOME TAXES
The income tax provision for the three and six month periods ended January
31, 2006 consists of the following:
For the three months For the six months
ended January 31 ended January 31
---------------------------------------------
2006 2005 2006 2005
-------- -------- -------- --------
Current expense $ 30,323 $ - $ 30,323 $ -
Deferred expense $ (3,771) $ (21,363) $ 126,303 $ 71,273
-------- -------- -------- --------
$ 26,552 $ (21,363) $ 156,626 $ 71,273
======== ======== ======== ========
Significant temporary differences used in the computation of deferred tax
assets and liabilities at January 31, 2006 are as follows:
Deferred tax assets, current
Allowance for bad debts $ 10,937
Accrued vacation 74,832
Inventory reserves 10,352
----------
$ 96,121
Deferred tax assets (liabilities), non-current
Depreciation of property and equipment $ (270,305)
Net operating loss carry forwards 2,957,682
Valuation allowance (2,957,682)
Customer base (1,369,369)
----------
$(1,639,674)
==========
In assessing the realization of deferred tax assets, management considers
whether it is more likely than not that some or all of the 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 in which the deferred tax assets are
deductible, management does not believe that additional valuation allowances
are necessary as of January 31, 2006.
At January 31, 2006, the Company had tax net operating loss carry forwards
("NOLs") of approximately $7,998,588 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 the Company. During the three and six
months ended January 31, 2006, the Company utilized NOLs 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.
NOTE 6 - LINE OF CREDIT
The Company has a $2 million line of credit agreement ("LOC") with a bank,
which is due on demand, bears interest at the bank's prime rate (6.75% at
January 31, 2006) and matures 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 subject to a guarantee
by Jacoby in an event of default under the security agreement. On October
28, 2005, the Company entered into a credit facility with a bank for a
$2,250,000 five-year term loan (the "Term Loan. The security arrangement for
the Term Loan was also written to encompass the LOC. Under the terms of the
security agreement the Term Loan is collateralized by all of the Company's
equipment and the LOC is collateralized by the Company's inventory and
accounts receivable. The Term Loan bears interest at LIBOR + 2.15%, provides
for monthly principal payments of $37,500 plus accrued interest, and matures
on October 31, 2010. Both the Term Loan and the LOC are subject to certain
financial and other covenants. An event of default under the security
agreement will trigger a $2,000,000 personal guarantee of Jacoby. The
Company received the cash proceeds from the Term Loan on November 4, 2005.
The proceeds were used pay down the outstanding balance on the LOC and,
coupled with the LOC, will fund working capital.
NOTE 7 - NOTES PAYABLE
Long-term debt consists of the following at January 31, 2006:
Note payable to financial institution payable in monthly
installments of $7,035 including interest at 6.75%,
matures March 31, 2006, collateralized by equipment $ 20,869
Note payable to financial institution payable in monthly
installments of $37,500 including interest at Libor + 2.15%,
matures October 31, 2010, collateralized by inventory and
accounts receivable 2,137,500
Note payable to individual A, payable in monthly
installments of $25,000, unsecured 50,000
Note payable to individual B, payable in monthly
installments of $10,000, unsecured 20,000
Note payable to individual C, payable in monthly
installments of $12,000, unsecured 24,000
Other 19,050
---------
2,271,419
Less current maturities of long-term debt (572,752)
---------
Total long-term debt, less current maturities $1,698,667
=========
On November 18, 2005, the Company settled the notes payable to individuals
A, B and C for a total of $235,000 including all accrued interest. The
settlement amounts were determined to be $125,000, $50,000 and $60,000 for
individuals A, B and C respectively. The terms of the settlement include
five equal monthly payments, with no additional interest charges.
NOTE 8 - NOTES PAYABLE TO RELATED PARTY
On November 24, 2004, the Company issued convertible promissory notes in the
principal amounts of $1 million and $3.2 million (collectively, the "Notes")
to Jacoby in conjunction with the Merger. The Notes bore interest at 8% and
were convertible into common stock at any time at a conversion price of
$0.15 per share. Interest on the $1 million note was payable semi-annually,
and the principal balance was due November 30, 2007. Interest on the $3.2
million notes was payable monthly, and the principal was originally due
February 28, 2005, and later extended to July 31, 2005. The Notes were
secured by all assets of the Company and LSC, by the outstanding stock of
LSC and by the Company common stock owned by D. Ronald Allen ("Allen"),
former chief executive officer, controlling shareholder and director of the
Company. On October 28, 2005, both the Notes were refinanced and combined
into a single note (the "New Note"), bearing interest at 8% payable semi-
annually, with the principal due September 30, 2008. The New Note is
convertible under the same terms and secured by the same assets as the
Notes.
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
three and six months ended January 31, 2006 and 2005, the Company incurred
lease expense totaling $225,000 for the three month and $450,000 for the six
month periods, respectively, related to these operating leases. LSC 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. LSC
has guaranteed payment of mortgage notes owed by JACCO to financial
institutions. At January 31, 2006, amounts owed by JACCO under mortgage
note arrangements guaranteed by the Company and by Jacoby individually
totaled approximately $4,800,000. 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 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 Jacoby and his wife as collateral for the 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 principal amounts guaranteed by the
Company.
NOTE 10 - STOCK OPTIONS AND WARRANTS
As of January 31, 2006, there were 500,000 outstanding warrants to purchase
common stock held by certain employees. These warrants have an exercise
price of $0.75 per share and expire November 5, 2009.
As of January 31, 2006, there were 31,667 outstanding warrants to purchase
common stock held by debt holders. These warrants have an exercise price of
$1.50 per share and expire February 8, 2011.
NOTE 11 - COMMITMENTS AND CONTINGENCIES
Litigation
----------
The Company is party to the various legal proceedings noted below. The
Company believes that the ultimate outcome of these proceedings,
individually and in the aggregate, will not have a material adverse effect
on its financial position or overall trends in results of operations,
litigation is subject to inherent uncertainties. If an unfavorable ruling
were to occur, there exists the possibility of a material adverse impact on
(1) net income in the period in which the ruling occurs and (2) business and
financial conditions.
On December 5, 2005, IPS and LSC sued Allen and several entities affiliated
with Allen in the 116th Judicial District Court of Dallas County, Texas.
IPS and LSC assert claims against Allen for, among other things, fraud,
breach of contract and indemnity arising out of the merger agreement that
effected the Merger (the "Merger Agreement"). LSC seeks indemnity from
Allen for approximately $573,000 pursuant to the Merger Agreement, which
amount represents the settlement payment made to Legacy Bank and the
attorneys' fees incurred in the C-Gate lawsuit as defined in the Company's
annual report of Form 10-KSB for the year ended July 31, 2005, filed January
5, 2006. LSC also seeks indemnity for other as-yet unliquidated claims for
potential indemnifiable costs. IPS and LSC assert claims for constructive
trusts against the entity defendants regarding the IPS common stock held by
those entities as of the date of the closing of the Merger Agreement. IPS
and LSC assert that some or all of the common stock held by these entities
was required to be tendered into escrow in order to satisfy claims from
indemnifiable costs under the Merger Agreement.
On July 8, 2005 The Law Offices of Gregory W. Mitchell, P.L.L.C. (the "Law
Firm") and Gregory W. Mitchell, individually ("Mitchell," and collectively
with the Law Firm, the "Mitchell Plaintiffs"), the sole member of the Law
Firm, sued IPS in the 160th Judicial District Court of Dallas County, Texas.
The Mitchell Plaintiffs allege that IPS entered into a fee agreement under
which the Law Firm was to provide all legal services for IPS in exchange for
which IPS was to pay the Law Firm, each month for two years, $10,000 cash
plus IPS common stock with a current value of $15,000.
The Mitchell Plaintiffs allege that, after several months, IPS repudiated
the fee agreement without cause. The Law Firm seeks to recover the
remaining fees due under the fee agreement, approximately $200,000 in cash
and $315,000 in common stock. Mitchell additionally claims that Jacoby and
IPS intentionally inflicted emotional distress on Mitchell. The Mitchell
plaintiffs also seek to recover exemplary damages and attorneys' fees. IPS
disputes the claims and plans to vigorously defend the lawsuit.
On November 18, 2003, Gehan Properties II, Ltd. ("Gehan") sued IPS, Allen
and other entities, including several former IPS subsidiaries, alleging
fraudulent transfer claims and is seeking $259,652 plus attorneys' fees and
interest. Gehan alleges that IPS's subsidiary, Performance Interconnect
Corp., fraudulently transferred its stock in two entities, PC Dynamics of
Texas, Inc. and Varga Investments, Inc., to IPS in December 1999. Among
other things, IPS asserts that the stock transferred to IPS was worthless at
the time of the transfers and therefore the transfers do not constitute
fraudulent transfers. Both parties are currently conducting discovery and
the trial is scheduled for April 17, 2006.
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. These expectations, plans and
projections may or may not materialize and 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;
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," "believe," "expect," "project," "anticipate," "estimate,"
"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
IPS, through its wholly owned subsidiary LSC, designs, engineers and
manufactures technologically advanced printed circuit boards. Our customers
are generally high-end commercial companies, the military and military
suppliers. The commercial markets are typically characterized by time-
sensitive, high technology prototypes and short product life cycles. The
military markets require special certifications and are characterized by
high reliability and advanced technology and in many cases are formalized by
long-term contracts.
Our principal products are complex multi-layer printed circuit boards,
including antenna and metalback radio frequency circuit boards. Printed
circuit boards serve as the basis and foundation for electronic equipment.
The circuit boards we produce are sold through direct sales people and
manufacturer's representatives to a variety of commercial and military
markets. The commercial markets and their applications include power
systems, telecommunications, computer hardware, consumer electronics,
instrumentation and controls. The military applications for our products
include satellite communications, avionics, missiles, smart bombs, defense
systems, radar detection and test equipment.
We can satisfy all stages of manufacturing for our customers,
from prototype to volume production. We offer our customers design and
engineering assistance in the early stage of their design to ensure the most
efficient and cost-effective production and output. We offer quick-turn
production, which can mean the manufacture of a custom-designed circuit
board in significantly compressed lead times, from as little as 24 hours to
10 days. We can also manufacture small quantities of printed circuit boards
to assist our customers in the design and testing of their new products. As
the product moves through its development life cycle, we can ramp up to
volume production.
On November 24, 2004 a wholly owned subsidiary of the Company merged
with Best Circuit Boards, Inc., d/b/a Lone Star Circuits ("Lone Star
Circuits" or "LSC"), and LSC became a wholly owned subsidiary of the
Company. Brad Jacoby ("Jacoby"), the beneficial owner of LSC, acquired a
controlling interest in the Company. The transaction has been accounted for
as a reverse merger (the transaction being referred to in this quarterly
report as the "Merger"). This means the Merger has been treated as if LSC
acquired the Company and, consequently, the historical financial statements
of LSC became the historical financial statements of the Company for all
periods presented.
The following discussion provides information to assist in the
understanding of our financial condition and results of operations for the
three and six months ended January 31, 2006 and 2005. It should be read in
conjunction with the financial information for the year ended July 31, 2005,
appearing in the Company's annual Form 10-KSB filed on January 5, 2006.
Results of Operations
Revenues. Net sales increased to $9,088,258 for the three months ended
January 31, 2006, from $7,604,706 for the same period in 2005, a net
increase of $1,483,552 or 20%. Net sales increased to $17,136,805 for the
six months ended January 31, 2006 from $14,356,993 for the same period in
2005, a net increase of $2,779,812 or 19%. We are continuing to see strong
demand for our products from our existing original equipment manufacturer
("OEM") customers. Sales to our top ten customers increased by 33% and 27%
for the three and six months ended January 31, 2006 respectively compared to
the same period in 2005.
Gross Profit. Gross profit for the three months ended January 31, 2006
was $1,565,571 compared to $1,117,808 for the same period in 2005, an
increase of $447,763 or 40%. Gross profit for the six months ended January
31, 2006 was approximately $2,385,113, versus a gross profit of $2,161,017.
Gross margin improved from 15% for the three and six months ended January
31, 2005 to 17% and 19%, respectively, for the same period in the current
year. The increase in gross profit is due to (1) the further increase in
sales resulting in fixed costs being spread over a larger number of units
produced, (2) higher demand for premium services, which typically command a
significantly higher margin and (3) an increase in sales of military
products that also produce higher margins.
Selling, general and administrative expenses. Selling, general and
administrative ("SG&A") expenses consist primarily of direct charges for
sales promotion and marketing, as well as the cost of executive,
administrative and accounting personnel, and related expenses and
professional fees. SG&A expense decreased to $1,223,055 for the three
months ended January 31, 2006, from $8,595,249 for the same period in 2005,
a decrease of $7,372,194 or 86%. The decrease is a result of the recording
of a non-cash compensation expense of $7,600,000 in 2005 related to stock
options that is not recurring during the period ended January 31, 2006. The
increase in recurring SG&A expense is primarily attributable to an 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 litigation as a result of the
Merger and (2) expenses related to filing and reporting as a public entity.
Amortization of Customer Base. The customer base was recorded as a
result of the Merger on November 24, 2004 and accordingly, $90,341
representing two months of amortization was recorded during the three and
six months ended January 31, 2005. Amortization expense increased to
$135,512 and $271,024 for the three and six months ended January 31, 2006.
Other Income (Expense), Net. Other income (expense), net, includes
interest expense on notes payable and notes payable to related parties, as
well as income from reclaiming scrap material. Other (expense), was
($4,316,136) and ($4,333,367) for the three and six months ended January 31,
2005 and included $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. Other (expense)
decreased to ($104,165) and ($196,311) for the three and six months ended
January 31, 2006.
Income Tax Provision. The income tax provision increased to $156,626
for the six months ended January 31, 2006, from $71,273 for the same period
in the prior year. The increase in the provision is due to the increase in
pre-tax income.
Liquidity and Capital Resources
We have generally financed our business from cash generated by
operations and borrowings, and in prior periods our majority shareholder has
loaned the Company operating capital at prevailing market rates of interest
or has guaranteed our indebtedness. Our principal uses of cash have been to
fund working capital, meet debt service requirements, fund capital
expenditures and, during the prior fiscal year, to fund Merger costs. We
expect that these uses, with the exception of funding Merger costs, will
continue to be the principal demands on our cash in the future.
We have current assets substantially in excess of current liabilities.
Based on our current level of operations, we believe that cash provided by
operations along with funds available under our new five-year term loan (see
"Indebtedness and guarantees" below) will be sufficient to fund our working
capital needs, finance capital expenditures and service our debt for the
next twelve months and beyond. Capital expenditures planned for the next
twelve months consist of normal equipment purchases necessary to maintain
current operating capacity and replace equipment that may have reached the
end of its useful life. During the current fiscal quarter, our capital
expenditures included manufacturing equipment that will allow us to improve
the throughput and increase the level of technology required to keep up with
the complex products our customers design. We have historically also been
able to obtain financing for equipment acquisitions under operating leases
with provisions for installment purchases at the end of the lease terms. We
anticipate that we will continue to be able to obtain this type of financing
for future equipment needs.
Cash flows from operations. Net cash of $993,787 provided by
operations during the six months ended January 31, 2006 consisted of
$972,711 provided by net income as adjusted from non-cash items and $21,076
provided by working capital. This compares to net cash provided by
operations of $622,847 during the same period in the prior year, which
consisted of $644,222 provided by net income as adjusted from non-cash
items, partially offset by $21,375 used by working capital.
Cash used for investing activities. Net cash of $83,264 used for
investing activities during the six months ended January 31, 2006 consisted
of purchases of equipment. Net cash of $177,429 used for investing
activities during the same period in the prior year included $209,805 to
fund Merger-related costs, $78,762 cash acquired through the Merger, and
$46,386 for the purchase of property and equipment.
Cash flows from financing activities. Net cash provided by financing
activities during the six months ended January 31, 2006 was $176,355 and
consisted of net payments of $309,866 on related party interest, payments of
$308,219 on long-term debt and net increase in borrowings of $794,440 on the
new bank note. Net cash provided by financing activities during the same
period in the prior year included net borrowings on our line of credit of
$950,000 and collections of $37,972 on advances to related parties,
partially offset by payments of $907,525 on long-term debt.
Indebtedness and guarantees. We have a $2 million line of credit (the
"LOC") described in Note 6 of our financial statements set forth in Part I,
Item 1 above.
We have other indebtedness in the amount of $2,271,419, some of which
was originally incurred by IPS prior to the Merger. Current maturities are
$572,752. Additionally, we issued $4.2 million in convertible promissory
notes to Brad Jacoby in conjunction with the Merger in November 2004. These
notes were refinanced on October 28, 2005, and now bear 8% interest payable
semiannually, with the principal due September 30, 2008.
On October 28, 2005 we entered into a credit facility with a bank for a
$2,250,000 five-year term loan (the "Term Loan"). The Term Loan bears
interest at LIBOR + 2.15%, provides for monthly principal payments of
$37,500 plus accrued interest, and matures on October 31, 2010. The Term
Loan is collateralized by all of the Company's equipment and the LOC is
collateralized by the Company's inventory and accounts receivable. Both the
Term Loan and the LOC are subject to certain financial and other covenants.
An event of default under the security agreement will trigger a $2,000,000
personal guarantee of Jacoby. The Company received the cash proceeds from
the Term Loan on November 4, 2005. The proceeds were used to pay down the
outstanding balance on the LOC and, coupled with the LOC, will fund working
capital in the future.
We expect that cash generated from operations will be sufficient to
fund payments on our indebtedness as it becomes due, or that we will be able
to refinance the debt under similar terms.
We have guaranteed certain indebtedness of related parties, as
described in Note 9 to our financial statements.
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. Management has concluded that our disclosure
controls and procedures are effective in ensuring that material information
is timely communicated to appropriate management personnel, including the
Chief Executive Officer and Chief Financial Officer, to enable such
personnel to evaluate information and determine the information required to
be included in our periodic SEC reports.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
D. Ronald Allen lawsuit. On December 5, 2005, IPS and LSC sued D.
Ronald Allen and several entities affiliated with Allen in the 116th
Judicial District Court of Dallas County, Texas. IPS and LSC assert claims
against Allen for, among other things, fraud, breach of contract and
indemnity arising out of the Merger Agreement. LSC seeks indemnity from
Allen for approximately $573,000 pursuant to the Merger Agreement, which
amount represents the settlement payment made to Legacy Bank and the
attorneys' fees incurred in the C-Gate lawsuit. LSC also seeks indemnity
for other as-yet unliquidated claims for potential indemnifiable costs. IPS
and LSC assert claims for constructive trusts against the entity defendants
regarding the IPS Common Stock held by those entities as of the date of the
closing of the Merger Agreement. IPS and LSC assert that some or all of the
Common Stock held by these entities was required to be tendered into escrow
in order to satisfy claims from indemnifiable costs under the Merger
Agreement.
Greg Mitchell lawsuit. On July 8, 2005 The Law Offices of Gregory W.
Mitchell, P.L.L.C. (the "Law Firm") and Gregory W. Mitchell, individually
("Mitchell," and collectively with the Law Firm, the "Mitchell Plaintiffs"),
the sole member of the Law Firm, sued IPS in the 160th Judicial District
Court of Dallas County, Texas. The Mitchell plaintiffs allege that IPS
entered into a fee agreement under which the Law Firm was to provide all
legal services for IPS in exchange for which IPS was to pay the Law Firm,
each month for two years, $10,000 cash plus IPS Common Stock with a current
value of $15,000.
The Mitchell Plaintiffs allege that, after several months, IPS
repudiated the fee agreement without cause. The Law Firm seeks to recover
the remaining fees due under the fee agreement, approximately $200,000 in
cash and $315,000 in Common Stock. Mitchell additionally claims that Jacoby
and IPS intentionally inflicted emotional distress on Mitchell. The
Mitchell plaintiffs also seek to recover exemplary damages and attorneys'
fees. IPS disputes the claims and plans to vigorously defend the lawsuit.
Gehan lawsuit. On November 18, 2003 Gehan Properties II, Ltd. ("Gehan")
sued IPS, Allen and several former IPS subsidiaries in the 95th Judicial
District Court of Dallas County, Texas. Gehan alleges fraudulent transfer
claims and is seeking $259,652 plus attorneys' fees and interest. Gehan
alleges that IPS's subsidiary Performance Interconnect Corp. fraudulently
transferred its stock in two entities, PC Dynamics of Texas, Inc. and Varga
Investments, Inc., to IPS in December 1999. Among other things, IPS asserts
that the stock transferred to IPS was worthless at the time of the transfers
and therefore the transfers do not constitute fraudulent transfers. Both
parties are currently conducting discovery and the trial is scheduled for
April 17,, 2006.
ITEM 5. OTHER INFORMATION
Our Common Stock was traded over-the-counter through December 21, 2005 on
the OTC Bulletin BoardR (OTCBB) under the symbol "IPFS.OB" and was
subsequently moved to the Pink Sheets, trading under the symbol "IPFS.PK",
for failure to timely file the annual report on Form 10-KSB. The annual
report on Form 10-KSB was filed on January 5, 2006. The Company is now
current in its filings with the SEC and is eligible for trading on the
OTCBB.
ITEM 6. EXHIBITS
Exhibit
Number Description of Exhibit
------- ----------------------
3.1* Certificate of Incorporation of Espo's, Inc. filed with the
New York Secretary of State, November 29, 1990 (filed as
Exhibit 3.1 to the Company's Registration Statement on Form
10-SB (File No. 000-30794), filed on April 12, 2000).
3.2* Certificate of Amendment of Certificate of Incorporation of
the Company filed with the New York Secretary of State, July
17, 1998 (filed as Exhibit 3.2 to the Company's Registration
Statement on Form 10-SB (File No. 000-30794), filed on April
12, 2000).
3.3* Certificate of Amendment of Certificate of Incorporation
ofthe Company filed with the New York Secretary of State,
October 27, 1998 (filed as Exhibit 3.3 to the Company's
Registration Statement on Form 10-SB (File No. 000-30794),
filed on April 12, 2000).
3.4* Certificate of Amendment of Certificate of Incorporation of
the Company filed with the New York Secretary of State, March
20, 2000 (filed as Exhibit 3.4 to the Company's Registration
Statement on Form 10-SB (File No. 000-30794), filed on April
12, 2000).
3.5* Certificate of Amendment of Certificate of Incorporation of
the Company filed with the New York Secretary of State, April
4, 2001 (filed as Exhibit 3.6 to the Company's Current Report
on Form 8-K filed April 27, 2001).
3.6* Certificate of Amendment of Certificate of Incorporation of
the Company filed with the New York Secretary of State, August
12, 2002 (filed as Exhibit 3.7 to the Company's Annual Report
on Form 10-KSB for the fiscal year ended November 30, 2003,
filed April 19, 2004).
3.7* Certificate of Amendment of Certificate of Incorporation
of the Company filed with the New York Secretary of State,
February 10, 2003 (filed as Exhibit 3.8 to the Company's
Annual Report on Form 10-KSB for the fiscal year ended
November 30, 2003, filed April 19, 2004).
3.8* Certificate of Amendment of Certificate of Incorporation of
the Company filed with the New York Secretary of State, May
30, 2003 (filed as Exhibit 3.9 to the Company's Annual Report
on Form 10-KSB for the fiscal year ended November 30, 2003,
filed April 19, 2004).
3.9* Certificate of Amendment of Certificate of Incorporation
of the Company filed with the New York Secretary of State,
December 28, 2004 (filed as Exhibit 4.1 to the Company's
Amendment to Current Report on Form 8-K/A filed February 7,
2005).
3.10* Bylaws of the Company (filed as Exhibit 3.5 to the Company's
Registration Statement on Form 10-SB (File No. 000-30794),
filed on April 12, 2000).
31.1** Certification of Brad Jacoby, President and Chief Executive
Officer, pursuant to Rules 13-14(a) and 15d-14(a) of the
Securities Exchange Act of 1934, as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
31.2** Certification of Brad J. Peters, Vice President and Chief
Financial Officer, pursuant to Rules 13a-14(a) and 15d-14(a)
of the Securities Exchange Act of 1934, as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
32** Certifications of Brad Jacoby, President and Chief Executive
Officer, and Brad J. Peters, Vice President and Chief
Financial Officer, pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002.
* Incorporated herein by reference to the respective filings identified
above.
** Filed herewith.
The Company filed two (2) reports on Form 8-K during the quarter ended
January 31, 2006, as follows:
1. dated November 18, 2005, covering the signing of a new security agreement
with the Company's bank and the refinancing of a note payable to the CEO,
both dated October 28, 2005.
2. dated January 26, 2005, covering a press release announcing earnings for
the quarter ended October 31, 2005.
SIGNATURE
In accordance with the requirements of the Securities Exchange Act of
1934, the registrant caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
INTEGRATED PERFORMANCE SYSTEMS, INC.
(Registrant)
Date: March 10, 2006 By: /s/ BRAD J. PETERS
Brad J. Peters
Vice President and Chief Financial Officer
(Principal Financial Officer and Principal
Accounting Officer)