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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended MARCH 31, 1999
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____ to ____
Commission File Number: 0-21142
NEMATRON CORPORATION
(Exact name of small business issuer as specified in its charter)
MICHIGAN 38-2483796
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
5840 INTERFACE DRIVE, ANN ARBOR, MICHIGAN 48103
(Address of principal executive offices) (Zip Code)
(734) 214-2000
(Issuer's telephone number, including area code)
Check whether the issuer (1) has filed all reports required to be filed
by section 13 or 15(d) of the Securities 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.
[X] YES [ ] No
State the number of shares outstanding of each of the issuer's classes
of common equity, as of the latest practicable date:
No par value Common Stock: 12,525,430 SHARES OUTSTANDING AS OF MAY 5, 1999
Transitional Small Business Disclosure Format: [ ] YES [X] NO
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PART I -- FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
NEMATRON CORPORATION AND SUBSIDIARIES
CONSOLIDATED CONDENSED BALANCE SHEETS
MARCH 31, 1999 AND DECEMBER 31, 1998
MARCH 31, DECEMBER 31,
1999 1998
(UNAUDITED) (UNAUDITED)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 1,554,952 $ 106,730
Accounts receivable, net of allowance for doubtful
accounts of $167,000 at March 31, 1999, and
$368,000 at December 31, 1998 2,875,314 1,999,900
Inventories (Note 2) 1,674,113 1,884,335
Prepaid expenses and other current assets 416,142 305,310
----------- -----------
Total Current Assets 6,520,521 4,296,275
PROPERTY AND EQUIPMENT, net of accumulated depreciation
of $5,682,871 at March 31, 1999 and $5,685,402 at
December 31, 1998 3,066,530 3,344,140
OTHER ASSETS:
Software and related development costs, net of amortization
of $2,800,432 at March 31,1999, and $2,557,639 at
December 31, 1998 3,738,744 3,880,284
Other intangible assets, net of amortization of $2,285,909 at
March 31, 1999 and $2,225,842 at December 31,1998 882,091 942,158
----------- -----------
Net Other Assets 4,620,835 4,822,442
----------- -----------
TOTAL ASSETS $ 14,207,886 $ 12,462,857
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Note payable to bank (Note 4) $ 3,074,173 $ 2,715,457
Accounts payable 1,834,850 1,409,645
Trade notes payable 655,745 1,123,956
Other accrued expenses 1,319,496 1,387,403
Convertible promissory notes payable (Note 3) 830,137 1,000,000
Funds held in escrow 1,500,000 -0-
Current maturities of long-term debt (Note 4) 1,653,779 1,576,492
----------- -----------
Total Current Liabilities 10,868,180 9,212,953
LONG-TERM DEBT, less current maturities (Note 4) 1,897,851 2,182,783
DEFERRED TAX LIABILITY 167,400 178,200
----------- -----------
Total Liabilities 12,933,431 11,573,936
STOCKHOLDERS' EQUITY:
Common stock, no par value, 15,000,000 shares authorized;
6,032,766 and 5,353,316 shares issued and outstanding at
March 31, 1999 and at
December 31, 1998,
respectively (Notes 3 and 8) 24,834,671 24,664,809
Foreign currency translation adjustment (4,252) (7,134)
Accumulated deficit (23,555,964) (23,768,754)
----------- -----------
Total Stockholders' Equity 1,274,455 888,921
----------- -----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 14,207,886 $ 12,462,857
=========== ===========
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ITEM 1. FINANCIAL STATEMENTS - CONTINUED
NEMATRON CORPORATION AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
FOR THE QUARTERS ENDED MARCH 31, 1999 AND 1998
QUARTER ENDED QUARTER ENDED
MARCH 31, MARCH 31,
1999 1998
(UNAUDITED) (UNAUDITED)
NET REVENUES $ 5,806,326 $ 4,943,454
COST OF REVENUES 3,936,225 3,406,493
---------- ----------
Gross Profit 1,870,101 1,536,961
OPERATING EXPENSES:
Product development costs 191,351 233,737
Selling, general and administrative expenses 1,224,522 2,360,010
---------- ----------
Total Operating Expenses 1,415,873 2,593,747
---------- ----------
Operating Income (Loss) 454,228 (1,056,786)
OTHER INCOME (EXPENSE):
Interest expense (249,850) (160,126)
Sundry income (expense), net (2,388) 14,324
---------- -----------
Total Other Income (Expense) (252,238) (145,802)
---------- -----------
INCOME (LOSS) BEFORE INCOME TAXES 201,990 (1,202,588)
INCOME TAX BENEFIT (NOTE 5) 10,800 71,429
---------- -----------
NET INCOME (LOSS) $ 212,790 $ (1,131,159)
========== ==========
BASIC INCOME (LOSS) PER SHARE (NOTE 6) $ 0.04 $ (0.21)
========== ==========
DILUTED INCOME (LOSS) PER SHARE (NOTE 6) $ 0.02 $ (0.21)
========== ==========
WEIGHTED AVERAGE SHARES OUTSTANDING (NOTE 6):
Basic 5,615,288 5,342,842
========== ==========
Diluted 9,981,461 5,342,842
========== ==========
NEMATRON CORPORATION AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
FOR THE QUARTERS ENDED MARCH 31, 1999 AND 1998
QUARTER ENDED QUARTER ENDED
MARCH 31, MARCH 31,
1999 1998
(UNAUDITED) (UNAUDITED)
Net Income (loss) $ 212,790 $ (1,131,159)
Other comprehensive income - equity adjustment from
Foreign translation 2,882 7,481
--------- ----------
Comprehensive income (loss) $ 215,672 $ (1,123,678)
========= ==========
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ITEM 1. FINANCIAL STATEMENTS - CONTINUED
NEMATRON CORPORATION AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
FOR THE QUARTERS ENDED MARCH 31, 1999 AND 1998
QUARTER ENDED QUARTER ENDED
MARCH 31, 1999 MARCH 31, 1998
(UNAUDITED) (UNAUDITED)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ 212,790 $ (1,131,159)
Adjustments to reconcile net income (loss) to net cash flows
used in operating activities:
Depreciation and amortization 533,064 660,299
Deferred income tax benefit (10,800) (71,429)
Loss on disposal of property 10,373 -0-
Changes in assets and liabilities that provided (used) cash:
Accounts receivable (875,414) (376,553)
Inventories 210,222 247,764
Prepaid expenses and other current assets (110,832) (46,131)
Accounts payable 425,205 505,367
Accrued expenses (67,907) (18,756)
--------- --------
Net Cash Provided By (Used In) Operating Activities 326,701 (230,598)
--------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to capitalized software development costs (101,253) (674,058)
Additions to property and equipment, net of minor disposals (30,991) (121,741)
Proceeds from disposals of property and equipment 12,490 -0-
--------- --------
Net Cash Used In Investing Activities (119,754) (795,799)
--------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from common stock subscriptions 1,500,000 -0-
Increase in note payable to bank 358,716 793,000
Payment of trade notes payable (468,211) -0-
Payments of long-term debt (152,112) (186,307)
Proceeds from exercise of options and warrants -0- 27,655
--------- --------
Net Cash Provided By Financing Activities 1,238,393 634,348
--------- --------
FOREIGN CURRENCY TRANSLATION EFFECT 2,882 7,481
--------- --------
Net Increase (Decrease) In Cash and Cash Equivalents 1,448,222 (384,568)
Cash and Cash Equivalents at Beginning of Period 106,730 454,765
--------- --------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 1,554,952 $ 70,197
========= ==========
NON-CASH FINANCING AND INVESTING ACTIVITIES:
Increase in Common Stock from conversion of
convertible promissory notes (Note 3) $ 169,863
Decrease in long-term debt and property resulting from
adjustment of purchase price $ 55,534
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for interest $ 229,735 $ 152,215
Cash paid for income taxes -0- -0-
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ITEM 1. FINANCIAL STATEMENTS - CONTINUED
NEMATRON CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
FOR THE THREE MONTHS ENDED MARCH 31, 1999 AND 1998
NOTE 1 - BASIS OF PRESENTATION
The accompanying consolidated financial statements include the accounts of
Nematron Corporation (the "Company") and its wholly-owned subsidiaries, Nematron
Ltd., a United Kingdom corporation, and NemaSoft, Inc. ("NemaSoft") and
Imagination Systems, Inc., ("ISI") both Michigan corporations. All significant
intercompany transactions and balances have been eliminated in consolidation.
In the opinion of management, all adjustments (consisting solely of normal
recurring adjustments) considered necessary for a fair presentation of the
consolidated financial statements for the interim periods have been included.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted pursuant to the Securities and Exchange
Commission's rules and regulations, although the Company believes that the
disclosures are adequate to make the information presented not misleading. It is
suggested that these condensed consolidated financial statements should be read
in conjunction with the consolidated financial statements and notes thereto
included in the Company's latest annual report on Form 10-KSB and amendments
thereto, and in the transition report for the three months ended December 31,
1998.
Certain reclassifications have been made to the fiscal 1998 presentation to
conform to classifications used in fiscal 1999.
The Company has changed its fiscal year end from September 30 to December 31,
and filed a transition report for the three month period ended December 31,
1998.
The results of operations for the three-month periods ended March 31, 1999 and
1998 are not necessarily indicative of the results to be expected for the full
year.
NOTE 2 - INVENTORIES
Inventories consist of the following at March 31, 1999 and December 31, 1998:
MARCH 31, 1999 DECEMBER 31, 1998
Purchased parts and accessories $ 1,223,839 $ 1,142,431
Work in process 157,620 307,762
Finished goods, demo units and service stock 292,654 434,142
---------- ----------
Total Inventory $ 1,674,113 $ 1,884,335
========= =========
NOTE 3 - CONVERTIBLE PROMISSORY NOTES
In December 1998, the Company issued convertible promissory notes (the
"Notes") in the aggregate principal amount of $1 million with 18 investors in a
private placement (collectively, the "Note Holders") as the first stage of a
capital transaction, under which the Company raised a total of approximately $4
million of equity. The Notes bore interest at the rate of seven percent (7%) per
annum, were due and payable, with accrued interest, on the later of March 31,
1999 or 5 days following the date of shareholder approval of the capital
transaction. The Notes were not transferable without the Company's consent. The
Notes and accrued interest thereon were convertible by the Note Holders into
Common Stock at $.25 per share (the "Conversion Price"). In February and March
1999, certain Note Holders converted $169,863 of Notes and received 679,450
shares of Common Stock. On April 7, 1999, following
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shareholder approval of the capital transaction on April 6, 1999, the remaining
$830,137 of Notes and $23,029 of accrued interest thereon were converted into
3,412,664 shares Common Stock.
NOTE 4 - SHORT-TERM AND LONG-TERM DEBT
The Company has entered into various amendments, through April 23, 1999, to the
September 1998 loan agreements with its primary bank lender which provide, among
other things, for a modification of certain terms of the Term Note, two
Equipment Notes and a Revolving Credit Note (the "Bank Agreements"). The Bank
Agreements contains various affirmative and negative covenants, with which the
Company is in compliance.
Under the terms of the Bank Agreements, the amount available under the Revolving
Credit Note was reduced from $5,000,000 to $4,000,000 on April 7, 1999,
following the private placement of $3,000,000 of Common Stock on the same date.
The credit availability is limited by a borrowing formula which allows for
advances up to a maximum of the sum of 80% of eligible domestic and foreign
accounts, plus 35% of inventory, less the amount of letters of credit issued by
the Company. Prior to the private placement, the formula also included a
Permitted Overadvance of $1,100,000. The interest rate on the credit line
borrowings is at the bank's prime interest rate plus 2% (9.75% effective rate at
March 31, 1999). Amounts borrowed under the line of credit are due in full on
October 31, 1999.
Long-term debt includes the following debt instruments at March 31, 1999, and
December 31, 1998:
MARCH 31, 1998 DECEMBER 31, 1998
Mortgage loan payable to bank $ 1,912,928 $ 1,956,474
Term note payable 1,100,000 1,170,000
Capitalized lease obligations and other notes 538,702 632,801
----------- -----------
Total long-term debt 3,551,630 3,759,275
Less current maturities (1,653,779) (1,576,492)
---------- ----------
Long-term debt, less current maturities $ 1,897,851 $ 2,182,783
========= =========
The mortgage loan agreement contains covenants that require the Company to
maintain a minimum tangible net worth and a minimum debt-to-equity ratio. The
Company is not in compliance with these covenants; however, the Company's
mortgage lender has waived these defaults through October 1, 1999.
The Bank Agreements include various affirmative and negative covenants, the most
restrictive of which are the prohibition of dividend payments and a requirement
to maintain a specified level of adjusted net income, as defined in the Bank
Agreements. These borrowings under the Bank Agreements are due October 31, 1999.
These notes totaling $1,283,568 and $1,487,017 at March 31, 1999 and December
31, 1998, respectively, are included in current maturities of long-term debt.
The Company intends to negotiate an extension of the due dates of the debt
instruments or to replace these borrowings with a new lender prior to the
expiration date of the Bank Agreements.
NOTE 5 - TAXES ON INCOME
The current tax benefit computed for the three-month periods ended March 31,
1999 and 1998 reflect the tax benefit associated with the amortization of
non-deductible goodwill and other intangible assets during the same periods.
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The Company has NOLs of approximately $19,400,000, which may be applied against
future taxable income. The NOLs expire beginning 2003 and run through 2013.
Utilization of these carryforwards is subject to annual limitations under
current Internal Revenue Service regulations. The Company has established a
valuation allowance for the estimated amount of the total limitation on the
utilization of the net operating loss carryforwards.
NOTE 6 - INCOME (LOSS) PER SHARE
Income (loss) per share ("EPS") is as follows:
Income (Loss) Shares Per Share
(Numerator) (Denominator) Amount
--------- ----------- ------
THREE MONTHS ENDED MARCH 31, 1999:
BASIC EPS:
Net income $ 212,790 5,615,288 $ 0.04
EFFECT OF DILUTIVE SECURITIES:
Options 16,128 4,366,173 (0.02)
---------- --------- -----
DILUTED EPS:
Net income available to common
Shareholders plus assumed conversion $ 228,918 9,981,461 $ 0.02
========= ========= =====
THREE MONTHS ENDED MARCH 31, 1998:
BASIC EPS:
Net loss $ (1,131,159) 5,342,842 $(0.21)
EFFECT OF DILUTIVE SECURITIES:
None -0- -0- 0.00
----------- --------- -----
DILUTED EPS:
Net income available to common
Shareholders plus assumed conversion $ (1,131,159) 5,342,842 $(0.21)
=========== ========= =====
For the three months ended March 31, 1999, 598,806 options and 322,676 warrants
were outstanding but were not included in the computation of diluted EPS because
the exercise prices of the excluded options and warrants were greater than the
average market price of the common shares during the period. The options expire
on various dates between 2003 and 2009, and the warrants expire between February
2000 and October 2002.
For the three months ended March 31, 1998, 825,937 options and 322,676 warrants
were outstanding but were not included in the computation of diluted EPS because
the inclusion of these securities would have an antidilutive effect on loss per
share during the three months ended March 31, 1998. The options expire on
various dates between 2003 and 2009, and the warrants expire between February
2000 and October 2002.
In April 1999 the Company issued a total of 6,492,664 shares of Common Stock in
connection with the capital transaction described in Notes 3 and 8. Of this
total, 3,996,583 shares have been accounted for in the diluted EPS computation
for the three month period ended March 31, 1999. If the Common Stock issuances
had occurred as of the beginning of the three-month period ended March 31, 1999,
an additional 2,496,081 shares of Common Stock would have been outstanding for
the period, resulting in a diluted EPS of $0.02.
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NOTE 7 - CONTINGENCIES
On May 8, 1998, a lawsuit was filed against the Company in the District
Court for the Southern District of New York, and in December 1998, the case was
transferred to the United States District Court for the Eastern District of
Michigan. The lawsuit named as defendants the Company, certain of its officers
and directors, its former independent auditor and the underwriter for the
Company's initial public offering. The plaintiffs sought to represent a class of
shareholders who purchased the Company's common stock from January 31, 1996
through April 28, 1998. An amended complaint filed by the plaintiffs in October
1998 claimed violations of securities laws and common law based on allegations
that defendants made untrue statements of material facts and that they omitted
material facts necessary in order to make the statements not misleading. The
complaint sought unspecified damages and costs. In April 1999, the Court granted
the Company's motion to dismiss the suit, although the plaintiffs have the right
to amend their complaint and file an appeal.
NOTE 8 - SUBSEQUENT EVENTS
In April 1999 the Company's shareholders approved a two stage capital
transaction. Stage one included the issuance of $1,000,000 of Notes, as
described in Note 3 above, and stage two included the conversion of options
included in such Notes and the private placement of securities. In February and
March 1999, certain note holders converted $169,863 of Notes and received
679,450 shares of Common Stock. Following shareholder approval, the remaining
$830,137 of Notes and $23,029 of accrued interest thereon were converted into
3,412,664 shares of Common Stock. As a result of the completion of the first
stage of the capital transaction, a total of 4,092,114 shares of Common Stock
were issued. In April 1999 the Company completed the second stage of the capital
transaction. As a result thereof, the Company issued a total of 3,080,000 shares
of Common Stock at $1.00 per share upon the exercise of the options and the
private placement. (See Note 3).
In April 1999, the Company's shareholders approved an amendment to the
Company's Articles of Incorporation to increase the number of authorized shares
of Common Stock from 15 million to 30 million.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS
THREE MONTHS ENDED MARCH 31, 1999 COMPARED WITH THREE MONTHS ENDED
MARCH 31, 1998
Net revenues for the first quarter of 1999 increased $863,000 (17.5%)
to $5,806,000 compared to the same period last year. The increase is
attributable to an increase in sales of bundled Industrial Control Computers,
partially offset by slightly lower sales of software products. Management
expects that net revenues for the last nine months of 1999 will increase
compared to the year earlier period. This net revenue increase is expected based
on existing scheduled production releases, expected shipments under current
supply contracts and the current backlog.
Gross profit for the first quarter of 1999 increased $333,000 (21.7%)
to $1,870,000 compared to the same period last year. Gross profit as a
percentage of sales in the first quarter of 1999 was 32.2% compared to 31.1% in
the same period last year. The improvement in gross profit percentage results
from a higher percentage of sales of higher margin bundled hardware/software
products in the current period compared to the same period last year. Management
expects that gross profit margins will remain relatively constant throughout the
year as the mix of sales in the remaining quarters of 1999 is expected to be
similar to the sales mix experienced in the first quarter of the year based on
the current backlog.
Product development expenses for the first quarter of 1999 decreased
$42,000 (18.1%) to $191,000 compared to the same period last year. The decrease
is attributable to a smaller development staff and less development efforts in
the current period compared to a year ago. Management expects that product
development expenses will increase slightly in the remaining quarters of 1999 as
staff and development efforts are planned to increase above current levels to
develop and release new products in 1999.
Selling, general and administrative expenses for the first quarter of
1999 decreased $1,135,000 (48.1%) to $1,225,000 compared to the comparable
period of last year and decreased as a percentage of net revenue to 21.1% in the
first quarter of 1999 from 47.7% in the comparable period last year. The
decrease was primarily a result of lower staff levels, the effects of closing of
satellite offices during the last six months, and the effects of cost controls
during the current period. Management expects that selling, general and
administrative expenses will increase in the remaining quarters of 1999 because
of expanded marketing and sales activities, but that such expenses will decrease
as a percentage of net revenues as net revenues are expected to increase by a
greater amount in the remaining quarters of 1999.
Interest expense from use of funds for the first quarter of 1999
increased $90,000 (56.0%) to $250,000 compared to $160,000 for the comparable
period last year due to higher average borrowing levels and higher effective
interest rates on the line of credit borrowings.
Sundry expense for the first quarter of 1999 increased by $17,000
compared to the same period last year primarily because of losses on property
disposals.
YEAR 2000 ISSUE
The Year 2000 Issue ("Y2K") is the result of certain computer programs
being written using two digits rather than four digits to define the applicable
year. Computer systems with a Y2K problem will be unable to interpret dates
beyond the year 1999, which could cause a system failure or other computer
errors, leading to disruptions in operations. In 1997, the Company began to
assess its Y2K readiness and adopted a three-phase program for Y2K information
systems compliance. Phase I is the identification of systems and products with
which the Company has exposure to Y2K issues. Phase II encompasses the
development and implementation of action plans to be Y2K compliant in all areas
by mid-1999. Phase III includes final testing of each major area of exposure to
ensure compliance. The Company has identified four major areas determined to be
critical for successful Y2K compliance: (1) financial and information system
applications; (2) software products currently sold; (3) third-party
relationships and 4) non-information technology areas such as security,
telephone systems and climate control systems.
The Company has finished Phase I of its program. The Company has
contacted all significant software suppliers and, due to recent implementation
of its major financial and operational software,
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believes that its financial and operational software is Y2K compliant. The
Company has also reviewed its financial and information system applications, as
well as its hardware and software products for Y2K compliance, including the
firmware embedded in certain hardware products. The Company has determined that
its major financial and operational software and the systems used in
non-information technology areas, such as security, telephone systems and
climate control systems, are Y2K compliant. The Company has used its employee
engineers and others in its review and testing procedures.
The Company has one older software product, used by purchasers of the
product for monitoring and testing in a test cell environment (not related to
machine control) which had to be modified to correct a Y2K problem. The
modification has been completed at a cost of approximately $30,000, all of which
related to the salary and benefits of software development employees of the
Company, and such cost was funded from working capital. The Company has notified
its customers that a solution is currently available for purchase.
The Company has relationships with, and is to varying degrees dependent
upon, various third parties that provide funds, information, goods and services
to the Company. These include the Company's bank lender, utility providers,
stock transfer agent, and suppliers of components. The Company is attempting,
through informal contacts, to assess the compliance of these third parties.
While not all parties have informed the Company as to their status, the most
significant of these third parties have represented that their systems and
products are Y2K compliant. The Company will continue with this assessment in
the next two quarters of 1999. The Y2K compliance of the systems of these third
parties is outside the Company's control and there can be no assurance that
these third parties will by Y2K compliant.
Because the Company expects that the systems within its control will be
Y2K compliant before the end of 1999, the Company believes that the most
reasonably likely worst case scenario is a compliance failure by one or more of
the third parties described above. Such a failure would likely have an effect on
the Company's business, financial condition and results of operations. The
magnitude of that effect, however, cannot be quantified at this time because of
variables such as the type and importance of the third party, the possible
effect on the Company's operations and the Company's ability to respond. Thus,
there can be no assurance that there will not be a material adverse effect on
the Company if such third parties do not remediate their systems in a timely
manner and in a way that is compatible with the Company's systems.
As a result, the Company will develop contingency plans that assume
some estimated level of noncompliance by, or business disruption to, these third
parties. The Company intends to have contingency plans developed by the end of
the third quarter of 1999 for third parties determined to be at high risk of
noncompliance or business disruption or whose noncompliance or disruption, while
not high risk, is considered likely to materially affect the Company. The
contingency plans will be developed on a case-by-case basis, and may include
plans for switching to Y2K compliant suppliers.
Judgments regarding contingency plans are subject to many uncertainties
and there can be no assurance that the Company will correctly anticipate the
level, impact or duration of noncompliance or that its contingency plans will be
sufficient to mitigate the impact of any noncompliance. Some material adverse
effect to the Company may result despite such contingency plans.
To date, the Company has expended approximately $50,000 in incremental
costs to assess and remediate Y2K problems. Existing engineering and application
support and other Company personnel have expended these efforts. These costs
have been expensed as incurred. The Company estimates additional Y2K remediation
costs of $20,000 incrementally over the next three quarters. Estimates of time,
cost and risks are based on currently available information. Developments that
could affect estimates include, without limitation, the availability of trained
personnel, the ability to locate and correct all noncompliant systems,
cooperation and remediation success of third parties material to the Company,
and the ability to correctly anticipate risks and implement suitable contingency
plans in the event of system failures at the Company or third parties.
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LIQUIDITY AND CAPITAL RESOURCES
As of December 1, 1998, the Company executed and delivered convertible
promissory notes (the "Notes") in the aggregate principal amount of $1 million
to 18 investors in a private placement (collectively, the "Note Holders"). The
Notes bore interest at the rate of seven percent (7%) per annum, were due and
payable, with accrued interest, on March 31, 1999 (except as described below)
and were not transferable without the Company's consent. The Notes were payable
by the Company with Common Stock valued at $.25 per share and were convertible
by the Note Holders into Common Stock at $.25 per share (the "Conversion
Price"). In February 1999, 679,450 shares of Common Stock were issued to certain
Note Holders who converted $169,863 of Notes. In April 1999, the Note Holders
converted all remaining Notes and accrued interest thereon into 3,412,664
additional shares of Common Stock, bringing the total shares of Common Stock
issued pursuant to the conversion of Notes and accrued interest thereon to
4,092,114 shares.
In contemplation of the second stage of the Company's financing plan,
the Company was to raise an additional $3 million. Five of the Note Holders,
including directors Mr. Nichols, Mr. Globus and two of his affiliates and Mr.
Hershey (on behalf of J. Eric May), expressed a willingness to invest additional
funds in the Company's Common Stock and were granted, in connection with their
purchase of Notes as of December 1, 1998, options to acquire additional Notes
with an aggregate principal amount of $1,250,000 on or before January 31, 1999
(the "Options"). As of January 12, 1999, the terms of the Options were amended
to provide that (i) the Options expire on the earlier of April 30, 1999 and the
fifth business day after receipt of shareholder approval of the issuance of the
shares, (ii) the Option holders together have the right to purchase a total of
1,250,000 shares of Common Stock, rather than Notes convertible into Common
Stock (subject to receipt of the shareholder approval) and (iii) the exercise
price of the Options is $1.00 per share, rather than $.25. The Notes held by
these five investors were also amended to extend the maturity of the Notes from
March 31, 1999 to coincide with the termination of the Options -- the earlier of
April 30, 1999 and the fifth business day after receipt of shareholder approval.
Option holders purchased 425,000 shares of Common Stock at $1.00 per share on
April 7, 1999. The Company raised an additional $2,655,000 through the sale of
an additional 2,655,000 shares of Common Stock on April 7, 1999, following the
receipt of shareholder approval of such issuance. Of this amount, $1,500,000 had
been received prior to March 31, 1999 and is reflected on the balance sheet as
cash and as funds held in escrow.
The Company is party to a series of agreements with its primary bank
lender under which it has a term note, two equipment notes and a bank line of
credit. The bank line of credit permits borrowing up to $4,000,000, subject to
an availability formula based upon a percentage of eligible accounts receivable
and inventory, reduced by letters of credit issued by the Company. At April 30,
1999, approximately $350,000 was outstanding on the line, $2,000,000 is reserved
in connection with a letter of credit issued to a contract manufacturer, and the
additional line availability was approximately $320,000. The expiration date of
the line of credit has been extended to October 31, 1999. Amounts borrowed under
the facility bear interest at prime plus 2.0% (9.75% effective rate at March 31,
1999).
Prior to the expiration of the line of credit on October 31, 1999, the
Company plans to negotiate an extension of the expiration date of the line of
credit. However, there can be no assurance that the lender will renew the credit
line, the term notes and equipment notes. Consequently, if negotiations to
extend the credit line fail, management will seek financing from other financing
sources, which may not materialize, or if such sources are available, the cost
of such arrangement may be significantly higher than the current bank agreement.
The Company also successfully negotiated the conversion of $1.7 million
of trade accounts payable into short-term trade notes. The Company is current
with the revised terms of the trade notes, which expire at various dates through
October 31, 1999.
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Management estimates that as a result of the capital infusion discussed
above, the extended terms of the trade notes and the extension of the bank
agreements through October 31, 1999, it has sufficient liquidity to satisfy its
liabilities as they become due. Management plans to negotiate with the bank to
extend the terms of the bank agreements prior to their expiration dates. Based
upon its expectation that these agreements will be successfully renewed and that
operations provide working capital as planned, the Company expects to have
sufficient long-term liquidity. If the bank agreements are not successfully
negotiated, the Company will seek other lenders and expects that the credit
terms will not differ materially from existing terms.
UNCERTAINTIES RELATING TO FORWARD LOOKING STATEMENTS
"Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations" includes "forward-looking statements" (as defined in
the federal securities laws) based on current management expectations. Factors
that could cause future results to differ from these expectations include the
failure of the bank to renew its line of credit agreement when borrowings
thereunder become due or the failure of the Company to secure a replacement
lender, the decline of economic conditions in general and conditions in the
automotive manufacturing industry in particular, a reduction in demand for the
Company's products and services, decreases in orders under existing contracts,
the inability of the Company to successfully implement its strategy to lead the
industrial automation market migration from closed architecture PLCs to open
architecture PC-based solutions, changes in Company strategy, reductions in
product life cycles, competitive factors (including the introduction or
enhancement of competitive products), pricing pressures which result in
materially reduced selling prices for the Company's products, shifts in sales
mix to less profitable products, raw material price increases or unavailability,
delays in introduction of planned hardware and software products, software
defects and latent technological deficiencies in new products, changes in
operating expenses, fluctuations in foreign exchange rates, the inability to
attract or retain sales, marketing and engineering talent, changes in customer
requirements, unexpected Y2K issues in the Company's products or systems,
evolving industry standards, and any additional factors described in the
Company's other reports filed with the Securities and Exchange Commission.
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PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On May 8, 1998, a lawsuit was filed against the Company in the District
Court for the Southern District of New York, and in December 1998, the case was
transferred to the United States District Court for the Eastern District of
Michigan. The lawsuit named as defendants the Company, certain of its officers
and directors, its former independent auditor and the underwriter for the
Company's initial public offering. The plaintiffs sought to represent a class of
shareholders who purchased the Company's common stock from January 31, 1996
through April 28, 1998. An amended complaint filed by the plaintiffs in October
1998 claimed violations of securities laws and common law based on allegations
that defendants made untrue statements of material facts and that they omitted
material facts necessary in order to make the statements not misleading. The
complaint sought unspecified damages and costs. In April 1999, the Court granted
the Company's motion to dismiss the suit, although the plaintiffs have the right
to amend their complaint and file an appeal.
On October 14, 1998, a former employee filed a complaint in the
District Court in Virginia against the Company alleging that she was terminated
illegally and in retaliation for her complaints regarding sexual harassment in
the workplace. Plaintiff sought damages of $500,000. The same plaintiff had
filed an EEOC complaint in May 1998 alleging improper dismissal relating to
sexual harassment, and the EEOC complaint was denied in June 1998. In January
1999, plaintiff's lawsuit was dismissed with prejudice.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
(c) The Company issued 679,450 shares of its Common Stock at $0.25 per
share upon the conversion of convertible promissory notes held by Mr.
James A. Nichols, a director of the Company, and one of his affiliates,
an affiliate of Mr. Michael L. Hershey, a director of the Company, and
two other individuals. The Company issued the Common Stock without
registration under the Securities Act of 1933 (the "Act") in reliance
upon Section 3(a)(9) of the Act. The Company relied upon this exemption
because the issuance was an exchange of securities exclusively with its
existing security holders and no commission or other remuneration was
paid or given directly or indirectly for the exchange.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits included herewith are set forth on the Index to Exhibits, which is
incorporated herein.
(b) The Company filed no reports on Form 8-K during the quarter ended March 31,
1999.
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SIGNATURES
In accordance with the requirements of the Securities Exchange Act of 1934, the
registrant has caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
NEMATRON CORPORATION
BY:
MAY 7, 1999 /S/ MATTHEW S. GALVEZ
- -------------------------------- ------------------------------------
DATE MATTHEW S. GALVEZ, PRESIDENT & COO
(DULY AUTHORIZED OFFICER)
MAY 7, 1999 /S/ DAVID P. GIENAPP
- -------------------------------- -----------------------------------
DATE DAVID P. GIENAPP, EXECUTIVE VICE PRESIDENT -
FINANCE &ADMINISTRATION
(CHIEF ACCOUNTING OFFICER)
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INDEX TO EXHIBITS
Exhibit Number Description of Exhibit
4.1 Amended and Restated Convertible Promissory Notes,
dated as of January 12 1999 (amending Convertible
Promissory Notes dated as of December 1, 1998)
10.1 Second Amendment to Repayment Agreement and Fifth
Amendment to Loan Agreement dated as of January 31,
1999 by and between KeyBank National Association and
the Company, filed as Exhibit 10.1 to the Company's
10-QSB for the period ended December 31, 1998 and
incorporated herein by reference
10.2 Third Amendment to Repayment Agreement and Sixth
Amendment to Loan Agreement dated as of April 23,
1999 by and between KeyBank National Association and
the Company
10.3 Long-Term Incentive Plan
27 Financial Data Schedule