1
FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(Mark One)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended October 2, 1999
---------------
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from_____________to_______________
Commission file number 1-12198
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FERROFLUIDICS CORPORATION
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(Exact name of registrant as specified in its charter)
Massachusetts 02-0275185
----------------------------- -------------------
(State or other jurisdiction of (I.R.S.Employer
incorporation or organization Identification No.)
40 Simon Street,
Nashua, New Hampshire 03060
---------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
(Registrant's telephone number, including area code) (603) 883-9800
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(Former name, former address and former fiscal year, if
changed since last report.)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
(1) Yes X No
--- ---
(2) Yes X No
--- ---
Indicate the number of shares outstanding of each of the Registrant's classes of
Common Stock, as of October 29, 1999.
Common Stock, $.004 par value per share 6,226,675
- ---------------------------------------- --------------
(Class) (No. of Shares)
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TABLE OF CONTENTS
Page Nos.
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Part I. Financial Information
Item 1. Financial Statements
Consolidated Balance Sheets -
October 2, 1999 and July 3, 1999 3
Consolidated Statements of Operations -
Three Months Ended October 2, 1999 and September 26, 1998 4
Consolidated Statements of Cash Flows -
Three months Ended October 2, 1999 and September 26, 1998 5
Notes to Consolidated Financial Statements 6 - 10
Item 2. Management's Discussion and Analysis of Results of
Operations and Financial Position 11 - 17
Part II. Other Information 17
Signatures 18
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PART I. FINANCIAL INFORMATION
ITEM 1.
FERROFLUIDICS CORPORATION
CONSOLIDATED BALANCE SHEETS
October 2, 1999 and July 3, 1999
October 2, 1999 July 3, 1999
--------------- ------------
(unaudited) (note)
ASSETS
- ------
Current Assets:
Cash and cash equivalents $ 8,396,000 $ 8,038,000
Accounts receivable - trade, less allowance
for doubtful accounts of $278,000 at
October 2, 1999 and $260,000 at July 3, 1999 4,784,000 3,855,000
Inventories 5,367,000 6,325,000
Prepaid and other current assets 430,000 246,000
------------ ------------
Total Current Assets 18,977,000 18,464,000
------------ ------------
Property, plant and equipment, at cost, net
of accumulated depreciation of $11,485,000 at
October 2, 1999 and $11,205,000 at July 3, 1999 6,387,000 6,403,000
Cash value of life insurance 2,119,000 2,097,000
Deferred income taxes, net 1,139,000 1,139,000
Other assets, principally goodwill 817,000 820,000
------------ ------------
TOTAL ASSETS $ 29,439,000 $ 28,923,000
============ ============
LIABILITIES
- -----------
Current Liabilities:
Accounts payable $ 1,784,000 $ 1,627,000
Accrued expenses 1,995,000 1,742,000
------------ ------------
Total Current Liabilities 3,779,000 3,369,000
------------ ------------
Long-term debt obligations 5,000,000 5,000,000
Other liabilities 25,000 25,000
STOCKHOLDERS' EQUITY
- --------------------
Preferred stock, $.001 par value, authorized
100,000 shares, issued and outstanding, none -- --
Common stock, $.004 par value, authorized
12,500,000 shares, issued and outstanding 6,226,675 shares 25,000 25,000
Additional paid-in capital 36,764,000 36,764,000
Retained deficit (12,151,000) (12,600,000)
Currency translation adjustments (1,374,000) (1,461,000)
------------ ------------
23,264,000 22,728,000
Treasury stock, at cost, 652,498 shares (553,998 shares at July 3, 1999) 2,629,000 2,199,000
------------ ------------
Total Stockholders' Equity 20,635,000 20,529,000
------------ ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 29,439,000 $ 28,923,000
============ ============
Note: The balance sheet at July 3, 1999 has been derived from the audited
financial statements at that date but does not include all of the information
and footnotes required by generally accepted accounting principles for complete
financial statements.
The accompanying notes are an integral part of the consolidated financial
statements.
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FERROFLUIDICS CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Three Months Ended October 2, 1999 and September 26, 1998
(unaudited)
1999 1998
---- ----
Net sales $ 6,555,000 $ 5,950,000
Cost of sales 3,540,000 3,747,000
----------- -----------
Gross profit 3,015,000 2,203,000
Operating expenses:
Engineering and product development expenses 477,000 568,000
Selling, general and administrative expense 1,984,000 1,954,000
----------- -----------
Operating Income (loss) 554,000 (319,000)
Interest income 100,000 2,000
Interest expense (63,000) (153,000)
Other income, net 47,000 40,000
----------- -----------
Income (loss) from continuing operations before income taxes 638,000 (430,000)
Income taxes 189,000 1,000
----------- -----------
Income (loss) from continuing operations 449,000 (431,000)
Discontinued operations--Note D:
Gain on disposal of discontinued division, less applicable
income taxes of $1,400,000 -- 5,253,000
----------- -----------
Net income $ 449,000 $ 4,822,000
=========== ===========
Per Share:
Income (loss) from continuing operations:
Basic $ 0.08 $ (0.07)
Diluted $ 0.08 $ (0.07)
Income from discontinued operations:
Basic $ -- $ 0.85
Diluted $ -- $ 0.85
Net income:
Basic $ 0.08 $ 0.78
Diluted $ 0.08 $ 0.78
Weighted average common shares outstanding:
Basic 5,598,407 6,218,581
Diluted 5,629,602 6,218,581
The accompanying notes are an integral part of the consolidated financial
statements.
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FERROFLUIDICS CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Three Months Ended October 2, 1999 and September 26, 1998
(unaudited)
1999 1998
---- ----
Cash flows from operating activities:
Net income $ 449,000 $ 4,822,000
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 315,000 429,000
Deferred income taxes -- 1,400,000
Increase in cash surrender value (22,000) (38,000)
Gain on disposal of discontinued division -- (6,653,000)
Gain on sale of assets -- (2,000)
Stock-related compensation -- 23,000
Foreign currency transaction gains (73,000) (131,000)
Other 1,000 (394,000)
Changes in operating assets and liabilities:
Accounts receivable, net (833,000) 3,686,000
Inventories 1,024,000 (1,683,000)
Prepaid and other current assets (180,000) 132,000
Accounts payable and accrued expenses 289,000 (1,439,000)
Customer deposits -- (11,000)
----------- ------------
Net cash provided by operating activities 970,000 141,000
----------- ------------
Cash flow from investing activities:
Acquisition of property, plant, equipment (215,000) (104,000)
Proceeds from sale of assets -- 1,390,000
Proceeds from the disposal of Systems Division -- 10,800,000
----------- ------------
Net cash (used in) provided by investing activities (215,000) 12,086,000
----------- ------------
Cash flow from financing activities:
Purchase of treasury stock (430,000) --
Proceeds from (repayments of) short term borrowings, net -- (9,288,000)
----------- ------------
Net cash used in financing activities (430,000) (9,288,000)
----------- ------------
Effect of currency rate changes on cash 33,000 108,000
----------- ------------
Net increase in cash and cash equivalents 358,000 3,047,000
----------- ------------
Cash and cash equivalents at beginning of period 8,038,000 1,516,000
----------- ------------
Cash and cash equivalents at end of period $ 8,396,000 $ 4,563,000
=========== ============
Cash paid for interest and income taxes for the three months ended
October 2, 1999 and September 26, 1998 is as follows:
1999 1998
---- ----
Interest $63,000 $284,000
Income taxes, net $84,000 $ 1,000
The accompanying notes are an integral part of the consolidated financial
statements.
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FERROFLUIDICS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
A. BASIS OF PRESENTATION
The accompanying consolidated financial statements of Ferrofluidics
Corporation and its subsidiaries (the "Company") have been prepared in
accordance with generally accepted accounting principles for interim financial
information and in accordance with the instructions to Form 10-Q and Rule 10-01
of Regulation S-X. They do not therefore include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. The results of operations of any interim period are subject to
year-end adjustments, and are not necessarily indicative of the results of
operations for the fiscal year. For further information, refer to the
consolidated financial statements and the footnotes thereto included in the
Company's Annual Report on Form 10-K for the year ended July 3, 1999 ("fiscal
1999").
B. INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out) or
market. Inventories are comprised of the following elements at October 2, 1999
and July 3, 1999:
October 2, 1999 July 3, 1999
--------------- ------------
Raw materials and purchased parts $1,781,000 $1,756,000
Work-in-process 1,327,000 1,725,000
Finished goods 2,259,000 2,844,000
---------- ----------
$5,367,000 $6,325,000
========== ==========
At October 2, 1999 and July 3, 1999, the above balances include
approximately $700,000 and $1,411,000, respectively, of inventory relating to
the former Systems Division. The Company has purchase contracts for inventory
with various suppliers which, in some cases, extend beyond two years. At October
2, 1999 and July 3, 1999, outstanding purchase commitments pursuant to these
contracts totaled approximately $3,917,000 and $3,219,000, respectively.
C. SHORT-TERM BORROWINGS AND OTHER DEBT OBLIGATIONS
The Company has available to it a total credit facility with its bank of
approximately $7,900,000, which includes approximately $5,400,000 in the form of
a stand-by letter of credit for the Company's $5,000,000 Variable Rate
Industrial Revenue Bond ("VRIRB"), and $2,500,000 revolving line of credit for
working capital purposes. The credit facility is collateralized by substantially
all of the assets of the Company. At October 2, 1999, there were no borrowings
outstanding under the line of credit. The line of credit expires at the end of
November 1999 and management has begun discussions with its bank to renew the
line of credit at a level which management believes will be in line with the
working capital needs in the continuing operations.
D. DISCONTINUED OPERATIONS
On September 23, 1998, the Company sold certain assets of the Systems
Division to General Signal Technology Corporation, an SPX Corporation company
("General Signal"), for $10,800,000 in cash (the "Systems Division Sale").
Assets sold included approximately $2,818,000 in inventory, and approximately
$625,000 in fixed assets and intangibles. As discussed below, the Systems
Division is currently being operated by the Company only to complete existing
backlog. After providing for transaction fees of $333,000 and income taxes of
$1,400,000, the Company recorded a gain on the Systems Division Sale of
$5,253,000 during fiscal 1999. The gain on the Systems Division Sale is net of
an operating loss of $368,000 that was incurred by the Systems Division during
the quarter ended September 26, 1998. For the period from September 27, 1998 to
October 2, 1999, the Systems Division's operations were approximately
break-even. The Company also
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anticipates approximately break-even operations for the Systems Division through
the end of the phase-out period, which is expected to end on or about November
27, 1999.
The Systems Division represented a separate line of business and,
accordingly, its net operating results have been reported, net of applicable
income taxes, as discontinued operations for all periods through June 29, 1998,
the date management decided to dispose of the Systems Division. The Systems
Division Sale, as structured, did not include any Systems Division accounts
receivable or liabilities, which remained with the Company. The Systems Division
Sale also did not include the obligation by the Company to complete
approximately $18,433,000 ($840,000 at October 2, 1999) in Systems Division
backlog, nor did it include approximately $5,873,000 ($700,000 at October 2,
1999) in inventory on hand on the date of the Systems Division Sale, all of
which was needed to fulfill existing backlog. The terms of the Systems Division
Sale provided that, generally, any backlog existing on December 31, 1998, would
be transferred to General Signal. The remaining backlog at October 2, 1999,
however, will be completed and shipped by the Company as agreed to by General
Signal. The backlog at September 23, 1998 included a purchase order from a
customer for nine machines (valued at approximately $7,658,000) for which the
customer did not provide firm delivery dates. On December 26, 1998, the customer
canceled delivery of the nine machines. In connection with these machines and
other orders, on September 23, 1998, the Company had inventory of approximately
$1,712,000 on hand and approximately $2,471,000 in parts on order at vendors.
Prior to June 15, 1999, the Company had settled almost all of its commitments
with its vendors at a cost of approximately $1,765,000, which had been
considered in calculating the estimated gain on disposal of the Systems Division
reflected during the first quarter of fiscal 1999. On June 15, 1999, the Company
and its customer negotiated a settlement with respect to the canceled delivery
of the nine machines, which settlement had no adverse financial impact to the
Company. The remaining backlog at October 2, 1999 of $840,000 is planned to be
completed and shipped in the second quarter of fiscal 2000.
The Systems Division Sale also did not include approximately $6,472,000
($248,000 at October 2, 1999) in accounts receivable which were outstanding as
of the closing of the Systems Division Sale. The Company believes that it will
be able to collect the remaining $248,000 of these receivables, but there can be
no assurance that the Systems Division Sale will not adversely affect their
collectibility.
In addition to the Systems Division Sale, the Company, in December 1998,
decided to discontinue the Component Parts business of FJC, a wholly owned
subsidiary. The Company intends to dissolve FJC in fiscal 2000. The Component
Parts business of FJC represented a separate line of business and, accordingly,
its net operating results have been reported, net of any applicable income
taxes, as discontinued operations for all periods through December 22, 1998, the
date of the decision to dispose of the Component Parts business of FJC. No
significant gain or loss is expected from the discontinuance of this business.
For the period from June 28, 1998 to December 22, 1998, the Component Parts
business operations of FJC were approximately break-even. The Company also
anticipates approximately break-even operations for the Component Parts business
of FJC through the end of the phase-out period, which is expected to end on or
about November 27, 1999.
The net assets at October 2, 1999 of the discontinued divisions are summarized
as follows (000's omitted)
Current assets $ 957
Current liabilities (144)
-----
Net assets of the discontinued divisions $ 813
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E. INCOME TAXES
FASB Statement No. 109, Accounting for Income Taxes, requires a valuation
allowance against deferred tax assets if it is more likely than not that some or
all of the deferred tax assets will not be realized. Due to the uncertainty
surrounding the Company's ability to realize the benefit of the entire deferred
tax asset, a valuation allowance in the amount of $11,210,000 had been
established at July 3, 1999. However, based upon a current assessment of the
future earnings prospects for the Company through the first quarter of fiscal
2001, management has concluded that no further adjustment to the valuation
allowance was necessary as of October 2, 1999. The tax provision for the three
months ended October 2, 1999 relates primarily to foreign income taxes and state
income taxes.
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As of October 2, 1999, the Company had remaining net operating loss
carryforwards for Federal income tax purposes of approximately $33,333,000,
which can be used to offset future taxable income. The net operating loss
carryforwards for Federal income tax purposes will expire at various dates
through 2013. Included in the loss carryforward, for income tax purposes, is
approximately $16,800,000 of tax deductions resulting from the excess of the
market price over the exercise price on the date of exercise of the Company's
stock purchase options and warrants which were exercised during 1993 and prior
years. The tax benefit to be realized upon utilization of the $16,800,000 of
loss carryforwards will result in a decrease in current income taxes payable and
an increase to additional paid-in capital.
F. COMPREHENSIVE INCOME
The components of comprehensive income for the three-month periods ended
October 2, 1999 and September 26, 1998 are as follows:
Three months ended
-------------------------
10/2/99 9/26/98
-------- ----------
Net income $449,000 $4,822,000
Foreign currency translation adjustments 87,000 293,000
-------- ----------
Comprehensive income $536,000 $5,115,000
======== ==========
G. STOCK REPURCHASE PROGRAM
On February 23, 1999, the Company's Board of Directors authorized a stock
repurchase program whereby up to 1,000,000 shares of its common stock may be
purchased in the open market, as market and business conditions warrant, over
the next year. As of October 2, 1999, the Company had purchased a total of
652,498 shares of common stock for $2,629,000 and is holding such shares as
treasury stock. In July 1999, the Board of Directors suspended the stock
repurchase program and the program continues to be suspended pending the
proposed merger with Ferrotec Corporation ("Ferrotec"). See Note J for further
discussion of the proposed merger.
H. EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted
earnings per share for the three month periods which ended October 2, 1999 and
September 26, 1998:
1999 1998
---- ----
Numerator:
Income (loss) from continuing operations $ 449,000 $ (431,000)
Income from discontinued operations -- 5,253,000
---------- -----------
Net income $ 449,000 $ 4,822,000
========== ===========
Denominator:
Denominator for basic earnings per share -
weighted average shares 5,598,407 6,218,581
Effect of dilutive securities:
Employee stock options 31,195 --
Non-vested restricted stock awards -- --
---------- -----------
Dilutive potential common shares 31,195 --
---------- -----------
Denominator for diluted earnings per share -
adjusted weighted average shares 5,629,602 6,218,581
========== ===========
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Per Share:
Income (loss) from continuing operations:
Basic $0.08 $(0.07)
Diluted $0.08 $(0.07)
Income from discontinued operations:
Basic - $ 0.85
Diluted - $ 0.85
Net income:
Basic $0.08 $ 0.78
Diluted $0.08 $ 0.78
At October 2, 1999 and September 26, 1998, options and warrants to purchase
338,175 shares at prices ranging from $4.66 to $13.00 per share and 543,259
shares at prices ranging from $3.50 to $13.50 per share, respectively, of common
stock were anti-dilutive and therefore were excluded from the computation of
diluted earnings per share.
I. SEGMENT AND GEOGRAPHIC INFORMATION
The following table presents financial information for the Company's
industry segments from continuing operations for the three-month periods ended
October 2, 1999 and September 26, 1998. All amounts are expressed in thousands
of dollars.
DISTRIBUTED
COMPONENTS PRODUCTS FLUIDS CONSOLIDATED
---------- -------- ------ ------------
THREE MONTHS ENDED OCTOBER 2, 1999:
Sales to unaffiliated customers $ 3,842 $2,004 $709 $6,555
======
Segment operating profit 1,466 43 107 $1,616
General corporate expenses (1,062)
------
Operating income $ 554
======
THREE MONTHS ENDED SEPTEMBER 26, 1998:
Sales to unaffiliated customers $ 2,545 $2,857 $548 $5,950
======
Segment operating profit 229 185 233 $ 647
General corporate expenses (966)
------
Operating loss $ (319)
======
The following is a summary of certain financial data from continuing
operations by geographic areas:
U.S. EUROPEAN
OPERATIONS OPERATIONS ELIMINATIONS TOTAL
---------- ---------- ------------ -----
THREE MONTHS ENDED OCTOBER 2, 1999:
Sales to unaffiliated domestic customers $ 2,734 $ -- $ -- $2,734
Sales to unaffiliated foreign customers 550 3,271 -- 3,821
Sales to subsidiaries 776 -- (776) --
------- ------ ----- ------
Total net sales 4,060 3,271 (776) $6,555
======
Geographic operating profit 1,389 235 (8) $1,616
General corporate expenses (1,062)
------
Operating income $ 554
======
THREE MONTHS ENDED SEPTEMBER 26, 1998:
Sales to unaffiliated domestic customers $ 1,987 $ -- $ -- $1,987
Sales to unaffiliated foreign customers 464 3,499 -- 3,963
Sales to subsidiaries 532 -- (532) --
------- ------ ----- ------
Total net sales 2,983 3,499 (532) $5,950
======
Geographic operating profit 392 267 (12) $ 647
General corporate expenses (966)
------
Operating loss $ (319)
======
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J. PROPOSED MERGER
On October 20, 1999, the Company announced that it had entered into an
Agreement and Plan of Merger to be acquired by Ferrotec Corporation ("Ferrotec")
pursuant to which Ferrotec Acquisition, Inc., a wholly-owned subsidiary of
Ferrotec, has made a cash tender offer for all of the outstanding shares of
common stock of the Company at a price of $6.50 per share. Based on the offer
price and outstanding shares at October 20, 1999 and the stock options that will
be exercisable as of completion of the tender offer, the transaction is valued
at approximately $38,919,000.
In the first quarter ended October 2, 1999, the Company recorded
merger-related transaction costs of approximately $250,000 primarily for
investment banking, legal and other fees. The transaction is expected to close
in the second quarter of fiscal 2000.
K. RECLASSIFICATION
Certain amounts for quarter ended September 26, 1998 have been reclassified
to conform with the presentation of similar amounts for the quarter ended
October 2, 1999.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL POSITION
The following discussion provides information to assist in the
understanding of the Company's results of operations unless otherwise noted, and
financial condition. As more fully described in Note D to the Consolidated
Financial Statements, on September 23, 1998, certain assets of the Company's
Systems Division were sold to General Signal for $10,800,000 in cash. In
addition to the Systems Division Sale, in December 1998, management also decided
to discontinue the Component Parts business of its wholly owned Japanese
subsidiary (Ferrofluidics Japan Corporation ("FJC")). This discussion reflects
the fact that in accordance with generally accepted accounting principles, the
Company is reporting the results of operations from the Systems Division and the
Component Parts business of FJC as discontinued operations and that the
Company's Consolidated Financial Statements for fiscal 1999 and prior periods
have been revised to reflect this accounting treatment of the Systems Division
and the Component Parts business of FJC in those periods. It should be read in
conjunction with the Consolidated Financial Statements and Notes thereto that
appear elsewhere herein.
RESULTS OF OPERATIONS
In the quarter ended October 2, 1999, the Company's continuing operations
had income of $449,000, or $0.08 per share (both basic and diluted), as compared
to a loss in the same period of last year of $431,000, or $0.07 per share (both
basic and diluted). Discontinued operations for the current quarter were
approximately break-even, and management continues to believe that the
operations through final phase-out, which is expected to be completed by the end
of November 1999, will be approximately break-even. Discontinued operations for
the first quarter of the prior fiscal year reflected the gain on the sale of the
Systems Division of $5,253,000 or $0.85 per share for the quarter. Net income
for the current quarter was $449,000, or $0.08 per share (both basic and
diluted) as compared to $4,822,000, or $0.78 per share (both basic and diluted)
in the quarter ended September 26, 1998. The decrease in net income in the
current fiscal quarter was due to the sale of the Systems Division in the first
quarter of fiscal 1999.
Net sales and revenues from continuing operations for the quarter ended
October 2, 1999 totaled $6,555,000 as compared to $5,950,000 in the same period
of the prior year. A comparison of the net sales and revenues by major product
line is as follows:
Three months ended
-----------------------------------
October 2, 1999 September 26, 1998
--------------- ------------------
Components $3,842,000 $2,545,000
Distributed products 2,004,000 2,857,000
Fluids 709,000 548,000
---------- ----------
Total net sales and revenues $6,555,000 $5,950,000
========== ==========
Sales of component parts for the three months ended October 2, 1999
increased by $1,297,000, or 51%, from the same period in the prior fiscal year.
The increase is due primarily to the strong recovery of the semi-conductor
industry from which the Company generates approximately 60% of its component
sales. The decrease in distributed product sales by Ferrofluidics GmbH, a
wholly-owned German subsidiary of the Company ("GmbH"), of approximately
$853,000, or 29.9%, in the current quarter is due a decrease in sales of the
Company's largest line of distributed products of approximately $582,000 from
the same quarter of the prior fiscal year. The decrease was due to primarily to
strong sales in Spain in the quarter ended September 26, 1998 relating to the
refurbishment of several systems which did not occur in the current quarter.
Generally, many of the systems in Europe were refurbished prior to fiscal 2000
so the decrease in revenue in the current quarter was expected. The remaining
decrease in sales of distributed products occurred in the United Kingdom which
was due to a decision made in fiscal 1999 to discontinue the sale of distributed
products in that marketplace. The increase in fluid sales of approximately
$161,000, or 29.4%, from the prior year is due to increased sales of audio
fluids and due to sales of fluids under its material separation program which is
a new revenue source for the Company in fiscal 2000. On a volume basis, unit
sales of fluids in the current quarter increased significantly over the same
period of the prior fiscal year. However, unit prices declined due to product
and geographical mix changes.
Consolidated gross margins for the first quarter of fiscal 2000 amounted to
46% of product sales as compared to 37% of product sales in the prior year's
first quarter. The significant improvement in gross margin in the first
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quarter of the current year compared to the same period in the prior year is due
principally to the increased sales of component parts, which resulted in
increased manufacturing efficiencies in the quarter. However, margins for fluids
decreased somewhat due to the above-mentioned shift in product and geographical
mix of sales as well as pricing pressure on audio fluids. Gross margin for
distributed products also decreased somewhat in the current fiscal quarter from
the same period in the prior year due to a decrease in the discount received on
purchases of its largest line of distributed products from its supplier in late
fiscal 1999.
Consolidated order bookings for the three months ended October 2, 1999
totaled $9,474,000 as compared to $5,588,000 in the same period of the prior
year. The increase is due primarily to an increase in components' bookings,
which is consistent with the increase in sales for the current quarter. Bookings
for the first quarter for distributed products by GmbH increased by 51.9% to
$2,876,000 as compared to $1,893,000 in the first quarter of fiscal 1999. The
increase in bookings is due to an increase in orders relating to the Company's
largest line of distributed products.
Consolidated backlog at October 2, 1999 was $9,028,000 as compared to
$6,536000 at July 3, 1999. The backlog of orders for components and fluids
products increased significantly from $3,905,000 at July 3, 1999 to $5,339,000
at October 2, 1999 while the backlog for distributed products increased from
$2,631,000 at July 3, 1999 to $3,689,000 at October 2, 1999. The majority of the
order backlog at October 2, 1999 is expected to ship in fiscal 2000.
Engineering and product development expenditures in the three months ended
October 2, 1999 totaled $477,000, a decrease of $91,000, or 16%, compared to
$568,000 in the same period last year. As a percentage of revenues, engineering
and product development expenses decreased from 9.5% in the September 1998
quarter to 7.3% in the current quarter. The decrease in the current quarter is
due to non-recurring costs incurred in the prior year relating to a development
project that was completed in the second quarter of fiscal 1999.
Selling, general and administrative expenses (SG&A) for the three months
ended October 2, 1999 totaled $1,984,000, which is similar to the $1,954,000
incurred in the same period of the prior year. However, the current fiscal
quarter includes about $250,000 in merger-related transaction costs relating to
the proposed merger with Ferrotec Corporation. See Note J to the Consolidated
Financial Statements and below for more information regarding the proposed
merger.
Interest expense of $63,000 for the three months ended October 2, 1999
decreased 58.8% from the $153,000 incurred during the same period in fiscal
1999.The decrease is due to the payoff of all short-term debt in the first
quarter of fiscal 1999 with the proceeds from the Systems Division Sale (see
Note D to the Consolidated Financial Statements regarding the Systems Division
Sale).
The tax provision for the current quarter relates primarily to foreign
income taxes and state income taxes. As of October 2, 1999, the Company had
remaining net operating loss carryforwards for Federal income tax purposes of
approximately $33,333,000, which can be used to offset future taxable income.
The net operating loss carryforwards for Federal income tax purposes will expire
at various dates through 2013. Included in the loss carryforward, for income tax
purposes, is approximately $16,800,000 of tax deductions resulting from the
excess of the market price over the exercise price on the date of exercise of
the Company's stock purchase options and warrants which were exercised during
1993 and prior years. The tax benefit to be realized upon utilization of the
$16,800,000 of loss carryforwards will result in a decrease in current income
taxes payable and an increase to additional paid-in capital.
LIQUIDITY AND CAPITAL RESOURCES
Net working capital at October 2, 1999 was $15,198,000, up slightly from
$15,095,000 at July 3, 1999. The overall increase in current assets and current
liabilities at October 2, 1999 is the result of the improvement in the overall
operations of the Company.
During the first quarter of fiscal 2000, cash flows from operations were
$970,000 as compared to $141,000 in the comparable period of fiscal 1999. The
increase was due principally to the $880,000 increase in income from continuing
operations in the current quarter from the same period in the prior year. At
October 2, 1999, the Company had purchase commitments for material of
approximately $3,917,000.
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Cash flow from investing activities during the three months ended October
2, 1999 consisted solely of the acquisition of property, plant and equipment.
For the quarter ended September 26, 1998, cash flow from investing activities
consisted almost entirely of proceeds from the sale of the Systems Division and
of a 300mm crystal growing system which resulted in the receipt of $1,385,000.
Financing activities of the Company during the three months ended October 2,
1999 included the purchase of 98,500 shares of common stock for $430,000. The
buyback was part of a stock buyback program initiated by the Company in February
1999. As of October 2, 1999, the Company had purchased 652,498 shares of common
stock for an aggregate purchase price of $2,629,000 and is holding such shares
as treasury stock. Financing activities for the quarter ended September 26, 1998
included the complete paydown of all short-term debt from the proceeds of the
sale of the Systems Division (see also Note D to the Consolidated Financial
Statements).
The Company has long-term financing in the form of a $5,000,000 Variable
Rate Industrial Revenue Bond ("VRIRB"). The VRIRB is subject to a variable rate
of interest keyed to short-term nontaxable rates (4.5% at October 2, 1999).
Under an arrangement with its bank, and throughout most of the quarter ended
September 26, 1998, the Company had available to it a total credit facility of
approximately $15,400,000, which included approximately $5,400,000 in the form
of a stand-by letter of credit for the Company's VRIRB, which expires in August
2000 and carries a fee of 1% per year, and an $8,500,000 revolving
line-of-credit for working capital purposes, $1,500,000 of which was in the form
of a 90 day promissory note which bore interest at the same rate as the
revolving line-of-credit. In addition, the Company had an installment demand
note with its bank ($422,000 outstanding at September 26, 1998) that was used to
finance the expansion of its in-house machine shop. The entire credit facility
was collateralized by substantially all of the assets of the Company.
On September 23, 1998, the date of the sale of the Systems Division, there
was approximately $7,907,000 outstanding against the revolving line-of-credit.
This amount, together with the $1,500,000 outstanding on the short-term
promissory note, was repaid from the proceeds of the sale of the Systems
Division (see Note D to the Consolidated Financial Statements and the discussion
below regarding the sale of the Systems Division). At the same time, the Company
and the bank agreed to reduce the availability under the revolving line of
credit to $2,000,000 to reflect the Company's reduced working capital needs
after the sale of the Systems Division. The interest rate on the revolving
line-of-credit was equal to the prime rate plus 1% with a fee of 1/8% on the
unused portion.
On September 30, 1999, the revolving line-of-credit was renewed at a level
of $2,500,000. Interest on the line is at prime plus .75% per year (9.0% at
October 2, 1999). Under the new arrangement with its bank, the Company has
available to it a total credit facility of approximately $7,900,000, which
includes the $5,400,000 standby letter of credit for the Company's VRIRB and the
revolving line-of-credit. The credit facility is collateralized by substantially
all the assets of the Company. At October 2, 1999, there were no borrowings
outstanding under the line. The line expires on November 30, 1999 and management
has begun discussions with its bank to renew the line of credit at a level which
management believes will be in line with the working capital needs in the
continuing operations.
As more fully described in Note D to the Consolidated Financial Statements,
certain of the assets of the Company's Systems Division were sold on September
23, 1998 to General Signal for $10,800,000 in cash (the "Systems Division
Sale"). Assets sold included approximately $2,818,000 in inventory, and
approximately $625,000 in fixed assets and intangibles. As discussed below, the
Systems Division is currently being operated by the Company only to complete
existing backlog. After providing for transaction fees of $333,000 and income
taxes of $1,400,000, the Company recorded a gain on the Systems Division Sale of
$5,253,000 during fiscal 1999. The gain on the Systems Division Sale is net of
an operating loss of $368,000 that was incurred by the Systems Division during
the quarter ended September 26, 1998. For the period from September 27, 1998 to
October 2, 1999, the Systems Division's operations were approximately
break-even. The Company also anticipates approximately break-even operations for
the Systems Division through the end of the phase-out period, which is expected
to end on or about November 27, 1999. As discussed above, a portion of the cash
proceeds from this Systems Division Sale had been used to pay off certain
outstanding debt as of the closing of the Systems Division Sale. The Systems
Division Sale, as structured, did not include any of the Systems Division
accounts receivable or liabilities, which remained with the Company. The Systems
Division Sale also did not include the obligation by the Company to complete
approximately $18,433,000 ($840,000 at October 2, 1999) in Systems Division
backlog, or approximately $5,873,000 ($700,000 at October 2, 1999) in inventory
on hand on
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the date of the Systems Division Sale, all of which was needed to fulfill such
backlog. The terms of the Systems Division Sale provided that, generally, any
backlog existing on December 31, 1998, would be transferred to General Signal.
The remaining backlog at October 2, 1999, however, will be completed and shipped
by the Company as agreed to by General Signal. The backlog at September 23, 1998
included a purchase order from a customer for nine machines (valued at
approximately $7,658,000) for which the customer did not provide firm delivery
dates. On December 26, 1998, the customer canceled delivery of the nine
machines. In connection with these machines and other orders, on September 23,
1998, the Company had inventory of approximately $1,712,000 on hand and
approximately $2,471,000 in parts on order at vendors. Prior to June 15, 1999,
the Company had settled almost all of its commitments with its vendors at a cost
of approximately $1,765,000, which had been considered in calculating the
estimated gain on disposal of the Systems Division reflected during the first
quarter of fiscal 1999. On June 15, 1999, the Company and its customer
negotiated a settlement with respect to the canceled delivery of the nine
machines, which settlement had no adverse financial impact to the Company. The
remaining backlog at October 2, 1999 of $840,000 is planned to be completed and
shipped in the second quarter of fiscal 2000.
The Systems Division Sale did not include approximately $6,472,000
($248,000 at October 2, 1999) in accounts receivable which were outstanding as
of the closing of the Systems Division Sale. The Company believes that it will
be able to collect the remaining $248,000 receivables, but there can be no
assurance that the Systems Division Sale has not adversely affected their
collectibility. See Note D to the Consolidated Financial Statements for a more
complete discussion of discontinued operations.
As discussed above, the present line of credit from the Company's Bank
expires on November 30, 1999 and management has begun discussions with its bank
to renew the line of credit at a level which management believes will be in line
with the working capital needs in the continuing operations. The proceeds
received from the Systems Division Sale and other cash flow have, however,
significantly reduced the Company's need for short-term borrowing arrangements
to finance working capital needs in the near future. Management therefore
believes that available cash and anticipated funds from operations and the
borrowing arrangements that are expected to be put into place will be adequate
to meet cash requirements for the year ahead.
YEAR 2000 READINESS DISCLOSURES
The Company is currently working to resolve the potential impact of the
Year 2000 on the processing of date-sensitive information by the Company's
computerized information systems. The Year 2000 problem is a result of computer
programs being written using two digits (rather than four) to define the
applicable year.
The Company's products in the Components and Fluids Businesses are
mechanical devices or fluids and do not contain any electronic components. The
Company's products in its Distributed Products Business include an electron beam
gun for use in vacuum deposition processes, which is electronically controlled,
but is Year 2000 compliant. Consequently, the Company has no need to make any
changes to its products in anticipation of the Year 2000.
Prior to the Systems Division Sale, the Division sold products that were
controlled by computerized hardware and software. The software involved was
purchased off-the-shelf, and was not customized by the Company, and accordingly,
some systems contain versions of the software that may not be Year 2000
compliant. The Company has made no express warranties with respect to Year 2000
compliance in connection with such products.
The Company has sent requests to all of its principal providers of services
and component parts to advise the Company of their progress in making their
internal systems Year 2000 compliant. The Company believes it has a sufficient
base of critical component suppliers so that if any supplier is unable to
deliver parts due to Year 2000 problems, alternate sources will be available and
that any supply interruption will not be material to its operations. There can
be no assurances, however, that the Company would be able to obtain all of its
supply requirements from such alternate sources on terms comparable with that of
its current suppliers. The Company has identified one critical service supplier
(its bank), the failure of whose systems for an extended period for any reason,
including Year 2000 problems, could cause financially material adverse
consequences to the Company. The bank has provided assurance in writing to the
Company that its systems now are Year 2000 compliant.
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With respect to its internal systems, the Company has undertaken an
assessment of its vulnerability to the Year 2000 issue. The Company does not
rely on electronic interaction with customers or vendors, and has in recent
years relied almost entirely on purchased off-the-shelf software packages for
both business and engineering purposes. The Company has not materially
customized these packages for its purposes. These software packages run on a
personal computer-based local area network which was installed by the Company in
1993, and which has been upgraded as needed since then. The assessment was based
upon formal and informal communications with the software vendors, literature
supplied with the software, literature received in connection with maintenance
contracts, and test evaluations of the software. Systems critical to the
business which have been identified as vulnerable to the Year 2000 problem have
been replaced with new software or corrected by upgrades available from vendors
and have been tested. The Company is currently in the process of making all
other non-critical systems Year 2000 compliant and the Company anticipates that
this will be done by the end of November 1999. Outside companies such as
vendors, major customers, service suppliers, communications providers and banks
have been asked to verify their Year 2000 readiness and the Company has tested
interaction with such systems where appropriate. The assessment has been
completed utilizing the Company's existing resources. To date, the Company has
incurred less than $35,000 on efforts directed towards Year 2000 compliance
(most of which was the replacement of a software application that was primarily
undertaken to improve efficiency in sales management) and expects to incur a
total of less than $50,000 when the process of making the Company's internal
systems Year 2000 compliant is completed, although there can be no assurance
that the Company will not incur costs in excess of such amount in connection
therewith.
The Company has concluded, based on this assessment, that all of the
Company's critical business systems software is Year 2000 compliant, and all
other non-critical systems will be Year 2000 compliant by the end of November
1999, and that the Year 2000 issue is not likely to have a material impact on
the Company's operations. However, there can be no assurances that the systems
or software of third parties on which the Company relies will be timely
converted and the Company may be adversely affected by the failure of such a
third party to become Year 2000 compliant. In the event that any such third
party fails to be compliant, the Company will have to make arrangements, if
necessary, with alternate third parties to obtain the products and services that
were previously provided by such non-compliant third party.
EURO CURRENCY
The Company derived approximately 50% of its revenue from continuing
operations for the quarter ended October 2, 1999 from its operations in Germany
and England. Historically, transactions in Europe have been denominated in a
variety of currencies.
Effective January 1, 1999, eleven of the fifteen member countries of the
European Union established fixed conversion rates between their sovereign
currencies and the Euro and adopted the Euro as their common legal currency.
During the three-year transition, the Euro will be available for non-cash
transactions and legacy currencies will remain legal tender. Ferrofluidics GmbH,
the Company's German subsidiary, is continuing to address the Euro impact on its
business, including the ability to handle the conversion in the accounting and
other information systems, ability of foreign banks to report on dual
currencies, the legal and contractual implications of contracts, and reviewing
pricing strategies. The Company expects that any additional modifications to its
operations and systems will be completed on a timely basis and does not believe
the conversion will have a material adverse impact on the Company's operations.
However, there can be no assurance that the Company will be able to successfully
modify all systems and contracts to comply with the Euro requirements on a
timely basis.
DISTRIBUTION AGREEMENTS
For the quarter ended October 2, 1999, GmbH derived approximately 61% of
its revenue (31% of the Company's consolidated revenues) from the sales of
products under distribution agreements with manufacturers other than the
Company. The reliance on these distribution agreements subjects GmbH to certain
risks, including continuation of the agreements, geographic exclusivity and
availability of inventory. There can be no assurance that GmbH will be able to
maintain its distribution agreements at the current levels and failure to do so
could have an adverse impact on the Company's results of operations.
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QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company maintains foreign operations in England and Germany and
conducts business in many other countries. As a result of these international
activities, the Company is exposed to changes in foreign currency exchange
rates, which could have some impact on the results of operations. The Company
manages exposure to changes in foreign currency exchange rates through its
normal operating and financing activities, as well as through the use of forward
exchange contracts.
The Company enters into forward foreign exchange contracts as a balance
sheet translation hedge for the remaining assets and liabilities of its wholly
owned Japanese subsidiary. This subsidiary uses the U.S. dollar as its
functional currency and, as a result, the gains or losses on remeasurement are
recorded in the statement of operations. At October 2, 1999, the Company had a
one-month forward contract to sell 30 million Japanese Yen for $250,000.
At October 2, 1999, the Company also had foreign currency exposure relating
to its four subsidiaries located in Germany, the U.K., Spain and Italy. These
subsidiaries use the local currency as their functional currency, and gains or
losses on the translation of the local currency balance sheets and statements of
operations are recorded as a separate component of stockholders' equity as other
comprehensive income (loss). Relative to foreign currency exposures existing at
October 2, 1999, a 10% unfavorable movement in foreign exchange rates would not
significantly diminish the fair value of its financial instruments
(approximately a 1% impact on consolidated equity). The estimate assumes that
each exchange rate would change in the same direction relative to the U.S.
dollar. In addition to the direct effects of changes in exchange rates, such
changes typically affect the volume of sales or the foreign currency sales price
as competitors' products become more or less attractive. The Company's
sensitivity analysis of the effects of changes in foreign currency exchange
rates does not factor in a potential change in sales levels or local currency
selling prices. In addition, it is unlikely that all currencies would uniformly
strengthen or weaken relative to the U.S. dollar. In reality, some currencies
may weaken while others may strengthen.
The Company engages neither in speculative nor derivative trading
activities.
The Company also is exposed to changes in interest rates primarily from its
long-term Variable Rate Industrial Revenue Bond ("VRIRB"). Under its current
policies, the Company does not use interest rate derivative instruments to
manage exposure to interest rate changes. A hypothetical 100 basis point
increase in the interest rate on the VRIRB would adversely impact annual cash
flows by $50,000.
PROPOSED MERGER
On October 20, 1999, the Company announced that it had entered into an
Agreement and Plan of Merger to be acquired by Ferrotec Corporation ("Ferrotec")
pursuant to which Ferrotec Acquisition, Inc., a wholly-owned subsidiary of
Ferrotec, has made a cash tender offer for all of the outstanding shares of
common stock of the Company at a price of $6.50 per share. Based on the offer
price and outstanding shares at October 20, 1999 and the stock options that will
be exercisable as of completion of the tender offer, the transaction is valued
at approximately $38,919,000.
In the first quarter ended October 2, 1999, the Company recorded
merger-related transaction costs of approximately $250,000 primarily for
investment banking, legal and other fees. The transaction is expected to close
in the second quarter of fiscal 2000.
FORWARD-LOOKING STATEMENTS
This report contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934. There are certain factors that could cause actual results
to differ materially from those anticipated by the statements made above. These
include, but are not limited to, changes in revenues in the Company's
components, fluids and thin film deposition businesses, expected working capital
needs of the continuing operations, a material change in the market conditions
within the semiconductor industry and, changes in management's assessments
regarding the Company's obligations under
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outstanding purchase orders, ability to fulfill existing sales order backlog,
the recoverability of inventory and the ability to collect accounts receivable
relating to the discontinued Systems Division, the possibility of operations of
the Systems Division through the end of the phase-out period (which is expected
to end on or about November 27, 1999) being less than break-even, and failure of
the Company's systems or software, or the systems or software of a third party
on which the Company relies to be Year 2000 compliant, the ability of GmbH to
comply with the Euro requirements on a timely basis, the ability of GmbH to
maintain its distribution agreements at the current levels and the pendency of
the proposed merger between the Company and Ferrotec. For additional information
concerning these and other important factors, which may cause the Company's
actual results to differ materially from expectations and underlying
assumptions, please refer to the reports filed by the Company with the
Securities and Exchange Commission.
PART II. OTHER INFORMATION
ITEM b. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
27 - Financial Data Schedule
(b) Reports on Form 8-K:
None
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
FERROFLUIDICS CORPORATION
-------------------------
(Registrant)
Date: November 9, 1999 By: /s/ Paul F. Avery, Jr.
---------------- ---------------------------------------
Paul F. Avery, Jr.
President, Chief Executive Officer and
Chairman of the Board
By: /s/ William B. Ford
---------------------------------------
William B. Ford
Vice President and Chief Financial Officer
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