FORM 10-Q
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended JUNE 30, 1998
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OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ______________________________ to ____________
Commission file number 0-10605
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ODETICS, INC.
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(Exact name of registrant as specified in its charter)
DELAWARE 95-2588496
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(State or other jurisdiction I.R.S. Employer Identification No.)
of incorporation or organization)
1515 SOUTH MANCHESTER AVE., ANAHEIM, CA 92802
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(Address of principal executive offices) (Zip Code)
(714) 774-5000
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(Registrant's telephone number, including area code)
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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.
YES X NO___
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Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date
Number of shares of Common Stock outstanding as of JULY 31, 1998
Class A Common Stock - 6,152,778 shares.
Class B Common Stock - 1,062,041 shares.
1
INDEX
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PART I FINANCIAL INFORMATION Page
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ITEM 1. CONSOLIDATED STATEMENTS OF INCOME FOR 3
THE THREE MONTHS ENDED JUNE 30, 1997 AND
1998 (UNAUDITED)
CONSOLIDATED BALANCE SHEETS AT MARCH 31, 1998 4
AND JUNE 30, 1998 (UNAUDITED)
CONSOLIDATED STATEMENTS OF CASH FLOWS FOR 6
THE THREE MONTHS ENDED JUNE 30, 1997 AND
1998 (UNAUDITED)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS 10
OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
PART II OTHER INFORMATION
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ITEM 1. LEGAL PROCEEDINGS 19
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF 19
SECURITY HOLDERS
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 19
SIGNATURES 20
2
PART I
ITEM 1 FINANCIAL INFORMATION
ODETICS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
(Unaudited)
Three Months Ended
June 30,
---------------------------
1997 1998
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Net sales and contract revenues:
Net sales $19,941 $17,057
Contract revenues 1,532 2,722
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Total net sales and contract revenues 21,473 19,779
Costs and expenses:
Cost of sales 13,214 12,546
Cost of contract revenues 897 1,815
Selling, general and administrative expenses 5,924 7,872
Research and development expenses 2,023 2,604
Interest expense 32 479
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22,090 25,316
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Income (loss) from continuing operations before taxes (617) (5,537)
Income taxes (benefit) (247) 0
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Net income (loss) from continuing operations (370) (5,537)
Income (loss) from discontinued operations, net of in 987 0
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Net income $617 ($5,537)
========= ==========
Weighted average number of shares outstanding 6,382 7,265
========= ==========
Earnings (loss) per share:
Continuing operations ($0.06) ($0.76)
Discontinued operations $0.16 $0.00
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Earnings per share $0.10 ($0.76)
========== ==========
See notes to consolidated financial statements.
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ODETICS, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands)
MARCH 31, JUNE 30,
1998 1998
ASSETS (UNAUDITED)
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Current assets
Cash $ 1,131 $ 3,126
Trade accounts receivable, net 15,048 12,925
Current portion of ATL note receivable 3,249 3,249
Receivable from ATL 1,553 0
Costs and estimated earnings in excess
of billings on uncompleted contracts 2,583 2,513
Inventories:
Finished goods 569 570
Work in process 2,176 1,123
Materials and supplies 18,065 18,043
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Total inventories 20,810 19,736
Prepaid expenses 1,592 1,234
Income taxes receivable 1,039 1,029
Deferred income taxes 1,558 1,558
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Total current assets 48,563 45,370
Property, plant and equipment
Land 2,090 2,090
Buildings and improvements 18,481 18,515
Equipment, furniture and fixtures 29,318 29,936
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49,889 50,541
Less accumulated depreciation (26,550) (27,412)
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Net property, plant and equipment 23,339 23,129
Long term ATL note receivable less current portion 6,770 5,714
Goodwill, net of accumulated amortization 5,850 5,742
Other assets 4,268 4,867
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Total assets $ 88,790 $ 84,822
========= ===========
See notes to consolidated financial statements.
-4-
ODETICS, INC.
CONSOLIDATED BALANCE SHEETS (cont'd)
(in thousands)
MARCH 31, JUNE 30,
1998 1998
LIABILITIES AND STOCKHOLDERS' EQUITY (UNAUDITED)
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Current liabilities
Trade accounts payable $13,672 $9,940
Accrued payroll and related 5,093 4,460
Accrued expenses 2,083 2,535
Income taxes payable 0 0
Contract loss accrual 4,541 4,437
Billings in excess of costs and estimated
earnings on uncompleted contracts 1,580 2,243
Current portion of long-term debt 1,598 1,479
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Total current liabilities 28,567 25,094
Revolving line of credit 12,800 15,300
Long-term debt , less current portion 8,200 10,704
Deferred income taxes 643 643
Stockholders' equity
Preferred stock, 2,000,000 shares authorized;
none issued and outstanding ------ ------
Common stock, 10,000,000 shares of class A
and 2,600,000 shares of class B
authorized; 6,152,778 shares of
class A and 1,062,041 shares of
class B issued and outstanding at
June 30, 1998 - $.10 par value 726 726
Paid-in capital 45,240 45,240
Treasury stock (239) (240)
Note receivable from associates (3,377) (3,354)
Retained earnings (3,795) (9,332)
Accumulated other comprehensive income:
Accumulated foreign currency translation 25 41
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Total stockholders' equity 38,580 33,081
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Total liabilities and stockholders' equity $88,790 $84,822
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See notes to consolidated financial statements.
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ODETICS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
THREE MONTHS ENDED
JUNE 30,
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1997 1998
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Operating activities
Net income ($370) ($5,537)
Adjustments to reconcile net income to net
cash provided by (used in) operating activities:
Income from discontinued operations 987 0
Depreciation and amortization 715 1,011
Provision for losses on accounts receivable 33 66
Provision (benefit) for deferred income taxes (749) 10
Gain on sale of assets 0 0
Changes in operating assets and liabilities:
(Increase) Decrease in accounts receivable 702 2,057
(Increase) Decrease in net costs and estimated
earnings in excess of billings (406) 733
(Increase) Decrease in inventories 689 1,074
(Increase) Decrease in prepaids and other assets (2,461) 1,271
Increase (Decrease) in accounts payable and
accrued expenses (7,711) (3,978)
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Net cash provided by (used in) operating activities (8,571) (3,293)
Investing activities
Purchases of property, plant, and equipment (1,403) (652)
Proceeds from sale of equipment 0 0
Repayment of long term note receivable 0 1,056
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Net cash used in investing activities (1,403) 404
Financing activities
Proceeds from revolving line of credit and
long-term borrowings 11,600 15,110
Principal payments on line of credit, long-term
debt and capital lease obligations (10,541) (10,225)
Proceeds from issuance of common stock 10 (1)
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Net cash provided by (used in) financing activities 1,069 4,884
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Increase (decrease) in cash (8,905) 1,995
Cash at beginning of year 11,359 1,131
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Cash at June 30 $2,454 $3,126
========= =========
See notes to consolidated financial statements.
-6-
ODETICS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 1 - Basis of Presentation
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In the opinion of management, the accompanying unaudited consolidated
financial statements contain all adjustments, consisting of normal
recurring accruals except for adjustments to present the Company's
former subsidiary, ATL Products, Inc. ("ATL") as a discontinued
operation (See Note 4), necessary to present fairly the consolidated
financial position of Odetics, Inc. (the "Company") as of June 30,
1998 and the consolidated results of operations and cash flows for the
three month periods ended June 30, 1997 and 1998. Certain information
and footnote disclosures normally included in the financial statements
prepared in accordance with generally accepted accounting principles
have been condensed or omitted pursuant to the rules and regulations
of the Securities and Exchange Commission. The results of operations
for the three month period ended June 30, 1998 are not necessarily
indicative of those to be expected for the entire year. The
accompanying financial statement should be read in conjunction with
the Company's Annual Report on Form 10-K for the year ended March 31,
1998 filed with the Securities and Exchange Commission.
Note 2 - Income Taxes
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Income tax expense for the three month periods ended June 30, 1997 and
1998 have been provided at the estimated annualized effective tax
rates based on the estimated income tax liability or asset and change
in deferred taxes for their respective fiscal years. Deferred taxes
result primarily from temporary differences in the reporting of income
for financial statement and income tax purposes. These differences
relate principally to the use of accelerated cost recovery
depreciation methods for tax purposes, capitalization of interest and
taxes for tax purposes, capitalization of computer software costs for
financial statement purposes, deferred compensation, other payroll
accruals, reserves for inventory and accounts receivable for financial
statement purposes and general business tax credit and alternative
minimum tax credit carryforwards for tax purposes.
Note 3 - Long-Term Debt
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(in thousands)
March 31, June 30,
1998 1998
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Line of credit $12,800 $15,300
Mortgage note 9,218 8,965
Contracts payable 580 3,218
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22,598 27,483
Less current portion 1,598 1,479
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$21,000 $26,004
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7
Note 4 - On March 13, 1997, ATL completed an initial public offering of
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1,650,000 shares of its Class A Common Stock, at an initial public
offering price of $11 per share. Following the Offering, the Company's
beneficial ownership interest in ATL was reduced to 82.9%. On October
31, 1997, the Company completed a tax-free spin-off of its remaining
interest in ATL to the Company's stockholders, pursuant to which each
holder of the Company's Class A and Class B Common Stock (collectively
the "Common Stock") as of October 31, 1997, received approximately 1.1
shares of Class A Common Stock of ATL for each share of the Company's
Common Stock then held. In connection with the spin-off, the financial
statements of the Company have been restated to reflect continuing
operations and the discontinued operations of ATL. The ATL net sales
included in the discontinued operations for the periods being reported
are as follows:
(in thousands)
June 30, June 30,
1997 1998
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Quarter Ended $18,567 $0
NOTE 5 Legal Proceedings
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The Company brought an action against Storage Technology Corporation
("StorageTek") in the Eastern District Court of Virginia alleging that
StorageTek had infringed the Company's patent covering robotics tape
cassette handling systems (United States Patent No. 4,779,151).
StorageTek counterclaimed alleging that the Company infringed several
of StorageTek's patents. Prior to trial, the court dismissed two of
the infringement claims against the Company and the third claim was
resolved between the parties. In January 1996, the jury determined
that the patent claims were not infringed under the doctrines of
equivalents based upon a claim construction defined by the court prior
to the trial. The jury also concluded that the Company's patent was
not invalid. In June 1997, the United States Court of Appeals for the
Federal Circuit vacated the lower court's claim construction and
findings of noninfringement of the Company's patent. The appellate
court remanded the case for consideration of infringement under a
proper claim construction. In August 1997, the appellate court denied
a petition for rehearing requested by StorageTek. The case was
returned to the Federal District Court for retrial, and in March 1998,
the jury awarded the Company damages in the amount of $70.6 million.
In June 1998, the U.S. District Court for the Eastern District of
Virginia granted an injunction against StorageTek enjoining StorageTek
from making, selling or using any infringing devices, including the
ACS4400, PowderHorn, Wolfcreek and Genesis automated tape library
systems that include a pass through port. In June 1998, the U.S.
District Court issued an order requesting the parties to brief the
issues of whether StorageTek's motion for judgment as a matter of law
should have been granted, and whether the injunction previously
ordered by the court against StorageTek should be stayed pending
appeal. In August 1998, the judge, in the case issued a ruling to
overturn the $70.6 million jury verdict previously awarded the Company
and entered judgment as a matter of law in favor of StorageTek.
Odetics plans to appeal the judges ruling to the United States Court
of Appeals for the Federal Circuit.
8
NOTE 6 Earnings per Share
- ------
In 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 128, Earnings per Share. Statement
128 replaced the previously reported primary and fully diluted
earnings per share with basic and diluted earnings per share. Unlike
primary earnings per share, basic earnings per share excludes any
dilutive effects of options, warrants, and convertible securities.
Diluted earnings per share is very similar to the previously reported
fully diluted earnings per share. All earnings per share amounts for
all periods have been presented, and where necessary, restated to
conform to the Statement 128 requirements.
9
ODETICS, INC.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with
the Consolidated Financial Statements and Notes thereto contained in this
Report and in the Annual Report on Form 10-K of the Company. When used in
this Report, the words "expect(s)," "feel(s)," "believe(s)," "will," "may,"
"anticipate(s)" and similar expressions are intended to identify forward-
looking statements. Such forward-looking statements include, among other
things, statements concerning projected revenues, funding and cash
requirements, supply issues, the Company's incubator strategy, and involve
a number of risks and uncertainties, including without limitation, those
set forth at the end of this Item 2 under the caption "Risk Factors." The
Company's actual results may differ materially from any forward-looking
statements discussed herein. Readers are cautioned not to place undue
reliance on these forward-looking statements, which speak only as of the
date hereof. The Company undertakes no obligation to republish revised
forward-looking statements to reflect events or circumstances after the
date hereof or to reflect the occurrence of unanticipated events.
Results of Operations
General
On October 31, 1997, the Company completed the spin-off of its 82.9%
interest in ATL by distributing the Company's 8,005,000 shares of Class A
Common Stock to the Company's stockholders of record on October 31, 1997.
In connection with the spin-off, the Company's financial statements have
been restated to reflect the continuing operations and discontinued
operations. Discontinued operations reflect the Company's interest in the
operations of ATL for the periods presented.
Net Sales and Contract Revenues
Net sales and contract revenues consist of (i) sales of products and
services to commercial and municipal customers ("net sales") and (ii)
revenues derived from contracts with state, county, and municipal agencies
for intelligent transportation systems projects and from contracts with
agencies of the United States Government and foreign entities for space
recorders used for geographical information systems ("contract revenues").
Total net sales and contract revenues decreased 7.9% to $19.8 million for
the three month period ended June 30 1998, compared to $21.5 million in the
corresponding period of the prior fiscal year. Contract revenues increased
78% in the three months ended June 30, 1998 compared to the same period of
the preceding year. In June 1997, the Company acquired certain assets of
the Transportation Systems business of Rockwell International, which were
consolidated into the Company's ITS business ("ITS"). The increase in
contract revenues in the three months ended June 30, 1998 reflects the
revenue contribution in the current year of the acquired ITS business.
Net sales decreased 14.5% for the three month period ended June 30, 1998
compared to the previous fiscal year. The Company experienced decreased net
sales for the three month period in its Gyyr Inc. subsidiary ("Gyyr") and
its Communications division ("Communications") and its Broadcast division
("Broadcast"). Gyyr net sales decreased in the three month period of the
current fiscal year largely as a result of lower unit sales of its time
lapse video recorders. This decrease in Gyyr unit sales was partially
offset by the revenue contribution related to its acquisition of
Intelligent Control Inc. ("ICI") in October 1997. The decrease in
10
Communications revenues reflects decreased sales of timing and
synchronization products to a significant customer, LGIC of Korea. Sales to
this customer have been negatively impacted by adverse economic conditions
in Asia. The decrease in Broadcast revenues was primarily due to delays in
the introduction of Broadcast's new Roswell total facility management
system, which the Company commenced shipping in July 1998.
The decrease in sales of Gyyr, Communications and Broadcast noted above was
partially offset by increase in net sales for the three month period ended
June 30, 1998 in the ITS' product sales. The increase principally reflects
the demand for the Vantage Plus vehicle detection system, which was
introduced in the fourth quarter of the prior fiscal year. ITS product
sales also increased as a result of the delivery and installation of an
urban traffic center system to the city of Jinan in the People's Republic
of China.
Gross Profit
Total gross profit as a percentage of net sales and contract revenues
decreased to 27.4% for the three month period ended June 30, 1998 compared
to 34.3% for the same period in the prior fiscal year. Gross profit
performance declined in Broadcast and Communications as a result of
unfavorable sales mix toward lower margin products, and higher unabsorbed
indirect manufacturing costs experienced on lower sales volume. Gyyr and
ITS experienced improved gross profit performance for the three month
period ended June 30, 1998 compared to the corresponding period of the
previous fiscal year. This improvement was primarily due to changes in
product mix at Gyyr toward higher margin newly introduced products. Certain
of these higher margin products included Gyyr's new line of access control
products, which were acquired along with its acquisition of the business of
ICI noted above. The improvement in the ITS gross margin was primarily due
to improved manufacturing efficiencies gained on increased sales volumes.
Selling, General and Administrative Expense
Selling, general and administrative expense increased 38.7% to $7.9 million
(or 39.8% of total net sales and contract revenues) in the three months
ended June 30, 1998 compared to $5.9 million (or 27.6% of total net sales
and contract revenues) in the corresponding period of the prior fiscal
year. The increase in selling, general and administrative expenses in
absolute dollars and as a percent of net sales and contract revenues in the
three month period ended June 30, 1998 compared to the previous fiscal year
period relates primarily to investments in sales and marketing across all
divisions, domestically and internationally, to support planned growth. The
increase also relates to the acquisition of ICI and the Transportation
Systems business of Rockwell International noted above. The Company
experienced an increase in selling, general and administrative expense in
each operating division, which relates primarily to an increase in
administrative and sales labor, advertising and promotion to support new
products and markets, and costs related to international expansion.
Research and Development Expense
Research and development expense increased 28.7% to $2.6 million (or 13.2%
of total net sales and contract revenues) in the three month period ended
June 30, 1998 compared to $2.0 million (or 9.4 % of total net sales and
contract revenues) in the corresponding period the prior fiscal year. The
Company experienced increased spending to support new product development,
primarily in Gyyr and Communications. Gyyr has announced a new line of dome
products for facility monitoring, and the Company's Communications division
has recently introduced Dexter, a broadband communications interface
product. For competitive reasons, the Company closely guards the
confidentiality of its specific development projects. Spending for research
and development includes both new product development as well as product
line extension. The
11
increase in new product development expense relates primarily to
development labor and related benefits, prototype material cost and
consulting fees. The acquisitions of ICI and the Transportation Systems
business of Rockwell International did not materially impact the increases
in current year research and development expenses. The Company expects
expenditures for research and development to generally increase over time
and to be higher during periods of new product development when significant
expenditures are incurred in preproduction activities and increased
testing. The expenditures may, therefore, continue to fluctuate as a
percentage of total net sales and contract revenues from period to period.
Interest Expense Net
Interest Expense net, reflects interest income and interest expense as
follows:
(in thousands)
Three Months
Ended June 30
-------------
1997 1998
---- ----
Interest Expense $ 308 $554
Interest Income 276 75
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Interest Expense Net $ 32 $479
===== ====
Interest expense primarily reflects interest on the Company's line of
credit borrowings and mortgage interest. The increase in interest expense
for the three month period of the current fiscal year reflects an increase
in the Company's borrowings on its line of credit facility. Interest income
is derived primarily from the note receivable due to the Company from ATL,
its previously owned subsidiary. The reduction in interest income in the
three month period of the current fiscal year primarily reflects the lower
average interest bearing note receivable balance due from ATL. As noted
below, ATL repaid the full amount of the note due the Company in July 1998.
Income Taxes
No income tax benefit was provided on the net loss of the Company for the
three month period ended June 30, 1998 since management has determined that
the Company cannot meet the criteria for recognition of the resulting
deferred tax asset. In the three month period ended June 30, 1997, pre-tax
income from the Company's discontinued operations, ATL, was greater than
the pre-tax loss from the Company's continuing operations. Accordingly, as
a result of intra-period tax allocation, the Company recorded a provision
for income taxes of $658,000 in Income from discontinued operations and a
provision for income tax (benefit) of $247,000 for continuing operations.
Liquidity and Capital Resources
In the three months ended June 30, 1998, the Company had a net loss of $5.5
million and negative cash flow from operating activities of $3.3 million.
The Company funded its operating cash requirements in the first quarter
primarily with advances on its bank lines of credit. In July 1998, the
Company received a payment of $8.9 million from ATL, representing the
remaining principal amount of its note payable to the Company. The note
carried an interest rate equal to the Company's cost of borrowing (8.5% of
June 30, 1998). The Company used the proceeds from this payment to reduce
indebtedness under its bank line of credit. At August 13, 1998, $8.6
million was outstanding under its line of credit, and approximately $7.1
million was available for borrowing under the line of credit. The Company's
$17.0 million bank line of
12
credit with Imperial Bank and Comerica Bank-California provides for
borrowings generally at the lessor of the bank's prime rate (8.5% at June
30, 1998) or the bank's LIBOR rate plus 2.25%. As of June 30, 1998 the
Company was not in compliance with certain loan covenants but has obtained
wavers of the non-compliance from its banks. The Company's borrowings under
the line of credit are secured by substantially all of the Company's
assets.
The Company anticipates that net cash flow generated by operating
activities, together with funds available under the Company's line of
credit, will be adequate and enable the Company to execute its current
operating plans and meet its obligations on a timely basis for at least the
next twelve months.
13
RISK FACTORS
The Company's business is subject to a number of risks, some of which are
discussed below. Other risks are presented elsewhere in this Report. The
following risks should be considered carefully in addition to the other
information contained in this Report in evaluating the Company and its business
before purchasing the shares of the Company's Class A Common Stock or Class B
Common Stock (collectively, the "Common Stock").
Fluctuations in Quarterly Operating Results. The Company has experienced wide
fluctuations in quarterly and annual operating results in the past and may
continue to experience fluctuations in the future based on a number of factors,
not all of which are in the Company's control. These factors include, without
limitation, the size and timing of significant customer orders; the introduction
of new products by competitors; the availability of components used in the
manufacture of the Company's products; the Company's expenditure of substantial
funds for research and development for its subsidiaries and divisions; changes
in pricing policies by the Company, its suppliers or its competitors and
increased price competition; the ability of the Company to develop, introduce,
market and gain market acceptance of new products (particularly the Roswell,
Dexter, ControLink, Vantage and Lane Tracker), applications and product
enhancements in a timely manner and to control costs; the long lead times
associated with government contracts or required by vehicle manufacturers; the
Company's success in expanding and implementing its sales and marketing
programs; technological changes in the markets in which the Company operates;
the reduction in revenues from government programs; the relatively thin level of
backlog at any given time; the mix of sales among the Company's divisions;
deferrals of customer orders in anticipation of new products, applications or
product enhancements; the Asian economic crisis and instability; currency
fluctuations; and general economic and market conditions. Moreover, the
Company's sales in any quarter typically consist of a relatively small number of
large customer orders, and the timing of a small number of orders can impact
quarter to quarter results. The loss of or a substantial reduction in orders
from any significant customer could have a material adverse effect on the
Company's business, financial condition and results of operations. The Company's
growth in revenues in recent periods may not be sustainable and may not be
indicative of future operating results, and there can be no assurance that the
Company will continue to achieve profitability on a quarterly or annual basis in
the future. Due to all of the foregoing factors and other risks discussed below,
it is possible that in some future period the Company's operating results may be
below the expectations of analysts and investors. In such event, the market
price of the Company's securities would probably be materially and adversely
affected.
Uncertainty of Incubator Strategy. The Company has initiated a strategy to
nurture its business divisions with the goal of conducting additional initial
public offerings. The Company's ability to complete an initial public offering
of any of its divisions or subsidiaries will depend upon numerous factors,
including, without limitation, the overall performance of such division, its
growth potential, management team, market size, customer base, product line and
results of operations, as well as general economic and market conditions. There
can be no assurance that the Company will be able to complete a successful
initial public offering of any of its divisions in the near future, if at all.
Rapid Technological Change; Effect of New Product Introduction and Uncertain
Market Acceptance. The markets served by the Company are characterized by rapid
technological advances, downward price pressure in the marketplace as
technologies mature, changes in customer requirements, frequent new product
introductions and enhancements, and evolving industry standards. The Company's
business requires substantial ongoing research and development efforts and
expenditures, and its future success will depend on its ability to enhance its
current products, reduce product costs and develop and introduce new products
14
which incorporate the latest technological advancements in hardware, storage
media, operating system software and applications software in response to
evolving customer requirements. The Company's failure to anticipate or respond
adequately to technological developments and changing customer requirements, the
occurrence of significant delays in new product development or introduction or
the failure of any new products to gain market acceptance could impair the
Company's competitiveness and could materially and adversely affect the
Company's business, financial condition and results of operations. There can be
no assurance that the Company will be able to introduce new products or
enhancements to existing products on a timely basis, if at all, or the effect to
which such introductions will have on sales of existing products. To the extent
new products are introduced, they may contain undetected design faults and
software errors or "bugs" when first released by the Company that, despite
testing by the Company, are discovered only after a product has been installed
and used by customers. Although the Company has not experienced any material
adverse effect resulting from any such faults or errors to date, there can be no
assurance that faults or errors in the Company's existing products or in new
products introduced by the Company will not be discovered in the future, causing
delays in product introduction and shipments or requiring design modifications
that could adversely affect the Company's competitive position and results of
operations. The Company's success is also dependent in large part upon achieving
broad market acceptance of certain new products including its Roswell,
ControLink, Vantage and Lane Tracker products. There can be no assurance that
any such products or enhancements thereto will be able to achieve broad market
acceptance. Market acceptance of the Company's new products depends upon
numerous factors, including the ability to resolve technical challenges in a
timely and cost-effective manner, the perceived advantages over traditional
products and the marketing capabilities of the Company's independent
distributors and strategic partners. In addition, the Company anticipates that
the manufacture of Lane Tracker will be outsourced to a single manufacturer.
There can be no assurance that this manufacturer will be able to manufacture
sufficient quantities in a timely manner or at a reasonable cost, either of
which could materially and adversely affect the Company's ability to launch or
gain market acceptance of Lane Tracker.
Risks Associated with International Sales; Effect of Asian Economical Crisis.
International product sales represented approximately 30%, 36% and 34% of the
Company's total net sales and contract revenues for the fiscal years ended March
31, 1996, 1997 and 1998, respectively. The Company's products sold by its
telecommunications operations are sold principally to LGIC of Korea. As a result
of economic instability in Asia, particularly Korea, the Company's sales in this
region declined during the fourth quarter of fiscal 1998 and could be further
impacted by the currency devaluations and related economic problems in this
region. The Company believes that international sales will continue to represent
a significant portion of its revenues, and that continued growth and
profitability will require further expansion of its international operations.
The Company's international sales are currently denominated primarily in U.S.
dollars, and an increase in the relative value of the dollar could make the
Company's products more expensive and, therefore, potentially less price
competitive in international markets. Additional risks inherent in international
business activities generally include unexpected changes in regulatory
requirements, tariffs and other trade barriers, longer accounts receivable
payment cycles, difficulties in managing and staffing international operations,
potentially adverse tax consequences including restrictions on the repatriation
of earnings, the burdens of compliance with a wide variety of foreign laws,
currency fluctuations and political and economical instability. The Company does
not engage in any transactions as a hedge against risks of loss due to foreign
currency fluctuations. There can be no assurance that such factors will not have
a material adverse effect on the Company's future international sales and,
consequently, the Company's business, operating results and financial condition.
Furthermore, as the Company increases its international sales, its total
revenues may also be affected to a greater extent by seasonal fluctuations
resulting from lower sales that typically occur during the summer months in
Europe and other parts of the world.
Management of Growth; Risks Related to Possible Acquisitions. Over the past
year, the Company has significantly expanded its operations and has completed
the acquisition of certain assets of the Transportation Systems business of
Rockwell International as well as ICI, and the Company has entered into a letter
of intent to acquire Meyer Mohaddes & Associates, Inc. and intends to continue
to pursue an
15
acquisition strategy. This period of rapid growth and expansion has placed, and
continues to place, a significant strain on the Company's resources. To
accommodate this growth, the Company will be required to implement a variety of
new and upgraded operational and financial systems, procedures and controls,
including the improvement of its accounting and other internal management
systems, all of which require substantial management effort. There can be no
assurance that the such efforts can be accomplished successfully or that the
Company will be able to identify, acquire, profitably manage or successfully
integrate any such business into the Company without incurring substantial
delays or other operational or financial problems. Moreover, competitors of the
Company are also soliciting potential acquisition candidates, which could both
increase the price of any acquisition targets and decrease the number of
attractive companies available for acquisition. Acquisitions may require
significant capital infusions and, in general, involve a number of special
risks, including the diversion of management's attention, the failure to retain
or successfully integrate key acquired personnel, the challenge of operating
diverse business divisions, increased costs to improve managerial, operational,
financial and administrative systems, legal liabilities and increased interest
expense and amortization of acquired intangible assets, any of which could
materially and adversely affect the Company's business, financial condition and
results of operations.
Reliance of Government Contracts and Subcontractors; Risks Related to Fixed
Price Contracts. Substantially all of net sales by ITS and a portion of the net
sales by Communications for the year ended March 31, 1998 and the three months
ended June 30, 1998 were derived from contracts with governmental agencies,
either as a general contractor, subcontractor or supplier. Government business
is, in general, subject to special risks and challenges such as long purchase
cycles, competitive bidding and qualification requirements, performance bond
requirements, delays in funding, budgetary constraints, milestone requirements
and liquidated damage provisions for failure to meet contract milestones. In
addition, an increasing number of the Company's government contracts are fixed
price contracts, pursuant to which the Company benefits from cost savings, but
is unable to recover for any cost overruns. Such fixed price contracts require
the Company to estimate the total project cost based on preliminary projections
of the project's requirements. The financial viability of any given project
depends in large part on the Company's ability to estimate such costs accurately
and complete the project on a timely basis. In the event the Company's costs on
such projects exceed the fixed contractual cost, the Company will be required to
bear the excess costs. Such costs could exceed project profit margins or even
revenues, and accordingly, could have a material adverse effect on the Company's
financial condition and results of operations. Moreover, certain of the
Company's government contracts are subject to termination or renegotiation at
the convenience of the government, which could result in a large decline in net
sales in any given quarter. The Company's inability to address any of the
foregoing concerns or the loss or renegotiation of any material government
contract could have a material adverse effect on the Company's business,
financial condition and results of operations.
Competition. The Company competes in each of its markets with numerous other
companies, many of which have far greater name recognition and financial,
technological, marketing and customer service resources than the Company and may
be able to respond more quickly to new or emerging technologies and changes in
customer requirements, or devote greater resources to the development,
promotion, sale and support of their products than the Company. The Company
believes the principal competitive factors in the markets in which the Company
participates are product quality and performance, price, reliability,
upgradeability, service and technical support. There can be no assurance that
the Company will be able to compete effectively in the markets for its products.
Increased competition is likely to result in price reductions, reduced gross
margins and loss of market share, any of which could have a material adverse
affect upon the Company's business, operating results and financial condition.
Dependence on Key Personnel.. The Company's future performance depends to a
significant extent on its senior management and other key employees, in
particular Joel Slutzky, the Company's Chief Executive Officer. The loss of the
services of Mr. Slutzky or certain key employees would have a material adverse
effect on the Company's development and marketing efforts. The Company's future
success will also
16
depend in large part upon its ability to attract, retain and motivate highly
skilled employees. Competition for employees, particularly development
engineers, is intense, and there can be no assurance that the Company will be
able to continue to attract and retain sufficient numbers of such highly skilled
employees. The Company's inability to attract and retain additional key
employees or the loss of one or more of its current key employees could have a
material adverse effect upon the Company's business, financial condition and
results of operations.
Dependence on Proprietary Technology; Risks of Infringement. The Company's
ability to compete effectively depends in part on its ability to develop and
maintain proprietary aspects of its technology which the Company attempts to
protect with a combination of patent, copyright, trademark and trade secret
laws, employee and third party nondisclosure agreements and similar means. Such
rights may not preclude competitors from developing substantially equivalent or
superior products to the Company's products. In addition, the laws of some
foreign countries do not protect the Company's proprietary rights as fully as do
the laws of the United States. There can be no assurance that the Company's
means of protecting its proprietary rights in the United States or abroad will
be adequate, that future patents will be issued, or that competitors will not
independently develop technologies that are similar or superior to the Company's
technology, duplicate the Company's technology, or design around any patent of
the Company. Moreover, litigation has been necessary in the past and may be
necessary in the future to enforce the Company's intellectual property rights,
to determine the validity and scope of the proprietary rights of others, or to
defend the Company against claims of infringement or invalidity by others. An
adverse outcome in such litigation or similar proceedings could subject the
Company to significant liabilities to third parties, require disputed rights to
be licensed from others or require the Company to cease marketing or using
certain products, any of which could have a material adverse effect on the
Company's business, financial condition and results of operations. If the
Company is required to obtain licenses under patents or proprietary rights of
others, there can be no assurance that any required licenses would be made
available on terms acceptable to the Company, if at all. In addition, the cost
of addressing any intellectual property litigation claim, both in legal fees and
expenses and the diversion of management resources, regardless of whether the
claim is valid, could be significant and could have a material adverse effect on
the Company's results of operations.
Volatility of Stock Price. The trading price of the Company's Common Stock has
been in the past and could be in the future subject to wide fluctuations in
response to quarterly variations in operating results, shortages announced by
suppliers, announcements of technological innovations or new products,
applications or product enhancements by the Company or its competitors, changes
in financial estimates by securities analysts and other events or factors. In
addition, the stock market has experienced volatility which has particularly
affected the market prices of equity securities of many high technology
companies and which often has been unrelated to the operating performance of
such companies. These broad market fluctuations may adversely affect the market
price of the Company's Common Stock.
Concentration of Ownership. As of June 25, 1998, the Company's officers and
directors beneficially owned a majority of the total combined voting power of
the outstanding shares of Class A Common Stock and Class B Common Stock. As a
result of their stock ownership, management will be able to significantly
influence the election of the Company's directors and the outcome of corporate
actions requiring stockholder approval, such as mergers and acquisitions,
regardless of how other stockholders of the Company may vote. This concentration
of voting control may have a significant effect in delaying, deferring or
preventing a change in management or change in control of the Company and may
adversely affect the voting or other rights of other holders of Common Stock.
Anti-Takeover Effects of Charter Provisions, Bylaws, Stock Structure and
Stockholder Rights Plan. The Company has two classes of Common Stock which are
substantially identical other than with respect to voting power. The Company's
Class A Common Stock entitles the holder to 1/10th vote per share and Class B
Common Stock entitles the holder to one vote per share, with concentration of
ownership of the Class B Common Stock in the Company's officers and directors
and their affiliates. In addition, the
17
Company's Board of Directors is elected annually on a split vote basis, with the
holders of Class A Common Stock currently being entitled to elect three of the
directors and holders of the Class B Common Stock currently being entitled to
elect the remaining six directors. These provisions could have the effect of
discouraging a proxy contest or making it more difficult for a third party
acquiring a substantial block of the Company's Common Stock to effect a change
in management and control of the Company. Such provisions also could limit the
price that investors might be willing to pay in the future for shares of the
Company's Common Stock. The Board of Directors of the Company is authorized to
issue, without stockholder approval, up to 2,000,000 shares of Preferred Stock
with voting, conversion and other rights and preferences, as well as additional
shares of Class B Common Stock, which could adversely affect the voting power or
other rights of the holders of Class A Common Stock. Although the Company has no
current plans to issue any shares of Preferred Stock or additional shares of
Class B Common Stock, the future issuance of Preferred Stock or Class B Common
Stock or of rights to purchase Preferred Stock or Class B Common Stock could be
used to discourage an unsolicited acquisition proposal. In March 1998, the
Company's Board of Directors adopted a stockholder rights plan, pursuant to
which the Company declared a dividend of preferred stock purchase rights to the
Company's stockholders. Each right entitles the holder to purchase one one-
thousandth of a share of junior participating Preferred Stock of the Company at
an exercise price of $60. While the rights generally are only exercisable if a
person or group acquires 15% or more of the Company's stock, the exercise of the
rights could cause substantial dilution to a particular acquiror. Although the
purpose of the Stockholder Rights Plans is to provide an incentive to potential
acquirors to deal directly with the Company's Board of Directors, the existence
of the stockholder rights plan could be considered to delay or make a merger,
tender offer or proxy contest more difficult.
Year 2000 Compliance. Many currently installed computer systems and software
products are coded to accept only two digit entries in the date code field.
These date code fields will need to accept four digit entries to distinguish
21st century dates from 20th century dates. As a result, in less than three
years, computer systems and/or software used by many companies may need to be
upgraded to comply with such "Year 2000" requirements. Significant uncertainty
exists in the hardware and software industry concerning the potential effects
associated with such compliance. Although the Company's core products are
designed to be Year 2000 compliant, there can be no assurance that such products
contain all necessary date code changes. The Company is exploring changes to its
existing information systems to become Year 2000 compliant. The Company will be
required to expend additional resources to make such corrections to its products
and information systems, which corrections may not be able to be made on a
timely basis, if at all. The Company believes that the purchasing patterns of
customers and potential customers may be affected by Year 2000 issues in a
variety of ways. Many companies are expending significant resources to correct
or patch their current systems for Year 2000 compliance. These expenditures may
result in reduced funds available to purchase products such as those offered by
the Company. Many potential customers may also choose to defer purchasing Year
2000 compliant products until they believe it is absolutely necessary, thus
resulting in potentially stalled market sales within the industry. In addition,
Year 2000 issues could cause a significant number of companies, including
current customers of the Company, to reevaluate their current system needs, and
as a result consider switching to other systems or suppliers. Any of the
foregoing could result in a material adverse effect on the Company's business
financial condition and results of operation.
18
ODETICS, INC.
PART II OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
The Company brought an action against Storage Technology Corporation
("StorageTek") in the Eastern District Court of Virginia alleging
that StorageTek had infringed the Company's patent covering robotics
tape cassette handling systems (United States Patent No. 4,779,151).
StorageTek counterclaimed alleging that the Company infringed
several of StorageTek's patents. Prior to trial, the court dismissed
two of the infringement claims against the Company and the third
claim was resolved between the parties. In January 1996, the jury
determined that the patent claims were not infringed under the
doctrine of equivalents based upon a claim construction defined by
the court prior to the trial. The jury also concluded that the
Company's patent was not invalid. In June 1997, the United States
Court of Appeals for the Federal Circuit vacated the lower court's
claim construction and findings of noninfringement of the Company's
patent. The appellate court remanded the case for consideration of
infringement under a proper claim construction. In August 1997, the
appellate court denied a petition for rehearing requested by
StorageTek. The case has been returned to the Federal District Court
for retrial, and in March 1998, the jury awarded the Company damages
in the amount of $70.6 million. In June 1998, the U.S. District
Court for the Eastern District of Virginia granted an injunction
against StorageTek enjoining StorageTek from making, selling or
using any infringing devices, including the ACS4400, PowderHorn,
Wolfcreek and Genesis automated tape library systems that include a
pass through port. In June 1998, the U.S. District Court issued an
order requesting the parties to brief the issues of whether
StorageTek's motion for judgment as a matter of law should have been
granted, and whether the injunction previously ordered by the court
against StorageTek should be stayed pending appeal. In August 1998,
the judge, in the case issued a ruling to overturn the $70.6 million
jury verdict previously awarded the Company and entered judgment as
a matter of law in favor of StorageTek. Odetics plans to appeal the
judges ruling to the United States Court of Appeals for the Federal
Circuit.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
NONE
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
27. Financial Data Schedule
(b) Reports on Form 8-K
On May 1, 1998 the Company filed form 8-K dated as of April 29,
1998, reporting the adoption by the Company's Board of Directors of
a Stockholder Rights Plan.
19
ODETICS, INC.
SIGNATURES
----------
Pursuant to the requirements 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.
ODETICS, INC.
(Registrant)
By /s/ Gregory A. Miner
------------------------------------------------
Gregory A. Miner
Vice President, Chief Financial Officer
By /s/ Gary Smith
------------------------------------------------
Gary Smith
Vice President, Controller
(Principal Accounting Officer)
Date August 18, 1998
-----------------
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