UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
----------------------
FORM 10-QSB
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2003
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 No.: 0-11353
CIRCUIT RESEARCH LABS, INC.
(Exact name of small business issuer as specified in its charter)
ARIZONA 86-0344671
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
1330 W. Auto Drive, Tempe, Arizona 85284
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (602) 438-0888
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. [X] Yes [ ] No
The number of shares outstanding of each class of our common equity as of
August 14, 2003 is as follows:
Class of Common Equity Number of Shares
- ---------------------- ----------------
Common Stock, par value $.10 3,891,335
Circuit Research Labs, Inc.
Index to Form 10-QSB Filing
For the Quarter Ended March 31, 2003
Table of Contents
Page
PART I - FINANCIAL INFORMATION ............................................3
ITEM 1. FINANCIAL STATEMENTS ..........................................3
Condensed Consolidated Balance Sheets -
June 30, 2003 (unaudited) and December 31, 2002 ..................3
Condensed Consolidated Statements of Operations -
Three and Six Months ended June 30, 2003 and 2002 (unaudited)......5
Condensed Consolidated Statements of Cash Flows -
Six Months ended June 30, 2003 and 2002 (unaudited) ............6
Notes to Condensed Consolidated Financial Statements .............8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS .........................15
ITEM 3. CONTROLS AND PROCEDURES .....................................31
PART II - OTHER INFORMATION ...............................................32
ITEM 1. LEGAL PROCEDINGS ............................................32
ITEM 2. CHANGES IN SECURITIES .......................................32
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K ............................33
SIGNATURE ...................................................................34
2
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CIRCUIT RESEARCH LABS, INC. and SUBSIDIARIES
CONSOLIDATED CONDENSED BALANCE SHEETS
June 30, December 31,
2003 2002
----------- -----------
ASSETS (Unaudited)
CURRENT ASSETS:
Cash $259,776 $214,401
Accounts receivable, trade, net 1,169,092 645,655
Inventories 2,244,365 2,305,194
Other current assets 129,024 105,161
----------- -----------
Total current assets 3,802,257 3,270,411
----------- -----------
PROPERTY, PLANT AND EQUIPMENT, NET 584,100 750,206
----------- -----------
OTHER ASSETS:
Goodwill, net 7,476,008 7,476,008
Other 287,732 287,582
----------- -----------
7,763,740 7,763,590
TOTAL $12,150,097 $11,784,207
=========== ===========
3
(continued)
CIRCUIT RESEARCH LABS, INC. and SUBSIDIARIES
CONSOLIDATED CONDENSED BALANCE SHEETS
June 30, December 31,
2003 2002
----------- -----------
(Unaudited)
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $1,347,882 $1,196,967
Notes payable to shareholders 130,000 0
Notes payable 8,216,150 8,520,150
Current portion of long-term debt 1,235,707 1,053,254
Accrued salaries and benefits 431,239 373,603
Customer deposits 226,730 255,281
Other accrued expenses and liabilities 1,117,723 565,014
----------- -----------
Total current liabilities 12,705,431 11,964,269
----------- -----------
LONG-TERM DEBT, LESS CURRENT PORTION 202,449 461,242
----------- -----------
Total Liabilities 12,907,880 12,425,511
----------- -----------
STOCKHOLDERS' DEFICIT:
Preferred stock, $100 par value - authorized
500,000 shares, none issued
Common stock, $.10 par value - (authorized
20,000,000 shares, 3,858,468 issued as of
June 30, 2003 and 3,767,404 as of December
31, 2002) 385,848 376,741
Additional paid-in capital 5,476,157 5,434,785
Accumulated deficit (6,619,788) (6,452,830)
----------- -----------
Total stockholders' deficit (757,783) (641,304)
----------- -----------
TOTAL $12,150,097 $11,784,207
=========== ===========
See accompanying notes to consolidated condensed financial statements.
4
CIRCUIT RESEARCH LABS INC. AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
---------- ---------- ---------- ----------
2003 2002 2003 2002
---------- ---------- ---------- ----------
NET SALES $3,390,417 $2,767,849 $6,165,992 $5,730,375
COST OF GOODS SOLD 1,386,623 1,403,049 2,698,711 2,963,053
---------- ---------- ---------- ----------
Gross profit 2,003,794 1,364,800 3,467,281 2,767,322
---------- ---------- ---------- ----------
OPERATING EXPENSES
Selling, general and administrative 1,148,536 1,143,424 2,190,413 2,268,943
Research and development 333,577 346,344 712,772 661,344
Depreciation 65,247 86,029 148,220 172,185
Amortization 0 0 0 0
---------- ---------- ---------- ----------
Total operating expenses 1,547,360 1,575,797 3,051,405 3,102,472
---------- ---------- ---------- ----------
INCOME (LOSS) FROM OPERATIONS 456,434 (210,997) 415,876 (335,150)
---------- ---------- ---------- ----------
OTHER (INCOME) EXPENSE:
Sundry Income (15,273) 1,866 (3,880) 5,779
Interest Expense (280,980) (287,182) (578,954) (570,606)
---------- ---------- ---------- ----------
Total other expense (296,253) (286,316) (582,834) (564,827)
---------- ---------- ---------- ----------
INCOME (LOSS) BEFORE INCOME TAX 160,181 (497,313) (166,958) (899,977)
PROVISION FOR INCOME TAXES 0 0 0 0
---------- ---------- ---------- ----------
NET INCOME (LOSS) $160,181 ($497,313) ($166,958) ($899,977)
========== ========== ========== ==========
NET INCOME (LOSS) PER COMMON SHARE -
BASIC AND DILUTED $0.04 ($0.13) ($0.04) ($0.25)
========== ========== ========== ==========
WEIGHTED AVERAGE NUMBER OF COMMON SHARES
OUTSTANDING - BASIC AND DILUTED 3,837,161 3,706,880 3,811,885 3,590,372
========== ========== ========== ==========
See accompanying notes to consolidated condensed financial statements.
5
CIRCUIT RESEARCH LABS INC. AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(unaudited)
Six Months Ended
June 30,
2003 2002
----------- -----------
OPERATING ACTIVITIES:
Net Loss ($166,958) ($899,977)
Adjustments to reconcile net loss to net cash
used in operating activities
Depreciation and amortization 192,038 209,120
Provision for uncollectable accounts 0 (267)
Stock compensation 50,479 50,000
Changes in assets and liabilities:
Accounts receivable (523,437) (226,403)
Inventories 60,829 690,331
Prepaid expenses and other assets (24,013) (45,036)
Accounts payable and accrued expenses 732,710 330,000
----------- -----------
Net cash provided by operating activities 321,648 107,768
----------- -----------
INVESTING ACTIVITIES:
Capital expenditures (25,932) (13,900)
----------- -----------
Net cash used in investing activities (25,932) (13,900)
----------- -----------
FINANCING ACTIVITIES:
Proceeds from shareholder advances 298,000
Repayment of shareholder advances (168,000)
Principal payments on notes payable (304,000) (83,491)
Principal payments on long-term debt (76,341) (187,057)
Proceeds from sale of common stock 18,000
----------- -----------
Net cash used in financing activities (250,341) (252,548)
----------- -----------
NET INCREASE (DECREASE) IN CASH 45,375 (158,680)
CASH AT BEGINNING OF PERIOD 214,401 280,895
----------- -----------
CASH AT END OF PERIOD $259,776 $122,215
=========== ===========
See accompanying notes to consolidated condensed financial statements.
6
(continued)
CIRCUIT RESEARCH LABS INC. AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(unaudited)
Six Months Ended
June 30,
2003 2002
----------- -----------
Supplemental Disclosures of Cash Flow Information
Cash paid for interest $117,229 $568,043
=========== ===========
Supplemental schedule of non-cash investing and financing activities:
Fair value of assets acquired including goodwill $2,034,563
Debt issued to seller (750,000)
Common Stock issued to seller (1,250,000)
Costs paid in 2002 (34,563)
===========
Cash paid $0
Common stock issued for consulting
services rendered $0 $50,000
=========== ===========
Common stock issued for compensation $50,479 $0
=========== ===========
See accompanying notes to consolidated condensed financial statements.
7
CIRCUIT RESEARCH LABS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
The Consolidated Condensed Financial Statements included herein have been
prepared by Circuit Research Labs, Inc. ("CRL" or the "Company"), pursuant to
the rules and regulations of the Securities and Exchange Commission. The
Consolidated Condensed Balance Sheet as of June 30, 2003 and the Consolidated
Condensed Statements of Operations for the three and six months ended June 30,
2003 and 2002 and the Consolidated Condensed Statements of Cash Flows for the
six months ended June 30, 2003 and 2002 have been prepared without audit.
Certain information and note disclosures normally included in financial
statements prepared in accordance with accounting principles generally accepted
in the United States of America have been condensed or omitted pursuant to such
rules and regulations, although the Company believes that the disclosures are
adequate to make the information presented not misleading. It is suggested that
these Consolidated Condensed Financial Statements be read in conjunction with
the consolidated financial statements and notes thereto included in the
Company's Annual Report on Form 10-KSB for the year ended December 31, 2002.
In the opinion of management, the Consolidated Condensed Financial
Statements for the unaudited interim periods presented herein include all
adjustments, consisting only of normal recurring adjustments, necessary to
present a fair statement of the results of operations for such interim periods.
Net operating results for any interim period may not be comparable to the same
interim period in previous years, nor necessarily indicative of the results that
may be expected for the full year.
2. Significant Accounting Policies are as follows:
a. Net loss per share
In calculating earnings per share for the three and six months ended June
30, 2003, the effects of 1,995,005 and 3,245,005 shares respectively, relate to
options to purchase common stock and 1,395,690 shares relating to warrant were
not used for computing diluted earnings per share because the option price is
greater then the market price. The 1,395,690 shares related to the Harman
warrant ( Note 5 ) expired May 31, 2003. For the three and six months ended June
30, 2002 the options and warrants to purchase 1,565,005 and 1,279,775 shares
respectively, of common stock were not used in computing diluted earnings
because the result would be anti-dilutive. Statement of Financial Accounting
Standards ("SFAS") No. 128, "Earnings per Share," establishes standards for
computing and presenting earnings per share. It also requires the dual
presentation of basic and diluted earnings per share on the face of the
statement of operations. Earnings per share is calculated as follows:
8
Three Months Ended Six Months Ended
June 30, June 30,
---------- ---------- ---------- ----------
2003 2002 2003 2002
---------- ---------- ---------- ----------
Numerator
Net Income (loss) 160,181 (497,313) (166,958) (899,977)
========== ========== ========== ==========
Denominator
Weighted average shares 3,837,161 3,706,880 3,811,885 3,590,372
========== ========== ========== ==========
Basic and diluted income (loss) per share $0.04 ($0.13) ($0.04) ($0.25)
========== ========== ========== ==========
b. New accounting pronouncements
In December 2002 the FASB issued SFAS 148 "Accounting for Stock Based
Compensation". This SFAS amends SFAS 123 and provides new guidance regarding the
transition should an entity change from the intrinsic value method to the fair
value method of accounting for employee stock based compensation cost.
Additional information is now required to be disclosed regarding such cost in
the financial statements of public companies. The company does not presently
plan to adopt fair value accounting for employee stock based compensation cost.
Statement of Financial Accounting Standards No. 149, Amendment of Statement
133 on Derivative Instruments and Hedging Activities, amends and clarifies
financial accounting and reporting for derivative instruments for certain
decisions made by the Financial Accounting Standards Board identified during the
implementation of Statement 133 and amends Statement 133 to clarify the
definition of a derivative. This statement is not expected to impact the
company's financial reporting.
9
3. INVENTORIES
Inventories consist of the following at June 30, 2003 and December 31,
2002:
June 30, December 31,
2003 2002
----------- -----------
(Unaudited)
Raw materials and supplies $2,331,550 $2,388,922
Work in process 986,100 993,160
Finished goods 468,109 464,506
----------- -----------
Total 3,785,759 3,846,588
Less obsolescence reserve (1,541,394) (1,541,394)
----------- -----------
Inventories, net $2,244,365 $2,305,194
=========== ===========
4. LONG-TERM DEBT
Long term-debt at June 30, 2003 consisted of the following:
Note to stockholder $178,905
Avocet Instruments, Inc. 44,207
Dialog4 Engineering GmbH (see Note 6) 597,055
Solectron GmbH (see Note 6) 579,736
Vendor note 28,003
Employee note 10,250
----------
Total long-term debt $1,438,156
Less current portion (1,235,707)
----------
Total long-term debt, less current portion $202,449
==========
In connection with the acquisition of the assets of Orban, the Company
issued $205,000 in long-term debt to a stockholder in consideration for his role
in such acquisition. The note bears interest at 7.5 percent per annum, with
principal and interest due monthly beginning August 1, 2000 for four years.
Based on a verbal agreement with the note holder, the Company made payments in
2001 sufficient for interest and some principal. On November 12, 2001, the
Company and the stockholder agreed to defer the payments to January 2002 with
interest accruing at the rate of 7.5% per annum. As of June30, 2003, the Company
has made partial payments on the accrued interest, and the outstanding principal
balance of this debt was $178,905, plus accrued interest of $5,392.
10
On June 12, 2000, we borrowed $68,387 from an employee to assist us in the
purchase of the assets of Orban. The unsecured promissory note evidencing the
debt bears interest at 12 percent per annum. The note was originally due
September 12, 2000 but was extended to September 30, 2001 without payment of a
fee. In order to further extend the note, we agreed to make 12 monthly
installment payments of principal and interest over a one-year period commencing
September 1, 2001. We did not pay a fee in connection with this extension. As
part of the agreement, the note continues to bear interest at 12 percent per
annum, but is compounded monthly. As of March 31, 2003, we had paid a total of
$55,447 on the note and the remaining unpaid balance was $10,250.
On May 31, 2001, CRL acquired the assets of Avocet Instruments, Inc. for
$82,980 plus other costs of $3,350. In conjunction with the Asset Sale
Agreement between the Company and Avocet Instruments, Inc. and Eric B. Lane
(Sellers), the Company and the Sellers entered into a Credit Agreement to
establish the terms and conditions of the purchase price. The loan is evidenced
by an agreement whereby the Company paid the Sellers $25,000 interest-free, paid
$5,000 on the Closing Date, and $5,000 in each of the following four months.
Thereafter, the balance ($57,980) is being paid in monthly installments of
$1,200, including interest at the rate of five percent per annum for 54 months.
In the fourth quarter of 2001, the Company converted various trade payables
into notes payable and long-term debt totaling $179,903, of which $90,076 was
short- term debt and $89,827 was long-term debt. Accounts payable converted to
notes payable in 2002 amounted to $27,553. As of June 30, the balance of the
notes payable and long-term debt has been reduced to $28,003, all of which is
current.
5. NOTES PAYABLE
On May 31, 2000, CRL Systems, Inc. and Harman Acquisition Corp. (formerly
known as Orban, Inc.) entered into a Credit Agreement to establish the terms and
conditions of the $8,500,000 loan from Harman to CRL Systems. The agreement was
executed in conjunction with the Asset Sale Agreement between Harman and CRL
Systems, Inc. The loan is evidenced by two promissory notes, the Senior
Subordinated Tranche A Note (the "Tranche A Note") and the Senior Subordinated
Tranche B Note (the "Tranche B Note"). The Tranche A Note, in the amount of
$5,000,000, originally bore interest at 8 percent per annum and required
quarterly principal payments beginning March 31, 2001, with a balloon payment of
$3,000,000 due on March 31, 2003. The Tranche B Note, in the amount of
$3,500,000, originally bore interest at 8 percent per annum for the period from
June 1, 2000 to July 31, 2000 and 10 percent per annum from August 1, 2000 up to
its September 30, 2000 maturity date. The notes are collateralized by, among
other things, all receivables, inventory and equipment, investment property,
including CRL's capital stock in CRL Systems, and intellectual property of CRL
and CRL Systems, as defined in the Guarantee and Collateral Agreement. In
addition, all proceeds of debt or equity or sales of assets are to be first
applied to the remaining balance due on the notes, with the exception of
proceeds from the sale of stock to the Company's President and Chief Executive
Officer, Charles Jayson Brentlinger, pursuant to a Stock Purchase Agreement
between the Company and Mr. Brentlinger which was entered into prior to the date
of the Orban acquisition.
The Company received several payment extensions on the Tranche A and B
notes. First, in exchange for $150,000 cash and an increase in the interest
rates to 12 percent per annum for both the Tranche A and Tranche B notes, Harman
extended the maturity date of the Tranche B note to November 30, 2000. The
maturity date of the Tranche B note was subsequently extended several additional
times without fees or other significant changes to the original terms of the
note and was due in full on April 30, 2002. Also, the first principal payment on
the Tranche A note of $250,000, originally due March 31.
11
2001, was extended to September 30, 2001 with the remaining quarterly principal
payments deferred until April 30, 2002. Interest only payments are payable
monthly for both notes.
On October 1, 2001, the Company and Harman entered into an Amendment to the
Credit Agreement (the "Amended Credit Agreement") under which both the
short-term and the long-term promissory notes were amended and restated. Under
the Amended Credit Agreement, both promissory notes were converted to demand
notes payable upon the demand of Harman. Interest is paid monthly at 12 percent
per annum. Additionally, under the Amended Credit Agreement, the first
principal payment on the Tranche A Note of $250,000, the due date of which had
been extended to September 30, 2001, was increased to $1,250,000 and the
maturity date was extended to April 30, 2002.
On May 1, 2002, the Company entered into a Second Amendment to Credit
Agreement with Harman under which the long- and short-term demand notes were
amended and restated to remove the requirement for quarterly payments on the
long-term note and to extend the maturity dates for the notes to December 31,
2003, unless Harman demands payment at an earlier date. Interest only payments
remain payable monthly at 12 percent per annum for both notes and are also due
on demand.
On August 19, 2002 the Company executed a Letter of Agreement to extend the
interest payments due July 15, 2002, August 1, 2002 and August 15, 2002 each in
the amount of $42,410, for a total of $127,230 to be payable to Harman on or
before November 15th, 2002.
In November, 2002 the Company and Harman verbally agreed (which was later
formalized) to further extend the interest payments due July 15, 2002, August 1,
2002 and August 15, 2002 each in the amount of $42,410 and added the interest
payments due September 15, 2002 along with the semi monthly payments due in
October and November, each in the amount of $42,410 for a total that amounts to
$339,280 to be payable to Harman on or before December 6, 2002. The formalized
agreement amended the verbal agreement to require the Company to pay $100,000 of
interest in arrears on or before December 20, 2002 and to continue to make
timely payments.
We are in arrears for`interest installments on the Harman obligation in an
aggregate amount of $747,754 (at a rate of 12% per annum). Management for some
time has been negotiating with Harman Acquisition Corp., a wholly owned
subsidiary of Harman International Industries, Inc., with respect to
restructuring the existing debt of the Company to Harman of $8,482,000, which
currently bears interest of 12% per annum. If such a restructuring occurs under
the terms presently being discussed, the Company will need to make a principal
payment of $1,000,000 (which can be made in installments), following which the
interest rate on the unpaid balances will be reduced to 6% per annum retroactive
to April 1, 2003, $3,500,000 of the unpaid balance will be converted into 19% of
the common stock of the Company, and the remaining unpaid balance will be
payable over five years in accordance with a payment schedule. No agreement has
yet been entered into with Harman, and if no agreement is reached, the principal
balance of $8,182,000 plus interest at the rate of 12% per annum will continue
to be payable on demand. There is no assurance that the Company can reach a
final agreement with Harman for restructuring of the debt, nor that the
agreement, if entered into, will contain the same terms presently being
discussed.
12
On January 23, 2003, Jayson Russell Brentlinger, the father of the
Company's president, Charles Jayson Brentlinger, loaned the Company $100,000 for
its short term working capital needs. On May 9, 2003, the loan was paid in full
To induce Jayson Russull Brentlinger to make the loan, the Company issued
options to him to purchase 1,250,000 shares of common stock of the Company for a
purchase price of $0.55 per share, the market price of the shares on the date
the option was issued. Jayson Russell Brentlinger may exercise the option at
any time during the next 3 years. Jayson Russell Brentlinger has not exercised
any of the options.
On February 20, 2003 Robert Orban, the Company's Vice President and Chief
Engineer, loaned the Company $68,000 for short term working capital needs. The
loan was paid in full on May 20, 2003 with interest at the rate of 16 percent
per annum. To induce Mr. Orban to make the loan the company has given him a
choice to receive options to purchase 68,000 shares of common stock or to
receive 1 (one) share of common stock per dollar loaned. As of August 14, 2003,
Mr. Orban to date has not made a decision on his form of compensation.
On May 19, 2003, Phillip T Zeni, the Company's Executive Vice President and
Chief Operating Officer, loaned the Company $100,000 to be applied to the Harman
debt restructure. The loan is due August 19, 2003, with interest at a rate of 16
percent per annum. To induce Mr. Zeni to make the loan, the Company promised 2
(two) shares of common stock per dollar loaned. The Company will also issue
options to Mr. Zeni to purchase 200,000 shares of common stock of the Company
for a purchase price of $0.45 per share. These options will be issued up to one
year after the maturity date of the note, or when and if a Private Placement is
offered to raise the $1,000,000 to satisfy the terms of the Harman debt
restructure which ever occurs last. Two other shareholders loaned the company
$10,000 and $20,000 respectively, both signing one year notes accruing interest
at rate of 9% per annum. Both notes will be due and payable with interest in
June 2004.
We have applied $300,000 in payments to Harman during the three months
ended June 30 2003 to reduce the amount of principal to $8,182,000. The $300,000
may be re allocated to interest depending on the ongoing negotiations with
Harman.
6. ACQUISITION OF DIALOG4 ASSETS
On January 18, 2002, the Company acquired the assets of Dialog4 System
Engineering GmbH ("Dialog4"). Dialog4, a German corporation based in
Ludwigsburg, Germany, is a worldwide leader in ISO/MPEG, audio, ISDN, satellite
transmission, networking and storage.
The Company purchased the assets of Dialog4 pursuant to an Asset Sale and
Purchase Agreement for $2 million, comprised of 1,250,000 shares of restricted
common stock, valued at $1.00 per share, and $750,000 cash to be paid at a later
date either by the Company from its working capital or by the Company's
President and Chief Executive Officer, Charles Jayson Brentlinger. On April 8,
2002, the Company executed an amendment to the Asset Sale and Purchase Agreement
with Dialog4. The amended agreement extends the term of the Company's payments
to Dialog4 over twenty months while reducing the amount of the monthly payment
installments to $37,500 plus interest on the remaining principal balance at a
rate of 10 percent per annum. The monthly installments of principal and
interest are due and payable on the twentieth day of each month commencing April
20, 2002.
The Company owes Dialog4 approximately $597,000, payable $37,500 monthly
plus interest, for the purchase of the Dialog4 assets and we still need to
register the 1,250,000 shares issued to Dialog4 for the purchase of the assets.
The Company has not made any payments since August 2002 due to disputes with
Solectron and other companies that have claims against Dialog4. The company made
an effort and failed to negotiate with the Dialog4's creditors to assume some of
Dialog4's liabilities in lieu of making
13
payments directly to Dialog4. Dialog4 has since given notice of default for not
completing payments and has accelerated all amounts due. On February 14, 2003,
Dialog4 demanded we register the 1,250,000 shares issued to Dialog4 for the
purchase of the assets.
On April 29, 2003, the Company was notified that Dialog4 has filed a demand
for Arbitration. The Company responded on June 30, 2003 within the required
time limits as set forth by the Arbiter. The response citied various claims
against the representations and warranties represented in the Asset Purchase
Agreement. The Company is required to file a formal statement of defense by
August 25, 2003. No date has been set for the Arbitration hearing. There is no
assurance that we can achieve a satisfactory settlement with Dialog4. If we are
unable to do so, we will need to satisfy or settle the demands of Dialog4 for
payment under the original asset purchase agreement. We believe we have
defenses and claims against Dialog4 arising from the asset sale. The
acceleration by Dialog4 of the amounts due constitutes a default under the
existing credit agreements between the Company and Harman International, Inc.
and would continue to constitute a default even if our recent agreement is
finalized with Harman relating to the restructuring of the $8.5 million in notes
that we currently owe Harman.
On August 9, 2002, the Company agreed to purchase all existing inventory of
parts related to its Sountainer product from Solectron GmbH for a total price of
$829,328, payable in 24 equal monthly installments including interest. Solectron
had purchased the inventory pursuant to an agreement with Dialog4 approximately
two years prior to the purchase of the assets of Dialog4 by the Company. The
price was equal to the amount paid by Solectron for the inventory of which the
Company expects to realize from future sales of that inventory. The agreement
settled a dispute between the Company and Solectron in which Solectron claimed
the Company became liable for the obligation of Dialog4 to purchase the
inventory when the Company acquired the assets of Dialog4. The Company
maintains it did not undertake the obligation of Dialog4, but to settle the
dispute, agreed to purchase the inventory, which it will use in the manufacture
of Sountainer products. An amount of $233,000 is reported in other assets
pending delivery of that amount of inventory by Solectron.
The Company was obligated to pay Solectron GmbH $34,555 per month through
July 2004. The first monthly payment of $34,555 was made August 14, 2002 with
subsequent payments due and payable on the 15th of every month. On November 11,
2002, the Company and Solectron executed a letter of understanding in connection
with a Settlement Agreement under which Solectron has allowed us to defer the
October 15, 2002, November 15, 2002 and the December 15, 2002 payments. The
three deferred payments were to be made over the period of one year beginning in
January 2003, increasing the installments to $43,194 per month over the same
period of time,(through July 2004). Beginning in January 2004, the installments
were to revert to $34,555 per month until the balance is paid in full in July
2004. Mr. Brentlinger will also be required to sign a personal guarantee under
the revised Settlement Agreement. The Company further agreed to indemnify Mr.
Brentlinger should he be required to make any payment under this guarantee. On
March 11, 2003 the Board of Directors resolved that Mr. Brentlinger be
compensated for his guaranteeing the Solectron note and the Dialog4 note. His
compensation of $143,995 (including $60,061 unpaid at June 30, 2003) was
determined by calculating the difference between the stated interest rates of
the notes and the interest rate we would have to pay for a high risk loan of
20%. Mr. Brentlinger has been given a choice to receive his compensation in the
form of cash, shares, options or any combination there of.
On March 4, 2003, the Company and Solectron GmbH agreed to defer the
payments on the note until March 15, 2003, when the Company would commence
making principal and interest payments in $15,000 monthly installments through
August 15, 2003. Beginning September 15, 2003, the Company will increase its
principal and interest monthly installments to $40,068. Subsequent monthly
installments will be reduced each month by $194 effectively discounting the
monthly principal and interest payments due and payable until December 15, 2004,
when the company will make its final installment of $7,403.20.
14
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
The following discussion of our financial condition and results of
operations should be read together with the financial statements and the
accompanying notes included elsewhere in this report. This discussion contains
statements about future events, expectations, risks and uncertainties that
constitute forward-looking statements, as do discussions elsewhere in this
report. Forward-looking statements are based on management's beliefs,
assumptions and expectations of our future economic performance, taking into
account the information currently available to management. These statements are
not statements of historical fact. Forward-looking statements involve risks and
uncertainties that may cause actual results, performance or financial condition
to differ materially from the expectations of future results, performance or
financial condition we express or imply in any forward-looking statements. The
words "believe," "may," "will," "should," "anticipate," "estimate," "expect,"
"intend," "objective," "seek," "strive" or similar words, or the negative of
these words, identify forward-looking statements. Our actual results may differ
materially from those anticipated in those forward-looking statements as a
result of certain factors, including, but not limited to, those described below
under this Item 2, "Management's Discussion and Analysis or Plan of Operation -
Risk Factors." We qualify any forward-looking statements entirely by these
cautionary factors.
RECENT DEVELOPMENTS
Harman Debt
Management for some time has been negotiating with Harman Acquisition
Corp., a wholly owned subsidiary of Harman International Industries, Inc., with
respect to restructuring the existing debt of the Company to Harman of
$8,482,000, which currently bears interest of 12% per annum. If such a
restructuring occurs under the terms presently being discussed, the Company will
need to make a principal payment of $1,000,000 (which can be made in
installments), and the interest rate on the unpaid balances will be reduced to
6% per annum retroactive to April 1, 2003, $3,500,000 of the unpaid balance will
be converted into shares equal to 19% of the common stock of the Company, and
the remaining unpaid balance will be payable over five years in accordance with
a payment schedule. No agreement has yet been entered into with Harman, and if
no agreement is reached, the principal balance of $8,182,000 plus interest at
the rate of 12% per annum will continue to be payable on demand. There is no
assurance that the Company can reach a final agreement with Harman for
restructuring of the debt, nor that the agreement, if entered into, will contain
the same terms presently being discussed.
Dialog4
The Company owes Dialog4 approximately $597,000, payable $37,500 monthly
plus interest, for the purchase of the Dialog4 assets and we still need to
register the 1,250,000 shares issued to Dialog4 for the purchase of the assets.
The Company has not made any payments since August 2002 due to disputes with
Solectron and other companies that have claims against Dialog4. The company made
an unseccessful effort to negotiate with the Dialog4's creditors to assume some
of Dialog4's liabilities in lieu of making payments directly to Dialog4. Dialog4
has since given notice of default for not completing payments and has
accelerated all amounts due. On February 14, 2003, Dialog4 demanded the Company
register the 1,250,000 shares issued to Dialog4 for the purchase of the assets.
15
On April 29, 2003, the Company was notified that Dialog4 has filed a demand
for Arbitration. The Company responded on June 30, 2003 within the required
time limits as set forth by the Arbiter. The response citied various claims
against the representations and warranties represented in the Asset Purchase
Agreement. The Company is required to file a formal statement of defense by
August 25, 2003. No date has been set for the Arbitration hearing. There is no
assurance that we can achieve a satisfactory settlement with Dialog4. If we are
unable to do so, we will need to satisfy or settle the demands of Dialog4 for
payment under the original asset purchase agreement. We believe we have
defenses and claims against Dialog4 arising from the asset sale. The
acceleration by Dialog4 of the amounts due constitutes a default under the
existing credit agreements between the Company and Harman International, Inc.
and would continue to constitute a default even if our recent agreement is
finalized with Harman relating to the restructuring of the $8.5 million in notes
that we currently owe Harman.
OVERVIEW
We develop, manufacture and market high-quality electronic audio
processing, transmission encoding and noise reduction equipment for the
worldwide radio, television, cable, Internet and professional audio markets. In
recent periods, we have acquired the assets of other companies within our
industry or in related industries into which we desire to expand. On May 31,
2000, we acquired the assets of Orban, Inc., a producer of audio editing and
processing equipment. On May 31, 2001, we acquired the assets of Avocet
Instruments, Inc., a supplier of quality audio receivers and coders for the
television and post-production industry. On January 18, 2002, we acquired the
assets of Dialog4 System Engineering GmbH, a producer of ISO/MPEG, audio, ISDN,
satellite transmission, networking and storage.
We are still in the process of integrating the operations of our most
recently acquired operations, including integration of our financial accounting
and management information systems. Once this integration is complete, we
expect to benefit from cost savings produced by combined research and
development, marketing, sales and administration, manufacturing efficiencies and
cross-selling opportunities. Our recent acquisition of the Dialog4 product line
has led to the establishment of our new Orban Europe division offices in
Ludwigsburg, Germany. We now face the challenge of integrating our financial
accounting and management information systems with those of Dialog4 as well as
the challenge of overcoming obstacles produced as a result of different
corporate cultures, difficult legal system and different accounting and
reporting regulations. We will also face new risks arising from foreign currency
fluctuations.
16
The events of September 11, 2001, have had a significant impact on the
market for audio processing equipment. We have experienced a reduction in
orders for new audio equipment from many radio and television stations. We
believe this reduction is due in part to the decrease in advertising revenue
realized by these stations. We expect this trend to continue at least through
the third quarter of 2003.
We incurred losses of $2,135,039 and $2,046,640 during the years ended
December 31, 2002 and 2001, respectively. Our deteriorating financial results
and reduced liquidity caused us to renegotiate our $8.5 million loan agreement
with Harman. Under the terms of the debt restructure agreement; Harman can
demand at any time that we immediately pay in full the outstanding balance.
Should this happen, we would immediately be forced to file for protection under
Chapter 11 of the United States Bankruptcy Code. Our inability to pay the $8.5
million debt to Harman should payment be demanded, our difficulties in meeting
our financing needs and our negative working capital position have resulted in
our independent public accountants adding a going concern emphasis paragraph to
their report by including a statement that such factors raise substantial doubt
about our ability to continue as a going concern. In addition to our efforts to
reduce costs and increase sales, we are currently seeking sources of long-term
financing. However, the inclusion of a going concern emphasis paragraph
generally makes it more difficult to obtain trade credit or additional capital
through public or private debt or equity financings. We have currently engaged
HD Brous & Co., Inc. to advise and assist us in capital raising efforts. We
cannot offer any assurances that we will be able to attract additional capital
or that additional financing, if obtained, will be sufficient to meet our
current obligations. If we cannot meet our current obligations, our ability to
continue as a going concern will be jeopardized.
On January 23, 2003, Jayson Russull Brentlinger, the father of the
Company's president, Charles Jayson Brentlinger, loaned the Company $100,000 for
its short term working capital needs. The loan is repayable April 30, 2003,
without interest. To induce Jayson Russull Brentlinger to make the
17
loan, the Company issued options to him to purchase 1,250,000 shares of common
stock of the Company for a purchase price of $0.55 per share, the market price
of the shares on the date the option was issued. Jayson Russell Brentlinger may
exercise the option at any time during the next 3 years. As of May 9, 2003, the
loan was paid was paid in full. Jayson Russell Brentlinger has not exercised any
of the options.
On May 19, 2003, Phillip T Zeni, the Company's Executive Vice President and
Chief Operating Officer, loaned the Company $100,000 to be applied to the Harman
debt restructure. The loan is due August 19, 2003, with interest at a rate of 16
percent per annum. To induce Mr. Zeni to make the loan, the Company will issue 2
(two) shares of common stock per dollar loaned. The Company will also issue
options to Mr. Zeni to purchase 200,000 shares of common stock of the Company
for a purchase price of $0.45 per share. These options will be issued up to one
year after the maturity date of the note, or when and if a Private Placement is
offered to raise the 1,000,000 to satisfy the terms of the Harman debt
restructure which ever occurs last. Two other shareholders loaned the company
$10,000 and $20,000 respectively, both signing one year notes accruing interest
at rate of 9% per annum. The notes will be due and payable with interest in June
2004.
We have applied $300,000 in payments to Harman during the three months
ended June 30 2003 to reduce the amount of principal to 8,182,000. The $300,000
may be re allocated to interest depending on the ongoing negotiations with
Harman.
Management for some time has been negotiating with Harman Acquisition
Corp., a wholly owned subsidiary of Harman International Industries, Inc., with
respect to restructuring the existing debt of the Company to Harman of
$8,500,000, which currently bears interest of 12% per annum. If such a
restructuring occurs under the terms presently being discussed, the Company will
need to make a principal payment of $1,000,000 (which can be made in
installments), following which the interest rate on the unpaid balances will be
reduced to 6% per annum retroactive to April 1, 2003, $3,500,000 of the unpaid
balance will be converted into 19% of the common stock of the Company, and the
remaining unpaid balance will be payable over five years in accordance with a
payment schedule. No agreement has yet been entered into with Harman, and if no
agreement is reached, the principal balance of $8,500,000 plus interest at the
rate of 12% per annum will continue to be payable on demand. There is no
assurance that the Company can reach a final agreement with Harman for
restructuring of the debt, nor that the agreement, if entered into, will contain
the same terms presently being discussed
18
RESULTS OF OPERATIONS
The following table sets forth for the periods indicated certain summary
operating results:
Three Months Ended Six Months Ended
June 30, June 30,
---------- ---------- ---------- ----------
2003 2002 2003 2002
---------- ---------- ---------- ----------
Revenues:
Net sales $3,390,417 $2,767,849 $6,165,992 $5,730,375
Other income (expense) (15,273) 1,866 (3,880) 5,779
---------- ---------- ---------- ----------
Total revenues $3,375,144 $2,769,715 $6,162,112 $5,736,154
========== ========== ========== ==========
Gross profit on net sales $2,003,794 $1,364,800 $3,467,281 $2,767,322
Gross profit margin 59% 49% 56% 48%
Net cash provided by operating activities $450,047 $166,450 $321,648 $107,768
Net cash used in investing activities ($12,208) ($11,200) ($25,932) ($13,900)
Net cash used in financing activities ($362,358) (182,126) (250,341) (252,548)
Net income (loss) 160,181 (497,313) (166,958) (899,977)
Net income (loss) as a percent of net sales 5% (18%) (3%) (16%)
Income (loss) per share - basic and diluted $0.04 ($0.13) ($0.04) ($0.25)
19
THREE AND SIX MONTHS ENDED JUNE 30, 2003
COMPARED TO THE THREE AND SIX MONTHS ENDED JUNE 30, 2002
Net Sales. Net sales during the three and six months ended June 30, 2003
were $3.4 million and 6.2 million, respectively, compared to $2.8 million and
5.7 during the comparable periods in 2002 respectively, reflecting an increase
of 22% and a 9% respectively. The increase in net sales was primarily
attributable to an increase in demand for our product. Our Orban division
reported net sales for the three and six months ended June 30, 2003 of $2.9
million and $5.6 million, respectively, compared to $2.6 million and $4.8
million for the same periods in 2002. This increase was primarily a result of
an increased demand from our single largest customer by 28% during the three
months ended June 30, 2003 and 40% for the six months ended June 30 2003 as
compared to the same periods in 2002. Our CRL division reported net sales for
the three and six months ended of $198,000 and $261,000, respectively, compared
to $152,000 and $324,000 for the same periods in 2002, representing an increase
of 23% and decrease of 19%, respectively. This overall decrease was the result
of our move on December 12, 2002.The Company moved its corporate offices and
manufacturing to a new facility after the sale of its Tempe building. Net
sales for Orban Europe during the three and six months ended June 30, 2003 were
$190,000 and $261,000 respectively, as compared to $243,000 and $570,000 for the
same periods in 2002 reflecting a decrease of 21% and 54%. The decrease was
attributable to the change in suppliers for its Codec products.
Gross Profit. Gross profit for the three and six months June 30, 2003 was
59% and 56% respectively, compared to 49% and 48% for the same periods in 2002.
The increase of 21% and 17% respectively in gross profit is primarily due to
increased production runs in the San Leandro facility effectively reducing the
indirect costs associated with set up and labor. The higher production volume
while maintaining the same fixed overhead allows for a reduced "per unit"
cost.
Selling, General and Administrative. Selling, general and administrative
expenses ("SG&A") for the three and six months ended June 30, 2003 were
$1,149,000 and $2,190,000 respectively representing a decrease of 0% and 3%
respectively compared to $1,143,000 and $2,269,000 reported the same periods
during 2002. As a percentage of net revenue, SG&A decreased from 42% for the
three months ended June 30, 2002 to 34% for the same period in 2003. SG&A as a
percentage of net revenue decreased from 40% the six months to 36% for the
period in 2003. The decrease in SG&A expense is due in part to the variable
component of SG&A relating to our domestic and international sales and marketing
expenses. associated with reduction in our market costs. The fixed component of
SG&A has also decreased due to employee attrition.
Research and Development. Research and development expense during the
three and six months ended June 30, 2003 were $334,000 and $713,000
respectively, compared to $346,000 and $661,000 during the comparable periods
for 2002, respectively, reflecting a decrease of 4% and an increase of 8%. The
overall increase is due to an increase in personnel.
Other (Income) Expense. Other expense, net for the three and six months
ended June 30, 2003 was $296,000 and $583,000, respectively, of which $253,000
and $508,000 respectively, represents interest to Harman International
Industries, Inc. in connection with the seller carry-back loan that financed a
portion of our purchase price for the Orban assets. Other expense, net for the
three and six months ended June 30, 2002 was $286,000 and $565,000 respectively,
of which $255,000 and $510,000 respectively, represented interest to Harman.
Interest expense during the three and six months ended June 30, 2003 was
$281,000 and $579,000 respectively compared to $287,000 and $571,000 for the
same periods in 2002, respectively, reflecting an decrease of 2% and an increase
of 1% respectively. The decrease for the three months ended is due to the
reduction of the Harman principal by 300,000. The 1% increase represents the
interest expense associated with the Second Amendment to the Asset purchase of
Dialog4 assets and the agreement with Solectron.
20
Net Income (Loss). Net income (loss) for the three and six months
ended June 30, 2003 was $160,181 and ($166,958) respectively compared to net
loss of $497,000 and $900,000 for the same periods in 2002. Excluding the
impact of the non-cash items, we would have reported a net income of $75,559
for the six months ended June 30, 2003 compared to net loss of $641,000 for the
same period in 2002.
Non-cash expense items for the six months ended June 30, 2003 were as
follows:
50,479 Stock compensation
$192,038 Depreciation
--------
$242,517 Total (representing 145% of the net loss for the period)
========
Non-cash expense items for the six months ended June 30, 2002 were as
follows:
$(267) Decrease in provision for uncollectible accounts
50,000 Stock compensation
209,120 Depreciation
--------
$258,853 Total (representing 29% of the net loss for the period)
========
LIQUIDITY AND CAPITAL RESOURCES
We had negative net working capital of approximately $8.9 million at June
30, 2003, and the ratio of current assets to current liabilities was .30 to 1.
At June 30, 2002, we had net negative working capital of approximately $7.7
million and a current ratio of .31 to 1. The decrease in working capital is from
an increase in accrued interest.
The negative working capital primarily resulted from the conversion to
demand notes of the $3.5 million short-term note and the $5 million long-term
notes payable to Harman. The notes are payable on December 31, 2003 or upon the
earlier demand of Harman, as specified in the Second Amendment to Credit
Agreement that we entered into with Harman effective May 1, 2002.
Specified Payment Date Payment Amount
---------------------- --------------
April 30, 2002 $1,250,000
June 30, 2002 250,000
September 30, 2002 250,000
December 31, 2002 250,000
March 31, 2003 3,000,000
We have applied $300,000 in payments to Harman during the three months
ended June 30 2003 to reduce the amount of principal to $8,182,000. The $300,000
may be re allocated to interest depending on the ongoing negotiations with
Harman.
As described in Item 2 under the recent developments section, Harman and
the Company are negotiating a restructure by which Harman will reduce the
rate of interest from 12 percent per annum to 6 percent per annum.
21
Our substantial obligation to Harman may have important consequences for
us, including the following:
* Our ability to continue as a going concern will depend in part on whether
Harman demands payment on the $8.5 million debt, or any portion thereof;
* A significant portion of our cash flow from operations will be dedicated
to servicing our debt obligations and will not be available for other
business purposes;
* The terms and conditions of our indebtedness limit our flexibility in
planning for and reacting to changes in our business, and in making
strategic acquisitions;
* Our ability to obtain additional financing in the future for working
capital, capital expenditures and other purposes may be substantially
impaired; and
* Our substantial leverage may make us more vulnerable to economic
downturns and competitive pressures.
Our ability to meet our debt service obligations and reduce our total
indebtedness to Harman depends in part on our future operating performance. Our
future operating performance will depend on our ability to expand our business
operations by growing our core audio processing business, expanding our product
offerings and penetrating new and emerging markets, which we anticipate will
require additional financing. In addition, our future operating performance
will depend on economic, competitive, regulatory and other factors affecting our
business that are largely beyond our control. If we are unable to expand our
business operations as planned, we may not be able to service our outstanding
indebtedness to Harman.
We have currently engaged HD Brous & Co., Inc. to advise and assist us in
capital raising efforts. We cannot offer any assurances that we will be able to
attract additional capital or that additional financing, if obtained, will be
sufficient to meet our current obligations. If we cannot meet our current
obligations, our ability to continue as a going concern will be jeopardized.
22
As of May 15, 2003 we are in arrears for the interest installments on the
Harman obligation in an aggregate amount of $748,290.
On January 18, 2002 we acquired the assets of Dialog4 System Engineering
GmbH. We purchased the assets of Dialog4 pursuant to an Asset Sale and Purchase
Agreement for $2 million, comprised of 1,250,000 shares of our common stock,
valued at $1.00 per share, and $750,000 cash to be paid at a later date either
by us from our working capital or by our President and Chief Executive Officer,
Charles Jayson Brentlinger. On April 8, 2002, we executed an amendment to the
Asset Sale and Purchase Agreement with Dialog4. The amended agreement extends
the term of our payments to Dialog4 over twenty months while reducing the amount
of the monthly payment installments to $37,500 plus interest on the remaining
principal balance at a rate of 10 percent per annum. The monthly installments of
principal and interest are due and payable on the twentieth day of each month
commencing April 20, 2002.
The Company still owes Dialog4 approximately $597,000, payable $37,500
monthly plus interest, for the purchase of the Dialog4 assets and we still need
to register the 1,250,000 shares issued to Dialog4 for the purchase of the
assets. The Company has not made any payments since August 2002 due to disputes
with Solectron and other companies that have claims against Dialog4. The company
made an unsuccessful effort to negotiate with the Dialog4's creditors to assume
some of Dialog4's liabilities in lieu of making payments directly to Dialog4.
Dialog4 has since given notice of default for not completing payments and has
accelerated all amounts due. On February 14, 2003, Dialog4 demanded the Company
register the 1,250,000 shares issued to Dialog4 for the purchase of the assets.
On April 29, 2003, the Company was notified that Dialog4 has filed a demand
for Arbitration. The Company responded on June 30, 2003 within the required time
limits as set forth by the Arbiter. The response citied various claims against
the representations and warranties represented in the Asset Purchase Agreement.
The Company is required to file a formal statement of defense by August 25,
2003. No date has been set for the Arbitration hearing. There is no assurance
that we can achieve a satisfactory settlement with Dialog4. If we are unable to
do so, we will need to satisfy or settle the demands of Dialog4 for payment
under the original asset purchase agreement. We believe we have defenses and
claims against Dialog4 arising from the asset sale. The acceleration by Dialog4
of the amounts due constitutes a default under the existing credit agreements
between the Company and Harman International, Inc. and would continue to
constitute a default even if our recent agreement is finalized with Harman
relating to the restructuring of the $8.5 million in notes that we currently owe
Harman.
23
As a result of our acquisition of the Dialog4 assets, we are further
obligated to pay Solectron GmbH $34,555 per month through July 2004. The first
monthly payment of $34,555 was made August 14, 2002 with subsequent payments due
and payable on the 15th of every month. On November 11, 2002, the Company and
Solectron executed a letter of understanding in connection with the Settlement
Agreement under which Solectron has allowed us to defer the October 15, 2002,
November 15, 2002 and the December 15, 2002 payments. The three deferred
payments where to be made over the period of one year beginning in January 2003,
increasing the installments to $43,194 per month over the same period of time.
Beginning in January 2004, the installments will revert to $34,555 per month
until the balance is paid in full July 2004.
Working capital generated from 2003 operations will be used to service our
commitments as detailed above, excluding our obligations to Harman. Any excess
working capital generated from 2003 operations will be applied to expand our
business operations. The terms of the Harman debt restrict our ability to obtain
financing for these types of expansion expenditures, as well as financing for
other purposes. Accordingly, our ability to expand will primarily depend on our
ability to generate sufficient working capital from operations. We will closely
monitor our working capital in 2003 as we evaluate any expenditures related to
expansion.
Accounts receivable net were $1,169,000 at June 30, 2003 compared to
$646,000 at December 31, 2002 representing a net increase of $523,000 or 81%.
The increase is primarily due to an increase in sales from for the quarter ended
June 30, 2003 compared to the quarter ended December 31, 2002.
Total inventories were $2,244,000 at June 30, 2003 compared to total
inventories of $2,305,000 at December 31, 2002. The value of inventory
decreased $61,000 or 3% due in part to the use of some raw material.
For the year ending December 31, 2003, our principal working capital
requirements will be the payment of normal recurring operating costs. Management
believes that these requirements can be met from the operating cash flows.
On May 31, 2000, our wholly owned subsidiary, CRL Systems, Inc., acquired
the assets of Orban, Inc., a wholly owned subsidiary of Harman International
Industries, Inc. The total stated purchase price was $10.5 million, of which $2
million was paid in cash and the balance of which was paid by means of a
combination of short-term and long-term promissory notes that we issued to
Harman. On October 1, 2001, we entered into an Amendment to Credit Agreement
with Harman under which both the long-term and the short-term notes were
converted to demand notes payable on the demand of Harman or, if no demand is
sooner made, on the dates and in the amounts specified in the Amended Credit
Agreement. Effective May 1, 2002, we entered into a Second Amendment to Credit
Agreement with Harman under which both demand notes were amended and restated to
remove the requirement for quarterly payments on the long-term note and to
extend the maturity dates for the notes to December 31, 2003, unless Harman
demands payment at an earlier date. Interest only payments remain payable
monthly at 12 percent per annum for both notes and are also due on demand.
24
Approximately $9,573,000 of our total indebtedness is due and payable by
December 31, 2003, unless with respect to the $8,182,000 due Harman, payment is
demanded at an earlier date. Our President, Mr. Charles Jayson Brentlinger,
has committed to exercise his outstanding stock options, if necessary, to
satisfy a portion of the Company's debt payment requirements if operating cash
flows are inadequate to retire the debt. If Mr. Brentlinger exercised all of
his options to purchase shares of our common stock, we would realize gross
proceeds of approximately $1,250,000. We are actively pursuing opportunities to
raise additional capital through a private equity placement of our common stock,
asset based lending, or a combination of the two. We have currently engaged HD
Brous & Co., Inc. to advise and assist us in capital raising efforts. We cannot
offer any assurances that we will be able to attract additional capital or that
additional financing, if obtained, will be sufficient to meet our current
obligations. If we cannot meet our current obligations, our ability to continue
as a going concern will be jeopardized.
On June 12, 2000, we borrowed $68,387 from a non-management employee to
assist us in the purchase of the assets of Orban. The unsecured promissory note
evidencing the debt bears interest at 12 percent per annum. The note was
originally due September 12, 2000 but was extended to September 30, 2001 without
payment of a fee. In order to further extend the note, we agreed to make 12
monthly installment payments of principal and interest over a one-year period
commencing September 1, 2001. We did not pay a fee in connection with this
extension. As part of the agreement, the note continues to bear interest at 12
percent per annum, but is compounded monthly. As of June 30, 2003, we had paid
a total of $58,137 on the note and the remaining unpaid balance was $10,250.
On January 23, 2003, Jayson Russell Brentlinger, the father of the
Company's president, Charles Jayson Brentlinger, loaned the Company $100,000 for
its short term working capital needs. On May 9, 2003, the loan was paid in full
To induce Jayson Russull Brentlinger to make the loan, the Company issued
options to him to purchase 1,250,000 shares of common stock of the Company for a
purchase price of $0.55 per share, the market price of the shares on the date
the option was issued. Jayson Russell Brentlinger may exercise the option at
any time during the next 3 years. Jayson Russell Brentlinger has not exercised
any of the options.
On February 20, 2003 Robert Orban, the Company's Vice President and Chief
Engineer, loaned the Company $68,000 for short term working capital needs. The
loan was paid in full on May 20, 2003 with interest at the rate of 16 percent
per annum. To induce Mr. Orban to make the loan the company has given him a
choice to receive options to purchase 68,000 shares of common stock or to
receive 1 (one) share of common stock per dollar loaned. As of August 14, 2003,
Mr. Orban to date has not made a decision on his form of compensation.
On May 19, 2003, Phillip T Zeni, the Company's Executive Vice President and
Chief Operating Officer, loaned the Company $100,000 to be applied to the Harman
debt restructure. The loan is due August 19, 2003, with interest at a rate of 16
percent per annum. To induce Mr. Zeni to make the loan, the Company promised 2
(two) shares of common stock per dollar loaned. The Company will also issue
options to Mr. Zeni to purchase 200,000 shares of common stock of the Company
for a purchase price of $0.45 per share. These options will be issued up to one
year after the maturity date of the note, or when and if a Private Placement is
offered to raise the $1,000,000 to satisfy the terms of the Harman debt
restructure which ever occurs last. Two other shareholders loaned the company
$10,000 and $20,000 respectively, both signing one year notes accruing interest
at rate of 9% per annum. Both notes will be due and payable with interest in
June 2004.
RISK FACTORS
You should carefully consider the following risk factors and all other
information contained in this report in evaluating us and our business. You
should also keep these risk factors in mind when you read and consider the
forward-looking statements in this report and other reports we file with the
SEC. The risks and uncertainties described below are not the only ones facing
us. Additional risks and uncertainties that we are unaware of, or that we
currently deem less material, also may become important factors that affect us.
AS A RESULT OF OUR LARGE OUTSTANDING DEBT OBLIGATIONS, WE HAVE SIGNIFICANT
ONGOING DEBT SERVICE REQUIREMENTS WHICH MAY ADVERSELY AFFECT OUR FINANCIAL AND
OPERATING FLEXIBILITY.
On May 31, 2000, we acquired the assets of Orban, a wholly-owned
subsidiary of Harman International Industries, Inc. Including the $250,000
previously paid to Harman as non-refundable deposits in 1999, the total stated
purchase price was $10.5 million, of which $2 million was paid in cash and the
balance of which was paid by means of a combination of short-term and long-term
promissory notes that we issued to Harman. As of September 30, 2001, our total
indebtedness was approximately $8.5 million. Effective October 1, 2001, this
indebtedness was converted to demand notes payable on the demand of Harman or,
if no demand is sooner made, on the dates and in the amounts set forth in the
amended Credit Agreement that we entered into with Harman. Our substantial
leverage may have important consequences for us, including the following:
* our ability to continue as a going concern will depend in part on
whether Harman demands payment on the $8.5 million debt, or any portion
thereof; a significant portion of our cash flow from operations will be
dedicated to servicing our debt obligations and will not be available
for other business purposes;
25
* the terms and conditions of our indebtedness limit our flexibility in
planning for and reacting to changes in our business, and in making
strategic acquisitions;
* our ability to obtain additional financing in the future for working
capital, capital expenditures, and other purposes may be substantially
impaired; and
* our substantial leverage may make us more vulnerable to economic
downturns and competitive pressures.
Our ability to meet our debt service obligations and reduce our total
indebtedness to Harman depends in part on our future operating performance. Our
future operating performance will depend on our ability to expand our business
operations by growing our core audio processing business, expanding our product
offerings and penetrating new and emerging markets, which we anticipate will
require additional financing. In addition, our future operating performance
will depend on economic, competitive, regulatory and other factors affecting our
business that are beyond our control. If we are unable to expand our business
operations as planned, we may not be able to service our outstanding
indebtedness to Harman.
THE EXISTENCE OF AN UNQUALIFIED OPINION CONTAINING A GOING CONCERN EMPHASIS
PARAGRAPH MAY MAKE IT MORE DIFFICULT FOR US TO OBTAIN CREDIT OR ADDITIONAL
CAPITAL AND MAY JEOPARDIZE OUR RELATIONSHIP WITH EXISTING AND NEW CUSTOMERS.
Our inability to pay the $8.5 million debt to Harman should payment be
demanded, our difficulties in meeting our financing needs and our negative
working capital position created by the demand notes have resulted in our
independent public accountants adding a going concern emphasis paragraph in
their report by including a statement that such factors raise substantial doubt
about our ability to continue as a going concern. The inclusion of a going
concern emphasis paragraph generally makes it more difficult to obtain trade
credit, insurance or additional capital through public or private debt or equity
financings. We may also find it more difficult to maintain existing customer
relationships and to initiate new customer relationships.
WE WILL NEED ADDITIONAL DEBT OR EQUITY TO SERVICE THE DEBT PAYABLE AS A RESULT
OF OUR ACQUISITION OF ORBAN, AND WE MAY NOT BE ABLE TO OBTAIN THIS FINANCING ON
ACCEPTABLE TERMS.
Upon our acquisition of the assets of Orban, we issued a $3.5 million
short-term note and a $5 million long-term note payable to Harman. Effective
October 1, 2001, both of these notes were converted to demand notes payable on
the demand of Harman or, if no demand is sooner made, on the dates and in the
amounts set forth in the amended Credit Agreement that we entered into with
Harman. Our ability to service this debt will depend on our ability to obtain
either additional debt or equity financing, or a combination thereof. We cannot
be sure, however, that we will be able to obtain the necessary debt or equity
financing on acceptable terms. Also, additional debt financing or the sale of
additional equity securities may cause the market price of our common stock to
decline. If we are unable to obtain additional debt or equity financing on
acceptable terms, we may have to negotiate further restructuring of the debt
with Harman. If Harman is unwilling to restructure the debt, we may default on
the debt and our ability to continue as a going concern would be jeopardized.
26
OUR ABILITY TO OBTAIN AN OUTSIDE LINE OF CREDIT IS SUBJECT TO THE APPROVAL OF
OUR CURRENT CREDITORS AND, IF SUCH APPROVAL IS WITHHELD, OUR ABILITY TO COMPETE
EFFECTIVELY IN OUR INDUSTRY COULD BE JEOPARDIZED.
In connection with our acquisition of Orban, we entered into a Credit
Agreement with Harman. Under the terms of the Credit Agreement, we are bound by
certain covenants that prevent us from obtaining additional credit facilities
without the prior written approval of Harman. This limitation on our ability to
obtain additional outside lines of credit may curtail our ability to make
strategic acquisitions and to conduct research and development. This in turn
could jeopardize our competitive position within our industry.
FOREIGN CURRENCY FLUCTUATIONS COULD ADVERSELY AFFECT OUR RESULTS OF OPERATIONS.
On January 18, 2002, we acquired the assets of Dialog4 System Engineering
GmbH. Our acquisition of this new product line has led to the establishment of
our new Orban Europe offices in Ludwigsburg, Germany. Transactions and expenses
of our Orban Europe operations will be conducted in Euros which will expose us
to market risks related to foreign currency exchange rate fluctuations that
could adversely affect our operating results. For instance, a strengthening of
the U.S. dollar against the Euro could reduce the amount of cash and income we
receive and recognize from Orban Europe. Furthermore, it is likely that for
accounting purposes we will recognize foreign currency gains or losses arising
from our operations in Europe on weighted average rates of exchange in the
period incurred and translate assets and liabilities of these operations into
U.S. dollars based on year-end foreign currency exchange rates, both of which
are subject to currency fluctuations between the U.S. dollar and the Euro. As
foreign exchange rates vary, our results from operations and profitability may
be adversely affected.
We expect to derive approximately 13% of our total revenues from our Orban
Europe operations. This percentage may increase in future years as we further
develop and expand our operations in Europe. We cannot predict the effects of
exchange rate fluctuations on our operating results. We do not currently intend
to engage in foreign currency exchange hedging transactions to manage our
foreign currency exposure. If and when we do engage in foreign currency
exchange hedging transactions, we cannot assure you that our strategies will
adequately protect our operating results from the effects of exchange rate
fluctuations.
WE HAVE A LIMITED OPERATING HISTORY ON WHICH TO BASE AN EVALUATION OF OUR
COMBINED OPERATIONS WITH ORBAN AND OUR PROSPECTS FOR THE FUTURE.
We commenced our combined operations with Orban on May 31, 2000.
Accordingly, we have a limited operating history on which an evaluation of our
combined operations with Orban can be based. Our prospects must be considered
in light of the risks, expenses, difficulties and uncertainties frequently
encountered by companies in the early stages of integration, such as:
* the difficulty of integrating the operations, technologies, personnel and
cultures of our companies;
* the potential disruption of the ongoing business of our companies;
* the distraction of management of our companies from ongoing business
concerns;
* potential unknown liabilities associated with the merger of our
companies; and
* the potential disruption of our employee base.
We cannot guarantee that any or all of the above risks, expenses,
difficulties and uncertainties will not occur as a result of our integration of
the Orban operations. Nor can we guarantee that our integration with Orban will
be achieved successfully or as rapidly as we would like.
27
OUR FUTURE SUCCESS IS DEPENDENT ON OUR SUCCESSFUL INTEGRATION OF THE ORBAN
OPERATIONS INTO OUR OWN.
We are in the process of integrating the operations of Orban with our
existing operations in order to achieve economies of scale, manufacturing and
marketing efficiencies, reduced operational expenses and cross-selling
opportunities. Although the combination of our operations with those of Orban
has produced substantial synergies, nevertheless this combination is ongoing and
continues to present significant management challenges. We cannot assure you
that this integration, and the synergies expected to result from that
integration, will be achieved to the extent initially anticipated. If management
is unable to completely and successfully integrate our operations with those of
Orban, we will not fully realize the benefits of integration noted above, and
our business, results of operations and financial condition could be adversely
affected.
WE SERVE A MARKET IN WHICH THERE ARE A LIMITED NUMBER OF CUSTOMERS AND OUR
FINANCIAL WELL-BEING IS DIRECTLY TIED TO THE FINANCIAL HEALTH OF THESE
CUSTOMERS.
In recent years, the radio and television industry in the United States
has experienced a great deal of consolidation of ownership. As a result,
several corporations each now own a substantial number of radio and television
stations. These corporations are the largest purchasers of our audio processing
and post-production equipment. Moreover, a significant amount of our revenue is
derived from audio processing replacement orders that come from these customers.
Our financial stability and well-being is thus directly tied to the financial
health of these customers. If these customers experience financial difficulty,
regardless of the cause, they may delay, reduce or cancel orders for new audio
processing or post-production equipment. If this occurs, our results of
operations could decline and we could experience difficulty in servicing our
debt obligations.
WE MUST ADAPT TO RAPID TECHNOLOGICAL CHANGE AND INCREASED COMPETITION IF WE ARE
GOING TO BE ABLE TO COMPETE EFFECTIVELY IN OUR INDUSTRY.
While audio processing has been and will continue to be our core business,
we are using our existing technologies to enter the emerging markets of digital
audio broadcasting, cable television and Internet-related audio delivery. These
markets are characterized by rapid technological change and require a
significant commitment of capital and human resources. We intend to engage
continually in research and development activities so that we can improve our
current products and develop new products. However, our significant debt
obligations may limit the amount of resources, both capital and human, that we
can commit to research and development. This could jeopardize the success and
reception of our products in these emerging markets. In addition, because of
the rapid pace of change and the intense competition that characterizes these
markets, our products may become unmarketable or obsolete by a competitor's more
rapid introduction to the marketplace.
WE MAY NOT BE ABLE TO RETAIN OUR EXISTING PERSONNEL OR HIRE AND RETAIN THE
ADDITIONAL PERSONNEL THAT WE NEED TO SUSTAIN AND GROW OUR BUSINESS.
Our future success will depend on our ability to attract, retain and
motivate employees with the necessary skills and expertise required by our
business. Competition for employees who possess the technical expertise to
develop and manufacture our products is intense. A shortage in available
skilled labor could require us to increase our wages and benefits to attract and
retain enough employees. An increase in our labor costs, or our inability to
attract, retain and motivate employees, would likely harm our growth plans and
may adversely affect our business and results of operations.
28
WE DEPEND ON A NUMBER OF VENDORS TO SUPPLY US WITH COMPONENT PARTS THAT ARE
NECESSARY TO THE PRODUCTION OF OUR AUDIO PROCESSING AND POST-PRODUCTION
EQUIPMENT.
We rely on certain vendors to provide component parts for use in the
manufacturing of our audio processing and post-production equipment. As
technology improves, some of these parts have become obsolete and vendors have
discontinued their production of such parts. When this occurs, we must either
obtain these necessary parts from alternative sources, or design around these
parts so that we are able to continue producing our audio processing and
post-production equipment. If any of the component parts that we require become
unavailable and we are not able to design around these parts, we may not be able
to offer some of our products and our sales revenues may decline.
OUR PRESIDENT, CHIEF EXECUTIVE OFFICER AND CHAIRMAN OF THE BOARD EXERCISES
SIGNIFICANT CONTROL OVER US.
Charles J. Brentlinger, our President, Chief Executive Officer and Chairman
of the Board, currently owns 822,035 shares of our common stock and holds
options to purchase approximately 1,365,005 additional shares. Based on a total
of 3,858,468 shares of our common stock issued and outstanding as of June 30,
2003, if Mr. Brentlinger exercises all of his options he will own of record and
beneficially approximately 41.9% of our issued and outstanding shares. This
means that Mr. Brentlinger exercises, and will continue to exercise, significant
control over the business and affairs of our company. Mr. Brentlinger's exercise
of this control may, in certain circumstances, deter or delay a merger, tender
offers, other possible takeover attempts or changes in our management which may
be favored by some or all of our minority shareholders.
WE DEPEND ON A FEW KEY MANAGEMENT PERSONS.
We are substantially dependent on the personal efforts and abilities of
Charles Jayson Brentlinger, our Chairman, President and Chief Executive Officer,
and Robert Orban, our Vice President and Chief Engineer. The loss of either of
these officers or our other key management persons could harm our business and
prospects for growth. As a result, we have obtained key man life insurance
policies on the lives of each of these officers. We also have employment
agreements with each of these officers which are more fully described elsewhere
in this report.
THE LOCATION OF OUR ORBAN DIVISION SUBJECTS US TO A NUMBER OF RISKS THAT ARE
BEYOND OUR CONTROL WHICH COULD RESULT IN PRODUCTION INTERRUPTIONS.
Our business depends on the efficient and uninterrupted production of our
audio processing equipment and other products. Our Orban division is currently
located in San Leandro, California, and we expect to maintain our operations at
this facility for the foreseeable future. While we have taken precautions
against production interruptions, interruptions could nevertheless result from
natural disasters such as earthquakes, fires or floods. In addition, the power
shortages which occur in California from time to time have resulted in planned
and unplanned power outages and increased energy costs which we may not be able
to pass on to our customers. Power outages, which last beyond our backup and
alternative power arrangements, could harm our customers and our business.
Finally, our location in the Silicon Valley corridor of California subjects us
to increased operating costs and labor shortages which could adversely affect
our production capabilities and result in reduced revenues.
29
THE MARKET PRICE OF OUR COMMON STOCK HAS BEEN VOLATILE AND THE VALUE OF YOUR
INVESTMENT MAY DECLINE.
The volatility of the market price of our common stock may cause wide
fluctuations in the price of our common stock on the OTC Bulletin Board. The
market price of our common stock is likely to be affected by:
* changes in general conditions in the economy or the financial markets;
* variations in our quarterly operating results;
* changes in financial estimates by securities analysts;
* other developments affecting us, our industry, customers or competitors;
* the operating and stock price performance of companies that investors
deem comparable to us; and
* the number of shares available for resale in the public markets under
applicable securities laws.
THE LIQUIDITY OF OUR COMMON STOCK COULD BE RESTRICTED BECAUSE OUR COMMON STOCK
FALLS WITHIN THE DEFINITION OF A PENNY STOCK.
Under the rules and regulations of the Securities and Exchange Commission
(SEC), as long as the trading price of our common stock on the OTC Bulletin
Board is less than $5 per share, our common stock will come within the
definition of a "penny stock." On June 30, 2003, the last sale price of our
common stock on the OTC Bulletin Board was $0.36 per share. Generally speaking,
the definition of a "penny stock" does not include stock that is traded on
Nasdaq or on a national securities exchange. Since our common stock is traded
on the OTC Bulletin Board, rather than on Nasdaq or a national securities
exchange, our common stock falls within the definition of a "penny stock" while
it is trading below $5 per share. As a result, the trading of our common stock
is subject to certain "penny stock" rules and regulations.
The SEC rules and regulations require that broker-dealers, prior to
effecting any transaction in a penny stock, satisfy certain disclosure and
procedural requirements with respect to the prospective customer. These
requirements include delivery to the customer of an SEC-prepared risk disclosure
schedule explaining the nature and risks of the penny stock market, disclosure
to the customer of the commissions payable to both the broker-dealer and any
other salesperson in connection with the transaction, and disclosure to the
customer of the current quotations for the stock to be purchased. In addition,
if the broker-dealer is the sole market maker, it must disclose this fact and
the broker-dealer's presumed control over the market. Finally, prior to
effecting any penny stock transaction, broker-dealers must make individualized
written suitability determinations and obtain a written agreement from customers
verifying the terms of the transaction. Subsequent to any sale of penny stock,
broker-dealers must send monthly statements disclosing recent price information
for the penny stock held in the customer's account and certain other information
relating to the limited market in penny stocks. These rules, regulations and
procedural requirements may restrict the ability of broker-dealers to sell our
common stock or discourage them from doing so. As a result, purchasers may find
it more difficult to dispose of, or to obtain accurate quotations for, our
common stock.
30
BECAUSE OUR SUCCESS DEPENDS IN PART ON OUR ABILITY TO PROTECT OUR INTELLECTUAL
PROPERTY, INFRINGEMENT ON OUR PROPRIETARY RIGHTS COULD LEAD TO COSTLY LITIGATION
AND DECREASED REVENUES.
Our copyrights, patents, trademarks, trade secrets and similar intellectual
property are critical to our success. To establish and protect our proprietary
rights, we rely on a combination of copyright, trademark, patent and trade
secret laws, confidentiality and non-disclosure agreements and contractual
provisions with employees and third parties, and license agreements with
consultants, vendors and customers. Despite such protections, there can be no
assurance that these steps will be adequate, that we will be able to secure
trademark registrations for all of our marks in the United States or other
countries or that third parties will not infringe upon or misappropriate our
copyrights, patents, trademarks and similar proprietary rights. In addition,
effective copyright, patent and trademark protection may be unenforceable or
limited in certain countries. In the future, litigation may be necessary to
enforce and protect our trade secrets, copyrights, patents and other
intellectual property rights. We may also be subject to litigation to defend
against claims of infringement of the rights of others or to determine the scope
and validity of the intellectual property rights of others. Any such litigation
could cause us to incur substantial expenses and would adversely affect our
financial condition.
31
ITEM 3. CONTROLS AND PROCEDURES.
Within 90 days prior to the filing date of this 2003 Form 10-QSB, we carried out
an evaluation, under the supervision and with the participation of our principal
executive officer and principal financial officer, of the effectiveness of the
design and operation of our disclosure controls and procedures. Based on this
evaluation, our principal executive officer and principal financial officer
concluded that our disclosure controls and procedures are effective in alerting
them in a timely manner to material information required to be disclosed in our
periodic reports filed with the SEC. It should be noted that the design of any
system of controls is based in part upon certain assumptions about the
likelihood of future events, and there can be no assurance that any design will
succeed in achieving its stated goals under all potential future conditions,
regardless of how remote.
In addition, we reviewed our internal controls, and there have been no
significant changes in our internal controls or in other factors that could
significantly affect those controls subsequent to the date of their most recent
evaluation.
32
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEDINGS
On April 29, 2003, the Company was notified that Dialog4 has filed a demand
for Arbitration. The Company responded on June 30, 2003 within the required time
limits as set forth by the Arbiter. The response citied various claims against
the representations and warranties represented in the Asset Purchase Agreement.
The Company is required to file a formal statement of defense by August 25,
2003. No date has been set for the Arbitration hearing. There is no assurance
that we can achieve a satisfactory settlement with Dialog4. If we are unable to
do so, we will need to satisfy or settle the demands of Dialog4 for payment
under the original asset purchase agreement. We believe we have defenses and
claims against Dialog4 arising from the asset sale. The acceleration by Dialog4
of the amounts due constitutes a default under the existing credit agreements
between the Company and Harman International, Inc. and would continue to
constitute a default even if our recent agreement is finalized with Harman
relating to the restructuring of the $8.5 million in notes that we currently owe
Harman.
As of February 14, 2003, Berthold Burkhardtsmaier ceased to be an employee
of the company. Mr. Burkhardtsmaier remains a member of the Board of
Directors. Berthold Burkhardtsmaier was Dialog4's managing director, and had
become our Vice President of European Operations and was appointed to our board
of directors in connection with the acquisition of the assets of Dialog4. We
terminated Mr. Burkhardtsmaier for cause and he has appealed his termination to
the labor court in Ludwigsburg, Germany, the location of our European office.
ITEM 2. CHANGES IN SECURITIES
RECENT SALES OF UNREGISTERED SECURITIES
Set forth below is information concerning sales of our common stock (or
transactions deemed to be sales) during the quarter ended June 30, 2003 that
were not registered under the Securities Act of 1933, as amended (the "Act").
All such securities are restricted securities and the certificates bear
restrictive legends.
On January 18, 2002, our wholly owned subsidiary, CRL Systems, Inc. doing
business as Orban, Inc., acquired the assets of Dialog4 System Engineering GmbH,
a worldwide leader in ISO/MPEG, audio, ISDN, satellite transmission, networking
and storage. Orban/CRL purchased the assets of Dialog4 pursuant to an Asset
Sale and Purchase Agreement for $2 million, comprised of 1,250,000 shares of our
common stock, valued at $1.00 per share, and $750,000 cash. In connection with
this transaction, we relied on the exemption from registration under Section
4(2) of the Act.
Mr. Phil Zeni was issued an aggregate of 51,622 shares during the quarter
ended June 30 2003. Under his employment contract, Mr. Zenis' monthly base
compensation is paid to him in shares of stock. The value of the stock for
purposes of these payments is the monthly average closing price for the month in
which the salary is earned.
33
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit
Number Description
2.1(1) Asset Sale and Purchase Agreement, dated as of November 16, 2001, among
Dialog4 System Engineering GmbH, Berthold Burkhardtsmaier, Cornelia
Burkhardtsmaier, Friedrich Maier, Circuit Research Labs, Inc. and CRL
Systems, Inc.
10.1(1) Amendment to Existing Agreements and Closing Declaration, dated as of
January 18, 2002, among Dialog4 System Engineering GmbH, Berthold
Burkhardtsmaier, Cornelia Burkhardtsmaier, Friedrich Maier, Circuit
Research Labs, Inc., CRL Systems, Inc. and Charles Jayson Brentlinger
10.2(2) Second Amendment to Existing Agreements and Closing Declaration, dated
as of March 26, 2002, among Dialog4 System Engineering GmbH, Berthold
Burkhardtsmaier, Cornelia Burkhardtsmaier, Friedrich Maier, Circuit
Research Labs, Inc., CRL Systems, Inc. and Charles Jayson Brentlinger
10.3(3) Second Amendment to Credit Agreement, dated as of May 1, 2002, by and
among Circuit Research Labs, Inc., as Parent, CRL Systems, Inc. as
Borrower, and Harman Acquisition Corporation (formerly known as Orban,
Inc.), as Lender
10.4(3) Second Amended and Restated Tranche A Note, dated as of May 1, 2002,
from CRL Systems, Inc. to Harman Acquisition Corporation (formerly known
as Orban, Inc.) in the amount of $5,000,000
10.5(3) Second Amended and Restated Tranche B Note, dated as of May 1, 2002,
from CRL Systems, Inc. to Harman Acquisition Corporation (formerly known
as Orban, Inc.) in the amount of $3,500,000
10.6(4) Form of Circuit Research Labs, Inc. Stock Option Agreement
99.1(5) Letter Agreement between Circuit Research Labs, Inc. and Harman
Acquisition Corp. dated as of March 27, 2003
99.2(6) Letter Agreement among Circuit Research Labs, Inc., CRL Systems, Inc.
and Harman Acquisition Corp. dated as of May 16, 2003
99.3 * Section 906 Certification of Chief Executive Officer of the Company
99.4 * Section 906 Certification of Chief Financial Officer of the Company
* Filed herewith.
(1) Incorporated by reference to the Registrant's Report on Form 8-K dated
February 4, 2002.
(2) Incorporated by reference to the Registrant's Report on Form 10-KSB for the
fiscal year ended December 31, 2001.
(3) Incorporated by reference to the Registrant's Report on Form 8-K dated May
13, 2002.
(4) Previously filed with the Registrant's Form 10-QSB for the first quarter
ended March 31, 2002.
(5) Incorporated by reference to the Registrant's Report on Form 8-K dated April
1, 2003.
(6) Previously filed with the Registrant's Form 10-QSB for the first quarter
ended March 31, 2003.
(b) During the three months ended June 30, 2003, the Registrant filed
the following reports on Form 8-K:
Form 8-K (Item 7 and 9) filed on April 1, 2003 announced a letter
agreement between the Registrant and Harman Acquisiton Corp.
34
SIGNATURES
In accordance with 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.
CIRCUIT RESEARCH LABS, INC.
Dated: August 14, 2003 By: /s/ Robert W. McMartin
--------------------------------
Robert W. McMartin
Vice President, Treasurer and
Chief Financial Officer
35
CERTIFICATIONS
I, C. Jayson Brentlinger, certify that:
1. I have reviewed this quarterly report on Form 10-QSB of Circuit Research
Labs, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent
function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: August 14, 2003 /s/ C. Jayson Brentlinger
----------------------------
Chief Executive Officer,
President and
Chairman of the Board
36
I, Robert W. McMartin, certify that:
1. I have reviewed this quarterly report on Form 10-QSB of Circuit Research
Labs, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent
function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: August 14, 2003 /s/ Robert W. McMartin
------------------------
Chief Financial Officer,
Vice President and Treasurer
37
EXHIBIT INDEX
Exhibit Description
Number
2.1(1) Asset Sale and Purchase Agreement, dated as of November 16, 2001, among
Dialog4 System Engineering GmbH, Berthold Burkhardtsmaier, Cornelia
Burkhardtsmaier, Friedrich Maier, Circuit Research Labs, Inc. and CRL
Systems, Inc.
10.1(1) Amendment to Existing Agreements and Closing Declaration, dated as of
January 18, 2002, among Dialog4 System Engineering GmbH, Berthold
Burkhardtsmaier, Cornelia Burkhardtsmaier, Friedrich Maier, Circuit
Research Labs, Inc., CRL Systems, Inc. and Charles Jayson Brentlinger
10.2(2) Second Amendment to Existing Agreements and Closing Declaration, dated
as of March 26, 2002, among Dialog4 System Engineering GmbH, Berthold
Burkhardtsmaier, Cornelia Burkhardtsmaier, Friedrich Maier, Circuit
Research Labs, Inc., CRL Systems, Inc. and Charles Jayson Brentlinger
10.3(3) Second Amendment to Credit Agreement, dated as of May 1, 2002, by and
among Circuit Research Labs, Inc., as Parent, CRL Systems, Inc. as
Borrower, and Harman Acquisition Corporation (formerly known as Orban,
Inc.), as Lender
10.4(3) Second Amended and Restated Tranche A Note, dated as of May 1, 2002,
from CRL Systems, Inc. to Harman Acquisition Corporation (formerly known
as Orban, Inc.) in the amount of $5,000,000
10.5(3) Second Amended and Restated Tranche B Note, dated as of May 1, 2002,
from CRL Systems, Inc. to Harman Acquisition Corporation (formerly known
as Orban, Inc.) in the amount of $3,500,000
10.6(4) Form of Circuit Research Labs, Inc. Stock Option Agreement
99.1(5) Letter Agreement between Circuit Research Labs, Inc. and Harman
Acquisition Corp. dated as of March 27, 2003
99.2(6) Letter Agreement among Circuit Research Labs, Inc., CRL Systems, Inc.
and Harman Acquisition Corp. dated as of May 16, 2003
99.3 * Section 906 Certification of Chief Executive Officer of the Company
99.4 * Section 906 Certification of Chief Financial Officer of the Company
* Filed herewith.
(1) Incorporated by reference to the Registrant's Report on Form 8-K dated
February 4, 2002.
(2) Incorporated by reference to the Registrant's Report on Form 10-KSB for the
fiscal year ended December 31, 2001.
(3) Incorporated by reference to the Registrant's Report on Form 8-K dated May
13, 2002.
(4) Previously filed with the Registrant's Form 10-QSB for the first quarter
ended March 31, 2002.
(5) Incorporated by reference to the Registrant's Report on Form 8-K dated April
1, 2003.
(6) Previously filed with the Registrant's Form 10-QSB for the first quarter
ended March 31, 2003.
38