UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K/A
Amendment No. 1
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended August 2, 2009
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. 0-5411
Herley Industries, Inc.
(Exact name of registrant as specified in its charter)
Delaware 23-2413500
(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation or organization)
3061 Industry Drive, Suite 200, Lancaster, Pennsylvania 17603
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(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (717) 397-2777
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101 North Pointe Boulevard, Lancaster, Pennsylvania 17601
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(Former Address of Principal Executive Offices) (Zip Code)
Securities registered pursuant to Section 12(b) of the Act:
Common Stock, $.10 par value the NASDAQ Stock Market LLC
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(Title of Class) Name of each exchange on which registered
Securities registered pursuant to Section 12(g) of the Act: None
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Indicate by check mark if the registrant is a well-known seasoned issuer, as
defined in Rule 405 of the Securities Act. Yes [ ] No [X]
Indicate by check mark if the registrant is not required to file reports
pursuant to Section 13 or Section 15(d) of the Act. Yes [ ] No [X]
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant has submitted electronically and
posted on its corporate Website, if any, every Interactive Data File required to
be submitted and posted pursuant to Rule 405 of Regulation S-T (ss.229.405 of
this chapter) during the preceding 12 months (or for such shorter period that
the registrant was required to submit and post such reports). Yes [ ] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of "accelerated
filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check
one):
[ ] Large accelerated filer [X] Accelerated filer [ ] Non-accelerated filer
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
The aggregate market value of the Registrant's voting Common Stock held by
non-affiliates of the Registrant, based on the closing sale price of the Common
Stock of $11.08 as reported on The Nasdaq Global Market as of February 1, 2009,
the last business day of the Registrant's most recently completed second fiscal
quarter, was approximately $142,456,000.
The number of shares outstanding of Registrant's Common Stock, $ .10 par value
on October 7, 2009 was 13,701,326.
Documents incorporated by reference: None
EXPLANATORY NOTE
Herley Industries, Inc., (the "Company," "we," "us" or "our") is filing this
Amendment No. 1 on Form 10-K/A to our Report on Form 10K for the fiscal year
ended August 2, 2009 (the "Report") for the purposes of correcting typographic
errors and including information that was to be incorporated by reference from
our definitive proxy statement pursuant to Regulation 14A of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"). We will not file our
proxy statement within 120 days of our fiscal year ended August 2, 2009, and
are, therefore, amending and restating in their entirety Items 10, 11, 12, 13
and 14 of Part III of the Report.
Except as described above, no other amendments are being made to the Report.
This Form 10-K/A does not reflect events occurring after the October 16, 2009
filing of our Report or modify or update the disclosure contained in the Report
in any way other than as required to reflect the amendments discussed above and
reflected below.
This amendment should be read in conjunction with our Annual Report for the
fiscal year ended August 2, 2009 filed on Form 10-K on October 16, 2009.
HERLEY INDUSTRIES, INC.
TABLE OF CONTENTS
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Page
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PART I
Item 1. Business. 3
Item 1A. Risk Factors. 11
Item 1B. Unresolved Staff Comments. 16
Item 2. Properties. 16
Item 3. Legal Proceedings. 16
Item 4. Submission of Matters to a Vote of Security Holders. 17
PART II
Item 5. Market for Registrant's Common Equity, Related Shareholder
Matters and Issuer Purchases of Equity Securities. 17
Item 6. Selected Financial Data. 19
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations. 20
Item 7A. Quantitative and Qualitative Disclosures about Market Risk. 31
Item 8. Financial Statements and Supplementary Data. 32
Item 9. Changes in and Disagreements on
Accounting and Financial Disclosure. 32
Item 9A. Controls and Procedures. 32
Item 9B. Other Information. 35
PART III
Item 10. Directors, Executive Officers and Corporate Governance. 35
Item 11. Executive Compensation Tables. 39
Item 12. Security Ownership of Certain Beneficial Owners. 46
Item 13. Certain Relationships and Related Transactions, and Director
Independence. 47
Item 14. Principal Accountant Fees and Services. 48
PART IV
Item 15. Exhibits and Financial Statement Schedules. 48
SIGNATURES 50
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS F-1
2
PART I
Item 1. Business
FORWARD-LOOKING STATEMENTS
All statements other than statements of historical fact included in this Annual
Report, including without limitation statements under, "Management's Discussion
and Analysis of Financial Condition and Results of Operations" and "Business,"
regarding our financial position, business strategy and our plans and objectives
of management for future operations, are forward-looking statements.
Forward-looking statements involve various important assumptions, risks,
uncertainties and other factors which could cause our actual results to differ
materially from those expressed in such forward-looking statements.
Forward-looking statements in this Annual Report can be identified by words such
as "anticipate," "believe," "could," "estimate," "expect," "plan," "intend,"
"may," "should" or the negative of these terms or similar expressions. Although
we believe that the expectations reflected in the forward-looking statements are
reasonable, we cannot guarantee future results, performance or achievement.
Actual results could differ materially from those contemplated by the
forward-looking statements as a result of certain factors including but not
limited to, competitive factors and pricing pressures, changes in legal and
regulatory requirements, cancellation or deferral of customer orders,
technological change or difficulties, difficulties in the timely development of
new products, difficulties in manufacturing, commercialization and trade
difficulties and general economic conditions as well as the factors set forth in
our public filings with the Securities and Exchange Commission.
You are cautioned not to place undue reliance on the forward-looking statements,
which speak only as of the date of this Annual Report or the date of any
document incorporated by reference, in this Annual Report. We are under no
obligation, and expressly disclaim any obligation, to update or alter any
forward-looking statements, whether as a result of new information, future
events or otherwise.
For these statements, we claim the protection of the safe harbor for
forward-looking statements contained in Section 21E of the Securities Exchange
Act of 1934.
GENERAL
The Company's corporate offices are located at 101 North Pointe Boulevard,
Lancaster, Pennsylvania 17601. The telephone number of the Company at that
location is (717) 735-8117. The Company's web site is located at www.herley.com.
The Company makes its periodic and current reports available, free of charge, on
its web site as soon as reasonably practicable after such material is
electronically filed with, or furnished to, the Securities and Exchange
Commission. The Company's Common Stock is listed on The Nasdaq Global Market
under the symbol "HRLY."
BACKGROUND
We are a leading supplier of microwave products and systems to defense and
aerospace entities worldwide. Our primary customers include large defense prime
contractors (including Northrop Grumman Corporation, Lockheed Martin
Corporation, Raytheon Company, The Boeing Company, BAE Systems and Harris
Corporation), the U.S. Government (including the Department of Defense, NASA and
other U.S. Government agencies) and international customers (including the
Israeli, Egyptian, German, Japanese, Taiwanese, Spanish, Australian and South
Korean militaries and suppliers to international militaries). We are a leading
provider of microwave technologies for use in command and control systems,
flight instrumentation, weapons sensors and electronic warfare systems. We have
served the defense industry since 1965 by designing and manufacturing microwave
devices for use in high technology defense electronics applications. Our
products and systems are currently deployed on a wide range of high profile
military platforms, including the F-16 Falcon, the F/A-18E/F Super Hornet, the
E-2C/D Hawkeye, EA-18G Growler, the AEGIS class surface combatants, the EA-6B
Prowler, the AMRAAM air to air missile, CALCM (Conventional Air Launch Cruise
Missile), Multi-mission Maritime Aircraft and unmanned aerial vehicles, or UAVs,
as well as high priority national security programs such as National Missile
Defense and the Trident II D-5.
ACQUISITIONS
We have grown internally and through strategic acquisitions and have evolved
from a component manufacturer to a systems and service provider. We have
successfully integrated these acquisitions by targeting microwave technology
companies and focusing their strengths into our existing operations. Some of our
significant acquisitions have included the following:
- - In January 1999, we acquired General Microwave Corporation of Farmingdale, New
York, a manufacturer of microwave components and electronic systems. During
fiscal 2009, we closed our manufacturing facility in Farmingdale, NY and
transferred its contracts and assets to our other facilities in Whippany, New
Jersey; Woburn, Massachusetts; Lancaster, Pennsylvania; and Jerusalem, Israel.
3
- - In September 2002, we acquired EW Simulation Technology, Limited ("EWST"), a
company located in Farnborough, in the United Kingdom. EWST designs, develops
and produces electronic warfare simulator systems for prime defense contractors
and countries worldwide.
- - In March 2004, we acquired Communication Techniques, Inc. ("CTI"), of
Whippany, New Jersey. CTI designs, develops and produces state-of-the-art signal
generation components, high performance fast switching synthesizers and
integrated assemblies. When CTI was acquired, the majority of these products
were for digital radio, SONET, Satellite Communications, test and
instrumentation, data communications, and wired and wireless applications up to
45 Gigahertz ("GHz") and 45 Gigabits Per Second ("Gb/s"). Since the acquisition,
CTI has been focused on applying their high performance products to military
applications including radar, EW systems, simulators, and secure wireless
communications systems.
- - In February 2005, we acquired Micro Systems, Inc. ("MSI"), Fort Walton Beach,
Florida, a market leader in the design and manufacture of command and control
systems for the operation of unmanned aerial, seaborne and ground targets.
- - In April 2005, we acquired Innovative Concepts, Inc. ("ICI"), McLean,
Virginia, which has a successful history of developing and providing wireless
communications technology and real-time embedded systems, software, hardware and
high-speed processing in support of the defense industry. On September 18, 2008,
the Company executed an agreement (the "Agreement") with a foreign defense
company to divest ICI. On November 10, 2008, the Company sold the stock of ICI
for approximately $15 million, of which $750,000 is held in escrow as security
for certain indemnification obligations.
- - In September 2008, we acquired Eyal Microwave Industries ("Eyal"), Kibbutz
Eyal, Israel, a privately-held Israeli company. Eyal is a leading supplier of a
broad range of innovative, high-reliability, RF, microwave and millimeter wave
components and customized subsystems for the global defense industry.
BUSINESS STRATEGY
Our goal is to continue to leverage our proprietary technology, microwave
expertise and manufacturing capabilities to further expand our penetration in
our market. Our strategies to achieve our objectives include:
- - INCREASE LEVELS OF COMPONENT INTEGRATION AND VALUE ADDED CONTENT. Due to
growth of engineering expertise, new product development, and acquisitions, we
have increased our capability to provide more component integration. Management
believes component integration adds value and will enable us to increase content
in defense platforms and systems, thereby increasing our revenue and
profitability.
- - MAINTAIN LEADERSHIP IN MICROWAVE TECHNOLOGY. We intend to pursue further
technological advances through continued investment in internally-funded and
customer-funded research and product development.
- - STRENGTHEN AND EXPAND CUSTOMER RELATIONSHIPS. We have developed mutually
beneficial relationships with various agencies of the U.S. Government and
defense and commercial companies. We expect to continue to build and strengthen
these relationships with industry leaders by anticipating and recognizing their
needs and providing them with on-time and cost-effective solutions.
- - CAPITALIZE ON OUTSOURCING DYNAMICS IN THE AEROSPACE AND DEFENSE INDUSTRY.
Microwave technology has traditionally been an in-house resource of the prime
contractors. However, the prime contractors are beginning to outsource the
design and manufacture of this specialized engineering work to system
sub-contractors. We are well positioned to generate more business as prime
contractors continue to focus primarily on integration of defense electronics.
- - PURSUE STRATEGIC ACQUISITIONS. We intend to continue to augment our existing
technological base by acquiring specialized companies that complement or expand
our product offerings and market strategies. We believe that expansion of our
core competencies through the acquisition of such specialized technology
companies, when combined with our current technological and manufacturing
skills, will provide us with improved levels of horizontal and vertical
integration, leading to the creation of subsystems and complete system products.
- - ENHANCE MANUFACTURING CAPABILITIES. We intend to continue to implement process
manufacturing automation, and believe that our ability to develop a high level
of automated production and test capability will help to further improve our
cost effectiveness and time to market.
4
COMPETITIVE STRENGTHS
Our competitive strengths include:
- - TECHNICAL EXPERTISE. We have developed a leading position in the field of
microwave technology through more than 40 years of focus on research and
development and through our state-of-the-art design and production capabilities.
We have a full range of capabilities including long and short run production,
hardware assembly and full-service engineering at our facilities located in
Lancaster, Pennsylvania; Woburn, Massachusetts; Whippany, New Jersey; Fort
Walton Beach, Florida; Farnborough, England; and Jerusalem and Kibbutz Eyal,
Israel.
- - HIGH PROPORTION OF LONG-TERM SOLE-PROVIDER PRODUCTION PROGRAMS. We generate a
significant proportion of our revenue from continuing, long-term programs, both
in the production and upgrade phases, and continue to target high growth, high
priority defense programs. Typically, on such long-term defense programs we are
the sole provider of microwave equipment.
- - DIVERSE PRODUCT AND CUSTOMER BASE. We have a diverse product and customer
base. The U.S. Government accounted for approximately 12% of our fiscal 2009
revenues. Lockheed Martin Corporation and Northrop Grumman Corporation accounted
for approximately 13% and 16%, respectively in fiscal 2009. No other customer
accounted for 10% or more of consolidated net sales during this period. We are a
first-tier supplier to all of the prime defense contractors, as well as a direct
supplier to all of the service branches of the U.S. military, including products
found on over 120 individual platforms. Foreign customers accounted for
approximately 33% of our revenues in fiscal 2009.
- - LONG-STANDING INDUSTRY RELATIONSHIPS. We have established long-standing
relationships with the U.S. Government and other key organizations in the
aerospace and defense industry after more than 40 years in the defense
electronic industry. Over this period, we have become recognized for our ability
to develop new technologies and meet stringent program requirements.
- - SUCCESSFUL ACQUISITION TRACK RECORD. We have demonstrated that we can
successfully integrate acquired companies. We are experienced at evaluating
prospective operations in order to increase efficiencies and capitalize on
market and technological synergies.
- - EMPHASIS ON RESEARCH AND DEVELOPMENT. In fiscal year 2009, we spent
approximately $22.5 million on new product development, of which our customers
funded approximately $10.5 million. Our emphasis on new product development
enables us to maintain our technological leadership in current products and to
develop new capabilities. This spending helps solidify and strengthen our
position on different programs and may serve as a barrier to entry for
competitors.
- - EXPERIENCED MANAGEMENT TEAM. Our senior management team averages over 25 years
of experience in the defense electronics industry.
PRODUCTS AND SERVICES
We are a leading supplier of microwave products and systems to defense and
aerospace entities worldwide. We design and manufacture microwave components and
subassemblies which are embedded in a variety of radars, flight instrumentation,
weapons sensors, electronic warfare systems and guidance systems. Our microwave
devices are used on our subassemblies and integrated systems (e.g. command and
control systems, telemetry systems, transponders, flight termination receivers
and identification friend or foe, or IFF, interrogators), in addition to being
sold on a component basis.
The following are descriptions of our major systems and products:
Telemetry Systems. Telemetry systems provide wireless data transmission between
two or more sites for recording and analysis. Missile, UAV, or target testing on
domestic and international test ranges requires flight safety and performance
data transmission to maximize flight safety during test operations. Surveillance
and intelligence gathering UAVs also require a data transmission downlink and a
command and control systems uplink to accomplish their mission. We have
developed a telemetry system capability that can be configured to meet
individual customers' needs. Various components of the system include data
encoders, transmitters and flight termination receivers. Each has a distinctive
role and each is the key to the success of the mission.
We are a leading manufacturer of Pulse Code Modulation, or PCM, and Frequency
Modulation, or FM, telemetry and data acquisition systems for severe environment
applications, and our products are used worldwide for testing space launch
vehicle instrumentation, aircraft flight testing, and amphibian, industrial and
automotive vehicle testing. The product portfolio ranges in size and complexity
from miniature encoders to completely programmable data acquisition systems.
5
We offer a complete airborne data link system. With our digital capability in
data encoding and acquisition elements combined with our radio frequency
capability in providing telemetry transmitters and flight termination receivers,
we offer a full line of narrow and wide-band airborne telemetry systems to meet
a wide variety of industrial needs, both domestically and internationally.
Command and Control Systems. Our command and control ("C2") systems principally
are used to fly remotely a large variety of unmanned aerial vehicles, or UAVs,
typically aircraft used as target drones or Remotely Piloted Vehicles, or RPVs.
Our C2 systems also control surface targets. Operations have been conducted by
users on the open ocean, remote land masses, and instrumented test and training
ranges. Our C2 systems are currently in service throughout the world. C2 systems
permit a ground operator to fly a target or a UAV through a pre-planned mission.
The mission may be for reconnaissance, where the vehicle is equipped with high
definition TV sensors and the necessary data links to send information back to
its C2 systems ground station. The UAV may also be used as a decoy, since the
operator can direct the flight operations that will make the small drone appear
to be a larger combat aircraft.
Our Modular Networked TarGet Control Equipment ("MONTAGE") system affords
over-the-horizon C2 using GPS guidance and control of multiple targets from a
single ground station. The ability to control multiple targets at increased
distances represents a significant product improvement. The MONTAGE is a highly
flexible, multiple processor design with high resolution graphics, which can be
field-configured within minutes to fly or control any selected vehicle for which
it is equipped. The MONTAGE is used in support of missile, aircraft and other
weapons systems development and testing and for training purposes. The system
meets a growing requirement to test against multiple threats with the automated
defense capabilities of ships with the AEGIS radar and the E-2C aircraft.
Transponders. We manufacture a variety of expendable transponders, including
range safety, IFF, command and control, and range scoring systems. Transponders
are small, expendable, electronic systems consisting of a transmitter, sensitive
receiver and internal signal processing equipment comprised of active and
passive components, including microwave subassemblies such as amplifiers,
oscillators and circulators. The transponder receives signals from radars,
changes and amplifies the frequency of the signals, and transmits back a reply
on a different frequency and signal level. This reply is a strong, noise-free
signal upon which the tracking radar can "lock," and one which is far superior
to skin reflection tracking, particularly under adverse weather conditions after
the launch.
In range safety applications, transponders enable accurate tracking of space
launch and unmanned aerial vehicles, missiles, and target drones so that
position and direction are known throughout its flight. In the case of several
defense and commercial space launch vehicles (i.e., Delta, Atlas, Titan and
Pegasus), our transponders are tracked by the ground launch team all the way to
space orbit, and in certain instances through several orbits, as a reference
location point in space to assure that the launch payload has been properly
placed in orbit.
IFF transponders, which are used in conjunction with the Federal Aviation
Authority Air Traffic Control System, enable ground controllers to identify the
unmanned targets, drones and cruise missiles on which these units fly and to
vector other manned aircraft safely away from the flight path of the unmanned
aerial vehicle.
Command and control transponders provide the link through the telemetry system
for relaying ground signals to direct the vehicle's flight. The uplink from the
ground control station, a series of coded pulse groups, carries the signals that
command the flight control guidance system of the vehicle. The downlink to the
ground provides both tracking signals for range safety, as well as
acknowledgment and status of the uplink commands and their implementation in the
vehicle. The transponder is therefore the means to fly the vehicle. Scoring
systems are mounted on both airborne and sea targets. Scoring systems enable
test and evaluation engineers to determine the "miss-distance" between a
projectile and the target at which it has been launched.
Flight Termination Receiver. A flight termination receiver, or FTR, is installed
in a test missile, UAV, target or space launch vehicle as a safety device. The
FTR has a built-in decoder that enables it to receive a complex series of audio
tones which, when appropriate, will set off an explosive charge that will
destroy the vehicle. A Range Safety Officer, or RSO, using the range safety
transponder will track the vehicle in flight to determine if it is performing as
required. If the RSO detects a malfunction in the test or launch vehicle that
causes it to veer from a planned trajectory in a manner that may endanger
personnel or facilities, the RSO will transmit a coded signal to the onboard FTR
to destroy the vehicle.
HF Communications and IFF Interrogators. We design and manufacture high
frequency radio and IFF interrogators. This high frequency communications
equipment is used by the U.S. Navy and foreign navies that conduct joint
military exercises with the U.S. Navy. The IFF interrogators are used as part of
shipboard equipment and are also placed on coastlines, where they are employed
as silent sentries. We have been a significant supplier to the Republic of Korea
for over twenty years and have a large, established installed base of equipment.
We have been, and continue to be, a supplier to the Republic of Korea DDX, LPX
and KDX destroyer programs.
6
High Power Amplifier. We design and manufacture high power amplifier systems
with frequencies ranging from 1.5 Megahertz ("MHz") to 12 Gigahertz ("GHz") with
power levels from 15 watts up to several kilowatts depending on the frequency.
Our high power amplifier applications include but are not limited to defense
communication, electronic warfare, radar and avionics.
Microwave Integrated Circuits. We design and manufacture complex microwave
integrated circuits, or MICs, which consist of sophisticated assemblies that
perform many functions, primarily involving switching of microwave signals. Our
MICs are employed on many defense electronics systems and missile programs.
High/Low Power Integrated Assembly. Our high power microwave devices are used in
radar system transmitters and in long-range missiles. High power devices
frequently use small amounts of nuclear material to enhance breakdown of high
energy pulses, and we are one of very few companies with an active nuclear
license that permits the handling of these trace amounts of nuclear materials.
There are relatively few companies with the expertise or facilities to design,
manufacture and test high power devices. We also produce lower power, broad band
microwave integrated assemblies for the defense electronics industry. These
complex assemblies combine microwave functions such as amplification,
attenuation, switching of multiple signals, and phase and amplitude control.
Their applications include Radar Warning Receivers, or RWRs, Electronics
Countermeasure, or ECM, systems and highly sensitive receiver systems.
Solid State Receiver Protector. We have become a preeminent supplier of
solid-state receiver protector devices that are able to withstand high energy
pulses without the use of nuclear materials. These high power devices protect a
radar receiver from transient bursts of microwave energy and are employed in
almost every military and commercial radar system.
Digitally Tuned Oscillators ("DTOs"), Phase Locked Dielectric Resonator
Oscillators ("PDROs"), Phase Locked Coaxial Resonator Oscillators ("PCROs") and
Synthesizers. We produce microwave sources, which generate signals that are used
in microwave oscillators. Our microwave sources are sold to the U.S. defense
industry for high performance commercial communication system applications, and
to various foreign governments. We specialize in both fixed frequency
oscillators (DTOs, PDROs, and PCROs), as well as tunable frequency synthesizers.
Low noise frequency synthesizers are offered over a broad range of tunable
bandwidths and switching speeds.
Simulation Equipment. EW Simulation Technology Limited, a U.K. company and
wholly owned-subsidiary, designs and manufactures radar threat and electronic
countermeasures simulation equipment for electronic warfare training and test
and evaluation applications. Radar threat and countermeasures simulator products
include but are not limited to the following:
- - CHAMELEON is a real time electronic countermeasures ("ECM") jamming simulator.
It uses a variety of ECM techniques and radar target modeling for training and
testing of both radar and EW operators and systems. The system offers a fully
programmable ECM capability using wideband Digital RF Memory ("DRFM")
technology; and offers fully coherent jamming in both range and velocity through
the use of 8-bit DRFM technology together with Graphical User Interface ("GUI")
software. The CHAMELEON is suited for ground-based and airborne ECM test and
training systems.
- - The RSS8000 Series Radar Threat Simulator generates real-time user
programmable radar threats and provides output configurations in digital
on-board trainer ("OBT") and RF (RSS series) formats. The system can be used for
EW system test and evaluation as well as for EW operator training in laboratory
and more rugged environments. The RSS8000 equipment covers the range from 100MHz
to 40 GHz and can be configured to suit any application from a portable single
RF source unit to multiple RF source and multiple port DF system. The DF systems
are available in amplitude, DTOA and/or phase formats with the ports being
capable of angular rotation.
- - Mobile EW and Radar Test Systems ("MERTS") is a mobile EW and radar test
system providing a complete portable jamming and radar threat test facility for
field use. It provides a turnkey test and evaluation system for field
applications and includes both the CHAMELEON and RSS8000 systems integrated into
one operational unit. The MERTS equipment is housed within an air-conditioned
ISO container mounted on a four-wheel drive truck that allows portable on-site
test and evaluation of radar and EW systems as well as operator training.
- - PTS8000, this is a new product introduced this year and is a true
multi-spectral portable test suite aimed at the pre-flight test market. The low
cost system is modular in design and includes a control unit, a wide band RF
test head for testing RWR systems and an Ultra Violet (UV) head for testing
Missile approach warners (MAW). The technology developed here uses the latest UV
LED technology and is able to simulate not only Missile attack but also small
arm and anti aircraft threats. Enhancements already planned include Infra Red
and laser warner test capability.
RF Simulation Equipment. Micro Systems Inc., a Florida based company and
wholly-owned subsidiary, designs and manufactures Digital RF Memories ("DRFM"s),
Radar Target Simulators, and Radar Environment Simulators for operator training
and critical testing of a variety of electronic warfare systems including
Radars, Jammers, and ELINT/SIGINT systems. DRFM technology is also incorporated
into ECM systems worldwide. These simulator products include but are not limited
to the following:
7
- - Digital RF Memories are subsystems that digitize RF waveforms, store, delay,
modulate and eventually replay the RF waveform. These items are used in
ECM/Jamming systems, Radar Target Simulators and ECM Simulators.
- - Radar Target Generators capture/replay or generate radar waveforms and
transmits signals back to the radar to simulate what the radar would see in an
operational environment. Aircraft, missiles, ships, buildings, weather, clutter
and ECM can be generated for radar operator training and comprehensive radar
system testing.
- - Radar Environment Simulators ("RES") also capture/replay or generate radar
waveforms and inject them directly into the radar under test. These simulators
use either DRFM or Synthesizer/Digital Signal Processing technology to generate
the waveforms. Complex graphical user interfaces are provided for the simulator
operator to aide in the development of complex environments for the radar. These
RES systems are similar to Radar Target Generators, but are typically more
complex due to the level of fidelity and processing required by the simulator.
Scientific Products. Our scientific products are used extensively in Nuclear
Magnetic Resonance ("NMR") systems. These amplifiers, which have dual mode
capability and can be operated in either a pulsed or continuous wave, cover the
frequency ranges of 6 MHz to 950 MHz, with power levels as high as 2.0KW peak
power at 10% duty cycle. Scientific customers include Original Equipment
Manufacturers ("OEM"), system manufacturers and research centers.
Medical Products. Our medical products vary in complexity from single modules,
to rack-mounted amplifiers, to complete systems. The rack-mounted amplifiers and
complete systems typically include detection/protection circuitry, built-in
power supplies, front panel metering and digital and/or analog interface
controls. Both forced air and/or water cooling are used, depending on the
customer's requirements. Our medical products are used in Magnetic Resonance
Imaging, or MRI, systems. All amplifiers have dual mode capability and can be
operated in either a pulsed or continuous wave mode, and cover the frequency
range of 10 MHz to 200 MHz with power levels as high as 12.0KW peak power at 10%
duty cycle. Medical customers include OEM, as well as universities and research
centers.
All products feature highly reliable technical solutions designed for improved
production and reliability. Producibility is enhanced through the use of surface
mount components and circuit designs which eliminate the need for excessive
alignment during the production cycle. High reliability is achieved through the
implementation of conservative thermal and RF circuit design and sophisticated
self-protection schemes. Reliability is further enhanced during the design phase
through significant environmental testing and in production through the use of
environmental stress screening.
CUSTOMERS
During the fiscal years ended August 2, 2009, August 3, 2008 and July 29, 2007,
approximately 12%, 14% and 12% of our net sales respectively, were attributable
to contracts directly with offices and agencies of the U.S. Government. Lockheed
Martin Corporation and Northrop Grumman Corporation accounted for approximately
13% and 16%, respectively of net sales in fiscal 2009 and each accounted for
approximately 12% and 11% in fiscal years 2008 and 2007, respectively. No other
customer accounted for 10% or more of consolidated net sales during fiscal years
2009, 2008 or 2007.
We provide defense electronics equipment to major defense prime contractors for
integration into larger platforms and systems. Some of our customers for defense
electronics equipment include:
The Boeing Company BAE Systems Harris Corporation
Lockheed Martin Corporation Northrop Grumman Corporation Raytheon Company
During fiscal 2009, sales to foreign customers accounted for approximately 33%
of our net sales. Sales to foreign customers from our domestic locations
accounted for 9% of net sales with the remaining sales generated from the United
Kingdom (2%) and Israel (22%). The governments of Israel, Egypt, Japan, South
Korea, Taiwan and the United Kingdom are all significant customers. All of our
domestic contracts with foreign customers are payable in U.S. dollars. Contracts
with customers originating in Israel and England are either in U.S. dollars or
the local functional currency. International sales are subject to numerous
risks, including political and economic instability in foreign markets, currency
and economic difficulties in the Pacific Rim, restrictive trade policies of
foreign governments, inconsistent product regulation by foreign agencies or
governments, imposition of product tariffs and burdens and costs of complying
with a wide variety of international and U.S. export laws and regulatory
requirements. Our international sales are also subject to our obtaining export
licenses for certain products and systems.
SALES AND MARKETING
We market our products worldwide to the United States Government, prime
contractors and various countries in defense markets, and to OEM, research
institutions and universities in commercial markets. Sales are primarily through
a sales force generally organized by geographic territory and markets. In
8
addition, we have contracts with manufacturers' representatives in the United
States and international representatives who are located in Western Europe, the
Middle East and Asia. As part of our marketing efforts, we advertise in major
trade publications and attend major industrial shows in the commercial, medical,
satellite communications and defense markets.
After we have identified key potential customers, we make sales calls with our
own sales, management and engineering personnel. In order to promote widespread
acceptance of our products and provide customers with support, our sales and
engineering teams work closely with our customers to develop tailored solutions
to their requirements. We believe that our customer engineering support provides
us with a key competitive advantage.
We also produce microwave components that are sold through our catalog, which
for more than forty years has been an industry leader, and sell attenuating
devices and IQ modulation and phase shifters through the Microwave Engineer's
Handbook.
MANUFACTURING
We manufacture our products from standard components, as well as from items that
are manufactured by vendors to our specifications. A majority of our defense
electronics and commercial assemblies and subsystems contain proprietary
technology which is designed and tested by our engineers and technicians and is
manufactured at our own facilities.
We continue to invest in improving our proprietary manufacturing processes and
the automation of the manufacturing processes. Automation is critical in meeting
our customers' demands for price competitiveness, world class quality and
on-time delivery. We are also investing to enhance our responsiveness to the
production demands of our customers.
We purchase electronic components and other raw materials used in our products
from a large number of suppliers and all such materials are readily available
from alternate sources.
We maintain minimal levels of finished products inventory, principally to meet
the needs of our medical products customers. We generally purchase raw materials
for specific contracts, and we purchase common components for stock based on our
firm fixed backlog.
There are no significant environmental control procedures required concerning
the discharge of materials into the environment that require us to invest in any
significant capital equipment or that would have a material effect on our
earnings or our competitive position.
Quality assurance inspections are performed on manufacturing processes,
purchased items, work-in-process and finished products. Due to the complexity of
our products, final tests are performed on some products by highly skilled
engineers and technicians.
Our primary manufacturing facilities have been registered by internationally
recognized and accredited certification bodies to the ISO 9001:2000 standard.
ISO 9001:2000 provides the requirements for Quality Management Systems ("QMS")
encompassing product design, manufacturing, delivery, installation and
servicing. The registration of the Company's facilities to the most
comprehensive ISO 9001:2000 QMS standard provides assurance of our facilities
continuing ability to satisfy quality requirements and to enhance customer
satisfaction in supplier-customer relationships. Assembly, test, packaging and
shipment of products are done at our manufacturing facilities located in the
following cities:
Lancaster, Pennsylvania
Woburn, Massachusetts
Whippany, New Jersey
Fort Walton Beach, Florida
Jerusalem, Israel
Kibbutz Eyal, Israel
Farnborough, England
BACKLOG
Our funded backlog of orders was approximately $182 million on August 2, 2009
which are covered by signed contracts or purchase orders. There was no unfunded
backlog at August 2, 2009. Of our total backlog at August 2, 2009, $118 million
(65%) is attributable to domestic orders and $64 million (35%) is attributable
to foreign orders.
Our backlog of orders is subject to change including possible cancellation of
orders, change orders to contracts and other factors which may be beyond our
control. Accordingly, our backlog is not necessarily indicative of the revenues
and earnings which may be realized when the results of such contracts are
reported in the financial statements. Management anticipates that approximately
80% of the backlog at August 2, 2009 will be shipped during the fiscal year
ending August 1, 2010.
9
Approximately 99% of our backlog consists of firm fixed price contracts, some of
which require delivery over time periods in excess of one year. With this type
of contract we agree to deliver products at a fixed price, subject to
adjustment, for costs incurred because of change orders issued by the customer.
The remaining contracts are primarily cost reimbursement type contracts.
In accordance with Department of Defense procedures, all contracts involving
government programs may be terminated by the government, in whole or in part, at
the government's discretion for cause or convenience. In the event of a
termination for convenience, prime contractors on such contracts are required to
terminate their subcontracts on the program, and the government or the prime
contractor is obligated to pay the costs incurred by us under the contract to
the date of termination plus a fee based on the work completed.
PRODUCT DEVELOPMENT
We believe that our growth depends, in part, on our ability to renew and expand
our technology, products, and design and manufacturing processes with an
emphasis on cost effectiveness. We focus our primary efforts on engineering
design and product development activities rather than pure research. Our policy
is to assign the required engineering and support people, on an ad hoc basis, to
new product development as needs require and budgets permit. The cost of these
development activities, including employees' time and prototype development, was
approximately $22.5 million in fiscal 2009, $20.7 million in fiscal 2008 and
$22.3 million in fiscal 2007. The portion of these costs not reimbursed by
customers was approximately $12.0 million in fiscal 2009, $18.1 million in
fiscal 2008 and $12.3 million in fiscal 2007. Spending on development programs
have been undertaken to continue to provide future business opportunities for
the Company. Future product development costs will depend on the availability of
appropriate development opportunities within the markets served by the Company.
COMPETITION
The microwave component and subsystems industry is highly competitive and we
compete against many companies, both foreign and domestic. Many of these
companies are larger, have greater financial resources and are better known. As
a supplier, we also experience significant competition from the in-house
capabilities of our customers.
Competition is generally based upon technology, design, past performance and
price. Our ability to compete depends, in part, on our ability to offer better
design and performance than our competitors and our readiness in facilities,
equipment and personnel to complete the programs. Many of the programs in which
we participate are long standing programs in which we are the sole provider of
our product.
GOVERNMENT REGULATION
Because of our participation in the defense industry, we are subject to audits
by various government agencies for our compliance with government regulations.
We are also subject to a variety of local, state and federal government
regulations relating to, among other things, the storage, discharge, handling,
omission, generation, manufacture and disposal of toxic or other hazardous
substances used to manufacture our products. We believe that we operate our
business in material compliance with applicable laws and regulations. However,
any failure to comply with existing or future laws or regulations could have a
material adverse impact on our business, financial condition and results of
operations.
INTELLECTUAL PROPERTY
We rely primarily on a combination of trade secrets, employee and third-party
non-disclosure agreements to protect our intellectual property, as well as
limiting access to the distribution of proprietary information. We cannot
provide assurance that the steps taken to protect our intellectual property
rights will be adequate to prevent misappropriation of our technology or to
preclude competitors from independently developing such technology. Furthermore,
we cannot provide assurance that, in the future, third parties will not assert
infringement claims against us with respect to our products. Asserting our
rights or defending against third party claims could involve substantial costs
and diversion of resources, thus materially and adversely affecting our
business, financial condition and results of operations. In the event a third
party were successful in a claim that one of our products infringed its
proprietary rights, we could be required to pay substantial royalties or
damages, remove that product from the marketplace or expend substantial amounts
in order to modify the product so that it no longer infringes on such
proprietary rights, any of which could have a material adverse effect on our
business, financial condition and results of operations.
10
EMPLOYEES
As of August 2, 2009, we had 1,022 full-time employees, none of whom are
represented by a labor union as follows:
Executive 9
Administration 67
Manufacturing 698
Engineering 192
Sales and Marketing 56
------
Total 1,022
=====
We believe that our future success will depend, in part, on our continued
ability to recruit and retain highly skilled technical, managerial and marketing
personnel, including microwave engineers. To assist in recruiting and retaining
such personnel, we have established competitive benefits programs, including a
401(k) employee savings plan for our U.S. employees and stock plans.
Item 1A. Risk Factors
You should carefully consider the factors described below and other information
contained in this report. The risks and uncertainties described below are not
the only ones we face. Additional risks and uncertainties not presently known to
us, which we currently deem immaterial or which are similar to those faced by
other companies in our industry or business in general, may also impair our
business operations. If any of the following risks actually occurs, our
business, financial condition or results of operations could be materially and
adversely affected. In such case, the trading price of our common stock could
decline, and you may lose all or a significant part of your investment. This
report also contains forward-looking statements that involve risks and
uncertainties. Please refer to "Forward-Looking Statements" included elsewhere
in this report.
Risks Related to Recent Legal Proceedings
Class-action complaints against us could result in costly litigation and payment
of damages.
In 2006, we were served with several class-action complaints against us and
certain of our officers and directors in the United States District Court for
the Eastern District of Pennsylvania. The claims arise out of a since resolved
criminal indictment by the U.S. Attorney's Office for the Eastern District of
Pennsylvania in connection with certain government contracts and are made under
Section 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5
thereunder. While we intend to vigorously defend against these actions, their
ultimate outcome is presently not determinable. Thus, we cannot at this time
determine the likelihood of an adverse judgment or a likely range of damages in
the event of an adverse judgment. Any settlement of or judgment arising from
such lawsuit could be material, and we cannot give any assurance that we would
have resources available to pay such settlement or judgment. Additionally, any
litigation to which we are subject may be costly and could require significant
involvement of our senior management which may divert management's attention
from our business and operations. For information regarding these matters, see
Legal Proceedings beginning on page 16 and Note F on page F-19 of this Form
10-K.
Risks Related to Our Business
A significant percentage of our sales are under government contracts which are
only partially funded initially and may lose funding or may be terminated in
future years.
Approximately 61%, 62% and 64% of our net sales for fiscal 2009, 2008 and 2007,
respectively, were made to United States government agencies and their
contractors and subcontractors for defense programs. Over its lifetime, a
government program may be implemented by the award of many different individual
contracts and subcontracts. The funding of government programs is subject to
congressional appropriations. Although multi-year contracts may be authorized in
connection with major procurements, Congress generally appropriates funds on a
fiscal year basis even though a program may continue for several years.
Consequently, programs are often only partially funded initially and additional
funds are committed only as Congress makes further appropriations. The
termination of funding for a government program would result in a loss of
anticipated future revenues attributable to that program which could have a
negative impact on our business, financial condition and results of operations.
Generally, government contracts contain provisions permitting the government
agency to terminate the contract at its convenience, in whole or in part,
without prior notice, and to provide for payment of compensation only for work
done and commitments made at the time of termination. We cannot guarantee that
one or more of our government contracts will not be terminated under these
circumstances. Also, we cannot guarantee that we would be able to procure new
government contracts to offset the revenues lost as a result of termination of
any contracts. Because a substantial part of our revenues are dependent on our
11
procurement, performance and payment under our contracts, our failure to replace
sales attributable to a significant defense program or contract at its
termination, whether due to cancellation, spending cuts, budgetary constraints
or otherwise, could have a material adverse effect upon our business, financial
condition and results of operations.
Our business could be adversely affected by differing priorities in U.S. Defense
Spending, including budgetary constraints.
We and other U.S. defense contractors have benefited from an upward trend in
overall U.S. defense spending in the last few years. This trend continued with
the former President's budget request for fiscal year 2009, which reflected the
continued commitment to modernize the Armed Forces and sustain current
capabilities while prosecuting the war on terrorism. Future defense budgets and
appropriations for our programs and contracts may be affected by possibly
differing priorities of the current Administration, including budgeting
constraints stemming from the economic recovery and stimulus plans.
Although the ultimate size of future defense budgets remains uncertain, current
indications are that overall defense spending will continue to increase over the
next few years, albeit at lower rates of growth. However, government programs in
which we participate, or in which we may seek to participate in the future, must
compete with other programs for consideration during our nation's budget
formulation and appropriation processes, and may be impacted by the changes in
general economic conditions. Budget decisions made in this environment may have
long-term consequences for our size and structure and that of the defense
industry. We believe that our programs are a high priority for national defense,
but there remains the possibility that one or more of our programs will be
reduced, extended, or terminated. Reductions in our existing programs, unless
offset by other programs and opportunities, could have a negative impact on our
business, financial condition and results of operations.
Fixed-price contracts are common in all of our markets and may increase risks of
cost overruns and product non-performance.
Our customers set demanding specifications for product performance, reliability
and cost. Most of our customer contracts are firm, fixed price contracts,
providing for a predetermined fixed price for the products that we make,
regardless of the costs we incur. Thus, we must make pricing commitments to our
customers based on our expectation that we will achieve more cost effective
product designs and automate more of our manufacturing operations. The
manufacture of our products requires a complex integration of demanding
processes involving unique technical skill sets. We face risks of cost overruns
or order cancellations if we fail to achieve forecasted product design and
manufacturing efficiencies or if products cost more to produce than expected or
if products do not perform as forecasted. The expense of producing products can
rise due to increased cost of materials, components, labor, capital equipment or
other factors. We may have cost overruns or problems with the performance or
reliability of our products in the future which could negatively affect our
profitability.
If we fail to win competitively awarded contracts in the future, we may
experience a reduction in our sales, which could negatively affect our
profitability.
We obtain many of our U.S. Government contracts through a competitive bidding
process. We cannot provide assurance that we will continue to win competitively
awarded contracts or that awarded contracts will generate revenues sufficient to
result in our profitability. We are also subject to risks associated with the
following:
o the frequent need to bid on programs in advance of the completion of
their design (which may result in unforeseen technological
difficulties and cost overruns);
o the substantial time and effort, including the relatively unproductive
design and development required to prepare bids and proposals, spent
for competitively awarded contracts that may not be awarded to us;
o design complexity and rapid technological obsolescence; and
o the constant need for design improvement
Our government contracts may be subject to protest or challenge by unsuccessful
bidders or to termination, reduction or modification in the event of changes in
government requirements, reductions in federal spending or other factors. In
addition, failure to obtain a renewal or follow-on contract with U.S. Government
or foreign governments would result in a loss of revenues. If revenues from the
award of new contracts fail to offset this loss, it could have a material
adverse effect on our results of operations and financial position.
Our business could be adversely affected by a negative audit by the U.S.
Government.
United States agencies routinely audit and investigate government contractors.
These agencies review a contractor's performance under its contracts, cost
12
structure and compliance with applicable laws, regulations, and standards. The
United States Government also reviews the adequacy of, and a contractor's
compliance with, its internal control systems and policies, including the
contractor's management, purchasing, property, estimating, compensation,
accounting, and information systems. Any costs found to be misclassified may be
subject to repayment. If an audit or investigation uncovers improper or illegal
activities, we may be subject to civil or criminal penalties and administrative
sanctions, including termination of contracts, forfeiture of profits, suspension
of payments, fines, and suspension or prohibition from doing business with the
United States Government. In addition, we could suffer serious reputational harm
if allegations of impropriety were made against us.
Our international sales are subject to risks related to doing business in
foreign countries.
In fiscal 2009, 2008 and 2007, sales to international customers comprised
approximately 33%, 32% and 31%, respectively, of our net sales, and we expect
our international business to continue to account for a significant part of our
revenues. We currently maintain manufacturing facilities in the United Kingdom
and Israel. Our two manufacturing facilities in Israel, as well as our
international sales, are subject to numerous risks, including political and
economic, restrictive trade policies of foreign governments, inconsistent
product regulation by foreign agencies or governments, the complexity and
necessity of using non-U.S. representatives and consultants, imposition of
product tariffs and burdens and costs of complying with a wide variety of
international and U.S. export laws and regulatory requirements. The governments
of Japan, South Korea, Taiwan and the United Kingdom are all significant
customers. Our international sales also are subject to us obtaining any required
export licenses for certain products and systems. We cannot provide assurance
that we will be able to continue to compete successfully in international
markets or that our international sales will be profitable. Substantially all of
our revenues in fiscal 2009 at our domestic locations and our operation in
Israel were denominated in U.S. dollars, and we intend to continue to enter into
U.S. dollar-denominated contracts. Revenues reported at our EWST (U.K.)
facility, which are primarily denominated in Pound Sterling, account for
approximately 2% to 4% of our consolidated net sales in U.S. dollars over the
last three fiscal years. In addition, fluctuations in currency could adversely
affect our customers, which may lead to delays in the timing and execution of
orders.
We rely on a small number of significant customers.
A significant part of our sales have historically come mainly from contracts
with agencies of, and prime contractors to, the U.S. government. Net sales
directly to the U.S. government accounted for 12% of fiscal year 2009 net sales.
Additionally, approximately 42% of our net sales were attributable to our next
five largest customers for fiscal year 2009, including Lockheed Martin
Corporation and Northrop Grumman Corporation each accounting for approximately
13% and 16%, respectively, of net sales in fiscal 2009. Variations in the demand
for our products by any of these direct and indirect customers could have a
serious, adverse impact on our performance. If we were to lose any of these or
any other major customers, or if orders by any major customer were otherwise to
be delayed or reduced, including reductions due to market or competitive
conditions in commercial markets or further decreases in government defense
spending, then our business, financial condition and results of operations would
be harmed.
We have limited intellectual property rights.
Our success is dependent upon our proprietary technology. We do not currently
have any material patents. We rely principally on trade secret and copyright
laws, certain employee and third-party non-disclosure agreements, as well as
limited access to and distribution of proprietary information, in order to
protect our technology. Trade secret laws afford us limited protection because
they cannot be used to prevent third parties from reverse engineering and
reproducing our products. Similarly, copyright laws afford us limited protection
because copyright protection extends only to how an idea is expressed and does
not protect the idea itself. Moreover, third parties could independently develop
technologies that compete with our technologies. We cannot provide assurance
that the obligations on the part of our employees and business partners to
maintain the confidentiality of our proprietary technology will prevent
disclosure of such information by our employees or third parties. Litigation may
be necessary for us to defend against claims of infringement or protect our
proprietary technology, which could result in substantial cost to us and
diversion of our efforts. We cannot provide assurance that we would prevail in
any such litigation. Our inability to protect our proprietary technology could
have a material adverse effect on our business, financial condition and results
of operations. Although we believe that our products and proprietary rights do
not infringe on the patents and proprietary rights of third parties, we cannot
provide assurance that infringement claims, regardless of merit, will not be
asserted against us. In addition, effective copyright and trade secret
protection of our proprietary technology may be unavailable or limited in
certain foreign countries.
New accounting standards could result in changes to our methods of quantifying
and recording accounting transactions, and could affect our financial results
and financial position.
Changes to GAAP arise from new and revised standards, interpretations and other
guidance issued by the Financial Accounting Standards Board, the SEC, and
others. In addition, the United States Government may issue new or revised cost
accounting standards or cost principles. The effects of such changes may include
prescribing an accounting method where none had been previously specified,
prescribing a single acceptable method of accounting from among several
acceptable methods that currently exist, or revoking the acceptability of a
current method and replacing it with an entirely different method, among others.
13
Changes may result in unanticipated effects on our results of operations or
other financial measures.
We are subject to environmental laws and regulations and our ongoing operations
may expose us to environmental liabilities.
Our operations are subject to federal, state, foreign and local environmental
laws and regulations. As a result, we may be involved from time to time in
administrative or legal proceedings relating to environmental matters. We cannot
provide assurance that the aggregate amount of future clean-up costs and other
environmental liabilities will not be material. We cannot predict what
environmental legislation or regulations will be enacted in the future, how
existing or future laws or regulations will be administered or interpreted or
what environmental conditions may be found to exist. Enactment of more stringent
laws or regulations or more strict interpretations of existing laws and
regulations may require us to make additional expenditures, some of which could
be material.
A failure to attract and retain technical personnel could reduce our revenues
and our operational effectiveness.
There is a continuing demand for qualified technical personnel. We believe that
our future growth and success will depend upon our ability to attract, train and
retain such personnel. Competition for personnel in the defense industry is
intense and there are a limited number of persons, especially engineers, with
knowledge of and experience in microwave technology. Our design and development
efforts depend on hiring and retaining qualified technical personnel. Although
we currently experience relatively low rates of turnover for our technical
personnel, the rate of turnover may increase in the future. An inability to
attract or maintain a sufficient number of technical personnel could have a
material adverse effect on our contract performance or on our ability to
capitalize on market opportunities.
The markets in which we operate are competitive.
Our historical defense markets and our more recent commercial markets are
characterized by rapid technological change as new products are generally
developed quickly and industry standards are constantly evolving. Thus, our
products can become obsolete over a short period of time unless we succeed in
remaining technologically innovative and in anticipating new market demands.
The defense industry in particular has experienced substantial consolidation
due, among other things, to increasing pressures for cost reductions. This has
substantially increased competitive pressures and introduced delays in contract
funding and awards into our historical markets in the defense industry. Many of
our competitors are larger than us and have substantially greater financial and
other resources than we have. As a supplier, we also experience significant
competition from the in-house capabilities of our customers. We are facing
increased international competition and cross-border consolidation of
competition. Our ability to compete for defense contracts largely depends on the
following factors:
o our ability to offer better performance than our competitors;
o the readiness of our facilities, equipment and personnel to
undertake the programs for which we compete; and
o the effectiveness and innovations of our research and development
programs.
We may encounter difficulties in effectively integrating acquired businesses.
As part of our business strategy, we have augmented our technology base by
acquiring companies with compatible or related products. Historically, we have
acquired a number of such companies and products and have integrated those
companies into our business. These and any future acquisitions we make will be
accompanied by the risks commonly encountered in acquisitions of companies,
which include, among other things:
o potential exposure to unknown liabilities of acquired companies;
o higher than anticipated acquisition costs and expenses;
o difficulty and expense of assimilating the operations and
personnel of the companies, especially if the acquired operations
are geographically distant;
o potential disruption of our ongoing business and diversion of
management time and attention;
o failure to maximize our financial and strategic position by the
successful incorporation of acquired technology;
o difficulties in adopting and maintaining uniform standards,
controls, procedures and policies;
o loss of key employees and customers as a result of changes in
management; and
o possible dilution to our shareholders.
We may not be successful in overcoming these risks or any other problems
encountered in connection with any of our acquisitions. We may make a strategic
acquisition knowing that the transaction may adversely affect our short-term
profitability, perhaps because the acquisition candidate may be experiencing
14
operating losses. We may believe that acquiring such a company outweighs the
operating losses the candidate is experiencing and the losses that we expect to
experience before being able to make the acquisition candidate profitable. The
completion of such an acquisition in the future would negatively affect our
profitability and may cause a decline in our stock price. While we believe we
have established appropriate and adequate procedures and processes to mitigate
the risks of such an acquisition, there is no assurance that the transaction
will be successful and not have a negative effect on profitability.
Our backlog is subject to reduction and cancellation.
Backlog represents products or services that our customers have committed by
contract to purchase from us. Our backlog as of August 2, 2009, was
approximately $182 million. Approximately 80% of this backlog is expected to be
filled within twelve months. Our backlog is subject to fluctuations and is not
necessarily indicative of future backlog or sales. Moreover, cancellations of
purchase orders or reductions of product quantities in existing contracts could
substantially and materially reduce our backlog and, consequently, future
revenues. Our failure to replace canceled or reduced backlog could result in
lower revenues.
Risks Related to Our Securities
Our stock price has fluctuated significantly and may continue to do so.
A number of factors could cause the market price of our common stock to
fluctuate significantly, including:
o our quarterly operating results or those of other defense companies;
o the public's reaction to our press releases, announcements and our
filings with the Securities and Exchange Commission, including
developments with respect to class and derivative actions;
o changes in earnings estimates or recommendations by research analysts;
o changes in general conditions in the U.S. economy, financial markets
or defense industry;
o natural disasters, terrorist attacks or acts of war; and
o other developments affecting us or our competitors.
In recent years, the stock market has experienced extreme price and volume
fluctuations. This volatility has had a significant effect on the market price
of securities issued by many companies for reasons unrelated to the operating
performance of these companies.
Delaware law and our charter documents may impede or discourage a takeover,
which could cause the market price of our shares to decline.
We are a Delaware corporation and the anti-takeover provisions of Delaware law
impose various impediments to the ability of a third party to acquire control of
us, even if a change in control would be beneficial to our existing
shareholders. Our certificate of incorporation and by-laws provide, among other
things, for a classified board of directors serving staggered three-year terms.
Our incorporation under Delaware law, the acceleration of the vesting of
outstanding stock options including options that we have granted upon a change
in control, and certain provisions of our certificate of incorporation and
by-laws could impede a merger, takeover or other business combination involving
us or discourage a potential acquirer from making a tender offer for our common
stock, which, under certain circumstances, could reduce the market value of our
common stock.
15
Item 1B. Unresolved Staff Comments.
None.
Item 2. Properties
Our current operating facilities are as follows:
Owned
or
Location Purpose of Property Area Leased
- -------- ------------------- ---- ------
Lancaster, PA Corporate headquarters 5,200 sq. ft. Leased
Lancaster, PA Production, engineering and administration 86,200 sq. ft. Owned
Woburn, MA Production, engineering and administration 65,600 sq. ft. Owned
Whippany, NJ Production, engineering and administration 23,000 sq. ft. Leased
Fort Walton Beach, FL Production, engineering and administration 20,000 sq. ft. Owned
Fort Walton Beach, FL (1) Production, engineering and administration 31,500 sq. ft. Leased
Chantilly, VA Engineering and administration 5,500 sq. ft. Leased
Jerusalem, Israel Production, engineering and administration 35,000 sq. ft. Leased
Kibbutz Eyal, Israel (2) Production, engineering and administration 40,000 sq. ft. Leased
Farnborough, England Production, engineering and administration 7,570 sq. ft. Leased
Chicago, IL Engineering and administration 3,000 sq. ft. Leased
Irvine, CA Engineering and administration 5,100 sq. ft. Leased
Lancaster, PA Land held for expansion 37 Acres Owned
<FN>
(1) Prior to the acquisition of Micro Systems, Inc. ("MSI") as of February
1, 2005, MSI had leased one of its two buildings in Fort Walton Beach, Florida
from MSI Investments, a Florida General Partnership. MSI Investments is owned by
four individuals, two of whom are currently employees of MSI and one serves as a
consultant. This lease has an original term of 15 years, ending December 31,
2012. The lease costs currently are approximately $290,000 on an annual basis,
including the tenant's obligation to pay for insurance and property taxes. The
base lease rate is adjusted every January for changes in the consumer price
index, using 1997 as the base year.
(2) Eyal, acquired in September 2008, has an existing lease with a term
expiring December 31, 2019 at an annual cost of approximately $275,000.
</FN>
We believe that these facilities are adequate for our current and presently
anticipated future needs.
Item 3. Legal Proceedings
In June and July 2006, we were served with several class-action complaints
against us and certain of our current and former officers and directors ("other
defendants") in the United States District Court for the Eastern District of
Pennsylvania. The claims are made under Section 10(b) and 20(a) of the
Securities Exchange Act of 1934 and Rule 10b-5 thereunder. The plaintiffs seek
unspecified damages on behalf of a purported class of purchasers of our
securities during various periods before June 14, 2006. All defendants in the
class-action complaints filed motions to dismiss on April 6, 2007. On July 17,
2007, the Court issued an order denying our and our former Chairman's motion to
dismiss and granted, in part, the other defendants' motion to dismiss.
Specifically, the Court dismissed the Section 10(b) claim against the other
defendants and denied the motion to dismiss the Section 20(a) claim against
them. On July 9, 2008, Plaintiffs filed a Motion for Class Certification. On
March 4, 2009, all defendants filed an Opposition to Plaintiffs' Motion for
Class Certification. On May 18, 2009 Plaintiffs filed a reply in support of
their motion for class certification. Oral argument regarding the Plaintiffs'
motion for class certification was held on July 17, 2009. On October 9, 2009,
the Court issued an order granting Plaintiffs' motion for class certification.
16
The Court certified a class consisting of all purchasers of Herley stock between
October 1, 2001 and June 14, 2006, who sustained a loss as a result of that
acquisition. The parties are currently in the process of completing fact and
expert discovery. We and the individual defendants are vigorously defending
against these lawsuits. At this stage of the proceedings, it is not possible to
predict what, if any, liability we may have from the Securities Class Action.
In July and August 2006, we and certain of our current and former officers and
directors were also served with two separate derivative complaints for breach of
fiduciary duty brought pursuant to Rule 23.1 of the Federal Rules of Civil
Procedure. The complaints relate to our indictment in 2006 and were consolidated
into one action on March 9, 2006. All defendants in the derivative complaints
filed motions to dismiss on February 26, 2007. On July 20, 2007, the Court
issued an order denying defendants' motions in part and granting them in part.
Specifically, the Court dismissed the claim that the named officers and
directors failed to oversee the former Chairman's actions and denied the motions
with respect to the other alleged claims. The parties are currently in the
process of completing fact and expert discovery. At this stage of the
proceedings, it is not possible to predict what, if any, liability we may have
from the Derivative Actions.
We believe we are entitled to recovery of certain legal fees associated with the
above matters under our Directors and Officers ("D&O") insurance policy. We have
received partial payments of approximately $2.2 million. We have entered into an
agreement dated January 11, 2007 with the insurance carrier whereby if it is
determined by final decision of an arbitration panel, or by final judgment of a
court, or other final decision of a tribunal having jurisdiction thereof, that
any amount paid by the insurance carrier was not a loss, as that term is defined
in the policy, we shall repay to the insurance carrier any such uncovered sums
previously advanced.
The insurance carrier asserted in a letter their determination that they are not
liable for certain of the legal costs incurred by us. We responded with a
letter, supported by court case citations, that all the submitted costs
represent valid claims under the policy and that the insurance company is
liable. In November 2008, we filed a complaint against the insurance carrier to
recover the legal costs. The insurance carrier answered the complaint and filed
a counterclaim seeking to recover prior advances of approximately $2.2 million.
Discovery on this phase of the case concluded and we and the insurance carrier
filed cross motions for summary judgment relating to certain defenses. On August
25, 2009, the Court found that the legal fees incurred on our behalf and on
behalf of our former Chairman, Lee Blatt, in the Securities Class Action were
not covered. The fees paid on behalf of the other individual defendants in the
Securities Class Action were not challenged. We have filed a Notice of Appeal in
the United States Court of Appeal for the Third Circuit. The likelihood of
success on appeal cannot be predicted at this time.
By letter dated May 28, 2009, we were advised that a contract with General
Microwave Corporation doing business as Herley Farmingdale ("GMC") in the
aggregate amount of approximately $4.9 million was being terminated for default.
By letter dated June 1, 2009, the customer demanded a return of approximately
$3.8 million, which represented an alleged progress payment made under the
contract to GMC. On June 8, 2009, GMC filed suit against EDO Communications and
Countermeasures, Inc. doing business as ITT Force Protection Systems ("EDO") in
the United States District Court for the Eastern District of New York (the "New
York Action") seeking a Declaratory Judgment, pursuant to 28 U.S.C. ss. 2201 et.
seq. and for breach of contract related to EDO's decision to terminate the
contract for default. On August 13, 2009, EDO filed suit against GMC and us in
the Superior Court of California, Ventura County, for breach of contract, unjust
enrichment, and money had and received (the "California Action"). On October 8,
2009, all parties entered into an agreement to settle these matters. Under the
terms of the settlement, the Company paid $2.0 million to EDO and the parties
mutually agreed to a termination of the contract for convenience without further
liability to either party.
We are involved in various other legal proceedings and claims which arise in the
ordinary course of our business. While any litigation contains an element of
uncertainty, management believes that the outcome of such other litigation will
not have a material adverse effect on our financial position or results of
operations.
Item 4. Submission of Matters to a Vote of Security Holders
Not Applicable.
PART II
Item 5. Market for Registrant's Common Equity, Related Shareholder Matters, and
Issuer Purchases of Equity Securities.
(a) Our Common Stock is traded in The Nasdaq Global Market under the symbol
"HRLY". The following table sets forth the high and low closing sales price
as reported by The Nasdaq Global Market for our Common Stock for the
periods indicated.
17
Common Stock
High Low
---- ---
Fiscal Year 2008
First Quarter............................................. 15.90 12.86
Second Quarter............................................ 15.29 12.37
Third Quarter ............................................ 13.36 9.69
Fourth Quarter ........................................... 16.17 12.93
Fiscal Year 2009
First Quarter............................................. 20.25 11.93
Second Quarter............................................ 14.27 9.67
Third Quarter ............................................ 13.15 7.68
Fourth Quarter ........................................... 12.42 9.56
The closing price on October 7, 2009 was $12.97.
As of October 7, 2009, there were approximately 160 holders of record and
approximately 2,800 beneficial holders of our Common Stock.
There have been no cash dividends declared or paid by us on our Common
Stock during the past two fiscal years.
We did not repurchase any equity securities during the fourth quarter of
fiscal 2009.
The following table sets forth the indicated information as of August 2, 2009
with respect to our equity compensation plans:
(c)
Number of securities
(a) remaining available
Number of securities (b) for future issuance
to be issued upon Weighted-average under equity
exercise of exercise price of compensation plans
outstanding options, outstanding options, (excluding securities
Plan category warrants and rights warrants and rights reflected in column (a))
- ------------- ------------------- ------------------- ------------------------
Equity compensation
plans approved by
security holders 2,008,693 $ 13.72 8,250
Equity compensation
plans not approved
by security holders 1,182,107 $ 17.25 295,400
--------- -------
Total 3,190,800 $ 15.03 303,650
========= =======
(b) Not applicable.
18
Item 6. Selected Financial Data (in thousands, except per share data):
Consolidated Statements of Operations Data:
- ------------------------------------------ 52 weeks 53 weeks
ended ended 52 weeks ended
August 2, August 3, July 29, July 30, July 31,
2009 2008 2007 2006 2005
---- ---- ---- ---- ----
Net sales (1) $ 160,089 $ 136,088 $ 137,850 $ 149,979 $ 139,624
======= ======= ======= ======= =======
Cost and expenses:
Cost of products sold 132,648 107,848 99,205 111,358 98,920
------- ------- ------- ------- -------
Selling and administrative expenses 28,981 28,349 27,305 26,804 25,614
------- ------- ------- ------- -------
Impairment of goodwill and other intangible assets 44,151 - - - -
------- ------- ------- ------- -------
Litigation costs 1,786 5,550 1,674 2,230 2,706
------- ------- ------- ------- -------
Litigation settlements (3) - 15,542 - - -
------- ------- ------- ------- -------
Employment contract settlement costs (2) 10,553 - 8,914 - -
------- ------- ------- ------- -------
Operating (loss) income $ (58,030) $ (21,201) $ 752 $ 9,587 $ 12,384
======= ======= ======= ======= =======
(Loss) income from continuing operations $ (40,720) $ (10,684) $ 2,399 $ 7,662 $ 9,354
(Loss) income from discontinued operations (456) 338 719 2,692 1,427
------- ------- ------- ------- -------
Net (loss) income $ (41,176) $ (10,346) $ 3,118 $ 10,354 $ 10,781
======= ======= ======= ======= =======
(Loss) earnings per common share - Basic:
(Loss) income from continuing operations $ (3.00) $ (.78) $ .17 $ .53 $ .65
(Loss) income from discontinued operations (.03) .02 .05 .19 .10
------- ----- ---- ---- ----
$ (3.03) $ (.76) $ .22 $ .72 $ .75
======= ===== ==== ==== ====
(Loss) earnings per common share - Diluted:
(Loss) income from continuing operations $ (3.00) $ (.78) $ .17 $ .51 $ .62
(Loss) income from discontinued operations (.03) .02 .05 .18 .10
------- ----- ---- ---- ----
$ (3.03) $ (.76) $ .22 $ .69 $ .72
======= ===== ==== ==== ====
Consolidated Balance Sheet Data:
Total Assets $ 228,285 $ 259,418 $ 262,593 $ 251,450 $ 242,023
Total Current Liabilities $ 52,795 $ 43,925 $ 34,958 $ 33,351 $ 32,090
Long-Term Debt, net of current portion $ 12,246 $ 7,092 $ 5,951 $ 5,948 $ 5,000
Long-Term Portion of Litigation Settlement (3) $ - $ 892 $ - $ - $ -
Long-Term Portion of Employment Settlement
Agreements (2) $ 2,827 $ 3,074 $ 4,117 $ - $ -
Other Long-Term Liabilities $ 8,361 $ 2,161 $ 1,311 $ 1,265 $ 1,042
<FN>
Notes to Selected Financial Data:
- --------------------------------
(1) See "Acquisitions" under Item 1. "Business".
(2) See Note I of Notes to Consolidated Financial Statements.
(3) See Note F of Notes to Consolidated Financial Statements.
(4) No cash dividends have been distributed in any of the years presented.
</FN>
19
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion should be read in conjunction with our Consolidated
Financial Statements and notes thereto included in Item 8 of Part II of this
Annual Report on Form 10-K.
FORWARD-LOOKING STATEMENTS
All statements other than statements of historical fact included in
Management's Discussion and Analysis of Financial Condition and Results of
Operations' which follow are forward-looking statements. Forward-looking
statements involve various important assumptions, risks, uncertainties and other
factors which could cause our actual results to differ materially from those
expressed in such forward-looking statements. Forward-looking statements in this
discussion can be identified by words such as "anticipate," "believe," "could,"
"estimate," "expect," "plan," "intend," "may," "should" or the negative of these
terms or similar expressions. Although we believe that the expectations
reflected in the forward-looking statements are reasonable, we cannot guarantee
future results, performance or achievement. Actual results could differ
materially from those contemplated by the forward-looking statements as a result
of certain factors including, but not limited to, competitive factors and
pricing pressures, changes in legal and regulatory requirements, cancellation or
deferral of customer orders, technological change or difficulties, difficulties
in the timely development of new products, difficulties in manufacturing,
commercialization and trade difficulties and general economic conditions, as
well as the factors set forth in our public filings with the Securities and
Exchange Commission.
You are cautioned not to place undue reliance on the forward-looking statements,
which speak only as of the date of this Annual Report or the date of any
document incorporated by reference in this Annual Report. We are under no
obligation, and expressly disclaim any obligation, to update or alter any
forward-looking statements, whether as a result of new information, future
events or otherwise.
For these statements, we claim the protection of the safe harbor for
forward-looking statements contained in Section 21E of the Securities Exchange
Act of 1934.
Business Summary
We are a leading supplier of microwave products and systems to defense and
aerospace entities worldwide. Our primary customers include large defense prime
contractors (including Northrop Grumman, Lockheed Martin, Raytheon and Boeing),
the U.S. Government (including the Department of Defense, NASA and other U.S.
Government agencies) and international customers (including the Israeli,
Egyptian, German, Japanese, Taiwanese, Spanish, Australian and South Korean
militaries and suppliers to international militaries). We are a leading provider
of microwave technologies for use in command and control systems, flight
instrumentation, weapons sensors and electronic warfare systems. We have served
the defense industry since 1965 by designing and manufacturing microwave devices
for use in high technology defense electronics applications. Our products and
systems are currently deployed on a wide range of high profile military
platforms, including the F-16 Falcon, the F/A-18E/F Super Hornet, the E-2C/D
Hawkeye, EA-18G Growler, the AEGIS class surface combatants, the EA-6B Prowler,
the AMRAAM air-to-air missile, CALCM (Conventional Air Launch Cruise Missile),
MMA (Multi-mission Maritime Aircraft) and unmanned aerial vehicles ("UAVs"), as
well as high priority national security programs such as National Missile
Defense and the Trident II D-5.
Significant Events
We faced many challenges in fiscal 2009, many of which were carried over from
fiscal 2008. The significant events of fiscal 2009 are as follows:
Closure and Transition of Farmingdale, NY Manufacturing Operation
In the fourth quarter of fiscal 2008, we decided to close our manufacturing
facility in Farmingdale, NY as expeditiously as possible and transfer
substantially all of its work orders to our other facilities in Whippany, NJ,
Woburn, MA, Lancaster, PA and Jerusalem, Israel. The closure of our
manufacturing operation at Farmingdale was substantially completed by the end of
fiscal 2009. However, due to certain unanticipated transition difficulties, we
incurred additional costs in fiscal 2009 of $4.3 million due to production cost
overruns and technology transfer issues related to certain contracts and
inventory and fixed asset write-offs. We have worked diligently to correct the
problems we encountered and believe that any remaining transition matters will
not have a significant adverse impact on fiscal 2010 operating results.
Acquisition of Eyal Microwave, Inc.
We entered into an Asset Purchase Agreement, dated as of August 1, 2008, to
acquire the business and certain assets, subject to the assumption of certain
liabilities, of Eyal Microwave Industries ("Eyal"), a privately-held Israeli
company, for $30 million. Eyal is a leading supplier of a broad range of
innovative, high reliability RF, microwave and millimeter wave components and
20
customized subsystems for the global defense industry. Eyal's core capabilities
include complex integrated microwave assemblies and "off-the-shelf" components
for radar, ESM, ECM and communication systems which complement and expand our
current product line. Eyal's customers and programs further strengthen our
presence in the international marketplace. Eyal, which employs approximately 175
employees and is based in Kibbutz Eyal, Israel, includes Eyal Microwave Ltd. and
its wholly-owned subsidiary, Eyal Mag Ltd. Funding for the purchase was provided
through a $20 million loan under our existing revolving credit line and a $10
million term loan through another bank in Israel. The new term loan is payable
in quarterly installments over a period of ten years, bearing interest at LIBOR
plus 1.5%. The operating results of Eyal are included in our results from
continuing operations beginning in September 2008. The acquisition was accounted
for under the provisions of SFAS No. 141.
Sale of Innovative Concepts, Inc.
In September 2008, we executed an agreement with a foreign defense company to
divest our Innovative Concepts, Inc. ("ICI") subsidiary located in McLean, VA.
ICI is a communications technology development firm specializing in research,
design, development, production, and support of wireless data communications
products and services. In November 2008, after receiving requisite U.S.
Government approval for the sale, we sold the stock of ICI for approximately $15
million in cash, of which approximately $0.8 million is held in escrow as
security for certain indemnification obligations. In accordance with the
provisions of SFAS No. 144, "Accounting for the Impairment or Disposal of
Long-Lived Assets," operating results of ICI have been reported as discontinued
operations in the Consolidated Statements of Operations for all periods
presented.
Senior Management Changes
In July 2009, we entered into an agreement with Myron Levy, our former Chairman
and Chief Executive Officer, terminating his employment agreement. Concurrently,
our Board of Directors appointed Mr. David Lieberman as Chairman of the Board.
Mr. Lieberman, a senior partner in the New York law firm of Beckman, Lieberman &
Barandes, LLP, is a past director of Herley and has been a practicing attorney
in New York since 1970. Beckman, Lieberman & Barandes, LLP is one of several law
firms that has provided legal services to us, specifically in the areas of
corporation and securities law.
Further, Mr. Richard Poirier was appointed by our Board of Directors as our
Chief Executive Officer and President. Mr. Poirier was Corporate Vice President
and our General Manager of Herley New England in Woburn, MA since August 2003
and has been employed with us since 1992 when we acquired Micro Dynamics, Inc.
Mr. Yonah Adelman was appointed Senior Vice President by the Board of Directors
to serve at the pleasure of the Board. Mr. Adelman has been General Manager of
our General Microwave Israel subsidiary since our 1999 acquisition of General
Microwave Corp.
In August 2009, we also entered into an agreement with Jeffrey L. Markel, our
former Chief Operating Officer, terminating his employment agreement.
Results of Operations
The following table sets forth for the periods indicated certain financial
information derived from our consolidated statements of operations expressed as
a percentage of net sales. There can be no assurance that trends in sales growth
or operating results will continue in the future.
21
52 weeks 53 weeks 52 weeks
ended ended ended
August 2, August 3, July 29,
2009 2008 2007
------------------------------------------
Net sales 100.0% 100.0% 100.0%
Cost of products sold 82.9% 79.2% 72.0%
------ ------ ------
Gross profit 17.1% 20.8% 28.0%
Selling and administrative expenses 18.1% 20.8% 19.8%
Impairment of goodwill and other intangible assets 27.5% - -
Litigation costs 1.1% 4.1% 1.2%
Litigation settlements - 11.4% 0.0%
Employment contract settlement costs 6.6% - 6.5%
------ ------ ------
Operating (loss) income (36.2%) (15.5%) 0.5%
------ ------ ------
Other (expense) income, net:
Investment income 0.1% 0.8% 0.8%
Interest expense (0.9%) (0.5%) (0.6%)
Foreign exchange (loss) gain (0.2%) (0.1%) 0.4%
------ ------ ------
(1.0%) 0.2% 0.6%
(Loss) income from continuing operations before ------ ------ ------
income taxes (37.2%) (15.3%) 1.1%
Benefit for income taxes (11.8%) (7.5%) (0.6%)
------ ------ ------
Net (loss) income from continuing operations (25.4%) (7.8%) 1.7%
------ ------ ------
Fiscal 2009 Compared to Fiscal 2008
Our senior management regularly reviews the performance of our operations
including reviews of key performance metrics and the status of operating
initiatives. We review information on the financial performance of the
operations, new business opportunities, customer relationships and initiatives,
IR&D activities, human resources, manufacturing effectiveness, cost reduction
activities, as well as other subjects. We compare performance against budget,
against prior comparable periods and against our most recent internal forecasts.
The following table presents a financial summary comparison (in thousands) of
operating results from continuing operations and certain key performance
indicators.
Fourth Quarter Fiscal Year
--------------------------------------------------------------------------
2009 2008 % Change 2009 2008 % Change
--------------------------------------------------------------------------
Net sales $42,960 $37,867 13% $160,089 $136,088 18%
Gross profit ($30) $7,001 (100)% $27,441 $28,240 (3)%
Gross profit percentage (0.1)% 18.5% 17.1% 20.8%
Selling and administrative $7,505 $6,371 18% $28,981 $28,349 2%
Impairment of goodwill and other
intangible assets $44,151 - $44,151 -
Litigation costs $731 $3,289 (78)% $1,786 $5,550 (68)%
Litigation settlement - - - $15,542
Employment settlement costs $10,553 - $10,553 -
Operating loss ($62,970) ($2,658) n/a ($58,030) ($21,201) 174%
Bookings $44,269 $33,702 31% $191,101 $139,163 37%
Backlog $181,936 $138,534 31% $181,936 $138,534 31%
We believe the overall prospects for our financial performance continues to be
very good. Our backlog remains at high levels while our proposal activity
continues to be very active. The financial performance in fiscal 2009 was driven
largely by the impairment of goodwill and other intangible assets ($44.2
million), employment settlement costs ($10.6 million), contract disputes and
claim settlement costs ($9.3 million) (primarily recorded in our cost of
products sold), legal expenses and engineering and manufacturing difficulties on
certain contracts, primarily those transitioned from the closure of our
Farmingdale manufacturing facility. We have resolved the various technical
problems related to these contracts and are fulfilling our obligations to our
customers. Substantially all of these costs and expenses that unfavorably
impacted our financial performance occurred or were resolved in our fourth
quarter. While there can be no assurances, we believe the business is showing
improvement and we are confident that we will continue to successfully work
through these challenges.
22
The operational improvement initiatives that began in fiscal 2008 are continuing
and are impacting results across our operating units. We established four
improvement objectives across all business units: improve cycle time, reduce
defects, improve customer satisfaction, and increase Herley pride. We motivated
our employees to actively engage in this program and we are pleased with the
excitement and participation across our Company. This process improvement
culture is taking root in our operations and we expect the success of the
program to continue. However, there are no representations as to future results
or performance or that targeted achievements will be realized.
We ended fiscal 2009 with a strong backlog, increasing 31% from the start of our
fiscal year. This includes an increase of 12% attributable to the acquisition of
Eyal. The overall prospect for new business continues to be promising as
proposal activity remains high.
Accordingly, we believe we are taking appropriate and aggressive actions to meet
the challenges we face and remain optimistic that our performance should
continue to improve.
Fifty-two weeks ended August 2, 2009 and fifty-three weeks ended August 3, 2008
Net sales for fiscal 2009 were approximately $160.1 million compared to $136.1
million in fiscal 2008, an increase of $24.0 million, or 17.6%. The increase in
net sales is primarily related to:
o an increase of approximately $18.0 million primarily due to the inclusion
of eleven months of Eyal's revenues since its acquisition in the first
quarter of fiscal 2009;
o an increase of approximately $5.6 million, or 11.3%, at Herley Lancaster
primarily due to improved manufacturing productivity on contract shipments
compared to last year's supplier quality and manufacturing throughput
issues. The increase was partially offset by a reduction in net sales of
approximately $2.8 million related to the settlement of a claim with
Lockheed Martin for equitable adjustment for unpriced change orders;
o an increase of approximately $4.7 million, or 21.4%, at Herley New England
primarily due to increased bookings on the ICAP and EA-18G programs; and
o net revenue decreases related to various other programs and products across
multiple sites.
Domestic and foreign sales were 67% and 33%, respectively, of net sales in
fiscal 2009 versus 67% and 33%, respectively, in the prior fiscal year. Bookings
were approximately $191.1 million, of which 66% were domestic and 34% were
foreign. This compares to bookings of approximately $139.2 million in the
prior-year period, of which 74% were domestic and 26% were foreign.
Gross profit in fiscal 2009 was $27.4 million (17.1% gross profit margin)
compared to $28.2 million (20.8% gross profit margin) in fiscal 2008, a decrease
of $0.8 million. Contributing to the decrease in gross profit and gross profit
percentage during fiscal 2009 are primarily the following:
o Herley Lancaster experienced certain unfavorable, non-recurring expenses
including an approximately $6.2 million write-off of certain inventory
associated with the settlement of litigation with a customer, approximately
$2.8 million adjustment to net sales and expenses of $0.3 million
associated with the settlement of an outstanding claim for equitable
adjustment with Lockheed Martin and unfavorable inventory obsolescence and
related adjustments of approximately $2.0 million, partially offset by an
estimated favorable variable contribution margin of approximately $4.5
million related to the incremental revenue increase;
o Offsetting the overall gross profit decrease was the inclusion of
approximately $3.3 million representing eleven months of Eyal's operating
results since its acquisition in the first quarter of fiscal 2009; and
o Product mix of contracts both domestically and internationally.
Selling and administrative (S&A) expenses for fiscal 2009 were $29.0 million, or
18.1% of sales, as compared to $28.3 million, or 20.8% of sales, in fiscal 2008.
The $0.7 million increase in selling and administrative expenses is primarily
attributable to an increase of approximately $2.4 million due to the inclusion
of eleven months of Eyal's expenses since its acquisition in the first quarter
of fiscal 2009, partially offset by a gain on the sale of certain assets,
reductions in certain sales commissions and overall cost reductions. S&A
expenses as a percent of sales decreased 270 basis points due to leveraging the
cost structure.
In accordance with the provisions of Statement of Financial Accounting Standards
No. 142, we evaluated goodwill and other intangible assets for possible
impairment in our fourth quarter of fiscal 2009. We concluded that our goodwill
was impaired and recorded a charge to operating results of $42.1 million. In
addition, we partially impaired the value of a license agreement of
approximately $2.1 million. The fourth-quarter non-cash goodwill and partial
intangible asset impairments are not fully tax deductible, resulting in an
increase in our effective tax rate from continuing operations for the period.
These impairments do not affect our cash position, cash flow from operating
activities, credit availability or liquidity and should not have any affect on
our future operations.
23
We had an operating loss from continuing operations during fiscal 2009 of $58.0
million compared to an operating loss of $21.2 million last year. The results in
fiscal 2009 include impairment of goodwill and other intangible assets of $44.2
million, employment contract settlement costs of $10.6 million and legal
expenses of $1.8 million, while results in fiscal 2008 include litigation
settlements of $9.5 million with the Department of Justice and $6.0 million with
EADS (see Note A to the Consolidated Financial Statements), as well as related
legal expenses of $5.6 million. In addition, fiscal 2009 operating results were
further adversely impacted by costs associated with the transition of the
Farmingdale manufacturing operation (including related contract losses of
approximately $2.0 million, abandonment of fixed assets of approximately $0.3
million and inventory write-offs of approximately $2.0 million), additional
inventory adjustments and obsolescence reserves of approximately $1.3 million
and the settlement of certain litigation and other claims of approximately $9.3
million. Excluding these non-recurring or unusual costs, the comparative
operating results would have been better than last year primarily due to the
increase in sales volume.
Interest income was $0.1 million, decreasing $1.0 million in fiscal 2009 due to
lower average cash balances through portions of the year and an overall decrease
in rates. Interest expense was $1.4 million, increasing $0.7 million over last
year primarily attributable to the incremental debt incurred from the Eyal
acquisition.
We recognized a net foreign exchange loss of $0.3 million in fiscal year 2009
compared to $0.1 million last year. Foreign exchange losses and gains are
attributable to fluctuations in exchange rates between the U.S. dollar and the
local currency of our U.K. subsidiary primarily in connection with temporary
advances we have made to them in U.S. dollars.
The benefit for income taxes from continuing operations for fiscal 2009 was
$18.9 million representing an effective income tax benefit rate of 31.7%,
compared to an effective income tax benefit rate of 49.0% in fiscal 2008. The
31.7% benefit rate is less than the statutory rate of 35% primarily due to the
unfavorable effect of a portion of the goodwill impairment that is not
deductible for tax purposes, the benefit of research and development credits, as
well as the estimated benefit of state net operating losses.
Basic and diluted loss per common share for fiscal 2009 were both $(3.03)
compared to $(.76) loss per basic and diluted common share for fiscal 2008.
Fiscal 2008 Compared to Fiscal 2007
The following table presents a financial summary comparison (in thousands) of
operational results from continuing operations and certain key performance
indicators.
Fourth Quarter Fiscal Year to Date
------------------------------------ ---------------------------------
2008 2007 % Change 2008 2007 % Change
------------------------------------ ---------------------------------
Net sales $37,867 $34,531 10 % $136,088 $137,850 (1)%
Gross profit $7,001 $10,211 (31)% $28,240 $38,645 (27)%
Gross profit percentage 18.5% 29.6% 20.8% 28.0%
Selling and administrative $6,371 $7,614 (16)% $28,349 $27,305 4 %
Litigation costs $3,289 $448 634 % $5,550 $1,674 232 %
Litigation settlement - - $15,542 - n/a
Employment settlement costs - - - $8,914 n/a
Operating (loss) income ($2,658) $2,149 (224)% ($21,201) $752 -
Bookings $33,702 $25,947 30 % $139,163 $158,388 (12)%
Backlog $138,534 $131,826 5 % $138,534 $131,826 5 %
The poor financial performance in fiscal 2008 was driven largely by litigation
and related settlement costs, as well as engineering and manufacturing
difficulties on a number of significant and important contracts, including
development contracts.
Fifty-three weeks ended August 3, 2008 and fifty-two weeks ended July 29, 2007
Net sales for fiscal 2008 were approximately $136.1 million compared to $137.9
million in fiscal 2007, a decrease of $1.8 million, or 1%. The decrease in net
sales is primarily related to:
o delays in key microwave development and production programs at Herley
Farmingdale of approximately $6.3 million;
o a decrease of approximately $2.4 million as certain commercial programs
ended and the transition towards military business progressed at Herley
CTI;
24
o a decrease of approximately $2.1 million at our Herley Medical Products
division related to the timing of capital purchasing requirements at two
key commercial customers; and
o disruptions across several production programs due to supplier quality
issues.
Partially offsetting these decreases was:
- ----------------------------------------
o an increase of approximately $5.7 million of simulation systems and other
product sales through Micro Systems, Inc.;
o an increase of approximately $0.8 million at Herley New England due to
volume of certain key second-generation production programs; and
o an overall increase on various programs and products across multiple sites.
Domestic and foreign sales were 66% and 34% respectively of net sales in fiscal
2008 versus 69% and 31%, respectively, in the prior fiscal year. Bookings were
approximately $139.2 million, of which 74% were domestic and 26% were foreign.
This compares to bookings of approximately $158.4 million in the prior-year
period, of which 63% were domestic and 37% were foreign.
Gross profit in fiscal 2008 was $28.2 million (20.8% gross profit margin)
compared to $38.6 million (28.0% gross profit margin) in fiscal 2007,
representing a decrease of $10.4 million. Contributing to the reduction in gross
profit during fiscal 2008 are the following items:
o Higher independent research and development costs of approximately $3.1
million on investments in certain strategic opportunities at several
Herley operations;
o Approximately $2.6 million in contract losses recognized on two development
and production contracts at Herley Farmingdale;
o Higher costs at our Israeli subsidiary due to the unfavorable exchange rate
of the U.S. Dollar versus the New Israeli Shekel reduced gross profit by
approximately $1.6 million;
o Reduced volume of revenues across several Herley operations affected gross
profit by approximately $1.2 million;
o Approximately $1.0 million at Herley Farmingdale due to cost overruns and a
change in management's estimate of the recoverability of the costs on
future contracts;
o Disruptions across several production programs due to supplier quality
issues, increased costs of production; and
o Product mix of contracts both domestically and internationally.
Selling and administrative expenses in fiscal 2008 were $28.3 million as
compared to $27.3 million in fiscal 2007. The $1.0 million increase in selling
and administrative expenses is primarily attributable to an increase in
representative commissions related largely to our international business.
As of August 3, 2008, we had aggregate claims, related to various legal matters,
under our Directors and Officers insurance policy of approximately $7.2 million
(net of a deductible of $500,000) and have received partial payments of
approximately $2.2 million. We entered into an agreement in January 2007 with
the insurance carrier whereby if it is determined by final decision of an
arbitration panel, or by final judgment of a court, or other final decision of a
tribunal having jurisdiction thereof, that any amount paid by the insurance
carrier was not a loss, as that term is defined in the policy, we would repay to
the insurance carrier any such uncovered sums previously advanced to us.
Subsequent to the end of fiscal 2008, the insurance carrier asserted in a letter
their determination that they are not liable for certain of the legal costs
incurred by us. We have responded with a letter, supported by court case
citations, that all the submitted costs represent valid claims under the policy
and that the insurance company is liable. However, based on the insurance
company's position and generally accepted accounting principles, we are not
permitted to record any potential claim for recovery under our insurance policy.
Accordingly, the previously recorded receivable of $2.8 million as of May 4,
2008 was eliminated in the fourth quarter of fiscal 2008.
Including the elimination of the previously recorded receivable of $2.8 million
as discussed in Item 3, "Legal Proceedings", litigation costs were approximately
$5.6 million versus $1.7 million in fiscal 2007.
We had an operating loss from continuing operations during fiscal 2008 of $21.2
million compared to operating income of $0.8 million in fiscal 2007. The results
of fiscal 2008 include both the $9.5 million settlement of the Department of
Justice litigation and the $6.0 million settlement of the EADS litigation as
discussed in Note A to the Consolidated Financial Statements, as well as related
legal expenses of $5.6 million. The decrease in operating income before the
legal expenses, litigation settlements and employment contract settlement costs
is attributable to the reduction in sales volume, the decrease in gross margin
as discussed above, and the increase in selling and administrative expenses.
Interest income was $1.1 million, a decrease of $0.1 million in fiscal 2008
because of lower average cash balances through portions of the year. Interest
expense was $0.7 million, a decrease of $0.1 million versus the prior year.
25
We recognized a net foreign exchange loss of $0.1 million in fiscal 2008
compared to a foreign exchange transaction gain of $0.5 million in fiscal 2007.
The foreign exchange losses and gains are attributable to fluctuations in
exchange rates between the U.S. dollar and the local currency of our U.K.
subsidiary primarily in connection with temporary advances we have made to them
in U.S. dollars.
The combined benefit for income taxes from continuing and discontinued
operations for fiscal 2008 was $10.0 million representing an effective income
tax benefit rate of 49.2%, as compared to an effective income tax benefit rate
of 48.5% in fiscal 2007. The increase in the effective income tax rate for
fiscal 2008 is primarily attributable to the net operating loss for the company
for fiscal 2008 as compared to overall income for the Company in fiscal 2007.
The 49.2% benefit exceeds the statutory rate of 35% primarily due to the
reversal of FIN 48 liabilities of approximately $2.7 million that are no longer
needed due to the expiration of the statute of limitations for an earlier tax
year in which an uncertain tax position had been taken. Another major component
to the benefit was the tax on the non-deductible penalty paid as part of the
litigation settlement, which reduced the benefit by 6.0%.
Basic and diluted loss per common share for fiscal 2008 were both $(.76)
compared to basic and diluted earnings per common share of $.22 each for fiscal
2007.
Liquidity and Capital Resources
We believe that anticipated cash flows from operations, together with existing
cash and cash equivalents and our bank line availability will be adequate to
finance presently anticipated working capital, capital expenditure requirements
and other contractual obligations and to repay our long-term debt as it matures.
A significant portion of our revenue for fiscal 2010 is expected to be generated
from our existing backlog of sales orders. The funded backlog of orders at
August 2, 2009 was approximately $182 million, of which approximately 80% is
expected to ship in fiscal 2010. All orders included in this backlog are covered
by signed contracts or purchase orders. Nevertheless, contracts involving
government programs may be terminated at the discretion of the government. In
the event of the cancellation of a significant amount of government contracts
included in our backlog, we would be required to rely more heavily on cash
balances and our existing credit facility to fund our operations. We are not
aware of any events which are reasonably likely to result in any cancellation of
our government contracts, nor does our historical experience with the government
indicate any reasonable likelihood of such cancellations.
A small number of customers have accounted for a substantial portion of
historical net sales and we expect that a limited number of customers will
continue to represent a substantial portion of sales for the foreseeable future.
Approximately 16% and 13% of total net sales from continuing operations for
fiscal 2009 were made to Northrop Grumman Corporation and to Lockheed Martin
Corporation, respectively. Future operating results will continue to
substantially depend on the success of our largest customers and our
relationship with them. Orders from these customers are subject to fluctuation
and may be reduced materially. The loss of all or a portion of the sales volume
from any one of these customers would have an adverse affect on our liquidity
and operations.
As is customary in the defense industry, inventory is partially financed by
progress payments. In addition, it is customary for us to receive advanced
payments from customers on major contracts at the time a contract is entered
into. The unliquidated balance of progress payments was approximately $1.8
million at August 2, 2009 and $0.7 million at August 3, 2008. The balance of
advanced payments was approximately $12.7 million at August 2, 2009 and $8.1
million at August 3, 2008. The fiscal 2009 increase relates to the timing of
payments pursuant to the terms of various contracts.
As of August 2, 2009, we have approximately $14.8 million in cash and cash
equivalents and approximately $29.0 million available under our bank credit
facility, net of outstanding stand-by letters of credit of $11.0 million. As of
August 2, 2009 and August 3, 2008, working capital was $81.1 million and $94.4
million, respectively, and the ratio of current assets to current liabilities
was 2.5 to 1 and 3.1 to 1, respectively.
Net cash provided by operations during fiscal 2009 was approximately $14.9
million as compared to net cash used in operations of $10.6 million in the prior
year, a net operating cash flow increase of approximately $25.2 million. We had
a net loss in the current fiscal year of $41.2 million versus a loss of $10.3
million in the prior year. Fiscal 2009 was impacted by the non-cash impairment
of goodwill and other intangible assets of $44.2 million, additional employment
settlement costs of approximately $10.6 million, none of which were paid in
fiscal 2009 (as discussed in Note I to the Consolidated Financial Statements),
as well as the settlement costs of various litigation, claims and related
expenses of approximately $9.3 million, for which we expect to make final net
cash payments of $0.5 million in the first quarter of fiscal 2010 (as discussed
in Note F to the Consolidated Financial Statements). Fiscal 2008 included the
settlement costs of various litigation and related expenses of approximately
$15.5 million, including cash payments of $13.5 million in fiscal 2008 (as
discussed in Note F to the Consolidated Financial Statements).
26
Other significant changes in net cash from operating activities during fiscal
2009 include:
o the receipt of refundable income taxes of approximately $2.4 million;
o a reduction in cost incurred and income recognized in excess of
billings on uncompleted contracts of approximately $5.6 million due to
the shipment and billing of contracts on percentage of completion;
o the receipt of cash advances, net of liquidations, aggregating
approximately $6.6 million on the contracts noted above;
o an increase in inventories of approximately $6.7 million primarily
from the purchase of materials related to the higher level of backlog;
o an increase in trade accounts receivable of approximately $3.4 million
primarily due to the increased sales volume;
o an increase in accounts payable and accrued expenses of approximately
$2.9 million primarily as a result of the timing of purchases;
o an accelerated and final payment related to a prior employment
settlement of $3.4 million due to a change in control, as defined; and
o a payment on the EADS litigation settlement of $1.0 million.
As of August 2, 2009, we have available net operating loss carry-forwards for
federal income tax reporting purposes of approximately $20.7 million, net of
carryback, and available net operating loss carry-forwards for state income tax
purposes of approximately $30.7 million, with expiration dates through 2029. As
a result, we do not expect to make cash payments for federal or state income
taxes in fiscal 2010 based on our internal projections.
Net cash used in investing activities of approximately $20.4 million were
primarily related to the acquisition of Eyal for approximately $30.0 million
(including acquisition costs of approximately $0.4 million, net of cash acquired
of approximately $0.4 million) and capital expenditures of approximately $5.4
million. Offsetting these investing uses were proceeds from the sale of ICI of
$15.0 million, of which approximately $0.8 million is being held in escrow as
security for certain indemnification obligations. We expect substantially all of
the monies held in escrow to be released to us during the fourth quarter of
fiscal 2010.
Net cash provided by financing activities of approximately $6.1 million includes
borrowings under our bank line of credit of approximately $15.6 million for
working capital and borrowings to fund the acquisition of Eyal of $20.0 million
under the credit line and $10.0 million under a new term loan in Israel.
Partially offsetting these borrowings were payments of approximately $38.1
million against our outstanding line of credit and approximately $2.2 million of
long-term debt, including payments of approximately $0.8 million on the term
loan in Israel.
Bank Line of Credit and Term Loan
On April 30, 2007, the Company replaced its existing credit facility with a new
$40 million Revolving Credit Loan Agreement ("Agreement") with two banks on an
unsecured basis which may be used for general corporate purposes, including
business acquisitions and stand-by letters of credit. The Agreement requires the
payment of interest only on a monthly basis and payment of the outstanding
principal balance on March 31, 2011. The Company may elect to borrow with
interest at the bank's prime rate of interest minus 0.50%; or the greater of
LIBOR plus a margin of 2.50% or 3.50% (effective May 4, 2009) (the margin was
1.65% at August 3, 2008). There is a fee of 20 basis points per annum on the
unused portion of the credit facility payable quarterly and a fee of 1.25% per
annum on outstanding stand-by letters of credit. Stand-by letters of credit in
the amount of approximately $13.3 million were outstanding at August 2, 2009
(see Note F). If at any time the Company's backlog of orders falls below $50
million, the bank may obtain a security interest in eligible accounts
receivable, as defined, and if the outstanding advances are greater than 100% of
eligible receivables, a lien on all inventories. Funded backlog relating to
continuing operations as of August 2, 2009 was approximately $182 million.
There were no borrowings under the line of credit at August 2, 2009. We have
approximately $29.0 million available under our line at August 2, 2009.
Subsequent to the end of fiscal 2009 through the date of this filing, we have
net borrowings of approximately $5 million under the line of credit primarily to
satisfy certain employment settlements, litigation and related matters (see
below). A loan of $2.5 million was outstanding under the line at August 3, 2008.
The agreement contains various financial covenants, including, among other
matters, minimum tangible net worth, total liabilities to tangible net worth,
debt service coverage and restrictions on other borrowings. As a result of our
settlement of various claims and disputes and our inventory reduction, we did
not meet the minimum tangible net worth covenant at August 2, 2009 by
approximately $2.4 million and have obtained a waiver from our bank. We are in
compliance with all other financial covenants at August 2, 2009.
In October 2009, we amended our agreement with the bank and expect to be in
compliance with all financial covenants through fiscal 2010 based on our current
business outlook. However, we could become non-compliant with one or more of the
27
financial covenants in the future if there is an unfavorable resolution of our
outstanding litigation. The covenants under the line of credit may affect our
ability to undertake additional debt in the future.
On September 16, 2008, in connection with the acquisition of Eyal (see Notes B
and H to the Consolidated Financial Statements), we borrowed $20.0 million under
our line of credit and entered into a new term loan ("term loan") in the amount
of $10 million through a bank in Israel. The term loan is payable in quarterly
installments over a period of ten years, bearing interest at LIBOR plus 1.5%.
The term loan agreement contains various financial covenants which have been met
as of August 2, 2009, including, among other matters, minimum net equity as
defined. We expect to be in compliance with all financial covenants through
fiscal 2010 based on our business outlook. The covenants under the term loan
primarily affect the Israeli business unit and would not significantly affect
the Company's ability to undertake additional debt, if at all, in the future. In
November 2008, we repaid $14.0 million on our line of credit from the proceeds
of the ICI sale.
Employment Settlements, Litigation and Related Matters (also see Notes F and I
to the Consolidated Financial Statements)
In July 2009, we entered into a settlement agreement with Myron Levy, our former
Chairman and Chief Executive Officer, terminating his employment agreement. The
settlement agreement provides that in full satisfaction of all prior, current
and future obligations to Mr. Levy under the employment agreement, Mr. Levy is
to receive a lump sum payment of approximately $4.7 million, which was paid in
August 2009, and thereafter monthly payments of $100,000 commencing on September
1, 2009 for thirty-five consecutive months through July 1, 2012. Payments are
through a non-interest bearing promissory note. Mr. Levy also shall continue as
a consultant to us for three years at an annual compensation of $50,000 and is
to receive certain other benefits as provided in the employment agreement,
including medical reimbursement and insurance.
In August 2009, we entered into an agreement with Jeffrey L. Markel terminating
his employment agreement, effective as of August 1, 2009. The agreement provides
that in full satisfaction of all prior, current and future obligations to Mr.
Markel under the employment agreement, Mr. Markel is to receive an immediate
lump sum payment of approximately $1.4 million, which was paid in August 2009.
Mr. Markel also shall continue as a consultant to us for three years at an
annual compensation of $67,667 and is to receive certain other benefits as
provided in the employment agreement, including medical care reimbursement.
In June 2009, a Special Committee of our Board of Directors authorized an
accelerated payment to Lee N. Blatt, former chairman of the Company under the
terms of his agreement with us dated September 27, 2006 due to a change in
control, as defined in the agreement. The triggering event caused approximately
$3.4 million otherwise payable over the next 34 months to become immediately
payable. We paid that amount in July 2009.
At August 3, 2008, we had approximately $4.3 million due from a customer related
to claims and unpriced change orders in connection with changes in scope issues
under a contract that were in dispute. In September 2009, we settled this claim
for approximately $2.3 million, less $0.8 million previously advanced by this
customer. As a result, at August 2, 2009, we recorded a charge of approximately
$0.3 million against our cost of products sold, reduced net sales by
approximately $2.8 million and have a receivable due from this customer of
approximately $1.5 million.
In May 2009, we were advised that a contract with Herley Farmingdale that was
included in our backlog at the time in the aggregate amount of approximately
$4.9 million was being terminated for default. By letter dated June 1, 2009, the
customer demanded a return of approximately $3.8 million, which represented an
alleged progress payment made under the contract. On June 8, 2009, we filed suit
for breach of contract related to our customer's decision to terminate the
contract for default. In October 2009, we settled this matter in its entirety,
exchanging mutual equivalent releases to avoid the delays, expense and
uncertainty of litigation. Under the terms of the settlement, we paid $2.0
million to EDO and mutually agreed to a termination of the purchase order for
convenience without further liability to either party. As a result, we recorded
a charge of approximately $5.9 million against our cost of products sold in
fiscal 2009.
In 2006, we were served with several class-action complaints against us and
certain of our current and former officers and directors and certain of our
current and former officers and directors were also served with two separate
derivative complaints for breach of fiduciary duty. At this stage of the
proceedings, it is not possible to predict what, if any, liability we may have
from the Securities Class Actions.
Stock Repurchase Program
We have a stock repurchase program that was initially instituted in October
2002, as further modified, for the purchase of up to 3 million shares of our
common stock. There were no shares repurchased under this program in fiscal
2009. As of August 2, 2009, we acquired an aggregate of approximately 2.4
million shares in the open market, all of which have been previously retired.
The timing and amount of share repurchases, if any, will depend on business and
market conditions, as well as legal and regulatory considerations, among other
things.
28
Dividend Policy
We have not paid cash dividends in the Company's history. Our Board of Directors
evaluates our dividend policy based on our financial condition, profitability,
cash flow, capital requirements, and the outlook of our business. We currently
intend to retain any earnings for use in the business, including for investment
in acquisitions, and consequently we do not anticipate paying any cash dividends
on our common stock in the foreseeable future.
Contractual Financial Obligations, Commitments and Off-Balance Sheet
Arrangements
Our financial obligations and commitments to make future payments under
contracts include purchase orders, debt, lease and settlement agreements, and
contingent commitments such as stand-by letters of credit. These financial
obligations are recorded in accordance with accounting rules applicable to the
underlying transaction, with the result that some are recorded as liabilities on
the Balance Sheet, while others are required to be disclosed in the Notes to
Consolidated Financial Statements and Management's Discussion and Analysis.
We have outstanding an aggregate of approximately $24.0 million in open purchase
orders as of August 2, 2009. These open purchase orders represent executory
contracts for the purchase of goods and services which are expected to be
substantially fulfilled in the next six months.
We utilized off-balance sheet arrangements to provide performance guarantees to
certain customers in case of our default in performance of certain contracts
under which advance payments have been received. These arrangements consist of
standby letters of credit. Off-balance sheet arrangements are not considered to
be a source of liquidity or capital resources and do not expose us to material
risks or material unfavorable financial impacts.
The following table summarizes our contractual financial obligations and other
contingent commitments, including interest, at August 2, 2009 (in thousands):
Within 2-3 4-5 After 5
Obligations Total 1 Year Years Years Years
- -----------------------------------------------------------------------------------------------
Mortgage Note $ 2,203 $219 $440 $1,544 $ -
Industrial Revenue Bonds 2,812 214 424 432 1,742
Term Loan 9,447 1,021 2,043 2,043 4,340
Notes Payable - Other 283 283 - - -
Litigation Settlements 3,000 3,000 - - -
Employment Settlement Agreements (1)(2) 10,667 7,717 2,950 - -
Consulting Agreements 756 252 504 - -
Operating Lease Obligations 11,539 3,213 4,853 2,098 1,375
Purchase Obligations 23,985 23,393 592 - -
----------------------------------------------
64,692 39,312 11,806 6,117 7,457
Stand-by Letters of Credit 13,271 9,961 3,248 62 -
----------------------------------------------
Total Contractual Obligations $77,963 $49,273 $15,054 $6,179 $7,497
==============================================
<FN>
(1) In July 2009, we entered into a settlement agreement with Myron Levy, our
former Chairman and Chief Executive Officer, terminating his employment
agreement. The settlement agreement provides that in full satisfaction of all
prior, current and future obligations to Mr. Levy under the employment
agreement, Mr. Levy is to receive a lump sum payment of approximately $4.7
million, which was paid in August 2009, and thereafter monthly payments of
$100,000 commencing on September 1, 2009 for thirty-five consecutive months
through July 1, 2012. Payments are through a non-interest bearing promissory
note. Mr. Levy also shall continue as a consultant to us for three years at an
annual compensation of $50,000 and is to receive certain other benefits as
provided in the employment agreement, including medical reimbursement and
insurance.
(2) In August 2009, we entered into an agreement with Jeffrey L. Markel
terminating his employment agreement, effective as of August 1, 2009. The
agreement provides that in full satisfaction of all prior, current and future
obligations to Mr. Markel under the employment agreement, Mr. Markel is to
receive an immediate lump sum payment of approximately $1.4 million, which was
paid in August 2009. Mr. Markel also shall continue as a consultant to us for
three years at an annual compensation of $67,667 and is to receive certain other
benefits as provided in the employment agreement, including medical care
reimbursement.
</FN>
29
Several officers and key employees have severance agreements providing for an
aggregate lump-sum payment of approximately $3.4 million in the event of a
change of control as defined in the agreements. The agreements expire from one
to two years from the date of a change of control.
Recent Accounting Pronouncements
The Financial Accounting Standards Board issues, from time to time, new
financial accounting standards, staff positions and emerging issues task force
consensus. See Note A to the Consolidated Financial Statements for a discussion
of these matters.
Critical Accounting Policies and Estimates
Our established policies are outlined in the Note A to the Consolidated
Financial Statements entitled "Summary of Significant Accounting Policies"
(contained in Part II, Item 8 of this Annual Report on Form 10-K). As part of
our oversight responsibilities, we continually evaluate the propriety of our
accounting methods as new events occur. We believe that our policies are applied
in a manner which is intended to provide the user of our financial statements a
current, accurate and complete presentation of information in accordance with
accounting principles generally accepted in the United States of America.
Important accounting practices that require the use of assumptions and judgments
are outlined below.
We recognize revenue when products are shipped and the customer takes ownership
and assumes risk of loss, collection of the relevant receivable is probable,
persuasive evidence of an arrangement exists and the sales price is fixed or
determinable. Payments received from customers in advance of products delivered
are recorded as customer advance payments until earned. Approximately 99% of our
contracts are firm, fixed price contracts, providing for a predetermined fixed
price for the products sold, regardless of the costs incurred. Historically
approximately 10% of our revenues were derived from long-term, fixed price
contracts for which revenues and estimated profits are recognized using the
percentage of completion method of accounting on the cost to cost method. Under
this method, revenue is recorded based upon the ratio that incurred costs to
date bear to total estimated contract costs at completion with related cost of
sales recorded as costs are incurred. Contract costs include all direct material
and labor costs and those indirect costs related to contract performance.
Selling and administrative costs are charged to expense as incurred. Risks and
uncertainties inherent in the estimation process could affect the amounts
reported in our financial statements. The key assumptions used in the estimate
of costs to complete relate to labor costs and indirect costs required to
complete the contract. The estimate of rates and hours as well as the
application of overhead costs is reviewed on a regular basis. If our business
conditions were different, or if we used different assumptions in the
application of this and other accounting policies, it is likely that materially
different amounts would be reported on our financial statements.
The effect of any change in the estimated gross margin percentage for a contract
is reflected in the period in which the change is known. Prospective losses on
long-term contracts are based upon the anticipated excess of costs over the
selling price of the remaining units to be delivered and are recorded in the
period when first determinable. Actual losses could differ from those estimated
due to changes in the final costs and contract terms.
Inventories are stated at lower of cost (principally first-in, first-out) or
market. A valuation allowance for obsolete and slow-moving inventory is
established based upon an aging of raw material components. Current requirements
for raw materials are evaluated based on current backlog of orders for products
in which the components are used and anticipated future orders.
Goodwill is tested for impairment in accordance with SFAS No. 142 using a fair
value approach applied to our single reporting unit. Impairment charges are
recognized for amounts where the reporting unit's goodwill exceeds its fair
value. An annual impairment test is performed in the fourth quarter of each
fiscal year. Any future impairment of goodwill will be charged to operations. We
amortize the cost of other intangibles over their estimated useful lives.
Amortizable intangible assets may also be tested for impairment if indications
of impairment exist.
Impairment testing is performed in two steps: (i) we determine impairment by
comparing the fair value of our single reporting unit with our carrying value,
and (ii) if impairment is indicated, we measure the amount of impairment loss by
comparing the implied fair value of goodwill with the carrying amount of that
goodwill. We performed our annual impairment evaluation required by SFAS No. 142
as of August 2, 2009. We have historically determined our fair value using our
current market capitalization, which, in an active market for our common stock,
we consider a reasonable indication of implied fair value. At August 2, 2009,
the market capitalization was below our carrying value. We proceeded to further
evaluate our fair value using the income approach and the market approach, as
well as a weighted blend of each of the fair value approaches. Based upon these
collective analyses, we concluded that there was an indicator of impairment of
goodwill as of August 2, 2009 and proceeded to the second step to determine the
amount of impairment loss. Such goodwill impairment loss, in the amount of $42.1
million, was charged to operations in the fourth quarter of fiscal 2009.
30
Effective August 1, 2005, the Company adopted the fair value recognition
provisions of SFAS No. 123(R), "Share-Based Payment" ("SFAS 123(R)") using the
modified prospective application method. This standard requires the Company to
measure the cost of employee services received in exchange for equity share
options granted based on the grant-date fair value of the options. The cost is
recognized as compensation expense over the requisite service period for each
separately vesting portion of the options. Under the modified prospective
application method, compensation costs includes: (a) compensation cost of stock
options granted prior to but not yet vested as of August 1, 2005 (based on
grant-date fair value estimated in accordance with the provisions of SFAS 123)
and (b) compensation cost for all options granted subsequent to July 31, 2005
(based on grant-date fair value estimated in accordance with the new provisions
of SFAS 123(R)). Determining the fair value of share-based awards at the grant
date requires judgment, including estimating our stock price volatility and
employee stock option exercise behaviors. Our expected volatility is based upon
the historical volatility of our stock. The expected life of share-based awards
is based on observed historical exercise patterns for our employees. As
share-based compensation expense recognized in the Consolidated Statement of
Operations is based on awards ultimately expected to vest, the amount of expense
has been reduced for estimated forfeitures. SFAS 123(R) requires forfeitures to
be estimated at the time of grant and revised, if necessary, in subsequent
periods if actual forfeitures differ from those estimates.
Provisions for federal, foreign, state and local income taxes are calculated on
reported financial statement pretax income based on current tax law and also
include the cumulative effect of any changes in tax rates from those used
previously in determining deferred tax assets and liabilities. Such provisions
differ from the amounts currently payable because certain items of income and
expense are recognized in different time periods for financial reporting
purposes than for income tax purposes.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
We are subject to market risk associated with foreign currency exchange and
changes in interest rates. We have not entered into any market risk sensitive
instruments for trading purposes.
Since the acquisitions of General Microwave Corporation and its Israeli
subsidiary, Eyal and EWST, we are subject to movements in foreign currency rate
changes related to our operations in Israel and in the U.K. Prior to fiscal
2008, the movements in the New Israeli Shekel versus the U.S. Dollar have not
been significant. Movements in Pounds Sterling (the functional currency at EWST)
have been more significant.
For fiscal years 2009, 2008, and 2007, Herley Israel accounted for approximately
22%, 13% and 12%, respectively, of our consolidated net sales. A significant
portion of the revenues are derived from dollar denominated contracts. However,
costs at Herley Israel are largely based in New Israeli Shekels which exposes us
to market risk with respect to fluctuations in the U.S. dollar value of future
New Israeli Shekel denominated costs and earnings. A 10% strengthening in the
average value of New Israeli Shekels in fiscal 2009, for example, would have
increased costs by approximately $3,430,000, and would have increased our
consolidated loss from continuing operation before income taxes by approximately
$3,430,000. The average, high and low foreign currency exchange rates during
fiscal year 2009 were 0.283, 0.309 and 0.246 respectively. A 10% strengthening
in the average value of New Israeli Shekels in fiscal 2008, for example, would
have increased costs by approximately $1,736,000, and would have decreased our
consolidated income from continuing operations before income taxes by
approximately $1,736,000. The average, high and low foreign currency exchange
rates during fiscal year 2008 were 0.2688, 0.3096, and 0.2304, respectively.
For fiscal years 2009, 2008 and 2007, EWST accounted for approximately 2%, 3%
and 3%, respectively, of our consolidated net sales based in part on the rate at
which EWST's Sterling denominated financial statements have been converted into
U.S. dollars. Having a portion of our future revenue and income denominated in
Sterling exposes us to market risk with respect to fluctuations in the U.S.
dollar value of future Sterling denominated revenue and earnings. A 10% decline
in the average value of Sterling in fiscal 2009, for example, would have reduced
sales by approximately $341,000, and would have decreased our consolidated loss
from operations before income taxes by approximately $190,000 due to the
reduction in the U.S. dollar value of EWST's sales and operating loss. The
average, high and low foreign currency exchange rates during fiscal year 2009
were 1.582, 1.8869 and 1.4189 respectively. A 10% decline in the average value
of Sterling in fiscal 2008, for example, would have reduced sales by
approximately $437,000 and would have decreased our consolidated loss from
continuing operations before income taxes by approximately $161,000 due to the
reduction in the U.S. dollar value of EWST's sales and operating loss. The
average, high and low foreign currency exchange rates during fiscal year 2008
were 2.00, 2.07 and 1.96 respectively.
We have made inter-company advances to EWST in the aggregate amount of
approximately $8.6 million as of August 2, 2009. Since the advances are
denominated in U.S. Dollars and EWST anticipates reducing the amount of advances
during fiscal year 2010, the amount outstanding is subject to foreign exchange
rate fluctuations.
31
In October 2001, we entered into an interest rate swap with a bank pursuant to
which it exchanged floating rate interest in connection with the Bonds discussed
in Note H to the Consolidated Financial Statements on a notional amount of
$3,000,000 for a fixed rate of 4.07% for a ten-year period ending October 1,
2011. The notional amount reduces each year in tandem with the annual
installments due on the Bonds. The fixing of the interest rate for this period
offsets our exposure to the uncertainty of floating interest rates on the Bonds,
and as such has been designated as a cash flow hedge. The hedge is deemed to be
highly effective and any ineffectiveness will be recognized in interest expense
in the reporting period. The fair value of the interest rate swap was a
liability of approximately $125,000 as of August 2, 2009. There was no material
hedge ineffectiveness related to cash flow hedges during the fiscal years
presented to be recognized in earnings.
In July 2008, the Company negotiated to extend the maturity of its Mortgage note
to March 1, 2014 with fixed monthly principal and interest installments of
$23,359 based upon a twenty-year amortization including interest at a fixed rate
of 7.43% through March 1, 2009 and at LIBOR plus 1.75% thereafter (2.06% at
August 2, 2009).
In September 2008, the Company entered into a new term loan in the amount of $10
million for a period of 10 years through the Company's bank in Israel. The new
loan is payable in quarterly installments of $250,000 over a period of 10 years
with interest at LIBOR plus 1.5%. The table below provides information about our
debt that is sensitive to changes in interest rates. Future principal payment
cash flows by maturity date and corresponding fair values are as follows (in
thousands):
Fiscal year Term
ending Mortgage Bonds loan
----------- ------- ----- ----
2010 $ 182 $ 130 $ 1,000
2011 187 135 1,000
2012 190 140 1,000
2013 193 150 1,000
2014 1,202 155 1,000
2015 and later - 1,520 4,250
----------- ------------ -----------
$ 1,954 $ 2,230 $ 9,250
=========== ============ ===========
Fair value $ 1,954 $ 2,230 $ 9,250
=========== ============ ===========
Item 8. Financial Statements and Supplementary Data
The financial statements and supplementary data listed in the Index on Page F-1
are filed as a part of this report.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
Not applicable.
Item 9A. Controls and Procedures
I. Evaluation of Disclosure Controls and Procedures.
Under the supervision and with the participation of our management,
including our principal executive officer (Chairman of the Board/Chief
Executive Officer) and principal financial officer (Vice President and
Chief Financial Officer), we have evaluated the effectiveness of our
disclosure controls and procedures (as such term is defined in Rules
13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as
amended (the "Exchange Act")) as of August 3, 2008 (the "Evaluation Date").
As permitted by the guidance issued by the Office of the Chief Accountant
of the Securities and Exchange Commission, management has excluded from its
assessment the internal control over financial reporting at Eyal
Industries, which was acquired on September 16, 2008 and whose financial
statements constitute 16% and 11% of consolidated total assets and total
revenue, respectively, for the fiscal year ended August 2, 2009. Management
will report on its assessment of the internal controls of its consolidated
operations within the time period provided by the Act and the applicable
SEC rules and regulations concerning business combinations. Based on such
evaluation, the principal executive officer and the principal financial
officer have concluded that, as of the Evaluation Date, our disclosure
controls and procedures are effective, and are reasonably designed to
ensure that all material information (including our consolidated
subsidiaries) required to be included in our reports filed or submitted
under the Exchange Act is recorded, processed, summarized and reported
within the time periods specified in the rules and forms of the Securities
and Exchange Commission.
Our review of our internal controls was made within the context of the
relevant professional auditing standards defining "internal controls,"
"significant deficiencies" and "material weaknesses." "Internal controls"
are processes designed to provide reasonable assurance that our
transactions are properly authorized, our assets are safeguarded against
unauthorized or improper use, and our transactions are properly recorded
and reported, all to permit the preparation of our consolidated financial
statements in conformity with accounting principles generally accepted in
the United States. "Significant deficiencies" are control issues that could
have a significant adverse effect on our ability to properly authorize
transactions; safeguard our assets; or record, process, summarize or report
financial data in the consolidated financial statements. A "material
weakness" is a particularly serious reportable condition where the internal
control does not reduce to a relatively low level the risk that
misstatements caused by error or fraud may occur in amounts that would be
32
material in relation to the consolidated financial statements and not be
detected within a timely period by employees in the normal course of
performing their assigned functions. As part of our internal controls
procedures, we also address other, less significant control matters that we
identify, and we determine what revision or improvement to make, if any, in
accordance with our on-going procedures.
II. Changes in Internal Control over Financial Reporting.
During the quarter ended August 2, 2009, there were certain insignificant
changes in our internal control over financial reporting which resulted
from control improvement and remediation efforts. These changes have not
materially affected, and are not likely to materially affect, such internal
control over financial reporting.
III. Management's Report on Internal Control over Financial Reporting.
We are responsible for establishing and maintaining an adequate internal
control structure and procedures over financial reporting. We have assessed
the effectiveness of internal control over financial reporting as of August
2, 2009. Our assessment was based on criteria set forth by the Committee of
Sponsoring Organizations of the Treadway Commission (COSO) Internal
Control-Integrated Framework.
Our internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial
reporting and the preparation of financial statements for external purposes
in accordance with generally accepted accounting principles. Our internal
control over financial reporting includes those policies and procedures
that:
(1) pertain to the maintenance of records that, in reasonable detail,
accurately and fairly reflect our transactions and dispositions
of our assets;
(2) provide reasonable assurance that transactions are recorded as
necessary to permit preparation of financial statements in
accordance with generally accepted accounting principles in the
United States, and that our receipts and expenditures are being
made only in accordance with authorizations of our management and
board of directors; and
(3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use or disposition of our
assets that could have a material effect on our financial
statements.
Because of its inherent limitations, internal control over financial
reporting may not prevent or detect all misstatements. Also, projections of
any evaluation of effectiveness to future periods are subject to the risk
that controls may become inadequate because of changes in conditions, or
that the degree of compliance with the policies or procedures may
deteriorate.
Based on the COSO criteria, we believe our internal control over financial
reporting as of August 2, 2009 was effective.
Our internal control over financial reporting as of August 2, 2009 has been
audited by Marcum LLP, independent registered public accounting firm, as
stated in their report which is included below.
Important Considerations
The effectiveness of our disclosure controls and procedures and our
internal control over financial reporting is subject to various inherent
limitations, including cost limitations, judgments used in decision making,
assumptions about the likelihood of future events, the soundness of our
systems, the possibility of human error and the risk of fraud. Moreover,
projections of any evaluation of effectiveness to future periods are
subject to the risk that controls may become inadequate because of changes
in conditions and the risk that the degree of compliance with policies or
procedures may deteriorate over time. Because of these limitations, there
can be no assurance that any system of disclosure controls and procedures
or internal control over financial reporting will be successful in
preventing all errors or fraud or in making all material information known
in a timely manner to the appropriate levels of management.
33
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM ON
----------------------------------------------------------
INTERNAL CONTROL OVER FINANCIAL REPORTING
-----------------------------------------
To the Audit Committee of the
Board of Directors and Shareholders of Herley Industries, Inc.
We have audited Herley Industries, Inc. and Subsidiaries' (the "Company")
internal control over financial reporting as of August 2, 2009, based on
criteria established in Internal Control-Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission (COSO). As
described in Management's Report on Internal Control Over Financial Reporting,
management excluded from its assessment the internal control over financial
reporting at Eyal Industries, which was acquired on September 16, 2008 and whose
financial statements constitute 16% and 11% of total assets and total revenue,
respectively, for the consolidated financial statement amounts for the year
ended August 2, 2009. Accordingly, our audit did not include the internal
control over financial reporting at Eyal Industries. The Company's management is
responsible for maintaining effective internal control over financial reporting,
and for its assessment of the effectiveness of internal control over financial
reporting, included in the accompanying Management Report on Internal Control
Over Financial Reporting. Our responsibility is to express an opinion on the
Company's internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether effective
internal control over financial reporting was maintained in all material
respects. Our audit of internal control over financial reporting included
obtaining an understanding of internal control over financial reporting,
assessing the risk that a material weakness exists, and testing and evaluating
the design and operating effectiveness of internal control based on the assessed
risk. Our audit also included performing such other procedures as we considered
necessary in the circumstances. We believe that our audit provides a reasonable
basis for our opinion.
A company's internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company's internal control over
financial reporting includes those policies and procedures that (1) pertain to
the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (2)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of
the company; and (3) provide reasonable assurance regarding prevention or timely
detection of unauthorized acquisition, use, or disposition of the company's
assets that could have a material effect on the financial statements.
Because of the inherent limitations, internal control over financial reporting
may not prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that degree of compliance with
the policies or procedures may deteriorate.
In our opinion, Herley Industries, Inc. and Subsidiaries maintained, in all
material aspects, effective internal control over financial reporting as of
August 2, 2009, based on criteria established in Internal Control - Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO).
We have also audited, in accordance with the standards of the Public Company
Accounting Oversight Board (United States), the consolidated balance sheets as
of August 2, 2009 and August 3, 2008 and the related consolidated statements of
operations, shareholders' equity, and cash flows and the related financial
statement schedule for the fifty-two (52) weeks ended August 2, 2009,
fifty-three (53) weeks ended August 3, 2008 and the fifty-two (52) weeks ended
July 29, 2007 of the Company, and our report, which was based on our audit and
the report of other auditors, dated October 16, 2009 expressed an unqualified
opinion on those financial statements and financial statement schedule.
/s/ Marcum LLP
Marcum LLP
Melville, New York
October 16, 2009
34
Item 9B. Other Information
Not applicable
PART III
Item 10. Directors, Executive Officers and Corporate Governance
Directors of the Registrant
- ---------------------------
Director
Name of Director Age Principal Occupation Since
---------------- --- -------------------- ---------
David H. Lieberman 64 Chairman of the Board July, 2009
Rear Admiral Edward K. Walker, Jr. (Ret.) 76 President and CEO of 1997
(1) (2) U.S. Navy Memorial Foundation
Dr. Edward A. Bogucz (1) (3) (4) 53 Executive Director of the New York Center 2003
of Excellence in Environmental Systems
John A. Thonet (1) (3) 59 President of Thonet Associates 1991
Carlos C. Campbell (2) (3) (4) 72 Business and Financial Management Consultant 2005
- ------------
(1) Member of Compensation Committee
(2) Member of Corporate Governance Committee
(3) Member of Nominating Committee
(4) Member of Audit Committee
Mr. Lieberman was appointed Chairman of the Board in July 2009 after previously
serving as a director from 1985 to 2005. Mr. Lieberman has been a practicing
attorney in the State of New York for more than thirty-five years and is a
member of the firm of Beckman, Lieberman & Barandes, LLP, one of several law
firms that has provided legal services to us, specifically in the areas of
corporate and securities law.
Rear Admiral Edward K. Walker, Jr. (Ret.) was appointed Vice Chairman of the
Board in June 2006. Rear Admiral Walker served as the Director of Corporate
Strategy for Resource Consultants, Inc., a privately-held corporation supporting
the Department of Defense and other government agencies, after his retirement
from the United States Navy in 1988 until 2000. Prior to his retirement from the
United States Navy, Rear Admiral Walker served for thirty-four years in various
naval officer positions, including Commander of the Naval Supply Systems Command
and Chief of Supply Corps. He holds a Bachelor's Degree from the United States
Naval Academy and Master's Degree in Business Administration from The George
Washington University.
Dr. Edward A. Bogucz is currently Executive Director of the New York Center of
Excellence in Environmental Systems, a university-industry consortium that
includes twelve universities and research institutions. Previously, Dr. Bogucz
served as Dean of Engineering and Computer Science at Syracuse University from
1995 through 2003. Dean Bogucz earned his Bachelor's and Doctoral Degrees in
mechanical engineering from Lehigh University and a Master's Degree from
Imperial College, University of London. His teaching and research expertise
includes fluid dynamics, energy systems, computational methods, and
multidisciplinary analysis and design. As Dean, he led the strengthening of the
College of Engineering and Computer Science in selected areas, including RF and
microwave devices, information fusion, systems assurance and environmental
technologies.
Mr. John A. Thonet has been Secretary since January 2003 and is President of
Thonet Associates, an environmental consulting firm specializing in land
planning and zoning matters, for more than the past ten years.
Carlos C. Campbell operates a consulting business in Reston, Virginia and serves
on the Board of Directors for Resource America, Inc. and Pico Holdings, Inc.,
both publicly-traded companies. He is a veteran of nine years as a Naval Flight
Officer and served in the Administration of President Reagan as the Assistant
Secretary for Economic Development, U.S. Department of Commerce.
Executive Officers of the Registrant
- ------------------------------------
Name Age Position
---- --- --------
David H. Lieberman 64 Chairman of the Board
Richard F. Poirier 44 President and Chief Executive Officer
Anello C. Garefino 62 Chief Financial Officer
Yonah Adelman 58 Senior Vice President
Myron Levy 68 Former Chairman of the Board, Chief
Executive Officer and Director
Jeffrey L. Markel 60 Former Chief Operating Officer
Kevin J. Purcell 50 Former Chief Financial Officer
- --------------------
Richard H. Poirier was appointed President and Chief Executive Officer in July
2009 after serving as a Vice President of the Company and as General Manager of
Herley New England since August 2003. Mr. Poirier has been with Herley since
35
1992 when Herley acquired Micro Dynamic Inc. ("MDI"). Mr. Poirier joined MDI
upon graduation in 1987 and has held various management positions over the
years. Mr. Poirier holds a Bachelor of Science Degree in Electrical Engineering
from Marquette University.
Mr. Anello C. Garefino was appointed Vice President-Finance and Chief Financial
Officer in January 2009 after serving as Vice President-Finance since June 2006.
Mr. Garefino, a certified public accountant, served as Acting Chief Financial
Officer from September 2005 to June 2006 and as Vice President-Finance from
September 2004 to September 2005 and prior to that served as Vice President-
Finance, Treasurer and Chief Financial Officer since June 1993. From 1987 to
January 1990 Mr. Garefino was Corporate Controller of Exide Corporation. Mr.
Garefino earned his Bachelor of Science Degree in Accounting from Rider
University in 1969.
Mr. Yonah Adelman was appointed Senior Vice President in July 2009. He also has
been the general manager of the Company's subsidiary, General Microwave Israel,
since the Company's acquisition of General Microwave Corp. in 1999.
Mr. Myron Levy served as Chairman of the Board from June 2006 to July 22, 2009
after serving as Vice Chairman of the Board since August 2003, and was our Chief
Executive Officer from August 2001 to July 2009. Prior thereto, Mr. Levy served
as President since June 1993, as Executive Vice President and Treasurer since
May 1991 and as Vice President for Business Operations and Treasurer since
October 1988. For more than ten years prior to joining the Company, Mr. Levy, a
certified public accountant, was employed in various executive capacities,
including Vice President, by Griffon Corporation.
Jeffrey L. Markel was our Chief Operating Officer from June 2007 to August 1,
2009. Prior to joining Herley, Mr. Markel was employed at BAE Systems serving as
President of the Network Enabled Systems Line of Business since 1997. From 1994
to 1997 he was Vice President of Program Management for GEC Marconi. His prior
employment was at Hazeltine Corporation, with his last position there being Vice
President, Communication Systems. His educational background includes a Bachelor
of Science in Mechanical Engineering and a Bachelor of Arts in Applied Science
from Lehigh University, as well as a Masters in Business Administration from
Long Island University.
Kevin J. Purcell was our Chief Financial Officer from June 2006 to January 12,
2009. Prior to joining Herley, Mr. Purcell served as Vice President-Finance,
Contracts and Compliance for Smiths Aerospace LLC, Customer Services Americas.
Previously, Mr. Purcell served other companies in senior financial positions,
including Vice President and CFO, Controller and Director. In addition, he
worked for a number of years in the Government Contractor Advisory Services
group of KPMG. Mr. Purcell received his Bachelor's degree in financial
accounting from Iona College and his Masters in Business Administration from
Pepperdine University. He is a certified public accountant and a certified
management accountant.
Committees of the Board of Directors
- ------------------------------------
Audit Committee and Audit Committee Financial Expert
The Board has a standing Audit Committee. The Board has affirmatively determined
that each director who serves on the Audit Committee is independent, as the term
is defined by applicable NASDAQ Listing Standards and Securities and Exchange
Commission ("SEC") rules. The Audit Committee currently consists of Carlos C.
Campbell and Edward A. Bogucz. The members of the Audit Committee have
substantial experience in assessing the performance of companies, gained as
members of the Company's Board of Directors and Audit Committee, as well as by
serving in various capacities in other companies or governmental agencies. As a
result, they each have an understanding of financial statements. However, none
of them keep current on all aspects of generally accepted accounting principles.
Accordingly, the Board of Directors does not consider any of them to be a
financial expert as that term is defined in applicable regulations.
Nevertheless, the Board of Directors believes that they competently perform the
functions required of them as members of the Audit Committee and, given their
backgrounds; it would not be in the best interest of the Company to replace any
of them with another person to qualify a member of the Audit Committee as a
financial expert.
The Audit Committee regularly meets with our independent registered public
accounting firm outside the presence of management.
Compensation Committee
Our Compensation Committee annually establishes, subject to the approval of the
Board of Directors and any applicable employment agreements, the salaries which
will be paid to our executive officers during the coming year, and administers
our stock-based benefit plans. The Compensation Committee currently consists of
Edward A. Bogucz, Chairman, Edward K. Walker, Jr. and John A. Thonet. Each
member of the Compensation Committee is a director who is not employed by us or
any of our affiliates and are independent directors under NASDAQ listing
standards.
Nominating Committee
Our Nominating Committee currently consisting of Carlos C. Campbell, Chairman,
John A. Thonet, and Edward A. Bogucz, each of whom is an independent director
36
under NASDAQ listing standards, identifies individuals qualified to become board
members, recommends to the Board nominees to fill vacancies in membership of the
Board as they occur and, prior to each Annual Meeting of Shareholders,
recommends a slate of nominees for election as Directors at such meeting.
Governance and Ethics Committee
Our Governance and Ethics Committee, currently consisting of Edward K. Walker,
Jr., Chairman, and Carlos C. Campbell, each of whom is an independent director,
monitors developments in corporate governance principles and other corporate
governance matters and makes recommendations to the Board of Directors regarding
the adoption of additional corporate governance principles.
Shareholder Recommendations for Board Nominees
The Nominating Committee will consider shareholder recommendations for
candidates for the Board. The name of any recommended candidate for director,
together with a brief biographical sketch, a document indicating the candidate's
willingness to serve, if elected, and evidence of the nominating shareholder's
ownership of Company stock, should be sent to the attention of the Secretary of
the Company.
Compliance with Section 16(a) of The Securities Exchange Act of 1934 -
Beneficial Ownership Reporting Compliance
Section 16(a) of the Securities Exchange Act of 1934 requires directors,
executive officers and persons who beneficially own more than 10% of our common
stock (collectively, "Reporting Persons") to file initial reports of ownership
and reports of changes in ownership of our common stock with the Securities and
Exchange Commission. Reporting Persons are required by SEC regulations to
furnish us with copies of all Section 16(a) reports they file. To our knowledge,
based solely on our review of the copies of such reports received or written
representations from certain Reporting Persons that no other reports were
required, we believe that during fiscal 2009, all Reporting Persons timely
complied with all applicable filing requirements.
Corporate Governance - Code of Ethics
We have adopted a Corporate Code of Business Ethics (the "Code") that applies to
all employees, including our principal executive officer, principal financial
officer and directors of the Company. The Code is broad in scope and is intended
to foster honest and ethical conduct, including accurate financial reporting,
compliance with laws and the like. If any substantive amendments are made to the
Code or if there is any grant of waiver, including any implicit waiver, from a
provision of the Code to our Chief Executive Officer or Chief Financial Officer,
we will disclose the nature of such amendment or waiver in a report on Form 8-K.
Item 11. Executive Compensation
COMPENSATION REPORT ON EXECUTIVE COMPENSATION
The compensation of our executive officers is generally determined by the
Compensation Committee of the Board of Directors, subject to applicable
employment agreements. Each member of the Compensation Committee is a director
who is not our employee or an employee of any of our affiliates. The following
report with respect to certain compensation paid or awarded to our executive
officers during fiscal 2009 is furnished by the directors who comprised the
Compensation Committee during fiscal 2009.
Compensation Discussion and Analysis
This section discusses the principles underlying our executive compensation
policies and decisions and the most important factors relevant to an analysis of
these policies and decisions. It provides qualitative information regarding the
manner and context in which compensation is awarded to and earned by our Named
Executive Officers ("NEOs") (as defined in the Summary Compensation Table below)
and places in perspective the data presented in the tables and narrative that
follow.
Compensation Philosophy and Overview
We believe that the most effective compensation program is one that is designed
to reward the achievement of our financial and strategic goals, and which aligns
executives' interests with those of our shareholders.
The compensation plans for our executive officers have three principal elements:
a base salary, discretionary cash incentive bonuses linked to achievement of
financial and strategic goals and equity-based incentive compensation. In
addition, we provide our executive officers a variety of benefits that in most
cases are available generally to all of our salaried employees. We view the
components of compensation as related but distinct. Although the Compensation
Committee of our Board of Directors (the "Committee") reviews the total
compensation of our executive officers, we do not believe that significant
compensation derived from one component of compensation should necessarily
negate or reduce compensation from other components. We do believe that the
executive compensation package should be fair and reasonable when taken as a
whole.
37
We have not adopted any formal policies or guidelines for allocating
compensation between long-term and currently paid out compensation or between
cash and non-cash compensation. However, our philosophy is to keep cash
compensation at a competitive level while providing the opportunity to be
significantly rewarded through equity if our company and our stock price perform
well over time.
We also believe that executive officers should have a percentage of their equity
compensation in the form of stock options or restricted stock vesting over time.
Role of Executive Officers in Compensation Decisions
Our Chief Executive Officer annually reviews the performance of each of our
other executive officers. The conclusions reached by our Chief Executive Officer
and his recommendations based on these reviews, including with respect to salary
adjustments, incentive awards and equity award amounts, are presented by our
Chief Executive Officer to the Committee. The Committee can exercise its
discretion in modifying any recommended adjustments or awards to executives. The
Committee makes all final compensation decisions for each of our executive
officers.
Committee meetings typically have included, for all or a portion of each
meeting, not only the Committee members but also our Chief Executive Officer.
Role of the Compensation Committee
The Compensation Committee currently consists of Edward A. Bogucz, Chairman,
Edward K. Walker, Jr. and John A. Thonet. Each member of the Compensation
Committee is a director who is not employed by us or any of our affiliates and
are independent directors under NASDAQ listing standards.
The Committee ensures that our executive compensation and benefits program is
consistent with our compensation philosophy and our corporate governance
guidelines and is empowered to make decisions regarding executive officers'
total compensation, and subject to the approval of the Board, our Chief
Executive Officer's total compensation.
The Committee reviews our overall compensation strategy at least annually to
ensure that it promotes shareholder interests, supports our strategic and
tactical objectives and provides for appropriate rewards and incentives for our
executive officers. The Committee's most recent overall compensation review
occurred in October 2009.
Accounting and Tax Implications of Our Compensation Policies
In designing our compensation programs, the Committee considers the financial
accounting and tax consequences to the Company as well as the tax consequences
to our employees. We account for equity compensation paid to our employees under
FASB'S Accounting Standards Codification 718, "Compensation - Stock
Compensation" ("ASC 718"), which requires us to estimate and record and expense
over the service period of the award. The ASC 718 cost of our equity awards is
considered by management as part of our equity grant recommendations to the
Committee.
Section 162(m) of the Internal Revenue Code places a limit of $1 million on the
amount of compensation that we may deduct for income tax purposes in any one
year with respect to our five most highly compensated executive officers. The $1
million limit does not apply to compensation that is considered "performance
based" under applicable tax rules. Our executive stock options are intended to
qualify as "performance-based," so that compensation attributable to those
options is fully tax deductible.
We also consider the tax impact to employees in designing our compensation
programs, particularly our equity compensation programs. For example, employees
generally control the timing of taxation with respect to the exercise of stock
options.
Components of our Executive Compensation Program
Base Salary
We establish base salaries that are sufficient, in the Committee's judgment, to
retain and motivate our executives while taking into account the unique
circumstances of our Company. In determining appropriate salaries, the Committee
considers each executives's scope of responsibility and accountability within
our Company and reviews the executive's compensation, individually and relative
to other officers, as well as similarly situated companies. We have entered into
employment agreements with certain of our executives which provide for
adjustments as set forth more fully below in the section titled "Employment
Agreements." In fiscal 2009, there were no increases in any executive's salary
beyond what is called for in the individual employment agreements, such as
cost-of-living increases.
Discretionary Cash Incentive Bonuses
The Committee believes that discretionary cash bonus compensation for executives
should be directly linked to our overall corporate financial performance,
38
individual performance and our success in achieving both our short-term and
long-term strategic goals. In assessing the performance of our Company and our
executives during fiscal 2009, the Committee considered our performance in the
following areas:
o Increase levels of component integration and value added content;
o Enhancement of our manufacturing capabilities;
o Pursuit of selective commercial opportunities;
o Maintaining leadership in microwave technology;
o Strengthening and expanding customer relationships; and
o Maintaining our reputation for integrity.
In the first quarter of fiscal 2010, the Committee awarded Mr. Poirier a
performance payment of $125,000 for fiscal year 2009 based on his performance as
Vice President and General Manager of Herley New England. Mr. Garefino was
awarded a bonus of $25,000. These awards by the Committee for fiscal 2009 are
detailed in the Summary Compensation Table on page 41.
Our bonuses are structured to be deductible under Section 162(m) of the Internal
Revenue Code which denies publicly-held corporations a federal income tax
deduction for compensation in excess of $1 million paid to the CEO and the four
other most highly compensated officers during a fiscal year unless the
compensation is "performance-based." We believe that our process of awarding
cash bonuses satisfies this requirement; however, there can be no assurance that
any amounts paid as discretionary cash bonuses will be deductible.
Equity-Based Long-Term Incentive Compensation
We believe that our equity incentive compensation arrangements are an important
factor in developing an overall compensation program that is competitive with
our peer group of companies and that aligns the interests of our executives with
those of our shareholders.
We believe that stock options and restricted stock awards effectively align the
long-term interests of management with our shareholders. Additionally, we
believe that our executives should have a greater percentage of their equity
awards at risk as compared with our other employees. Since our executives do not
benefit from stock options and restricted stock awards unless the price of our
stock increases after the grant date as compared with the grant price, they
clearly provide our executives with an added incentive to build shareholder
value. We have not repriced the exercise price for stock options that have been
granted when the future stock price has decreased below the exercise price of
such stock options. The date of our awards of stock options and restricted stock
is established by the Committee at a meeting held approximately four to six
weeks prior to the date of grant. Grants of stock options and stock awards vest
over a period of years in order to serve as an inducement for our executives to
remain in the employ of our Company. It is contemplated that we will continue to
offer stock options and stock awards as the principal component of our equity
compensation arrangement for our executives. The only stock options granted to
our executives in fiscal 2009 were 50,000 options to Richard F. Poirier and
25,000 options to Yonah Adelman on July 22, 2009, at the time of their
appointment as Chief Executive Officer and Senior Vice President, respectively.
The number of shares of restricted stock and stock options awarded to our
executives is established by the Committee in consultation with our CEO, taking
into account a number of factors, including the position, job performance and
overall responsibility of each executive. Since the value of the restricted
stock awards and stock options granted to our executives are based upon the
price of our shares, the Committee believes that the granting of restricted
stock and stock options is a significant incentive to our executives to continue
to build shareholder value. The Committee also believes that the multi-year
vesting periods will be helpful in linking equity compensation to long-term
performance.
Executive Benefits and Perquisites
All of our executives are eligible to participate in our employee benefit plans,
including medical, dental, life insurance and 401(k) plans. These plans are
available to all salaried employees and do not discriminate in favor of
executive officers. It is generally our policy not to extend significant
perquisites to our executives that are not available to our employees generally.
We have no current plans to make changes to levels of benefits and perquisites
provided to executives.
Executive Compensation Tables
Summary Compensation Table
The following table sets forth the annual compensation awarded to, earned by, or
paid to our Chairman, Chief Executive Officer ("Principal Executive Officer"),
our Chief Financial Officer ("Principal Financial Officer") and our other most
highly compensated former executive officers other than the Chief Executive
Officer who were serving as executive officers at the end of the last completed
fiscal year as required under SEC rules (collectively, the "Named Executive
Officers" or "NEOs") for services rendered for the fiscal years ended August 2,
2009, August 3, 2008 and July 29, 2007.
39
Non-Equity
Name and Principal Option Incentive Plan All Other
Position Year Salary Bonus(2) Awards(3) Compensation Compensation(5) Total
------------------- ---- ------ -------- --------- --------------- --------------- -----
Richard F. Poirier 2009 $223,180 $125,000 $ 3,083 $ $ 9,667 $ 360,930
President and 2008 206,308 60,000 9,965 276,273
Chief Executive Officer 2007 203,414 60,000 8,760 272,174
Anello C. Garefino 2009 $211,120 $ 25,000 $ $ $ 11,886 $ 248,006
Chief Financial Officer 2008 182,652 15,000 10,350 208,002
2007 175,478 5,000 8,847 189,325
Myron Levy 2009 $769,398 $ $ $ $4,740,469 $5,509,867
Former Chairman of the Board 2008 735,613(1) 300,000(4) 25,158 1,060,771
and Chief Executive Officer(6) 2007 713,126 750,000(4) 18,677 1,481,803
Jeffrey L. Markel 2009 $380,727 $ $583,578 $ $1,364,196 $2,328,501
Former Chief Operating Officer(6) 2008 352,719(1) 543,350 300,000(4) 23,116 1,219,185
2007 47,116 299,346 - - 346,462
Kevin J. Purcell 2009 $233,210 $ $ 32,090 $ $ 10,449 $ 275,749
Former Chief Financial Officer(6) 2008 227,622 50,000 49,942 10,308 337,872
2007 220,000 10,000 75,871 14,660 320,531
- --------
<FN>
(1) Includes a cost of living adjustment of $26,531 in fiscal 2008 for Mr. Levy
and $1,844 in fiscal 2008 for Mr. Markel under their employment agreements.
(2) Executive bonuses are paid at the discretion of the Board of Directors.
(3) Amounts represent the aggregate expense recognized for financial statement
reporting purposes in accordance with ACS 718 for stock options granted to
the NEOs (disregarding estimates of forfeitures for service-based vesting).
ACS 718 expense for the stock options is based on the fair value of the
options on the date of grant using the Black-Scholes option-valuation
model.
(4) Represents performance and incentive payments for fiscal 2008 and 2007.
(5) The amounts shown for Mr. Levy and Mr. Markel take into consideration
amounts paid on account of the termination of said NEOs employment
agreements with the Company. Mr. Levy will also receive monthly payments of
$100,000 commencing September 1, 2009 for thirty-five consecutive months
through July 1, 2012.
(6) Mr. Levy served as Chairman and Chief Executive Officer through July 22,
2009. Mr. Markel served as Chief Operating Officer through August 1, 2009.
Mr. Purcell served as Chief Financial Officer through January 12, 2009.
(7) The following table describes each component of the "All Other
Compensation" column in the "Summary Compensation Table" above. Other
compensation in 2008 for Mr. Markel includes reimbursement for relocation
expenses of $8,533.
</FN>
Matching Other Personal
Contribution Medical Employmnet Including
Fiscal to Employee Supplemental Insurance Settlement Personal
Name Year Savings Plan Life Insurance Benefits Payments Use of Auto Total
---- ------ ------------ -------------- --------- ----------- ---------------- -----
Richard F. Poirier 2009 $ 9,200 $ 367 $ $ $ 100 $ 9,667
2008 9,000 365 600 9,965
2007 7,800 360 600 8,760
Anello C. Garefino 2009 $ 9,200 $2,586 $ $ $ 100 $ 11,886
2008 7,906 1,844 600 10,350
2007 6,802 1,445 600 8,847
Myron Levy 2009 $ 9,200 $6,858 $ 10,001 $4,705,000 $ 9,410 $4,740,469
2008 9,000 4,763 7,862 3,533 25,158
2007 8,800 4,572 1,552 3,753 18,677
Jeffrey L. Markel 2009 $ 9,200 $3,564 $ $1,350,000 $ 1,432 $1,364,196
2008 9,000 714 13,402 23,116
2007 - - - -
Kevin J. Purcell 2009 $ 9,200 $1,149 $ $ $ 100 $ 10,449
2008 9,000 606 702 10,308
2007 8,800 225 5,635 14,660
40
Grants of Plan-Based Awards in Fiscal 2009
The following table provides information with respect to each stock option
awarded to the Named Executive Officers in the fiscal year ended August 2, 2009.
All Other
Option Exercise Grant
Awards: or Base Date Fair
Number of Price of Value of
Securities Option Stock and
Grant Underlying Awards Option
Name Date Options (#) ($/Sh) Awards
---- ---- ------------- ---------- ----------
Richard F. Poirier 7/21/2009 50,000 $10.39 $163,116
Outstanding Equity Awards at Fiscal 2009 Year End
The following table provides information with respect to each unexercised stock
option held by the Named Executive Officers as of August 2, 2009.
Option Awards
-------------------------------------------------------------------------
Number of Number of
securities securities
underlyling underlyling Option Option
unexercised options unexercised options Exercise Expiration
Name (#) exercisable (#) unexercisable Price ($) Date
---- --------------------- -------------------- --------- ------------
Richard F. Poirier 5,000 $ 19.83 12/23/2009
15,000 17.98 5/2/2010
50,000 10.39 7/21/2014
Anello C. Garefino 3,000 $ 19.83 12/23/2009
4,000 6,000 17.82 9/8/2012
Myron Levy 225,000 $ 10.45 5/18/2010
150,000 8.38 3/12/2011
250,000 13.10 12/3/2011
250,000 19.52 5/21/2012
200,000 17.98 5/2/2015
Jeffrey L. Markel 250,000 $ 15.77 10/29/2012
Option Exercises in Fiscal 2009
No stock options were exercised during fiscal 2009 by the Named Executive
Officer.
Employment Agreements
Myron Levy entered into an employment agreement with us, dated as of July 29,
2002 which, by its terms would have expired December 31, 2013, subject to
extension for additional one-year periods annually each January 1 with a final
expiration date of December 31, 2015 (as amended December 9, 2003). The
employment agreement provided for an annual salary as of August 3, 2008 at the
rate of $739,300 as adjusted under the employment agreement for a semi-annual
cost of living adjustment based on the consumer price index. The employment
agreement also provided for minimum annual incentive compensation of 3% of our
pretax income as adjusted. At the end of the employment period, the employment
agreement had provided for a ten-year consulting period at an annual
compensation rate equivalent to one-half of Mr. Levy's annual salary in effect
at the end of the employment period, subject to annual cost of living
adjustments.
The employment agreement with Mr. Levy provided for certain payments following
death or disability, and also had provided that, in the event there is a change
in control, as defined, he has the option to terminate the agreement and receive
a lump-sum payment equal to the sum of the salary payable for the remainder of
the employment term, plus the annual incentive (based on the average of the
three highest annual incentives awarded during the ten preceding years) for the
remainder of the employment term. As of August 2, 2009, the amount payable in
the event of such termination would have been approximately $8,357,000.
41
Effective July 22, 2009, we entered into an agreement (the "Levy Termination
Agreement") with Myron Levy terminating his employment agreement. The Levy
Termination Agreement provides that in full satisfaction of all prior, current
and future obligations to Mr. Levy under the employment agreement, Mr. Levy is
to receive an immediate lump sum payment of $4,705,000 and thereafter monthly
payments of $100,000 commencing on September 1, 2009 for thirty-five (35)
consecutive months through July 1, 2012. Payments are through a non-interest
bearing promissory note. Mr. Levy also shall continue as a consultant to the
Company for three years at an annual compensation of $50,000 and is to receive
certain other benefits as provided in the employment agreement, including his
annual bonus for fiscal 2009, if approved by the Board of Directors, as well as
medical reimbursement and insurance.
Mr. Jeffrey Markel entered into an employment agreement with us as of May 30,
2007 which, by its terms, was to expire on July 31, 2011, subject to extension
for additional one-year periods annually beginning July 31, 2008 with a final
expiration date of July 31, 2012. The employment agreement provided for an
initial annual salary of $365,800 (adjusted for a semi-annual cost of living
adjustment based on the consumer price index), and an initial award of 250,000
non-qualified stock options at the closing stock price on the date prior to
execution of the agreement of $15.77 per share. The options vest 20% upon award
and 20% annually over the next four years. The employment agreement also
provided for incentive compensation to be paid at the discretion of the Board of
Directors, however, incentive compensation for the fiscal year ended August 3,
2008 is to be paid at a minimum of $300,000. The employment agreement also
provided for a consulting period of ten years at the end of the employment
period at an annual compensation of $100,000. In the event of a change in our
control, as defined, the executive has the option to terminate the agreement at
any time after July 31, 2010 and receive a lump-sum payment equal to the sum of:
(1) his salary payable for the remainder of the employment term, (2) the annual
bonuses (based on the average of the annual bonuses awarded during the term of
the employment agreement) for the remainder of the employment term, and (3) a
lump sum payment of $500,000 representing full consideration under the
consulting period.
On August 12, 2009, the Company entered into an agreement (the "Markel
Termination Agreement") with Jeffrey L. Markel terminating his employment
agreement, effective as of August 1, 2009. The Markel Termination Agreement
provides that in full satisfaction of all prior, current and future obligations
to Mr. Market under the employment agreement, Mr. Markel is to receive an
immediate lump sum payment of $1,350,000, as well as immediate vesting of
100,000 unvested options with an exercise price of $15.77. Mr. Markel also shall
continue as a consultant to the Company for three years at an annual
compensation of $67,667 and is to receive certain other benefits as provided in
the employment agreement, including medical care reimbursement.
Kevin J. Purcell entered into an employment agreement with us, dated as of June
7, 2006, which expired June 6, 2009. The employment agreement provided for an
annual salary as of August 3, 2008 at the rate of $233,210, subject to review by
the Board of Directors, plus an annual bonus at the discretion of the Board of
Directors. After resigning his position as Chief Financial Officer on January
12, 2009, Mr. Purcell served as a consultant to the Company until June 6, 2009.
Estimate of Potential Payments upon Termination or Change in Control
The following table provides an estimate of the potential payments and benefits
that each of the currently employed NEOs would be entitled to receive upon
termination of employment under various circumstances and upon a change of
control. The table does not include payments the executive would be entitled to
receive in the absence of one of these specified events, such as from the
exercise of previously-vested stock options, which amount can be calculated from
the Outstanding Equity Awards at Fiscal 2009 Year End table. The table also does
not include benefits that are provided on a non-discriminatory basis to salaried
employees generally, including amounts payable under the Company's 401(k) plan.
Termination
Termination without cause or
without cause a constructive
prior to Change in termination after a
Name Benefit change in control control change in control
---- ------- ----------------- --------- -------------------
Richard F. Poirier Severance $ - $ 800,000 $ 800,000
Anello C. Garefino Severance $ - $ 466,420 $466,420
42
Equity Compensation Plan Information
The following table sets forth the indicated information as of August 2, 2009
with respect to our equity compensation plans:
(c)
Number of securities
(a) remaining available
Number of securities (b) for future issuance
to be issued upon Weighted-average under equity
exercise of exercise price of compensation plans
outstanding options, outstanding options, (excluding securities
Plan category warrants and rights warrants and rights reflected in column (a))
- ------------- --------------------- -------------------- ------------------------
Equity compensation
plans approved by
security holders 2,008,693 $ 13.72 8,250
Equity compensation
plans not approved
by security holders 1,182,107 $ 17.25 295,400
--------- -------
Total 3,190,800 $ 15.03 303,650
The following information is provided about our restricted stock awards and
stock option plans:
2006 New Employee Stock Option Plan. The 2006 New Employee Stock Option
Plan covers 600,000 shares (as amended July 22, 2009) of the Company's common
stock. The plan as amended provides for the issuance of restricted stock or
granting of non-qualified stock options. Under the terms of the plan, the
exercise price for options granted under the plan will be the fair market value
at the date of grant. The fair value of restricted shares issued is based on the
closing price on the day prior to the date of issue. Vesting of the shares
issued is determined at the time of issue by the Compensation Committee or the
Board of Directors. The nature and terms of the options to be granted are
determined at the time of grant by the Compensation Committee or the Board of
Directors. The options expire no later than ten years from the date of grant,
subject to certain restrictions. Options for 5,000 and 4,000 shares were granted
under the plan during fiscal years 2009 and 2008, respectively. Options for
28,000 shares were cancelled under the plan in fiscal 2009. Restricted stock
awards for 100,000 shares of common stock were issued in fiscal 2009. Options
for 236,000 shares of common stock are available for grant under the plan as of
August 2, 2009 and options 264,000 shares were outstanding at August 2, 2009.
2003 Stock Option Plan. The 2003 Stock Option Plan covers 1,000,000 shares
of the Company's common stock. Options granted under the plan are non-qualified
stock options. Under the terms of the plan, the exercise price for options
granted under the plan will be the fair market value at the date of grant. The
nature and terms of the options to be granted are determined at the time of
grant by the Compensation Committee or the Board of Directors. The options
expire no later than ten years from the date of grant, subject to certain
restrictions. Options for 50,000 shares were granted under the plan during
fiscal 2009. No options were granted under the plan in fiscal 2008. Options for
90,700 shares were cancelled under the plan in fiscal 2009 and options for
59,400 shares of common stock are available for grant and 911,100 were
outstanding at August 2, 2009.
2000 Stock Option Plan. The 2000 Stock Option Plan covers 1,500,000 shares
of the Company's common stock. Options granted under the plan are non-qualified
stock options. Under the terms of the plan, the exercise price for options
granted under the plan will be the fair market value at the date of grant. The
nature and terms of the options to be granted are determined at the time of
grant by the Compensation Committee or the Board of Directors. The options
expire no later than ten years from the date of grant, subject to certain
restrictions. Options for 34,000 shares were granted under the plan in fiscal
2009 and options for 10,000 shares were cancelled. Options for 8,250 shares of
common stock are available for grant under the plan and 1,218,000 were
outstanding at August 2, 2009.
1998 Stock Option Plan. The 1998 Stock Option Plan, which has now expired
with respect to the granting of new options, covers 2,250,000 shares of the
Company's common stock. The plan has expired with respect to the granting of new
options. Options which have been granted under the plan are non-qualified stock
options. Under the terms of the plan, the exercise price for options granted
under the plan will be the fair market value at the date of grant. Prices for
incentive stock options granted to employees who own 10% or more of the
Company's stock are at least 110% of market value at date of grant. The nature
and terms of the options to be granted are determined at the time of grant by
the Compensation Committee or the Board of Directors. The options expire no
later than ten years from the date of grant, subject to certain restrictions.
Stock options for 226,000 shares were exercised in fiscal 2009. There are no
options available for grant under the plan. At August 2, 2009 options to
purchase 776,342 shares of common stock were outstanding under this plan.
1997 Stock Option Plan. The 1997 Stock Option Plan, which has now expired
with respect to the granting of new options, covers 2,500,000 shares of the
Company's common stock. The plan has expired with respect to the granting of new
options. Options which have been granted under the plan are non-qualified stock
43
options. Under the terms of the plan, the exercise price for options granted
under the plan will be the fair market value at the date of grant. Prices for
incentive stock options granted to employees who own 10% or more of the
Company's stock are at least 110% of market value at date of grant. The nature
and terms of the options to be granted are determined at the time of grant by
the Compensation Committee or the Board of Directors. The options expire no
later than ten years from the date of grant, subject to certain restrictions.
Stock options for 37,525 shares were exercised and options for 15,200 shares
were cancelled in fiscal 2009. There are no options available for grant under
the plan. At August 2, 2009 options to purchase 14,351 shares of common stock
were outstanding under this plan.
1996 Stock Option Plan. The 1996 Stock Option Plan, which has now expired
with respect to the granting of new options, covers 1,000,000 shares of the
Company's common stock. The plan has expired with respect to the granting of new
options. Options which have been granted under the plan are non-qualified stock
options. Under the terms of the plan, the exercise prices of the options granted
under the plan were at the fair market value at the date of grant. The options
expire not later than ten years from the date of grant. At August 2, 2009,
non-qualified options to purchase 7,007 shares of common stock were outstanding
under this plan.
Employee Savings Plan
We maintain an Employee Savings Plan ("Plan") which qualified as a thrift plan
under Section 401(k) of the Internal Revenue Code ("Code"). Effective August 1,
2006, the Plan was amended to allow employees to elect salary deferrals up to
the maximum dollar amounts permissible under Code Section 402(g) not to exceed
the limits of Code Section 401(k), 404 and 415. For the Plan year beginning
August 1, 2005, the Plan was amended to be considered a "Safe Harbor" plan,
where a contribution will be made to eligible participants in an amount equal to
100% of the amount of each participant's elective deferral that does not exceed
3% of compensation, plus 50% of the amount of the elective deferral that exceeds
3% of compensation up to a maximum contribution of 5% of compensation. Under the
Safe Harbor provision, all contributions are 100% vested when made. Additional
Company contributions can be made depending on profits. The aggregate benefit
payable to an employee is dependent upon his rate of contribution, the earnings
of the fund, and the length of time such employee continues as a participant. We
recognized expenses of approximately $1,260,000, $1,765,000 and $1,766,000 under
the plans for fiscal 2009, 2008 and 2007, respectively. The Company also
contributed to a similar plan through EWST whereby the Company matches employee
elective contributions up to a maximum of 5% of compensation. Expenses
recognized for fiscal 2009, 2008 and 2007 were approximately $94,000, $86,000
and $75,000, respectively. For the year ended August 2, 2009, $9,200 was
contributed by us to this plan for each of Messrs. Poirier, Garefino, Levy,
Markel, and Purcell. A total of $60,460 was contributed for all officers and
directors as a group.
Our Israeli subsidiaries provide for employee severance liabilities pursuant to
the Israeli severance pay law and labor agreements. Our liability is fully
provided for by monthly payments deposited with insurers and by a reserve
established by us to cover the portion of this liability not covered by our
deposits. In addition to recognizing an expense for the funding to the insurance
programs for this severance obligation, we also record as expense the net
increase in the unfunded severance liability. The liability for this unfunded
severance obligation was $2,231,000 and $1,651,000 at August 2, 2009 and August
3, 2008, respectively. The total expense recognized for employee severance
programs in Israel (both the funded and unfunded portion of the program) was
approximately $1,055,000, $458,000 and $228,000 for fiscal 2009, 2008 and 2007,
respectively.
Directors' Compensation
Directors who are also employees of the Company are not separately compensated
for their services as directors.
Cash Compensation to Board Members. Directors who are not our employees receive
an annual fee of $15,000 and a fee of $1,500 for each board of directors meeting
attended. The Corporate Governance Committee Chairman receives an annual fee of
$15,000, and other members of the Corporate Governance Committee receive $5,000
annually. The Audit Committee Chairman receives an annual fee of $25,000, and
other members of the Audit Committee receive $10,000 annually. The Compensation
Committee Chairman receives an annual fee of $7,500, and other members of the
Compensation Committee receive $5,000 annually. The Nominating Committee
Chairman receives an annual fee of $7,500, and other members of the Nominating
Committee receive $5,000 annually.
Equity Compensation to Board Members. The Company grants options to purchase
shares of the Company's Common Stock to its outside directors on a periodic
basis. No options were granted to its outside directors during fiscal 2009.
Other. Board members are reimbursed for reasonable expenses in attending
meetings of the Board of Directors and for expenses incurred in connection with
their complying with our corporate governance policies. The Company also
provides directors' and officers' liability insurance and indemnity agreements
for our directors. No other compensation is provided to our directors.
44
Non-management Directors' Compensation for Fiscal 2009
The following table provides information with respect to all compensation
awarded to, earned by or paid to each person who served as a director for all of
fiscal 2009. Other than as set forth in the table and the narrative that follows
it, to date we have not paid any fees to or reimbursed any expenses of our
directors, except for expenses incurred in connection with attendance at Board
meetings which in the aggregate are less than $10,000 each, made any equity or
non-equity awards to directors, or paid any other compensation to directors.
Fees Earned
or Paid in Option
Name Cash ($) Awards ($) Total ($)
---- ----------- ---------- ---------
Rear Admiral Edward K. Walker, Jr. $148,500 (1) - $148,500
(Ret.)
Dr. Edward A. Bogucz $ 61,000 - $ 61,000
Rear Admiral Robert M. Moore (Ret.) $ 73,500 - $ 73,500
(Deceased)
John A. Thonet $ 63,500 - $ 63,500
Carlos C. Campbell $ 51,000 - $ 51,000
- ----------
<FN>
(1) Includes $75,000 paid to Mr. Walker under a consulting arrangement for
services relating to corporate governance and ethics.
</FN>
Compensation Committee Interlocks and Insider Participation
In fiscal 2009, our Compensation Committee consisted of Dr. Edward A. Bogucz,
Chairman, and Messrs. Edward K. Walker, Jr., and Robert M. Moore (deceased).
None of these persons were our officers or employees during fiscal 2009 nor had
any relationship requiring disclosures in this Annual Report. Mr. Walker has a
consulting arrangement with us for services relating to corporate governance and
ethics at an annual fee of $75,000.
Indemnification Agreements
We have entered into separate indemnification agreements with our officers and
directors. We have agreed to provide indemnification with regard to certain
legal proceedings so long as the indemnified officer or director has acted in
good faith and in a manner he or she reasonably believed to be in, or not
opposed to, our best interests and with respect to any criminal proceeding, had
no reasonable cause to believe his or her conduct was unlawful. We only provide
indemnification for expenses, judgments, fines and amounts paid in settlement
actually incurred by the relevant officer or director, or on his or her behalf,
arising out of proceedings brought against such officer or director by reason of
his or her corporate status.
45
Item 12. Security Ownership of Certain Beneficial Owners and Management and
Related Shareholder Matters
Security Ownership of Certain Beneficial Owners
The following table sets forth certain information with respect to persons known
to us, based solely on filings with the Securities and Exchange Commission, to
own beneficially 5% or more of the outstanding shares of our common stock as of
October 7, 2009.
Number of Shares
Of Common Stock % of Outstanding
Name and Address of Beneficial Owner Beneficially Owned (2) Shares
- ------------------------------------ ---------------------- ------------------
GAMCO Investors 3,393,514 24.8%
One Corporate Center
Rye, NY 10580
Third Avenue Management, Inc. 1,321,371 9.6%
622 Third Avenue
New York, NY 10017
Dimensional Fund Advisors, Inc. 1,172,470 8.6%
1299 Ocean Avenue
Santa Monica, CA 90401
Barclays Global Investors NA 813,972 5.9%
400 Howard Street
San Francisco, CA 94105
Lee N. Blatt (1) 1,318,399 8.9%
471 N. Arrowhead Trail
Vero Beach, FL 32963
- ---------
<FN>
(1) Includes beneficial ownership of 1,075,000 shares that may be acquired
within 60 days of October 7, 2009 pursuant to various stock options. Mr.
Blatt entered into a voting trust agreement wherein sole voting power to
1,301,000 shares under stock options held by him and 21,099 shares held in
his IRA was granted to Myron Levy.
(2) Except as otherwise indicated, all of such shares are owned with sole
voting power.
</FN>
Security Ownership of Management
The following table sets forth certain information, as of October 7, 2009, with
respect to the beneficial ownership of our common stock by (a) each of our
directors, (b) each of our Named Executive Officers and (c) all of our directors
and executive officers as a group.
The percentage of beneficial ownership for the table is based on 13,701,326
shares of our common stock outstanding as of October 7, 2009. To our knowledge,
except under community property laws or as otherwise noted, the persons and
entities named in the table have sole voting and sole investment power over
their shares of our common stock. Unless otherwise indicated, each beneficial
owner listed below maintains a mailing address of c/o Herley Industries, Inc.,
3061 Industry Drive, Lancaster, PA 17603.
The number of shares beneficially owned by each shareholder is determined under
SEC rules and is not necessarily indicative of beneficial ownership for any
other purpose. Under these rules, beneficial ownership includes those shares of
common stock over which the shareholder has sole or shared voting or investment
power and those shares of common stock that the shareholder has the right to
acquire within 60 days after October 7, 2009 through the exercise of any stock
option. The "Percentage of Shares" column treats as outstanding all shares
underlying such options held by the shareholder, but not shares underlying
options held by other shareholders.
46
Common Stock % of Outstanding
Directors and Named Executive Officers Beneficially Owned (1) (2) Shares
- -------------------------------------- -------------------------- -----------------------
David H. Lieberman 152,500 1.1%
Richard F. Poirier 20,325 *
Yonah Adelman 29,000 *
Anello C. Garefino 7,000 *
Myron Levy (3) 1,527,515 10.3%
Jeffrey L. Markel (4) 250,000 1.8%
Carlos C. Campbell 35,000 *
John A. Thonet (6) 107,649 *
Adm. Edward K. Walker, Jr. (Ret.) 74,110 *
Dr. Edward A. Bogucz 37,575 *
Directors and current executive
officers as a group
(8 persons) 463,159 3.3%
-------
- -------
<FN>
* Indicates ownership of less than one percent.
(1) No officer or director owns more than one percent of the outstanding shares
of common stock unless otherwise indicated. Ownership represents sole
voting and investment power.
(2) Includes beneficial ownership of the following number of shares that may be
acquired within 60 days of October 7, 2009 pursuant to stock options
awarded under our stock option plans:
David H. Lieberman 52,500 Carlos C. Campbell 35,000
Richard F. Poirier 20,000 John A. Thonet 72,500
Yonah Adelman 29,000 Adm. Edward K. Walker, Jr. 49,500
Anello C. Garefino 7,000 Dr. Edward A. Bogucz 37,500
Myron Levy 1,075,000 Jeffrey L. Markel 250,000
Directors and executive
officers as a group 1,628,000
(3) Mr. Levy served as Chief Executive Officer from August 2001 to July 22,
2009.
(4) Mr. Markel served as Chief Operating Officer from June 2007 to August 1,
2009.
(5) Mr. Purcell served as Vice President and Chief Financial Officer from June
2006 to January 12, 2009.
(6) Does not include 155,998 shares owned by Mr. Thonet's children, Hannah and
Rebecca Thonet, and 30,669 shares owned by his wife, Kathi Thonet. Mr.
Thonet disclaims beneficial ownership of these shares.
</FN>
Item 13. Certain Relationships and Related Transactions, and Director
Independence.
Effective October 12, 2006, and as a condition to entering into an
Administrative Agreement with the Department of the Navy, we entered into an
agreement with Lee N. Blatt which provides that all outstanding stock options
previously issued to him which are all vested and fully exercisable shall
continue to be exercisable by him or, following his death, by his designated
beneficiaries, on or before the expiration date of the specific option. In the
event of a "change of control" of the Company as defined in the Employment
Agreement all remaining payments due under the agreement become immediately due
and payable.
On June 25, 2009, a Special Committee of the Board of Directors authorized an
accelerated payment to Lee N. Blatt under the terms of his agreement with the
Company dated September 27, 2006 (the "Agreement"). The event which caused
acceleration was a change in control of the Company as defined in the Agreement
as the ownership change or acquisition of an aggregate of 20% or more of the
outstanding voting securities of the Company. The triggering event caused the
acceleration of $3,361,528 otherwise payable over the next 34 months so that the
full amount became immediately payable. Of this amount, $3,054,757 has
previously been expensed by the Company so that the amount expensed in fiscal
2009 was $306,771 representing the imputed interest.
Prior to the acquisition of Micro Systems, Inc. ("MSI"), MSI had leased one of
its two buildings in Fort Walton Beach, Florida from MSI Investments, a Florida
General Partnership. MSI Investments is owned by four individuals, two of whom
are currently employees of MSI and one serves as a consultant.
On August 24, 2005, we amended our lease agreements with a partnership partially
owned by the children of the Company's former Chairman to incorporate two
individual leases into a single lease and extended the term of the initial
leases to August 31, 2010. During the fourth quarter of fiscal 2008, we decided
to close our manufacturing facility in Farmingdale, New York and transfer its
contracts and assets to our other facilities in Whippany, New Jersey; Woburn,
Massachusetts; Lancaster, Pennsylvania; and Jerusalem, Israel. On January 25,
2009, we entered into a modification of the lease to reduce the amount of space
we are leasing and reduce the annual rental payments remaining under the lease
to approximately $429,000 annually.
47
Item 14. Principal Accountant Fees and Services.
Marcum LLP is our independent registered public accounting firm and performed
the audit of our consolidated financial statements for fiscal years 2009 and
2008. The following table sets forth estimated fees for the audits of the fiscal
years ended August 2, 2009 and August 3, 2008 performed by Marcum LLP:
2009 2008
---- ----
Audit Fees (1) $ 480,643 $ 638,500
Audit related fees (2) $ 16,965 $ 28,179
- ---------------
<FN>
(1) Audit Fees includes fees for professional services provided in connection
with the audits of our financial statements, the review of our quarterly
financial statements, Sarbanes-Oxley 404 related services, consents, and
audit services provided in connection with other statutory or regulatory
filings. All such services were pre-approved by the Audit Committee.
(2) Audit related fees includes the audit of our 401k plan.
</FN>
The Audit Committee has sole authority to appoint, determine funding for, retain
and oversee our independent auditors and to pre-approve all audit services and
permissible non-audit services.
Marcum LLP did not render any other non-audit related services during fiscal
years 2009 and 2008.
PART IV
Item 15. Exhibits and Financial Statement Schedules
(a) Exhibits
3.1 Certificate of Incorporation, as amended (Exhibit 3(a) of Form S-1
Registration Statement No. 2-87160).
3.2 By-Laws, as amended August 7, 2001 (Exhibit 3.2 of Annual Report on Form
10-K for the fiscal year ended July 29, 2001).
10.1 1996 Stock Option Plan (Exhibit 10.1 of Annual Report on Form 10-K for the
fiscal year ended July 28, 1996).
10.2 1997 Stock Option Plan (Exhibit 10.1 of Report on Form 10-Q dated June 10,
1997).
10.3 1998 Stock Option Plan (Exhibit 10.3 of Annual Report on Form 10-K for the
fiscal year ended August 1, 1999).
10.4 2000 Stock Option Plan (Exhibit 4.1 of Report on Form S-8 dated October 12,
2001).
10.5 2003 Stock Option Plan (Exhibit 10.1 of Report on Form 10-Q dated June 11,
2003).
10.6 Lease Agreement dated September 1, 1999 between Registrant and RSK Realty
LTD. (Exhibit 10.8 of Annual Report on Form 10-K for the fiscal year ended
August 1, 1999).
10.7 Lease Agreement dated March 1, 2000 between Registrant and RSK Realty LTD
(Exhibit 10.13 of Annual Report on Form 10-K for the fiscal year ended July
30, 2000).
10.8 Trust Indenture dated as of October 19, 2001 between Registrant, and East
Hempfield Township Industrial Development Authority and Allfirst Bank, as
Trustee (Exhibit 10.18 of Annual Report on Form 10-K for the fiscal year
ended July 28, 2002).
10.9 Administrative Agreement between the Department of the Navy, on behalf of
the Department of Defense, and Herley Industries, Inc. (Exhibit 10.1 of
Form 8-K dated October 12, 2006).
10.10 Agreement between Herley Industries, Inc. and Lee N. Blatt effective
October 12, 2006 (Exhibit 10.2 of Form 8-K dated October 12, 2006).
10.11 Employment Agreement dated as of May 30, 2007 between Herley Industries,
Inc. and Jeffrey L. Markel (Exhibit 10.1 of Form 8-K dated May 30, 2007).
10.12 Revolving Credit Loan Agreement dated April 30, 2007 among the Registrant,
Manufacturers and Traders Trust Company and Bank of Lancaster County, N.A.
(Exhibit 10.1 of Form 8-K dated June 7, 2007).
48
10.13 Amendment No. 1 to Agreement between Herley Industries, Inc. and the
Department of the Navy. (Exhibit 10 of Form 8-K dated August 15, 2007).
10.14 Asset Purchase Agreement dated as of August 1, 2008 by and between General
Microwave Israel Acquisition (2008) Ltd. and Eyal Microwave Ltd. and Eyal
Mag Ltd. (Exhibit 10.1 of Form 8-K dated September 22, 2008).
10.15 Addendum to the Asset Purchase Agreement dated as of September 16, 2008 by
and between Herley GMI Eyal Ltd. (formerly called General Microwave Israel
Acquisition (2008) Ltd.), Eyal Microwave Ltd. and Eyal Mag Ltd. (Exhibit
10.2 of Form 8-K dated September 22, 2008).
10.16 Third Amendment to Revolving Credit Loan Agreement dated April 30, 2007
among the Registrant, Manufacturers and Traders Trust Company and PNC Bank
National Association, successor to Bank of Lancaster County, N.A. (Exhibit
10.1 to Report on Form 10-Q for quarter ended April 29, 2007)
10.17 Fourth Amendment to Revolving Credit Loan Agreement dated July 30, 2009
among the Registrant, Manufacturers and Traders Trust Company and PNC Bank
National Association, successor to Bank of Lancaster County, N.A.
10.18 Fifth Amendment to Revolving Credit Loan Agreement dated October 13, 2009
among the Registrant, Manufacturers and Traders Trust Company and PNC Bank
National Association, successor to Bank of Lancaster County, N.A.
10.19 Agreement dated July 22, 2009 terminating the Employment Agreement dated
as of July 22, 2002 as modified on December 9, 2003 between Herley
Industries, Inc. and Myron Levy (Exhibit 10 of Form 8-K dated July 22,
2009).
10.20 Agreement dated August 1, 2009 terminating the Employment Agreement dated
as of May 30, 2007 between Herley Industries, Inc. and Jeffrey L. Markel
(Exhibit 10 of Form 8-K dated August 12, 2009).
10.21 Amendment and Restatement of 2006 New Employee Stock Option Plan of Herley
Industries, Inc.
23.1 Consent of Marcum LLP.
23.2 Consent of Deloitte.
31.1 Certifications pursuant to Rules 13a-14(a) as adopted pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
32.1 Certifications pursuant to 18 U.S.C. Section 1350 as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
(b) Financial Statements
(1) See Index to Consolidated Financial Statements at Page F-1.
(2) Schedule II - Valuation and Qualifying Accounts filed as part of this
Form 10-K at page 38.
49
SIGNATURES:
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Company has duly caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized on November 30, 2009.
HERLEY INDUSTRIES, INC.
By: /S/ Richard F. Poirier
-----------------------------------------
Richard F. Poirier
Chief Executive Officer and President
(Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below on November 30, 2009 by the following persons in the
capacities indicated:
By: /S/ David H. Lieberman Chairman of the Board
------------------------------------------------
David H. Lieberman
/S/ Richard F. Poirier Chief Executive Officer
By: ----------------------------------------------- and President
Richard F. Poirier (Principal Executive Officer)
By: /S/ Anello C. Garefino Vice President and
------------------------------------------------ Chief Financial Officer
Anello C. Garefino (Principal Financial Officer)
By: /S/ John A. Thonet Secretary and Director
-----------------------------------------------
John A. Thonet
By: /S/ Carlos C. Campbell Director
-----------------------------------------------
Carlos C. Campbell
By: /S/ Edward K. Walker, Jr. Director
-----------------------------------------------
Edward K. Walker, Jr.
By: /S/ Edward A. Bogucz Director
-----------------------------------------------
Edward A. Bogucz
50
Schedule II - Valuation and Qualifying Accounts (in thousands)
Column A Column B Column C Column D Column E
Additions Amount
------------------- written
Balance at Charged to off Balance at
beginning costs and against end of
Description of period expenses Other reserve period
----------- ---------- ----------- ----- -------- ----------
Valuation accounts deducted
from assets to which they
apply:
August 2, 2009:
Inventories $ 6,476 $ 2,495 $ - $ 1,657 $ 7,314
August 3, 2008:
Inventories $ 5,163 $ 1,678 $ - $ 365 $ 6,476
July 29, 2007:
Inventories $ 4,576 $ 1,277 $ - $ 690 $ 5,163
All other Schedules have been omitted since they are either not required, not
applicable, or the information is otherwise included in this Annual Report on
Form 10-K.
51
Item 8. Financial Statements and Supplementary Data
HERLEY INDUSTRIES, INC. AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Page
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM F-2
INDEPENDENT AUDITORS' REPORT F-3
FINANCIAL STATEMENTS:
Consolidated Balance Sheets as of August 2, 2009 and August 3, 2008 F-4
Consolidated Statements of Operations for the fifty-two weeks ended August
2, 2009, fifty-three weeks ended August 3, 2008 and the fifty-two weeks
ended July 29, 2007 F-5
Consolidated Statements of Shareholders' Equity for the fifty-two weeks
ended August 2, 2009, fifty-three weeks ended August 3, 2008 and the
fifty-two weeks ended July 29, 2007 F-6
Consolidated Statements of Cash Flows for the fifty-two weeks ended August
2, 2009, fifty-three weeks ended August 3, 2008 and the fifty-two weeks
ended July 29, 2007 F-7
Notes to Consolidated Financial Statements F-8
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
-------------------------------------------------------
To the Audit Committee of the
Board of Directors and Shareholders of Herley Industries, Inc.
We have audited the accompanying consolidated balance sheets of Herley
Industries, Inc. and Subsidiaries, (the "Company") as of August 2, 2009 and
August 3, 2008, and the related consolidated statements of operations,
shareholders' equity, and cash flows for the fifty-two weeks ended August 2,
2009, the fifty-three weeks ended August 3, 2008 and the fifty-two weeks ended
July 29, 2007. Our audits also included the financial statement schedule as of
and for the years listed in the index at Item 15. These consolidated financial
statements and financial statement schedule are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated financial statements and financial statement schedule based on our
audits. We did not audit the 2009 financial statements of General Microwave
Israel and its wholly-owned subsidiary, which consolidated statements reflect
total assets of $61,288,799 as of August 2, 2009, and total revenues of
$36,467,311 for the fifty-two weeks then ended. General Microwave Israel
acquired Eyal Industries on September 16, 2008 (see Note B to the consolidated
financial statements). Those statements were audited by other auditors whose
report has been furnished to us, and our opinion, insofar as it relates to the
amounts included for General Microwave Israel and Subsidiary, is based solely on
the report of the other auditors.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit also includes examining,
on a test basis, evidence supporting the amounts and disclosures in the
financial statements, assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, based on our audits and the report of the other auditors for the
fifty-two weeks ended August 2, 2009, the consolidated financial statements
referred to above present fairly, in all material respects, the financial
position of Herley Industries, Inc. and Subsidiaries as of August 2, 2009 and
August 3, 2008, and the results of their operations and their cash flows for the
fifty-two weeks ended August 2, 2009, fifty-three weeks ended August 3, 2008 and
the fifty-two weeks ended July 29, 2007 in conformity with accounting principles
generally accepted in the United States of America. Also, in our opinion based
on our audits and the report of the other auditors for the fifty-two weeks ended
August 2, 2009, the related financial statement schedule when considered in
relation to the basic consolidated financial statements taken as a whole
presents fairly, in all material respects, the information set forth therein.
We have also audited, in accordance with the standards of the Public Company
Accounting Oversight Board (United States), Herley Industries, Inc. and
Subsidiaries' internal control over financial reporting as of August 2, 2009,
based on the criteria established in Internal Control-Integrated Framework
issued by the Committee of Sponsoring Organizations of the Treadway Commission,
and our report dated October 16, 2009, expressed an unqualified opinion on the
effectiveness of the Company's internal control over financial reporting.
/s/ Marcum LLP
Marcum LLP
Melville, New York
October 16, 2009
F-2
INDEPENDENT AUDITORS' REPORT
To the Audit Committee of the Board of Directors and Shareholders of Herley
Industries, Inc.
We have audited the accompanying consolidated balance sheets of General
Microwave Israel and Subsidiary as of August 2, 2009 and the related
consolidated statements of income, and cash flows for the fifty-two weeks ended
August 2, 2009. These consolidated financial statements are the responsibility
of the Company's management. Our responsibility is to express an opinion on
these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. The Company is not required to
have, nor were we engaged to perform, an audit of its internal control over
financial reporting. Our audit included consideration of internal control over
financial reporting as a basis for designing audit procedures that are
appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the Company's internal control over financial
reporting. Accordingly, we express no such opinion. An audit also includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements, assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of General Microwave
Israel and Subsidiary as of August 2, 2009 and the results of their operations
and their cash flows for the fifty-two weeks ended August 2, 2009 in conformity
with accounting principles generally accepted in the United States of America.
Brightman Almagor Zohar & Co.
Certified Public Accountants
A Member of Deloitte Touche Tohmatsu
Jerusalem, Israel
October 2, 2009
F-3
HERLEY INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
August 2, August 3,
2009 2008
------------- -------------
ASSETS
Current Assets:
Cash and cash equivalents $ 14,820 $ 14,347
Trade accounts receivable, net 28,687 27,003
Costs incurred and income recognized in excess
of billings on uncompleted contracts and claims 10,396 19,490
Inventories, net 57,804 61,559
Deferred income taxes 19,380 11,263
Other current assets 2,816 4,618
------------- -------------
Total Current Assets 133,903 138,280
Property, plant and equipment, net 32,872 30,552
Goodwill 43,722 73,900
Intangibles, net 9,619 16,145
Deferred income taxes 7,571 -
Other assets 598 541
------------- -------------
Total Assets $ 228,285 $ 259,418
============= =============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Current portion of long-term debt $ 1,595 $ 1,394
Current portion of employment settlement agreements -
(net of imputed interest of $98 in 2009 and $238
in 2008) 7,400 1,119
Current portion of litigation settlements
(net of imputed interest of $46 in fiscal 2009
and 2008) 954 954
Accounts payable and accrued expenses 25,509 27,589
Billings in excess of costs incurred and
income recognized on uncompleted contracts 261 613
Accrual for contract losses 3,440 2,994
Accrual for warranty costs 938 1,142
Advance payments on contracts 12,698 8,120
------------- -------------
Total Current Liabilities 52,795 43,925
Long-term debt, net of current portion 12,246 7,092
Long-term portion of employment settlement agreements
(net of imputed interest of $79 in 2009 and $287 in 2008) 2,827 3,074
Long-term portion of litigation settlement -
(net of imputed interest of $108) - 892
Other long-term liabilities 8,361 2,161
Deferred income taxes - 8,839
------------- -------------
Total Liabilities 76,229 65,983
------------- -------------
Commitments and Contingencies
Shareholders' Equity:
Common stock, $.10 par value; authorized 20,000,000
shares; issued and outstanding 13,719,926 in 2009
and 13,521,902 in 2008 1,372 1,352
Additional paid-in capital 103,113 101,403
Retained earnings 47,882 89,058
Accumulated other comprehensive (loss) income (311) 1,622
------------- -------------
Total Shareholders' Equity 152,056 193,435
------------- -------------
Total Liabilities and Shareholders'
Equity $ 228,285 $ 259,418
============= =============
The accompanying notes are an integral part of these consolidated financial
statements.
F-4
HERLEY INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
Fifty-two Fifty-three Fifty-two
weeks ended weeks ended weeks ended
August 2, August 3, July 29,
2009 2008 2007
------------ ------------- ------------
Net sales $ 160,089 $ 136,088 $ 137,850
------------ ------------- ------------
Cost and expenses:
Cost of products sold 132,648 107,848 99,205
Selling and administrative expenses 28,981 28,349 27,305
Impairment of goodwill and other intangible assets 44,151 - -
Litigation costs 1,786 5,550 1,674
Litigation settlement - 15,542 -
Employment contract settlement costs 10,553 - 8,914
------------ ------------- ------------
218,119 157,289 137,098
Operating (loss) income (58,030) (21,201) 752
------------ ------------- ------------
Other (expense) income:
Interest income 106 1,050 1,145
Interest expense (1,392) (661) (790)
Foreign exchange transactions losses (276) (126) 501
------------ ------------- ------------
(1,562) 263 856
------------ ------------- ------------
(Loss) income from continuing operations before
income taxes (59,592) (20,938) 1,608
Benefit for income taxes (18,872) (10,254) (791)
------------ ------------- ------------
(Loss) income from continuing operations (40,720) (10,684) 2,399
------------ ------------- ------------
Discontinued operations:
(Loss) income from operations of discontinued
subsidiary (734) 589 491
(Benefit) provision for income taxes (278) 251 (228)
------------ ------------- ------------
(Loss) income from discontinued operations (456) 338 719
------------ ------------- ------------
Net (loss) income $ (41,176) $ (10,346)$ 3,118
============ ============= ============
(Loss) earnings per common share - Basic
(Loss) income from continuing operations $ (3.00) $ (.78) $ .17
(Loss) Income from discontinued operations (.03) .02 .05
------------ ------------- ------------
Net (loss) income $ (3.03) $ (.76) $ .22
============ ============= ============
Basic weighted average shares 13,560 13,652 13,927
============ ============= ============
(Loss) earnings per common share - Diluted
(Loss) income from continuing operations $ (3.00) $ (.78) $ .17
(Loss) income from discontinued operations (.03) .02 .05
------------ ------------- ------------
Net (loss) income $ (3.03) $ (.76) $ .22
============ ============= ============
Diluted weighted average shares 13,560 13,652 14,395
============ ============= ============
The accompanying notes are an integral part of these consolidated financial
statements.
F-5
HERLEY INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Fifty-two weeks ended August 2, 2009, Fifty-three weeks ended August 3, 2008 and Fifty-two weeks ended July 29, 2007
(In thousands, except share data)
Accumulated
Additional Other
Common Stock Paid-in Retained Treasury Comprehensive
Shares Amount Capital Earnings Stock Income (loss) Total
------------ -------- ---------- --------- --------- ------------- ----------
Balance at July 30, 2006 14,660,716 $ 1,466 $ 113,418 $ 96,286 $ (9,044)$ 1,344 $ 203,470
Exercise of stock options 116,630 12 1,207 1,219
Purchase of 1,664 shares of treasury stock (26) (26)
Share-based compensation 1,007 1,007
Stock option modification 196 196
Tax benefit upon exercise of stock options 256 256
Retirement of treasury shares (800,231) (80) (8,990) 9,070 -
------------ -------- ---------- --------- --------- ------------- -----------
Subtotal 13,977,115 1,398 107,094 96,286 - 1,344 206,122
Net income 3,118 3,118
Other comprehensive (loss) income
Unrealized loss on interest rate swap (7) (7)
Foreign currency translation gain 408 408
----------
Comprehensive income 3,519
------------ -------- ---------- --------- --------- ------------- -----------
Balance at July 29, 2007 13,977,115 1,398 107,094 99,404 - 1,745 209,641
Exercise of stock options 38,725 3 318 321
Purchase of 493,938 shares of treasury stock (7,139) (7,139)
Share-based compensation 990 990
Tax benefit upon exercise of stock options 91 91
Retirement of treasury shares (493,938) (49) (7,090) 7,139 -
------------ -------- ---------- --------- --------- ------------- -----------
Subtotal 13,521,902 1,352 101,403 99,404 - 1,745 203,904
Net loss (10,346) (10,346)
Other comprehensive loss
Unrealized loss on interest rate swap (25) (25)
Foreign currency translation loss (98) (98)
-----------
Comprehensive loss (10,469)
------------ -------- ---------- --------- --------- ------------- -----------
Balance at August 3, 2008 13,521,902 1,352 101,403 89,058 - 1,622 193,435
Exercise of stock options 263,525 27 2,342 2,369
Issuance of restricted stock 100,000 10 (10) -
Exchange of 165,501 shares for option
exercises (1,831) (1,831)
Share-based compensation 462 462
Stock option modification 518 518
Tax benefit upon exercise of stock options 212 212
Retirement of treasury shares (165,501) (17) (1,814) 1,831 -
------------ -------- ---------- --------- --------- ------------- -----------
Subtotal 13,719,926 1,372 103,113 89,058 - 1,622 195,165
Net loss (41,176) (41,176)
Other comprehensive loss
Unrealized loss on interest rate swap (23) (23)
Foreign currency translation loss (1,910) (1,910)
----------
Comprehensive loss (43,109)
------------ -------- ---------- --------- --------- ------------- -----------
Balance at August 2, 2009 13,719,926 $ 1,372 $ 103,113 $ 47,882 $ - $ (311)$ 152,056
------------ -------- ---------- --------- --------- ------------- -----------
The accompanying notes are an integral part of these consolidated financial
statements.
F-6
HERLEY INDUSTRIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Fifty-two Fifty-three Fifty-two
weeks ended weeks ended weeks ended
August 2, August 3, July 29,
2009 2008 2007
--------- ---------- ----------
Cash flows from operating activities:
Net (loss) income $ (41,176)$ (10,346)$ 3,118
--------- ---------- ----------
Adjustments to reconcile net (loss) income to
net cash provided by (used in) operating activities:
Depreciation and amortization 8,468 7,266 7,177
Gain on sale of fixed assets (574) - -
Impairment of goodwill of discontinued subsidiary 1,000 - -
Impairment of goodwill of continuing operations 42,050 - -
Impairment of intangible assets 2,101 - -
Abandonment of long-lived assets 345 - -
Stock-based compensation costs 718 990 1,007
Excess tax benefit from exercises of stock options (212) (91) (256)
Litigation and claim settlements 8,982 15,442 -
Employment contract settlement costs 10,553 - 8,914
Imputed interest on employment and litigation
settlement liabilities 327 446 283
Foreign exchange transaction (gains) losses (1) 122 (501)
Inventory valuation reserve charges 2,495 1,515 1,283
Reduction in accrual for contract losses - (826) (1,144)
Warranty reserve charges 1,635 1,260 1,304
Deferred tax provision (24,514) (4,275) (1,310)
Changes in operating assets and liabilities:
Cash of discontinued subsidiary (712) - -
Trade accounts receivable (3,426) 961 2,542
Costs incurred and income recognized in excess
of billings on uncompleted contracts and
claim 5,559 (5,042) (522)
Inventories, net (6,739) (11,342) (189)
Other current assets 2,651 86 (2,748)
Accounts payable and accrued expenses (2,920) 3,485 (2,867)
Billings in excess of costs incurred and
income recognized on uncompleted contracts 304 514 (456)
Accrual for contract losses 755 2,660 (251)
Litigation settlement payments (1,000) (13,500) -
Employment settlement payments (4,476) (1,336) (3,771)
Advance payments on contracts 6,618 957 3,840
Other, net 229 438 222
--------- ---------- ----------
Total adjustments 56,056 (270) 12,557
--------- ---------- ----------
Net cash provided by (used in) operating
activities 14,880 (10,616) 15,675
--------- ---------- ----------
Cash flows from investing activities:
Acquisition of business, net of cash acquired (30,010) - -
Proceeds from sale of discontinued subsidiary 15,000 - -
Capital expenditures (5,432) (4,637) (4,972)
Other 27 3 25
--------- ---------- ----------
Net cash used in investing activities (20,415) (4,634) (4,947)
--------- ---------- ----------
Cash flows from financing activities:
Borrowings under bank line of credit 35,600 20,400 17,900
Borrowings - term loan 10,000 - 1,746
Proceeds from exercise of stock options 538 321 1,219
Excess tax benefit from exercises of stock options 212 91 256
Payments of long-term debt (2,182) (1,357) (1,038)
Payments under bank line of credit (38,100) (17,900) (17,900)
Purchase of treasury stock - (7,139) (26)
--------- ---------- ----------
Net cash provided by (used in) financing activities 6,068 (5,584) 2,157
--------- ---------- ----------
Effect of exchange rate changes on cash (60) - (7)
--------- ---------- ----------
Net increase (decrease) in cash and cash equivalents 473 (20,834) 12,878
Cash and cash equivalents at beginning of period 14,347 35,181 22,303
--------- ---------- ----------
Cash and cash equivalents at end of period $ 14,820 $ 14,347 $ 35,181
========= ========== ==========
Supplemental cash flow information:
Retirement of shares of treasury stock $ 1,831 $ 7,139 $ 9,070
========= ========== ==========
The accompanying notes are an integral part of these consolidated financial
statements.
F-7
HERLEY INDUSTRIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
1. Nature of Operations and Recent Events
Herley Industries, Inc. ("Herley"), a Delaware corporation, and its
wholly-owned subsidiaries (collectively the "Company") are engaged in the
design, development and manufacture of microwave technology solutions for
the defense, aerospace and medical industries worldwide with four domestic
and three foreign manufacturing facilities and two engineering offices in
the U.S. Herley's corporate office is in Lancaster, Pennsylvania. Herley's
primary business units include: Herley Lancaster; Herley New England;
Herley Israel; Microsystems, Inc. ("MSI"); Herley CTI; Eyal Industries
("Eyal"); and EW Simulation Technology ("EWST"). In the first quarter of
fiscal 2009, the Company sold its Innovative Concepts, Inc. ("ICI")
business (see Note C).
During the fourth quarter of fiscal 2008, the Company decided to close its
manufacturing facility in Farmingdale, NY and transfer its contracts and
assets to other facilities in Whippany, New Jersey; Woburn, Massachusetts;
Lancaster, Pennsylvania; and Jerusalem, Israel. The major costs associated
with the restructuring were payments of one-time termination benefits of
approximately $700,000 incurred in fiscal 2009 and 2008.
In connection with the legal matters discussed in Note F "Litigation," to
avoid the delay, expense, inconvenience and uncertainty of protracted
litigation, the Company entered into an agreement with the Office of the
United States Attorney for the Eastern District of Pennsylvania to settle
all existing criminal claims. Under the terms of the agreement dated May 5,
2008, the Company agreed to pay a fine of $3,500,000. In addition, the
Company entered into an agreement to settle all existing civil claims with
the Civil Division of the Office of the United States Attorney for the
Eastern District of Pennsylvania which requires the payment of $6,000,000.
These payments were made on May 5, 2008. The Company advised the Department
of the Navy, Acquisition Integrity Office about the terms and conditions of
the criminal and civil settlement agreements and the Company was advised
that no action would be taken to suspend or debar the Company based on
these settlements.
On June 8, 2009, the Company filed a law suit against EDO, ITT Force
Protection Systems ("EDO") in connection with a dispute arising out of a
contract for the design, development and production of a product under the
contract (See Note F). In October 2009, all parties entered into an
agreement to settle this matter. Under the terms of the settlement, the
Company paid $2,000,000 to EDO, and the contract was terminated for
convenience without further liability to either party. The Company recorded
a charge to operations in the fourth quarter of fiscal 2009 of
approximately $4,299,000 consisting of net costs incurred under the
contract for design, development and production costs incurred.
On July 22, 2009, the Company entered into an agreement to terminate the
employment agreement with its then Chairman and CEO and on August 1, 2009,
entered into an agreement to terminate the employment agreement with its
Chief Operating Officer at the time. The Company recorded a charge to
operations in the fourth quarter of fiscal 2009 in the amount of
$10,553,000 in connection with the termination of these agreements (see
Note I).
In September 2009, the Company settled a claim for equitable adjustment
under a contract with a major customer of the Company. Management
determined that, to avoid further dilution of management's time and
energies, as well as potential legal costs and in the best interest of the
Company for future business with this significant customer, the Company
agreed to settle the claim for approximately $2,276,000. The Company will
receive a cash payment of $1,476,000, net of an advanced payment of
$800,000 previously received. The Company recorded a reduction of revenue
of approximately $2,752,000 and recorded a charge to cost of products sold
of approximately $331,000 in the fourth quarter of fiscal 2009 in
connection with the settlement.
In connection with a lawsuit filed in April 2007 by EADS Deutschland GmbH
("EADS"), a German corporation, against the Company, the parties entered
into an agreement, effective December 5, 2007, providing for a mutual
release and dismissal, with prejudice and without costs or attorney's fees
to either party, of all claims and counterclaims filed. The Company agreed
to pay to EADS the sum of $6,000,000. A payment of $2,500,000 was made in
December 2007; a payment of $1,500,000 was made in March 2008; payment of
$1,000,000 was made in March 2009; and a final payment of $1,000,000 is due
in March 2010. As security for the payments scheduled in March of 2008,
2009 and 2010, the Company issued an irrevocable stand-by letter of credit
in the amount of $3,500,000 under its existing credit facility. The letter
of credit was reduced to $1,000,000 in connection with the payments made in
March 2008 and 2009. The Company recorded a charge to operations in the
fiscal 2008 of approximately $6,042,000, consisting of payments due under
the agreement of approximately $5,699,000, net of imputed interest of
approximately $301,000 discounted at an imputed interest rate of 7.25%,
plus costs and other direct settlement expenses of approximately $343,000.
2. Fiscal Year
The Company's fiscal year ends on the Sunday closest to July 31. Normally
each fiscal year consists of fifty-two weeks, but every five or six years
the fiscal year will consist of fifty-three weeks. Fiscal year 2009
consists of fifty-two weeks ended August 2, 2009 ("fiscal 2009"); fiscal
year 2008 consists of fifty-three weeks ended August 3, 2008 ("fiscal
2008"); and fiscal year 2007 consists of fifty-two weeks ended July 29,
2007 ("fiscal 2007").
3. Basis of Financial Statement Presentation and Accounting Estimates
The consolidated financial statements include the accounts of Herley
Industries, Inc. and its subsidiaries, all of which are wholly-owned. All
significant inter-company accounts and transactions have been eliminated in
consolidation. The presentation of financial statements in conformity with
accounting principles generally accepted in the United States of America
F-8
("U.S. GAAP") requires management to make certain estimates and assumptions
that affect the reported amounts of assets, liabilities and disclosure of
contingent assets and liabilities as of the date of the financial
statements and reported amounts of revenues and expenses during the
reporting periods.
These judgments can be subjective and complex, and consequently actual
results could differ from those estimates and assumptions. The most
significant estimates include: valuation and recoverability of goodwill and
long-lived assets (see Notes A-9 and A-10); income taxes; recognition of
revenue and costs on production contracts; and the valuation of inventory,
accrual of litigation settlements and other contingencies and stock-based
compensation costs. Each of these areas requires the Company to make use of
reasoned estimates including estimating the cost to complete a contract,
forecasted cash flows, the net realizable value of its inventory and the
market value of its products. Changes in estimates can have a material
impact on the Company's financial position and results of operations. In
the fourth quarter of fiscal 2009 the Company settled certain unpriced
change orders with a major customer resulting in a reduction in revenue of
approximately $2,752,000 and additional charges to cost of products sold of
$331,000. The accrual for contract losses associated with the acquisition
of ICI in April 2005 was reduced by $1,144,000 in fiscal 2007 (which is
included as a reduction of costs of products sold) as a result of
management changing its estimated liability for expected losses under the
contract. The remaining accrual for contract losses of approximately
$826,000 relating to the remaining two contract options was eliminated in
fiscal 2008 (which is included as a reduction of costs of products sold) as
a result of the customer not exercising the remaining two contract options
under the contract. Shipments under the contract were completed during the
first quarter of fiscal 2008 and the remaining options under the contract
expired.
In fiscal 2008, the Company recognized a loss of approximately $1,000,000
on a development contract due to cost overruns and a change in management's
estimate of the recoverability of the costs on future contracts; and losses
of approximately $2,600,000 due to cost overruns on two other development
contracts.
Certain prior-year amounts were reclassified to conform to the fiscal 2009
presentation. ICI was sold in November 2008 and its operating results have
been reported as discontinued operations in the Consolidated Statements of
Operations for all periods presented (see Note C).The reclassifications had
no effect on previously reported net (loss) income.
4. Cash and Cash Equivalents
The Company considers all liquid investments with an original maturity of
three months or less at the date of acquisition to be cash equivalents.
Short-term investments are recorded at the amortized cost plus accrued
interest which approximates market value. The Company limits its credit
risk to an acceptable level by evaluating the financial strength of
institutions at which significant investments are made and based upon
credit ratings. The Company has cash balances in excess of amounts insured
by the FDIC as of August 2, 2009 and August 3, 2008. In addition, the
Company has cash balances in foreign countries of approximately $7,840,000
and $9,089,000 as of August 2, 2009 and August 3, 2008, respectively.
5. Concentration of Credit Risk/Trade Accounts Receivable and Related Accounts
Financial instruments, which potentially subject the Company to credit
risk, consist primarily of trade accounts receivable. Trade accounts
receivable are principally from the U.S. Government, major U.S. Government
contractors, several foreign governments, and domestic customers in the
defense, aerospace and medical industries. Credit is extended based on an
evaluation of the customer's financial condition and generally collateral
is not required. In many cases, irrevocable letters of credit accompanied
by advanced payments are received from foreign customers, and progress
payments are received from domestic customers. The Company performs
periodic credit evaluations of its customers and maintains reserves for
potential credit losses. As of August 2, 2009 and August 3, 2008, a reserve
for doubtful accounts of approximately $262,000 and $122,000, respectively,
are reflected in the consolidated balance sheets as a deduction from trade
accounts receivable. Historically, the write-off of uncollectible trade
accounts receivable has been immaterial.
The asset "Costs incurred and income recognized in excess of billings on
uncompleted contracts" represents revenues recognized in excess of amounts
billed. The liability "Billings in excess of costs incurred and income
recognized on uncompleted contracts" represents amounts billed in excess of
revenues earned. Included in these two categories are unbilled amounts
which are recorded under the percentage-of-completion method and are
recoverable from the customer upon shipment of the product, presentation of
billings or completion of the contract. Unbilled amounts are expected to be
collected within one year.
F-9
6. Inventories
Inventories, other than inventory costs relating to long-term contracts and
programs, are stated at lower of cost (principally first-in, first-out) or
market. Inventory costs relating to long-term contracts and programs are
stated at the actual production costs, including factory overhead, reduced
by amounts identified with revenue recognized on units delivered or
progress completed. Inventory costs relating to long-term contracts and
programs are reduced by any amounts in excess of estimated realizable
value. As is customary in the defense industry, inventory is partially
financed by progress payments. The un-liquidated balance of the progress
payments is shown as a reduction in the carrying amount of inventory. An
estimate for obsolete and excess inventory is also provided as a reduction
of the carrying value of inventory.
7. Property, Plant and Equipment
Property, plant and equipment are stated at cost less accumulated
depreciation and amortization. Depreciation and amortization are provided
principally by the straight-line method over the estimated useful lives of
the related assets. Leasehold improvements are amortized over the shorter
of their economic lives or the lease term, as defined in paragraph 5(f) of
Statement of Financial Accounting Standards ("SFAS") No. 13, "Accounting
for Leases." Rent holidays and scheduled rent increases under operating
leases are recognized on a straight-line basis over the lease term,
including the rent holiday period, in accordance with paragraph 2 of
Financial Accounting Standards Board ("FASB") Technical Bulletin 85-3 (as
amended). Gains and losses arising from the sale or disposition of
property, plant and equipment are included in income from operations.
8. Computer Software
Internal use software, which consists primarily of an integrated
manufacturing and financial reporting package is stated at cost less
accumulated amortization and is amortized using the straight-line method
over its estimated useful life, generally eight years.
9. Goodwill and Intangible Assets
The Company accounts for its goodwill in accordance with SFAS No. 141,
"Business Combinations", and SFAS No. 142, "Goodwill and Other Intangible
Assets". These statements established accounting and reporting standards
for acquired goodwill and other intangible assets. Specifically, the
standards address how acquired intangible assets should be accounted for
both at the time of acquisition and after they have been recognized in the
financial statements. In accordance with SFAS No. 142, purchased goodwill
must be evaluated for impairment on an annual basis. Those intangible
assets that are classified as goodwill or as other intangibles with
indefinite lives are not amortized.
Impairment testing is performed in two steps: (i) the Company determines
impairment by comparing the fair value of its single reporting unit with
its carrying value, and (ii) if impairment is indicated, the Company
measures the amount of impairment loss by comparing the implied fair value
of goodwill with the carrying amount of that goodwill. The Company has
performed its annual impairment evaluation required by SFAS No. 142 as of
August 2, 2009. The Company has historically determined its fair value
using its current market capitalization, which, in an active market for its
common stock, the Company considers a reasonable indication of implied fair
value. At August 2, 2009, the market capitalization was below the Company's
carrying value primarily due to the overall macroeconomic environment. The
Company proceeded to further evaluate its fair value using the income
approach and the market approach, as well as a weighted blend of each of
the fair value approaches. Based upon these collective analyses, the
Company concluded that there was an indicator of impairment of goodwill as
of August 2, 2009 and proceeded to the second step to determine the amount
of impairment loss. Such goodwill impairment loss, in the amount of
$42,050,000, was charged to operations in the fourth quarter of fiscal
2009.
The changes in the carrying amount of goodwill for fiscal 2009 and 2008 are
as follows (in thousands):
Balance at July 29, 2007 $ 74,044
Fluctuations in foreign currency (1) (144)
------------
Balance at August 3, 2008 $ 73,900
Goodwill acquired during the period (2) 17,039
Impairment of goodwill - continuing operations (42,050)
Goodwill of discontinued business (3) (4,047)
Fluctuations in foreign currency (1) (1,120)
------------
Balance at August 2, 2009 $ 43,722
============
_________
(1) Related to EWST acquired in fiscal 2003.
(2) Related to the acquisition of Eyal (see Note B).
(3) Related to the sale of ICI (see Note C).
F-10
The Company has performed its annual impairment evaluation for its other
intangible assets with indefinite lives and determined that these were not
impaired as of August 2, 2009. The Company amortizes the cost of other
intangibles over their estimated useful lives. Amortizable intangible
assets may also be tested for impairment if indications of impairment
exist.
The Company entered into a license and development agreement in April 2005
to license millimeter wave technology for military applications from
Xytrans, Inc. ("Xytrans"). Xytrans focuses on providing high-frequency
transceiver and outdoor unit design for the wireless broadband network
market. The technology acquired includes exclusive access to a portfolio of
patents and trade secrets that improve the cost and performance of
millimeter wave subsystems that are used in weapons and radar systems. The
agreement also provides for the payment of royalties ranging from 1% to 4%
of sales of products including relevant millimeter wave technology,
starting at the earliest January 1, 2006, and generally ending 4 years
later. No royalties have been earned or paid under the agreement. The
Company began to amortize the costs associated with this agreement starting
July 30, 2007 over the estimated economic life of approximately eight
years. In the fourth quarter of fiscal 2009, the Company reevaluated the
resources that it intended to utilize to pursue the marketing of products
related to the license, performed a test for impairment of the license and
determined that the fair value of the license on a discounted cash flow
basis approximated $700,000 and recorded an impairment charge of
$2,101,000, which is included in "Impairment of goodwill and other
intangible assets" in the Consolidated Statements of Operations.
The carrying amounts of intangible assets as of August 2, 2009 and August
3, 2008 are as follows (in thousands):
August 2, August 3,
2009 2008
---------------------------------------------------
Gross Gross
carrying Accumulated carrying Accumulated Amortization
amount amortization amount amortization period (years)
-------- ------------ -------- ------------ --------------
Definite-lived intangible assets:
- --------------------------------
Technology (1) (2) $8,055 $3,201 $12,592 $4,103 10-15
Backlog (2) 4,375 2,165 3,125 2,285 2-5
Drawings 800 284 800 231 15
Non-compete agreement 31 31 31 31 5
Xytrans license 3,734 3,034 3,734 467 8
Patents 568 429 568 388 14
------ ----- ------ -----
17,563 9,144 20,850 7,505
------ ----- ------ -----
Indefinite-lived intangible assets:
- ----------------------------------
Trademarks 1,200 2,800
------ ------
Total intangible assets $18,763 $9,144 $23,650 $7,505
====== ===== ====== =====
<FN>
---------
(1) Adjusted to reflect fluctuations in foreign currency related to EWST.
(2) Includes the fair value of Eyal intangibles acquired in September 2008.
</FN>
Amortization expense related to intangibles for fiscal 2009, 2008 and 2007
was approximately $2,404,000, $2,249,000 and $1,788,000, respectively.
Estimated aggregate amortization expense for each of the next five fiscal
years is as follows (in thousands):
2010 $1,303
2011 $1,039
2012 $761
2013 $761
2014 $761
10. Long-Lived Assets
The Company accounts for long-lived assets in accordance with SFAS No. 144,
"Accounting for the Impairment or Disposal of Long-Lived Assets." This
statement applies to long-lived assets other than goodwill, and prescribes
a probability weighted cash flow estimation approach to evaluate the
recoverability of the carrying amount of long-lived assets such as a
component of an entity. The Company considers a business to be held for
sale when management approves and commits to a formal plan to actively
market a business for sale. Upon designation as held for sale, the carrying
value of the assets of the business are recorded at the lower of their
carrying value or their estimated fair value, less cost to sell. Results of
operations of a business classified as held for sale are reported as
discontinued operations when (a) the operations and cash flows of the
F-11
business will be eliminated from ongoing operations as a result of the sale
and (b) the Company will not have any significant continuing involvement in
the operations of the business after the sale.
In the fourth quarter of fiscal 2009, the Company recorded a charge of
approximately $345,000 on the abandonment of fixed assets in connection
with the closure of the Company's manufacturing facility in Farmingdale,
NY.
11. Advance Payments and Billings in Excess of Costs Incurred
The Company receives advances, performance-based payments and progress
payments from customers which may exceed costs incurred on certain
contracts.
12. Revenue and Cost Recognition
The Company recognizes revenue when products are shipped and the customer
takes ownership and assumes risk of loss, collection of the relevant
receivable is probable, persuasive evidence of an arrangement exists and
the sales price is fixed or determinable. It is the policy of the U.S.
Government to ensure that (a) its contracts include inspection and other
quality requirements, including warranty clauses when appropriate, that are
determined necessary to protect the Government's interest; (b) supplies
tendered by contractors meet contract requirements; and (c) Government
contract quality assurance is conducted before acceptance (except as
otherwise provided in the Federal Acquisition Regulations), by or under the
direction of Government personnel. The Company, as a U.S. Government
contractor, is required to control the quality of its products and to
tender to the Government only those products that meet the contract
requirements. Accordingly, the Company's Government contracts include
provisions that require its products to pass quality inspection prior to
acceptance by the Government. Revenue is not recognized until the products
pass quality inspection and accepted by the customer. In the event the
Government's acceptance occurs at destination, revenue is recognized at
shipment if it can be demonstrated that the delivered products meet all of
the specified criteria prior to customer acceptance. Payments received from
customers in advance of products delivered are recorded as advance payments
on contracts until earned.
Most of our customer contracts are firm, fixed price contracts, providing
for a predetermined fixed price for the products sold, regardless of the
costs incurred. A certain percentage of revenues are derived from
long-term, fixed price contracts. Revenues and estimated profits, including
contract claims and unpriced change orders, are recognized on these
long-term contracts using the percentage-of-completion method of accounting
and are based on estimated completion to date (the total contract amount
multiplied by the percentage of performance, based on total costs incurred
in relation to total estimated cost at completion). Approximately
$4,299,000 related to claims and unpriced change orders in connection with
changes in scope issues on a contract is included in "Costs incurred and
income recognized in excess of billings on uncompleted contracts and
claims" and engineering costs of approximately $331,000 included in
"Inventories, net" as of August 3, 2008. In September 2009, the Company
settled this claim for approximately $2,276,000 less $800,000 previously
advanced and recognized as revenue in prior years, resulting in a charge to
cost of products sold of approximately $331,000 and a reduction in net
sales of approximately $2,752,000.
Prospective losses on long-term contracts are based upon the anticipated
excess of manufacturing costs over the selling price of the remaining units
to be delivered and are recorded in the period when first determinable.
Actual losses could differ from those estimated due to changes in the
ultimate manufacturing costs and contract terms.
Contract costs include all direct material and labor costs and those
indirect costs related to contract performance. Selling and administrative
costs are charged to expense as incurred.
13. Product Development
The Company's primary efforts are focused on engineering design and product
development activities rather than pure research. The cost of these
development activities, including employees' time and prototype
development, was approximately $22,517,000, $20,723,000 and $22,310,000 in
fiscal 2009, 2008, and 2007, respectively, and are included in cost of
products sold. Amounts paid by customers toward these product development
activities were approximately $10,458,000, $2,598,000 and $9,994,000 in
fiscal 2009, 2008 and 2007, respectively, and are included in net sales.
Expenditures for Company-sponsored research and development projects and
bid and proposal costs are expensed as incurred. Customer-sponsored
research and development projects performed under contracts are accounted
for as contract costs as the work is performed.
14. Income Taxes
Income taxes are accounted for by the asset/liability approach in
accordance with SFAS No. 109, "Accounting for Income Taxes." Deferred taxes
represent the expected future tax consequences when the reported amounts of
assets and liabilities are recovered or paid. They arise from temporary
differences between the financial reporting and tax bases of assets and
liabilities and are adjusted for changes in tax laws and tax rates when
those changes are enacted. The (benefit) provision for income taxes
represents the total of income taxes paid or payable for the current year,
plus the change in deferred taxes during the year.
F-12
Deferred tax assets pertaining to windfall tax benefits on the exercise of
stock options and the corresponding credit to additional paid-in capital
are recorded if the related tax deduction reduces taxes payable. The
Company has elected the "With-and-without approach" regarding ordering of
windfall tax benefits to determine whether the windfall tax benefit did
reduce taxes payable in the current year. Under this approach, the windfall
tax benefits would be recognized in additional paid-in capital only if an
incremental tax benefit is realized after considering all other tax
benefits presently available to the Company.
On July 30, 2007, the Company adopted Interpretation No. 48, "Accounting
for Uncertainty in Income Taxes (as amended) - an interpretation of FASB
Statement No. 109" ("FIN 48"). The cumulative effect of applying the
provisions of FIN 48 resulted in a reclassification of $3,139,000 of tax
liabilities (including interest and penalties of $734,000) from current to
non-current and did not require an adjustment to retained earnings. The
total amount of unrecognized tax benefits could increase or decrease within
the next twelve months for a number of reasons including audit settlements,
tax examination activities and the recognition and measurement
considerations under FIN 48. The Company has elected to retain its existing
accounting policy with respect to the treatment of interest and penalties
attributable to income taxes in accordance with FIN 48, and continues to
reflect interest and penalties attributable to income taxes, to the extent
they arise, as a component of its income tax provision or benefit, as well
as its outstanding income tax assets and liabilities.
The Company has identified its federal tax return and its state tax return
in Pennsylvania as major tax jurisdictions. The Company is also subject to
multiple other state and foreign jurisdictions. The Company's evaluation of
FIN 48 tax matters was performed for tax years ended 2005 through 2009, the
only periods subject to examination. The Company believes that its income
tax positions and deductions would be sustained on audit and does not
anticipate any adjustments, other than those identified above, which would
result in a material change to its financial position.
15. Share-Based Compensation
The Company has various fixed stock option plans which are described in
Note O that provide for the grant of stock options to eligible employees
and directors.
The Company accounts for share-based compensation utilizing the fair value
recognition provisions of SFAS No. 123(R), "Share-Based Payment" ("SFAS
123(R)"). This standard requires the Company to measure the cost of
employee services received in exchange for equity share options granted
based on the grant-date fair value of the options. The cost is recognized
as compensation expense over the requisite service period for each
separately vesting portion of the options. Compensation costs included in
operating expenses in fiscal 2009, 2008 and 2007 was approximately
$462,000, $990,000 and $1,007,000, respectively. Option grants have been
valued using a Black-Scholes option valuation model.
Income tax benefits relating to the exercise of stock options during fiscal
2009, 2008 and 2007 amounted to approximately $212,000, $91,000 and
$256,000, respectively. Income tax benefits relating to the exercise of
stock options are classified as a financing cash inflow in the Company's
Consolidated Statements of Cash Flows.
The aggregate value of unrecognized compensation costs related to unvested
options as determined using a Black-Scholes option valuation model, was
approximately $106,000 (net of estimated forfeitures), which is expected to
be recognized over a weighted-average period of 1.58 years.
During fiscal 2009, the Company granted 89,000 non-qualified stock options,
primarily to officers of the Company, with a fair value of approximately
$310,000. Additionally, the Company issued 100,000 shares of restricted
stock to the Chairman of the Board of Directors, which was valued at the
date of grant using the market price of the stock. The restricted stock
award has a value of approximately $1,039,000 and vests in January 2014.
Options for 263,525 shares of common stock were exercised at an average
price of $8.99 per share and 146,900 options were forfeited during the
year.
The total intrinsic value of options exercised during fiscal year 2009,
2008 and 2007 was approximately $554,000, $237,000 and $685,000,
respectively.
F-13
The weighted average fair value of stock options on the date of grant, and
the assumptions used to estimate the fair value of stock options issued
during the fiscal periods presented are as follows:
2009 2008 2007
---- ---- ----
Weighted average fair value of options granted $3.32 $5.72 $5.72
Expected life (years) 2.63 2.73 2.93
Expected volatility .47 .47 .47
Risk-free interest rate 2.7% 5.1% 5.1%
Expected dividend yield zero zero zero
Forfeiture rate 7.52 6.19 6.19
The expected life of options granted during the periods presented above is
based on the Company's historical share option exercise experience using
the historical expected term from vest date. The expected volatility of the
options granted is determined using historical volatilities based on
historical stock prices. The risk-free interest rate is determined using
the yield available for zero-coupon U.S. Government issues with a remaining
term equal to the expected life of the options. The Company has never paid
a dividend. The forfeiture rate is based on the Company's historical
experience.
16. Foreign Currency Translation
Financial statements of foreign subsidiaries are prepared in their
respective functional currencies and translated into United States dollars
using exchange rates at the balance sheet date for assets and liabilities
and a monthly average rate during the year for revenues, costs and
expenses. Net gains or losses resulting from the translation of foreign
financial statements are charged or credited directly to the foreign
currency translation component of "Accumulated other comprehensive income"
in the accompanying Consolidated Statements of Shareholders' Equity.
Transaction gains and losses resulting from transactions entered into under
contracts in a currency other than the subsidiary's functional currency are
accounted for on a transactional basis as a credit or charge to operations.
17. Derivatives
The Company recognizes all derivatives in its Consolidated Balance Sheet at
fair value. On the date the derivative instrument is entered into, the
Company generally designates the derivative as either (1) a hedge of the
fair value of a recognized asset or liability, or of an unrecognized firm
commitment ("fair value hedge") or (2) a hedge of a forecasted transaction
or of the variability of cash flows to be received or paid related to a
recognized asset or liability ("cash flow hedge"). The Company entered into
an interest rate swap in October 2001 with a bank, which it recognized as a
cash flow hedge. Changes in the fair value of a derivative that is
designated as, and meets all the required criteria for, a cash flow hedge
are recorded in accumulated other comprehensive income (loss) and
reclassified into earnings as the underlying hedged item affects earnings.
18. Comprehensive Income (Loss)
The Company reports comprehensive income (loss) in its Consolidated
Statements of Shareholders' Equity, which includes net income, unrealized
gain (loss) on an interest rate swap, net of related income taxes; and
foreign currency translation gain (loss). Substantially all the amount
included in other comprehensive income (loss) relates to the effects of
foreign exchange translation gains and losses. No adjustment has been made
for income taxes since substantially all translation gains and losses
relate to the permanent investment in the foreign subsidiary.
19. Dividend Policy
The Company has not paid cash dividends in its history. The Company's Board
of Directors evaluates its dividend policy based on its financial
condition, profitability, cash flow, capital requirements and the outlook
of its business.
20. Advertising Costs
The Company expenses advertising costs as incurred. Advertising costs in
fiscal 2009, 2008 and 2007 were $72,000, $233,000 and $315,000,
respectively.
21. New Accounting Pronouncements
Newly issued effective accounting pronouncements:
In June 2009, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 165, "Subsequent Events," which establishes principles and requirements
for subsequent events regarding: (1) the period after the balance sheet
date during which management shall evaluate events and transactions that
may occur for potential recognition or disclosure in the financial
F-14
statements; (2) the circumstances under which an entity shall recognize
events or transactions occurring after the balance sheet date in its
financial statements; and (3) the disclosure that an entity shall make
about events or transactions that occurred after the balance sheet date.
This statement is effective for the Company as of the annual period ending
August 2, 2009, and is required to be applied prospectively.
In April 2009, the FASB issued Staff Position ("FSP") No. 107-1 and
Accounting Principles Board No. 28-1. This FSP amends FASB Statement No.
107, "Disclosures about Fair Value of Financial Instruments," to require
disclosures about fair value of financial instruments for interim reporting
periods of publicly traded companies as well as in annual financial
statements. This FSP also amends APB Opinion No. 28, "Interim Financial
Reporting," to require those disclosures in summarized financial
information at interim reporting periods. This FSP shall be effective for
interim reporting periods ending after June 15, 2009, with early adoption
permitted for periods ending after March 15, 2009. An entity may early
adopt this FSP only if it also elects to early adopt FSP FAS 157-4,
"Determining Fair Value When the Volume and Level of Activity for the Asset
or Liability Have Significantly Decreased and Identifying Transactions That
Are Not Orderly," and FSP FAS 115-2 and FSP FAS 124-2, "Recognition and
Presentation of Other-Than-Temporary Impairments." This FSP does not
require disclosures for earlier periods presented for comparative purposes
at initial adoption. In periods after initial adoption, this FSP requires
comparative disclosures only for periods ending after initial adoption.
This FSP was effective for the Company in the third quarter of fiscal 2009.
In March 2008, the FASB issued SFAS No. 161, "Disclosures about Derivative
Instruments and Hedging Activities--an amendment of FASB Statement No. 133,
Accounting for Derivative Instruments and Hedging Activities ("SFAS No.
133")." SFAS No. 161 requires companies to provide enhanced disclosures
regarding derivative instruments and hedging activities in order to better
convey the purpose of derivative use in terms of risk management.
Disclosures about (i) how and why an entity uses derivative instruments,
(ii) how derivative instruments and related hedged items are accounted for
under SFAS No. 133 and its related interpretations, and (iii) how
derivative instruments and related hedged items affect a company's
financial position, financial performance, and cash flows, are required.
This Statement retains the same scope as SFAS No. 133 and is effective for
fiscal years and interim periods beginning after November 15, 2008. The
Company adopted SFAS No. 161 in the third quarter of fiscal 2009. The
adoption of this standard did not have a material impact on its
consolidated financial position, cash flows and results of operations.
Effect of newly issued but not yet effective accounting pronouncements:
In June 2009, the FASB issued SFAS No. 168, "The FASB Accounting Standards
Codification and the Hierarchy of Generally Accepted Accounting
Principles". On July 1, 2009, the FASB completed the FASB Accounting
Standards Codification, (the "FASB Codification") as the single source of
authoritative U.S. generally accepted accounting principles ("GAAP"),
superseding all then-existing authoritative accounting and reporting
standards, except for rules and interpretive releases for the SEC under
authority of federal securities laws, which are sources of authoritative
GAAP for Securities and Exchange Commission registrants. The FASB
Codification reorganizes the authoritative literature comprising U.S. GAAP
into a topical format that eliminates the current GAAP hierarchy. The FASB
Codification is effective for interim and annual financial statement
periods ending after September 15, 2009, which means that the Company will
begin to use the FASB Codification in the first interim quarter of fiscal
2010. The FASB Codification is not intended to change U.S. GAAP and will
have no impact on the Company's consolidated financial position, results of
operations or cash flows. However, since it completely supersedes existing
standards, it will affect the way the Company references authoritative
accounting pronouncements in its future financial statements and other
disclosure documents.
In April 2008, the FASB issued FSP No. FAS 142-3, "Determination of the
Useful Life of Intangible Assets", which amends the factors that should be
considered in developing renewal or extension assumptions used to determine
the useful life of a recognized intangible asset under SFAS No. 142,
"Goodwill and Other Intangible Assets." The intent of FAS 142-3 is to
improve the consistency between the useful life of a recognized intangible
asset under SFAS No. 142 and the period of expected cash flows used to
measure the fair value of the asset under SFAS No. 141 (revised 2007),
"Business Combinations", and other Generally Accepted Accounting
Principles. FAS 142-3 is effective for fiscal years beginning after
December 15, 2008 and only applies prospectively to intangible assets
acquired after the effective date. Early adoption is not permitted. The
Company is required to adopt FAS 142-3 in its fiscal year 2010 beginning
August 3, 2009 and does not expect its adoption to have a material impact
on its consolidated financial position, cash flows and results of
operations.
In December 2007, the FASB issued SFAS No. 141 (revised 2007), "Business
Combinations." ("SFAS No. 141(R)"). The objective of SFAS No. 141(R) is to
improve the relevance, representational faithfulness, and comparability of
the information that a reporting entity provides in its financial reports
about a business combination. Specifically, it establishes principles and
requirements over how the acquirer (1) recognizes and measures the
identifiable assets acquired, the liabilities assumed, and any
noncontrolling interest in the acquiree; (2) recognizes and measures
goodwill acquired in the business combination or a gain from a bargain
purchase, and; (3) determines what information to disclose to enable users
of the financial statements to evaluate the nature and financial effects of
the business combination. SFAS No. 141(R) also requires acquisition-related
transaction expenses and restructuring costs be expensed as incurred rather
than capitalized as a component of the business combination. This Statement
is effective for fiscal years beginning after December 15, 2008. The
Company is required to adopt this statement in fiscal year 2010 beginning
August 3, 2009. SFAS No. 141(R) will have an impact on accounting for any
businesses acquired after August 2, 2009.
F-15
NOTE B - BUSINESS COMBINATION
The Company entered into an Asset Purchase Agreement ("Asset Agreement"),
dated as of August 1, 2008, to acquire the business and certain assets
subject to the assumption of certain liabilities of Eyal Industries
("Eyal"), a privately-held Israeli company for $30,000,000. The transaction
closed on September 16, 2008. The business operates as a wholly-owned
subsidiary of General Microwave Israel (1987) Ltd. Eyal is a leading
supplier of a broad range of innovative, high reliability RF, microwave and
millimeter wave components and customized subsystems for the global defense
industry. Based in Kibbutz Eyal, Israel, the company has approximately 175
employees. Eyal's core capabilities include complex integrated microwave
assemblies and "off-the-shelf" components for radar, ESM, ECM and
communication systems which complement and expand the Company's current
product line. Eyal's customers and programs further strengthen the
Company's presence in the international marketplace. Funding for the
purchase was provided through a $20,000,000 loan under the Company's
existing credit facility and a term loan in the amount of $10,000,000
through a bank in Israel. The term loan is payable in quarterly
installments of $250,000 over a period of 10 years with interest at LIBOR
plus 1.5%.
The acquisition has been accounted for under the provisions of SFAS No. 141
"Business Combinations", which requires that all business combinations be
accounted for using the purchase method. The results of operations of Eyal
are included in the Consolidated Financial Statements from September 1,
2008 (the designated "effective date") in accordance with SFAS No. 141.
The allocation of the aggregate purchase price (including acquisition costs
of approximately $427,000), based on a detailed review of the fair value of
assets acquired and liabilities assumed including the fair value of
identified intangible assets is as follows (in thousands):
Aggregate purchase price $ 30,427
======
Current assets
(including cash of $418) $ 8,499
Furniture and equipment 3,721
Intangibles 5,446
Goodwill 17,039
Current liabilities (3,920)
Other long-term liabilities (358)
------
$ 30,427
The excess of the total purchase price over the fair value of the net
assets acquired, including the value of the identifiable intangible assets,
has been allocated to goodwill. Goodwill will be amortized, for fifteen
years, for tax purposes but not for financial reporting purposes. The
intangible assets subject to amortization will be amortized over fifteen
years for tax purposes and for financial reporting purposes and have been
assigned useful lives as follows:
Technology $2,929 13 years
Backlog 1,259 2 years
Trademarks 1,258 13 years
------
$5,446
======
NOTE C - DISCONTINUED OPERATIONS AND DISPOSAL OF LONG-LIVED ASSETS
Discontinued operations
-----------------------
On September 18, 2008, the Company executed an agreement (the "Agreement")
with a foreign defense company to divest its ICI subsidiary located in
McLean, Virginia. ICI is a communications technology development firm
specializing in research, design, development, production, and support of
wireless data communications products and services. On November 10, 2008,
the Company sold the stock of ICI for approximately $15,000,000 in cash of
which $750,000 is held in escrow as security for certain indemnification
obligations. In accordance with the provisions of SFAS No. 144, "Accounting
for the Impairment or Disposal of Long-Lived Assets," the disposal of the
business of ICI is presented as discontinued operations in the Consolidated
Statements of Operations.
The following results of operations of ICI have been presented as
discontinued operations in the Consolidated Statements of Operations (in
thousands):
F-16
Fifty-two Fifty-three Fifty-two
weeks ended weeks ended weeks ended
August 2, August 3, July 29,
2009 2008 2007
------------ ---------------- ---------------
Net sales $ 5,953 $ 19,076 $ 25,290
Cost of products sold and other expenses 5,687 18,487 24,799
Impairment of goodwill 1,000 - -
------------ ---------------- ---------------
(Loss) income before income taxes (734) 589 491
(Benefit) provision for income taxes (278) 251 (228)
------------ ---------------- ---------------
(Loss) income from discontinued operations $ (456) $ 338 $ 719
============ ================ ===============
Disposal of long-lived assets
-----------------------------
On October 31, 2008, the Company completed the sale of assets of its
machine shop located at its MSI operation to a third party in the amount of
$675,000. Payment terms are $1,000 due at closing and the balance of
$674,000 payable over six years in accordance with the terms of an interest
bearing note. The note provides for minimum monthly payments of $9,000. The
current portion of $108,000 is included in "Other current assets" and the
balance of $460,000 is included in "Other assets" in the Consolidated
Balance Sheet at August 2, 2009. The sale of assets resulted in a net gain
of approximately $618,000 and is included in "Selling and administrative
expenses" in the Consolidated Statements of Operations.
NOTE D - INVENTORIES
The major components of inventories are as follows (in thousands):
August 2, August 3,
2009 2008
------------- ----------
Purchased parts and raw materials $ 36,034 $ 32,439
Work in process 28,686 33,663
Finished products 2,246 2,623
------------- ----------
66,966 68,725
Less:
Allowance for obsolete and slow moving inventory 7,314 6,476
Unliquidated progress payments 1,848 690
------------- ----------
$ 57,804 $ 61,559
============= ==========
NOTE E - PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are comprised of the following (in
thousands):
August 2, August 3, Estimated
2009 2008 Useful Life
----------- ----------- -----------
Land $ 4,006 $ 4,006
Building and building improvements 14,650 13,894 10 - 40 years
Machinery, equipment and software 62,255 60,594 3 - 8 years
Furniture and fixtures 4,848 2,888 5 - 10 years
Leasehold improvements 250 2,073 5 - 10 years
----------- -----------
86,009 83,455
Less accumulated depreciation and amortization 53,137 52,903
----------- -----------
$ 32,872 $ 30,552
=========== ===========
Depreciation and amortization charges totaled approximately $5,741,000,
$5,017,000 and $5,389,000 in fiscal 2009, 2008 and 2007, respectively.
In accordance with SFAS No. 144, "Accounting for Impairment or Disposal of
Long-Lived Assets," management reviews long-lived assets for impairment
whenever events or changes in circumstances indicate that the carrying
amount of an asset may not be recoverable based on estimated future
undiscounted cash flows. If so indicated, an impairment loss would be
F-17
recognized for the difference between the carrying amount of the asset and
its fair value. For fiscal 2009 and 2008, there were no impairment charges
for property, plant and equipment.
NOTE F - COMMITMENTS AND CONTINGENCIES
Leases
------
The Company leases office, production and warehouse space as well as
computer equipment and automobiles under non-cancelable operating leases.
Rent expense for fiscal 2009, 2008 and 2007 was approximately $3,613,000,
$4,036,000 and $3,812,000, respectively. Minimum annual rentals under
non-cancelable operating leases are as follows (in thousands):
Fiscal year ending: Amount
------------------- ------
2010 $ 3,213
2011 2,715
2012 2,138
2013 1,823
2014 275
Thereafter 1,375
-------------
$ 11,539
=============
Purchase Commitments
--------------------
The Company was committed to make future purchases primarily for inventory
related items under various purchase arrangements with fixed purchase
provisions aggregating approximately $23,985,000 at August 2, 2009.
Severance and Consulting Agreements
-----------------------------------
Several officers and key employees have severance agreements providing for
an aggregate lump-sum payment of approximately $3,416,000 in the event of a
change of control as defined in the agreements. The agreements expire from
one to two years from the date of a change of control.
Various consulting agreements with former executives of the Company provide
for consulting periods with aggregate annual payments of approximately
$217,000, which expire at various dates through July 31, 2012.
F-18
Litigation
- ----------
In June and July 2006, the Company was served with several class-action
complaints against the Company and certain of its current and former
officers and directors ("other defendants") in the United States District
Court for the Eastern District of Pennsylvania. The claims are made under
Section 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule
10b-5 thereunder. The plaintiffs seek unspecified damages on behalf of a
purported class of purchasers of the Company's securities during various
periods before June 14, 2006. All defendants in the class-action complaints
filed motions to dismiss on April 6, 2007. On July 17, 2007, the Court
issued an order denying the Company's and its former Chairman's motion to
dismiss and granted, in part, the other defendants' motion to dismiss.
Specifically, the Court dismissed the Section 10(b) claim against the other
defendants and denied the motion to dismiss the Section 20(a) claim against
them. On July 9, 2008, plaintiffs filed a Motion for Class Certification.
On March 4, 2009, all defendants filed an Opposition to Plaintiffs' Motion
for Class Certification. On May 18, 2009 Plaintiffs filed a reply in
support of their motion for class certification. Oral argument regarding
the plaintiffs' motion for class certification was held on July 17, 2009.
On October 9, 2009, the Court issued an order granting Plaintiffs' motion
for class certification. The Court certified a class consisting of all
purchasers of Herley stock between October 1, 2001 and June 14, 2006, who
sustained a loss as a result of that acquisition. The parties are currently
in the process of completing fact and expert discovery. The Company and the
individual defendants are vigorously defending against these lawsuits. At
this stage of the proceedings, it is not possible to predict what, if any,
liability the Company may have from the Securities Class Action.
In July and August 2006, the Company and certain of its current and former
officers and directors were also served with two separate derivative
complaints for breach of fiduciary duty brought pursuant to Rule 23.1 of
the Federal Rules of Civil Procedure. The complaints relate to the
Company's indictment in 2006 and were consolidated into one action on March
9, 2006. All defendants in the derivative complaints filed motions to
dismiss on February 26, 2007. On July 20, 2007, the Court issued an order
denying defendants' motions in part and granting them in part.
Specifically, the Court dismissed the claim that the named officers and
directors failed to oversee the former Chairman's actions and denied the
motions with respect to the other alleged claims. The parties are currently
in the process of completing fact and expert discovery. At this stage of
the proceedings, it is not possible to predict what, if any, liability the
Company may have from the Derivative Actions.
The Company believes it is entitled to recovery of certain legal fees
associated with the above matters under its Directors and Officers ("D&O")
insurance policy. The Company has received partial payments of
approximately $2,236,000. The Company has entered into an agreement dated
January 11, 2007 with the insurance carrier whereby if it is determined by
final decision of an arbitration panel, or by final judgment of a court, or
other final decision of a tribunal having jurisdiction thereof, that any
amount paid by the insurance carrier was not a loss, as that term is
defined in the policy, the Company shall repay to the insurance carrier any
such uncovered sums previously advanced. The insurance carrier asserted in
a letter their determination that they are not liable for certain of the
legal costs incurred by the Company. The Company responded with a letter,
supported by court case citations, that all the submitted costs represent
valid claims under the policy and that the insurance company is liable. In
November 2008, the Company filed a complaint against the insurance carrier
to recover the legal costs. The insurance carrier answered the complaint
and filed a counterclaim seeking to recover prior advances of approximately
$2,236,000. Discovery on this phase of the case concluded and the Company
and the insurance carrier filed cross motions for summary judgment relating
to certain defenses. On August 25, 2009, the Court ruled against the
Company and found that the legal fees incurred on behalf of the Company in
the Securities Class Action are not covered. The fees paid on behalf of
individual defendants in the Securities Class Action were not challenged.
The Company has filed a Notice of Appeal in the United States Court of
Appeal for the Third Circuit. The likelihood of success on appeal cannot be
predicted at this time.
By letter dated May 28, 2009, the Company was advised that a contract with
General Microwave Corporation a wholly-owned subsidiary of the Company,
doing business as Herley Farmingdale ("GMC") in the aggregate amount of
approximately $4,900,000 was being terminated for default. By letter dated
June 1, 2009, the customer demanded a return of approximately $3,800,000,
which represented an alleged progress payment made under the contract to
GMC. On June 8, 2009, GMC filed suit against EDO Communications and
Countermeasures, Inc. doing business as ITT Force Protection Systems
("EDO") in the United States District Court for the Eastern District of New
York (the "New York Action") seeking a Declaratory Judgment, pursuant to 28
U.S.C. ss. 2201 et. seq. and for breach of contract related to EDO's
decision to terminate the contract for default. On August 13, 2009, EDO
filed suit against GMC and the Company in the Superior Court of California,
Ventura County, for breach of contract, unjust enrichment, and money had
and received (the "California Action"). On October 8, 2009, all parties
entered into an agreement to settle this matter. Under the terms of the
settlement, the Company paid $2,000,000 to EDO and the parties mutually
agreed to a termination of the purchase order for convenience without
further liability to either party. The Company incurred total costs of
$8,645,000 and received a net payment on the contract described above after
return of the $2,000,000 previously mentioned. As a result of the
settlement agreement disclosed above, the Company recorded a total loss of
$6,833,000, of which $2,534,000 was previously reserved.
The Company is involved in various other legal proceedings and claims which
arise in the ordinary course of its business. While any litigation contains
an element of uncertainty, management believes that the outcome of such
other litigation will not have a material adverse effect on the Company's
financial position or results of operations.
F-19
Stand-by Letters of Credit
- --------------------------
The Company maintains a letter of credit facility in connection with the
revolving credit agreement with two banks that provides for the issuance of
stand-by letters of credit and requires the payment of a fee of 1.25% per
annum of the amounts outstanding under the facility. The facility expires
March 31, 2011. At August 2, 2009, stand-by letters of credit aggregating
approximately $13,271,000 were outstanding under this facility (see Note
H). In October 2009, in connection with an amendment to the Company's
revolving loan credit facility, the fee was increased to 1.5% per annum.
NOTE G - INCOME TAXES
As of August 2, 2009, the Company's unrecognized tax benefits, that if
recognized would affect the Company's effective tax rate, were $6,115,000.
The Company recognizes potential accrued interest and penalties related to
unrecognized tax benefits in income tax expense. At August 2, 2009 and
August 3, 2008, the combined amount of accrued interest and penalties
related to tax positions taken or to be taken on the Company's tax returns
and recorded as part of the reserves for uncertain tax positions was
$48,000 and $35,000, respectively. The ultimate timing of the tax
consequences of the tax benefits is uncertain. A reconciliation of the
beginning and ending amount of unrecognized tax benefits is as follows:
Balance at July 30, 2007 upon adoption $ 3,139,000
Lapse of statute of limitations (2,737,000)
Accrued interest 107,000
--------------
Balance at August 3, 2008 $ 509,000
Impairment of goodwill 5,559,000
Additional state taxes 34,000
Accrued interest 13,000
--------------
Balance at August 2, 2009 $ 6,115,000
==============
In fiscal 2008, the Company recognized a tax benefit of $2,737,000,
including interest and penalties of $806,000, due to the expiration of the
statute of limitations in April 2008, for a deduction taken for an impaired
investment on a prior year's income tax return. The ultimate timing of the
tax consequences of the other tax benefits is uncertain.
The unrecognized tax benefits are included as "Other long-term liabilities"
in the Consolidated Balance Sheets.
(Loss) income from continuing operations before income taxes consists of
the following (in thousands):
Fifty-two Fifty-three Fifty-two
weeks ended weeks ended weeks ended
August 2, August 3, July 29,
2009 2008 2007
--------------- --------------- -------------
Domestic (loss) income $ (59,418)$ (21,678) $ (2,615)
Foreign (loss) income (174) 740 4,223
--------------- --------------- -------------
Total (loss) income $ (59,592)$ (20,938) $ 1,608
=============== =============== =============
F-20
(Benefit) provision for income taxes from continuing operations consists of
the following (in thousands):
Fifty-two Fifty-three Fifty-two
weeks ended weeks ended weeks ended
August 2, August 3, July 29,
2009 2008 2007
--------------- --------------- ---------------
Current:
Federal $ (286)$ (4,968) $ 283
State 143 (531) (448)
Foreign 50 (229) 456
--------------- --------------- ---------------
(93) (5,728) 291
--------------- --------------- ---------------
Deferred:
Federal (18,645) (4,421) (968)
State (149) (22) (114)
Foreign 15 (83) -
--------------- --------------- ---------------
(18,779) (4,526) (1,082)
--------------- --------------- ---------------
$ (18,872)$ (10,254) $ (791)
=============== =============== ===============
The Company (received refunds) paid income taxes of approximately
($2,430,000), ($1,217,000) and $225,000 in fiscal 2009, 2008 and 2007,
respectively.
The benefit for income taxes from continuing operation for fiscal 2009 was
$18,872,000 representing an effective income tax benefit rate of 31.7%,
compared to an effective income tax benefit rate of 49.0% in fiscal 2008
and 49.2% in fiscal 2007. The 31.7% benefit in fiscal 2009 is less than the
statutory rate of 35% primarily due to the unfavorable effect of a portion
of the goodwill impairment that is not deductible for tax purposes, the
benefit of research and development credits, as well as the estimated
benefit of state net operating losses. The benefit rate of 49.0% in fiscal
2008 exceeds the statutory rate of 35% primarily due to the reversal of FIN
48 liabilities of approximately $2.7 million that are no longer needed due
to the expiration of the statute of limitations for an earlier tax year in
which an uncertain tax position had been taken. Another major component to
the benefit was the tax on the non-deductible penalty paid as part of a
litigation settlement, which reduced the benefit by 6.0%. The negative
effective tax rate of 49.2% in fiscal 2007 is primarily attributable to (a)
the extension of the R&D tax credit by Congress in December 2006
retroactive to January 1, 2006, (b) an increase in the proportion of
overall earnings generated through the Company's foreign operations where
earnings are taxed at lower rates than domestically, and (c) the
elimination of certain tax accruals that were no longer deemed necessary.
The following is a reconciliation of the U. S. Federal statutory income tax
rate and the effective tax rate on pretax income from continuing
operations:
Fifty-two Fifty-three Fifty-two
weeks ended weeks ended weeks ended
August 2, August 3, July 29,
2009 2008 2007
--------------- --------------- --------------
Tax (benefit) provision at
Federal statutory rate 35.0% 35.0% 35.0%
State income taxes, net of
Federal income tax benefit 3.2 2.0 (1.8)
Benefit of extra territorial income - - (7.7)
Non-deductible expenses (0.1) (0.7) 0.3
Impairment of goodwill (7.2) - -
Benefit of foreign and
foreign-source income (0.2) 1.3 (48.6)
Research and development credits 1.3 0.6 (5.1)
Tax exempt interest - - (3.4)
Adjustment of prior year accrual (0.2) 3.3 (8.3)
Non-deductible fine - (6.0) -
Reversal of unrecognized tax benefits - 13.4 (10.7)
Other, net (0.1) 0.1 1.1
--------------- --------------- --------------
Effective tax rate 31.7% 49.0% (49.2)%
=============== =============== ==============
In fiscal 2009, the Company recorded benefits from accrual adjustments from
the previous year consisting of: (1) a benefit relating to the research and
development credit from fiscal 2008; and (2) state NOL adjustments to
true-up both fiscal 2008 and reflect current year estimates. These items
were included in the tax benefit recorded in fiscal 2009.
The Company has undistributed earnings in foreign subsidiaries of
approximately $19,000,000. Income taxes have not been provided on
undistributed earnings of foreign subsidiaries. If remitted as dividends,
these earnings could become subject to additional tax. The Company's
intention is to reinvest non-remitted earnings of subsidiaries outside the
United States permanently.
F-21
The tax effects of significant items comprising deferred income taxes are
as follows (in thousands):
August 2, 2009 August 3, 2008
Deferred Tax Assets Long-term Deferred Tax Assets Long-term
Long- Deferred Tax Long- Deferred Tax
Current Term Liabilities Current Term Liabilities
------- ----- ----------- ------- ---- -----------
Intangibles $ - $ 6,474 $ 6,799 $ - $ - $ 7,334
Impairment of goodwill 5,559 - - - - -
Accrued vacation pay 888 - - 959 - -
Accrued bonus 115 - - 179 - -
Accrued warranty and other costs 227 - - 388 - -
Inventory 2,646 - - 2,538 - -
Depreciation - - 3,575 - - 3,420
Accrual for contract losses 949 - - 899 - -
Net operating loss and other carry-forwards 4,732 10,175 - 5,488 - -
Accrued employment settlement costs 3,808 148 - 458 959 -
Plant closing costs - - - 133 - -
Stock-based compensation - 1,113 - - 936 -
Other 456 35 - 221 20 -
-------- ------- -------- -------- ------- --------
$ 19,380 $17,945 $10,374 $ 11,263 $ 1,915 $ 10,754
======== ======= ======== ======== ======= ========
As of August 2, 2009, the Company has available net operating loss
carry-forwards for state and Federal income tax purposes of approximately
$30,746,000 and $20,656,000, respectively, with expiration dates through
2029. Unused research and development credits of approximately $1,128,000,
which expire in 2029, are available for Federal income tax purposes, as
well as an AMT credit of $163,000. All refunds in excess of $2,000,000 are
subject to review by the Joint Committee on Taxation. The IRS is currently
conducting its review of our fiscal 2008 net operating loss carry-back
claim for which the Company received refunds of approximately $2,430,000.
Management does not believe such review will result in any adjustment. In
addition, the tax returns of the Company and its wholly-owned subsidiary,
General Microwave Corporation, for fiscal years 2006 through 2008 are
currently under examination by the New York State Department of Taxation.
The Company does not expect any assessment to have a material effect on the
Company's Consolidated Financial Statements.
NOTE H- LONG-TERM DEBT
Long-term debt is summarized as follows (in thousands):
August 2, August 3,
Rate 2009 2008
---- -------- ---------
Revolving loan facility (a) 3.50% $ - $ 2,500
Mortgage note (b) 2.06% 1,954 2,105
Industrial Revenue Bonds (c) 4.07% 2,230 2,355
Term loan (d) 2.13% 9,250 -
Note payable (e) 6.75% 90 633
Note payable (f) 5.35% 192 681
Other - 125 212
------------ ----------
13,841 8,486
Less: current portion 1,595 1,394
------------ ----------
$ 12,246 $ 7,092
============ ==========
(a)On April 30, 2007, the Company replaced its existing credit facility with a
new $40,000,000 Revolving Credit Loan Agreement with two banks on an
unsecured basis which may be used for general corporate purposes, including
business acquisitions and stand-by letters of credit. The agreement
requires the payment of interest only on a monthly basis and payment of the
outstanding principal balance on March 31, 2011. The Company may elect to
borrow with interest at the bank's prime rate of interest minus 0.50%; or
the greater of LIBOR plus a margin of 2.50% or 3.50% (effective May 4,
2009) (the margin was 1.65% at August 3, 2008). There is a fee of 20 basis
points per annum on the unused portion of the credit facility payable
quarterly and a fee of 1.25% per annum on outstanding stand-by letters of
credit. Stand-by letters of credit in the amount of approximately
$13,271,000 were outstanding at August 2, 2009 (see Note F). If at any time
the Company's backlog of orders falls below $50,000,000, the bank may
obtain a security interest in eligible accounts receivable, as defined, and
if the outstanding advances are greater than 100% of eligible receivables,
a lien on all inventories. Funded backlog relating to continuing operations
as of August 2, 2009 was approximately $181,936,000. There were no
borrowings under the line at August 2, 2009. A loan of $2,500,000 was
outstanding under the line at August 3, 2008.
F-22
The agreement contains various financial covenants, including, among other
matters, minimum tangible net worth, total liabilities to tangible net
worth, debt service coverage and restrictions on other borrowings. The
Company did not meet the minimum tangible net worth covenant at August 2,
2009 by approximately $2,418,000 and has obtained a waiver from its bank
and was in compliance with all other financial covenants at August 2, 2009.
In October 2009, the Company entered into a modification of its existing
credit facility. Under the terms of the modification, the Company will pay
a fee of 25 basis points per annum on the unused portion of the credit
facility payable quarterly and a fee of 1.5% per annum on outstanding
stand-by letters of credit. In addition, the Company will pay a fee of 25
basis points per annum on outstanding borrowings under the facility until
such time as the Company's tangible net worth, as defined, is equal to a
minimum of $90,000,000. In addition, the modification revised the minimum
tangible net worth covenant to $80,000,000 through the second quarter, and
$85,000,000 through the third quarter, respectively, of fiscal 2010. The
covenant reverts to a minimum requirement of $90,000,000 at the end of
fiscal 2010.
(b) The mortgage loan is for a term of ten years commencing February 16, 1999
(with an extended maturity as modified to March 1, 2014) with fixed monthly
principal and interest installments of $23,359 based upon a twenty-year
amortization including interest at a fixed rate of 7.43% through March 1,
2009 and at LIBOR plus 1.75% thereafter. The loan is secured by a mortgage
on the Company's land and building in Lancaster, Pennsylvania having a net
book value of approximately $1,644,000 at August 2, 2009.
The mortgage note agreement contains various financial covenants
incorporated under the credit facility discussed in (a) above. In
connection with this loan, the Company paid approximately $45,000 in
financing costs. Such costs are included in "Other assets" in the
Consolidated Balance Sheets net of amortization over the term of the loan.
(c) On October 19, 2001, the Company received $3,000,000 in proceeds from the
East Hempfield Township Industrial Development Authority Variable Rate
Demand/Fixed Rate Revenue Bonds Series of 2001 (the "Bonds"). The Bonds are
due in varying annual installments through October 1, 2021. The initial
installment of $95,000 was paid October 1, 2002 and increases each year
until the final payment of $225,000 in 2021. The payment due October 1,
2009 is $130,000. The interest rate on the Bonds is reset weekly at the
prevailing market rate of the BMA Municipal Index. The initial rate of
interest was 2.1%, which, after giving effect to a ten-year interest rate
swap agreement (see Note Q) becomes a fixed rate of 4.07%. The interest
rate at August 2, 2009 was 0.56%. The bond agreement requires a sinking
fund payment on a monthly basis to fund the annual Bonds redemption
installment. Proceeds from the Bonds were used for the construction of a
15,000 square foot expansion of the Company's facilities in Lancaster,
Pennsylvania, and for manufacturing equipment.
The Bonds are secured by a letter of credit of approximately $2,263,000
expiring October 18, 2011 and a mortgage on the related properties is
pledged as collateral. The net book value of the land and building covered
by the mortgage was approximately $1,618,000 at August 2, 2009.
(d) On September 16, 2008, the Company entered into a ten-year term loan with a
bank in Israel in the amount of $10,000,000 in connection with the
acquisition of Eyal. The loan is payable in quarterly installments of
$250,000 plus interest at LIBOR plus a margin of 1.5% (see Note B). The
interest rate at August 2, 2009 was 2.125%. The loan agreement contains
various financial covenants which have been met at August 2, 2009,
including, among other matters, minimum net equity as defined.
(e) In June 2006, in connection with the implementation of an integrated
manufacturing and financial accounting and reporting software package, the
Company entered into a loan agreement for the principal sum of $1,626,501.
The note is payable in thirty-six monthly payments of approximately
$45,181, including imputed interest at 6.75% per annum. Proceeds of the
loan were used to license certain software and related maintenance fees
from Microsoft Corporation.
(f) The Company entered into an additional financing agreement in August 2006
with the lenders noted in (e) above providing for loans not to exceed an
aggregate of $2,000,000. Amounts borrowed under the agreement are payable
in thirty-six equal monthly installments with interest at 5.354% per annum.
The Company borrowed an aggregate of $1,400,000 with monthly payments
totaling approximately $42,750.
The Company paid interest in fiscal 2009, 2008 and 2007 of approximately
$548,000, $406,000 and $469,000, respectively.
F-23
Future payments required on long-term debt are as follows (in thousands):
Fiscal year ending during: Amount
-------------------------- ------
2010 $ 1,595
2011 1,322
2012 1,330
2013 1,343
2014 2,356
Thereafter 5,895
-------------
$ 13,841
=============
NOTE I - EMPLOYMENT SETTLEMENT AGREEMENTS
Effective October 12, 2006 and as a condition to entering into an
Administrative Agreement with the Department of the Navy the Company
entered into an agreement with its former Chairman at the time to terminate
the employment agreement between the Company and him dated as of July 29,
2002 and modified on December 9, 2003. Under the terms of the agreement he
will receive payments totaling $9,461,528 payable $3,000,000 upon the
effective date of the agreement and sixty-four (64) consecutive monthly
payments of $100,000 commencing on January 1, 2007 and a final payment of
$61,528 on May 1, 2012 as evidenced by a non-interest bearing promissory
note dated effective October 12, 2006. In addition, he received his bonus
of $636,503 for fiscal year 2006, and shall be entitled to receive medical
care reimbursement and insurance, including life insurance, in accordance
with the original terms of his employment agreement. The agreement also
provides that all outstanding stock options previously issued to him which
are all vested and fully exercisable shall continue to be exercisable by
him or, following his death, by his designated beneficiaries, on or before
the expiration date of the specific option.
Aggregate costs of approximately $8,914,000 under the agreement, including
an initial cash payment of $3,000,000, payments due under the note of
approximately $5,354,000, medical and life insurance benefits of
approximately $364,000 (both discounted at an imputed interest rate of
6.75%) and the fair value of the modification of the stock options of
approximately $196,000 (using the Black-Scholes option valuation model),
have been recorded in the consolidated financial statements for fiscal
2007.
On September 26, 2006, as required under the terms of the Administrative
Agreement the former Chairman entered into a voting trust agreement wherein
sole voting power to 1,301,000 shares under stock options held by him and
28,799 shares held in his IRA was granted to the Company's Chairman, Myron
Levy. In the event of a "change of control" of the Company as defined in
the employment agreement all remaining payments due under the promissory
note become immediately due and payable.
On June 25, 2009, a Special Committee of the Board of Directors authorized
an accelerated payment to the former Chairman under the terms of his
agreement with the Company. The event which caused acceleration was a
change in control of the Company as defined in the agreement as the
ownership of 20% or more of the outstanding voting securities of the
Company. The triggering event caused the acceleration of approximately
$3,362,000 otherwise payable over the next 34 months so that the full
amount became immediately payable. Of this amount, approximately $3,055,000
has previously been expensed by the Company. A charge to operations of
approximately $307,000, representing imputed interest, has been recorded in
the consolidated financial statements during the fourth quarter of fiscal
2009.
Effective July 22, 2009, the Company entered into an agreement with Myron
Levy, then Chairman and Chief Executive Officer of the Company, terminating
his employment agreement. The agreement provides that in full satisfaction
of all prior, current and future obligations to Mr. Levy under the
employment agreement, Mr. Levy is to receive an immediate lump sum payment
of $4,705,000 (which was paid in August 2009) and thereafter monthly
payments of $100,000 commencing on September 1, 2009 for thirty-five
consecutive months through July 1, 2012. Payments are through a
non-interest bearing promissory note. Mr. Levy also shall continue as a
consultant to the Company for three years at an annual compensation of
$50,000 and is to receive certain other benefits, including any annual
bonus for fiscal 2009, as well as medical reimbursement and insurance in
accordance with the original terms of his employment agreement. The
agreement also provides that all outstanding stock options previously
issued to him which are all vested and fully exercisable shall continue to
be exercisable by him or, following his death, by his designated
beneficiaries, on or before the expiration date of the specific option.
Aggregate costs of approximately $8,679,000 under the agreement, including
the initial cash payment of $4,705,000, payments due under the note of
approximately $3,500,000, payments due under the consulting agreement of
$150,000, medical and life insurance benefits of approximately $241,000
(all discounted at an imputed interest rate of 3.5%) and the fair value of
the modification of the stock options of approximately $256,000 (using the
Black-Scholes option valuation model), have been recorded in the
consolidated financial statements during the fourth quarter of fiscal 2009.
Effective August 1, 2009, the Company entered into an agreement with
Jeffrey L Markel, then Chief Operating Officer of the Company, terminating
his employment agreement. The Agreement provides that in full satisfaction
F-24
of all prior, current and future obligations to Mr. Markel under the
employment agreement, Mr. Markel is to receive an immediate lump sum
payment of approximately $1,370,000. Mr. Markel also shall continue as a
consultant to the Company for three years at an annual compensation of
approximately $67,000 and is to receive certain other benefits through July
31, 2011, including medical reimbursement in accordance with the original
terms of his employment agreement. The agreement also provides that all
outstanding stock options previously issued to him shall vest immediately
and become fully exercisable for a period of ninety days.
Aggregate costs of approximately $1,874,000 under the agreement, including
the initial cash payment of approximately $1,370,000, payments due under
the consulting agreement of $200,000, medical and other benefits of
approximately $52,000 (all discounted at an imputed interest rate of 3.5%)
and the unamortized fair value of the stock options of approximately
$262,000 have been recorded in the consolidated financial statements during
the fourth quarter of fiscal 2009.
NOTE J - ACCOUNTS PAYABLE, ACCRUED EXPENSES AND WARRANTY COSTS
Accounts payable and accrued expenses include the following (in thousands):
August 2, August 3,
2009 2008
------------ ------------
Accounts payable $ 15,354 $ 15,502
Accrued payroll, bonuses and related costs 6,776 6,761
Accrued commissions 712 1,254
Accrued legal and accounting fees 656 1,302
Accrued rent expense 316 1,123
Accrued contract penalties 178 733
Other accrued expenses 1,517 914
------------ ------------
$ 25,509 $ 27,589
============ ============
The Company warrants its products generally for a period of one year.
Product warranty costs are accrued based on historical claims experience.
Accrued warranty costs are reduced as warranty repair costs are incurred.
The following table presents the change in the accrual for product warranty
costs for fiscal 2009 and 2008, respectively (in thousands):
Fifty-two Fifty-three
weeks ended weeks ended
August 2, August 3,
2009 2008
-------------- --------------
Balance at beginning of period $1,142 $ 1,106
Provision for warranty obligations 1,692 1,260
Warranty liability of discontinued business (250) -
Warrant costs charged to the reserve (1,646) (1,224)
-------------- --------------
Balance at end of period $ 938 $ 1,142
============== ==============
F-25
NOTE K - EMPLOYEE BENEFIT PLANS
In August 1985, the Board of Directors approved an Employee Savings Plan
("Plan") which qualified as a thrift plan under Section 401(k) of the
Internal Revenue Code ("Code"). Effective August 1, 2006, the Plan was
amended to allow employees to elect salary deferrals up to the maximum
dollar amounts permissible under Code Section 402(g) not to exceed the
limits of Code Section 401(k), 404 and 415. For the Plan year beginning
August 1, 2005, the Plan was amended to be considered a "Safe Harbor" plan,
where a contribution will be made to eligible participants in an amount
equal to 100% of the amount of each participant's elective deferral that
does not exceed 3% of compensation, plus 50% of the amount of the elective
deferral that exceeds 3% of compensation up to a maximum contribution of 5%
of compensation. Under the Safe Harbor provision, all contributions are
100% vested when made. Additional Company contributions can be made
depending on profits. The aggregate benefit payable to an employee is
dependent upon his rate of contribution, the earnings of the fund, and the
length of time such employee continues as a participant. The Company has
recognized expenses of approximately $1,260,000, $1,765,000 and $1,766,000
under the plans for fiscal 2009, 2008 and 2007, respectively. The Company
also contributed to a similar plan through EWST whereby the Company matches
employee elective contributions up to a maximum of 5% of compensation.
Expenses recognized for fiscal 2009, 2008 and 2007 were approximately
$94,000, $86,000 and $75,000, respectively.
The Company's Israeli subsidiaries provide for employee severance
liabilities pursuant to the Israeli severance pay law and labor agreements.
The Company's liability is fully provided for by monthly payments deposited
with insurers and by a reserve established by the Company to cover the
portion of this liability not covered by the Company's deposits. In
addition to recognizing an expense for the funding to the insurance
programs for this severance obligation, the Company also records as expense
the net increase in its unfunded severance liability. The liability for
this unfunded severance obligation is included in "Other long-term
liabilities" in the Consolidated Balance Sheets and was $2,231,000 and
$1,651,000 at August 2, 2009 and August 3, 2008, respectively. The total
expense recognized for employee severance programs in Israel (both the
funded and unfunded portion of the program) was approximately $1,055,000,
$458,000 and $228,000 for fiscal 2009, 2008 and 2007, respectively.
NOTE L - RELATED-PARTY TRANSACTIONS
Prior to the acquisition of MSI, MSI had leased one of its two buildings in
Fort Walton Beach, Florida from MSI Investments, a Florida General
Partnership. MSI Investments is owned by four individuals, two of whom are
currently employees of MSI and one serves as a consultant. Lease costs paid
in fiscal 2009, 2008 and 2007 were $290,000, $281,000 and $273,000,
respectively.
On August 24, 2005, the Company amended its lease agreements with a
partnership partially owned by the children of the Company's former
Chairman to incorporate two individual leases into a single lease and
extended the term of the initial leases to August 31, 2010. The Company
incurred rent expense of approximately $494,000, $478,000 and $487,000 in
fiscal 2009, 2008 and 2007, respectively, under the leases. During the
fourth quarter of fiscal 2008, the Company decided to close its
manufacturing facility in Farmingdale, New York and transfer its contracts
and assets to its other facilities in Whippany, New Jersey; Woburn,
Massachusetts; Lancaster, Pennsylvania; and Jerusalem, Israel. On January
25, 2009, the Company entered in a modification of the lease to reduce the
amount of space it was leasing and reduce the annual rental payments
remaining under the lease to approximately $429,000 annually.
NOTE M - COMPUTATION OF PER SHARE EARNINGS
The Company follows the provisions of SFAS No. 128, "Earnings Per Share".
Basic earnings (loss) per common share (Basic EPS) are computed by dividing
net income (loss) by the weighted average number of common shares
outstanding. Diluted earnings (loss) per common share (Diluted EPS) are
computed by dividing net income (loss) by the weighted average number of
common shares and dilutive common share equivalents and convertible
securities then outstanding.
The following provides a reconciliation of the shares used in calculating
the per share amounts for fiscal 2009, 2008 and 2007 (in thousands):
F-26
Fifty-two Fifty-three Fifty-two
weeks ended weeks ended weeks ended
August 2, August 3, July 29,
2009 2008 2007
--------------- --------------- ---------------
Numerator:
Net (loss) income ($ 41,176) ($ 10,346) $ 3,118
=============== =============== ===============
Denominator:
Basic weighted-average shares 13,560 13,652 13,927
Effect of dilutive securities:
Employee stock options - - 468
--------------- --------------- ---------------
Diluted weighted-average shares 13,560 13,652 14,395
=============== =============== ===============
Stock options not included in computation 3,191 3,512 1,757
=============== =============== ===============
Employee stock options for 3,190,800 and 3,512,225 shares were not
considered in the computation of diluted loss per share calculations for
fiscal 2009 and 2008, respectively, as their effect is anti-dilutive. The
number of stock options not included in the computation of diluted EPS for
fiscal year 2007 relates to stock options having exercise prices which are
greater than the average market price of the common shares during the
period, and therefore, are anti-dilutive. The options, which were
outstanding as of August 2, 2009, expire at various dates through June 8,
2017 (see Note O).
NOTE N - COMPREHENSIVE (LOSS) INCOME
The foreign currency translation gain relates to the Company's investment
in its U.K. subsidiary and fluctuations in exchange rates between its local
currency and the U.S. dollar.
For fiscal 2009 and 2008, the components of accumulated other comprehensive
(loss) income is as follows (in thousands):
August 2, August 3,
2009 2008
------------------------
Unrealized loss on interest rate swap, net of taxes $ (77) $ (54)
Foreign currency translation gain (234) 1,676
------------------------
$ (311) $ 1,622
========================
NOTE O - SHAREHOLDERS' EQUITY
On July 22, 2009, the Company announced a resumption of the stock
repurchase program previously modified on October 12, 2007 to purchase up
to 3,000,000 shares in the open market. As of August 2, 2009, the Company
has acquired an aggregate of approximately 2,392,000 shares of common stock
under this program, of which 493,938 shares were acquired during fiscal
2008 at an aggregate cost of approximately $7,139,000. No shares were
repurchased in fiscal 2009.
Summary of Stock Option Plans:
In August 2006, the Board of Directors ratified and approved the 2006 New
Employee Stock Option Plan which covers 600,000 shares (as amended July 22,
2009) of the Company's common stock. The plan as amended provides for the
issuance of restricted stock or granting of non-qualified stock options.
Under the terms of the plan, the exercise price for options granted under
the plan will be the fair market value at the date of grant. The fair value
of restricted shares issued is based on the closing price on the day prior
to the date of issue. Vesting of the shares issued is determined at the
time of issue by the Compensation Committee or the Board of Directors. The
nature and terms of the options to be granted are determined at the time of
grant by the Compensation Committee or the Board of Directors. The options
expire no later than ten years from the date of grant, subject to certain
restrictions. Options for 5,000 and 4,000 shares were granted under the
plan during fiscal years 2009 and 2008, respectively. Options for 28,000
shares were cancelled under the plan in fiscal 2009. Options for 236,000
shares of common stock are available for grant under the plan as of August
2, 2009.
In March 2003, the Board of Directors approved the 2003 Stock Option Plan
which covers 1,000,000 shares of the Company's common stock. Options
granted under the plan are non-qualified stock options. Under the terms of
the plan, the exercise price for options granted under the plan will be the
fair market value at the date of grant. The nature and terms of the options
to be granted are determined at the time of grant by the Compensation
Committee or the Board of Directors. The options expire no later than ten
F-27
years from the date of grant, subject to certain restrictions. Options for
50,000 shares were granted under the plan during fiscal 2009. No options
were granted under the plan in fiscal 2008. Options for 90,700 shares were
cancelled under the plan in fiscal 2009 and options for 59,400 shares of
common stock are available for grant under the plan as of August 2, 2009.
In September 2000, the Board of Directors approved the 2000 Stock Option
Plan which covers 1,500,000 shares of the Company's common stock. Options
granted under the plan are non-qualified stock options. Under the terms of
the plan, the exercise price for options granted under the plan will be the
fair market value at the date of grant. The nature and terms of the options
to be granted are determined at the time of grant by the Compensation
Committee or the Board of Directors. The options expire no later than ten
years from the date of grant, subject to certain restrictions. Options for
34,000 shares were granted under the plan in fiscal 2009 and options for
10,000 shares were cancelled. Options for 8,250 shares of common stock are
available for grant under the plan as of August 2, 2009.
In April 1998, the Board of Directors approved the 1998 Stock Option Plan
which covers 2,250,000 shares of the Company's common stock. The plan has
expired with respect to the granting of new options. Options which have
been granted under the plan are non-qualified stock options. Under the
terms of the plan, the exercise price for options granted under the plan
will be the fair market value at the date of grant. Prices for incentive
stock options granted to employees who own 10% or more of the Company's
stock are at least 110% of market value at date of grant. The nature and
terms of the options to be granted are determined at the time of grant by
the Compensation Committee or the Board of Directors. The options expire no
later than ten years from the date of grant, subject to certain
restrictions. Stock options for 226,000 shares were exercised in fiscal
2009. There are no options available for grant under the plan.
In May 1997, the Board of Directors approved the 1997 Stock Option Plan
which covers 2,500,000 shares of the Company's common stock. The plan has
expired with respect to the granting of new options. Options which have
been granted under the plan are non-qualified stock options. Under the
terms of the plan, the exercise price for options granted under the plan
will be the fair market value at the date of grant. Prices for incentive
stock options granted to employees who own 10% or more of the Company's
stock are at least 110% of market value at date of grant. The nature and
terms of the options to be granted are determined at the time of grant by
the Compensation Committee or the Board of Directors. The options expire no
later than ten years from the date of grant, subject to certain
restrictions. Stock options for 37,525 shares were exercised and options
for 15,200 shares were cancelled in fiscal 2009. There are no options
available for grant under the plan.
In October 1995, the Board of Directors approved the 1996 Stock Option Plan
which covers 1,000,000 shares of the Company's common stock. The plan has
expired with respect to the granting of new options. Options which have
been granted under the plan are non-qualified stock options. Under the
terms of the plan, the exercise prices of the options granted under the
plan were at the fair market value at the date of grant. The options expire
not later than ten years from the date of grant.
A summary of stock option activity under all plans for fiscal 2009, 2008
and 2007 is as follows:
Non-Qualified Stock Options Weighted Aggregate
- --------------------------- Average Intrinsic
Number Price Range Exercise Value (1)
of shares per share Price (in thousands)
-------------- ---------------- -------------- --------------
Outstanding July 30, 2006 3,490,080 $ 4.06 - 20.45 $ 14.41
Granted 406,500 15.77 - 17.82 $ 16.56
Exercised (116,630) 4.06 - 13.10 $ 10.45
Cancelled (139,500) 13.10 - 20.09 $ 18.86
-------------- ---------------- --------------
Outstanding July 29, 2007 3,640,450 $ 4.06 - 20.45 $ 14.41
Granted 4,000 12.58 - 15.16 $ 13.87
Exercised (38,725) 7.25 - 13.10 $ 8.30
Cancelled (93,500) 14.50 - 20.09 $ 18.95
-------------- ---------------- --------------
Outstanding August 3, 2008 3,512,225 $ 7.25 - 21.18 $ 14.84
Granted 89,000 10.39 - 17.09 $ 10.85
Exercised (263,525) 7.63 - 9.30 $ 8.99
Cancelled (146,900) 8.00 - 20.09 $ 17.84
-------------- ---------------- --------------
Outstanding August 2, 2009 3,190,800 $ 8.38 - 21.18 $ 15.03 $ 2,146
============== -------
Exercisable August 2, 2009 2,934,200 $ 15.06 $ 2,002
-------------- -------------- -------
Vested and expected to vest August 2, 2009 3,166,440 $ 15.04 $ 2,129
-------------- -------------- -------
(1) There are 2,152,200 vested options with exercise prices greater than the
closing stock price of $12.18 as of August 2, 2009.
F-28
Options outstanding and exercisable by price range as of August 2, 2009,
with expiration dates ranging from December 23, 2009 to June 8, 2017 are as
follows:
Options Outstanding Options Exercisable
------------------- -------------------
Weighted
Average Weighted Weighted
Range of Exercise Number Remaining Average Number Average
Prices Outstanding Contractual Life Exercise Price Exercisable Exercise Price
----------------- --------------- ---------------- -------------- -------------- ----------------
$8.38 - 10.46 862,000 1.32 $ 9.69 782,000 $ 9.62
12.18 - 15.77 799,200 4.07 13.96 692,000 13.70
15.78 - 17.82 173,100 4.86 17.64 128,500 17.62
17.98 - 17.98 727,000 3.50 17.98 710,600 17.98
18.57 - 21.18 629,500 2.54 19.58 621,100 19.57
--------------- ---- -------------- -------------- ----------------
$8.38 - 21.18 3,190,800 2.94 $ 15.03 2,934,200 $ 15.06
=============== ==============
In July 2009, in connection with the appointments of the Company's Chief
Executive Officer and Senior Vice President, the Board of Directors awarded
non-qualified stock options to purchase 50,000 shares and 25,000 shares of
common stock, respectively, at the closing stock price on the date prior to
such appointment of $10.39 per share. The options vest in equal annual
installments over a three-year period.
NOTE P - SIGNIFICANT SEGMENTS, MAJOR CUSTOMERS, EXPORT SALES AND GEOGRAPHIC
INFORMATION
The Company's chief operating decision makers are considered to be the
Chairman and the Chief Executive ("Chief Executive Officers"). The
Company's Chief Executive Officers evaluate both consolidated and
disaggregated financial information, primarily gross revenues and cash
flows, in deciding how to allocate resources and assess performance. The
Chief Executive Officers also use certain disaggregated financial
information for the Company's product groups. The Company does not
determine a measure of operating income or loss by product group. The
Company's product groups have similar long-term economic characteristics,
such as application, and are similar in regards to (a) nature of products
and production processes, (b) type of customers and (c) method used to
distribute products. Accordingly, the Company operates as a single
integrated business and, as such, has one operating segment as a provider
of complex microwave technology solutions for the defense, aerospace and
medical industries worldwide. All of the Company's revenues result from
sales of its products.
Net sales for fiscal 2009, 2008 and 2007 were as follows: defense
electronics, $150,916,000, $125,873,000 and $123,024,000, respectively; and
commercial technologies, $9,173,000, $10,215,000 and $14,826,000,
respectively.
Approximately 61%, 62% and 64% of our net sales for fiscal 2009, 2008 and
2007, respectively, were made to United States government agencies and
their contractors and subcontractors for defense programs. Net sales
directly to the U.S. Government in fiscal 2009, 2008 and 2007 accounted for
approximately 12%, 14% and 12% of net sales, respectively. Lockheed Martin
Corporation and Northrop Grumman Corporation accounted for approximately
13% and 16% of net sales in fiscal 2009; and each accounted for
approximately 12% of net sales in fiscal 2008. No other customer accounted
for 10% or more of consolidated net sales during the periods presented.
Sales to foreign customers amounted to approximately $52,548,000 (33%),
$45,193,000 (33%) and $42,836,000 (31%) in fiscal 2009, 2008 and 2007,
respectively.
Geographic net sales based on place of contract performance were as follows (in
thousands):
2009 2008 2007
---------- ---------- ----------
United States $ 120,924 $ 113,123 $ 114,059
Israel 35,413 19,166 19,207
England 3,752 3,799 4,584
---------- ---------- ----------
$ 160,089 $ 136,088 $ 137,850
========== ========== ==========
Net property, plant and equipment by geographic area were as follows (in
thousands):
2009 2008
---------- ----------
United States $ 25,011 $ 25,864
Israel 7,703 4,495
England 158 193
---------- ----------
$ 32,872 $ 30,552
========== ==========
F-29
Total assets of foreign subsidiaries accounted for approximately 28% and
12% of total consolidated assets in fiscal 2009 and 2008, respectively; and
total foreign liabilities accounted for approximately 67% and 8% of total
consolidated liabilities in fiscal 2009 and 2008, respectively. The
increases are primarily attributable to the acquisition of Eyal.
NOTE Q - DERIVATIVE FINANCIAL INSTRUMENTS
In October 2001, the Company entered into an interest rate swap with a bank
pursuant to which it exchanged floating rate interest in connection with
the Bonds discussed in Note H on a notional amount of $3,000,000 for a
fixed rate of 4.07% for a ten-year period ending October 1, 2011. The
notional amount reduces each year in tandem with the annual installments
due on the Bonds. The fixing of the interest rate for the ten year period
offsets the Company's exposure to the uncertainty of floating interest
rates on the Bonds, and as such has been designated as a cash flow hedge.
The hedge is deemed to be highly effective and any ineffectiveness will be
recognized in interest expense in the reporting period. The fair value of
the interest rate swap was a liability of $125,000 and $87,200 as of August
2, 2009 and August 3, 2008, respectively. There was no material hedge
ineffectiveness related to cash flow hedges during the period to be
recognized in earnings. There was no gain or loss reclassified from
accumulated other comprehensive income into earnings during the fiscal year
ended August 2, 2009 as a result of the discontinuance of a cash flow hedge
due to the probability of the original forecasted transaction not
occurring.
NOTE R - FAIR VALUES OF FINANCIAL INSTRUMENTS
In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements,
which defines fair value, establishes a framework for measuring fair value
in accordance with U.S. GAAP, and expands disclosures about fair value
measurements. The statement clarifies that the exchange price is the price
in an orderly transaction between market participants to sell an asset or
transfer a liability at the measurement date. The statement emphasizes that
fair value is a market-based measurement and not an entity-specific
measurement. It also establishes a fair value hierarchy used in fair value
measurements and expands the required disclosures of assets and liabilities
measured at fair value. Where available, fair value is based on observable
market prices or is derived from such prices. The market approach uses
prices and other pertinent information generated from market transactions
involving identical or comparable assets or liabilities. The fair value
hierarchy ranks the quality and reliability of the information used to
determine fair values. Financial assets and liabilities carried at fair
value are classified and disclosed in one of the following three
categories:
Level 1 - Observable inputs such as quoted prices in active markets.
Level 2 - Inputs, other than the quoted prices in active markets, that
are observable either directly or indirectly.
Level 3 - Unobservable inputs in which there is little or no market
data, which require the reporting entity to develop its own
assumptions.
In certain cases, the inputs used to measure fair value may fall into
different levels of the fair value hierarchy. In such cases, the assignment
of an asset or liability within the fair value hierarchy is based on the
lowest level of input that is significant to the fair value measurement.
The Company's assessment of the significance of a particular input to the
fair value measurement in its entirety requires judgment, and considers
factors specific to the asset or liability.
For financial assets and liabilities, this statement is effective for
fiscal periods beginning after November 15, 2007 and does not require any
new fair value measurements. In February 2008, the FASB Staff Position No.
157-2 ("FSP 157-2") was issued which delayed the effective date of SFAS No.
157 to fiscal years beginning after November 15, 2008 for non-financial
assets and liabilities, except for items that are recognized or disclosed
at fair value in the financial statements on a recurring basis (at least
annually). The Company adopted the provisions of SFAS No. 157, as amended
by FSP 157-2, on August 4, 2008. Pursuant to the provisions of FSP 157-2,
the Company will not apply the provisions of SFAS 157 until August 3, 2009
for non-financial assets and liabilities (principally goodwill and
intangible assets).
In February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for
Financial Assets and Financial Liabilities," to provide companies the
option to report selected financial assets and liabilities at fair value.
Upon adoption of the provisions of SFAS No. 159 on August 4, 2008, the
Company did not elect the fair value option to report its financial assets
and liabilities at fair value. Accordingly, the adoption of SFAS No. 159
did not have an impact on the Company's consolidated financial position or
results of operations.
In April 2009, the FASB issued FSP No. 157-4, "Determining Fair Value When
Volume and Level of Activity for the Asset or Liability Have Significantly
Decreased and Identifying Transactions That Are Not Orderly." FSP No. 157-4
provides guidance on how to determine the fair value of assets and
liabilities when the volume and level of activity for the asset/liability
has significantly decreased. FSP No. 157-4 also provides guidance on
identifying circumstances that indicate a transaction is not orderly. In
addition, FSP No. 157-4 requires disclosure in interim and annual periods
of the inputs and valuation techniques used to measure fair value and a
discussion of changes in valuation techniques. FSP No. 157-4 is effective
for us for the quarter ending August 2, 2009. The adoption of FSP No. 157-4
had no impact on our consolidated financial position, cash flows and
results of operations.
F-30
The following methods and assumptions were used by the Company in
estimating its fair value disclosures for financial instruments:
Cash and cash equivalents: The carrying amount reported in the
Consolidated Balance Sheet for cash and cash equivalents approximates
fair value because of the short-term maturity of those instruments.
Accounts receivable and accounts payable: The carrying amounts
reported in the Consolidated Balance Sheet for trade accounts
receivable and accounts payable approximates fair value because of the
short-term maturity of those instruments.
Long-term debt: The fair value of the mortgage note, industrial
revenue bonds (including the related interest rate swap) and term loan
was estimated using discounted cash flow analyses, based on the
Company's current incremental borrowing rate for similar types of
borrowing arrangements.
The carrying amounts and fair values of the Company's financial instruments
are presented below (in thousands):
August 2, 2009
---------------------------------------
Carrying Amount Fair Value
---------------------------------------
Cash and cash equivalents $ 14,820 $ 14,820
Long-term debt 12,246 12,246
F-31
NOTE S - QUARTERLY RESULTS (UNAUDITED)
The following is a summary of the unaudited quarterly results of operations
for fiscal 2009 and 2008, respectively (in thousands, except for per share
data). The quarter ended February 3, 2008 consisted of fourteen weeks.
2009 November 2, February 1, May 3, August 2,
2008 2009 2009 2009
---------- ----------- ----- ---------
Net sales $35,344 $39,974 $41,811 $42,960
Gross profit $6,603 $9,671 $11,198 ($30)
(Loss) income from continuing operations ($883) $2,153 $2,423 ($44,413)
Loss from discontinued operations ($456) - - -
---------- ----------- ------ ---------
Net (loss) income ($1,339) $2,153 $2,423 ($44,413)
========== ========== ====== =========
(Loss) earnings per common share - Basic
(Loss) income from continuing operations ($.07) $.16 $.18 ($3.26)
Loss from discontinued operations (.03) - - -
---------- ----------- ------ ---------
Net (loss) income - basic ($.10) $.16 $.18 ($3.26)
========== ========== ====== =========
Basic weighted average shares 13,525 13,550 13,559 13,607
========== ========== ====== =========
(Loss) earnings per common share - Diluted
(Loss) income from continuing operations ($.07) $.16 $.18 ($3.26)
Loss from discontinued operations (.03) - - -
---------- ----------- ------ ---------
Net (loss) income - diluted ($.10) $.16 $.18 ($3.26)
Diluted weighted average shares 13,525 13,746 13,721 13,607
========== ========== ====== =========
2008 October 28, February 3, May 4, August 3,
2007 2008 2008 2008
---------- ----------- ------ ---------
Net sales $32,538 $32,167 $33,516 $37,867
Gross profit $9,312 $5,441 $6,486 $7,001
Loss from continuing operations ($2,229) ($2,542) ($4,426) ($1,487)
(Loss) income from discontinued operations ($362) ($1,298) $834 $1,164
---------- ----------- ------ ---------
Net loss ($2,591) ($3,840) ($3,592) ($323)
========== ========== ====== =========
(Loss) income per common share - Basic and Diluted
Loss from continuing operations ($.16) ($.19) ($.33) ($.11)
(Loss) income from discontinued operations (.03) (.09) .06 .09
---------- ----------- ------ ---------
Net loss - basic and diluted ($.19) ($.28) ($.27) ($.02)
Basic and diluted weighted average shares 13,965 13,617 13,507 13,518
========== ========== ====== =========
Fiscal 2009
- -----------
In the first quarter ended November 2, 2008, the Company completed the
divestiture of ICI, which is reported as discontinued operations, and also
completed the acquisition of Eyal, with its results included within the results
from continuing operations beginning September 2008. The Company also completed
the sale of the assets of its machine shop at MSI resulting in a pre-tax gain of
approximately $618,000.
In the third quarter ended May 3, 2009, an adjustment of approximately
$2,000,000 was made to reflect an increase in estimated losses related to
contracts transferred from the Company's Farmingdale unit to other facilities;
and a reduction in estimated costs to complete a contract accounted for under
percentage of completion was made resulting in an increase in gross profit of
approximately $1,300,000 in the quarter.
In the fourth quarter ended August 2, 2009, the Company recorded the following
charges: (a) approximately $44,151,000 related to the impairment of goodwill and
other intangible assets; (b) approximately $10,553,000 related to employment
agreement settlements with two former officers of the Company; (c) approximately
$4,299,000 to cost of products sold related to the settlement of litigation with
a customer; (d) approximately $2,752,000 to net sales and $331,000 to cost of
products sold related to the settlement of a claim for equitable adjustment for
unpriced change orders; (e) approximately $3,073,000 to cost of products sold
related to the transition of the Farmingdale manufacturing operation, including
contract losses of approximately $1,100,000 and inventory write-offs of
approximately $1,973,000;
F-32
(f) approximately $1,283,000 to cost of products sold for additional
inventory adjustments and obsolescence reserves; and (h) approximately
$345,000 to selling and administrative expenses related to the abandonment
of fixed assets.
Fiscal 2008
-----------
In the first quarter ended October 28, 2007, the Company recorded a charge
of $6,000,000 in connection with a litigation settlement.
In the third quarter ended May 4, 2008, the Company recorded a $9,500,000
charge in connection with a litigation settlement. The income tax benefit
in the third quarter included the recognition of a tax benefit of
$2,737,000 due to the expiration of the statute of limitations relating to
a deduction taken for an impaired investment on a prior year tax return.
In the fourth quarter ended August 3, 2008, gross margin was negatively
affected by approximately $2,136,000 of contract loss provisions for two
development contracts at Herley Farmingdale. The fourth quarter also
includes an adjustment of $2,802,000 for legal fees receivable at the end
of the third quarter which, in accordance with generally accepted
accounting standards, has been eliminated in the fourth quarter of fiscal
2008.
NOTE T - SUBSEQUENT EVENTS
The Company evaluated events occurring subsequent to August 2, 2009 through
October 16, 2009 for potential recognition and disclosure in the
consolidated financial statements. No events have occurred that would
require adjustment to the consolidated financial statements, which were
issued on October 16, 2009.
**********