October 13, 1999
ADVANCED MATERIALS GROUP INC (ADMG)
Quarterly Report (SEC form 10-Q)
MANAGEMENT'S DISCUSSION AND ANALYSIS OF INTERIM FINANCIAL INFORMATION
RESULTS OF OPERATIONS
FY99 CURRENT THREE MONTHS VERSUS FY98
Net revenue for the third quarter ended August 29, 1999 was $7,737,000, an increase of 21.4% from the same period of fiscal 1998. The increase in net revenues for the third quarter of fiscal 1999 is primarily attributable to higher volumes offset by negative price variances in key customer accounts.
Cost of sales as a percentage of net revenue was 94.2 percent for the third quarter of fiscal 1999, compared to 78.8 percent for the third quarter of fiscal 1998, a 15.4 percentage point increase. The increase in cost of sales for the third quarter of fiscal 1999, compared to the third quarter of fiscal 1998, is due to volume increases and increases in the Company's fixed manufacturing costs primarily due to headcount increases in engineering and manufacturing support.
Operating expenses as a percentage of net revenue were 17.6 percent for the third quarter of fiscal 1999, compared to 16.1 percent for the third quarter of fiscal 1998, a 1.5 percentage point increase. Operating expenses increased by 32.5% for the third quarter of fiscal 1999, compared to operating expenses for the third quarter of fiscal 1998. The increase in operating expenses for the third quarter of fiscal 1999, compared to the third quarter of fiscal 1998, is primarily attributible to headcount increases in general and administrative and costs associated with terminated acquisition talks.
The provision for taxes as a percentage of earnings before taxes was 0 percent in the third quarter of fiscal 1999 compared to 5.1% for the corresponding period in the prior year and 35.7 percent of income from continuing operations for the entire fiscal 1998. The annual effective tax rate will be impacted by the loss incurred in the first quarter and net operating loss carryforwards from fiscal 1998.
Net loss for the third quarter of fiscal 1999 was $1,099,000, compared to net earnings of $141,000 for the third quarter of 1998. Basic loss per share for the third quarter of fiscal 1999 was thirteen cents per share on a weighted average of 8.6 million shares, compared to basic earnings per share of two cents on a weighted average of 8.8 million shares for the third quarter of fiscal 1998.
FY99 CURRENT NINE MONTHS VERSUS FY98
Net revenue for the nine months ended August 29, 1999 was $24,176,000, an increase of 12.1% from the same period of fiscal 1998. The increase in net revenues for the first nine months of fiscal 1999 is primarily attributable to higher volumes offset by negative price variances in key customer accounts.
Cost of sales as a percentage of net revenue was 88.3 percent for the first nine months of fiscal 1999, compared to 75.3 percent for the first nine months of fiscal 1998, a 13.0 percentage point increase. The increase in cost of sales for the first nine months of fiscal 1999, compared to the first nine months of fiscal 1998, is due to volume increases, the addition of manufacturing fixed costs as a result of the Company's expansion in Ireland and the gross profit sharing agreement with the Company's strategic manufacturing partner in Singapore.
Operating expenses as a percentage of net revenue were 15.1 percent for the first nine months of fiscal 1999, compared to 14.3 percent for the first nine months of fiscal 1998, a 0.8 percentage point increase. The increased spending level for the first nine months of fiscal 1999, compared to the first nine months of fiscal 1998, is primarily attributible to added costs at the Company's Ireland subsidiary and costs associated with terminated acquisition talks.
The provision for taxes as a percentage of earnings before taxes was 0 percent in the first nine months of fiscal 1999 compared to 30.5% for the corresponding period in the prior year and 35.7 percent of
income from continuing operations for the entire fiscal 1998. The annual effective tax rate will be impacted by the losses incurred in the first and third quarters and net operating loss carryforwards from fiscal 1998.
Net loss for the first nine months of fiscal 1999 was $1,213,000, compared to net earnings of $1,229,000 for the first nine months of 1998. Basic loss per share for the first nine months of fiscal 1999 was fourteen cents per share on a weighted average of 8.6 million shares, compared to basic earnings per share of fourteen cents on a weighted average of 8.7 million shares for the first nine months of fiscal 1998.
LIQUIDITY AND CAPITAL RESOURCES
The Company amended its credit facility with its primary lender. During the fourth quarter of fiscal 1998 the Company was not in compliance with certain financial covenants in the amended credit agreement. As part of the amendment, the Company and lender agreed to a reduction in the Company's credit facility to $5 million.
The Company's financial results for the third quarter of fiscal 1999 created certain defaults under the amended credit agreement. The current lender has granted forbearance on the defaults for a forty-five day period, ending November 22, 1999. As a condition of granting forbearance, the Company and lender agreed to a reduction in the Company's credit facility to $4,000,000 and an increase in the interest rate to prime + 1%.
The Company has obtained a new $5,000,000 asset-based credit facility from a major California lender, with an interest rate of prime + 1%.
The Company had approximately $400,000 of cash at the end of the third quarter, which consisted primarily of investments in money market funds. The Company's operating credit line has current availability, as of September 24, 1999, of $5 million with $3,653,000 currently outstanding. The Company anticipates that existing cash and cash from operations, and new credit facility, will supply sufficient cash for working capital requirements, capital expenditures and debt repayments for the next twelve months.
Cash flows used in operating activities during the first nine months of fiscal 1999 was a negative $512,000 compared to cash flows provided by operating activities of $719,000 for the corresponding period of fiscal 1998. The decrease in cash flows from operating activities in fiscal 1999 was primarily attributable to the operating loss incurred during the period and the change in inventories, which was partially offset by the change in accounts receivable, prepaid expenses and other and accounts payable. Inventory growth was primarily attributable to slower production in the U.S. in August and overall growth in Europe.
Capital expenditures for the first nine months of fiscal 1999 were $883,000, compared to $1,095,000 for the corresponding period in fiscal 1998. The increase in capital expenditures was due in large part to a joint venture production project underway in the Company's Texas and Oregon facilities. The Company has instituted a Company-wide program to reduce non-essential capital expenditures, which are not specifically focused on revenue growth.
Shares of the Company's common stock are repurchased under a systematic program to manage dilution created by shares issued under employee stock plans. During October 1998, the Company's Board of Directors authorized a repurchase program under which up to $1 million of the Company's common stock can be repurchased in the open market. Under this plan, during the first nine months of fiscal 1999 the Company purchased and retired approximately 225,000 shares for an aggregate purchase price of approximately $267,000.
BUSINESS OUTLOOK
The following statements are based on current expectations. These statements are forward-looking and actual results may differ materially.
The Company currently has sufficient orders from OEMs to believe that sales growth will resume in fiscal 1999. Based on current projected order releases from major customers, the sales growth year-to-year is projected to be between 10% and 15% for fiscal 1999.
Gross profit and operating profit margins are expected to slow in 1999. The Company's fixed cost levels have increased, due to expansions in Ireland and Singapore, more quickly than initial sales volumes. This will be partially offset by fixed cost reductions in the Company's FY99 fourth quarter, from plant closures in Oregon and Colorado and overall headcount reductions in manufacturing.
Interest expense is expected to increase in fiscal 1999 as borrowing levels expand to support investment in Ireland and Singapore and higher interest rates under the amended credit agreement and any new credit agreement.
The Private Securities Litigation Reform Act of 1995 provides for a new "safe harbor" for forward looking statements to encourage Companies to provide prospective information about their companies without fear of litigation so long as those statements are identified as forward looking and are accompanied by meaningful cautionary statements identifying important factors that could cause actual results to differ materially from those projected in the statement. The Act only became law in late December 1995 and, except for the Conference Report, no official interpretations of the Act's provisions have been published. Accordingly, the Company has identified important factors, in its recently filed 10-KSB, which could cause the Company's actual financial results to differ materially from any such results which might be projected, forecast, estimated or budgeted by the Company in forward looking statements.
YEAR 2000 ISSUE
The "Year 2000 Issue" is the result of computer programs being written using two digits rather than four to define the applicable year. Any of the Company's computer programs that have time-sensitive software may recognize a date using "00" as the year 1900 rather than the year 2000. This could result in a system failure or miscalculations causing disruptions of operations, including, among other things, a temporary inability to process transactions, send invoices, or engage in similar normal business activities.
In addressing the Year 2000 Issue, the Company is currently evaluating its computer-based systems, facilities and products and identifying all steps necessary to determine they are all Year 2000 Ready. The Company is employing a combination of internal resources and outside consultants to address this issue. The Company has identified systems which are not Year 2000 Ready, and is in the process of upgrading or replacing those systems. The Company is currently on schedule to complete these upgrades and replacements by the year 2000. In addition, the Company has contacted its vendors to determine whether they are Year 2000 Ready, and is in the process of accumulating those responses. Initial responses indicate most of the Company's vendors are addressing their Year 2000 Issues.
While the Year 2000 Issue is a top priority of the Company and a significant amout of resources have been allocated to this issue, there can be no assurance that all of its systems and equipment or its vendors will be Year 2000 Ready. However, at this time, the Company does not believe that its or its vendors Year 2000 related issues will have a material adverse effect on the Company's business. In the unlikely event of a systems failure at one of the Company's facilitites, any one of a number of other facilities' systems could be utilized as a backup system.
The total cost to standardize and upgrade all business computer systems is currently estimated to be $50,000. Through August 29, 1999, the Company has spent approximately $45,000 of this total. Given the nature of this project it is impractical to attempt to estimate the total costs specifically related to the Year 2000 Issue. As the process to become Year 2000 Ready continues, additional costs may be identified that have not yet been considered. Consequently, the full cost of all upgrades, replacements and modifications that may be required to become Year 2000 Ready has not yet been determined. |
