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PERFORMANCE TECHNOLOGIES INC \DE\ - 10-K - Management's Discussion and Analysis of Financial Condition and Results of Operations
(Edgar Glimpses Via Acquire Media NewsEdge)
PT's annual operating performance is subject to various risks and uncertainties.
The following discussion should be read in conjunction with the Consolidated
Financial Statements and related notes, included elsewhere herein, as well as
the risk factors described in Item 1A of Part I of this Form 10-K. PT's future
operating results may be affected by various trends and factors, which are
beyond PT's control. These risks and uncertainties include, among other factors,
business and economic conditions, rapid technological changes accompanied by
frequent new product introductions, competitive pressures, dependence on key
customers, inability to gauge order flows from customers, fluctuations in
quarterly and annual results, the reliance on a limited number of third party
suppliers, limitations of the Company's manufacturing capacity and arrangements,
the protection of the Company's proprietary technology, errors or defects in our
products, the effects of pending or threatened litigation, the dependence on key
personnel, changes in critical accounting estimates, potential impairments
related to investments, foreign regulations, possible loss or significant
curtailment of significant government contracts or subcontracts and potential
material weaknesses in internal control over financial reporting. In addition,
during weak or uncertain economic periods, customers' visibility deteriorates
causing delays in the placement of their orders. These factors often result in a
substantial portion of the Company's revenue being derived from orders placed
within a quarter and shipped in the final month of the same quarter.
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Matters discussed in Management's Discussion and Analysis of Financial Condition
and Results of Operations, and elsewhere in this Form 10-K, include
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934,
as amended, and are subject to the safe harbor provisions of the Private
Securities Litigation Reform Act of 1995. PT's actual results could differ
materially from those discussed in the forward-looking statements.
Critical Accounting Estimates and Assumptions
In preparing the financial statements in accordance with the accounting
principles generally accepted in the United States (GAAP), estimates and
assumptions are required to be made that have an impact on the assets,
liabilities, revenue and expense amounts reported. These estimates can also
affect supplemental information disclosures, including information about
contingencies, risk and financial condition. The Company believes that given the
current facts and circumstances, these estimates and assumptions are reasonable,
adhere to GAAP, and are consistently applied. Inherent in the nature of an
estimate or assumption is the fact that actual results may differ from
estimates, and estimates may vary as new facts and circumstances arise.
Management's judgment in making these estimates and relying on these assumptions
may materially impact amounts reported for any period.
The critical accounting policies, judgments and estimates that we believe have
the most significant effect on our financial statements are set forth below:
• Revenue Recognition
• Software Development Costs
• Valuation of Inventories
• Income Taxes
• Product Warranty
• Stock-Based Compensation
• Restructuring Costs
• Carrying Value of Long-Lived Assets
Revenue Recognition: Revenue is recognized from product sales in accordance with
SEC Staff Accounting Bulletin No. 104, "Revenue Recognition." Product sales
represent the majority of our revenue and include both hardware products and
hardware products with embedded software. Revenue is recognized from these
product sales when persuasive evidence of an arrangement exists, delivery has
occurred or services have been provided, the sale price is fixed or
determinable, and collectibility is reasonably assured. Additionally, products
are sold on terms which transfer title and risk of loss at a specified location,
typically the shipping point. Accordingly, revenue recognition from product
sales occurs when all factors are met, including transfer of title and risk of
loss, which typically occurs upon shipment. If these conditions are not met,
revenue recognition is deferred until such time as these conditions have been
satisfied.
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For arrangements with multiple deliverables, the arrangement consideration is
allocated at the inception of an arrangement to all deliverables using the
relative selling price method. A selling price hierarchy is employed for
determining the selling price of a deliverable, which includes:
(1) vendor-specific objective evidence ("VSOE") if available; (2) third-party
evidence ("TPE") if vendor-specific objective evidence is not available; and
(3) best estimated selling price ("BESP") if neither vendor-specific nor
third-party evidence is available. For PT's multiple deliverable arrangements,
our products and services qualify as separate units of accounting. The Company's
multiple deliverable arrangements generally include a combination of
telecommunications hardware and software products, services including
installation and training, and support services. These arrangements typically
have both software and non-software components that function together to deliver
the product's essential functionality. These arrangements generally do not
include any provisions for cancellation, termination, or refunds that would
significantly impact recognized revenue. Because the Company rarely sells its
proprietary hardware and software products on a stand-alone basis or without
support, PT isn't able to establish VSOE for these products. Additionally, PT
generally expects that it will not be able to establish TPE due to the
proprietary nature of PT's products and the markets in which we compete.
Accordingly, PT expects the selling price of its products to be based on its
BESP. PT has established VSOE for its support and services and, therefore, it
utilizes VSOE for these elements.
Since the adoption of this guidance on January 1, 2011, we have primarily used
the same information used to set pricing strategy to determine BESP. The Company
has corroborated the BESP with our historical sales prices, the anticipated
margin on the deliverable, the selling price and profit margin for similar
deliverables and the characteristics of the geographical markets in which the
deliverables are sold. PT plans to analyze the selling prices used in our
allocation of arrangement consideration at least semi-annually. Selling prices
will be analyzed more frequently if a significant change in our business
necessitates a more timely analysis.
For substantially all multiple deliverable arrangements, PT defers support and
services revenue, and recognizes revenue for delivered products in an
arrangement when persuasive evidence of an arrangement exists and delivery of
the last product has occurred, provided the fee is fixed or determinable, and
collection is deemed probable. In instances where final acceptance of the
product is based on customer specific criteria, revenue is deferred until the
earlier of the receipt of customer acceptance or the expiration of acceptance
period. Support revenue is recognized ratably over the term of the support
period. Services revenue is typically recognized upon completion of the services
for fixed-fee service arrangements, as these services are relatively short-term
in nature (typically several weeks, or in limited cases, several months). For
service arrangements that are billed on a time and material basis, we recognize
revenue as the services are performed.
For multiple deliverable arrangements entered into prior to January 1, 2011 and
not materially modified after that date, PT recognized revenue based on the
then-existing software revenue recognition guidance, which required the entire
fee from the arrangement to be allocated to each respective element based on its
relative selling price using VSOE. For such arrangements, when the Company was
unable to establish VSOE for the delivered telecommunications products, PT
utilized the residual method to allocate revenue to each of the elements of an
arrangement. Under this method, PT allocated the total fee in an arrangement
first to the undelivered elements (typically support and services) based on VSOE
of those elements, and the remaining, or "residual" portion of the fee to the
delivered elements (typically the product or products).
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Revenue from software requiring significant production, modification, or
customization is recognized using the percentage of completion method of
accounting. Anticipated losses on contracts, if any, are charged to operations
as soon as such losses are determined. If all conditions of revenue recognition
are not met, the Company defers revenue recognition and will recognize revenue
when the Company has fulfilled its obligations under the arrangement. Revenue
from software maintenance contracts is recognized ratably over the contractual
period.
Revenue from consulting and other services is recognized at the time the
services are rendered. The Company also sells certain products through
distributors who are granted limited rights of return. Potential returns are
accounted for at the time of sale.
The accounting estimate related to revenue recognition is considered a "critical
accounting estimate" because terms of sale can vary, and judgment is exercised
in determining whether to defer revenue recognition. Such judgments may
materially affect net sales for any period. Judgment is exercised within the
parameters of GAAP in determining when contractual obligations are met, title
and risk of loss are transferred, sales price is fixed or determinable and
collectibility is reasonably assured.
Software Development Costs: All software development costs incurred in
establishing the technological feasibility of computer software products to be
sold are charged to expense as research and development costs. Software
development costs incurred subsequent to the establishment of technological
feasibility of a computer software product to be sold and prior to general
release of that product are capitalized. Amounts capitalized are amortized
commencing after general release of that product over the estimated remaining
economic life of that product, generally three years, using the straight-line
method or using the ratio of current revenues to current and anticipated
revenues from such product, whichever provides greater amortization. If the
technological feasibility for a particular project is judged not to have been
met or recoverability of amounts capitalized is in doubt, project costs are
expensed as research and development or charged to cost of goods sold, as
applicable. The accounting estimate related to software development costs is
considered a "critical accounting estimate" because judgment is exercised in
determining whether project costs are expensed as research and development or
capitalized as an asset. Such judgments may materially affect expense amounts
for any period. Judgment is exercised within the parameters of GAAP in
determining when technological feasibility has been met and recoverability of
software development costs is reasonably assured.
Valuation of Inventories: Inventories are stated at the lower of cost or market,
using the first-in, first-out method. Inventory includes purchased parts and
components, work in process and finished goods. Provisions for excess, obsolete
or slow moving inventory are recorded after periodic evaluation of historical
sales, current economic trends, forecasted sales, estimated product life cycles
and estimated inventory levels. Purchasing practices, electronic component
obsolescence, accuracy of sales and production forecasts, introduction of new
products, product life cycles, product support and foreign regulations governing
hazardous materials are the factors that contribute to inventory valuation
risks. Exposure to inventory valuation risks is managed by maintaining safety
stocks, minimum purchase lots, managing product end-of-life issues brought on by
aging components or new product introductions, and by utilizing certain
inventory minimization strategies such as vendor-managed inventories. The
accounting estimate related to valuation of inventories is considered a
"critical accounting estimate" because it is susceptible to changes from
period-to-period due to the requirement for management to make estimates
relative to each of the underlying factors, including purchasing, sales,
production, and after-sale support. If actual demand, market conditions or
product life cycles differ from estimates, inventory adjustments to lower market
values would result in a reduction to the carrying value of inventory, an
increase in inventory write-offs and a decrease to gross margins.
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Income Taxes: PT provides deferred income tax assets and liabilities based on
the estimated future tax effects of differences between the financial and tax
bases of assets and liabilities based on currently enacted tax laws. A valuation
allowance is established for deferred tax assets in amounts for which
realization is not considered more likely than not to occur. The accounting
estimate related to income taxes is considered a "critical accounting estimate"
because judgment is exercised in estimating future taxable income, including
prudent and feasible tax planning strategies, and in assessing the need for any
valuation allowance. If it should be determined that all or part of a net
deferred tax asset is not able to be realized in the future, an adjustment to
the valuation allowance would be charged to income in the period such
determination was made. Likewise, in the event that it should be determined that
all or part of a deferred tax asset in the future is in excess of the net
recorded amount, an adjustment to the valuation allowance would increase income
to be recognized in the period such determination was made.
PT operates within multiple taxing jurisdictions worldwide and is subject to
audit in these jurisdictions. These audits can involve complex issues, which may
require an extended period of time for resolution. Although management believes
that adequate provision has been made for such issues, there is the possibility
that the ultimate resolution of such issues could have an adverse effect on the
earnings of PT. Conversely, if these issues are resolved favorably in the
future, the related provisions would be reduced, thus having a positive impact
on earnings.
In addition, the calculation of PT's tax liabilities involves dealing with
uncertainties in the application of complex tax regulations. PT recognizes
liabilities for uncertain tax positions based on a two-step process. The first
step is to evaluate the tax position for recognition by determining if the
weight of available evidence indicates that it is more likely than not that the
position will be sustained on audit, including resolution of related appeals or
litigation processes, if any. The second step requires PT to estimate and
measure the tax benefit as the largest amount that is more than 50% likely to be
realized upon ultimate settlement. It is inherently difficult and subjective to
estimate such amounts, as this requires PT to determine the probability of
various possible outcomes. PT re-evaluates these uncertain tax positions on a
quarterly basis. This evaluation is based on factors including, but not limited
to, changes in facts or circumstances, changes in tax law, effectively settled
issues under audit, and new audit activity. Such a change in recognition or
measurement would result in the recognition of a tax benefit or an additional
charge to the tax provision in the period. At December 31, 2012, there are no
tax uncertainties that PT has determined are required to be recognized.
Finally, the value of PT's deferred tax assets is dependent upon PT's ability to
generate future taxable income in the jurisdictions in which PT operates. These
assets consist of research credit carry-forwards, capital and net operating loss
carry-forwards, and the future tax effect of temporary differences between
balances recorded for financial statement purposes and for tax return purposes.
It will require future pre-tax earnings in excess of $23 million in order to
fully realize the value of the Company's deferred tax assets. Due to the
uncertainty of PT's ability to realize its deferred tax assets, a valuation
allowance has been recorded against substantially the full value of its deferred
tax assets.
Product Warranty: Warranty obligations are generally incurred in connection with
the sale of PT's products. The warranty period for these products is generally
one year. The costs incurred to provide for these warranty obligations are
estimated and recorded as an accrued liability at the time of sale. Future
warranty costs are estimated based on historical performance rates and related
costs to repair given products. The accounting estimate related to product
warranty is considered a "critical accounting estimate" because judgment is
exercised in determining future estimated warranty costs. Should actual
performance rates or repair costs differ from estimates, revisions to the
estimated warranty liability would be required.
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Stock-Based Compensation: PT's board of directors approves grants of stock
options to employees to purchase our common stock. Stock compensation expense is
recorded based upon the estimated fair value of the stock option at the date of
grant. The accounting estimate related to stock-based compensation is considered
a "critical accounting estimate" because estimates are made in calculating
compensation expense including expected option lives, forfeiture rates and
expected volatility. Expected option lives are estimated using vesting terms and
contractual lives. Expected forfeiture rates and volatility are calculated using
historical information. Actual option lives and forfeiture rates may be
different from estimates and may result in potential future adjustments which
would impact the amount of stock-based compensation expense recorded in a
particular period.
Restructuring Costs: Restructuring costs generally consist of employee-related
severance costs, lease termination costs and other facility-related closing
expenses. Employee-related severance benefits are recorded either at the time an
employee is notified, or if there are extended service periods, is estimated and
recorded pro-rata over the period of each planned restructuring activity. Lease
termination costs are calculated based upon fair value considering the remaining
lease obligation amounts and estimates for sublease receipts. The accounting
estimate related to restructuring costs is considered a "critical accounting
estimate" because estimates are made in calculating the amount of
employee-related severance benefits that will ultimately be paid and the amount
of sublease receipts that will ultimately be received in future periods. Actual
amounts paid for employee-related severance benefits can vary from these
estimates depending upon the number of employees actually receiving severance
payments. Actual sublease receipts received may also vary from estimates.
Carrying Value of Long-Lived Assets: PT periodically reviews the carrying values
of its long-lived assets, other than capitalized software development costs and
purchased intangible assets with indefinite useful lives, for impairment
whenever events or changes in circumstances indicate that the carrying values
may not be recoverable. PT assesses the recoverability of the carrying values of
long-lived assets by first grouping its long-lived assets with other assets and
liabilities at the lowest level for which identifiable cash flows are largely
independent of the cash flows of other assets and liabilities (the asset group)
and, secondly, by estimating the undiscounted future cash flows that are
directly associated with and that are expected to arise from the use of and
eventual disposition of such asset group. PT estimates the undiscounted cash
flows over the remaining useful life of the primary asset within the asset
group. If the carrying value of the asset group exceeds the estimated
undiscounted cash flows, PT records an impairment charge to the extent the
carrying value of the long-lived asset exceeds its fair value. PT determines
fair value through quoted market prices in active markets or, if quoted market
prices are unavailable, through the performance of internal analyses of
discounted cash flows. The accounting estimate related to impairment of
long-lived assets is considered a "critical accounting estimate" because PT's
impairment tests include estimates of future cash flows that are dependent upon
subjective assumptions regarding future operating results including revenue
growth rates, expense levels, discount rates, capital requirements and other
factors that impact estimated future cash flows and the estimated fair value of
long-lived assets.
Overview
PT, a Delaware corporation founded in 1981, is a global supplier of advanced,
high availability network communications solutions.
PT's product portfolio includes its SEGway™ Diameter and SS7 Signaling Systems,
which provide tightly integrated signaling and advanced routing capabilities and
applications that uniquely span the mission critical demands of both existing
and next-generation 4G LTE and IMS telecommunications networks. The Company's
IPnexus Multi-Protocol Gateways and Servers enable a broad range of
IP-interworking in data acquisition, sensor, radar, and control applications for
aviation, weather and other infrastructure networks.
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PT's business addresses one industry segment - Communications, and globally
targets two primary vertical markets for its network communications products:
telecommunications, and government aerospace/defense.
PT is headquartered in Rochester, New York and maintains direct sales and
marketing offices in the U.S. in Raleigh, North Carolina and Chicago, Illinois
and international offices in London, England and Shanghai, China, and has
centers of engineering excellence in San Diego, California, and Kanata, Ontario,
Canada, in addition to Rochester, New York.
Please refer to Part 1, Item 1, under the caption "Business," for further
discussion of the industry, markets and economic environment.
Strategy
On January 10, 2013, the Company announced the sharpening of its strategic focus
and refinement of its business strategy. This multi-faceted initiative involves
concentrating on two product families, transitioning away from other product
portfolio elements, and operational expense reductions.
The Company's strategy is to focus on its high value-add network communications
solutions - leveraging its core competencies. In the telecommunications space,
PT is building upon its seventeen years of signaling systems experience and its
installed customer base for its SEGway SS7 Signaling Systems. The mobile
telecommunications industry is in the early stages of building out much higher
bandwidth 4G/ LTE-based network architectures. As part of this network
evolution, service providers' signaling infrastructure is migrating from SS7
signaling to Diameter signaling. During 2012, PT introduced the SEGway Universal
Diameter Router - its premier Diameter Signaling solution set for
next-generation 4G LTE networks. The Company expects to be a key player in this
growth market by providing high value proposition "best-of-breed" solutions and
by taking those solutions to the global market through a combination of strong
channel partners and focused direct sales activities.
In the government network infrastructure arena, PT is focused on maximizing the
sales of its IPnexus Multi-Protocol IP-interworking solutions. These PT systems
have enabled extremely reliable and highly available radar and sensor
communications services over IP networks - gathering and delivering vital data
such as weather, flight tracking, and ground surveillance. PT's presence in air
traffic control and defense-related communications is approaching 4,000 systems
deployed in over 30 different countries. Looking ahead, the Company expects to
expand its IPnexus Multi-Protocol Gateways and Servers into new
aerospace/defense applications as well as potentially enter new emerging markets
such as Energy and Smart-Grid.
As part of its strategic realignment, PT began transitioning out of the general
OEM platform business during the fourth quarter 2012. Notices were sent to
selected customers informing them of a last-time buy program related to the
Company's OEM platform products. This last-time buy and build program will run
through 2014 for major customers. PT will continue to utilize its own open
standards platforms as key elements of its network communications solutions and
maintain a certain number of strategic customers.
The Company discontinued its own direct sales and development activity on its
Xpress SIP applications product line and in December 2012 entered into an
agreement with an independent value-added reseller for subsequent Xpress-related
sales and support.
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The Company reduced its personnel by ten employees, or 8% of its workforce on
January 10, 2013. This action reduced operating expenses by approximately $.7
million per year. When combined with the savings from the restructuring PT
announced in October 2012, the Company has reduced its break-even expense level
by more than $2 million a year. During the first half of 2013, we expect to
increase our sales and marketing investments in our Diameter signaling product
to accelerate its penetration in this growing market.
In summary, given this concentrated product focus, the substantial steps we have
taken to reduce our operating expense levels and our strong and unleveraged
balance sheet, management believes PT is now well positioned for a positive
future trajectory as economic conditions improve.
There are identifiable risks associated with PT's strategy in the current
economic climate. While management believes that its network communications
market focus offers opportunities for growth in the long term, network
infrastructure investments by carriers have recently been very sluggish; the
total available market for traditional SS7-based signaling products is declining
and the market for next-generation 4G network products is currently in an
early-stage of growth. Despite the present economic climate, which may involve
new risks not currently identified, management believes the outlook for the
Company's profitability is improving because expenses have been aligned with
projected revenues and our new channel partners are engaged in selling our
products.
Please refer to Part 1, Item 1, under the caption "Business," for further
information regarding the Company's "Strategy."
Key Performance Indicator
PT believes that a key indicator for its business is the trend for the volume of
orders received from customers. The telecommunications market, historically our
largest vertical market, is fundamentally driven by investments in network
infrastructure by carriers and service providers, and the mobile
telecommunications industry is in the early stages of building out much higher
bandwidth 4G/LTE-based network architectures. Revenues from our
telecommunications customers declined by $8.0 million, or 29%, in 2012, from
2011. Much of this decrease in revenue was due to a much steeper and more rapid
decline in sales to the Company's traditionally largest customer than was
anticipated. Sales to this U.K.-domiciled customer declined by $5.5 million
year-over-year. In addition, the Company experienced a $1.7 million year over
year decline in sales to one signaling systems customer. The economy appears to
be recovering unevenly around the world and current business conditions continue
to remain quite challenging in the telecommunications equipment market.
Sales into the government aerospace/defense market are typically to prime
contractors and system integrators that reflect investment levels by various
government agencies and defense agencies in specific programs and projects
requiring enhanced communications capabilities. Revenues from the government
aerospace/defense market customers declined by $4.9 million, or 57%, in 2012,
compared to 2011. This decrease in revenue was partially attributable to the
non-recurrence in 2012 of a $2.0 million sale to the Federal Government's
Federal Aviation Administration in 2011.
During 2012, the challenging global economic climate continued to cause
customers to limit and/or delay investments in their network infrastructure.
Sales to customers amounted to $23.3 million in 2012, compared to $36.2 million
in 2011. During weak economic periods, customers' ability to forecast their
requirements deteriorates causing delays in the placement of orders.
Forward-looking visibility on customer orders continues to be very challenging.
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Financial Overview
Revenue:
Revenue for 2012 amounted to $23.3 million, compared to $36.2 million in 2011.
With continued weakness in the global economy and lower demand for the Company's
products, PT experienced a 36% decrease in sales in 2012, compared to 2011.
While the Company had anticipated that sales to the Company's traditionally
largest customer would decline as that customer completed its transition away
from using PT's platform products in some of their products, this process
occurred earlier and much more rapidly than was anticipated. Shipments to the
Company's traditionally largest customer declined by $5.5 million in 2012,
compared to 2011. In addition, the Company experienced a $1.7 million
year-over-year decline in sales to one signaling systems customer who did not
have such equipment requirements in 2012.
Shipments to customers outside of the United States represented 46% of sales in
both 2012 and 2011. Shipments to customers in the United States decreased by
$7.0 million in 2012, compared to 2011. Shipments to the United Kingdom
represented 8% and 20% of PT's total sales in 2012 and 2011, respectively.
Shipments to various government aerospace/defense customers amounted to $3.7
million, representing a 57% decrease, compared to 2011. This decrease in revenue
was partially attributable to the non-recurrence in 2012 of a $2.0 million sale
to the Federal Government's Federal Aviation Administration in 2011. In
addition, we believe that during the second half of 2012, aerospace and defense
budgets for radar and sensor communications projects were dramatically reduced.
Earnings:
PT incurred a net loss in 2012 amounting to ($7.1 million), or ($.64) per basic
share, based on 11.1 million shares outstanding. This loss included:
º Charges for the impairment of software development costs, purchased
intangible assets and other assets totaling $.14 per share;
º OEM excess inventory charges of $.12 per share;
º Restructuring charges of $.04 per share;
º Stock-based compensation expense of $.02 per share;
º A discrete income tax charge of $.01 per share; and
º Amortization of purchased intangible assets of $.10 per share.
PT incurred a net loss in 2011 amounting to ($1.2 million), or ($.10) per basic
share, based on 11.1 million shares outstanding. This loss included:
º Restructuring charges of $.02 per share;
º Stock-based compensation expense of $.03 per share;
º An impairment charge against vendor software of $.04 per share;
º Write-offs of software development costs of $.02 per share;
º Amortization of purchased intangible assets of $.10 per share; and
º Litigation expenses of $.04 per share.
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Cash:
Cash, cash equivalents and investments amounted to $14.3 million and $15.8
million at December 31, 2012 and 2011, respectively, and the Company had no
long-term debt at either date. The decrease in cash in 2012 was due primarily to
the final $1.0 million payment relating to the 2011 purchase of GENBAND assets
and the loss for the year, net of non-cash items, and offset partially by cash
flow generated by the Company's decrease in accounts receivable and inventories.
Cash flows from operating activities totaled $2.5 million in 2012, a $.9 million
decline from 2011, when operations provided $3.4 million in cash flows. The 2012
amount included the net loss of ($7.1 million), non-cash revenue of $.3 million,
and net bad debt recoveries of $.2 million, offset by non-cash charges including
depreciation, amortization, asset write-offs and impairments totaling $5.3
million, an inventory obsolescence charge of $1.4 million, and stock-based
compensation expense of $.2 million. In addition, accounts receivable,
inventories and prepaid expenses decreased by $2.0 million, $.5 million and $.2
million, respectively, and accounts payable and accrued expenses and deferred
revenue each increased by $.2 million. This was partially offset by a $.1
million increase in prepaid income taxes. The increase in accounts receivable
was principally due to lower fourth quarter sales in 2012, compared to 2011. The
decrease in inventory is primarily attributable to the Company's ongoing efforts
to manage inventory levels relative to revenue expectations.
Cash flows used in investing activities totaled $4.6 million, including the
final $1.0 million payment to GENBAND, $.5 million of equipment purchases and
$2.3 million of capitalized software costs, offset partially by $.7 millionof
net investment purchases.
Restructuring Activities:
PT completed one restructuring action during 2012 and announced another
subsequent to December 31, 2012.
In October 2012, the Company announced a program to restructure its operations,
reduce its workforce, rationalize its product lines, and refocus its resources
on initiatives that are more closely aligned with the Company's near-term
objectives and market potential. The program included the elimination of
fourteen positions, which represented 10% of the Company's workforce, for which
the Company recorded a fourth quarter charge for severance costs in the amount
of $.4 million. Substantially all of this charge resulted in an outlay of cash
in the fourth quarter 2012.
In January 2013, the Company announced its decision to sharpen its strategic
business focus, concentrate on its high value-add communications product
families, transition away from other product portfolio elements, and implement
operational expense reductions. In conjunction with this decision, the Company
reduced its personnel by ten employees, or 8% of its workforce as of January 10,
2013. As a result of this action, the Company expects to incur first quarter
2013 pre-tax restructuring charges of approximately $.3 million, representing
employee-related costs which will result in cash expenditures.
In December 2010, the Company announced its plan to implement a reduction of its
existing workforce in response to the continuing challenges of the global
economic environment. This program, which was completed in the fourth quarter
2011, was projected to reduce operating expenses by approximately $4.0 million
to $4.5 million on an annualized run rate basis. It included closing the San
Luis Obispo, California engineering facility and the elimination of 22 sales,
marketing and engineering positions, which represented approximately 12% of the
Company's workforce. The Company recorded a pre-tax charge of $0.9 million in
the fourth quarter of 2010 and a pre-tax charge of $.2 million in 2011 for
severance and other costs related to this program. This program required an
outlay of cash totaling $1.1 in 2011.
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Results of Operations
The following table sets forth, for the years indicated, certain consolidated
financial data expressed as a percentage of sales, which has been included as an
aid to understanding PT's results and should be read in conjunction with the
Selected Financial Data and Consolidated Financial Statements (including the
notes thereto) appearing elsewhere in this report.
Year Ended December 31,
2012 2011 2010
Sales 100.0 % 100.0 % 100.0 %
Cost of goods sold 53.2 % 51.4 % 55.7 %
Software capitalization and purchased intangible
asset write-offs 6.9 % 0.5 % 2.1 %
OEM excess inventory charge 5.8 %
Gross profit 34.1 % 48.1 % 42.2 %
Operating expenses:
Selling and marketing 21.2 % 17.7 % 29.7 %
Research and development 23.9 % 19.7 % 28.0 %
General and administrative 17.1 % 12.6 % 20.9 %
Restructuring charges 1.9 % .7 % 4.2 % Impairment charges - vendor software 1.1 %
Total operating expenses 64.1 % 51.8 % 82.8 %
Loss from operations (30.0 %) (3.7 %) (40.6 %)
Other income, net 0.2 % 0.4 % 1.2 %
Loss before income taxes (29.8 %) (3.3 %) (39.4 %)Income tax provision (benefit) 0.8 % (0.1 %) 0.6 %
Net loss (30.6 %) (3.2 %) (40.0 %)
Year Ended December 31, 2012 compared with the Year Ended December 31, 2011Sales. Total revenue for 2012 amounted to $23.3 million, compared to $36.2
million for 2011. PT's products have been grouped into two primary vertical
markets within one segment, communications. Revenue from each product category
is expressed as a percentage of sales for the periods indicated:
2012 2011
Telecommunications 84 % 76 %
Military, aerospace and government systems 16 % 24 %
Total 100 % 100 %
Telecommunications products:
Revenue from telecommunications products amounted to $19.6 million and $27.6
million in 2012 and 2011, respectively. This decrease in revenue of $8.0
million, or 29%, was primarily due to a much steeper and more rapid decline in
sales to the Company's traditionally largest customer than was anticipated.
Sales to this customer declined by $5.5 million year-over-year. In addition, the
Company experienced a $1.7 million year-over-year decline in sales to one
signaling systems customer.
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As part of its strategic realignment, PT began transitioning out of the general
OEM platform business during the fourth quarter 2012. Notices were sent to
selected customers informing them of a last-time buy program related to the
Company's OEM platform products. This last-time buy and build program will run
through 2014 for major customers. PT will continue to utilize its own open
standards platforms as key elements of its network communications solutions and
maintain a certain number of strategic customers.
The Company discontinued its own direct sales and development activity on its
Xpress SIP applications product line and in December 2012 entered into an
agreement with an independent value-added reseller for subsequent Xpress-related
sales and support.
Looking ahead, PT's telecommunications product portfolio includes its SEGway
Diameter and SS7 Signaling Systems, which provide tightly integrated signaling
and advanced routing capabilities and applications that uniquely span the
mission critical demands of both existing and next-generation 4G LTE and IMS
telecommunications networks.
Government aerospace/defense products:
The Company's IPnexus Multi-Protocol Gateways and Servers enable a broad range
of IP-interworking in data acquisition, sensor, radar, and control applications
for aviation, weather and other infrastructure networks. We continue to work
with numerous prime contractors to incorporate these products into specific
programs and projects requiring enhanced communications capabilities. Revenue
from government aerospace/defense products amounted to $3.7 million and $8.6
million in 2012 and 2011, respectively. This decrease of $4.9 million, or 57%,
was principally due to the non-recurrence of a $2.0 million sale in 2011 to
support the Federal Aviation Administration, plus sales decreases totaling $1.9
million to two Federal government prime contractors.
Gross profit. Gross profit consists of sales, less cost of goods sold including
material costs, manufacturing expenses, depreciation, amortization of software
development costs, and expenses associated with engineering contracts and the
technical support function. Gross profit totaled $8.0 million and $17.4 million
in 2012 and 2011, respectively, a decrease of $9.4 million, or 54%. The decline
in gross margin was primarily caused by the decrease in sales, the impairment of
software development costs, purchased intangible assets and other assets, and an
OEM excess inventory charge. Gross margin was 34.1% and 48.1% of sales for 2012
and 2011, respectively. An impairment charge of $1.6 million was recorded in
2012 to write off the recorded value of software development costs and purchased
intangible assets relating to the Company's Xpress product family. In addition,
an inventory obsolescence charge totaling $1.4 million was recorded in 2012 to
reflect the Company's decision to transition away from its general OEM platform
products. These two charges represent 6.9% and 5.8% of sales, respectively.
Without including these charges, cost of goods sold as a percentage of sales
increased from 51% in 2011 to 53% in 2012, primarily due to reduced utilization
of relatively fixed manufacturing labor and overhead costs due to the Company's
significantly lower sales, offset partially by an improved sales mix toward
higher-margin, higher software content products. Included in cost of goods sold
is the amortization of software development costs and purchased intangible
assets, which totaled $2.8 million and $3.0 million in 2012 and 2011,
respectively, excluding the charges for the impairment of capitalized software
development projects and purchased intangible assets discussed above.
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Total Operating Expenses. Total operating expenses in 2012 amounted to $14.9
million including restructuring expenses of $.4 million, and stock compensation
expense of $.2 million. Total operating expenses in 2011 amounted to $18.8
million including restructuring charges of $.3 million, an impairment
charge-vendor software of $.4 million and stock compensation expense of $.3
million. Total operating expenses decreased $3.8 million from 2011 to 2012,as
discussed below.
Selling and marketing expensesamounted to $4.9 million and $6.4 million in 2012
and 2011, respectively. This decrease of $1.5 million, or 23%, was principally
the result of reduced numbers of sales and marketing personnel primarily due to
the Company's December 2010 restructuring program, lower sales commissions,and
lower trade show expenses.
Research and development expenses amounted to $5.6 million and $7.1 million in
2012 and 2011. The Company capitalizes certain software development costs, which
reduces the amount charged to research and development expenses. Amounts
capitalized were $2.0 million in both 2012 and 2011. Gross research and
development expenditures were $7.6 million and $9.1 million in 2012 and 2011,
respectively. The decrease in gross research and development expenditures
totaled $1.5 million, or 16%, and was primarily due to the effect of the
Company's decision to close its engineering center in San Luis Obispo,
California, as well as the reduction in personnel that occurred in 2012, plus
lower new product prototype costs.
General and administrative expenses totaled $4.0 million and $4.6 million for
2012 and 2011, respectively. General and administrative expenses in 2011 were
unusually high due to the costs associated with the Company's defense of
intellectual property litigation instituted by one of the Company's competitors.
This litigation was dismissed in May 2011. These litigation-related expenses
totaled $.4 million in 2011.
During 2011, PT recorded a $.4 million charge to impair certain assets in
conjunction with the Company's termination of a value-added reseller agreement.
In addition, a $.1 million out-of-period charge was recorded in 2011 to reduce
the recorded balance of software development costs.
Restructuring charges amounted to $.4 million and $.3 million in 2012 and 2011,
respectively. In 2012, the Company announced its decision torestructure its
operations, reduce its workforce, rationalize its product lines, and refocus its
resources on initiatives that are more closely aligned with the Company's
near-term objectives and market potential. The program included the elimination
of fourteen positions, which represented 10% of the Company's workforce, for
which the Company recorded a fourth quarter charge for severance costs in the
amount of $.4 million.
In December 2010, the Company announced a reduction in force, which was
completed during 2011. A restructuring charge of $.3 million was recorded in
2011 in connection with this action.
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A summary with respect to the 2012 and 2011 restructuring activities is as
follows (amounts in millions):
Severance Lease commit-
Number of employees Reserve ments and other TotalBalance at January 1, 2011 23 $ .9 $ - $ .9
2011 restructuring charges 2 .1 .1 .2
2011 utilization (25 ) (1.0 ) (.1 ) (1.1 )
Balance at December 31, 2011 - - - -
2012 restructuring charges 14 .4 - .4
2012 utilization (14 ) (.4 ) - (.4 )Balance at December 31, 2012 - $ - $ - $ -
All utilization amounts except $.1 million in 2011 represent cash payments.
Other Income, net. Other income consists primarily of interest income and
totaled $.1 million in 2012 as compared to $.2 million in 2011. This decrease
was due to continued depressed yields the Company is earning on its investments
and lower average cash and investment balances in 2012, compared to 2011, plus
the effect of a $.06 million out-of-period charge to adjust the recorded balance
of accumulated other comprehensive income. As of December 31, 2012, the
Company's funds are primarily invested in high-quality corporate bonds of short
duration, government-backed money market funds, and municipal bonds.
Income taxes. The effective income tax rate is a combination of federal, state
and foreign tax rates and is generally lower than statutory rates because it
includes benefits derived from tax credits related to research and development
activities in the United States and Canada, and tax-exempt interest income. The
Company carries a full valuation allowance against its net deferred incometax
assets.
For 2012, the income tax provision amounted to $.2 million and includes a tax
provision relating to the possible repatriation of foreign subsidiaries'
earnings and the recording of a full valuation allowance against the Company's
foreign subsidiaries' deferred tax assets. Unlike 2011, the 2012 tax provision
excludes the effect of expected foreign investment and research credits, which
are now presented as a reduction of research and development expenses. For 2011,
the income tax benefit amounted to $.02 million and includes the effect of
refundable foreign investment and research tax credits.
Stock compensation expense. Cost of goods sold and operating expenses include
stock compensation expense, which totaled $.2 million and $.3 million in 2012
and 2011, respectively.
Year Ended December 31, 2011 compared with the Year Ended December 31, 2010
The following discussion references a number of products which, as detailed in
this annual report, the Company has discontinued. Those products were sold in
2011 and 2010 and are therefore included in this discussion.
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Sales. Total revenue for 2011 amounted to $36.2 million, compared to $27.9
million for 2010. PT's products have been grouped into two primary vertical
markets within one segment, communications. Revenue from each product category
is expressed as a percentage of sales for the periods indicated:
2011 2010
Telecommunications 76 % 81 %
Military, aerospace and government systems 24 % 19 %
Total 100 % 100 %
Telecommunications products:
Telecommunications products are comprised of Application-Ready Platforms, SEGway
signaling systems and Xpress products. PT's Application-Ready Platforms are
designed for high availability, scalability, and long life cycle deployments and
are sold to telecommunication equipment manufacturers. The Company's SEGway
signaling products, which are built on our Application-Ready Platforms, provide
a full suite of signaling solutions that seamlessly bridge between
circuit-switched networks and growing "IP-based" networks. PT's Xpress products
are a portfolio of SIP-based applications and enabling infrastructure for
next-generation network (NGN) architectures.
Revenue from telecommunications products amounted to $27.6 million and $22.6
million in 2011 and 2010, respectively. This increase in revenue of $5.0
million, or 22%, primarily reflects the impact of PT's significant new channel
partner relationships which totaled $3.4 million in 2011, plus a $1.6 million
increase in sales to a customer in Africa. Sales to the Company's largest
customer increased $.2 million, from $6.7 million to $6.9 million.
Military, aerospace and government products:
Our Government Systems group continues to work with numerous prime contractors
to incorporate PT's Multi-Protocol Gateways and Servers into specific programs
and projects requiring enhanced communications capabilities. Revenue from
military, aerospace and government system products was $8.6 million and $5.3
million in 2011 and 2010, respectively. This increase of $3.3 million, or 61%,
included increased shipments to two customers amounting to $1.5 million and$.7
million, respectively.
Gross profit. Gross profit consists of sales, less cost of goods sold including
material costs, manufacturing expenses, depreciation, amortization of software
development costs, and expenses associated with engineering contracts and the
technical support function. Gross profit totaled $17.4 million and $11.8 million
in 2011 and 2010, respectively, an increase of $5.6 million, or 47%. Gross
margin was 48.1% and 42.2% of sales for 2011 and 2010, respectively. Of the
increase in margin, $.4 million resulted from a decrease in charges to write off
or write down to estimated net realizable value software development costs. Such
charges totaled $.2 million and $.6 million in 2011 and 2010, respectively. The
most significant factors impacting the improved gross margin were the increase
in revenue; an improvement in product mix toward higher-margin, more
software-content products, especially our signaling products; and better
utilization of the Company's fixed manufacturing labor and overhead due to the
increase in sales. Included in cost of goods sold is the amortization of
software development costs and purchased intangible assets, which totaled $3.0
million and $2.1 million in 2011 and 2010, respectively, excluding the charges
for the write down of capitalized software development projects discussed above.
The amount of amortization recorded in 2011 increased by $.9 million, as
compared to 2010, due to the amortization associated with the purchase of
signaling technology from GENBAND in January 2011. This technology is being
amortized over a five-year estimated life.
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Total Operating Expenses. Total operating expenses in 2011 amounted to $18.8
million including restructuring expenses of $.3 million, an impairment
charge-vendor software of $.4 million and stock compensation expense of $.3
million. Total operating expenses in 2010 amounted to $23.1 million including
restructuring charges of $1.2 million and stock compensation expense of $.4
million. Total operating expenses decreased $4.3 million from 2010 to 2011,as
discussed below.
Selling and marketing expensesamounted to $6.4 million and $8.3 million in 2011
and 2010, respectively. This decrease of $1.9 million, or 23%, was principally
the result of reduced numbers of sales and marketing personnel primarily due to
the Company's December 2010 restructuring program, lower trade show spending,
and lower expenses due to an improved foreign currency exchange rate between the
U.S. dollar and the British pound, offset partially by higher commissions.
Research and development expenses amounted to $7.1 million and $7.8 million in
2011 and 2010. The Company capitalizes certain software development costs, which
reduces the amount charged to research and development expenses. Amounts
capitalized were $2.0 million and $2.3 million in 2011 and 2010, respectively.
Gross research and development expenditures were $9.1 million and 10.1 million
in 2011 and 2010, respectively. The decrease in gross research and development
expenditures totaled $1.0 million, or 10%, and was primarily due to the
Company's decision to close its engineering center in San Luis Obispo,
California, reducing engineering by seventeen positions.
General and administrative expenses totaled $4.6 million and $5.8 million for
2011 and 2010, respectively. General and administrative expenses in 2010 and
early in 2011 were unusually high due to the costs associated with the Company's
defense of intellectual property litigation instituted by one of the Company's
competitors. This litigation was dismissed in May 2011. Litigation-related
expenses declined by $.8 million from 2010 to 2011.
During 2011, PT recorded a $.4 million charge to impair certain assets in
conjunction with the Company's termination of a value-added resellers agreement.
$.4 million of the decrease in total operating expenses from 2010 to 2011 was
due to a change in the Company's paid-time-off policy. In addition, a $.1
million out-of-period charge was recorded in 2011 to reduce the recorded balance
of software development costs.
Restructuring charges amounted to $.3 million and $1.2 million in 2011 and 2010,
respectively. In 2010, the Company recorded restructuring charges related to two
programs. In December 2009, the Company announced its decision to outsource its
printed circuit board assembly operation to a contract manufacturer. This action
resulted in the elimination of fourteen positions during 2010, for which a
restructuring charge of $.3 million was recorded. In December 2010, the Company
announced a reduction in force, which was completed during the fourth quarter of
2011. A restructuring charge of $.2 million and $.9 million was recorded in 2011
and 2010, respectively, in connection with this action.
Restructuring charges amounted to $.6 million in 2009 and relate to two
reductions in force that management initiated during the year. In January 2009,
twenty positions were eliminated in an involuntary reduction in force, while in
August 2009, eight positions were eliminated in a voluntary reduction in force.
Both of these actions were completed in 2009.
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A summary of the activity with respect to the 2011 and 2010 restructuring
activity is as follows (amounts in millions):
Severance Lease commitments and
Number of employees Reserve other Total
Balance at January 1, 2010 - $ - $ - $ -
2010 restructuring charges 36 1.1 .1 1.2
2010 utilization (13 ) (.2 ) (.1 ) (.3 )
Balance at December 31, 2010 23 .9 - .9
2011 restructuring charges 2 .1 .1 .2
2011 utilization (25 ) (1.0 ) (.1 ) (1.1 )
Balance at December 31, 2011 - $ - $ - $ -
All utilization amounts except $.1 million in each of 2011 and 2010 represent
cash payments.
Other Income, net. Other income consists primarily of interest income and
totaled $.2 million in 2011, compared to $.3 million in 2010. This decrease was
due to continued depressed yields the Company is earning on its investments and
lower average cash and investment balances in 2011 than in 2010. As of December
31, 2011, the Company's funds are primarily invested in high-quality corporate
bonds of short duration, government-backed money market funds, municipal bonds
and bank guaranteed interest contracts.
Income taxes. The effective income tax rate is a combination of federal, state
and foreign tax rates and is generally lower than statutory rates because it
includes benefits derived from tax credits related to research and development
activities in the United States and Canada, and tax-exempt interest income.
For 2011, the income tax benefit amounted to $.02 million and includes the
effect of expected foreign investment and research credits. For 2010, the income
tax provision amounted to $.2 million and includes the effect of a discrete
foreign deferred tax provision of $.1 million resulting from the Company
revising its assertion that the earnings in its Canadian subsidiary will be
indefinitely reinvested. The 2010 provision also includes a discrete income tax
provision of $.1 million which was recorded due to the income tax benefit which
resulted from the decrease in unrealized gain on foreign currency hedge
contracts during 2010, and state and foreign taxes, offset by refundable U.S.
federal and Province of Ontario credits.
Stock compensation expense. Cost of goods sold and operating expenses include
stock compensation expense which totaled $.3 million and $.4 million in 2011 and
2010, respectively.
Liquidityand Capital Resources
At December 31, 2012, our primary sources of liquidity are cash, cash
equivalents and investments. The Company does not currently have a revolving
credit facility. Together, cash, cash equivalents and investments totaled $14.3
million and $15.8 million at December 31, 2012 and 2011, respectively. The
decrease in cash, cash equivalents and investments amounted to $1.5 million and
is primarily the result of the Company's final $1.0 million payment relating to
the 2011 purchase of GENBAND assets and the loss for the year, net of non-cash
items, and offset partially by cash flow generated by the Company's decrease in
accounts receivable and inventories. The Company had working capital of $15.5
million and $18.7 million at December 31, 2012 and 2011, respectively. The
decrease in working capital amounted to $3.2 million and can be largely
attributed to the final GENBAND payment, capital expenditures totaling $.5
million, and $.7 million of net purchases of investments. In 2012, the Company
also used cash to fund capitalized software development costs of $2.3 million.
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Cash flows from operating activities totaled $2.5 million in 2012, a $.9 million
decline from 2011, when operations provided $3.4 million in cash flows. The 2012
amount included the net loss of ($7.1 million), non-cash revenue of $.3 million,
and net bad debt recoveries of $.2 million, offset by non-cash charges including
depreciation, amortization, asset write-offs and impairments totaling $5.3
million, an inventory obsolescence charge of $1.4 million, and stock-based
compensation expense of $.2 million. In addition, accounts receivable,
inventories and prepaid expenses decreased by $2.0 million, $.5 million and $.2
million, respectively, and accounts payable and accrued expenses, and deferred
revenue each increased by $.2 million. This was partially offset by a $.1
million increase in prepaid income taxes. The increase in accounts receivable
was principally due to lower fourth quarter sales in 2012, compared to 2011. The
decrease in inventory is primarily attributable to obsolescence charges.
While cash flow from operations was positive for 2012, the Company is prepared
to take measures and consider alternatives to further reduce its costs should
significant negative cash flow from operations occur.
Cash used by investing activities during 2012 amounted to $4.6 million, compared
to cash used by investing activities during 2011, which amounted to $6.5
million. Cash used by investing activities resulted primarily from the Company's
final $1.0 million payment for the purchase of software, equipment, inventory
and intellectual property from GENBAND in early 2012 and payments to acquire
property, equipment and improvements of $.5 million. In addition, the Company
capitalized $2.3 million of software development costs and had a net increase in
investments totaling $.7 million. Cash used by investing activities during 2011
amounted to $6.5 million resulting primarily from payments to acquire software,
equipment, inventory and intellectual property from GENBAND which totaled $4.4
million, purchases of property, equipment and improvements of $.3 million, and
capitalized software development costs of $2.0 million, offset partially by net
sales of investments, which amounted to $.2 million.
In 2012, management continued to take measures to align expenses with projected
revenue levels and in January 2013, the Company reduced its personnel by ten
employees, or 8% of its workforce. Management believes that the Company's
current cash, cash equivalents and investments will be sufficient to meet our
anticipated cash requirements, including working capital and capital expenditure
requirements, for at least the next twelve months. However, if revenue levels
are not sustained, expenses may need to be reduced further. Furthermore,
management is continuing to evaluate strategic acquisitions to accelerate the
Company's growth and market penetration efforts. These strategic acquisition
efforts could have an impact on our working capital, liquidity or capital
resources.
Off-Balance Sheet Arrangements:
The Company had no off-balance sheet arrangements during 2012.
Contractual Obligations:
The Company leases facilities under operating leases. PT's corporate
headquarters is located in 32,000 square feet of leased office and manufacturing
space in Rochester, New York, for which the Company pays rent of approximately
$30,000 per month. This lease expires in June 2017, and the Company may, at its
option, reduce its rented space by approximately 11,000 square feet in February
2015. Corporate headquarters includes executive offices, along with sales,
marketing, engineering and manufacturing operations.
During 2011, the Company exercised its option to early terminate its lease for
its former facility in San Luis Obispo, California, effective April 30, 2011.
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The Company leases office space in Kanata, Ontario, Canada under a lease which
was extended in 2011. This lease terminates in October 2013. Rent payments under
this lease, including payments of minimum operating costs, amount to $435,000CDN
annually (approximately $435,000USD at December 31, 2012), with annual
inflationary adjustments.
PT also leases engineering office space in San Diego, California under a lease
which expires in November 2013. Rent payments under this lease will amountto
$80,000 in 2013.
The Company leases office space near London, England under a contract which
expires in March 2013.
For the lease agreements described above, the Company is also required to pay
the pro rata share of the real property taxes and assessments, expenses and
other charges associated with these facilities.
The Company enters into purchase commitments during the normal course of its
operations. Certain of these purchase commitments are non-cancelable.
The Company is not a party to any other significant contractual obligations.
Due to uncertainties regarding whether, and when, the Company's tax returns may
be examined by the applicable taxing authorities, and the uncertain possible
outcomes of such examinations, if any, an estimate of the timing of payments
related to uncertain tax positions and related interest cannot be made. See Note
L, "Income Taxes," in the Notes to Consolidated Financial Statements for
additional information regarding the Company's uncertain tax positions.
RECENT ACCOUNTING PRONOUNCEMENTS
Comprehensive Income:
In June 2011, the FASB issued authoritative guidance on the presentation of
comprehensive income that eliminates the option to present the components of
other comprehensive income as part of the statement of equity and requires an
entity to present the total of comprehensive income, the components of net
income, and the components of other comprehensive income either in a single
continuous statement of comprehensive income or in two separate but consecutive
statements. This guidance was effective retrospectively for fiscal years (and
interim periods within those years) beginning after December 15, 2011 (an
effective date of January 1, 2012 for the Company). The guidance required
changes in financial statement presentation only and has had no impact on the
Company's financial position or results of operations.
In January 2013, the FASB issued authoritative guidance on the presentation of
amounts reclassified out of accumulated other comprehensive income. This
guidance requires an entity to provide information about the amounts
reclassified from accumulated other comprehensive income by component. In
addition, an entity is required to present, either on the face of the income
statement or in the notes, significant amounts reclassified from accumulated
other comprehensive income by the net income line item. The Company does not
expect the adoption of this standard, which is required for reporting periods
beginning in 2013, to have an impact on its consolidated financial positionor
results of operations.
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Fair Value Measurement and Disclosures:
In May 2011, the FASB issued authoritative guidance that amends current fair
value measurement and disclosure guidance to include increased transparency
around valuation inputs and investment categorization. This guidance was
effective for the Company for reporting periods beginning in 2012. The adoption
of this guidance did not have a significant impact on the Company's consolidated
financial statements.
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ITEM 8 - Financial Statements and Supplementary Data
Index to Financial Statements: Page
Report of Independent Registered Public Accounting Firm 37
Consolidated Balance Sheets at December 31, 2012 and 2011 38 Consolidated Statements of Operations for the Years Ended December 31,
2012, 2011 and 2010
39
Consolidated Statements of Comprehensive Loss for the Years Ended December
31, 2012, 2011 and 2010
40
Consolidated Statements of Stockholders' Equity for the Years Ended
December 31, 2012, 2011 and 2010
41
Consolidated Statements of Cash Flows for the Years Ended December 31,
2012, 2011 and 2010
42
Notes to Consolidated Financial Statements 43
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Report of Independent Registered Public Accounting Firm
To the Board of Directors and Stockholders of Performance Technologies,
Incorporated:
In our opinion, the consolidated financial statements listed in the accompanying
indexpresent fairly, in all material respects, the financial position of
Performance Technologies, Incorporated and its subsidiaries at December 31, 2012
and 2011, and the results of theiroperations and their cash flows for each of
the three years in the period ended December 31, 2012 in conformity with
accounting principles generally accepted in the United States of America. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these statements 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 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, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
/s/ PricewaterhouseCoopers LLP
Rochester, New York
March 6, 2013
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PERFORMANCE TECHNOLOGIES, INCORPORATED AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31,
2012 2011
ASSETS
Current assets:
Cash and cash equivalents $ 7,546,000 $ 9,641,000
Investments (Note D) 4,794,000 2,798,000
Accounts receivable, net (Note E) 3,775,000 5,622,000
Inventories (Note F) 3,615,000 5,421,000
Prepaid expenses and other assets 932,000 1,155,000
Prepaid income taxes (Note L) 206,000 67,000
Deferred income taxes (Note L) 445,000 368,000
Total current assets 21,313,000 25,072,000
Investments (Note D) 1,969,000 3,362,000Property, equipment and improvements, net (Note G) 1,683,000 1,891,000
Software development costs, net (Note M)
3,716,000 3,932,000
Purchased intangible assets, net (Notes B and C) 2,835,000 4,390,000
Deferred income taxes (Note L)
102,000
Total assets $ 31,516,000 $ 38,749,000
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 1,134,000 $ 1,015,000
Accrued expenses (Note H) 1,664,000 1,547,000
Deferred revenue 3,002,000 2,808,000
Fair value of foreign currency hedge contracts (Note
O) 46,000
Other payable (Note B) 999,000
Total current liabilities 5,800,000 6,415,000
Deferred income taxes (Note L) 696,000 553,000
Total liabilities 6,496,000 6,968,000
Commitments and contingencies (Notes I and P)
Stockholders' equity:
Preferred stock - $.01 par value: 1,000,000
shares authorized; none issued
Common stock - $.01 par value: 50,000,000 shares
authorized; 13,304,596 shares issued; 11,116,397
shares outstanding 133,000 133,000
Additional paid-in capital 17,591,000 17,347,000
Retained earnings 17,099,000 24,237,000 Accumulated other comprehensive income (loss) 15,000 (118,000 )
Treasury stock - at cost; 2,188,199 shares held (9,818,000 ) (9,818,000 )
Total stockholders' equity 25,020,000 31,781,000
Total liabilities and stockholders' equity $ 31,516,000 $ 38,749,000
The accompanying notes are an integral part of these consolidated financial
statements.
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PERFORMANCE TECHNOLOGIES, INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Year Ended December 31,
2012 2011 2010
Product sales $ 18,440,000 $ 32,103,000 $ 24,920,000
Support and service revenue 4,880,000 4,073,000 3,026,000
Total revenue 23,320,000 36,176,000 27,946,000
Cost of goods sold 12,416,000 18,585,000 15,558,000
Impairments of software development
costs, purchased intangible assets and
other assets (Notes C and M) 1,600,000 175,000 604,000
OEM excess inventory charge (Notes C and
F) 1,351,000
Gross profit 7,953,000 17,416,000 11,784,000
Operating expenses:
Selling and marketing 4,935,000 6,410,000 8,301,000
Research and development 5,583,000 7,124,000 7,823,000
General and administrative 3,997,000 4,568,000 5,824,000
Restructuring charges (Note Q) 434,000 253,000 1,176,000
Impairment charge - vendor software
(Note G) 400,000
Total operating expenses 14,949,000 18,755,000 23,124,000
Loss from operations (6,996,000 ) (1,339,000 ) (11,340,000 )
Other income, net 52,000 154,000 329,000
Loss before income taxes (6,944,000 ) (1,185,000 ) (11,011,000 )
Income tax provision (benefit) 194,000 (22,000 ) 166,000
Net loss $ (7,138,000 ) $ (1,163,000 ) $ (11,177,000 )
Basic loss per share $ (.64 ) $ (.10 ) $ (1.01 )
Weighted average number of common shares
used in basic loss per share 11,116,397 11,116,397 11,116,397
The accompanying notes are an integral part of these consolidated financial
statements.
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PERFORMANCE TECHNOLOGIES, INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
Year Ended December 31,
2012 2011 2010
Net loss $ (7,138,000 ) $ (1,163,000 ) $ (11,177,000 )
Change in unrealized gain (loss) on
foreign currency hedge contracts 46,000 (57,000 ) (117,000 )
Change in unrealized gain (loss) on
available-for-sale investments 87,000 (72,000 )
Other comprehensive income (loss) 133,000 (129,000 ) (117,000 )
Comprehensive loss $ (7,005,000 ) $ (1,292,000 ) $ (11,294,000 )
The accompanying notes are an integral part of these consolidated financial
statements.
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PERFORMANCETECHNOLOGIES, INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2012, 2011 AND 2010
Accumulated
Common Common Additional Other
Stock Stock Paid-in Retained Treasury Comprehensive
Shares Amount Capital Earnings Stock Income (Loss) Total
Balance -
January 1, 2010 13,304,596 $ 133,000 $ 16,596,000 $ 36,577,000 $ (9,818,000 ) $ 128,000 $ 43,616,000
Comprehensive loss (11,177,000 ) (117,000 ) (11,294,000 )
Stock compensation expense 446,000 446,000
Balance -
December 31, 2010 13,304,596 133,000 17,042,000 25,400,000 (9,818,000 ) 11,000 32,768,000
Comprehensive loss (1,163,000 ) (129,000 ) (1,292,000 )
Stock compensation expense 305,000 305,000
Balance -
December 31, 2011 13,304,596 133,000 17,347,000 24,237,000 (9,818,000 ) (118,000 ) 31,781,000
Comprehensive (loss) income (7,138,000 ) 133,000 (7,005,000 )
Stock compensation expense 244,000 244,000
Balance -
December 31, 2012 13,304,596 $ 133,000 $ 17,591,000 $ 17,099,000 $ (9,818,000 ) $ 15,000 $ 25,020,000
The accompanying notes are an integral part of these consolidated financial
statements.
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PERFORMANCE TECHNOLOGIES, INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended December 31,
2012 2011 2010Cash flows from operating activities:
Net loss $ (7,138,000 ) $ (1,163,000 ) $ (11,177,000 )
Non-cash adjustments:
Depreciation and amortization 3,743,000 3,767,000 2,959,000
Stock-based compensation expense 244,000 305,000 446,000
Impairment of long-lived assets 1,600,000 575,000 666,000
OEM excess inventory charge 1,351,000
(Recovery) provision for bad debts (161,000 ) 75,000 91,000
Revenue from non-monetary exchange (257,000 )
Loss (gain) on disposal of assets 9,000 32,000 (75,000 )
Non-cash interest and other 1,000 26,000
Deferred income taxes 168,000 38,000 191,000
Realized loss on maturity of
investments 17,000
Changes in operating assets and
liabilities:
Accounts receivable 2,008,000 (219,000 ) 973,000
Inventories 455,000 2,433,000 (3,328,000 )
Prepaid expenses and other assets 164,000 (215,000 ) (120,000 )
Accounts payable and accrued expenses 236,000 (3,122,000 ) 2,787,000
Deferred revenue 194,000 862,000 (374,000 )
Income taxes payable and prepaid income
taxes (139,000 ) (36,000 ) 423,000
Net cash provided (used) by operating
activities 2,478,000 3,375,000 (6,538,000 )
Cash flows from investing activities:
Purchase of equipment, inventory and
intangible assets (1,000,000 ) (4,378,000 )
Purchases of property, equipment and
improvements (530,000 ) (300,000 ) (1,341,000 )
Capitalized software development costs (2,295,000 ) (2,037,000 ) (2,261,000 )
Purchases of investments (3,501,000 ) (4,782,000 ) (5,344,000 )
Proceeds from sales and maturities of
investments 2,753,000 4,963,000 10,605,000
Proceeds from sale of equipment 4,000 112,000
Net cash (used) provided by investing
activities (4,573,000 ) (6,530,000 ) 1,771,000
Net decrease in cash and cash
equivalents (2,095,000 ) (3,155,000 ) (4,767,000 )
Cash and cash equivalents at beginning of
year 9,641,000 12,796,000 17,563,000
Cash and cash equivalents at end of year $ 7,546,000 $ 9,641,000 $ 12,796,000
SUPPLEMENTAL DISCLOSURE OF CASH FLOW
INFORMATION
Net income taxes refunded $ 64,000 $ 26,000 $ 475,000
Purchased intangible assets acquired
in non-monetary exchange $ 257,000
Non-cash investing activity:
Other payable incurred for the purchase
of assets $ 973,000
The accompanying notes are an integral part of these consolidated financial
statements.
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PERFORMANCE TECHNOLOGIES, INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note A - Nature of Business and Summary of Significant Accounting Policies
The Company: Performance Technologies, Incorporated ("the Company", "PT") was
formed in 1981 under the laws of the State of Delaware and maintains its
corporate offices in Rochester, New York. The Company is a global supplier of
advanced high-availability communications solutions.
Principles of Consolidation: The consolidated financial statements include the
accounts of the Company and its wholly owned subsidiaries. All significant
inter-company transactions have been eliminated.
Foreign Currency Translation: The U.S. dollar is the functional currency of the
Company's foreign subsidiaries. Monetary assets and liabilities are re-measured
at year-end exchange rates. Non-monetary assets and liabilities are re-measured
at historical rates. Revenues, expenses, gains and losses are re-measured using
the rates on which those elements were recognized during the period.
Use of Estimates: The preparation of the consolidated financial statements in
conformity with accounting principles generally accepted in the United States
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at year-end and the reported amounts of revenue and expenses during
the reporting period. Actual results could differ from those estimates.
Reclassifications and Adjustments: An out-of-period charge amounting to $63,000
was made to other income during 2012 to adjust the recorded balance of
unrealized gain (loss) on available-for-sale securities, and a $94,000
out-of-period charge was recorded in 2011 to reduce the recorded balance of
software development costs. These adjustments did not have a material impact on
our consolidated financial statements.
Prior year amounts for current and non-current deferred taxes have been
corrected to conform with the current year presentation to reflect the pro-rata
allocation of the Company's full valuation allowance against its netdeferred tax
assets. The correction resulted in an increase of $368,000 in current deferred
tax assets, an increase of $102,000 in non-current deferred tax assets, and an
increase of $470,000 of non-current deferred tax liabilities. This adjustment
did not have any impact on the 2011 results of operations.
Concentration of Credit Risk: Financial instruments that potentially expose the
Company to significant concentrations of credit risk consist principally of bank
deposits, investments, and accounts receivable. Investments consist of high
quality, interest bearing financial instruments. Included in cash and cash
equivalents at December 31, 2012 are $1.3 million of AAA-rated money market
funds and $4.9 million of deposits with one AA- rated Canadian bank.
The Company performs ongoing credit evaluations of its customers' financial
condition and maintains an allowance for uncollectible accounts receivable based
upon the expected collectibility of all accounts receivable. As of December 31,
2012, two customers represented 21% and 15% of net accounts receivable,
respectively. As of December 31, 2011, three customers represented 25%, 14% and
11% of net accounts receivable, respectively.
Fair Value of Financial Instruments:The carrying amounts of the Company's
accounts receivable and accounts payable approximate fair values at December 31,
2012 and 2011, as the maturity of these instruments are short term. The fair
value of investments is discussed in Note D - Investments.
Cash Equivalents: The Company considers all highly liquid investments purchased
with an original maturity of three months or less to be cash equivalents.
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Investments: The Company may classify its investments as available-for-sale,
held-to-maturity, or trading. Available-for-sale investments are carried at fair
value, with unrealized gains and losses, if any, reported in accumulated other
comprehensive income, a component of stockholders' equity. Losses that are
judged to be other-than-temporary, if any, are recorded in net income (loss).
Amortization of purchase premiums or discounts is included in other income, net.
Inventories: Inventories are valued at the lower of cost or market. Cost is
determined using the first-in, first-out method. The Company records provisions
for excess, obsolete or slow moving inventory based on changes in customer
demand, technology developments or other economic factors.
Revenue Recognition: The Company recognizes revenue from product sales in
accordance with the SEC Staff Accounting Bulletin No. 104, "Revenue
Recognition." Product sales represent the majority of the Company's revenue and
include hardware products and hardware products with embedded software. The
Company recognizes revenue from these product sales when persuasive evidence of
an arrangement exists, delivery has occurred or services have been provided, the
sale price is fixed or determinable, and collectibility is reasonably assured.
Additionally, the Company sells its products on terms which transfer title and
risk of loss at a specified location, typically shipping point. Accordingly,
revenue recognition from product sales occurs when all factors are met,
including transfer of title and risk of loss, which typically occurs upon
shipment by the Company. If these conditions are not met, the Company will defer
revenue recognition until such time as these conditions have been satisfied. The
Company collects and remits sales taxes in certain jurisdictions and reports
revenue net of any associated sales taxes.
Revenue Recognition for Arrangements with Multiple Deliverables -
For arrangements with multiple deliverables, the arrangement consideration is
allocated at the inception of an arrangement to all deliverables using the
relative selling price method. A selling price hierarchy is employed for
determining the selling price of a deliverable, which includes:
(1) vendor-specific objective evidence ("VSOE") if available; (2) third-party
evidence ("TPE") if vendor-specific objective evidence is not available; and
(3) best estimated selling price ("BESP") if neither vendor-specific nor
third-party evidence is available. For PT's multiple deliverable arrangements,
our products and services qualify as separate units of accounting. The Company's
multiple deliverable arrangements generally include a combination of
telecommunications hardware and software products, services including
installation and training, and support services. These arrangements typically
have both software and non-software components that function together to deliver
the product's essential functionality. These arrangements generally do not
include any provisions for cancellation, termination, or refunds that would
significantly impact recognized revenue. Because the Company rarely sells such
products on a stand-alone basis or without support, PT isn't able to establish
VSOE for these products. Additionally, PT generally expects that it will not be
able to establish TPE due to the proprietary nature of PT's products and the
markets in which we compete. Accordingly, PT expects the selling price of its
proprietary hardware and software products to be based on its BESP. PT has
established VSOE for its support and services and, therefore, it utilizes VSOE
for these elements.
Since the adoption of this guidance on January 1, 2011, we have primarily used
the same information used to set pricing strategy to determine BESP. The Company
has corroborated the BESP with our historical sales prices, the anticipated
margin on the deliverable, the selling price and profit margin for similar
deliverables and the characteristics of the geographical markets in which the
deliverables are sold. PT plans to analyze the selling prices used in our
allocation of arrangement consideration at least semi-annually. Selling prices
will be analyzed more frequently if a significant change in our business
necessitates a more timely analysis.
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For substantially all multiple deliverable arrangements, PT defers support and
services revenue, and recognizes revenue for delivered products in an
arrangement when persuasive evidence of an arrangement exists and delivery of
the last product has occurred, provided the fee is fixed or determinable, and
collection is deemed probable. In instances where final acceptance of the
product is based on customer specific criteria, revenue is deferred until the
earlier of the receipt of customer acceptance or the expiration of acceptance
period. Support revenue is recognized ratably over the term of the support
period. Services revenue is typically recognized upon completion of the services
for fixed-fee service arrangements, as these services are relatively short-term
in nature (typically several weeks, or in limited cases, several months). For
service arrangements that are billed on a time and material basis, we recognize
revenue as the services are performed.
For multiple deliverable arrangements entered into prior to January 1, 2011 and
not materially modified after that date, PT recognized revenue based on the
then-existing software revenue recognition guidance, which required the entire
fee from the arrangement to be allocated to each respective element based on its
relative selling price using VSOE. For such arrangements, when the Company was
unable to establish VSOE for the delivered telecommunications products, PT
utilized the residual method to allocate revenue to each of the elements of an
arrangement. Under this method, PT allocated the total fee in an arrangement
first to the undelivered elements (typically support and services) based on VSOE
of those elements, and the remaining, or "residual" portion of the fee to the
delivered elements (typically the product or products).
Revenue from software requiring significant production, modification, or
customization is recognized using the percentage of completion method of
accounting. Anticipated losses on contracts, if any, are charged to operations
as soon as such losses are determined. If all conditions of revenue recognition
are not met, the Company defers revenue recognition and will recognize revenue
when the Company has fulfilled its obligations under the arrangement. Revenue
from software maintenance contracts is recognized ratably over the contractual
period.
Revenue from consulting and other services is recognized at the time the
services are rendered. The Company also sells certain products through
distributors who are granted limited rights of return. Potential returns are
accounted for at the time of sale.
Property, Equipment and Improvements: Property, equipment and improvements are
stated at cost. Depreciation of equipment and improvements is provided for using
the straight-line method over the following estimated useful lives:
Engineering equipment and software 3 - 5 years
Manufacturing equipment and tooling 3 - 5 years
Furniture and equipment 3 - 5 years
Leasehold improvements the lesser of 10 years or the leaseterm
Repairs and maintenance costs are expensed as incurred. Asset betterments are
capitalized.
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Long-Lived Assets: The Company reviews the carrying values of its long-lived
assets (other than goodwill, capitalized software development costs and
purchased intangible assets with indefinite useful lives) for impairment
whenever events or changes in circumstances indicate that the carrying values
may not be recoverable. The Company assesses the recoverability of the carrying
values of long-lived assets by first grouping its long-lived assets with other
assets and liabilities at the lowest level for which identifiable cash flows are
largely independent of the cash flows of other assets and liabilities (the asset
group) and, secondly, by estimating the undiscounted future cash flows that are
directly associated with, and that are expected to arise from, the use of and
eventual disposition of such asset group. The Company estimates the undiscounted
cash flows over the remaining useful life of the primary asset within the asset
group. If the carrying value of the asset group exceeds the estimated
undiscounted cash flows, the Company records an impairment charge to the extent
the carrying value of the long-lived asset exceeds its fair value. The Company
determines fair value through quoted market prices in active markets or, if
quoted market prices are unavailable, through the performance of internal
analyses of discounted cash flows. If this review indicates that the remaining
useful life of the long-lived asset has changed significantly, the Company
adjusts the depreciation on that asset to facilitate full cost recovery over its
revised estimated remaining useful life.
Derivative Financial Instruments:The Company may use derivative financial
instruments from time to time as foreign currency hedges of a portion of the
costs of its Canadian and United Kingdom operations. The fair value of these
derivative instruments is estimated in accordance with the framework for
measuring fair value contained in GAAP and is recorded as either an asset or
liability in the balance sheet based on changes in the current spot rate, as
compared to the exchange rates specified in the contracts. For these
instruments, the effective portion of the gain or loss on the derivative is
reported as a component of other comprehensive income and is reclassified into
earnings in the same period or periods during which the hedged transaction
affects earnings. Gains and losses on the derivative representing either hedge
ineffectiveness or hedge components excluded from the assessment of
effectiveness are recognized in current earnings. The fair value measurement of
the Company's derivative instruments is estimated using Level 2 inputs, which
are inputs other than quoted prices that are directly or indirectly observable
for the asset or liability (See Note O).
Research and Development: Research and development costs, excluding amounts
capitalized as software development costs, are expensed as incurred and include
employee related costs, occupancy expenses and new product prototyping costs.
Shipping and Handling Costs and Sales Taxes: Amounts charged to customers and
costs incurred by the Company related to shipping and handling are included in
net sales and cost of goods sold, respectively. Revenue is presented net of any
sales taxes collected and remitted by the Company.
Advertising: Advertising costs are expensed as incurred and recorded in "Selling
and marketing" in the Consolidated Statements of Operations. Advertising
expense, including web-based marketing expenses, amounted to $44,000, $108,000,
and $93,000 for 2012, 2011, and 2010, respectively.
Software Development Costs: On a product-by-product basis, software development
costs incurred subsequent to the establishment of technological feasibility and
prior to general release of the product are capitalized and amortized commencing
after general release over its estimated remaining economic life, generally
three years, using the straight-line method or using the ratio of current
revenues to current and anticipated revenues from such software, whichever
provides greater amortization.
Income Taxes: The Company provides deferred income tax assets and liabilities
based on the estimated future tax effects of differences between the financial
and tax basis of assets and liabilities based on currently enacted tax laws. A
valuation allowance is established for deferred tax assets in amounts for which
realization is not considered more likely than not to occur.
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Prior to the fourth quarter 2010, the Company had not provided for federal and
state income taxes on the accumulated earnings of its Canadian subsidiary as it
was the Company's intent to indefinitely reinvest such earnings in the
operations of the subsidiary. As of December 2010, the Company now believed that
it is reasonably possible that a portion of such accumulated earnings may be
repatriated in the foreseeable future. As such, during 2012, 2011 and 2010, the
Company recorded a deferred tax provision amounting to $65,000, $48,000 and
$138,000, respectively, calculated based on the amount of earnings of the
Canadian subsidiary that the Company may repatriate, recorded at the federal and
state marginal tax rates, less the amount of net operating losses and tax credit
carry-forwards that can be used to offset the federal and state tax.
The Company recognizes and measures uncertain tax positions using a two-step
approach. The first step is to evaluate the tax position for recognition by
determining if the weight of available evidence indicates it is more likely than
not that the position will be sustained upon examination, including resolution
of related appeals or litigation processes, if any. In making this assessment,
the Company must assume that the taxing authority will examine the income tax
position and have full knowledge of all relevant information. The second step is
to measure the tax benefit as the largest amount which is more than 50% likely
to be realized upon ultimate settlement. The Company considers many factors
when evaluating and estimating tax positions and tax benefits, which may require
periodic adjustments and which may or may not accurately forecast actual
outcomes.
The Company reports interest and penalties accrued relating to uncertain income
tax positions as a component of income tax provision.
Earnings Per Share: Basic earnings per share is computed by dividing net income
by the weighted average number of common shares outstanding for the period. Due
to the net losses in 2012, 2011 and 2010, diluted earnings per share are equal
to basic earnings per share. Diluted earnings per share calculations reflect the
assumed exercise and conversion of dilutive employee stock options and unvested
restricted stock, if any, applying the treasury stock method. Diluted earnings
per share calculations exclude the effect of approximately 1,654,000, 1,688,000
and 1,663,000 options in 2012, 2011 and 2010, respectively, since such options
have an exercise price in excess of the average market price of the Company's
common stock.
Stock Options and Stock-Based Employee Compensation: In 2003, the stockholders
approved the 2003 Omnibus Incentive Plan pursuant to which 1,500,000 shares of
common stock were reserved for future grants. Awards under the 2003 Omnibus
Incentive Plan may include stock options, stock appreciation rights, restricted
stock and other stock performance awards as determined by the Board of
Directors. During 2012, the stockholders approved the 2012 Omnibus Incentive
Plan pursuant to which 1,500,000 shares of common stock were reserved for future
grants. At December 31, 2012, 394,000 shares were available for future grant
under the 2003 Plan and 1,500,000 shares were available for grant under the2012
Plan.
Stock options may be granted to any officer or employee at not less than the
fair market value at the date of grant (not less than 110% of the fair market
value in the case of holders of more than 10% of the Company's common stock).
Options granted under the plans generally expire between five and ten years from
the date of grant and vest in periods ranging from one year to five years.
The Company recognizes compensation expense in the financial statements for
share-based awards based on the grant date fair value of those awards.
Stock-based compensation expense includes an estimate for pre-vesting
forfeitures and is recognized over the requisite service periods of the awards
on a straight-line or graded vesting basis, which is generally commensuratewith
the vesting term.
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The Company may either issue shares or utilize treasury stock shares upon
employees' stock option exercises. In 2012, 2011 and 2010 there were no
exercises of stock options.
Segment Data, Geographic Information and Significant Customers and Vendors: The
Company is not organized by market and is managed and operated as one business.
A single management team that reports to the chief operating decision maker
comprehensively manages the entire business. The Company does not operate any
material separate lines of business or separate business entities. Accordingly,
the Company does not accumulate discrete financial information, other than
product revenue and material costs, with respect to separate product lines and
does not have separately reportable segments.
Shipments to customers outside of the United States represented 46%, 46% and 58%
of sales in 2012, 2011 and 2010, respectively. In 2012, 2011 and 2010, export
shipments to the United Kingdom represented 8%, 20% and 26% of sales,
respectively. The Company maintains significant amounts of long-lived assets in
the United States and Canada.
For 2012, 2011, and 2010, four customers accounted for approximately 32%, 38%
and 39% of sales respectively. In 2012, one customer accounted for 14% of sales.
In 2011, one customer accounted for 19% of sales. In 2010, one customer
accounted for 24% of sales.
As of December 31, 2012, all of the Company's printed circuit board assembly
operations are conducted by one vendor and platform chassis are manufactured by
two contract manufacturers.
Fair Value Measurements: GAAP establishes a fair value hierarchy which
prioritizes the inputs to valuation techniques used to measure fair value. Level
1 inputs are quoted prices in active markets for identical assets or
liabilities. Level 2 inputs are inputs other than quoted prices included in
Level 1 that are directly or indirectly observable for the asset or liability.
Such inputs include quoted prices in active markets for similar assets and
liabilities, quoted prices for identical or similar assets or liabilities in
markets that are not active, inputs other than quoted prices that are observable
for the asset or liability, or inputs derived principally from or corroborated
by observable market data by correlation or other means. Level 3 inputs are
unobservable inputs for the asset or liability. Such inputs are used to measure
fair value when observable inputs are not available.
The Company's assets measured at fair value on a recurring basis at December 31,
2012 were as follows:
Level 1 Level 2 Level 3
Assets:
Investments $ 5,262,000 $ 1,501,000 $ - Total assets measured at fair value $ 5,262,000 $ 1,501,000 $
-
There were no liabilities measured at fair value on a recurring basis at
December 31, 2012.
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The Company's assets and liabilities measured at fair value on a recurring basis
at December 31, 2011 were as follows:
Level 1 Level 2 Level 3
Assets:
Investments $ 4,260,000 $ 1,900,000 $ - Total assets measured at fair value $ 4,260,000 $ 1,900,000 $
-
Liabilities:
Foreign currency hedge contracts $ - $ 46,000 $ -
Total liabilities measured at fair value $ - $ 46,000 $ -
Foreign currency hedge contracts are valued based on observable market spot and
forward rates as of our reporting date and are included in Level 2 inputs. We
use these derivative instruments to mitigate the effect of changing foreign
currency exchange rates on our expense levels in our Canadian operations. All
contracts are recorded at fair value and marked to market at the end of each
reporting period and realized and unrealized gains and losses are includedin
net income for that period.
Contingencies and Related Legal Costs: An accrual of losses related to
contingencies is made when, in the opinion of management and legal counsel, if
applicable, the likelihood of loss is deemed probable and the amount of loss is
reasonably estimable. Related legal costs are expensed as incurred. (See Note
P).
Recent Accounting Pronouncements: From time to time, new accounting
pronouncements are issued by the FASB or other standard setting bodies that are
adopted by the Company as of the specified effective date. Unless otherwise
discussed, we believe that the impact of recently issued standards that are not
yet effective will not have a material impact on our financial position or
results of operations upon adoption.
Comprehensive Income:
In June 2011, the FASB issued authoritative guidance on the presentation of
comprehensive income that eliminates the option to present the components of
other comprehensive income as part of the statement of equity and requires an
entity to present the total of comprehensive income, the components of net
income, and the components of other comprehensive income either in a single
continuous statement of comprehensive income or in two separate but consecutive
statements. This guidance was effective retrospectively for fiscal years (and
interim periods within those years) beginning after December 15, 2011 (an
effective date of January 1, 2012 for the Company). The guidance required
changes in financial statement presentation only and has had no impact on the
Company's financial position or results of operations.
In January 2013, the FASB issued authoritative guidance on the presentation of
amounts reclassified out of accumulated other comprehensive income. This
guidance requires an entity to provide information about the amounts
reclassified from accumulated other comprehensive income by component. In
addition, an entity is required to present, either on the face of the income
statement or in the notes, significant amounts reclassified from accumulated
other comprehensive income by the net income line item. The Company does not
expect the adoption of this standard, which is required for reporting periods
beginning in 2013, to have an impact on its consolidated financial positionor
results of operations.
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Fair Value Measurement and Disclosures:
In May 2011, the FASB issued authoritative guidance that amends current fair
value measurement and disclosure guidance to include increased transparency
around valuation inputs and investment categorization. This guidance was
effective for the Company for reporting periods beginning in 2012. The adoption
of this guidance did not have a significant impact on the Company's consolidated
financial statements.
Note B - Asset Purchase
In January 2011, the Company entered into an asset purchase agreement with
GENBAND to acquire GENBAND's Universal Signaling Platform ("USP") and SP2000
signaling technology which GENBAND acquired in its May 2010 acquisition of
Nortel's Carrier VoIP and Application Solutions business. In connection with
this transaction, the Company acquired software, equipment, inventories, and
intellectual property including a signaling-related patent, a license under
GENBAND's signaling patent portfolio and an assignment of certain signaling
technology conveyed to GENBAND under license from Nortel. Certain of these
licensed property rights are not transferable without GENBAND's consent.
Furthermore, under certain circumstances, GENBAND has the right to terminate
this licensing agreement. In addition to the acquisition of assets, the Company
agreed to provide GENBAND with ongoing development, support and maintenance of
signaling solutions, and solutions for stand-alone signaling applications as
well as integrated signaling capabilities.
The total consideration for these assets amounted to $5,378,000, of which
$4,000,000 was paid at closing in January 2011, $378,000 was paid for
transaction-related costs, and $1,000,000 was due in January 2012. This
payable, discounted at 3%, had a present value of $973,000 at the date of
closing and $999,000 at December 31, 2011. The full balance of $1,000,000 was
paid in January 2012.
Approximately $613,000 of the total consideration for the GENBAND assets was
allocated to property, plant and equipment, $67,000 to inventory, and the
remainder was allocated to purchased intangible assets, including the estimated
value of the support contract, which amounted to $420,000, and purchased
developed technologies, which amounted to $4,260,000.
Note C - Purchased Intangible Assets and Asset Impairments
In addition to the software technologies acquired from GENBAND, purchased
intangible assets include the technologies acquired in 2009 from Pactolus with a
cost of $835,000. Purchased intangible assets are being amortized over estimated
useful lives of three to five years.
In the fourth quarter 2012, the Company made the decision to transition out of
its general OEM platform and Xpress product lines and to focus on its Signaling
and Multi-Protocol IP-internetworking product families. As a result of this
business decision, the Company recorded a fourth quarter 2012 impairment charge
against purchased intangible assets, capitalized software development costs and
other assets associated with these product lines. This impairment charge totaled
$1,600,000, of which $656,000 reduced the recorded value of purchased intangible
assets, $885,000 reduced the recorded value of capitalized software development
costs (see Note M), and $59,000 reduced the recorded value of other assets. In
addition, in conjunction with this decision, the Company recorded a charge to
increase its reserve for excess and obsolete inventories amounting to $1,351,000
(see Note F) which reduces its carrying value of the inventories for its OEM
Platform product line.
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Purchased intangible assets consist of the following:
At December 31,
2012 2011
Purchased developed technologies $ 5,352,000 $ 5,095,000
Support contracts
420,000 420,000
Total 5,772,000 5,515,000
Less: impairment charge (656,000 )
Less: accumulated amortization (2,281,000 ) (1,125,000 )
Purchased intangible assets, net $ 2,835,000 $ 4,390,000
Amortization of purchased intangible assets totaled $1,812,000, $1,094,000 and
$31,000 in 2012, 2011 and 2010, respectively, including the impairment charge of
$656,000 in 2012. Amortization of purchased intangible assets will total
approximately $936,000, $936,000, $936,000, and $27,000 in 2013, 2014, 2015and
2016, respectively.
Note D - Investments
Investments consisted of the following:
At December 31,
2012 2011
Amortized cost Fair value Amortized cost Fair value
Corporate bonds $ 5,247,000 $ 5,262,000 $ 4,328,000 $ 4,260,000
Municipal bonds 1,501,000 1,501,000 504,000 500,000 Guaranteed investment certificates - - 1,400,000 1,400,000
Total investments 6,748,000 6,763,000 6,232,000 6,160,000
Less-current investments (4,786,000 ) (4,794,000) (2,849,000 ) (2,798,000 )
Non-current investments $ 1,962,000 $ 1,969,000 $ 3,383,000 $ 3,362,000
All income generated from the Company's investments is recorded net of bond
premium amortization in other income, net, and totaled $22,000, $169,000 and
$198,000 in 2012, 2011 and 2010, respectively.
The Company's bond investments have a cumulative par value of $6,678,000 at
December 31, 2012. Nine of these bonds with a cumulative par value of $4,748,000
mature in 2013 and are classified as current assets, while four bonds with a
cumulative par value of $1,930,000 mature in 2014 and are classified as
non-current assets.
Note E - Accounts Receivable, net
Accounts receivable consisted of the following:
At December 31,
2012 2011
Accounts receivable $ 3,905,000 $ 5,942,000Less: allowance for doubtful accounts (130,000 ) (320,000 )
Net $ 3,775,000 $ 5,622,000
The (recovery of) provision for doubtful accounts is included in selling and
marketing expenses and amounted to $(161,000), $75,000 and $91,000 in 2012,2011
and 2010, respectively.
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Note F - Inventories
Inventories consisted of the following:
At December 31,
2012 2011
Purchased parts and components $ 1,245,000 $ 2,036,000
Work in process and purchased assemblies 1,631,000 2,015,000
Finished goods 739,000 1,370,000
Net $ 3,615,000 $ 5,421,000
In conjunction with the Company's decision in the fourth quarter 2012 to
transition away from its OEM platform products, a charge amounting to $1,351,000
was recorded to increase its reserve for excess and obsolete inventories (see
Note C).
Note G - Property, Equipment and Improvements, net
Property, equipment and improvements consisted of the following:
At December 31,
2012 2011
Land $ 407,000 $ 407,000
Engineering equipment and software 6,618,000 6,698,000
Manufacturing equipment 1,196,000 1,141,000
Furniture and equipment 1,621,000 1,608,000
Leasehold improvements 289,000 412,000
10,131,000 10,266,000
Less: accumulated depreciation and amortization (8,448,000 ) (8,375,000 )
Net $ 1,683,000 $ 1,891,000
Total depreciation and amortization expense for equipment and improvements for
2012, 2011 and 2010 was $719,000, $748,000 and $766,000, respectively.
The net book value of property, equipment and improvements located in the United
States was $987,000 and $951,000 at December 31, 2012 and 2011, respectively.
Substantially all of the Company's property, equipment and improvements outside
the United States are located in Canada.
During 2010, the Company paid one-time license fees totaling $580,000 to acquire
certain software technologies, which the Company planned to use in synergistic
combination with its captive technologies to develop new end-market products.
These amounts were recorded in property, equipment and improvements. During
2011, the Company terminated a value-added reseller agreement with the licensor
of certain of these software technologies and recorded an impairment totaling
$400,000 against this asset.
During 2012, the Company disposed of assets with a cost basis of $663,000 and
accumulated depreciation of $654,000. The loss on disposal was $9,000. During
2011, the Company disposed of assets with a cost basis of $1,352,000 (including
the $400,000 impairment of vendor software technologies) and accumulated
depreciation of $916,000. The loss on disposal totaled $32,000. During 2010, the
Company disposed of assets with a cost basis of $994,000 and accumulated
depreciation of $957,000 and recorded a gain on disposal of $75,000.
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During 2009, the Company made the decision to outsource manufacturing of the
printed circuit board assembly for the hardware elements of the Company's
products. This action was completed during 2010 and certain long-lived
manufacturing assets were identified for sale, which was completed during 2010.
As of December 31, 2010, the carrying values of the remaining assets relating to
the printed circuit board assembly operation were reviewed for recoverability
and the Company recorded a non-cash impairment against the recorded value of
property, equipment and improvements in the amount of $61,000.
Note H - Accrued Expenses
Accrued expenses consisted of the following:
At December 31,
2012 2011
Accrued compensation and related costs $ 680,000 $776,000
Accrued vacation 27,000 33,000
Accrued professional services 132,000 221,000
Accrued warranty obligations 68,000 92,000
Accrued restructuring 2,000 3,000
Accrued OEM inventory commitments (Note I) 317,000
Other accrued expenses 438,000 422,000
Total $ 1,664,000 $1,547,000
The Company has warranty obligations in connection with the sale of certain of
its products. The warranty period for its products is generally one year. The
costs incurred to provide for these warranty obligations are estimated and
recorded as an accrued liability at the time of sale. The Company estimates its
future warranty costs based on product-based historical performance rates and
related costs to repair. The changes in the Company's accrued warranty
obligations for 2012, 2011 and 2010 were as follows:
Accrued warranty obligations at January 1, 2010 $ 78,000
Actual warranty experience
(106,000 )
Net warranty provisions 184,000
Accrued warranty obligations at December 31, 2010 156,000
Actual warranty experience
(101,000 )
Net warranty provisions 37,000
Accrued warranty obligations at December 31, 2011 92,000
Actual warranty experience
(58,000 )
Net warranty provisions 34,000
Accrued warranty obligations at December 31, 2012 $ 68,000
Note I - Commitments
The Company leases facilities under operating leases. During 2012, the Company
entered into a lease for new, more appropriately-sized office and manufacturing
space in Rochester, New York. Under the terms of this lease, the Company pays
rent of approximately $30,000 per month, with an annual escalation of
approximately 1.3%. The lease expires in February 2015 for approximately 1/3 of
the space and in June 2017 for the remainder of the space. The Company has an
option to renew the lease for periods of up to five years.
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The lease for office space in San Diego, California requires a monthly payment
of approximately $7,000, and expires in November 2013.
The Company also leases office space in Kanata, Ontario, Canada. This lease,
which requires a monthly rental and operating expense totaling approximately
$36,000CDN (approximately $36,000USD based on the December 31, 2012 exchange
rate) expires in October 2013.
Finally, the Company leases office space near London, England. This lease
requires a quarterly rental of approximately £1,500 (approximately $2,000 based
on the December 31, 2012 exchange rate) expires in June 2013.
As of December 31, 2010, the Company exercised its option to terminate its San
Luis Obispo, California lease as of April 30, 2011, and the hardware research
and development activities that were conducted at that facility were
transitioned to the Company's Rochester, New York facility.
For the lease agreements described above, the Company is required to pay the pro
rata share of the real property taxes and assessments, expenses and other
charges associated with these facilities.
Future minimum payments for all operating leases at December 31, 2012 are as
follows (based on current foreign currency exchange rates):
2013 $ 877,000
2014 737,000
2015 266,000
2016 249,000
2017 126,000
Total $2,255,000
Rent expense amounted to $866,000, $1,344,000 and $1,386,000 for 2012, 2011 and
2010, respectively.
The Company is committed to repurchase excess inventory at vendors totaling
$317,000 under its contracts with contract manufacturers as of December 31,
2012. The expense relating to this commitment has been recorded as part of the
OEM excess inventory charge (see Note F).
Note J - Stock-based Compensation Expense
The table below summarizes the impact of outstanding stock options on the
results of operations for the years ended December 31, 2012, 2011 and 2010:
2012 2011 2010
Stock-based compensation expense -
Stock options $ 244,000 $ 305,000 $ 446,000Decrease in earnings per share:
Basic $ .02 $ .03 $ .04
The Black-Scholes-Merton option pricing model was used to estimate the fair
value of share-based awards. This model incorporates various and highly
subjective assumptions, including expected term and expected volatility. For
valuation purposes, stock option awards were categorized into two groups, stock
option grants to employees and stock option grants to members of the Boardof
Directors.
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Based on employee exercise history, the term of options granted for 2010 through
2012 is estimated as the average of the vesting term of the options granted. The
expected volatility at the grant date is estimated using historical stock prices
based upon the expected term of the options granted. The risk-free interest rate
assumption is determined using the rates for U.S. Treasury zero-coupon bonds
with maturities similar to those of the expected term of the award being valued.
Cash dividends have never been paid and are not anticipated to be paid in the
foreseeable future. Therefore, the assumed expected dividend yield is zero.
Pre-vesting option forfeitures at the time of grant are required to be estimated
and periodically revised in subsequent periods if actual forfeitures differ from
those estimates. Stock-based compensation expense is recorded only for those
awards expected to vest using an estimated forfeiture rate based on historical
pre-vesting forfeiture data.
The following table shows the detailed assumptions used to compute the fair
value of stock options granted during 2012, 2011 and 2010:
2012 2011 2010
Expected term (years) 3.33 to 4 3.28 to 4 3.28 to 4
Volatility 36% to 40% 32% to 33% 33%
Risk free interest rate 0.2% to 0.5% 0.8% to 1.6% 1.3% to 1.9%
The weighted average grant date fair value of options granted during 2012 and
2011 was $.55 and $.60 per option, respectively. Unrecognized stock-based
compensation expense was approximately $232,000 as of December 31, 2012,
relating to a total of 800,000 unvested stock options under the Company's stock
option plans. This stock-based compensation expense is expected to be recognized
over a weighted average period of approximately 1.7 years.
The following table summarizes stock option activity for the three years ended
December 31, 2012:
Weighted
Average
Exercise Exercise
Number of Shares Price Price RangeOutstanding at January 1, 2010 1,444,983 $4.99 $2.59 - $7.08
Granted 421,150 $2.93 $2.60 - $2.97
Exercised -
Expired (203,200) $5.40 $2.97 - $6.78Outstanding at December 31, 2010 1,662,933 $4.42 $2.59 - $7.08
Granted 391,000 $2.17 $1.71 - $2.22
Exercised -
Expired (365,550) $5.10 $2.59 - $7.08Outstanding at December 31, 2011 1,688,383 $3.75 $1.71 - $6.64
Granted 386,000 $1.88 $1.87 - $1.96
Exercised -
Expired (419,783) $4.63 $1.87 - $6.64Outstanding at December 31, 2012 1,654,600 $3.08 $1.71 - $6.64
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The following table summarizes stock option information at December 31, 2012:
Options outstanding Options exercisable
Weighted Weighted Weighted Weighted
Range of Average average average average
exercise Remaining exercise remaining exercise
price Shares life (yrs) price Shares life (yrs) price
$1.71 - $2.40 745,600 3.73 $2.03 107,800 3.37 $2.13
$2.41 - $2.97 546,500 1.75 $2.80 402,575 1.64 $2.74
$2.98 - $5.00 - - - - - -
$5.01 - $6.64 362,500 1.35 $5.72 362,500 1.35 $5.72
1,654,600 2.55 $3.08 872,875 1.73 $3.90
The total intrinsic value of all outstanding options at December 31, 2012 whose
exercise price was less than the Company's closing stock price on that date was
$0. No options were exercised in 2012, 2011 or 2010. The total grant-date fair
value of options that vested during 2012, 2011 and 2010 was $155,000, $428,000
and $722,000, respectively.
Subsequent to December 31, 2012, options to purchase 692,000 shares of common
stock were granted to the Company's executive officers and other key employees
with an exercise price of $.90, which was the market price on the date the
options were granted. These options vest over a three-year period and expire
after five years. These options have a value of approximately $.31 per share.
Note K - Stockholder Rights Plan
On October 27, 2000, the Company's Board of Directors adopted a Stockholder
Rights Plan. Under this plan, one preferred stock Purchase Right was distributed
as a dividend for each share of common stock held by the stockholders of record
as of the close of business on November 8, 2000. Until the occurrence of certain
events, the Rights are traded as a unit with the common stock. Each Right will
separate and entitle stockholders to buy stock upon the occurrence of certain
events generally related to the change of control of the Company as defined in
the Plan. The Rights become exercisable ten days after either (1) an "Acquiring
Person" acquires or commences a tender offer to acquire 15% or more of the
Company's common stock, or (2) an "Adverse Person" has acquired 10% or more of
the Company's common stock and the Board determines this person is likely to
cause pressure on the Company to enter into a transaction that is not in the
Company's best long-term interest. All Rights not held by an Acquiring Person or
an Adverse Person become rights to purchase from the Company one one-thousandth
of one share of preferred stock at an initial exercise price of $110 per Right.
Each Right entitles the holder of that Right to purchase the equivalent of $220
worth of the Company's common stock for $110. If after such an event the Company
merges, consolidates or engages in a similar transaction in which it does not
survive, each holder has a "flip over" right to buy discounted stock in the
surviving entity. The Company may redeem the Rights for $.001 each.
The Rights Plan was scheduled to expire on November 1, 2012 and was extended by
the Board of Directors through November 1, 2015. The Plan can be modified or
terminated, at the option of the Board of Directors.
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Note L - Income Taxes
Pre-tax earnings consisted of the following for the years ended December 31,
2012, 2011 and 2010:
2012 2011 2010
Pre-tax (loss) earnings:
United States $ (7,402,000 ) $ (1,448,000 ) $ (11,547,000 )
Outside United States 458,000 263,000 536,000 Total pre-tax (loss) earnings $ (6,944,000 ) $ (1,185,000 ) $ (11,011,000 )
For the same periods, the provision (benefit) for income taxes was as follows:
2012 2011 2010Current income tax provision (benefit):
Federal $ 14,000 $ 53,000
State $ 14,000 13,000 5,000
Foreign 12,000 (81,000 ) (83,000 ) Net change in liability for unrecognized
tax benefits (6,000 )
26,000 (54,000 ) (31,000 )
Deferred provision 168,000 32,000 197,000
Total provision (benefit) $ 194,000 $ (22,000 ) $ 166,000
Prior to December 31, 2010, the Company had not provided for federal and state
income taxes on the accumulated earnings of its Canadian subsidiary as it was
the Company's intent to indefinitely reinvest such earnings in the operations of
the subsidiary. At December 31, 2010, the Company believed that it was
reasonably possible that a portion of such accumulated earnings may be
repatriated in the foreseeable future. The 2010 deferred provision included a
discrete tax provision of $138,000 related to the impact on earnings of this
change in assumption, recorded at the federal and state marginal tax rates, less
the amount of net operating losses and tax credit carry-forwards that can be
used to offset the federal and state tax. Because at December 31, 2012 the
Company believes it remains reasonably possible that a portion of accumulated
earnings may be repatriated in the foreseeable future, a discrete tax provision
of $65,000 and $48,000 was recorded in 2012 and 2011, respectively, relatedto
this potential impact.
In 2012, the Company recorded a discrete income tax charge of $102,000 to record
a full valuation allowance against the Company's foreign subsidiaries' net
deferred tax assets.
During 2010, the Company received a refund amounting to $387,000 relating to a
2009 United States tax law change that allowed the Company to carry back net
operating losses five years rather than two years.
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A reconciliation of the statutory U.S. federal income tax rate to the effective
rates is as follows:
2012 2011 2010
Federal income tax at statutory rate 34.0 % 34.0 % 34.0 %
Foreign taxes (2.5 ) 1.4 .8
State tax provision 2.0 30.2 2.7
Meals and Entertainment (.2 ) (4.3 ) (0.7 )
Stock compensation expense (.1 ) (2.6 ) (0.5 )
Tax exempt interest .1 .3
Canadian tax credits 9.5 46.0 4.4
Repatriation of foreign earnings (7.7 ) (30.0 ) (10.3 )
Research and development credits .2 23.1 3.0
Resolution of prior year tax uncertainties .1
Valuation allowance (39.0 ) (97.3 ) (35.4 )
Other 1.0 1.3 .1
Effective tax rate (2.8 )% 1.9 % (1.5 )%
Research and development tax credits and Canadian tax credits are generated
primarily from research and development efforts in the United States and Canada.
The tax exempt interest relates to the Company's investment portfolio. The tax
uncertainties were released based upon the lapsing of the statute of limitations
related to these uncertainties. The Company receives certain foreign research
tax credits which are refundable regardless of the reported income in the
jurisdiction; those credits are reported as a reduction of research and
development expense.
Deferred income tax assets and liabilities consist of the following:
At December 31,
2012 2011
Assets:
Current: Accrued vacation, payroll and other accrued expenses $ 230,000
$ 289,000
Inventory and inventory related items 1,786,000 1,262,000
Bad debt and note receivable reserves 47,000 115,000
Fair value of foreign currency hedge contracts 17,000
Non-current:
Net operating loss carryforwards 8,767,000 6,170,000
Stock compensation expense 1,031,000 949,000
Capital loss carryforwards 68,000
Tax credit carryforwards 4,659,000 4,025,000
Depreciation 214,000
Goodwill 665,000 776,000
Other 32,000 37,000
Total deferred income tax assets 17,217,000 13,922,000
Less - valuation allowance (13,678,000 ) (11,120,000 )
Net deferred income tax assets 3,539,000 2,802,000
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(continued) At December 31,
2012 2011
Liabilities:
Non-current: Capitalized software development costs, net $ (1,363,000 ) $ (1,361,000 )
Depreciation (369,000 )
Unremitted earnings (2,058,000 ) (1,524,000 )
Total deferred income tax liabilities (3,790,000 ) (2,885,000 )
Net deferred income tax liabilities $ (251,000 ) $ (83,000 )
The total deferred tax assets and liabilities as presented in the accompanying
Consolidated Balance Sheets are as follows:
At December 31,
2012 2011
Net current deferred income tax assets $ 445,000 $ 368,000
Net non-current deferred income tax assets 102,000Net non-current deferred income tax liabilities $ (696,000 ) $ (553,000 )
The Company has recorded a full valuation allowance against its net deferred
income tax assets. Deferred income tax liabilities used in this assessment are
of like character, in the same jurisdiction and are scheduled to reverse in the
same period as the deferred tax assets.
The total change in the valuation allowance in 2012 and 2011 was $2,558,000 and
$876,000, respectively.
In 2012, 2011 and 2010, the Company generated federal and state net operating
losses for income tax purposes. These federal and state net operating loss
carryforwards, which total approximately $23,700,000 at December 31, 2012, begin
to expire in 2026, if not utilized. Of the Company's tax credit carryforwards,
$4,372,000 expire between 2019 and 2032, if not utilized, and the remainingof
carryforwards do not expire.
At December 31, 2012 and 2011, the Company's balance of unrecognized tax
benefits was $0. A reconciliation of the unrecognized tax benefits liability for
2010 is as follows:
Balance at January 1, 2010 $ 65,000
Additions for the accrual of interest 2,000
Reductions from settlements with taxing authorities (including
interest and penalties of $14,000)
(67,000 )
Balance at December 31, 2010, 2011 and 2012 $ -
The Company files U.S. federal, U.S. state, and foreign tax returns. For federal
tax returns, the Company is no longer subject to tax examinations for years
prior to 2009. For foreign and state returns, the Company is also no longer
subject to tax examinations for years prior to 2008. It is reasonably possible
that the liability associated with the Company's unrecognized tax benefits will
increase within the next twelve months. Based upon the closing of the tax years
in these various jurisdictions, the Company may adjust its liability for
unrecognized tax benefits. These changes may be the result of new examinations
by taxing authorities, ongoing examinations, or the expiration of statutesof
limitations.
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Note M - Research and Development
The Company incurred research and development costs relating to the development
of new products as follows:
2012 2011 2010
Gross expenditures for engineering and
software
development $ 7,878,000 $ 9,161,000 $ 10,084,000
Less: amounts capitalized (2,295,000 ) (2,037,000 ) (2,261,000 )
Net charged to operating expenses $ 5,583,000 $ 7,124,000 $ 7,823,000
Software development costs consisted of the following:
At December 31,
2012 2011
Capitalized software development costs $ 24,450,000 $ 22,155,000
Less: accumulated amortization
(20,734,000 ) (18,223,000 )
Net $ 3,716,000 $ 3,932,000
Amortization of software development costs included in cost of goods sold was
$2,511,000, $1,925,000 and $2,716,000 for 2012, 2011 and 2010, respectively.
Amortization of software development costs for 2012, 2011 and 2010 included
charges to write off or write down to estimated net realizable value software
development costs amounting to $885,000, $175,000 and $604,000, respectively,
which were capitalized for new products which either had not reached commercial
general release and were discontinued, or which have been released and for which
revenue is not expected to be sufficient to absorb the project's unamortized
cost. (See Note C)
It is estimated that amortization of software development costs capitalized at
December 31, 2012 will total approximately $1,615,000, $1,213,000, $771,000, and
$117,000 in 2013, 2014, 2015, and 2016, respectively.
Note N - Employee Benefit Plans
For the Company's operations in the United States, the Company's Retirement
Savings Plan qualifies under Section 401(k) of the Internal Revenue Code. The
Company made no discretionary matching contributions in 2012, 2011 or 2010. For
its operations in Canada, statutory contributions were made in 2012, 2011 and
2010 to a Registered Retirement Savings Plan (RRSP) that is administered by the
Canadian government. No discretionary matching contributions were made for the
Company's operations in Canada in 2012, 2011 or 2010.
Note O - Derivative Instruments - Foreign Currency Hedge Contracts
The Company is exposed to the impact of fluctuations in foreign exchange rates
in its Canadian and United Kingdom operations. The Company's risk management
program is designed to reduce the exposure and volatility arising from thisrisk.
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During 2011, the Company entered into foreign currency forward contracts with
JPMorgan Chase Bank, N.A. (the "Bank") in order to fix in U.S. dollars a portion
of the monthly costs of the Company's Canadian operation, which is denominated
in Canadian dollars. The purpose of these contracts was to reduce the Company's
exposure to variability in the exchange rates between the United States and
Canada for each month. These contracts effectively fixed the exchange rate on
the first $100,000CDN of 2011 monthly expenses for the months of July and August
and on the first $200,000CDN of monthly expenses for the months of September
through December at a rate of .98. In addition, the Company entered into
contracts to fix the exchange rate on the first $200,000CDN of 2012 monthly
expenses through June 2012 at approximately .983.
During 2010, the Company entered into similar foreign currency forward contracts
with the Bank. These contracts effectively fixed the exchange rate on the first
$100,000CDN of 2010 monthly expenses for the months of April and May at
approximately .948, on the first $200,000CDN of 2010 monthly expenses for the
months of June through July at approximately .941, and on the first $300,000CDN
of 2010 monthly expenses for the months of August through December at
approximately .943. In addition, during 2010 the Company entered into contracts
to effectively fix the exchange rate on the first $100,000CDN of 2011 monthly
expenses for the months of January through March at approximately .948.
All of these contracts were designated as effective cash flow hedges and any
gains or losses resulting from changes in the fair value of these contracts are
recorded in other comprehensive income. The Company receives, or is required to
disburse, cash payments upon the expiration of each contract depending on
fluctuations in the underlying exchange rates; such payments will be recorded as
reductions to or increases in expense as they are determined.
The Company did not have any foreign currency forward contracts in place at
December 31, 2012.
The fair value of the Company's derivative instruments was as follows:
Balance Sheet Fair value at December 31,
Location 2012 2011
Derivatives designated as hedging Current
instruments liabilities $ - $(46,000)
All of the fair value of the Company's derivative instruments at December 31,
2011 was reclassified against earnings during 2012.
The Company's derivative instruments had the following effect on the statements
of operations:
Amount of gain reclassified from
Location of gain accumulated other comprehensive income
(loss) (loss) to the statement of operations
Derivatives fair value hedging recognized in Year ended December 31,
relationships operations 2012 2011 2010
Foreign exchange contracts Operating $(27,000) $(8,000) $273,000
expenses
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The Company's derivative instruments had the following effect on accumulated
other comprehensive income:
Amount of gain recognized in comprehensive income
Year ended December 31,
2012 2011 2010
Accumulated other comprehensive (loss)
income -derivatives, beginning $ (46,000 ) $ 11,000 $ 128,000
Amount of loss (gain) recognized in
statement of operations, net of tax 27,000 5,000 (175,000 )
Net change in fair value of derivative
instruments 19,000 (62,000 ) 58,000
Accumulated other comprehensive (loss)
income - derivatives, ending $ - $ (46,000 ) $ 11,000
Subsequent to December 31, 2012, the Company entered into similar foreign
currency forward contracts with the Bank. These contracts effectively fix the
exchange rate on the first $125,000CDN of 2013 monthly expenses for the months
of February through December 2013 at approximately 1.004, and fix the exchange
rate on $125,000CDN of 2013 monthly expenses for the months of March through
December 2013 at 1.0202. All of these contracts have been designated as
effective cash flow hedges and any gains or losses resulting from changes in the
fair value of these contracts will be recorded in other comprehensive income.
Note P - Litigation
The Company is subject to various legal proceedings and claims that arise in the
ordinary course of business.
In 2009, a complaint was filed against the Company by Tekelec, a California
corporation headquartered in Morrisville, North Carolina, which alleged that
certain of the Company's signaling systems products infringe certain of
Tekelec's issued patents. The claim sought a determination of infringement, a
preliminary and permanent injunction from further infringement and an
unspecified amount of damages. In May 2011, PT and Tekelec agreed to voluntarily
dismiss all of the claims and defenses against each other, without prejudice. By
stipulation dated May 4, 2011, the litigation was dismissed without prejudice.
The Company issues indemnifications in the ordinary course of business with
certain customers, suppliers, service providers and business partners. Further,
the Company indemnifies its directors and officers who are, or were, serving at
the Company's request in such capacities. The fair value of the indemnifications
that the Company issued during 2012 was not material to the Company's financial
position, results of operations or cash flows.
Note Q - Restructuring Charges
Restructuring charges amounted to $434,000, $253,000 and $1,176,000 in 2012,
2011 and 2010, respectively.
In October 2012, the Company announced an expense reduction action. The program
included the elimination of 14 positions, which represented approximately 10% of
the Company's workforce. Annualized cost savings resulting from this action are
estimated to be approximately $1,039,000. Restructuring charges associated with
this action included employee severance and related costs and totaled $437,000
in 2012. These amounts were cash charges and this action was completed during
the fourth quarter 2012.
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In December 2010, the Company announced an expense reduction action which was
implemented during the first and second quarters 2011. The program included the
elimination of 22 positions, which represents 12% of the Company's workforce. In
addition, in connection with this action, the Company's San Luis Obispo,
California engineering center was closed with those hardware engineering
functions assumed by the Company's engineering staff in Rochester, New York.
Restructuring charges associated with this action, which was completed in 2011,
totaled $245,000 and $905,000 in 2011 and 2010, respectively. The charges
resulting from this action were employee severance and related costs, rental and
lease termination expenses, moving costs and write-downs of equipment. Cash
expenditures incurred in relation to this action totaled $1,123,000 and $0in
2011 and 2010, respectively.
A summary of the activity with respect to restructuring charges is as follows:
Lease
Severance commitments and
Number of employees Reserve other TotalBalance at January 1, 2010 - - - -
2010 restructuring charges 36 $ 1,114,000 $ 62,000 $ 1,176,000
2010 utilization (13 ) (190,000 ) (62,000 ) (252,000 )
Balance at December 31, 2010 23 924,000 - 924,000
2011 restructuring charges 2 141,000 112,000 253,000
2011 utilization (25 ) (1,065,000 ) (109,000 ) (1,174,000 )
Balance at December 31, 2011 - - 3,000 3,000
2012 restructuring charges 14 437,000 (3,000 ) 434,000
2012 utilization (14 ) (435,000 ) - (435,000 )Balance at December 31, 2012 - $ 2,000 $ - $ 2,000
Subsequent to December 31, 2012, the Company announced an expense reduction
action which is being implemented in the first quarter 2013. This action
includes the elimination of 10 positions, representing 8% of the Company's
workforce, from which approximately $700,000 of annualized cost savings are
expected to be achieved. Restructuring costs associated with this action total
$252,000 and will be recognized in the first quarter 2013.
Note R - Product Revenue
The following table represents the Company's total sales for 2012, 2011 and 2010
classified by product category:
2012 2011 2010
Telecommunications $ 19,595,000 $ 27,568,000 $ 22,599,000
Government aerospace/defense 3,725,000 8,608,000 5,347,000
Total $ 23,320,000 $ 36,176,000 $ 27,946,000
63
Table of Contents
Note S - Quarterly Results (unaudited)
The following is a summary of unaudited quarterly results of operations for the
years ended December 31, 2012 and 2011:
2012
(in thousands, except per share data)
Mar. 31 Jun. 30 Sep. 30 Dec. 31
Sales $ 8,356 $ 5,018 $ 4,671 $ 5,275
Software capitalization and intangible
asset write-off 1,600
OEM excess inventory charge 1,351
Gross profit (loss) 4,559 2,074 1,801 (481 )
Restructuring charges 434
Stock compensation expense 67 58 61 58
Income (loss) from operations 298 (1,830 ) (1,635 ) (3,829 )
Net income (loss) $ 289 $ (1,754 ) $ (1,673 ) $ (4,000 )
Basic income (loss) per share $ 0.03 $ (0.16 ) $ (0.15 ) $ (.36 )
Diluted income per share $ 0.03
2011
(in thousands, except per share data)
Mar. 31 Jun. 30 Sep. 30 Dec. 31
Sales $ 9,672 $ 8,453 $ 9,000 $ 9,051Software capitalization write-off 175
Gross profit 4,493 3,667 4,546 4,710
Restructuring charges 122 60 71
Stock compensation expense 89 79 66 71
Litigation expenses 347 69 12Impairment charge - vendor software 400(Loss) income from operations (1,224 ) (537 ) (84 ) 506
Net (loss) income $ (1,098 ) $ (452 ) $ (86 ) $ 473
Basic (loss) income per share $ (0.10 ) $ (0.04 ) $ (0.01 ) $ 0.04
Diluted income per share $ 0.04
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