National Technical Systems 10-K 2012
Documents found in this filing:
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the fiscal year ended January 31, 2012
Commission file number 0-16438
NATIONAL TECHNICAL SYSTEMS, INC.
(Exact name of registrant as specified in its charter)
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Securities registered pursuant to Section 12(g) of the Act:> None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes o No x
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes o No x
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes x No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. x
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “accelerated filer,” “ large accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of Act). Yes o No x
State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold, or the average bid and asked price of such common equity, as of the last business day of the registrant’s most recently completed second fiscal quarter - $46,465,000 (as of July 31, 2011).
The number of shares of registrant's Common Stock outstanding on April 23, 2012 was 11,322,910.
NATIONAL TECHNICAL SYSTEMS, INC.
FISCAL YEAR ENDED JANUARY 31, 2012
In this report, unless the context otherwise requires, the terms “NTS,” “Company,” “we,” “us,” and “our” refer to National Technical Systems, Inc., a California corporation and its subsidiaries.
Special Note Regarding Forward Looking Statements
Certain statements in this report, including information incorporated by reference, are “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. Forward-looking statements reflect current views about future events and financial performance based on certain assumptions. They include opinions, forecasts, intentions, plans, goals, projections, guidance, expectations, beliefs or other statements that are not statements of historical fact. Words such as “may,” “should,” “could,” “would,” “expects,” “plans,” “believes,” “anticipates,” “intends,” “estimates,” “approximates,” “predicts,” or “projects,” or the negative or other variations of such words, and similar expressions may identify a statement as a forward-looking statement. Any statements that refer to projections of our future financial performance, anticipated trends in our business, our goals, strategies, focus and plans, and other characterizations of future events or circumstances, including statements expressing general optimism about future operating results, are forward-looking statements. Forward-looking statements in this report may include statements about:
The forward-looking statements in this report speak only as of the date of this report and, except to the extent required by law, we do not undertake any obligation to update any forward looking statements. Forward-looking statements are subject to certain events, risks, and uncertainties, some of which are outside of our control. When considering forward-looking statements, you should carefully review the risks, uncertainties and other cautionary statements in this report as they identify certain important factors that could cause actual results to differ materially from those expressed in or implied by the forward-looking statements. These factors include, among others, the risks described under Item 1A and elsewhere in this report, as well as in other reports and documents we file with the SEC. Caution should be taken not to place undue reliance on any such forward-looking statements.
NATIONAL TECHNICAL SYSTEMS, INC.
Annual Report (Form 10-K)
For Year Ended January 31, 2012
NTS is a leading provider of testing solutions and highly trained technical personnel for product design and evaluation, safety testing, certification and supply chain management to enable customers to sell their products in world markets. NTS performs management registration and certification services to ISO related standards. NTS is accredited by numerous national and international technical organizations which allow the Company to have its test data accepted in most countries.
NTS serves customers primarily in the aerospace, defense, telecommunications, automotive, energy, consumer products, commercial and industrial products and medical markets. The defense and aerospace markets combined accounted for approximately 65% of the Company’s revenues for the year ended January 31, 2012. No single customer accounted for more than 10% of the Company’s revenues in the fiscal year 2012.
The Company’s business is conducted through a number of operating units, each with its own management. NTS executive management sets the strategy and maintains overall supervision, coordination and financial control of the operating units, and manages the development of new services and the acquisition of related businesses. The management of each operating unit has responsibility for achieving sales and profit goals of their unit.
NTS operates facilities in 23 cities in the United States and in 3 international cities. The Company's principal executive offices are located at 24007 Ventura Boulevard, Suite 200, Calabasas, California 91302 (telephone: 818-591-0776).
The Company is a California corporation and was founded in 1961.
Aerospace.> NTS offers integrated life cycle product services to the aerospace market. These services include engineering, testing and supply chain management. From concept development and design, through detail design, certification, production and in-service life, NTS provides support throughout the full life cycle of the aerospace product. These integrated services fill the capability gaps that have developed in the aerospace supply chains after years of large scale integration, outsourcing and globalization.
Testing services include providing a wide range of test capabilities for structures and airborne equipment. For structures, NTS has extensive capability and expertise in large component static and fatigue testing, including full scale airframe static and fatigue, sonic fatigue, vibration, modal, ground vibration, high pressure/high flow air and fluid compatibility. Airborne equipment testing spans the full range of RTCA DO-160 requirements, including static and dynamic, electromagnetic effects (EME, EMI, EMC), electrostatic discharge (ESD), environmental, material and system compatibility, high intensity radiated field (HIRF), indirect lightning effects and highly accelerated life testing/stress screening (HALT/HASS).
Through its acquisition of Lightning Technologies, Inc. (LTI) in September, 2011, NTS now has the capability to do direct strike lightning testing. LTI, now NTS Pittsfield, is home of one of the most comprehensive lightning-simulation laboratories in the world and ranks as an international leader in the development of sophisticated lightning protection systems for customers in the aerospace industry as well as for industrial complexes, golf courses, wind turbine farms, theme parks and other high-risk locations. Service offerings include consulting, in-house seminars on lightning protection, design of protection systems and testing services- both in-house and field testing.
NTS’ engineering services consist of design and analysis of aerospace structures, systems, components and detailed parts as part of customers’ design teams or as a fixed-price work package. Specific capabilities include engineering program management, managed engineering services (on-site management of customer engineering teams), design engineering, analysis, test engineering, test system engineering, failure forensics and expert witnessing.
Supply chain management services span a wide range of development, oversight, and certification/accreditation activities including product inspection, production monitoring and expediting, test witnessing and support, corrective action follow-up, supplier surveillance, sub-tier supplier management, new supplier surveys, systems evaluations and audits (including special processes), development of quality assurance protocols, supplier development and improvement, quality management system audit, certification and registration.
NTS provides engineering services that design, develop, test, and integrate pods and payloads for unmanned aerial systems (UAS). This group has expanded from airborne platforms into ground, sea (surface and subsurface), and robotic platforms. NTS has conducted test programs for UAS components, systems, payloads and completely integrated air vehicles. NTS is actively engaged in a variety of unmanned system test programs, and has performed environmental, vibration and EMI testing on a number of UAS systems.
The Company’s initial aerospace market sector focus for offering integrated life cycle product services is in the large commercial transport and general aviation sectors.
Defense. >NTS plays an active role in numerous U.S. defense-related programs, performing a wide variety of defense technology research, development, test, and evaluation (RDT&E) services for the Department of Defense (DOD), military, government and commercial industry. These services evaluate the weapons, ordnance, munitions, avionics, electronics, hydraulic and pneumatic controls, engines and communication systems that make up the elements of today’s modern battlefield. The Company’s testing platforms for the defense industry include fixed wing aircraft, helicopters, submarines, aircraft carriers and other naval ships, tanks and other tracked vehicles, trucks and road vehicles, command, control and communication systems and missiles and weapons systems. Testing includes associated system and component level tests of structures, hardware, electronics, personal protective equipment, armor, weapons and ammunition.
NTS has facilities that are specially constructed to store, handle, and test ordnance, munitions and hazardous materials. Routine testing includes live fire, function, environmental, dynamics, safety, MIL-STD-901 shipboard shock, insensitive munitions (IM), hazard classification, transportation and packaging safety. These tests are done for prototype, developmental, qualification and production/lot acceptance testing (LAT). Multiple NTS facilities around the country provide 200 v/m up to 40 GHz EMI/EMC testing of electronic and communications equipment. Custom designed NTS data acquisition systems are capable of collecting data at speeds of 2,000,000 data points per second and digital photography capability of over 160,000 color photos per second.
NTS’ defense group is expanding to include energetic and prototype engineering services, including 2D and 3D CAD modeling; technical data package (TDP) development and modification; finite element analysis (FEA), projectile design and analysis; interior and exterior ballistics analysis, and design and development of custom test hardware and fixtures. Other services include support of, and procurement and delivery of precision metal parts and explosive loading of prototype hardware. Additional defense services include design, development, fabrication, and fielding of specialized high speed instrumentation and diagnostics for energetics and hazardous materials and ordnance testing. This includes custom sensor suite design, fabrication and deployment, often through specialized test facility design.
Telecommunications.> NTS provides engineering design, test evaluation and certification services for manufacturers of a broad array of telecommunications networking and storage equipment intended for commercial data centers, central/telecom office and customer premise environments. The Company’s services are performed in accordance with domestic and international regulatory standards, the network equipment building systems (NEBS) specifications and fiber optics general requirements (GRs) as required by the telecommunications industry. Globally, NTS represents the largest network of independent test laboratories (ITL) certified and recognized by most regional bell operating companies’ (RBOCs) carriers. The Company is also certified and accredited to support formal witness testing on behalf of the RBOC carriers at approved manufacturer’s internal test facilities. As the wireless telecom industry continues to see significant growth, globally, the need for engineering design, testing evaluation and certification services for faster and more robust backhaul networking equipment will continue to increase. The Company is well positioned to support this accelerated growth currently providing accredited ITL services at laboratories in California, Massachusetts, New Jersey, Texas, and Germany.
Automotive.> NTS supports the commercial and military vehicle industries with testing, including dynamometer operations on power train components, vibration and shock on mechanical and electrical assemblies, thermal and corrosion exposures on control and monitoring systems, pressure pulsing and burst on fluid handling items and fatigue and ultimate strength on mechanical components. NTS performs testing to support requirements in emerging markets of pure electric vehicles and electrical hybrid vehicles. This includes electric motors, integrated motor/transmissions, specialized high speed transmissions, batteries and control/distribution modules. It also performs highly accelerated life tests (HALT) and highly accelerated stress screen (HASS). These tests combine extremes of temperature, rapid temperature change, and multi-axis vibration to rapidly expose design weaknesses and process flaws. NTS is accredited to ISO 17025 through the American Accreditation of Laboratories Association (A2LA). This accreditation allows NTS automotive test reports to be accepted throughout the U.S. and internationally.
Energy.> NTS Energy offers multi-disciplinary expertise and capabilities to provide smart solutions to complex engineering, and scientific problems in the areas of nuclear energy, renewable energy, energy storage and smartgrid. The services provided are:
Consumer Products>. NTS provides engineering design, test evaluation and domestic and international certification services for a broad array of consumer products normally procured for use in a residence, school and recreation environments. This typically includes personal computing, PC peripheral, residential networking and personal wireless devices. These products are subjected to a wide range of electromagnetic compatibility, product safety, reliability, usability. interoperability tests and certifications to assure market compliance, reliability and effective use. The Company has been approved as an exclusive independent test laboratory (ITL) to offer Internet TV Set-top Box multimedia over coax (MoCA) certification. The Company is the exclusive certifications provider for Sirius/XM Radio Ready program and holds a number of domestic and international test accreditations throughout its network of commercial laboratories. NTS is an accredited Telecommunication Certification Body (TCB) in North America and an appointed Notified Body for wireless devices in the European Union. With the increased integration of wireless technology into traditional consumer products, the dramatic population growth, income gains, global macroeconomic shifts and the urbanization in regions throughout Asia, Central and South America and Africa, NTS is well positioned to support the growing market spaces to which manufacturers are seeking to sell. The Company’s service offerings offer a ‘one-stop-shop’ to the consumer product market, ensuring a shorter time to market in the fierce ‘to market’ race manufacturers find themselves competing within.
Commercial & Industrial.> NTS provides engineering design, testing evaluation and domestic and international certification services to manufacturers of a broad array of commercial and industrial products normally procured for light and heavy industrial applications. This covers a wide range of industries from shipbuilding, semiconductor manufacturing equipment, automation, robotics, laboratory and materials handling devices. Various types of commercial grade electronic, hydraulic and pneumatic systems are subjected to electrical, environmental and safety testing to ensure regulatory compliance and safe and reliable use. Special combined mechanical and environmental testing processes such as highly accelerated life testing (HALT) are used to accelerate the effects of aging and wear to allow manufacturers to produce a more reliable product. Once this has been accomplished, similar highly accelerated stress screening (HASS) testing can be used to ensure consistent quality on the production line. Market trends are showing increased integration of Wireless Local Area Network (WLAN) and Wide Wireless Access Network (WWAN) communication technologies in such product lines. NTS offers a complete turnkey engineering design, testing evaluation and domestic and international certification services for industrial products, including customer driven requirements.
Medical.> NTS provides engineering design, testing evaluation and domestic and international certification services to manufacturers of a broad array of medical products typically including non-invasive devices. Services include electromagnetic compatibility, electrical product safety and quality control/risk analysis consultation. Through various industry partnerships, the Company has affiliations with consultants and Notified Bodies to support medical approval in North America and throughout the European Union. With the increased integration of wireless communications into traditional medical device products, NTS is also well equipped to support domestic and international testing and approvals.
Manufacturers often fulfill their evaluation testing needs on an outsourcing basis in order to reduce costs, avoid large capital expenditures, save time and remain competitive. Due to regulations requiring third party certification, manufacturers must use third party certifiers to position their products for sale in world markets. NTS is geographically located to serve customers at locations close to their plants and NTS facilities are capable of providing the conformity assessment activity necessary to reduce product-handling costs and serve as a market gateway for manufacturers to sell products globally. NTS provides a “one stop” resource and single source responsibility for all conformity assessment requirements in the several markets it serves.
Strategies to drive growth and excellence:
Over the last few years, NTS restructured its executive leadership team and initiated a new growth strategy to provide significant focus on corporate development activities within the mid-to longer-term time horizon, while continuing to drive efficiencies and market penetration within the shorter-term fiscal planning time horizon.
NTS’ strategies for continued growth in fiscal 2013 include:
Major initiatives in NTS’ business strategy are:
Understanding customers’ changing needs and requirements.> This strategy deals with gaining an understanding of the changing product and test specifications and developing services to fulfill these future requirements. NTS uses its technical and sales relationships to identify future needs and the information is analyzed in the innovation platform for determining if there is a solid business case for creating value. This strategy allows NTS to maintain a high level of customer retention.
Process Improvement.> This strategy deals with automation, lean process, and efficient and effective workspace. Automation is about using technology to enhance our service and do things faster, more efficiently and at a reduced cost. NTS is striving to do more for less and simultaneously enhance the overall quality of our service. Lean process is about driving waste out of process by eliminating non value-added tasks. Efficient and effective workspace is about simplifying work areas and reducing time by having support equipment and tooling readily available for use.
Enhance Utilization of Resources.> This strategy is about having the right balance of resources (people and equipment) across the enterprise so that the Company can perform work at the level customers require and at the appropriate level NTS needs to meet the Company’s strategic goals. NTS is currently in the process of implementing an Enterprise Resource Planning (ERP) system that will allow measurement of equipment utilization thereby enhancing enterprise scheduling. This ERP system will also be deployed across all business departments and replace our current outdated system. The deployment of the ERP system is a major investment for the company. At January 31, 2012 the ERP system had been rolled out at 18 facilities. The remaining facilities are expected to be integrated by the end of the third quarter of fiscal year 2013.
Innovating around new services and emerging technology markets.> This strategy deals with taking new ideas and converting them into value for customers. Examples of recent innovative initiatives that have been successful are the high intensity radiated frequency (HIRF) testing, solar loading testing, pyro shock testing for the aerospace market and thermal modeling, simulation and test (TMST), a certification program for the telecom industry to produce more energy efficient network equipment. Future innovation projects will include evaluating expansion into Asia, liquid hydrogen testing for space launch vehicles, reliability testing for the oil and gas industry, environmental and compliance testing for the smart grid HAN (Home Area Network), energy and test support on renewable energy and cyber security.
Geographic Expansion and Access.> This strategy deals with the concept of “easy to do business with.” Access is more than a geographical location. Even though NTS currently has 26 locations situated geographically so customers have local access to services, it means giving customers the ability to interact with NTS where, when and how they want and providing a professional environment that includes convenient hours, cleanliness, good maintenance and lay-out of facilities. NTS has also developed a software program, “LabInsight” that allows customers to witness testing while never leaving their location and receive test data streamed live via a web connection.
Growth through acquisitions. >This strategy deals with acquiring test labs and niche engineering service organizations to increase capacity and capability, broaden our customer base, and expand our geographic reach. NTS has made several acquisitions over the last three years, and the Company’s ability to successfully integrate operations and retain technical staff and leadership, particularly when acquiring complementary and competitive testing organizations, has helped NTS grow.
In the aerospace and defense markets, the main competition for independent laboratories is the customers’ internal laboratories, including government laboratories. Within the telecommunications, consumer product, energy and transportation markets, the main NTS competition comes from commercial test laboratories of various sizes throughout the world. NTS also competes with a small number of large conformity assessment organizations, within each of the markets it serves, including multinational companies. The Company has competitive advantages in several areas which include the following: (i) ability to service customers at facilities close to their locations; (ii) ability to provide complete conformity assessment activities at a single location, which reduces product-handling cost for the customers and enhances timeliness of service; (iii) diverse and technically competent employees; and (iv) accreditations that allow NTS test data to be accepted worldwide. Customers can use the Company’s complete services, including quality registration, to position their products for world markets.
NTS’ growth strategy includes the acquisition of businesses to increase capacity and capability, provide complimentary service offerings, broaden its customer base, and expand its geographic reach. A significant portion of the Company’s growth comes from acquisitions. In the past three years, NTS has made four acquisitions, as follows:
On September 1, 2011, the Company acquired Lightning Technologies, Inc. (LTI), a provider of testing and engineering services located in Pittsfield, Massachusetts. LTI specializes in the field of lightning protection. LTI’s customer base, capabilities and service offerings are concentrated in the aerospace, construction and wind power generation markets. The acquisition expands the Company’s non-defense industry businesses and particularly strengthens its aerospace business.
On July 21, 2011, the Company acquired substantially all of the business and assets of Ingenium Testing, based in Rockford, Illinois, a provider of product compliance and engineering services in the aerospace market. The acquisition gives NTS an important presence in the midwest region.
On December 16, 2010, the Company acquired Mechtronic Solutions, Inc. (MSI), located in Albuquerque, New Mexico, a provider of engineering services primarily to the defense and industrial markets. The addition of MSI advances the Company’s full-service integrated engineering services capabilities and provides additional established customers.
On November 30, 2009, NQA, Inc., a 50% owned consolidated subsidiary of NTS, acquired Unitek Technical Services, Inc., located in Centreville, Virginia. This acquisition broadened the Company’s service offerings to include supply chain management.
On October 31, 2011 the Company closed its facility in Calgary, Canada due to non-renewal of the facility’s lease. The decision to shut down operations was based on the cost to relocate to a new facility in the area and the low operating profit of the existing business.
The Company's backlog was $65,928,000 and $58,183,000 for the years ended January 31, 2012 and 2011, respectively.
NTS’ technical services and products are not generally dependent upon patent protection, although the Company does selectively seek patent protection. NTS claims a proprietary interest in certain products, software programs, methodologies and know-how. This proprietary information is protected by copyrights, trade secrets, licenses, contracts and other means. The Company has registered its service mark "NTS" with the U.S. Patent and Trademark Office.
NTS is subject to various federal, state, local and foreign government requirements, including regulations regarding the discharge of materials into the environment or otherwise relating to the protection of the environment. It is our policy to comply with these requirements, and we believe that, as a general matter, our policies, practices and procedures are properly designed to prevent unreasonable risk of environmental damage, and of resulting financial liability, in connection with our business. Some risk of environmental impact, however, is inherent in some of our operations, as it is with other companies engaged in similar businesses.
The Company employed 1,162 individuals at January 31, 2012 and 1,095 at January 31, 2011, as follows:
Our website address is http://www.nts.com. We make available, free of charge through our website, our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, Proxy Statements, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act as soon as reasonably practicable after such material is electronically filed with or furnished to the Securities and Exchange Commission (SEC). References to our website addressed in this report are provided as a convenience and do not constitute, or should be viewed as, an incorporation by reference of the information contained on, or available through, the website. Therefore, such information should not be considered part of this report.
Our filings may also be read and copied at the SEC's Public Reference Room at 100 F Street NE, Room 1580 Washington, DC 20549. Information on the operation of the Public Reference Room may be obtained by calling the SEC at 1-800-SEC-0330. The SEC also maintains an Internet site that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC. The address of that website is www.sec.gov.
Our ability to implement our business strategy and achieve our intended operating results is subject to a number of risks and uncertainties, including the ones identified below, and additional risks not currently known to us or that we currently believe are immaterial.
A decline in the U.S. Government defense budget could negatively impact future revenues.
We have experienced significant growth in recent years, partly due to domestic and worldwide political and economic developments that have positively affected the markets for defense and advanced technology systems. Continued slowing in defense spending due to political or budget shifts may put downward pressure on the Company’s revenues and gross margins. Current spending levels for defense related programs by the U.S. Government may not be sustainable and future levels of spending may fail to increase or may actually decrease. An overall decline in the U.S. government defense budget would negatively impact future earnings.
Adverse general economic and market conditions could cause decreases in our revenues and earnings.
We are subject to the effects of general economic and market conditions (including economic disruption caused by terrorist acts). A severe and/or prolonged economic downturn or a negative or uncertain political climate could adversely affect our operating results and financial condition. In addition, any decreased collectability of accounts receivable whether resulting from customer bankruptcies or otherwise due to the current economic conditions, could negatively impact future earnings.
Our earnings and profit may be adversely impacted by failure to accurately estimate and manage costs, time and resources.
We derive revenues from various types of contracts, including fixed price, cost reimbursement and time and materials contracts. To the extent management does not accurately forecast the level of effort required to complete a contract, or individual tasks within a contract, and we are unable to negotiate additional billings with a customer for cost over-runs, we may incur losses on individual contracts.
We face competition that can impact our ability to obtain contracts and negatively impact future revenues and growth prospects.
We face competition from a number of competitors. We compete for customers on the basis of the scale of our service offerings, geographic proximity to the customer, quality of our service and the certifications that we possess. Nonetheless some of our competitors may be more specialized and able to concentrate their resources on particular areas. To remain competitive we must consistently provide superior service and performance on a cost-effective basis to our customers.
In addition, some of our customers have their own in-house testing laboratories or the resources to develop in-house facilities if we fail to provide competitive service. For government related work, we compete with the U.S. Government’s own testing laboratories. If customers increase utilization of existing in-house testing laboratories or expand their own internal testing capacity and capabilities, the amount of work outsourced to us could decrease.
Our failure to attract, train and retain a qualified workforce would adversely affect our future operations.
We are dependent on skilled employees in every facet of our organization. We operate in a highly technical business and are dependent on our ability to provide our customers with highly skilled engineering and technical personnel. In addition, as new technologies develop, or new commercial standards are introduced, we must provide appropriate training for our personnel. To remain competitive, we must be able to hire, train and retain highly skilled management, sales, engineering and technical personnel. Any failure to do this could impair our ability to perform our contractual obligations efficiently and timely and to meet our customers’ needs and win new business, which could adversely affect our future results.
Disruptions or failures in our management information systems could disrupt our business.
We are currently implementing a new Enterprise Resource Planning (ERP) System which is designed to integrate various disparate systems that we currently use, including systems related to our sales, operations and accounting functions. Any system or service disruptions, including those caused by projects to improve our information technology systems, if not anticipated and appropriately mitigated, could have a material impact on operation and accounting functions such as quoting jobs, billing customers for work complete, collecting amounts that are owed to the Company, and preparing timely and accurate financial reports.
Adverse judgments or settlements in legal disputes could require NTS to pay potentially large damage awards, which would adversely affect cash balances and profitability.
We are subject to litigation or other claims and suits that arise from time to time in the ordinary course of our business. Adverse judgments or settlements could result in significant monetary damages. If our insurance is not sufficient to recover all costs, including related legal expense, there could be a negative impact to the Company’s cash balance and profitability.
From time to time we evaluate potential acquisitions which, if consummated, may subject us to additional risks and uncertainties, and may result in substantial dilution to our stockholders.
We will, from time to time, consider opportunities to acquire or make investments in other technologies, products and businesses that could enhance our capabilities, complement our current service offerings or expand the breadth of our markets or customer base. Acquisitions can be expensive and require significant management resources without significant return unless the acquisitions are completed successfully. Potential and completed acquisitions and strategic investments involve numerous risks, including:
If we fail to properly evaluate and execute acquisitions and strategic investments, our management team may be distracted from our day-to-day operations, our business may be disrupted and our operating results may suffer. Additionally, after acquisitions are made, unforeseen issues could arise which would adversely affect anticipated future cash flows, causing impairment to goodwill and other intangible assets. Total goodwill and intangible assets account for approximately $36 million or 24% of the Company’s total assets as of January 31, 2012. The Company's earnings were negatively impacted by an impairment charge of $2,208,000 in fiscal year 2012. Impairment charges could negatively impact future earnings.
Our business sometimes requires us to use, handle and dispose of a number of hazardous substances which exposes us to potentially significant liabilities if those materials are handled improperly.
Our operations sometimes involve the use, handling or disposal of hazardous substances. We are subject to various federal, state, local and foreign government requirements regulating the discharge of materials into the environment or otherwise relating to the protection of the environment. We have procedures intended to ensure that our operations comply with these requirements, and we believe that, as a general matter, our policies, practices and procedures are properly designed to prevent unreasonable risk of environmental damage, and resulting financial liability, in connection with our business. Some risk of environmental impact, however, is inherent in some of our operations, as it is with other companies engaged in similar businesses. Failure to comply with regulations could result in civil, criminal, administrative or contractual sanctions, including fines and penalties.
We may not be able to procure sufficient insurance to cover all of operational and contractual risks on commercially reasonable terms.
Our business involves the testing of complex and sometimes dangerous systems and components. In addition, customers rely upon our testing and certifications to verify their products’ compliance with applicable manufacturing and safety requirements. We maintain insurance policies that are intended to cover our operational and contractual risks. However, at any point in time the amount of our insurance coverage may prove insufficient to cover all of our operating risks. There is also a risk that commercially available insurance will not continue to be available to the Company at a reasonable cost. If liability claims were to exceed our available insurance coverage, future earnings could be negatively impacted.
Our credit facility contains restrictive covenants that could limit our ability to pursue certain of our business strategies.
We maintain a credit facility which supports our working capital requirements as well as some of our acquisitions. In connection with that credit facility we have agreed to certain positive and negative restrictive covenants with our lenders. If we do not meet our covenants, the lenders may refuse to advance additional borrowings and may require us to pay down outstanding loans. If this were to occur, it would limit our ability to pursue our acquisition strategy, limit capital expenditures and would negatively impact our overall performance.
We have adopted a shareholder rights plan which could make it more difficult for a third-party to acquire the Company.
We adopted a shareholders rights plan which is intended to protect the Company from efforts to obtain control of the Company that are inconsistent with the best interests of the Company and its shareholders. The rights will be exercisable ten days following the earlier of the public announcement that a shareholder has acquired 15% or more of the Company's common stock without Board approval or the announcement of a tender offer which results in the ownership of 15% or more of the Company's common stock. The rights also will become exercisable if a person or group that already owns 15% or more of the Company's common stock, without Board approval, acquires any additional shares (other than pursuant to the Company's employee benefit plans). If the rights become exercisable, all rights holders (other than the person triggering the rights) will be entitled to acquire Company securities at a 50% discount. Because the rights may substantially dilute the stock ownership of a person or group attempting to take over the Company without the approval of the Board of Directors, the rights plan could make it more difficult for a third-party to acquire the Company or a significant percentage of the outstanding capital stock, without first negotiating with the Board of Directors.
We have adopted certain features in our charter documents that make it more difficult for a third party to acquire control of the Company without the approval of our Board of Directors.
Our articles of incorporation and our bylaws contain provisions that enable our board of directors to discourage, delay or prevent a change in our ownership or in our management. In addition, these provisions could limit the price that investors would be willing to pay in the future for shares of our common stock. These provisions include the following:
The Company owns/leases and operates the following properties:
The Company believes that the space occupied by all of its operations is adequate for its current and near-term requirements. Should additional space be required, the Company does not anticipate problems in securing such additional space.
The Company owns approximately 118 acres of unused land in Santa Clarita, California. Since this property does not meet all the criteria for accounting classification as an "asset held for sale" it was classified as land in the accompanying consolidated financial statements.
The Company sold property located in Fredericksburg, Virginia on April 22, 2010 for a sales price of $3,395,000. The gain of $3,017,000 from the sale of the property was included in other income in fiscal year 2011.
The Company is, from time to time, the subject of claims and suits arising out of matters occurring during the operation of the Company’s business. In the opinion of management, no pending claims or suits would materially affect the financial position or the results of the operations of the Company.
The Company's common stock is traded on the Nasdaq Global Market under the symbol "NTSC". The range of high and low sales prices as reported by the Nasdaq Global Market for each of the quarters of the fiscal years ended January 31, 2012 and 2011 is presented below:
As of the close of business on April 10, 2012, there were 688 holders of record of the Company’s common stock. The number of holders of record is based on the actual number of holders registered on the books of the Company's transfer agent and does not reflect holders of shares in "street name" or persons, partnerships, associations, corporations or other entities identified in security position listings maintained by depository trust companies.
The Company did not pay any dividends in fiscal year 2012. In the prior year, the Company paid a special $0.07 cash dividend per common share on July 19, 2010 to shareholders of record on July 6, 2010. The Company does not have a policy regarding a regular dividend payment and any future dividends declared will be at the discretion of the NTS board.
The Company’s credit facilities contain restrictions on the Company’s ability to make dividend distributions. Those restrictions include a requirement that any dividend or distribution would not trigger a default under any of the financial covenants and amount to no more than 75% of the Company’s consolidated net income for the year in which the dividend distribution is being made.
Sales of Unregistered Securities
Repurchases of Equity Securities
On July 10, 2009, the NTS board approved a share repurchase plan whereby the Company may repurchase up to 200,000 shares of its common stock. There were no share repurchases in fiscal year 2012.
Equity Compensation Plan Information.
The following table describes our equity compensation plans as of January 31, 2012:
The following selected consolidated financial data are derived from and should be read in conjunction with the Company’s consolidated financial statements and related notes set forth in Item 8 below.
Certain amounts in the prior year financial statements have been reclassified to account for discontinued operations. See Note: 2.
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
Except for the historical information contained herein, the matters addressed in this Item 7 contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These matters contain certain statements that relate to future plans, events or performance. These forward-looking statements involve risks and uncertainties, including risks associated with uncertainties pertaining to customer orders, demand for services and products, development of markets for the Company's services and products and other risks identified in Item 1A included in this report. Actual results, events and performance may differ materially. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. The Company undertakes no obligation to release publicly the result of any revisions to these forward-looking statements that may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events.
The Company is a diversified business to business services organization that supplies technical services to the defense, aerospace, telecommunications, automotive, energy and high technology markets. Through its wide range of testing facilities and certification services, the Company’s services allow its customers the ability to sell their products globally and enhance their overall competitiveness. NTS is accredited by numerous national and international technical organizations which allow the Company to have its test data accepted in most countries. The Company operates facilities throughout the United States and in Japan, Vietnam and Germany, providing highly trained technical personnel for engineering services, product certification, product safety testing and product evaluation. In addition, it performs supply chain management and management registration and certification services to ISO related standards.
The aerospace market generates approximately 33% of the Company’s overall revenue. NTS views the aerospace sector as having nine definable sectors: large commercial transports, regional transports, business aircraft, general aviation, space (launch vehicles and payloads), rotorcraft, military fighters, military transports and unmanned aerial vehicles and systems (UAVs and UASs). Each has its own dynamics depending on social and economic circumstances and NTS tailors its service offerings accordingly, though certain trends cross over market sectors. For example, original equipment manufacturers continue to move toward large scale integration, consolidation around core competencies, outsourcing, and globalization. NTS believes that these trends have provided and will continue to present significant opportunities for NTS to fill capability gaps that have emerged in the product development cycles of its customers. The Company seeks to position its life cycle product services-engineering, testing, and supply chain services to profit in both down and up markets. In down markets, NTS fills the capability gaps that its customers cannot afford to maintain on a full-time basis. When markets turn up, NTS fills capacity gaps during surge periods.
The large commercial transport sector accounts for the bulk of NTS’ aerospace revenue. The delay in delivery of the first production versions of the Boeing 787 Dreamliner and lack of market enthusiasm for the Airbus A380 continue to suppress the rebound of the sector. This has been offset somewhat in the last year by increased production rates of the Boeing 737 and Airbus A320. Market conditions are expected to improve with the Dreamliner now nearing completion of flight test and its competitor, the Airbus A350 XWB, now in early stages of production. Aging, fuel-inefficient fleets will need to be replaced. Industry forecasts anticipate as many as 29,000 new commercial aircraft valued at over $3.2 trillion to be manufactured through 2020.
With the exception of the UAV/UAS sector, all other aerospace sectors are flat to declining. The regional transport sector is forecast to shrink through 2020 relative to the previous ten years by 8-10% to around 3,000 aircraft. Declining defense budgets and the uncertain future of the Joint Strike Fighter will shrink the military aerospace sectors. The space sector is transitioning from 30 years of dominance by the NASA shuttle program. However, currently NTS is experiencing an increase in proposals for the heavy lift vehicle.
Despite the relatively austere market conditions, NTS is positioning itself to make gains as market participants consolidate and non-core skills are outsourced. Successful contributions to Boeing’s family of commercial airplanes are leading to follow-on revenue opportunities and we are also experiencing an increase in orders related to the A350 aircraft. In addition, the Company is focusing on the growing UAV/UAS market and has built relationships with several of the major companies building UAVs providing testing for the vehicle and design, assembly and testing for payloads. Also, NTS expects to participate in the $3.5 billion KC 46-A tanker contract awarded to Boeing by the U.S. Air Force.
The defense market generates approximately 32% of the Company’s overall revenue. The defense market remains subject to the funding uncertainties of the current administration but the propensity for in-sourcing in many areas continues to decrease. The current U.S. defense budget is at a historic low as a percentage of GDP since World War II. Severe political pressure is increasing cost consciousness in the Department of Defense (DoD) with heavy scrutiny on maintaining test and production schedules related to existing products. However, funding for newly proposed DoD programs are at risk. While we believe this will lead to increased testing for the production sector of the business, testing in the R&D sector is expected to decrease. As directed by the President, the Pentagon will undertake a review of current capabilities and strategies that will shape the U.S. defense budget of the future. This review will focus on real world conditions that are not improving in the foreseeable future. NTS is strategically positioned to take full advantage of this environment. The Company’s unique life cycle product services value proposition acts counter to defense market economic cycles, providing opportunities to fill gaps in declining market conditions. Although the U.S. defense budget is expected to decline in the near future, NTS will seek to increase revenues by growing market share on the basis of our competitive cost structure, breadth of capability, and continued investment in research to understand our clients changing needs and then aggressively developing capability to support these needs.
The telecommunications market is showing signs of improvement and growth. The wireless market, a subset of the telecommunications market, is continuing to show a strong rebound. Carriers are delivering voice, video and data using fiber networks and other high-speed delivery methods. New means of delivery has increased the demand for certification of suppliers’ premises equipment, and certification of new central/telecom office backhaul networking equipment. The growing demand for cloud-based services is providing new opportunities for carriers and service providers to help businesses extend their budgets. The Company, with its network of NEBS ITL certified laboratories, is well equipped to grow in this market.
Consumer Products Market
The consumer product market is seeing a revolution within the traditional computing market segment with the advances of personal tablet technologies and other PC peripheral devices such as high quality residential printers, cameras and storage devices. The convergence of multiple technological features within traditional consumer products is showing strong signs of increased growth. Furthermore the market is experiencing resurgence in the residential networking sector with the integration of wireless communications within traditional products. As traditional ‘Tier 1’ markets become overcrowded from a competitive perspective, the increase in demand for global market access is on a significant rise. The Company is well equipped to support such demand.
Commercial, Industrial and Medical Markets
The commercial, industrial and medical markets are seeing significant growth due to the integration of wireless communication networking integrated into traditional product lines. Each market is seeing growth with automated systems, including automated surgical equipment. The medical and laboratory markets are seeing significant growth with recent advances in analysis and sample processing equipment. With the vast number of commercial EMC/EMI, product safety, environmental and reliability and wireless testing and certification services, NTS is well equipped to support domestic and international certification requirements.
The Company currently offers multi-disciplinary expertise and capabilities to provide smart solutions to complex engineering and scientific problems in the areas of nuclear energy and smart grid. NTS expects to grow into other energy services as well, such as transmission and distribution, battery and energy storage, renewable generation, oil and gas, and other clean technologies. NTS also provides dedication and certification work for the domestic and international communities and believes this market has a very positive outlook as consumers, commercial businesses, industries and governments search for alternative energy solutions. NTS offers a full range of products, engineering and testing solutions in the energy market. These services include seismic, environmental, EMI/RFI, radiation, equipment qualification, commercial grade dedication, mechanical aging, thermal aging, vacuum testing, leak detection, and nuclear steam accident simulations such as loss of cooling accident (LOCA) and high expansion line breaks (HELB). Seismic and vibration simulation tests are conducted on our single axis, dependent biaxial system, or independent tri-axial and electro-mechanical shaker tables and are used for a variety of customer products and applications. NTS provides technical functional knowledge of engineering fundamentals: mechanical, structural, electrical, reliability, and high technology communication and security software system test and monitoring solutions, with supply chain management focusing on assuring product integrity through quality process and product auditing, supplier improvement plans, and management of quality systems. NTS is currently evaluating new opportunities for performance testing of wind turbines and reliability and life duration testing support on products for petroleum, liquid and gas applications.
In the automotive industry, alternative fuel vehicle testing is presenting signs of growth especially in the pure electric and electric hybrid propulsion devices; the industry in general is in a rebound mode and gaining traction due to high fuel costs. NTS has experienced an increase in revenues in the automotive market over the past year as a result of increased traditional fuel efficient and hybrid vehicle sales. NTS offers the commercial and military vehicle industries design engineering services, product testing, and verification and qualification services providing a one stop-shop for our customers. NTS testing services included dynamometer operations on power train components, vibration and shock on mechanical and electrical assemblies, thermal and corrosion exposures on control and monitoring systems, pressure pulsing and burst on fluid handling items and fatigue and ultimate strength on mechanical components. NTS performs testing to support requirements in emerging markets of pure electric vehicles and electrical hybrid vehicles. This includes electric motors, integrated motor/transmissions, specialized high speed transmissions, batteries and control/distribution modules. NTS also performs highly accelerated life tests (HALT) highly accelerated stress screen (HASS) and lithium battery testing to comply with UN T1-T8 test requirements (as specified on the transportation of dangerous goods manual). These tests combine extremes of temperature, rapid temperature change, and multi-axis vibration to rapidly expose design weaknesses and process flaws. NTS is accredited to ISO 17025 through the American Accreditation of Laboratories Association (A2LA). This accreditation allows NTS automotive test reports to be accepted in the U.S. and internationally.
Revenues for fiscal 2012 were $155.4 million, compared to $142.4 million in the prior year. The increase in revenues resulted from increases in the telecommunications and energy markets, as well as revenues from newly acquired businesses. Gross margins for fiscal 2012 were 24.2% compared to 27.4% in fiscal 2011. Net income from continuing operations attributable to NTS for fiscal 2012 was $491,000 compared to $5.4 million for the prior year.
Net income for the year ended January 31, 2012, was impacted by a non-cash impairment loss in the amount of $2,208,000 which consisted of $1,791,000 in goodwill impairment, $300,000 write-down of trade name intangibles and $117,000 write-off of a covenant not to compete. The goodwill impairment loss was related to the Mechtronic Solutions Inc. (MSI) acquisition in December 2010 and was due to lower than expected results. Net income for fiscal 2011 included a $1.7 million gain from the sale of real property.
Significant factors affecting operations in fiscal 2012 were:
During fiscal 2012, the Company continued to execute on its long term strategy of growing through strategic acquisitions. On June 27, 2011, the Company entered into a securities purchase agreement with Mill Road Capital, L.P. (“Mill Road”), raising $14,000,000 in capital in exchange for: (i) 933,333 shares of NTS common stock valued at $5,503,000; (ii) a 5-year 15% subordinated note in the original principal amount of $7,000,000 recorded as long term debt, net of $1,040,000 debt discount and embedded derivative, and (iii) a warrant to purchase up to 300,000 shares of the Company’s common stock valued at $1,855,000 and recorded to common stock. Capitalized debt issuance costs of $682,000 were recorded to prepaid expenses. The net cash received was $12,637,000. Under the terms of the securities purchase agreement, for so long as Mill Road beneficially owns 5% or more of the outstanding shares of the Company’s common stock, the Company agreed to appoint a person designated by Mill Road to its board of directors. The agreement also imposes certain financial covenants on the Company which are determined as of the end of each fiscal quarter. The Company was in compliance with these covenants as of January 31, 2012. Proceeds from the Mill Road transaction were used for the acquisition of Ingenium Testing.
On July 21, 2011, the Company acquired substantially all of the business and assets of Ingenium Testing, LLC, a provider of product compliance and engineering services based in Rockford, Illinois in exchange for $12,525,000 in cash. The Company agreed to pay an additional maximum amount of $7,075,000 in earn-out consideration if certain performance targets are met related to EBITDA over the next three years. The assets acquired under the asset purchase agreement include 12 fully-automated test chambers including a U.S. Federal Communications Commission-listed chamber; a reverberation chamber; multiple U.S. Department of Defense military-standard chambers; a lightning strike test area; and multiple, advanced resources for electromagnetic interference (EMI) and electromagnetic compatibility (EMC) testing situated in a modern EMC/EMI testing facility. The assets also include the assignment of specified customer contracts. Ingenium’s customer base, capabilities and service offerings are concentrated in the aerospace, heavy industry and automotive markets, all of which are among NTS’ core competencies. In connection with the acquisition, the Company entered into a new lease, with an initial five-year term, for Ingenium’s state-of-the-art, 84,000 square foot facility located in Rockford, Illinois. The acquisition gives the Company an important presence in the mid-west region.
On September 1, 2011, the Company acquired Lightning Technologies, Inc. (“LTI”), a provider of testing and engineering services located in Pittsfield, Massachusetts for $6,000,000 in cash plus an earn-out of up to an additional $1,000,000. LTI is internationally recognized as a leading engineering services and testing laboratory, specializing in the field of lightning protection. LTI’s customer base, capabilities and service offerings are concentrated in the aerospace, construction and wind power generation markets. The acquisition expands the Company’s non-defense industry businesses and particularly strengthens its aerospace business.
On October 31, 2011 the Company closed its facility in Calgary, Canada due to non-renewal of the facility’s lease. Net loss from discontinued operations for the year ended January 31, 2012 was $381,000 and included $566,000 in shut-down expenses.
Critical Accounting Policies
The consolidated financial statements of the Company are prepared in accordance with U.S. generally accepted accounting principles (GAAP), which require the Company to make certain estimates and assumptions (see Note 1 to the consolidated financial statements in Item 8). Estimates are based on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources.
Management believes the following critical accounting policies, among others, affect its more significant judgments and estimates used in the preparation of its consolidated financial statements.
Recognition of Revenue and Related Costs
The majority of the Company’s revenues are derived from fixed price contracts. Revenues from fixed price testing contracts are generally recorded upon completion of the contracts, which are typically short-term, or upon completion of identifiable contractual tasks. At the time the Company enters into a contract that includes multiple tasks, the Company estimates the amount of actual labor and other costs that will be required to complete each task. Revenues from contracts which are time and materials based are recorded as effort is expended.
Billings in excess of amounts earned are deferred. Any anticipated losses on contracts are charged to income when identified and can be reasonably estimated. To the extent management does not accurately forecast the level of effort required to complete a contract, or individual tasks within a contract, and the Company is unable to negotiate additional billings with a customer for cost over-runs, the Company may incur losses on individual contracts.
Reimbursements made to the Company by customers under contract provisions, including those related to travel and other out-of-pocket expenses are recorded as revenues. An equivalent amount of reimbursable expenses is recorded as cost of sales.
Allowance for Uncollectible Receivables
The Company maintains an allowance for doubtful accounts for estimated losses resulting from the inability of customers to make required payments. The Company uses a combination of write-off history, aging analysis and identification of any specific known troubled accounts in determining the allowance. If the financial condition of customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances could be required.
Inventories consist of accumulated costs including direct labor, material and overhead applicable to uncompleted contracts and are stated at actual cost, which is not in excess of estimated net realizable value. Such inventories for each contract are reviewed on a monthly basis over the life of the contract and additional write-downs of inventories are made if there are insufficient revenues remaining on the contract.
Accounting for Income Taxes
Deferred tax assets and liabilities are recognized for the future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. We record a valuation allowance, if necessary, to reduce deferred tax assets to an amount management believes is more likely than not to be realized.
To the extent that we have deferred tax assets, we must assess the likelihood that our deferred tax assets will be recovered from taxable temporary differences, tax strategies or future taxable income and to the extent that we believe that recovery is not likely, we must establish a valuation allowance. There was no valuation allowance as of January 31, 2012. In the future, we may adjust our estimates of the amount of valuation allowance needed and such adjustment would impact our provision for income taxes in the period of such change.
Goodwill and Intangible Assets
Goodwill represents the excess of cost over fair value of assets of an acquired business. Goodwill and intangible assets acquired in a business combination and determined to have an indefinite useful life are not amortized. Intangible assets with estimable useful lives are amortized over their respective estimated useful lives.
Goodwill and intangible assets not subject to amortization are tested annually for impairment. The goodwill test for impairment consists of a two-step process that begins with an estimation of the fair value of the reporting unit using the discounted cash flow approach. The first step of the test is a screen for potential impairment and the second step measures the amount of impairment, if any. The first step of the goodwill impairment test includes a comparison of the fair value of each reporting unit that has associated goodwill with the carrying value of the reporting unit. The Company has identified eleven reporting units, which constitute components of its business that include goodwill. The process of evaluating the potential impairment of goodwill is subjective and requires judgment at many points during the test including future revenue forecasts and discount rates.
Recent Accounting Pronouncements
See Note 1 “Summary of Significant Accounting Policies” in the Notes to the consolidated financial statements, which is incorporated herein by reference.
Results of Operations
The following discussion should be read in conjunction with the consolidated financial statements and notes thereto contained in this report.
For the year ended January 31, 2012, revenues increased by $13,026,000 or 9.1% as compared to the prior year. $8,520,000, or 6.0% of this increase, came from the acquisitions of MSI on December 16, 2010, Ingenium on July 20, 2011 and LTI on September 1, 2011. Organic growth of $4,506,000 or 3.1% was primarily due to growth in the telecommunications, automotive and energy markets, partially offset by a decrease in the aerospace and defense markets.
For the year ended January 31, 2012, gross profit decreased by $1,376,000 or 3.2%. This decrease was primarily a result of underutilization at some of the Company’s facilities and lower absorption of fixed costs due in part to the Federal budget uncertainties in defense programs as well as reduced business from space programs and delays in product deliveries by aerospace customers. In addition, MSI incurred significant cost overruns on a fixed contract during fiscal 2012, causing MSI to incur operating expenses during the year without being able to recognize attendant revenue, negatively impacting gross margins at this facility. Please see discussion above under recent developments for additional detail.
Selling General and Administrative Expenses
For the year ended January 31, 2012, selling, general and administrative expenses decreased by $625,000 or 2.2%. This decrease was primarily due to a reduction in incentive compensation expense related to the lower profitability and a decrease in compensation and travel related expenses. These decreases were partially offset by increases in legal and advisory expenses related to certain shareholder matters and litigation related to an employment matter and fee dispute and an increase in amortization expense related to recent acquisitions.
For the year ended January 31, 2012, the Company recorded an impairment loss in the amount of $2,208,000 which consisted of $1,791,000 in goodwill impairment, $300,000 write-down of trade name intangibles and $117,000 write-off of a covenant not to compete. The goodwill impairment loss was related to the MSI acquisition in December 2010 and was due to lower than expected results.
Equity Loss from Non-Consolidated Subsidiary
For the year ended January 31, 2012, equity loss was $29,000 compared to $269,000 in the prior year. The loss from the Company’s non-consolidated 50% owned subsidiary in Japan in the prior year was primarily due to a write-down of deferred taxes.
For the year ended January 31, 2012, operating income decreased by $2,719,000 or 2.2%. The decrease was primarily a result of impairment loss of $2,208,000 and the decrease in gross profit, partially offset by the decrease in selling, general and administrative expenses. Operating income as a percentage of revenues decreased to 3.3% in the current year when compared to 5.5% in the prior year.
Interest expense increased by $1,246,000 to $2,465,000 in fiscal 2012 when compared to fiscal 2011. This was primarily due to increased interest expense relating to the Mill Road Capital financing, as well as $485,000 in amortization of fees related to the Mill Road Capital financing and the Comerica senior credit facility.
For the year ended January 31, 2012, other income was $1,238,000, compared to $3,961,000 in the prior year. Other income in the current year was primarily due to the net gain recognized from insurance recovery related to the fire at the Company’s Fullerton facility in November of 2009. Other income in the prior year was primarily comprised of the gain on the sale of the Company’s Virginia property of $3,017,000 and the net gain recognized from insurance recovery related to fires at the Company’s Fullerton and Plano facilities, partially offset by other non-recurring expenses.
The provisional income tax rate for fiscal year 2012 is 54.9%, compared to 44.4% in the prior year. The higher income tax rate in fiscal 2012 was primarily due to non-tax deductible goodwill impairment cost of $1,791,000. See Note 4 to the consolidated financial statements for a reconciliation of the provision for income taxes from continuing operations at the statutory rate to the provision for income taxes from continuing operations.
Management has determined that it is more likely than not that the Company's deferred tax asset, will be realized on the basis of offsetting it against deferred tax liabilities and future income. The Company analyzes the value of the deferred income tax asset quarterly in conjunction with external reporting.
For the year ended January 31, 2012, net income from continuing operations was $1,738,000 compared to $5,861,000 for the prior year. This decrease was primarily due to lower operating income, impairment loss, higher interest expense and lower other income in the current year. As discussed above, the current year was impacted by delays in defense spending, a loss at Ingenium Testing, costs related to proxy contest, litigation and acquisitions, and unexpected contract completion costs at MSI. Net income in the prior year included $1,700,000 gain from the sale of land.
On October 31, 2011, the Company closed its Calgary facility. Net loss from the discontinued Calgary operation for the year ended January 31, 2012 was $381,000 and included $566,000 in shut-down expenses.
For the year ended January 31, 2012, net income attributable to noncontrolling interests was $866,000 compared to $433,000 in the prior year, an increase of $433,000 or 100.0%. This increase was due to higher net income for the Company’s 50% owned NQA, Inc. subsidiary in the current year.
Net income attributable to NTS for the year ended January 31, 2012 was $491,000 compared to $5,350,000 in the prior year. This decrease was primarily due to lower net income and the increase in net income attributable to noncontrolling interests.
Liquidity and Capital Resources
Summary of cash flows:
At January 31, 2012 cash and cash equivalents were $4,335,000 compared to $8,924,000 at January 31, 2011. In addition, at January 31, 2012, investments and accounts receivable were $3,318,000 and $34,775,000, respectively, compared to $2,796,000 and $28,452,000 at January 31, 2011. At January 31, 2012 the Company had working capital of $30,898,000, compared to working capital of $31,141,000 at January 31, 2011.
Net cash provided by operating activities was $11,314,000 in the twelve months ended January 31, 2012 and consisted of net income of $1,357,000 adjusted for depreciation and amortization of $8,715,000, impairment loss of $2,208,000, deferred income taxes of $1,315,000, share-based compensation of $554,000, amortization of debt issuance cost and debt discount of $485,000, loss on investments of $91,000, allowance for doubtful accounts of $123,000 and loss on retirement of assets of $75,000, partially offset by changes in working capital of $3,209,000 and other long term liabilities of $400,000.
Net cash used in investing activities in the twelve months ended January 31, 2012 was $29,353,000 and was primarily attributable to cash used for acquisitions of businesses, including $12,002,000 for the Ingenium acquisition and $5,348,000 for the LTI acquisition. Additional cash used for investing activities included capital spending of $11,341,000, investment in retirement funds of $656,000 and investment in life insurance of $6,000.
Net cash provided by financing activities in the twelve months ended January 31, 2012 was $13,491,000 and consisted of net proceeds from Mill Road financing of $12,637,000, proceeds from borrowing of $10,615,000, proceeds from stock options exercised of $196,000 and tax benefit from restricted stock issuance and stock options exercised of $77,000, partially offset by repayment of debt of $9,834,000.
At January 31, 2012, the Company had cash and cash equivalents of $4,335,000 and working capital of $30,898,000. In addition to its cash and cash generated from operations, the Company has two existing credit facilities under which the Company can draw based on established guidelines.
On November 10, 2010, the Company secured a senior credit facility of up to $65 million from a banking group led by Comerica Bank that includes Bank of the West and U.S. Bank. The credit facility includes a $20 million term loan, a $25 million revolving credit line and a $20 million acquisition line.
Under the revolving credit line the Company can borrow up to 85% of eligible accounts receivable. At January 31, 2012, 85% of eligible accounts receivable was $21,245,000 and the amount of available credit under the revolving credit line on that date was $16,245,000.
Under the acquisition line, the Company can borrow for the purposes of financing eligible machinery or equipment. Advances under the acquisition line can be made at up to 100% of the invoice cost of new eligible equipment and 80% of the invoice cost of used eligible equipment. At January 31, 2012, the Company had borrowed $16,251,000 under the acquisition line and had available credit on that date of $3,406,000 that could be used to finance eligible acquisitions.
Off-Balance Sheet Arrangements
The Company does not have any special purpose entities or off-balance sheet financing arrangements.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Interest Rate Risk
The Company is exposed to changes in interest rates primarily from its long-term revolving line of credit arrangement. Under its current policies, the Company does not use interest rate derivative instruments to manage exposure to interest rate changes. A hypothetical one percentage point adverse move in interest rates along the entire interest rate yield curve would have increased interest expense by $384,000 for the fiscal year ended January 31, 2012.
Impact of Inflation
The Company continues to incur increased costs in the areas of wages, insurance, workers compensation, and utilities which are difficult to pass along to customers in the current economic environment. To date, these increases have been partially offset by reductions in other operating areas through improved efficiencies. The Company can give no assurances, however, that in the future it can offset such increased costs.
Index to Consolidated Financial Statements and Schedule
All other schedules are omitted as inapplicable or because the required information is contained in the financial statements or the notes thereto.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders of
National Technical Systems, Inc.
We have audited the accompanying consolidated balance sheets of National Technical Systems, Inc. and Subsidiaries as of January 31, 2012 and 2011, and the related consolidated statements of income, shareholders' equity, and cash flows for the years then ended. Our audits also included the financial statement schedule listed in the Index at Item 15(a). These financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits. We did not audit the financial statements of NQA, Inc., a 50% consolidated subsidiary, which statements reflect total assets of $8,400,000 and $8,917,000 as of January 31, 2012 and 2011, respectively, and total revenues of $26,930,000 and $22,791,000, for the years then ended. Those statements were audited by other auditors whose report has been furnished to us, and our opinion, insofar as it relates to the amounts included for NQA, Inc., is based solely on the report of the other auditors.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Company's internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits and the report of other auditors provide a reasonable basis for our opinion.
In our opinion, based on our audits and the report of other auditors, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of National Technical Systems, Inc. and Subsidiaries at January 31, 2012 and 2011, and the consolidated results of their operations and their cash flows for the years then ended in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein.
Los Angeles, California
April 30, 2012
NATIONAL TECHNICAL SYSTEMS, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
See accompanying notes.
NATIONAL TECHNICAL SYSTEMS, INC. AND SUBSIDIARIES
Consolidated Statements of Operations
for the Twelve Months Ended January 31, 2012 and 2011
* Per share data may not always add to the total for the year because each figure is independenty calculated.
See accompanying notes.
NATIONAL TECHNICAL SYSTEMS, INC. AND SUBSIDIARIES
Consolidated Statements of Shareholders' Equity
See accompanying notes.
NATIONAL TECHNICAL SYSTEMS, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
for the Twelve Months Ended January 31, 2012 and 2011