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Optelecom-NKF 10-Q 2005

Documents found in this filing:

  1. 10-Q
  2. Ex-31.1
  3. Ex-31.2
  4. Ex-32.1
  5. Ex-32.1

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

 


 

FORM 10-Q

 

Quarterly Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934

 

For Quarter Ended March 31, 2005
Commission File No. 0-8828

 

OPTELECOM, INC.

(Exact Name of Registrant as
Specified in its Charter)

 

DELAWARE

(State or other jurisdiction of incorporation or organization)

 

52-1010850

(IRS employer identification number)

 

12920 CLOVERLEAF CENTER DRIVE, GERMANTOWN, MARYLAND 20874

(Address of principal executive offices) (Zip code)

 

Registrant’s telephone number, including area code: (301) 444-2200.

 

Securities registered pursuant to Section 12(b) of the Act: None.

 

Securities registered pursuant to Section 12(g) of the Act: Common Stock $0.03 Par Value.

 

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 ý    No o

 

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).

 

Yes o    No ý

 

At May 12, 2005, the registrant had outstanding 3,240,185 shares of Common Stock, $.03 Par Value.

 

 




 

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

 

OPTELECOM, INC.
CONSOLIDATED BALANCE SHEETS
AS OF MARCH 31, 2005 and DECEMBER 31, 2004
(Unaudited)

 

 

 

2005

 

2004

 

 

 

 

 

 

 

ASSETS

 

 

 

 

 

CURRENT ASSETS

 

 

 

 

 

Cash and cash equivalents

 

$

2,738,281

 

$

2,918,959

 

Accounts and contracts receivable, net

 

6,853,266

 

3,015,588

 

Inventories, net

 

5,569,461

 

2,867,882

 

Deferred tax asset—current

 

833,796

 

767,841

 

Prepaid expenses and other current assets

 

943,758

 

519,494

 

Total current assets

 

16,938,562

 

10,089,764

 

 

 

 

 

 

 

Property and equipment, net

 

2,777,672

 

1,870,039

 

Deferred tax asset—non-current

 

500,189

 

406,606

 

Goodwill and other intangible assets

 

19,509,003

 

 

TOTAL ASSETS

 

$

39,725,426

 

$

12,366,409

 

 

 

 

 

 

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

CURRENT LIABILITIES

 

 

 

 

 

Accounts payable

 

$

1,847,426

 

$

798,965

 

Accrued payroll

 

579,460

 

394,185

 

Commissions payable

 

474,674

 

297,870

 

Current portion of notes payable

 

2,479,449

 

45,000

 

Accrued warranty reserve

 

405,807

 

130,084

 

Other current liabilities

 

2,111,761

 

523,078

 

Total current liabilities

 

7,898,577

 

2,189,182

 

 

 

 

 

 

 

Notes payable – senior

 

12,065,085

 

45,000

 

Notes payable – subordinated

 

9,180,630

 

 

Security deposits payable

 

11,526

 

11,526

 

Deferred rent liability

 

196,752

 

186,418

 

Total liabilities

 

29,352,570

 

2,432,126

 

 

 

 

 

 

 

COMMITMENTS AND CONTINGENCIES

 

 

 

 

 

 

 

 

 

 

 

STOCKHOLDERS’ EQUITY

 

 

 

 

 

Common stock, $.03 par value—shares authorized, 15,000,000; issued and outstanding, 3,225,978 and 3,179,109 shares as of March 31, 2005 and December 31, 2004, respectively

 

96,779

 

95,373

 

Additional paid-in capital

 

11,642,970

 

11,3118,968

 

Other comprehensive loss

 

(52,809

)

(15,166

)

Treasury stock, 162,672 shares, at cost

 

(1,265,047

)

(1,265,047

)

Accumulated deficit

 

(49,036

)

(199,845

)

Total stockholders’ equity

 

10,372,856

 

9,934,283

 

TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY

 

$

39,725,426

 

$

12,366,409

 

 

See notes to unaudited consolidated financial statements.

 

3



 

OPTELECOM, INC.
CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
FOR THE THREE MONTHS ENDED MARCH 31,
(Unaudited)

 

 

 

2005

 

2004

 

 

 

 

 

 

 

Revenues

 

$

5,486,914

 

$

4,180,123

 

Cost of goods sold

 

2,486,247

 

1,769,016

 

Gross profit

 

3,000,667

 

2,411,107

 

Operating expenses:

 

 

 

 

 

Engineering

 

564,215

 

371,499

 

Selling and marketing

 

1,032,321

 

688,337

 

General and administrative

 

1,093,970

 

909,779

 

Total operating expenses

 

2,690,506

 

1,969,615

 

 

 

 

 

 

 

Income from operations

 

310,161

 

441,492

 

 

 

 

 

 

 

Other income (expense):

 

 

 

 

 

Interest income (expense), net

 

(90,815

)

2,487

 

Other income (expense), net

 

 

 

5,391

 

 

 

 

 

 

 

Total other income

 

(90,815

)

7,878

 

 

 

 

 

 

 

Income before income taxes

 

219,346

 

449,370

 

Provision for income taxes

 

68,538

 

145,945

 

Net income

 

$

150,808

 

$

303,425

 

 

 

 

 

 

 

Basic earnings per share

 

$

0.05

 

$

0.10

 

 

 

 

 

 

 

Diluted earnings per share

 

$

0.05

 

$

0.09

 

 

 

 

 

 

 

Weighted average common shares outstanding—basic

 

3,193,575

 

3,127,520

 

 

 

 

 

 

 

Weighted average common shares outstanding—diluted

 

3,282,336

 

3,256,489

 

 

 

 

 

 

 

Net income

 

$

150,808

 

$

303,425

 

Foreign currency translation

 

(37,643

)

(10,091

)

Comprehensive income

 

$

113,165

 

$

293,334

 

 

See notes to unaudited consolidated financial statements.

 

4



 

OPTELECOM, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE THREE MONTHS ENDED MARCH 31,
(Unaudited)

 

 

 

2005

 

2004

 

Cash Flows From Operating Activities

 

 

 

 

 

Net income

 

$

150,808

 

$

303,425

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

Depreciation and amortization

 

144,766

 

102,888

 

Accounts receivable provision

 

(357

)

358

 

Change in allowance for inventory obsolescence reserve

 

20,628

 

(67,979

)

Stock based compensation

 

8,025

 

2,625

 

Deferred rent

 

10,334

 

32,083

 

Deferred tax asset

 

(93,732

)

138,346

 

Change in assets and liabilities:

 

 

 

 

 

Accounts and contracts receivable

 

411,931

 

346,604

 

Inventories

 

(14,849

)

(230,242

)

Prepaid expenses and other assets

 

(191,656

)

(23,367

)

Other assets

 

 

(3,912

)

Accounts payable

 

(105,704

)

(359,833

)

Commissions payable

 

(96,777

)

 

 

Other current liabilities

 

1,118,563

 

(264,756

)

Net cash provided by operating activities

 

1,361,980

 

(25,760

)

 

 

 

 

 

 

Cash Flows From Investing Activities

 

 

 

 

 

Capital expenditures

 

(9,642

)

(283,486

)

Investment in NKF Electronics B.V., net of cash acquired

 

(16,267,291

)

 

Net cash used in investing activities

 

(16,276,933

)

(283,486

)

 

 

 

 

 

 

Cash Flows From Financing Activities

 

 

 

 

 

Borrowings on notes payable

 

14,454,534

 

 

Payments on notes payable and capital leases

 

 

(22,500

)

Increase in certificate of deposit

 

 

(5,391

)

Proceeds from issuance of common stock

 

226,134

 

22,700

 

Proceeds from exercise of stock options

 

91,250

 

109,039

 

Net cash provided by financing activities

 

14,771,918

 

103,848

 

Effect of exchange rates on cash and cash equivalents

 

(37,643

)

(10,657

)

Net decrease in cash and cash equivalents

 

(180,678

)

(216,055

)

Cash and cash equivalents—beginning of period

 

2,918,959

 

1,387,866

 

Cash and cash equivalents—end of period

 

$

2,738,281

 

$

1,171,811

 

 

 

 

 

 

 

 

 

Supplemental Disclosures of Cash Flow Information:

 

 

 

 

 

Cash paid during the period for interest

 

$

 

$

 

Cash paid during the period for income taxes

 

$

39,500

 

$

28,012

 

 

See notes to unaudited consolidated financial statements.

 

5



 

OPTELECOM, INC.

 

Notes to Consolidated Financial Statements (Unaudited)

 

1.     Basis of Presentation

 

The accompanying unaudited consolidated financial statements, including the accounts of Optelecom and its wholly owned subsidiaries (collectively referred to as “the Company”), have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission.  Certain information and note disclosures normally included in the annual financial statements, prepared in accordance with accounting principles generally accepted in the United States of America, have been condensed or omitted pursuant to those rules and regulations, although the Company believes that the disclosures made are adequate to make the information presented not misleading.

 

In the opinion of Management, the accompanying unaudited consolidated financial statements reflect all necessary adjustments and reclassifications (all of which are of a normal, recurring nature) that are necessary for fair presentation for the periods presented.  It is suggested that these financial statements be read in conjunction with the financial statements and the notes thereto included in the Company’s latest annual report to the Securities and Exchange Commission on Form 10-K for the year ended December 31, 2004.

 

The results for the interim periods are not necessarily indicative of the results to be expected for future quarters or the year.

 

2       Acquisition of NKF Electronics

 

On March 8, 2005, Optelecom, Inc. (the “Company”) completed the acquisition of NKF Electronics, B.V. a private company with limited liability, incorporated in the Netherlands (“NKF”), pursuant to the terms and conditions of the Share Purchase Agreement dated March 8, 2005 (the “Purchase Agreement”) by and among the Company, NKF, Draka Holding, N.V., a limited liability company, incorporated in the Netherlands (“Draka”), and NKF Vastgoed B.V., a private company with limited liability, incorporated in the Netherlands, a direct wholly-owned subsidiary of Draka (“Vastgoed” and together with Draka – the “Sellers”).

 

Pursuant to the Purchase Agreement, the Company acquired from the Sellers and the Sellers sold, all of the outstanding stock of NKF for the following consideration (the “Acquisition Consideration”): (a) $9,152,870 in cash; (b) $5,454,210 paid in cash to retire NKF’s inter-company debt owed to the Seller; and (c) a Subordinated Promissory Note in the principal amount of $12,007,800, less $2,827,170, which represents management’s estimate of the purchase price adjustment in accordance with the terms and conditions of the Purchase Agreement.  The amount of consideration was determined on the basis of arm’s length negotiations between the Company and the Seller.

 

The acquisition was accounted for using the purchase method of accounting, as required by Statement of Financial Accounting Standard No. 141, “Business Combinations.” Under this method of accounting, the Company allocated the purchase price to the fair value of the net assets acquired, including identified intangible assets. The preliminary allocation was based on management’s estimates.  Management is has engaged an independent third party valuation firm to assist with the final allocation of the purchase price.  The purchase price included closing costs of $ 2,028,059.  The following table summarizes the estimated fair values of the assets acquired and liabilities assumed.

 

6



 

Cash paid at closing to Seller

 

$

14,607,080

 

Note tendered at closing to Seller

 

12,007,800

 

Direct acquisition costs

 

2,028,059

 

Purchase price adjustment

 

(2,827,170

)

 

 

 

 

Total purchase price

 

25,815,769

 

 

 

 

 

Less fair value of identified assets acquired:

 

 

 

Cash

 

(367,851

)

Accounts receivable, net

 

(4,249,252

)

Inventory

 

(2,707,358

)

Fixed assets

 

(1,042,757

)

Other

 

(320,609

)

 

 

(8,665,631

)

 

 

 

 

Add: Fair value of liabilities assumed:

 

 

 

Accounts payable

 

1,154,164

 

Accrued expenses

 

659,091

 

Other

 

545,610

 

 

 

2,358,865

 

Excess of cost over fair value of net identified assets acquired – Goodwill and intangible assets

 

$

19,509,003

 

 

Unaudited pro forma results of operations are as follows. The amounts are shown as if the acquisition had occurred at the beginning of the three month periods ended March 31, 2005 and 2004:

 

 

 

March 31, 2005

 

March 31, 2004

 

 

 

 

 

 

 

Proforma revenues ($000’s)

 

$

8,220

 

$

7,646

 

Proforma net income ($000’s)

 

$

695

 

$

719

 

Proforma earnings per share – basic

 

$

0.22

 

$

0.23

 

Proforma earning per share – diluted

 

$

0.21

 

$

0.22

 

 

This information is not necessarily indicative of the operational results that would have occurred if the acquisition had been consummated on the dates indicated nor is it necessarily indicative of future operating results or financial position of the combined enterprise. The unaudited proforma combined condensed financial information does not reflect any adjustments to conform accounting practices or to reflect any cost savings or other synergies anticipated as a result of the acquisition.

 

3.     Inventory

 

Inventories consisted of the following:

 

 

 

March 31, 2005

 

December 31, 2004

 

Production materials

 

$

2,685,343

 

$

1,604,605

 

Work in process

 

1,046,523

 

192,145

 

Finished goods

 

1,951,354

 

1,164,264

 

Allowance for obsolescence

 

(113,760

)

(93,132

)

Net

 

$

5,569,462

 

$

2,867,882

 

 

7



 

4.     Notes Payable

 

Notes payable consist of the following:

 

 

 

March 31, 2005

 

December 31, 2004

 

Senior term facilility with a bank due February 2009

 

$

14,454,597

 

$

 

Subordinated acquisition debt due March 2010

 

9,180,630

 

 

Line of credit with a bank

 

 

 

Other

 

89,937

 

90,000

 

 

 

$

23,725,164

 

$

90,000

 

 

On March 8, 2005 the Company completed the acquisition of NKF Electronics B.V. pursuant to the terms and conditions of the Share Purchase Agreement.  The purchase price for the acquisition, including management's estimate of the purchase price adjustment, is $23,635,228, which consists of a cash payment of 11 million Euros ($14.5 million USD) and a 6% subordinated note issued by Optelecom, Inc. to Draka Holding N.V. for the remainder.

 

The cash portion of the purchase price was funded by a $14.5 million senior term facility provided by a Bank, which consists of a 4.1 million Euro based term loan ($5.3 million USD) and a $9.2 million USD based term loan.  Both term loans carry interest at the rate of LIBOR plus a margin which can range from 2.25% to 3.25%.  The variability in the margin is a function of the Company’s leverage position which is calculated as Total Senior Debt divided by EBITDA.  As of March 31, 2005, the interest rate on this facility was 5.76%.  The term loans are subject to a seventy two month amortization which is payable over four years with a balloon payment in month 48.  Principal and interest are payable on a monthly basis. At March 31, 2005 $14,454,597 was outstanding under this facility.

 

The Subordinated Note accrues interest at a rate of 6% per annum and is due and payable in full on March 8, 2010.

 

As of March 31, 2005 the Company has the ability to borrow up to $5.0 million under a bank line-of-credit provided there are sufficient accounts receivable and inventory. This facility allows the Company to borrow in either USD or Euros with a maximum amount not to exceed $5 million USD.  The Company’s borrowing base under the facility is equal to between 60% - 85% of the eligible commercial billed accounts receivable and 30% of eligible related inventory.

 

The revolving line of credit carries interest at the rate of LIBOR plus a margin which can range from 1.75% to 2.75%, depending on the Company’s leverage position.  As of March 31, 2005, the Company had no borrowings outstanding on its bank line-of-credit.

 

Optelecom is required to comply with certain financial ratios including maintaining a minimum fixed charge coverage ratio and a maximum senior debt to EBITDA ratio. The Company was in compliance with all of these covenants at March 31, 2005.

 

5.     Earnings Per Share

 

Basic earnings per share is computed using the weighted average number of common shares outstanding.  Diluted earnings per share is computed using the weighted average number of shares outstanding and the treasury stock computation method for stock options and warrants, provided they are not antidilutive.  The following is a reconciliation of the basic and diluted earnings per share.

 

8



 

 

 

Three Months ended March 31,

 

 

 

2005

 

2004

 

Basic Earnings per Share:

 

 

 

 

 

Net Income

 

$

150,808

 

$

303,425

 

Weighted average common shares – basic

 

3,193,575

 

3,127,520

 

Basic income per share

 

$

0.05

 

$

0.10

 

 

 

 

 

 

 

Diluted Earnings per Share:

 

 

 

 

 

Net Income

 

$

150,808

 

$

303,425

 

Weighted average common shares – basic

 

3,193,575

 

3,127,520

 

Assumed conversion of:

 

 

 

 

 

Stock options

 

88,761

 

128,969

 

Weighted average common shares – diluted

 

3,282,336

 

3,256,489

 

 

 

 

 

 

 

Diluted income per share

 

$

0.05

 

$

0.09

 

 

6.     Stock-based Compensation

 

The Company has elected to follow Accounting Principles Board (APB) Opinion No. 25, “Accounting for Stock Issued to Employees,” (APB 25) and related interpretations, in accounting for its employee stock options and complies with the disclosure requirements of SFAS No. 123, “Accounting for Stock-Based Compensation” (FAS 123). APB 25 provides that the compensation expense relative to the Company’s employee stock options is measured based on the intrinsic value of the stock option. FAS 123 requires companies that continue to follow APB 25 to provide a pro forma disclosure of the impact of applying the fair value method of FAS 123.

 

In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based Compensation-Transition and Disclosure (FAS 148). FAS 148 amends FAS 123, to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, this Statement amends the disclosure requirements of FAS 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results.

 

The following table illustrates the effect on net income and net income per common share if the Company had applied the fair value recognition provisions of SFAS No. 123 to stock-based compensation.

 

 

 

Three Months ended March 31,

 

 

 

2005

 

2004

 

Net income, as reported

 

$

150,808

 

$

303,425

 

Deduct: Total stock-based compensation expense determined under fair value based method for all awards

 

(249,174

)

(216,876

)

Pro-forma net income

 

$

(98,366

)

$

86,549

 

 

 

 

 

 

 

Net income per share:

 

 

 

 

 

Basic, as reported

 

$

0.05

 

$

0.10

 

Basic, pro-forma

 

$

(0.03

)

$

0.03

 

 

 

 

 

 

 

Diluted, as reported

 

$

0.05

 

$

0.09

 

Diluted, pro-forma

 

$

(0.03

)

$

0.03

 

 

The effect of applying SFAS No. 123 on a pro forma net income as stated above is not necessarily representative of the effects on reported net income for future years due to, among other things, the vesting period of the stock options and the fair value of additional options to be granted in the future years.

 

9



 

7.     Business Unit Information

 

The Company manages its operations in two segments:  the Communication Products Division (CPD) which develops, manufactures, and sells optical fiber-based data communications equipment to both commercial and government customers; and the Electro-Optics Division (EOD) which is focused on Interferometric Fiber Optic Gyro coils and the manufacture of innovative optical devices under contract, primarily to government and defense industry customers.

 

 

 

Quarter Ended March 31, 2005

 

 

 

Communication
Products
Division

 

Electro-Optics
Division

 

Total

 

 

 

 

 

 

 

 

 

Revenues

 

$

5,279,871

 

$

207,043

 

$

5,486,914

 

Depreciation and amortization

 

144,766

 

 

144,766

 

Income (loss) from operations

 

343,032

 

(32,871

)

310,161

 

Assets

 

42,586,757

 

143,644

 

42,730,401

 

Capital expenditures

 

36,426

 

 

36,426

 

 

 

 

 

 

 

 

 

 

 

 

Quarter Ended March 31, 2004

 

 

 

Communication
Products
Division

 

Electro-Optics
Division

 

Total

 

 

 

 

 

 

 

 

 

Revenues

 

$

3,800,179

 

$

379,944

 

$

4,180,123

 

Depreciation and amortization

 

102,888

 

 

102,888

 

Income from operations

 

384,194

 

102,764

 

441,492

 

Assets

 

9,979,724

 

264,866

 

10,244,590

 

Capital expenditures

 

283,486

 

 

283,486

 

 

Optelecom is engaged primarily in the development, manufacture, and sale of integrated multi-media products for communicating video, audio, and other data over both copper wire and optical network systems.  Revenues represent shipments and services provided to third parties. Contract costs and operating expenses directly traceable to individual segments were deducted from revenues to arrive at income from operations.  Identifiable assets by segment are those assets that are used in the Company’s operations in each segment.  Geographically the majority of our revenues come from sales in the United States.  During the three months ended March 31, 2005 and 2004 revenue by geographic region was as follows:

 

 

 

2005

 

2004

 

 

 

 

 

 

 

 

United States

 

$

2,378,709

 

$

3,120,569

 

Europe

 

2,506,544

 

466,394

 

Asia - Pacific

 

212,595

 

303,783

 

Other

 

389,066

 

290,098

 

Total

 

$

5,486,914

 

$

4,180,123

 

 

The decrease in the United States region is due to lower CPD sales resulting from a decline in orders from the security and surveillance marketplace.  The increase in the European region is mainly due to the acquisition of NKF Electronics.

 

10



 

ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

Except for the historical financial information contained herein, the following discussion and analysis may contain “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.  Such statements include declarations regarding the intent, belief or current expectations of the Company and its management.  Prospective investors are cautioned that any such forward looking statements are not guarantees of future performance and involve a number of risks and uncertainties; actual results could differ materially from those indicated by such forward looking statements.

 

The following discussion should be read in conjunction with the Financial Statements and Notes thereto.

 

ACQUISITION OF NKF ELECTRONICS

 

On March 8, 2005, the Company completed the acquisition of NKF Electronics pursuant to the terms and conditions of the Share Purchase Agreement.  The purchase of NKF should effectively double the size of the Company’s operations and revenue, firmly establishing the Company’s position as the leading world-wide independent producer of fiber optic-based communications solutions for video surveillance, traffic monitoring, and business video systems. The integration of the companies will result in expanded and diversified revenue streams, enhanced research and development capabilities, and a more extensive sales and service organization, addressing the world-wide marketplace for the products of both companies.

 

Founded in 1981, NKF Electronics has accumulated extensive expertise in fiber optic and IP/Ethernet network technologies. This expertise has enabled NKF Electronics to build a broad range of communications products, ranging from fiber optic video modems and multiplexers to complete Video-Over-IP network solutions. All its products are designed and tested for Local, Metropolitan and Wide Area Network (LAN, MAN and WAN) applications, especially those characterized by harsh environmental conditions and by large distances between the individual transmission locations.

 

Through the acquisition of NKF, we join two strong product lines and two sales units with little geographic overlap, and bring to market industry- leading, advanced communication solutions for mission critical video surveillance, intelligent transportation, and business video systems.  We believe that by combining our research and development services and other resources, we can deliver excellent quality products to our customers at great values.

 

NKF’s primary market position and focus is centered in Europe, while Optelecom is an industry leader in the U.S. marketplace.  The Optelecom/NKF combination will create a diversified company that is a global leader in the video surveillance and intelligent transportation markets.  The Optelecom-NKF combination creates a company employing over 150 people worldwide with increased financial resources to support global government and commercial end-users.

 

OVERVIEW

 

Optelecom offers integrated multi-media products for communicating video, audio, and other data over both copper wire and optical network systems.  Optelecom currently manages its operations under two business segments: the Communication Products Division (CPD) and the Electro-Optics Division (EOD).  The primary focus of the CPD is the design, manufacture and sale of optical fiber-based data communication equipment to commercial and Government clients as well as the delivery and distribution of video systems over Category5 (CAT5) copper cabling as the transmission medium.  The EOD is focused on Interferometric Fiber Optic Gyro coils and the manufacture of innovative optical devices under contract, primarily to government and defense industry customers.

 

The CPD addresses business opportunities in the worldwide optical communication equipment marketplace, specializing in optical fiber transmission technologies. The majority of its current and future revenues is and will be derived from several niche markets that apply the advantages of fiber optic telecommunications to their transmission requirements. Presently, the vertical markets we serve include communications systems for highway traffic monitoring, advanced air traffic control video monitor displays, security surveillance and control systems, and manufacturing process and control communications.  The Company plans to develop products that will take advantage of the bandwidth capacity of fiber, primarily in the area of Gigabit Ethernet and Redundant Self-Healing Ring Networks.  A common characteristic of these

 

11



 

systems is the capability to deliver a large quantity of video feeds over a single fiber.  These products are targeted at the security and surveillance and traffic markets.

 

NKF Electronics, which is included in the CPD Division, focuses on business opportunities in the worldwide optical communication equipment marketplace, specializing in optical fiber transmission technologies.  In particular, NKF Electronics specializes in a broad range of communications products, ranging from fiber optic video modems and multiplexers to complete Video-Over-IP network solutions. All its products are designed and tested for Local, Metropolitan and Wide Area Network (LAN, MAN and WAN) applications, especially those characterized by harsh environmental conditions and by large distances between the individual transmission locations.

 

In the EOD, emphasis has been placed on fabrication of precision-wound coils of optical fiber used as the sensing elements of fiber optic gyroscopes.  During the past decade, Optelecom has received U.S. Government contracts to investigate advanced manufacturing technology related to gyro coil winding. Optelecom currently pursues this tradition of business development and continues to seek out technology development opportunities with potential for production follow-on.  The EOD also produces precision wound coils for applications ranging from optical fiber dispensers used in remote vehicle control systems to precision optical fiber coils for communications systems.

 

Optelecom designs, develops, manufactures and markets high-bandwidth fiber optic-based communications systems for traffic monitoring, security / surveillance, and business video systems. Over the past two years the Company has aggressively pursued several operational objectives including: 1) the expansion of a distribution network both in the United States and worldwide, 2) realization of manufacturing and process improvements and 3) implementation of a cost and asset management program.

 

The successful execution of these initiatives along with increased demand in our core markets has enabled the Company to significantly improve its financial condition in 2002, 2003 and 2004, as evidenced by increasing levels of profitability and positive cash flow.  The Company continues in 2005 to work at broadening its sales channels, sustaining gross profit margins and controlling costs.

 
RESULTS OF OPERATIONS

 

THREE MONTHS ENDED MARCH 31, 2005 COMPARED TO THREE MONTHS ENDED

MARCH 31, 2004

 

Acquisition of NKF Electronics

 

On March 8, 2005, the Company completed the acquisition of NKF Electronics.  As a result, the operating results of the Company includes the results of operations of NKF Electronics for the 23 days from March 8, 2005 through March 31, 2005.

 

REVENUES
 

 

 

2005

 

2004

 

 

 

 

 

 

 

Communication Products Division

 

$

5,279,871

 

$

3,800,179

 

 

 

 

 

 

 

Electro-Optics Division

 

207,043

 

379,944

 

 

 

 

 

 

 

Total Revenue

 

$

5,486,914

 

$

4,180,123

 

 

Consolidated revenues for the three months ended March 31, 2005 of $5,486,914 were $1,306,791 or 31% higher than the first quarter of 2004.  Revenue for the Communication Products Division increased by $1,479,692 or 39%. This increase is attributed to the addition of NKF sales of $1,698,442 for the first quarter of 2005.  Electro-Optics revenues decreased $172,901 or 46% to $207,043 for the

 

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first quarter of 2005 from $379,944 in 2004 primarily as a result of a $81,626 decrease in contract services revenues and a $91,275 decrease in coil winding revenues from 2005 to 2004.

 

GROSS PROFIT
 

Consolidated gross profit was $3,000,667, or 55% of revenues for the three months ended March 31, 2005 as compared to $2,411,107, or 58% of revenues for the first quarter of 2004.  The Communication Products Division’s gross profit was $2,990,751 for the first quarter of 2005 compared to $2,237,478 in the first quarter of 2004.  Gross profit for the Communications Products Division as a percent of revenue was 55% for the three months ended March 31, 2005 and 2004.  The increase of $753,273 or 34% was due primarily to higher sales levels as a result of the purchase of NKF Electronics.  The gross profit of the Electro-Optics Division decreased from $176,508 in the first quarter of 2004 to $10,105 in the first quarter of 2005 primarily as a result of the lower contract services and coil winding revenues realized in 2005.

 

OPERATING EXPENSES
 

Consolidated operating expenses were $2,690,506 for the quarter ended March 31, 2005 compared to $1,969,615 in 2004.  This increase of $720,891 or 37% is mainly due to the increased costs associated with the acquisition of NKF Electronics on March 8, 2005.  Overall the Company incurred approximately $200,000 in non-recurring expenses related to the acquisition.

 

Engineering expenses increased from $371,499 in the first quarter of 2004 to $564,215 for the first quarter of 2005 due to primarily to the acquisition.  The overall increase of $192,716 consisted of $138,732 from NKF’s engineering operations and $53,984 from CPD’s increases in engineering personnel and other costs.  Selling and marketing expenses increased from $688,337 in the first quarter of 2004 to $1,032,321 for the first quarter of 2005 due primarily to the acquisition.  The overall increase of $343,984 consisted of $321,287 from NKF’s selling and marketing operations and $22,697 from CPD’s increases in trade show expenses.  General and administrative costs increased from $909,779 in the first quarter of 2004 to $1,093,970 for the first quarter of 2004.  This 20% increase of $184,191 is primarily attributable to $154,855 from NKF and $29,336 in CPD’s increases in acquisition activity costs.  The Company’s management expects operating expenses to increase as revenues continue to grow and the Company develops and delivers new products to the marketplace.

 

OTHER INCOME (EXPENSE)

 

Other income for the quarter ended March 31, 2005 consisted of net interest expense of $69,723.  Other income (expense) for the prior year quarter consisted of net interest expense of $21,093.  This increase is attributed to the incurrence of debt in relation to the acquisition of NKF Electronics.

 

FINANCIAL CONDITION
 

The Company’s Stockholders’ equity increased from $9.9 million at December 31, 2004 to $10.3 million at March 31, 2005 due primarily to the recording of net income and to the exercise of stock options by employees and purchase of shares pursuant to the employee stock purchase plan.

 

Other key components of Optelecom’s financial condition include accounts receivable, inventory, fixed assets and accounts payable.  The Company’s current ratio has decreased to 2.54 at March 31, 2005 compared to 4.61 at December 31, 2004. This decrease is attributed primarily to the $1.0 million increase in accounts payable and the $1.7 million increase in income taxes payable.

 

Inventory increased from $2.9 million at December 31, 2004 to $5.6 million at March 31, 2005 due to the acquisition of NKF Electronics.

 

During the first quarter of 2005 fixed asset additions were $9 thousand, compared to $283 thousand in 2004.  During 2004, as the Company’s profitability continued to improve over prior year levels, capital spending was increased in order to improve and expand on engineering and manufacturing capabilities. This trend continues into 2005.  The Company does not currently have any capital asset purchase commitments.

 

13



 

The Company’s current liabilities increased $5.2 million from $2.2 million at December 31, 2004 to $7.3 million at March 31, 2005 primarily as a result of an increase of $1.0 million in accounts payable and $1.7 million in income taxes payable.

 

LIQUIDITY AND CAPITAL RESOURCES

 

Cash provided by operating activities was $1.54 million for the three months ended March 3, 2005, compared to cash used of $26 thousand in the first three months of the prior year.  Our cash from operations is the result of our net income, adjustment for depreciation, amortization and other non-cash items and changes in our operating assets and liabilities.  As noted above, we increased our inventory levels in order to have items on hand to meet the delivery needs of our customers.  Should this market continue to increase, we expect to continue to increase inventory levels to meet this need.  While the increase in inventory was not the only item that impacted our operating cash flows, it was one significant component.

 

Cash used in investing activities was $16.8 million for the first quarter of 2005 and $283 thousand for the same period of 2004.  The increase is wholly attributable to the purchase of NKF Electronics discussed below.

 

During the first quarter of 2005, financing activities provided $14.8 million in cash compared to $103 thousand provided by financing activities during the first three months of 2004.  The current year increase resulted primarily from the borrowings on bank notes and subordinated notes relating to the NKF acquisition.  Additionally, there was a modest increase in the proceeds from the exercise of stock options and common stock issued from the employee stock purchase plan.

 

On March 8, 2005 the Company completed the acquisition of NKF Electronics B.V. pursuant to the terms and conditions of the Share Purchase Agreement.  The purchase price for the acquisition, subject to final purchase price adjustment, is between 17 and 20 million Euros, which consists of a cash payment of 11 million Euros ($14.5 million USD) and a 6% subordinated note issued by Optelecom, Inc. to Draka Holding N.V. for the remainder.

 

The cash portion of the purchase price was funded by a $14.5 million senior term facility provided by M&T Bank, which consists of a 4.1 million Euro based term loan ($5.3 million USD) and a $9.2 million USD based term loan.  Both term loans carry interest at the rate of LIBOR plus a margin which can range from 2.25% to 3.25%.  The variability in the margin is a function of the Company’s leverage position which is calculated as Total Senior Debt divided by EBITDA.  As of March 31, 2005, the interest rate on this facility was 5.76%.  The term loans are subject to a seventy two month amortization which is payable over four years with a balloon payment in month 48.  Principal and interest are payable on a monthly basis.

 

The Subordinated Note accrues interest at a rate of 6% per annum and is due and payable in full on March 8, 2010.

 

As of March 31, 2005 the Company has the ability to borrow up to $5.0 million under a bank line-of-credit provided there are sufficient accounts receivable and inventory. This facility allows the Company to borrow in either USD or Euros with a maximum amount not to exceed $5 million USD.  The Company’s borrowing base under the facility is equal to between 60% - 85% of the eligible commercial billed accounts receivable and 30% of eligible related inventory.

 

The revolving line of credit carries interest at the rate of LIBOR plus a margin which can range from 1.75% to 2.75%, depending on the Company’s leverage position.  As of March 31, 2005, the Company had no borrowings outstanding on its bank line-of-credit.

 

Optelecom is required to comply with certain financial ratios including maintaining a minimum fixed charge coverage ratio and a maximum senior debt to EBITDA ratio. The Company was in compliance with all of these covenants at March 31, 2005.

 

Optelecom’s future working capital needs will be financed by our operating cash flow and continued use of the line-of-credit. In the event that operating cash flows become insufficient to meet funding needs, the Company may be required to scale back or eliminate product research and development and overhead costs. Additionally, the Company would look to increase its line of credit and/or pursue equity financing. The Company’s strategy will focus on identifying new products that meet the demands of our core markets, expanding our distribution channels and implementing processes

 

14



 

which will increase manufacturing efficiencies. Management fully understands the costs required to execute this strategy and will pursue these initiatives in a timely and fiscally prudent manner.

 

Item 3.  Quantitative and Qualitative Disclosures about Market Risk

 

Market risk is the potential change in an instrument’s value caused by, for example, fluctuations in interest and currency exchange rates. The Company has not purchased any futures contracts nor purchased or held any derivative financial instruments for trading purposes during the three months ended March 31, 2005 and 2004. The primary market risk exposure is the risk that interest rates on our outstanding borrowings may increase. Optelecom also faces market risk exposure as a result of foreign currency translation adjustments of the Company’s foreign subsidiary, Optelecom Europe Limited. The Company believes this risk is immaterial.

 

Optelecom currently has no borrowings under its available bank lines-of-credit.  Optelecom has not entered into any hedging arrangements with respect to any prior interest obligations under these lines of credit.

 

Item 4.  Controls and Procedures

 

As of March 31, 2005, under the direction and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, the Company reviewed and evaluated the effectiveness of the design and operation of its disclosure controls and procedures pursuant to Exchange Act Rule 13a-15. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are adequate and effective.

 

In connection with the evaluation by management, including the Chief Executive Officer and Chief Financial Officer, of our internal controls over financial reporting, pursuant to Exchange Act Rule 13a-15(d), no changes during the quarter ended March 31, 2005 were identified that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.  The Company is currently reviewing the new internal controls documentation and attestation requirements regarding Rule 404 of the Sarbanes Oxley Act of 2002 and is confident that it will fully comply with such requirements.

 

15



 

PART II - OTHER INFORMATION

 

ITEM 1 - LEGAL PROCEEDINGS

 

From time to time, the Company is involved in legal proceedings and litigation arising in the ordinary course of business.  As of the date of this report, except as described above, the Company is not a party to any litigation or other legal proceeding that, in the opinion of Management, could have a material adverse effect on the Company’s business, financial condition or results of operations.

 

ITEM 2 - CHANGES IN SECURITIES

 

None.

 

ITEM 3 - DEFAULTS UPON SENIOR SECURITIES

 

None

 

ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

 

None

 

ITEM 5.03              AMENDMENTS TO ARTICLES OF INCORPORATION OR BYLAWS

 

On April 18, 2005 Optelecom, Inc. (the Company) issued a press release announcing that it had changed its name to Optelecom-NKF, Inc.  This name change became effective upon the filing of a Certificate of Amendment of the Company’s Articles of Incorporation with the Delaware Secretary of State on April 13, 2005.  Shares of Optelecom-NKF, Inc. will continue to trade under the ticker symbol “OPTC.”

 

ITEM 6A - EXHIBITS

 

Exhibits are incorporated by reference to the Company’s December 31, 2004 Form 10-K

 

ITEM 6B - REPORTS ON FORM 8-K

 

None [you had an 8-K filed on March 11, 2005 you need to disclose]

 

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SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

 

 

OPTELECOM, INC.

 

 

 

 

 

 

Date:

May 16, 2005

/s/  Edmund Ludwig

 

 

 

Edmund Ludwig,

 

 

Director, President and Chief Executive Officer

 

 

 

 

 

 

Date:

May 16, 2005

/s/  James Armstrong

 

 

 

James Armstrong,

 

 

Director, Chief Financial Officer

 

17


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