Presstek 10-K 2007
Documents found in this filing:
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Commission File No. 0-17541
(Exact name of registrant as specified in its charter)
55 Executive Drive, Hudson, New Hampshire 03051-4903
(Address of principal executive offices including zip code)
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:
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes £ No R
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes £ No R
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 R No £
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. £
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. (See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Act).
Large accelerated filer £ Accelerated filer R Non-accelerated filer £
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes£ No R
The aggregate market value of common stock held by non-affiliates of the registrant as of July 1, 2006 was $321,426,856.
The number of shares outstanding of the registrant’s common stock as of April 2, 2007 was 35,678,781.
Documents Incorporated by Reference
Portions of the definitive Proxy Statement (which is expected to be filed within 120 days after the Company’s fiscal year end) for the registrant’s Annual Meeting of Stockholders to be held on June 7, 2007 are incorporated by reference into Part III of this Form 10-K.
ANNUAL REPORT ON FORM 10-K FOR THE FISCAL YEAR ENDED DECEMBER 30, 2006
See Part I - Item 1A of this Annual Report for cautionary statements regarding forward-looking statements included in this report.
Item 1. Business Overview
Presstek is a market-focused company primarily engaged in the design, manufacture, sales and service of high-technology digital imaging solutions to the worldwide graphic arts industry. We are helping to lead the industry’s transformation from analog to digital print production methods. We are a leader in the development of advanced offset printing systems using digital imaging technology and consumables-based solutions designed to economically benefit the user through a more streamlined workflow and environmentally responsible operation. We are also a leading sales and service channel in the commercial, quick and in-plant printing markets offering a wide range of solutions to customers worldwide.
Presstek’s business model is a capital equipment and consumables (razor and blade) model. In this model, almost 63% of our revenue is recurring revenue. Our model is designed so that each placement of either a Direct Imaging (DI®) Press or a Computer-to-Plate (CTP) system results in recurring aftermarket revenue for consumables and service.
Through our various operations, we:
We are Innovators
We are innovators in imaging technology solutions. Our primary market focus is on the commercial print segment within the graphic arts industry. We have served that market by pioneering the advancement of digital offset printing solutions for commercial printing applications. We:
Primary Market and Its Changing Requirements
Presstek pioneered these digital offset solutions because we recognized that the commercial printing market was shifting to increasingly faster production of smaller order quantities (shorter runs) with a higher use of color. Print providers were not well equipped to meet this changing model. To meet this market change, printers are now adapting digital workflows, which are designed to provide a faster process to finished press sheets with less production steps and manual intervention. Presstek is capitalizing on this transformation and have developed digital offset printing solutions to address the growing demand for high quality, fast turnaround, color printing in commercial applications.
Providing Solutions for New Market Requirements
We have incorporated our digital imaging technology into two types of applications for offset printing: Direct Imaging on-press applications, which we refer to as DI, and computer-to-plate off-press applications, which we refer to as CTP.
Using DI technology, electronic computer files are sent to a specially designed digital offset printing press that incorporates our laser imaging system, unique press design, and high performance printing plates. Our laser imaging systems then image our printing plates directly on the press. This unique approach results in a highly streamlined digital workflow and is designed to allow the user the fastest way to finished press sheets. We have incorporated this same digital imaging technology into CTP applications. Using our CTP technology, electronic computer files are sent to plate-imaging devices, the plates are imaged by our laser imaging systems again using our high performance printing plates and then mounted on a conventional offset printing press.
Solutions that Benefit the Target Market
Presstek’s digital offset printing solutions are designed to make the printer more profitable and productive by removing steps and cost from the printing process. These systems enable customers to produce high quality, full color offset printing more quickly and safely than chemistry-based conventional methods. Presstek’s digital offset solutions eliminate the chemistry, reduces the time it takes to print, and lowers the total cost of production for commercial printers. Presstek’s digital offset solutions are engineered to help printers address the requirements of today’s market.
Providing Migration Path for Adopting Digital Solutions
As the graphic arts industry joins other industries, such as the photographic and music industries, in converting from analog to digital, we recognize that not everyone is ready to convert all at once to an all-digital workflow. To better serve those who need to migrate to an all-digital model in stages, we expanded our product offerings beyond our own designed and manufactured digital products.
In addition to our digital products, we also market conventional offset printing presses and related products, which were added through the ABDick acquisition that occurred in 2004. And we complement our portfolio of Presstek manufactured products with consumables and equipment that we source from several strategic partnerships: including companies such as Mitsubishi, Agfa, Kodak and Ryobi. As the industry continues to transition to digital, our goal is to be the supplier of choice helping facilitate the journey for commercial printers with high-quality digital solutions.
We manufacture the laser-based digital imaging assemblies, complete with software, along with our advanced technology printing plates, for incorporation into our DI presses. Similar digital imaging and plate technologies are used in our CTP systems.
At our Presstek facility in Hudson, New Hampshire, we manufacture several models of our advanced printing plates, such as ProFire Digital Media®, PearlDry Plus®, PearlDry® and Applause®, along with the imaging kits that are incorporated into DI presses, as well as the ABDick-branded Digital PlateMaster® system and complete CTP systems, such as the Dimension Excel® series or Vector TX52® platesetters. At our South Hadley, Massachusetts manufacturing facility, we manufacture our aluminum-based printing plates, which are comprised of our chemistry-free plates, such as Anthem Pro® and Freedom® plates.
Service and Support
Presstek also has an extensive service organization throughout the United States, Canada and Western Europe. In addition to servicing equipment that is manufactured by or for Presstek, our service organization also provides service for equipment manufactured by other companies, including our strategic partners.
We deliver our solutions through multiple channels to market:
On November 5, 2004, the Company, through its wholly-owned subsidiary, ABD International, Inc., which we refer to as ABDick, completed the acquisition of certain assets and assumed certain liabilities of The A.B. Dick Company, which were acquired through a Section 363 sale in the United States Bankruptcy Court. The business we acquired manufactures, markets and services offset printing and CTP systems as well as related supplies for the graphic arts and printing industries. We refer to the acquired business as the ABDick business.
Following the acquisition we began integrating the ABDick business into Presstek’s operations. In the third quarter of fiscal 2005, we implemented a new internal management reporting structure in connection with organizational changes related to the integration of the acquired ABDick business into our Presstek business segment. As of December 30, 2006, we have completed the integration. Accordingly, the results of operations and balance sheet information for the former ABDick segment have been combined with those of the former Presstek segment and, commencing with this report on Form 10-K, are now reported together as the Presstek business segment. Any future changes to this organizational structure may result in changes to the business segments currently disclosed.
As a result of this acquisition and integration, Presstek is a stronger, more market-driven, customer-focused organization. We acquired a direct sales and service capability in the United States, Canada and the United Kingdom through which we are building more efficient and effective channels to market.
On July 30, 2004, we acquired the stock of Precision Lithograining Corp., which we refer to as Precision. With this acquisition, we substantially increased our manufacturing capabilities and obtained the ability to manufacture analog and digital printing plates. On December 28, 2006, the Audit Committee of the Company’s Board of Directors ratified a plan submitted by management to terminate production in South Hadley, Massachusetts of Precision-branded analog plates used in newspaper printing applications (the “analog newspaper business”) effective immediately. Manufacturing operations of analog plates used in newspaper applications had been suspended due to an incident that occurred on Monday, October 30, 2006, at the South Hadley facility that involved a chemical release and the resulting closure of the facility. This decision did not affect the Company’s production of chemistry-free digital printing plates, which occurs at another facility at the South Hadley complex that was not affected by the incident. Accordingly, the results of operations for the years ended December 31, 2005 and January 1, 2005 of the analog newspaper business are classified as discontinued operations.
The facility in South Hadley, Massachusetts continues to manufacture Anthem Pro, Freedom and Aurora® chemistry-free digital printing plates. The products manufactured in South Hadley are distributed through Presstek’s distribution network. Through the third quarter of 2006, we reported the financial performance of Precision as a separate reporting segment. We now report the financial performance of Precision as part of the Presstek operations.
Presstek, Inc. was incorporated in Delaware in 1987. Our headquarters are located at 55 Executive Drive, Hudson, New Hampshire, 03051. Our general telephone number is 603-595-7000, and our Web site can be found at www.presstek.com.
Prior to 2005, Presstek had primarily distributed its technology through other graphic arts companies who would then integrate, sell and support it through their market channels. Since 2005, Presstek has been strategically transforming its business, with the goal of providing commercial printers with “end-to-end” solutions; including the development, manufacture, distribution and service of its core products. The achievement of this goal means that Presstek will be able to better provide a more comprehensive digital migration path to address the full range of customer needs. In 2006, Presstek began to realize the benefits of this transformation by introducing its first Presstek-branded DI presses to market. This single minded focus on our customers and core products has resulted in the achievement of record DI press revenue and unit shipments in 2006.
Strategic Transformation Activity
Acquisition of Customer Base
The acquisition of the ABDick business in late 2004 brought with it a sizable ABDick customer base in North America and the UK. This customer base is composed of commercial, quick and in-plant printers; which are Presstek’s primary target market. This is a base that requires conventional equipment, consumables and supplies; and contains ideal prospects to transition to a digital production process. This gives us the opportunity to leverage our Presstek manufactured digital products as well as provide the ABDick-branded products to a longstanding, loyal customer base.
Increased Control Over Delivery
As a company, in 2005 we took a much greater role in the commercialization and delivery of our solutions to customers. Previously, we had been heavily reliant upon strategic partners for their sales, distribution and service.
North America and UK
Through our acquisition of the ABDick business, we gained access to an established direct sales and service channel in North America and the UK. Beginning in 2005, we began to offer Presstek manufactured solutions through this channel. For the first time, we were able to sell Direct Imaging presses, along with our CTP equipment and related consumables directly to end-user customers.
Prior to the 2004 ABDick acquisition, we had a limited European distribution operation managed out of the U.S., which relied on strategic relationships with independent dealers and sales agents. In 2006, we realigned and expanded our European distribution channel and we established a European base of operations in the London area to support that expansion. In the first quarter of 2006, we announced the opening of Presstek's new European business center west of London. The new facility serves as the central base of European operations and was established to support the anticipated growth and meet the needs of Presstek's expanding customer base across the region. From this facility, we offer customer support and training, as well as a demonstration facility for products.
Further progress was made in our pan-European expansion with the opening of a network of Presstek-authorized DI centers to provide sales, service and support for Presstek DI presses. To date, Presstek and select distribution partners have established DI centers in the Czech Republic, Denmark, Germany, Hungary, Italy, Russia and the United Kingdom. In addition, sales and service support are provided in Scandinavia, Benelux, Turkey, Greece, France, Spain, Portugal and Switzerland through Presstek’s network of factory trained sales and service professionals.
Rest of World
Presstek reaches into Asia Pacific, Africa and Middle Eastern markets through a network of distributors. In 2006, we realigned and expanded our Latin American distribution channel in Mexico, and entered the Brazilian market with one of its premier distributors. According to the industry research organization, Pira International, Brazil is one of the top ten global printing markets.
Expanded Product Line
Our goal is to support printers in transitioning to a digital workflow by offering quality digital offset solutions for both on- and off-press imaging. In addition, we also market conventional offset printing presses and related products, which were added to our product portfolio through the ABDick acquisition in 2004. We also complement our catalog of Presstek and ABDick branded products with consumables and equipment that we source from several strategic partnerships; including those with Mitsubishi, Kodak, Agfa and Ryobi.
In 2004, we also greatly expanded our digital product offering to include new generation DI press and CTP systems. The acquisition of Precision in the third quarter of 2004 enabled us to offer a Presstek-designed and manufactured plate that was intended to run on CTP devices from other manufacturers. This first open-platform chemistry-free printing plate, branded Aurora, was announced in September 2005.
July of 2005 marked the commercial release of an entry-level CTP solution, the Vector TX52, specifically designed to meet market demands for lower-cost CTP solutions.
In 2006 we brought two Presstek-branded DI presses to market; the Presstek 52DI and Presstek 34DI. This extends Presstek brand awareness and increases the strength of the brand as well as offers us more control over the sales and service process. We delivered these products through our direct sales and service channels in North American and the UK. In addition, we also realigned and expanded our distribution channels in Continental Europe, Mexico and Brazil to deliver the sales and service of the Presstek-branded presses and CTP line of products. The new generation chemistry-free plate for the Dimension Excel series of platesetters, called Anthem Pro, was also made commercially available through this multi-channel distribution strategy.
Founded in April 2000, our Lasertel subsidiary is a world-class developer and manufacturer of high-quality, high-powered laser diodes for Presstek-branded imaging systems as well as third-party systems. The Lasertel segment provides Presstek with state-of-the-art laser imaging capabilities that differentiate us by bringing innovation to the rapidly evolving graphic arts marketplace.
The 2005 purchase of a high capacity molecular beam epitaxy (“MBE”) reactor has enabled Lasertel to improve yields and increase revenue substantially during 2006. Growth in the defense sector has been particularly strong, and the supply agreement signed with Selex Sensors and Airborne Systems in 2005 has continued to be a major source of revenue. During 2006 the performance and reliability of Lasertel products was demonstrated by the use of a Lasertel diode laser on the space shuttle. The laser manufactured by Lasertel is used in a system enabling the crew of the space shuttle and engineers on the ground to determine the health of Discovery’s heat shield. The success of the system led to its use on shuttle missions.
The development of products for highly demanding applications such as the space shuttle enables Lasertel to continue to improve on existing products and develop new products designed for use in the laser imaging market.
Our Business Segments
We operate in two reportable segments: the Presstek segment, and the Lasertel segment. The Presstek segment is primarily engaged in the development, manufacture, sale and servicing of digital imaging systems and printing plate technologies for direct-to-press, or on-press applications, and CTP, or off-press applications for the graphic arts industries, primarily serving the segment of the market that requires high quality, fast turnaround color printing. The Lasertel segment is primarily engaged in the manufacture and development of high-powered laser diodes for sale to the Presstek segment and to external customers.
The Presstek Segment
The Presstek segment is the core of our operations, serving as the central engine of innovation for research, new product development and manufacturing as well as the center for marketing, sales and service for our digital offset printing solutions. In addition, the Presstek segment serves as the central organization under which our subsidiary functions and the Presstek segment sets the strategic and research direction and priorities for the entire company.
The Presstek segment manufactures the imaging systems and related assemblies that are incorporated into DI presses and CTP systems. The imaging systems that are designated for DI presses are shipped to our DI press manufacturing partner with whom we have OEM and exclusive manufacturing agreements. The Presstek 52DI is currently distributed exclusively by Presstek, while the Presstek 34DI is distributed directly and under an OEM agreement by Ryobi. The imaging systems that are designated for CTP units are incorporated into our CTP units, which are manufactured at our Hudson, New Hampshire facility.
We manufacture the printing plates that are used on DI presses and chemistry-free CTP units at our Hudson, New Hampshire and South Hadley, Massachusetts facilities. Mitsubishi and Agfa manufacture plates that are imaged on our ABDick Digital PlateMaster, or DPM, series CTP devices.
Our products are sold into the market to end-user customers through either our direct sales force or through OEM partners, strategic partners or our dealer channel. By employing this combination of internal and external sales organizations, we are able to deliver higher sales potential for our products worldwide. Presstek’s direct sales force also offers other offset printing solutions provided by marketing partners.
We also have an established catalog of supplies and consumables, many of which complement the Presstek segment equipment offerings. The Presstek segment has an equipment line of CTP devices; workflow modules; conventional duplicators and printing presses; post-press bindery and finishing equipment; and other ancillary devices manufactured by third parties. Thus, the Presstek segment products provide the foundation for a comprehensive digital migration path to address the full range of customer needs.
Presstek branded equipment is serviced by either our direct service organization or by our dealer channel. Our direct service organization is trained to service Presstek-branded digital products as well as conventional analog equipment manufactured by third parties. Our direct service organization primarily serves customers consisting of commercial printing shops in the graphic arts industry located in North America and the UK.
The Lasertel Segment
Our Lasertel segment is a world-class developer and manufacturer of high-quality, high-powered laser diodes for Presstek-branded imaging systems as well as third-party systems. The Lasertel segment provides Presstek with state-of-the-art laser imaging capabilities that differentiate us by bringing innovation to the rapidly evolving graphic arts marketplace. In addition, the Lasertel segment provides external customers with a wide range of laser diodes for defense and industrial applications. In December of 2005, Lasertel received ISO 9001:2000 certification. An ISO 9001:2000 certification recognizes the quality of a company’s management system. ISO is a non-governmental federation of the national standard boards of countries from all regions of the world that set the standards and requirements for state-of-the-art products, services, processes, materials and systems, as well as for good conformity assessment, managerial and organizational practice.
Information about our business segments and geographic areas is included in Note 17 and information about our major customers is included in Note 18 in the footnotes to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K and is incorporated herein by reference.
Our business strategy revolves around employing innovative digital imaging technology to address specific and well-understood opportunities primarily in the graphic arts marketplace, while at the same time supplying the
commercial, quick and in-plant printer with a full range of printing solutions. In this way, we can capitalize on the needs of customers who have not yet fully transitioned to a digital model.
This strategy reflects several strategic imperatives:
1. Our primary focus is on the growth of our consumables product.
Presstek provides digital offset solutions that aid the printer in transitioning from an analog to digital workflow. Our DI press, (on-press) imaging and CTP (off-press) imaging products use our chemistry-free printing plates. We refer to these systems as consumable burning engines, which we call CBEs. With our direct sales force and network of distribution partners we feel we are well positioned to expand our installation base of CBEs. Another step in growing our consumable business is to develop consumables that can be imaged on non-Presstek manufactured devices. The first step in executing this strategy was the launch of Aurora, our open-platform, chemistry-free printing plate, which is designed to be used on specific CTP systems (CBEs) marketed by major third-party manufacturers.
2. We focus on select market segments.
Large print providers have been the vanguard in adopting digital technology and have driven the industry’s digital transformation of the commercial printing segment of the graphic arts industry. The commercial and quick print providers and in-plant print operations are currently converting to digital systems and processes. With our innovative digital offset printing solutions and the strength of our direct sales and service force, we believe that we can leverage the depth and breadth of our products, services, supplies, internal skills and strategic partnerships to address these new and emerging market demands among commercial print providers.
Three unique types of businesses have demonstrated success with Presstek digital solutions, including:
3. Because we compete on the basis of technology and innovation, we deliver differentiated solutions.
We have been technology innovators since our inception, providing digital laser technology that is directly responsible for what is estimated to be over 90% of worldwide DI installations. As we expand and refine our product offerings, we will strive to lead the market with high performance solutions. We also introduced a range of Presstek-branded DI products in the spring 2006 - the Presstek 52DI press and the Presstek 34DI press. This extends Presstek brand awareness and increases the strength of the brand, as well as offers us more control over the sales and service process.
The Presstek 52DI is a landscape format 52cm direct imaging press with a maximum sheet size of 20.47” x 14.76”. The 52DI has a maximum image area of 20.07” x 14.17” one of the largest in its class. This press is highly automated and designed to deliver superior economics, faster turnaround times for printed jobs, require lower skilled operators and reduced paper waste. The Presstek 52DI images all four printing plates on press in 4.5 minutes. The press’ design using Zero Transfer Printing technology, results in consistent quality, an exceptionally fast makeready time and reliable handling across a wide range of printed substrates; capabilities that are important to our primary target market. The 52DI has a maximum operating speed of 10,000 full size sheets per hour.
The Presstek 34DI, based on the same technology platform as the 52DI, offers a two-page, four-color, 34 cm portrait format digital offset press - which produces 7,000 sheets per hour. The 34DI has a maximum sheet size of 13.39” x 18.11”. Maximum image area on the 34DI is 12.99” x 17.72”.
According to market research commissioned by Presstek and conducted by industry consultant Dr. Joseph Webb of Strategies for Management, “Much of the print industry’s decline in shipments volume has been in long-run printed documents. Short-run is actually mainstream. Short-run printing weighs on the capital base that was purchased to produce long-run printing, and until that installed base is replaced, profits are negatively affected.” Dr. Webb concludes, “Presstek has a unique opportunity and position in the reshaping of the printing industry's workflow and production methods. Presstek as a company, and print as a medium, are at a fascinating crossroads of technology, market opportunities, and competition. The company's products allow printers to compress their workflow to eliminate costly steps, leveraging the modern content creator’s capabilities to make better, richer, and more predictable printable files.”
5. We provide environmentally responsible solutions through our application of technology.
Our thermally imaged chemistry-free plate technologies are designed to provide both a streamlined workflow and environmentally responsible solution. Besides contributing to a cleaner and safer printing operation, environmental responsibility is sound business practice in that our DI and CTP solutions reduce labor needs, reduces space requirements, eliminates plate-oriented waste disposal, and results in fewer manufacturing process errors.
Technology and Products
Direct Imaging Technology
Beginning in the late 1980s, we set out with the mission to find a smarter way to print. The vision was to make the printing press as easy to use as a computer peripheral, like a desktop printer. Presstek developed the world's first Direct Imaging, which we refer to as DI®, printing technology and no-process digital printing plate. The result is an offset printing process that is more productive, easier, faster and environmentally friendly.
Before Direct Imaging, all platemaking and pre-press activities had occurred as a separate and specialized activity in the printing operation primarily using analog film-based technology, chemical processing and manual skill-based processes. Conventional or analog printing plates are produced using labor and chemical-intensive, multi-step processes. By consolidating or eliminating process steps required to prepare a digital file for printing, DI delivers efficiencies that allow increased print productivity at lower cost and with better quality than conventional offset print methods. At the same time, by imaging chemistry-free plates directly on a printing press, Presstek products eliminate the reliance on the chemical processing that is generally associated with imaging traditional printing plates. In addition to being overall more efficient to operate, our DI presses are also more environmentally responsible than traditional methods of printing. The result is a higher quality, faster turnaround print work with a lower cost of operation that is also environmentally safe.
The laser diodes that we use for our imaging system are manufactured at Lasertel. Lasertel manufactures epitaxial wafers, which are subsequently processed into chips or bars. Lasertel then assembles these devices into fiber-
coupled modules called multiple emitter packages (“MEPs”), which contain four lasers per module. These MEPs are then sent to our manufacturing facility in Hudson, New Hampshire.
We assemble Lasertel-manufactured laser imaging modules into imaging kits that are designed for DI press or CTP units. These kits are then incorporated into DI printing presses, by our manufacturing partner, or in CTP systems in our Hudson, NH facility.
Our most recent advance in DI technology, which we refer to as the ProFire Excel system, has significantly improved the resolution and print quality of our digital offset printing presses. The ProFire Excel integrated imaging system, introduced in May 2004, integrates lasers, laser drivers, digital electronics, and motion control into one modular package design for direct imaging presses. The ProFire Excel system has three major components: the FirePower laser diode system, made up of unique four-beam laser diodes and laser drivers, the integrated motion system that controls the placement of the laser diodes, and the FireStation digital controller and data server. The image data board of the ProFire Excel controls 16-micron diodes with patented Image Plus technology. Among the advantages of Image Plus is a writing mode that increases image quality while significantly reducing moiré patterns in standard screen sets, allowing for a range of FM (stochastic) screening options.
Presstek 34DI and 52DI
These technologies have been incorporated in the Presstek 34DI and Presstek 52DI - the first Presstek-branded DI products.
We also implement our imaging technology in computer-to-plate systems, which we refer to as CTP. Unlike the DI press, where the plate is imaged on the press, CTP systems allow printers to employ Presstek’s digital technology in conjunction with conventional printing presses. Presstek’s line of CTP systems incorporate our advanced imaging technology to transfer a digital image onto our high performance printing plates, which, once imaged, can be mounted on a conventional offset printing press, avoiding the multiple steps and chemical processes traditionally associated with analog plates. Currently, we manufacture three series of CTP products: Dimension/Dimension Excel; Vector TX52; and Digital PlateMaster or DPM. The Dimension Series and Vector TX2 CTP systems use chemistry free printing plates and laser imaging modules that are manufactured by Presstek. The DPM uses chemistry-based plates which we purchase through an OEM relationship.
The Dimension Excel series of platesetters are CTP imaging devices that engineered to image our chemistry-free Anthem Pro thermal plates in an A3 (2-page), or A2 (4-page) format size. The Dimension Excel utilizes our ProFire Excel laser imaging technology, and can produce completely imaged printing plates, ready to be mounted on a printing press, within four to six minutes depending on the system configuration. The Dimension Excel is available in both standard and high-productivity models.
The Dimension800 is a CTP platesetter that images our Anthem Pro thermal plates in an A1 (8-page) or smaller format size. Utilizing Presstek’s ProFire® imaging technology for chemistry-free operation, this is one of the most compact and efficient eight-page platesetters available.
The Vector TX52 platesetter is a CTP imaging system that is engineered to image our chemistry-free Freedom thermal plates. The Vector TX52 is a two-page (52 cm and under) metal CTP system that utilizes our SureFire laser imaging technology. The Vector TX52 can produce completely imaged printing plates, ready to be mounted on a printing press, within four minutes. It is an easy to use metal based system that is designed to offer the advantages of metal CTP plate manufacturing to small-sized and inplant printers.
The Digital PlateMaster
Digital PlateMaster (DPM) is an easy-to-use platesetter that is equipped with an integrated Harlequin RIP that uses conventional polyester-based plates. The DPM is designed for use with small-format portrait presses. The internal plate processor and daylight-loading materials cassette help facilitate plate production. The DPM also supports paper-based printing plates.
Offset printing is the most widely used method of producing printed materials for commercial applications. The majority of quality, full color printing materials with which the average consumer comes into daily contact (such as magazines, brochures, catalogs and direct mail pieces) are produced using the offset printing process. Our products are designed for offset printing.
We manufacture digital printing plates for both on-press Direct Imaging, or DI, and off-press Computer-to-Plate, or CTP, printing applications. DI plates include ProFire Digital Media, PearlDry Plus and PearlDry; these plates are manufactured in our Hudson, New Hampshire facility. Our CTP plate portfolio consists of PearlDry, Anthem Pro, Aurora and Freedom. PearlDry is manufactured in Hudson, while the other CTP plates are manufactured at our facility in South Hadley, Massachusetts.
Our plates are based on our patented chemistry-free thermal imaging technology. Our printing plates respond to heat generated by high-powered lasers (thermal imaging) using a process known as ablation to enable chemistry-free plate production. Presstek has a rich portfolio of intellectual property and considerable know-how focused on the application of chemistry free plate imaging. We pioneered chemistry free imaging in commercial printing applications and we have more than 15 years of experience marketing of our technology to end users. We are on our fifth generation of chemistry-free and process-free plate imaging systems for commercial printing applications, which we believe provides Presstek a significant competitive advantage in the marketplace.
ProFire Digital Media
ProFire Digital Media is designed to work as a system with the laser imaging and press components of ProFire Excel enabled DI presses (such as the Presstek 34 and 52DI). In conjunction with ProFire Excel imaging ProFire Digital Media allows new DI presses to produce a very high resolution, 16 micron spot and supports the highest level of print quality, up to 300-line screen and stochastic (FM) screening
ProFire Digital Media for DI presses is rated for 20,000 impressions. ProFire Digital Media is manufactured with an ink-accepting polyester base layer, a middle layer of titanium, and a top layer of silicone. During imaging, the heat from lasers removes the top two layers of the plate, exposing the ink receptive polyester layer. Areas that remain covered with the top layer of silicone will repel the ink. The imaging process is a highly consistent, heat sensitive, physical reaction without the variables of exposure and chemistry. The result is sharper and better-defined details and halftone dots.
Formulated in a similar fashion as ProFire Digital media, PearlDry Plus is designed to work in conjunction with previous generation DI presses. In conjunction with Presstek DI imaging PearlDry Plus allows presses to produce a high resolution, 21 micron spot and supports print quality up to 200-line screen. For DI applications PearlDry Plus is delivered in polyester-based spools.
PearlDry is used for DI press applications that require an aluminum-backed plate such as the 74Karat DI press manufactured by Koenig and Bauer (“KBA”) of Germany. The plate uses a specially formulated silicone material that is coated over the metalized infrared absorbing layer that is then bonded to an aluminum base. Environmentally friendly, thin-film vacuum deposition processes produce the ultra-thin film coatings that facilitate ablative imaging without excessive residue and are the foundation of PearlDry plates for waterless printing.
In April 2006, we introduced the Presstek Anthem Pro, a new generation chemistry-free thermally imaged digital plate. The Anthem Pro delivers improved print performance with the addition of Presstek's exclusive PRO graining technology. Anthem Pro plates for CTP systems feature our patented polymer-ceramic technology and combine ablative imaging and chemistry-free cleaning (a simple water wash) with run lengths of up to 100,000 impressions. The Anthem Pro plate runs with a wide range of fountain chemistry and inks. Anthem Pro’s market includes a broad base of installed conventional wet offset presses, currently the largest segment of the printing industry.
The Freedom plate operates in conjunction with Presstek’s Vector TX52 line of CTP solutions. Like our Anthem Pro plate, Freedom requires only a simple wash with water before printing. The unique surface structure of the plate results in a fast makeready and greater ink/water latitude. In addition, Freedom plates accommodate a wide range of industry standard inks and fountain solutions. Freedom plates deliver the performance characteristics and stability of conventional aluminum plates.
Applause is our first completely process-free plate product. We believe Applause is unique in that it is truly the world’s first commercially available no-process plate. Unlike other digital plate products, Applause is designed to require no intermediate steps between imaging and printing. Other benefits of Applause include excellent ink/water latitude, high resolution, and compatibility with existing press chemistries.
In 2005, we introduced Aurora, our first chemistry-free CTP thermal plate designed to operate with CTP systems from market leaders in CTP plate imaging systems. This further extends the opportunity for printers to leverage innovative Presstek chemistry-free technology with their existing installed base of CTP systems eliminating the need to purchase, store and dispose of toxic chemicals.
Lasertel Diode Products
The graphic arts industry continues to demand a high degree of speed, imaging resolution and accuracy without increasing costs. Our high-powered laser diodes are designed to achieve greater imaging power, uniformity and reliability at a low unit cost for the diode array. Writing speed and accuracy are increased, without increasing space and costs, by combining four fiber channels into a single optical module. These diodes, manufactured at our Lasertel subsidiary, also incorporate a number of packaging innovations that reduce the size of the device and facilitate incorporation into the ProFire Excel imaging module. In addition to manufacturing Presstek products, Lasertel also manufactures products for third-party customers in the industrial, medical and defense sectors.
We operate manufacturing sites in Hudson, New Hampshire; Tucson, Arizona; DesPlaines, Illinois; and South Hadley, Massachusetts. In general, we strive to employ the latest manufacturing techniques in our equipment assembly and plate manufacturing operations. Strategic procurement initiatives are in place to qualify and consolidate vendors, and establish active vendor report card programs to improve incoming quality and reduce product costs. Having completed the integration of the capabilities we acquired as a result of the 2004 Precision and ABDick acquisitions, we are continually evaluating similar operations in different plants to leverage our capabilities and achieve economies of scale. We also continually assess outside manufacturing capacity and review our existing manufacturing technologies when deciding whether to manufacture or to buy a product or component.
We use a number of outside vendors who supply components and sub-assemblies which are integrated into completed systems. These systems use semiconductor laser diode devices built to our specifications and supplied by Lasertel. We believe other sources would be available to manufacture the laser diodes to specification, in the future, if required.
Our DI imaging kits, CTP systems, and our ProFire Digital Media, PearlDry Plus, PearlDry, and Applause printing plate products are manufactured at our 165,000-square-foot state-of-the-art facility located in Hudson, New Hampshire. Our equipment manufacturing employs the latest techniques in the assembly process, including point-of-use issue of parts, single flow process, and multiple operations done by each assembler.
Plate manufacturing at our Hudson facility uses vacuum deposition technology to create ultra-thin imaging layers. We have a state-of-the-art solution coater capable of handling aqueous or solvent based fluids with best available environmental controls throughout the process. PET substrates are laminated to aluminum webs (spools) using electron beam curing technology. This eliminates the need for environmental emissions from a drying process. We utilize full converting capability, which provides high-speed slitting, spooling, formatting and final packaging.
The Hudson facility also manufactures three series of CTP products: Dimension/Dimension Excel; Vector TX52; and Digital PlateMaster or DPM. To manufacture the ABDick-branded DPM, we use a number of outside vendors who supply components and sub-assemblies that are integrated into completed systems.
Lasertel operates a 75,000-square-foot facility located in Tucson, Arizona. The facility includes 10,000 square feet of clean room space, and complete process equipment for semiconductor laser manufacturing. Lasertel’s manufacturing process begins with molecular beam epitaxy reactors to grow semiconductor laser wafers, and extends through the final polishing techniques for the optical fiber.
The facility located in South Hadley, Massachusetts consists of 50,000 square feet in a single building, and performs aluminum plate manufacturing including in-line graining, anodizing, silicating, and multiple layer coatings. Raw aluminum is processed into lithographic printing plates for the digital markets.
Marketing, Distribution and Customer Support
Our sales strategy through 2006 was designed to emphasize the distribution of Presstek DI and CTP products and the related consumables, as well as a full catalog of conventional products, to customers through our direct sales force, independent graphic arts dealers and strategic OEM partnerships. The addition of our direct sales force in 2005 has greatly enhanced our marketing, distribution and service capabilities and given us direct access to end-user customers of our solutions and services.
We offer multiple solutions to solve customer needs and requirements. We are developing many of these technologies ourselves, and others we acquire through partnerships. We intend to deliver these solutions through multiple channels, including a high performing value-added dealer network, our direct sales and service force, and our strategic OEM partners. We have an established worldwide distribution network through which we market and sell DI presses, CTP equipment, thermal plate products, and a full catalog of conventional printing products. In addition, we have a service organization through which we provide service to products manufactured by Presstek and third-party vendors. This integrated service strategy provides dedicated service for the products delivered
through our distribution network. We have positioned ourselves to capture revenue from the sales and service of digital and conventional printing products as the industry continues its migration to digital processes.
Our direct sales force represents our primary access to lead the analog-to-digital migration of our large installed customer base of smaller print establishments. In addition to our direct sales force, our distribution network is supplemented with over 38 independent graphic arts dealers in 23 countries. We also market and sell our full catalog of products through our shop.presstek.com web site for the printing industry.
Concurrently, we have a business strategy that is based in part on strategic alliances and relationships with leading companies in the printing and graphic arts industry. This strategy includes licensing intellectual property; specialized product development based on our proprietary technologies; the manufacturing of imaging systems for inclusion in other manufacturers’ products; the sale, distribution and marketing of our own consumables as well as consumables manufactured by others; and the manufacturing of our patented thermal plate materials for use in Presstek’s and other manufacturers’ imaging hardware and printing presses.
In conjunction with Ryobi, an international supplier of printing presses headquartered in Japan, we developed the Presstek 52DI and 34DI presses. Both presses incorporate our dual plate cylinder concept, and feature our internal automated plate cylinder design, ProFire Excel imaging technology, and our ProFire Digital Media. The small format and high level of automation of this press is designed to appeal to our target markets.
The Presstek 52DI is currently distributed exclusively by Presstek. The Presstek 34DI is currently distributed by us and by Ryobi as the Ryobi 3404DI. Ryobi also provides Presstek a range of duplicators and 2- and 4-tower presses sold under the ABDick brand.
The maturation of Presstek through its organic growth and acquisitions has enabled us to effectively move forward with our direct distribution model. The establishment of a direct distribution model has allowed us to precisely control the sales and service of our company’s flagship products. Not only has Presstek benefited from this shift, our customers receive the benefit of dealing directly with the manufacturer, thereby increasing customer satisfaction.
For parts and consumables, we have OEM relationships with KBA, Heidelberg and Kodak.
We also have the following strategic relationships:
Market acceptance for any products incorporating our various technologies and proprietary know-how will require substantial marketing efforts and the expenditure of significant sums, either by us, and/or our strategic and OEM partners. There can be no assurance that any existing or new products will achieve market acceptance or become commercially viable.
We are pursuing other business relationships that we believe may result in broader use of our digital imaging and printing plate technologies in existing as well as new applications. There can be no assurance, however, that any of our products, or any products incorporating our technology, will be able to compete successfully in these markets.
We believe that our patented technologies, other intellectual property, thermal plate manufacturing facilities, strategic alliances, worldwide distribution network and knowledge of the marketplace provide us with a competitive
advantage. However, several other companies address markets in which our products are used and have products that are competitive to our patented direct imaging thermal plate technologies and related capabilities.
In the area of direct imaging and the short-run, on-demand market, potentially competitive companies use electrophotographic technology, sometimes referred to as xerography, as the basis of their product lines. These companies include, among others, Canon Inc., Hewlett Packard Company, Kodak, and Xerox. These electrophotographic imaging systems use either wet or dry toners to create one to four (or more) color images on paper and typically offer resolutions of between 400 and 1200 dots per inch. These technologies are best suited for ultra-short runs of less than 250 copies.
In 2005, DaiNippon Screen Mfg., Ltd., known as Screen, introduced the TruePress 344 press. This press images photographic printing plates from a cassette and then develops them on press prior to printing. The maximum resolution is 2400 dpi with a maximum screen ruling of 175 lpi. This is Screen’s second attempt at bringing a direct imaging press to market, while the Presstek DI technology is a field-proven technology with approximately 3,000 placements in market. The current Presstek DI press also produces a higher quality press sheet with the maximum resolution being 2540 dpi with a maximum screen ruling of 300 lpi and FM screening.
Most of the major companies in the graphic arts industry have developed or are developing off-press CTP imaging systems. Potential competitors in this area include, among others, Agfa, Kodak, DaiNippon Screen Mfg., Ltd., Fuji, and Heidelberg, combinations of these companies, and other smaller or lesser-known companies. Many of these devices utilize printing plates that require a post-imaging photochemical developing step and/or other post processing steps such as heat treatment.
We are beginning to see competition from printing plate companies that manufacture, or have the potential to manufacture, digital thermal plates. Such companies include, among others, Agfa, Kodak, and Fuji Photo Film Co., Ltd., who we call Fuji.
Kodak is marketing a competitive plate product as an alternative to Presstek’s PearlDry and PearlDry Plus for both the Ryobi and Quickmaster DI platforms. These competitive plates could have an impact on the revenue generated by Presstek under its agreements with Heidelberg and Ryobi. They could also lead to downward pricing pressure on our full line of spooled consumable products, which could have a material adverse effect on our business, results of operations and financial condition. Presstek has initiated patent infringement action against Fuji and Creo (subsequently acquired by Kodak) products in the Federal Republic of Germany and the United States, respectively.
Some of the graphic arts companies, including Agfa, Kodak and Fuji, have announced or released plates that reportedly eliminate the need for post image chemical processing. We cannot currently estimate the impact these competitive plates will have on our financial condition and results of operations.
Products incorporating our technologies can also be expected to face competition from products using conventional methods of creating and printing plates and producing printed product. While these methods are considered to be more costly, less efficient and not as environmentally conscious as those we implement, they do offer their users the ability to continue to employ their existing means of print and plate production. Companies offering these more traditional means and methods are also refining these technologies to make them more acceptable to the market.
The broad portfolio of equipment, supplies, and service added to our portfolio through the acquisition of the ABDick business has several competitors. In addition to those mentioned above, competitors include for Prepress: ECRM and RIPit; for Press: Ryobi, Hamada, Xerox, Canon, Ricoh and HP; for Service: GBC, Kodak, Service On Demand and some independent providers; for Dealers: xpedx, Pitman and Enovation.
Lasertel’s products can also be expected to face competition from a number of companies marketing competitive high-powered laser diode products such as Coherent Inc. and JDS Uniphase Corporation.
Most of the companies marketing competitive products, or with the potential to do so, are well established have substantially greater financial, marketing and distribution resources than Presstek and its subsidiaries, and have established records in the development, sale and service of products. There can be no assurance that Presstek,
Lasertel, or any of our products or any products incorporating our technology, will be able to compete successfully in the future.
While we believe we have strong intellectual property protection covering many of our technologies, there is no assurance that the breadth or degree of such protection will be sufficient to prohibit or otherwise delay the introduction of competitive products or technologies. The introduction of competitive products and technologies may have a material adverse effect on our business, results of operations and financial condition.
Patents, Trademarks and Proprietary Rights
Our general policy has been to seek patent protection for those inventions and improvements likely to be incorporated into our products and services or where proprietary rights will improve our competitive position. As of December 30, 2006, our worldwide patent portfolio included over 500 patents. We believe these patents, which expire from 2008 through 2027, are material in the aggregate to our business. We have applied for and are pursuing applications for 9 additional U.S. patents and 31 foreign patents. We have registered, or applied to register, certain trademarks in the U.S. and other countries, including Presstek, DI, Dimension, ProFire, Anthem, Applause and PearlDry. We anticipate that we will apply for additional patents, trademarks, and copyrights, as deemed appropriate.
In addition to the Presstek patents indicated, there is currently one U.S. patent assigned to Precision, which will expire in 2017 and one active patent assigned to Lasertel, which will expire in 2012.
In September 2003, we filed an action against Fuji Photo Film Corporation, Ltd., in the District Court of Mannheim, Germany for patent infringement. In this action, we allege that Fuji has manufactured and distributed a product that violates a Presstek European Patent. We are seeking an order from the court that Fuji refrain from offering the infringing product for sale, from using the infringing material or introducing it for the named purposes, and from possessing such infringing material. A trial on the matter was held in November 2004 and March 2005, and we are currently awaiting a final determination from the court.
In March 2005, we filed an action against Creo, Inc. (subsequently acquired by Kodak) in the U.S. District for the District of New Hampshire for patent infringement. In this action, we allege that Creo has manufactured and distributed a product that violates a Presstek U.S. Patent. We are seeking an order from the court holding that Creo has infringed the patent, permanently enjoining Kodak from infringing, inducing others to infringe or contributing to the infringement of the Patent, and seeking damages from Creo for the infringement.
We intend to rely on proprietary know-how and to employ various methods to protect our source code, concepts, trade secrets, ideas and documentation of our proprietary software and laser diode technology. However, such methods may not afford complete protection and there can be no assurance that others will not independently develop such know-how or obtain access to our know-how, software codes, concepts, trade secrets, ideas, and documentation.
Research and Development
Research and development expenses related to our continued development of products incorporating DI and CTP technologies, including our semiconductor laser diodes, were $6.4 million, $7.3 million and $6.5 million in fiscal 2006, fiscal 2005 and fiscal 2004, respectively. These research and development expenditures are primarily related to the Presstek segment.
At February 25, 2007, we had a backlog of products under contract aggregating approximately $10.3 million, of which the Company expects to ship substantially all in 2007. This amount compares to a consolidated backlog of approximately $12.1 million at February 25, 2006.
At December 31, 2006, we had 891 employees worldwide. Of these, 39 are engaged primarily in engineering, research and development; 212 are engaged in sales and marketing, 344 are engaged in service and customer support, 207 are engaged primarily in manufacturing, manufacturing engineering and quality control; and 89 are engaged primarily in corporate management, administration and finance. None of our employees is represented by a labor union. We consider the relationship with our employees to be good.
Financial and other information about us is available on our website, www.presstek.com. We make available, free of charge on our website, our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K 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 we electronically file such material with, or furnish it to, the SEC.
Set forth below is a glossary of certain terms used in this report:
Item 1A. Risk Factors
Certain statements contained in this Annual Report on Form 10-K constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995, including statements regarding the following:
Such forward-looking statements involve a number of known and unknown risks, uncertainties and other factors which may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. Such factors that could cause or contribute to such differences include those discussed below, as well as those discussed elsewhere in this report. The words “looking forward,” “looking ahead,” “believe(s),” “should,” “plan,” “expect(s),” “project(s),” “anticipate(s),” “may,” “likely,” “potential,” “opportunity” and similar expressions identify forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date, the statements were made and readers are advised to consider such forward-looking statements in light of the risks set forth below. Presstek undertakes no obligation to update any forward-looking statements contained in this Annual Report on Form 10-K.
Significant factors that could impact the Company’s financial condition or results of operations include, without limitation, the following:
We are substantially dependent on our strategic alliances, as well as our manufacturing and distribution relationships to develop and grow our business. The loss or failure of one or more of our strategic partners could significantly harm our business.
Our business strategy to date has included entering into strategic alliances with major companies in the graphic arts industry and other markets. The implementation of this strategy has included, among other things, licensing our intellectual property, developing specialized products based on our proprietary technologies and manufacturing imaging systems for inclusion in other manufacturers’ products. Our strategy has also involved identifying strategic manufacturing and distribution partners to aid in developing new market channels for our products. This strategy led to the development of our relationship with our strategic partners. We are dependent on many of these partners for future sales of both existing and planned products. This means that the timetable for finalizing development, commercialization and distribution of both existing and planned products is dependent upon the needs and circumstances of our strategic partners. We have experienced and will continue to experience technical difficulties from time to time, which may prevent us from meeting certain production and distribution targets. Any delay in meeting production and distribution targets with our strategic partners may harm our relationships with them and may cause them to terminate their relationship with us. Our strategic partners may not develop markets for our products at the pace or in the manner we expect, which may have an adverse effect on our business. They may also terminate their relationships with us for circumstances beyond our control, including factors unique to their businesses or their business decisions. In addition, we may mutually agree with one or more of our partners to terminate our relationship with them for a variety of reasons. We cannot assure you that the termination of any of our other relationships with our strategic partners will not have an adverse impact on our business in the future.
We are also unable to control factors related to the businesses of our strategic partners. There can be no assurance that similar events will not occur with our other strategic partners.
Though we take precautions designed to achieve success, given the uncertainties surrounding many of our strategic partners, there can be no assurance that our existing strategic relationships will prove successful. There can also be no assurance that our existing relationships with any of our other strategic, manufacturing or distribution partners will be successful. The loss of principal customers or strategic partners could have a materially adverse effect on our business, results of operations and financial condition.
While we continue to explore possibilities for additional strategic relationships and alliances, there can be no assurance we will be successful in this regard. Our failure to develop new relationships and alliances could have a significant adverse effect on our business.
The move to a direct-sales and distribution business may affect our relationship with our third-party distribution and service partners, which may negatively impact our sales and distribution channels.
Prior to the addition of the ABDick business, distribution and service of our CTP products was performed by our third-party partners, including Pitman and Xpedx and a series of independent dealers. Additionally, the distribution and service of our DI products were provided by OEM and other third party partners. With the addition of ABDick, we utilize our newly-acquired sales, distribution and service organization as a new channel through which to sell and service Presstek products, as a supplement to our existing distribution network. At this time, we are not aware of any conflicts between our existing channel and/or OEM partners associated with the initiation of this channel. However, there can be no guarantees that the establishment of this new distribution channel will not cause conflict with our existing distribution and OEM partners, which could have an adverse effect on our relationship with our distribution and/or OEM partners, which could result in our sales being negatively affected.
If we are unable to manage acquisitions successfully it could harm our financial results, business and prospects.
The operations of Presstek have substantially changed over the last thirty months as a result of the additions of Precision and the ABDick business. As part of our business strategy, over the next few years, we may further expand our business through the acquisition of complementary businesses worldwide. Though we would not
undertake an acquisition that would knowingly be problematic, we cannot assure you that we will be able successfully to integrate any future acquisitions, which could adversely impact our long-term competitiveness and profitability.
Any future acquisitions will involve a number of risks that could harm our financial condition, results of operations and competitive position. In particular:
With respect to our strategic plan to grow, in part, through acquisitions, we cannot assure you that we will be able to identify suitable acquisitions at acceptable prices or that we will have access to sufficient capital to take advantage of desirable acquisitions. We cannot assure you that our future acquisitions will have revenues, profits or
productivity comparable to those of our past acquisitions. Future acquisitions may require substantial capital. Although we expect to use borrowings under our senior credit facility to pursue these opportunities, we cannot assure you that such borrowings will be available in sufficient amounts or that other financing will be available in amounts and on terms that we deem acceptable. Our financial performance and the condition of the capital markets will affect the value of our common stock, which could make it a less attractive form of consideration for making acquisitions.
Our lengthy and variable sales cycle makes it difficult for us to predict when or if sales will occur and therefore we may experience an unplanned shortfall in revenues.
Many of our products have a lengthy and unpredictable sales cycle that contributes to the uncertainty of our operating results. Customers view the purchase of our products as a significant capital outlay and, therefore, a strategic decision. As a result, customers generally evaluate these products and determine their impact on existing infrastructure over a lengthy period of time. Our sales cycle has historically ranged from approximately one to six months based on the customer’s need to rapidly implement a solution and whether the customer is new or is extending an existing implementation. The sale of our products may be subject to delays if the customer has lengthy internal budgeting, approval and evaluation processes. We may incur significant selling and marketing expenses during a customer’s evaluation period. Larger customers may purchase our products as part of multiple simultaneous purchasing decisions, which may result in additional unplanned administrative processing and other delays in the recognition of our revenues. If revenues forecasted from a specific customer for a particular quarter are not realized or are delayed to another quarter, we may experience an unplanned shortfall in revenues, which could have a material adverse effect on our business, results of operation and financial condition.
We may not be able to increase revenues if we do not expand our sales and distribution channels.
We will need to expand our global sales operations in order to increase market awareness and acceptance of our line of products and generate increased revenues. We market and distribute our products indirectly through our global
partner and distributor network and directly in Europe through our Presstek Europe subsidiary. We believe that our future success is dependent upon expansion of global distribution channels. We cannot be certain that we will be able to maintain our current relationships or establish new relationships with additional distribution partners on a timely basis, or at all. We plan to utilize our newly-acquired distribution and service organization as a new channel through which to sell and service our products, as a supplement to our existing distribution network. At this time, we are not aware of any conflicts between our existing channel and/or OEM partners associated with the initiation of this channel. However, there can be no guarantees that the establishment of this new distribution channel will not cause conflict with our existing distribution and OEM partners, which could have an adverse effect on our relationship with our distribution and/or OEM partners, which could result in our sales being negatively affected.
Our growth strategy may include licenses or acquisitions of technologies or businesses, which entail a number of risks.
As part of our strategy to grow our business, we may pursue licenses of technologies from third parties or acquisitions of complementary products lines or companies, and such transactions entail a number of risks. We may expend significant costs in investigating and pursuing such transactions, and such transactions may not be consummated. If such transactions are consummated, we may not be successful in integrating the acquired technology or business into our existing business to achieve the desired synergies. Integrating acquired technologies or businesses may also require a substantial commitment of our management’s time and attention. We may expend significant funds to acquire such technologies or businesses, and we may incur unforeseen liabilities in connection with any acquisition of a technology or business. Any of the foregoing risks could result in a material adverse effect on our business, results of operations and financial conditions.
We face risks associated with our efforts to expand into international market and such risks could result in diversion of our management’s attention from our existing business and/or cause us to incur additional expected and unexpected costs associated with penetrating, operating in and servicing such markets, any of which could have a material adverse effect on our financial condition and results of operations.
We intend to expand our global sales operations and enter additional international markets, which will require significant management attention and financial resources. International sales are subject to a variety of risks, including difficulties in establishing and managing international distribution channels, in serving and supporting products sold outside the United States and in translating products and related materials into foreign languages. International operations are also subject to difficulties in collecting accounts receivable, staffing and managing personnel and enforcing intellectual property rights. Other factors that can adversely affect international operations include fluctuations in the value of foreign currencies and currency exchange rates, changes in import/export duties and quotas, introduction of tariff or non-tariff barriers and economic or political changes in international markets. If our international sales increase, our revenues may also be affected to a greater extent by seasonal fluctuations resulting from lower levels of sales that typically occur during the summer months in Europe and other parts of the world. There can be no assurance that these factors will not have a material adverse effect on our future international sales and, consequently, on our business, results of operations and financial condition.
We have experienced losses in the past, could incur substantial losses in the future, and may not be able to maintain profitability.
We have incurred substantial net losses from continuing operations in one of the past five fiscal years. At December 30, 2006 we had retained earnings of $1.8 million. We may need to generate significant increases in revenues to maintain profitability, and we may not be able to do so. If our revenues grow more slowly than we anticipate, or if our operating expenses increase more than we expect or cannot be reduced in the event of lower revenues, our business will be materially adversely affected. Even if we maintain profitability in the future on a quarterly or annual basis, we may not be able to sustain or increase such profitability year to year. Failure to sustain profitability may adversely affect the market price of our common stock and could have a materially adverse impact on the value of an investment in us.
Our quarterly revenues and operating results are likely to fluctuate significantly.
Our quarterly revenues and operating results are sometimes difficult to predict, have varied in the past, and are likely to fluctuate significantly in the future. We typically realize a significant percentage of our revenues for a fiscal quarter in the third month of the quarter. Accordingly, our quarterly results may be difficult to predict prior to the end of the quarter. Any inability to obtain sufficient orders or to fulfill shipments in the period immediately preceding the end of any particular quarter may cause the results for that quarter to fail to meet our revenue targets. In addition, we base our current and future expense levels in part on our estimates of future revenues. Our expenses are largely fixed in the short-term and we may not be able to adjust our spending quickly if our revenues fall short of our expectations. Accordingly, a revenue shortfall in a particular quarter would have an adverse effect on our operating results for that quarter. In addition, our quarterly operating results may fluctuate for many reasons, including, without limitation:
We are dependent on third party suppliers for critical components and our inability to maintain an adequate supply of advanced laser diodes and other critical components could adversely affect us.
We are dependent on third-party suppliers for critical components and our increased demand for these components may strain the ability of our third-party suppliers to deliver such critical components in a timely manner. For
example, our requirement for advanced technology laser diodes for use in products incorporating our DI technology has increased and is expected to further increase in the future. Although we have established our subsidiary, Lasertel, to help us meet our demand for laser diodes, we are still dependent on other third-party manufacturers to supply us with other necessary components. If we are unable for any reason to secure an uninterrupted source of other critical components at prices acceptable to us, our operations could be materially adversely affected. We cannot assure you that Lasertel will be able to manufacture advanced laser diodes in quantities that will fulfill our future needs, or with manufacturing volumes or yields that will make our operation cost effective. Likewise, we cannot assure you that we will be able to obtain alternative suppliers for our laser diodes or other critical components should our current supply channels prove inadequate.
Our manufacturing capabilities may be insufficient to meet the demand for our products.
If demand for our products grows beyond our expectations, our current manufacturing capabilities may be insufficient to meet this demand, resulting in production delays and a failure to deliver products in a timely fashion. We may be forced to seek alternative manufacturers for our products. There can be no assurance that we will successfully be able to do so. As we introduce new products, we may face production and manufacturing delays due to technical and other unforeseen problems. Any manufacturing delay could have an adverse effect on our business,
the success of any product affected by the delay, and our revenue, and may harm our relationships with our strategic partners.
In addition, many of our manufacturing processes are extremely sophisticated and demand specific environmental conditions. Though we take precautions to avoid interruptions in manufacturing and to ensure that the products that are manufactured meet our exacting performance standards, our yields may be affected by difficulties in our manufacturing processes. If such an affect occurred, it could increase manufacturing costs, detrimentally affecting margins, or cause a delay in the finishing and shipping of products. Any manufacturing delay could have an adverse effect on our business, the success of any product affected by the delay, and our revenue, and may harm our relationships with our strategic partners.
Recently introduced products that incorporate our technology may not be commercially successful and may not gain market acceptance.
Achieving market acceptance for any products incorporating our technology requires substantial marketing and distribution efforts and expenditure of significant sums of money and allocation of significant resources, either by us, our strategic partners or both. We may not have sufficient resources to do so. Additionally, there can be no assurance that products introduced by our strategic partners, such as the 46 Karat DI presses, or our product offerings such as our Applause or Anthem plates, and Dimension 400, Dimension 800 and Vector TX 52 platesetters, will achieve widespread market acceptance or that any of our other current products or any future products that we may develop or any future products produced by others that incorporate our technologies will achieve market acceptance or become commercially successful. We recently announced the commercial release of our new DI 52 printing press. There can be no assurance that this press, or our other products, will achieve market acceptance. If our new product offerings do not achieve anticipated market acceptance, we may not achieve anticipated revenue.
Recently introduced products that incorporate our technology may result in substantial support costs and warranty expenditures.
Introducing new products carries substantial risk. While we do extensive testing on our new products before introducing them to our customers, no amount of testing can replace or approximate actual field conditions at our customer locations. As a result, when we introduce new products we can incur increased expenditures in ensuring that the new product meets and performs in accordance with its specifications. We cannot, however, always estimate precisely the expected costs that may arise out of new product installations. There can be no assurance that we will not incur increased warranty, support and other costs associated with new product introductions in the future. In addition, the occurrence of these expenditures may have a material adverse effect on our business, results of operations and financial condition.
If the United States and global economies slow down, the demand for our products could decrease and our revenue may be materially adversely affected.
The demand for our products is dependent upon various factors, many of which are beyond our control. For example, general economic conditions affect or delay the overall capital spending by businesses and consumers, particularly for capital equipment such as presses. An economic slowdown in the U.S. and abroad could result in a decrease in spending and spending projections on capital equipment that could impact the demand for our products. If, as a result of general economic uncertainty or otherwise, companies reduce their product spending levels, such a decrease in spending could substantially reduce demand for our products, substantially harm our business, and have a material adverse effect on our business, results of operations and financial condition.
As of December 30, 2006, we identified a material weakness in internal control over financial reporting, and concluded that our disclosure controls were not effective. If we fail to maintain an effective system of internal and disclosure controls, we may not be able to accurately report our financial results or prevent fraud. As a result, investors may be misled and lose confidence in our financial reporting and disclosures, and the price of our common stock may be negatively affected.
The Sarbanes-Oxley Act of 2002 requires that we report annually on the effectiveness of our internal control over financial reporting. Among other things, we must perform systems and process evaluation and testing. We must also conduct an assessment of our internal controls to allow management to report on, and our independent registered public accounting firm to attest to, our assessment of our internal control over financial reporting, as required by Section 404 of the Sarbanes-Oxley Act. A “significant deficiency” means a deficiency in the design or operation of internal control that adversely affects our ability to initiate, authorize, record, process or report external financial data reliably in accordance with generally accepted accounting principles such that there is more than a remote likelihood that a misstatement of the annual or interim financial statements that is more than inconsequential will occur and not be detected. A “material weakness” is a significant deficiency, or a combination of significant deficiencies, that result in more than a remote likelihood that a material misstatement of the annual or interim financial statements will occur and not be detected by management before the financial statements are published.
In connection with the assessment of our internal control over financial reporting for this Annual Report on Form 10-K, as further described in Item 9A, management and our registered public accounting firm determined that as of December 30, 2006 our disclosure controls and procedures were ineffective because of the material weakness in our internal control over financial reporting. In addition, in the future, our continued assessment, or the subsequent assessment by our independent registered public accounting firm, may reveal additional deficiencies in our internal controls and disclosure controls, some of which may require disclosure in future reports.
Although we have made and are continuing to make improvements in our internal controls, if we are unsuccessful in remediating the material weakness impacting our internal control over financial reporting and disclosure controls, or if we discover other deficiencies, it may adversely impact our ability to report accurately and in a timely manner our financial condition and results of operations in the future , which may cause investors to lose confidence in our financial reporting and may negatively affect the price of our common stock. Moreover, effective internal and disclosure controls are necessary to produce accurate, reliable financial reports and to prevent fraud. If we continue to have deficiencies in our internal control over financial reporting and disclosure controls, they may negatively impact our business and operations.
The expansion of Lasertel into areas other than the production of laser diodes for our printing business may be unsuccessful.
Lasertel, which was formed for the purpose of supplying us with laser diodes, has also explored other markets for its laser technology. These efforts to develop other markets were scaled back, in part, in June 2001, as we announced a restructuring of Lasertel in order to reduce its costs and focus its efforts on supplying us with high quality laser diodes. While the plans to market its laser products to the telecommunications industry were delayed, Lasertel has developed laser products for the defense industry and has continued its plans to develop laser prototypes for
qualification in the defense and industrial industries. There can be no assurance that these products or prototypes will gain acceptance in these industries and likewise, there can be no assurance that these products will be commercially successful. Our executive team has limited experience in the telecommunications, defense and industrial industries and there can be no assurance that Lasertel will be able to successfully exploit any opportunities that may arise.
The failure of Lasertel to develop, commercialize or sell its products or future products to various other industries could distract its management’s attention and/or have an adverse impact on its financial condition or results of operations, any of which could materially adversely affect our financial condition. Conversely, any success that Lasertel achieves in developing, commercializing or selling its products or future products to various other
industries could cause delays in manufacturing of the laser diodes that it supplies to us, which could harm our business and could have an adverse effect on our financial condition or results of operations.
Lasertel may require additional working capital infusions from us, which may have a material adverse effect on our business.
Lasertel has required and will continue to require a significant amount of capital investment by Presstek in order to fund its operations. For the fiscal year ended December 30, 2006, Lasertel recorded a net loss from operations of $1.1 million. Lasertel has only had sales to a limited number of third parties to date, and any loss of such customers or significant reduction in their purchases from Lasertel could increase its reliance upon us for capital and resources. Lasertel’s capital and working capital needs may exceed our ability to provide such funds, requiring us to borrow against our credit facilities or seek to obtain outside financing for Lasertel’s operations. This could have a material adverse effect on our business, results of operations and financial condition.
Our success is dependent on our ability to maintain and protect our proprietary rights.
Our future success will depend, in large part, upon our intellectual property rights, including patents, trademarks, trade secrets, proprietary know-how, source codes and continuing technological innovation. We have been issued a number of U.S. and foreign patents and we intend to register for additional patents where we deem appropriate. We also hold seven registered trademarks and we may register additional trademarks where we deem appropriate. There can be no assurance, however, as to the issuance of any additional patents or trademarks or the breadth or degree of protection that our patents, trademarks or other intellectual property may afford us. The steps we have taken to protect our intellectual property may not adequately prevent misappropriation or ensure that others will not develop competitive technologies or products. Further, the laws of certain territories in which our products are or may be developed, manufactured or sold, may not protect our products and intellectual property rights to the same extent as the laws of the United States.
There is rapid technological development in the electronic image reproduction industry, resulting in extensive patent filings and a rapid rate of issuance of new patents. Although we believe that our technology has been independently
developed and that the products we market do not infringe the patents or violate the proprietary rights of others, it is possible that such infringement of existing or future patents or violation of proprietary rights may occur. In this regard, third parties may in the future assert claims against us concerning our existing products or with respect to future products under development by us. In such event, we may be required to modify our product designs or obtain a license. No assurance can be given that we would be able to do so in a timely manner, upon acceptable terms and conditions or even at all. The failure to do any of the foregoing could have a material adverse effect on our business, results of operations and financial condition. Furthermore, we have agreements with several of our strategic partners which require us to indemnify the strategic partner from claims made by third parties against them concerning our intellectual property, and to defend the validity of the patents or otherwise ensure the technology’s availability to the strategic partner. The costs of an indemnification claim under any such agreement could have a material adverse effect on our business.
In March 2005, we filed an action against Creo, Inc. (subsequently acquired by Kodak) in the U.S. District for the District of New Hampshire for patent infringement. In this action, we allege that Creo has manufactured and distributed a product that violates a Presstek U.S. Patent. We are seeking an order from the court holding that Creo
has infringed the patent, permanently enjoining Kodak from infringing, inducing others to infringe or contributing to the infringement of the Patent, and seeking damages from Creo for the infringement.
In September 2003, Presstek filed an action against Fuji Photo Film Corporation, Ltd., in the District Court of Mannheim, Germany for patent infringement. In this action, Presstek alleges that Fuji has manufactured and distributed a product that violates Presstek European Patent 0 644 047 registered under number DE 694 17 129 with the German Patent and Trademark Office. Presstek seeks an order from the court that Fuji refrain from offering the infringing product for sale, from using the infringing material or introducing it for the named purposes, and from possessing such infringing material.
We may take legal action to determine the validity and scope of third party rights or to defend against any allegations of infringement. In the course of pursuing or defending any of these actions we could incur significant costs and diversion of our resources. Due to the competitive nature of our industry, it is unlikely that we could increase our product prices to cover such costs. There can be no assurance that we will have the financial or other resources necessary to successfully defend a patent infringement or proprietary rights violation action. Moreover, we may be unable, for financial or other reasons, to enforce our rights under any patents we may own. As an example of the cost and uncertainty of patent litigation, in August 1999 Creo filed an action in the United States District Court for the District of Delaware against us seeking a declaration that Creo’s products do not and will not infringe any valid and enforceable claims of any of our patents in question. We counterclaimed against Creo for patent infringement of certain of our patents. The matter went to trial in June 2001, and in September 2001, the court affirmed the validity and enforceability of our on-press imaging patents, but held that the current Creo DOP System did not infringe on our patents. Creo appealed the court’s decision that our patents were valid and enforceable, and we cross-appealed the finding of non-infringement by the current Creo DOP System. On September 17, 2002, the United States Court of Appeals for the Federal Circuit affirmed the lower court’s decision that our patents are valid and enforceable, but that they are not infringed by the current Creo DOP System. We incurred higher than expected legal expenses in fiscal 2002 and 2001 due to this litigation. Any similar litigation in the future is expected to be costly, yield uncertain results and could have a material effect on our business, results of operations and financial condition.
We also rely on proprietary know-how and employ various methods to protect the source codes, concepts, trade secrets, ideas and documentation relating to our proprietary software and laser diode technology. However, such methods may not afford complete protection and there can be no assurance that others will not independently develop such know-how or obtain access to our know-how or software codes, concepts, trade secrets, ideas and documentation. Although we have and expect to have confidentiality agreements with our employees and appropriate vendors, there can be no assurance, however, that such arrangements will adequately protect our trade secrets and proprietary know-how.
We use hazardous materials in the production of many of our products at our various manufacturing facilities.
As a manufacturing company, we are subject to environmental, health and safety laws and regulations, including those governing the use of hazardous materials. The cost of compliance with environmental, health and safety regulations is substantial. Our business activities, especially those at our Precision segment, involve the controlled use of hazardous materials and we cannot eliminate the risk or potential liability of accidental contamination, release or injury from these materials. In the event of an accident or environmental discharge, we may be held liable for any resulting damages, which may exceed our financial resources, and our production of plates could be delayed indefinitely, either of which could materially harm our business, financial condition and results of operations.
On October 30, 2006, a chemical was released from a mixing tank into a holding pool at our Precision segment manufacturing plant in Massachusetts, which caused us to temporarily cease digital and analog aluminum plate manufacturing operations at this location. The chemical release was contained on-site, there were no reported injuries, neighboring properties were not damaged and there are no requirements for soil or groundwater remediation. At this time, the cause of the event is undetermined. Digital plate manufacturing was restarted on November 6, 2006. On December 28, 2006, the Audit Committee of the Company’s Board of Directors ratified a plan submitted by management to terminate production in South Hadley, Massachusetts of Precision-branded analog plates used in newspaper applications.
We face substantial competition in the sale of our products.
We compete with manufacturers of conventional presses and products utilizing existing plate-making technology, as well as presses and other products utilizing new technologies, including other types of direct-to-plate solutions such as companies that employ electrophotography as their imaging technology. Canon Inc., Hewlett Packard Company, Kodak and Xerox Corporation are companies that have introduced color electrophotographic copier products. Various companies are marketing product versions manufactured by these companies.
We are also aware that there is a trend in the graphic arts industry to create stand-alone computer-to-plate imaging devices for single and multi-color applications. Most of the major corporations in the graphic arts industry have developed and/or are developing and marketing off press computer-to-plate imaging systems. To date, devices manufactured by our competitors, for the most part, utilize printing plates that require a post imaging photochemical developing step, and in some cases, also require a heating process. Potential competitors in this area include, among others, Agfa Gevaert N.V., Dai Nippon Screen Manufacturing Ltd., Heidelberg and Kodak.
We also anticipate competition from plate manufacturing companies that manufacture printing plates, or have the potential to manufacture digital thermal plates. These companies include Agfa Gevaert N.V., Kodak and Fuji Photo Film Co., Ltd. Heidelberg is marketing a competitive plate product as an alternative to Presstek’s PEARLdry for the Quickmaster DI. The introduction of a competitive plate could reduce the revenue generated by Presstek under its relationship with Heidelberg, and could have a material adverse effect on our business, results of operations and financial condition.
Products incorporating our technologies can also be expected to face competition from conventional methods of printing and creating printing plates. Most of the companies marketing competitive products, or with the potential to do so, are well established, have substantially greater financial, marketing and distribution resources than us and have established reputations for success in the development, sale and service of products. There can be no assurance that we will be able to compete successfully in the future.
While we believe we have strong intellectual property protection covering many of our technologies, there is no assurance that the breadth or degree of such protection will be sufficient to prohibit or otherwise delay the introduction of competitive products or technologies. The introduction of competitive products and technologies may have a material adverse effect on our business, results of operations and financial condition.
We may not be able to adequately respond to changes in technology affecting the printing industry.
Our continuing product development efforts have focused on refining and improving the performance of our PEARL and DI technology and our consumables and we anticipate that we will continue to focus such efforts. The printing and publishing industry has been characterized in recent years by rapid and significant technological changes and frequent new product introductions. Current competitors or new market entrants could introduce new or enhanced products with features, which render our technologies, or products incorporating our technologies, obsolete or less marketable. Our future success will depend, in part, on our ability to:
We must respond to changing technology and industry standards in a timely and cost-effective manner. We may not be successful in effectively using new technologies, developing new products or enhancing our existing products and technology on a timely basis. Our new technologies or enhancements may not achieve market acceptance. Our pursuit of new technologies may require substantial time and expense. We may need to license new technologies to
respond to technological change. These licenses may not be available to us on terms that we can accept. Finally, we may not succeed in adapting our products to new technologies as they emerge.
Ongoing litigation could have an adverse impact on our business.
From time to time in the ordinary course of our business, we may be subject to lawsuits.
On October 26, 2006, we were served with a complaint naming the Company, together with certain of its executive officers, as defendants in a purported securities class action suit filed in the United States District Court for the District of New Hampshire. The suit claims to be brought on behalf of purchases of Presstek’s common stock during the period from July 27, 2006 through September 29, 2006. The complaint alleges, among other things, that the Company and the other defendants violated Sections 10(b) and 20(a) of the Exchange Act and Rule 10b-5 promulgated thereunder. While we believe the allegations are without merit and intend to vigorously defend against them, we cannot assure an outcome that is favorable to us, and an unfavorable outcome in connection with this or a future lawsuit could have a material adverse effect on our business, results of operations and financial condition.
Presstek is party to other litigation that it considers routine and incidental to its business; however, it does not expect the results of any of these actions to have a material adverse effect on its business, results of operation or financial condition.
The loss or unavailability of our key personnel would have a material adverse effect on our business.
Our success is largely dependent on the personal efforts of our senior management team. We have employment agreements with Edward J. Marino, our President and Chief Executive Officer, Jeffrey A. Cook, our Senior Vice President and Chief Financial Officer, and certain other executives. The loss or interruption of the services of any or all of these individuals could have an adverse effect on our business and prospects.
Our success is also be dependent on our ability to hire and retain additional qualified engineering, technical, sales, marketing and other personnel. Competition for qualified personnel in our industry can be intense, and there can be no assurance that we will be able to hire or retain additional qualified personnel.
Our stock price has been and could continue to be extremely volatile.
The market price of our common stock has been subject to significant fluctuations. The securities markets, and the Nasdaq National Market in particular, have experienced, and are likely to experience in the future, significant price and volume fluctuations that could adversely affect the market price of our common stock without regard to our operating performance. In addition, the trading price of our common stock could be subject to significant fluctuations in response to:
These factors may materially and adversely affect our stock price, regardless of our operating performance.
Item 1B. Unresolved Staff Comments
Item 2. Properties
The following table summarizes our significant occupied properties:
Our Hudson, New Hampshire facility, in its capacity as corporate headquarters, is utilized by all of our operating segments.
Our Presstek segment utilizes the facilities in New Hampshire, Massachusetts, Illinois, New York, Pennsylvania, California, Ontario, British Columbia and the United Kingdom.
Our Lasertel segment utilizes the facilities in Arizona.
In addition to the properties referenced above, we also lease a number of small sales and marketing offices in the United States and internationally. At December 30, 2006, we were productively utilizing substantially all of the space in our facilities, with the exception of the Massachusetts facility, of which one of the two buildings is not being fully utilized. This building was subject to a chemical release on October 30, 2006 and has not been fully utilized subsequent to this event. We believe that our existing facilities are adequate for our needs for at least the next twelve months.
All of the properties we own are secured by our five-year, $80.0 million credit facilities.
We believe that our existing facilities are well maintained, in good operating condition and are adequate for our current and expected future operations.
Item 3. Legal Proceedings
On October 26, 2006, the Company was served with a complaint naming the Company, together with certain of its executive officers, as defendants in a purported securities class action suit filed in the United States District Court for the District of New Hampshire. The suit claims to be brought on behalf of purchasers of Presstek’s common stock during the period from July 27, 2006 through September 29, 2006. The complaint alleges, among other things, that the Company and the other defendants violated Sections 10(b) and 20(a) of the Exchange Act and Rule 10b-5 promulgated thereunder based on allegedly false forecasts of fiscal third quarter and annual 2006 revenues. As relief, the plaintiff seeks an unspecified amount of monetary damages, but makes no allegation as to losses incurred by any purported class member other than himself, court costs and attorneys’ fees. The Company believes the allegations are without merit and intends to vigorously defend against them.
In March 2005, we filed an action against Creo, Inc. (subsequently acquired by Kodak) in the U.S. District for the District of New Hampshire for patent infringement. In this action, we allege that Creo has distributed a product that violates a Presstek U.S. Patent. We are seeking an order from the court that Creo refrain from offering the infringing product for sale, from using the infringing material or introducing it for the named purposes, or from possessing such infringing material, and for the payment of damages associated with the infringement.
In September 2003, Presstek filed an action against Fuji Photo Film Corporation, Ltd., in the District Court of Mannheim, Germany for patent infringement. In this action, Presstek alleges that Fuji has manufactured and distributed a product that violates Presstek European Patent 0 644 047 registered under number DE 694 17 129 with the German Patent and Trademark Office. Presstek seeks an order from the court that Fuji refrain from offering the infringing product for sale, from using the infringing material or introducing it for the named purposes, and from possessing such infringing material. A trial was held in November 2004 and March 2005, and we await a final determination from the Courts.
In our Quarterly Report on Form 10-Q filed with the SEC on August 10, 2006, we reported that we had brought an action against the Office of the Treasurer of the State of Illinois. As disclosed in our Quarterly Report on Form 10-Q filed with the SEC on November 9, 2006, as part of our settlement with an unrelated party, we withdrew our legal action against the Illinois State Treasurer’s Office.
Presstek is a party to other litigation that it considers routine and incidental to its business however it does not expect the results of any of these actions to have a material adverse effect on its business, results of operation or financial condition.
Item 4. Submission of Matters to a Vote of Security Holders
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchasers of Equity Securities
Our common stock is quoted on the Nasdaq National Market under the symbol “PRST”. The following table sets forth the high and low bid prices per share of common stock for each full quarterly period within the two most recently completed fiscal years as reported by the Nasdaq National Market.
On April 2, 2007, there were 2,342 holders of record of our common stock. The closing price of our common stock was $6.04 per share on April 2, 2007.
To date, we have not paid any cash dividends on our common stock. Under the terms of our credit facilities, we are prohibited from declaring or distributing dividends to shareholders. The payment of cash dividends in the future is within the discretion of our Board of Directors, and will depend upon our earnings, capital requirements, financial condition and other relevant factors, including the current prohibition on such dividends described above. The Board of Directors does not intend to declare any cash dividends in the foreseeable future, but instead intends to retain all earnings, if any, for use in our business operations.
The Stock Performance Graph set forth below compares the cumulative total return on the Company’s Common Stock from December 28, 2001 through December 30, 2006, with the cumulative total return for the Nasdaq Stock Market Index and the SIC Code Printing Trades Machinery and Equipment Index which consists of the returns of Baldwin Technology (AMEX: BLD) and Delphax Technologies, Inc. (Nasdaq: DLPX). The comparison assumes that $100 was invested on December 28, 2001 in the Company’s Common Stock, the Nasdaq Stock Market Index and the stock of the SIC Code Printing Trades Machinery and Equipment Index and assumes the reinvestment of all dividends, if any.
Item 6. Selected Financial Data
The selected consolidated financial data set forth below should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included as Part II Item 7 of this Annual Report on Form 10-K and our consolidated financial statements and notes thereto included in Part II Item 8 of this Annual Report on Form 10-K. On December 28, 2006, the Audit Committee of the Company’s Board of Directors ratified a plan submitted by management to terminate production in South Hadley, Massachusetts of Precision-branded analog plates used in newspaper applications. The results of operations for the years ended December 31, 2005 and January 1, 2005 have been restated to reflect the analog newspaper business as discontinued operations for all periods presented. The historical results provided below are not necessarily indicative of future results.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following Management’s Discussion and Analysis should be read in connection with “Item 1. Business”, “Item 1A. Risk Factors”, “Item 6. Selected Financial Data”, “Item 7A. Quantitative and Qualitative Disclosures about Market Risks” and the Company’s Consolidated Financial Statements and Notes thereto included in this Annual Report on Form 10-K.
We are a market-focused company primarily engaged in the design, manufacture, sales and service of high-technology digital imaging solutions to the graphic arts industry worldwide. We are helping to lead the industry’s transformation from analog print production methods to digital imaging technology. We are a leader in the development of advanced printing systems using digital imaging equipment and consumables-based solutions that economically benefit the user through a streamlined workflow and chemistry free, environmentally responsible operation. We are also a leading sales and service channel in the small to mid-sized commercial, quick and in-plant printing markets offering a wide range of solutions to over 20,000 customers worldwide.
Presstek’s business model is a capital equipment and consumables (razor and blade) model. In this model, approximately 63% of our revenue is recurring revenue. Our model is designed so that each placement of either a Direct Imaging Press or a Computer to Plate system results in recurring aftermarket revenue for consumables and service.
Through our various operations, we:
We have developed a proprietary system by which digital images are transferred onto printing plates for Direct Imaging on-press applications and for computer-to-plate applications. We refer to Direct Imaging as DI and computer-to-plate as CTP. Our digital imaging systems enable customers to produce high-quality, full color lithographic printed materials more quickly and cost effectively than conventional methods that employ more complicated workflows and toxic chemical processing. This results in reduced printing cycle time and lowers the effective cost of production for commercial printers. Our solutions make it more cost effective for printers to meet the increasing demand for shorter print runs, higher quality color and faster turn-around times.
Our ground breaking DI technology is marketed to leading press manufacturers. Our Presstek business segment supplies these manufacturers with imaging kits complete with optical assemblies and software which are integrated into the manufacturers’ presses. The result is a DI press, which is designed to image our printing plates. Similar digital imaging technologies are used in our CTP systems. Our Presstek business segment designs and manufactures CTP systems that incorporate our imaging technology and image our chemistry free printing plates.
In addition to marketing, selling and servicing our proprietary digital products, we also market, sell and service
traditional, or analog products for the commercial print market. This analog equipment is manufactured by third party strategic partners and analog consumables are manufactured by either us or our strategic partners. The addition of these non-proprietary products and our ability to directly sell and service them is made possible by acquisitions we completed in 2004: ABDick and Precision.
On November 5, 2004, we, through our wholly-owned subsidiary, ABD International, Inc. completed the acquisition of certain assets and assumed certain liabilities of the The A.B. Dick Company, which we acquired through a Section 363 sale in the United States Bankruptcy Court. We refer to the business that we acquired as the ABDick business. The business we acquired manufactures, markets and services offset systems, CTP systems and related supplies for the graphics arts and printing industries. In 2005, we substantially completed the integration of the operations of the ABDick business into Presstek.
On July 30, 2004, we acquired all the stock of Precision Lithograining Corporation, an independent plate manufacturer located in South Hadley, Massachusetts, which we refer to as Precision. Precision manufactures our Anthem and Freedom digital printing plates and prior to December 28, 2006, the date on which the company discontinued operations related to Precision’s newspaper analog business, it provided conventional analog printing plates for web and sheet-fed applications to external customers.
Lasertel, Inc., a subsidiary of Presstek, is primarily engaged in the manufacture and development of high-powered laser diodes for Presstek and for sale to external customers. Lasertel’s products include semiconductor lasers and active components for the graphics, defense, industrial, and medical industries. Lasertel offers high-powered laser diodes in both standard and customized configurations, including chip on sub-mount, un-mounted bars, and fiber-coupled devices, to support various applications.
Our operations are organized based on the market application of our products and related services and consist of two reportable segments: Presstek and Lasertel. The Presstek segment is primarily engaged in the development, manufacture, sale and servicing of our patented digital imaging systems and patented printing plate technologies as well as traditional, analog systems and related equipment and supplies for the graphic arts and printing industries, primarily the short-run, full-color market segment. The Lasertel segment manufactures and develops high-powered laser diodes for Presstek and for sale to external customers.
We generate revenue through four main sources: (i) the sale of our equipment, including DI presses and CTP devices, as well as imaging kits, which are incorporated by leading press manufacturers into direct imaging presses for the graphic arts industry; (ii) the sale of high-powered laser diodes for the graphic arts, defense and industrial sectors; (iii) the sale of our proprietary and non-proprietary consumables and supplies; and (iv) the servicing of offset printing systems and analog and CTP systems and related equipment.
Our business strategy is centered on maximizing the sale of consumable products, such as printing plates, and therefore our business efforts focus on the sale of “consumable burning engines” such as our DI presses and CTP devices. Our strategy to grow our consumables has two parts. The first part is to increase the number of our DI and CTP units in the field. By increasing the number of consumable burning engines we expect to increase the demand for our consumables.
We rely on partnerships with press manufacturers such as Ryobi Limited, Heidelberger Druckmaschinen AG, or Heidelberg, and Koenig & Bower AG, or KBA, to market printing presses and press solutions that use our proprietary consumables. We also rely on distribution partners, such as Eastman Kodak to sell, distribute and service press systems and the related proprietary consumable products.
Another method of growing the market for consumables is to develop consumables that can be imaged by non-Presstek devices. In addition to expanding our base of our consumable burning engines, an element of our focus is to reach beyond our proprietary systems and penetrate the installed base of CTP devices in all market segments with our chemistry free and process-free offerings. The first step in executing this strategy was the launch of our non-proprietary Aurora chemistry-free printing plate designed to be used with consumable burning engines manufactured by thermal CTP market leaders Screen and Kodak. We continue to work with other CTP
manufacturers to qualify our consumables on their systems. We believe this shift in strategy fundamentally enhances our ability to expand and control our business.
We operate and report on a 52- or 53-week, fiscal year ending on the Saturday closest to December 31. Accordingly, the consolidated financial statements include the financial reports for the 52-week fiscal year ended December 30, 2006, which we refer to as “fiscal 2006”, the 52-week fiscal year ended December 31, 2005, which we refer to as “fiscal 2005”, and the 52-week fiscal year ended January 1, 2005, which we refer to as “fiscal 2004”.
We intend the discussion of our financial condition and results of operations that follows to provide information that will assist in understanding our consolidated financial statements, the changes in certain key items in those financial statements from year to year, and the primary factors that accounted for those changes, as well as how certain accounting principles, policies and estimates affect our consolidated financial statements.
The discussion of results of operations at the consolidated level is presented together with results of operations by business segment.
RESULTS OF OPERATIONS
Results of operations in dollars and as a percentage of revenue were as follows (in thousands of dollars):
1 - Operating results related to the Precision analog newspaper business have been reclassified to discontinued operations for all periods presented. See Note 3 of Notes to Consolidated Financial Statements.
Fiscal 2006 Compared to Fiscal 2005
Consolidated revenues were $265.7 million in fiscal 2006, an increase of $6.6 million, or 2.5%, from $259.1 million in fiscal 2005. Equipment revenues increased $13.7 million over fiscal 2005 resulting from strong DI unit sales, including the introduction of the new 52DI press. Partially offsetting increases in equipment revenue was a decline in both consumables and service revenues ($3.6 million each) driven principally from a continuing slowdown in analog sales. Consistent with our strategy of migrating our customer base to digital solutions, digital product sales improved from $143.4 million in 2005 to $170.5 million in 2006, an increase of 18.9% year over year. As a percentage of total product revenues, sales of digital solutions increased from approximately 68% in 2005 to approximately 77% in 2006.
Equipment revenues were $97.6 million in 2006 compared to $83.9 million in 2005, an increase of $13.7 million, or 16.4%. Growth in equipment revenues was due primarily to a 72.8% increase in the number of DI presses sold in fiscal 2006 compared to fiscal 2005, driven largely by growth in our 34DI product sales and the introduction of the new 52DI press. Total DI equipment sales were strong in both the North American and European markets during 2006, as revenues improved by $12.2 million, or 46.7%, and $12.3 million, or 220.0%, respectively. Fiscal 2006 equipment revenues were also favorably impacted by the launch of a new generation CTP system, the Vector TX52, in the fourth quarter of 2005. The Vector TX52 accounted for $4.1 million of revenue in fiscal 2006, an increase of $2.0 million, or 96.0%, compared to fiscal 2005. Offsetting these items were lower DPM and Dimension sales, which declined by $3.7 million, or 51.5%, and $3.4 million, or 25.8%, respectively. Sales of these units were impacted by competitive pressures, as well as quality issues on both equipment units and related consumable plates (AnthemPro). Analog equipment revenues also declined from $22.7 million in 2005 to $14.0 million in 2006. This decline reflects the transition of our customer base from analog to digital solutions, however, we do anticipate that sales of analog solutions will level off and stabilize as a percentage of our total revenue in the near term. Overall, digital equipment sales in the Presstek segment increased 34.8% from $57.0 million in 2005 to $76.8 million in 2006. On a consolidated basis, digital sales as a percentage of total equipment revenues in 2006 accounted for 85.6% of sales compared to 72.5% in 2005.
Revenue for the Lasertel segment of $11.5 million in 2006 represented a year over year increase of 47.8%, or $3.7 million, due primarily to the addition of two new customers, as well as higher sales to the Presstek segment.
Revenues generated from consumables sales decreased 3.0% year over year, from $126.8 million in 2005 to $123.1 million in 2006. The decrease in sales was primarily attributable to the anticipated slowdown in the analog market resulting from the continued migration of our customer base from analog to digital solutions. Total analog consumables sales declined from $44.5 million in 2005 to $36.1 million in 2006, a decrease of 18.9%. Partially offsetting this decline were improved sales of digital products, which increased from $82.4 million in 2005 to $87.0 million in 2006. This increase was primarily due to increased placements of DI and CTP equipment and strengthening relationships with OEM partners. These increases were partially offset by declines in older technology digital lines such as DPM consumables. Overall, digital sales of consumables products increased $4.6 million year over year, or 5.6%, from $82.4 million in fiscal 2005 to $87.0 million in fiscal 2006. As a percentage of total consumables revenues, digital sales accounted for 70.6% of sales in 2006 compared to 65.0% in 2005.
Service and parts revenues were $45.0 million in 2006, a decrease of $3.5 million, or 7.3%, compared to $48.5 million in 2005. The decrease in revenue was due primarily to the elimination of certain legacy service contracts, as well as a reduction in billable service and analog parts sales as our customer base continues to migrate to digital solutions.
Cost of Revenue
Consolidated cost of product, consisting of costs of material, labor and overhead, shipping and handling costs and warranty expenses, was $154.2 million in fiscal 2006, an increase of $10.3 million, or 7.2%, compared to fiscal 2005. This increase was primarily the result of increased product revenues year over year. In addition, Presstek recorded $0.6 million of incremental warranty costs related to the Vector TX52 and AnthemPro plate quality issues experienced during 2006.
Consolidated cost of service and parts revenues was $32.5 million in fiscal 2006, slightly lower than the $32.9 million reported in 2005. These amounts represent the costs of spare parts, labor and overhead associated with the ongoing service of products. Costs in 2006 were impacted by higher fuel expenses, as well as increased technology costs related to an upgrade of the communications and logistics capabilities of our service technicians and engineers. These costs were offset by the termination of 47 service personnel in North America and the use of independent service contractors during the second half of 2006, the result of a restructuring plan intended to realign our service costs with a declining analog revenue base.
Consolidated gross margin as a percentage of total revenue was 29.7% in 2006 compared to 31.8% in 2005. Gross margin as a percentage of product revenue was 30.1% compared to 31.7% in 2005. The product gross margin decrease reflects a heavier mix of equipment revenues as a percentage of total sales, which historically carry significantly lower margins than Presstek’s consumables line of products, increased warranty costs related to quality issues experienced with our Vector TX52 and AnthemPro plates, partially offset by improved margins in our Lasertel segment.
Gross margin as a percentage of service and parts revenues decreased from 32.3% in 2005 to 27.8% in 2006. The decrease in margin percentage is principally due to a decline in the analog contract revenue base, which despite restructuring action taken to realign fixed service delivery costs in the second half of 2006, negatively impacted margins. We are currently working to transition our legacy analog service contracts to a time and materials model which, in the short-term, due to fixed price arrangements on these contracts, has exerted additional downward pressure on our service margins.
Research and Development
Research and development expenses primarily consist of payroll and related expenses for personnel, parts and supplies, and contracted services required to conduct our equipment, consumables and laser diode development efforts.
Consolidated research and development expenses were $6.4 million in fiscal 2006 compared to $7.3 million in fiscal 2005. The decrease is principally attributable to efficiencies realized from the integration of the acquired ABDick business into the company during the fourth quarter of 2005.
Research and development expenses for the Presstek segment were $5.3 million in 2006, a decrease of $1.1 million compared to 2005. This decrease is primarily attributable to efficiencies realized from the integration of the ABDick business into this segment.
Research and development expenses for the Lasertel segment were $1.1 million in 2006 compared to $0.9 million in 2005. The increase reflects increased development costs associated with specialized new products for third party foreign customers.
Sales, Marketing and Customer Support
Sales, marketing and customer support expenses primarily consist of payroll and related expenses for personnel, advertising, trade shows, promotional expenses, and travel costs associated with sales, marketing and customer support activities.
To improve operations, we took steps in both fiscal 2005 and 2006 to strengthen capacity and capability within the sales, marketing and customer support area through reorganization, training in advanced technology products and services, and changes in key personnel. We also eliminated costs, primarily for customer support and marketing personnel by integrating U.S. marketing and customer support operations within the Presstek segment. As we continue to pursue initiatives designed to drive penetration of Presstek technology in the marketplace, we expect expenses in this area to increase in absolute dollars in future periods.
Consolidated sales, marketing and customer support expenses of $40.0 million in fiscal 2006 were relatively unchanged from expenses of $40.2 million in fiscal 2005.
Sales, marketing and customer support expenses for the Presstek segment were $39.5 million and $39.9 million in 2006 and 2005, respectively.
Sales, marketing and customer support expenses for the Lasertel segment increased from $0.3 million in 2005 to $0.5 million in 2006.
General and Administrative
Consolidated general and administrative expenses, primarily comprised of payroll and related expenses for personnel, and contracted professional services necessary to conduct our finance, information systems, human resources and administrative activities, were $19.9 million in 2006 compared to $21.0 million in 2005. This decrease is primarily attributable to cost savings realized by the integration of the ABDick U.S. operations into Presstek. As a percentage of total sales, consolidated general and administrative expenses declined from 8.1% in 2005 to 7.5% in 2006. We anticipate that general and administrative expenses will continue to decrease as a percentage of revenue in future periods, as our strategy is to position the growth of general and administrative expenses at lower rates than the growth of revenue and as the impact of integration actions is fully realized.
General and administrative expenses for the Presstek segment were $18.9 million in fiscal 2006, compared to $20.1 million in fiscal 2005. The decrease in expense is primarily attributable to the elimination of redundant costs resulting from the integration of the ABDick U.S. operations into the segment.
General and administrative expenses for the Lasertel segment increased $0.3 million to $1.1 million in fiscal 2006 from $0.8 million in fiscal 2005. This increase was due primarily to a change in allowance for doubtful accounts arising from certain customer accounts.
Amortization of Intangible Assets
Intangible asset amortization expense increased from $2.6 million in 2005 to $3.0 million in 2006. Amortization relates to intangible assets recorded in connection with the Company’s 2004 ABDick and Precision acquisitions, patents and other purchased intangible assets.
Restructuring and Other Charges (Credits)
In fiscal 2006, the Company recognized restructuring and other charges of $5.5 million. These charges included $2.3 million related to impairment of intangible assets associated with patent defense costs on the Creo litigation matter, $2.8 million related to impairment of goodwill resulting from SFAS 144 valuation adjustments of long lived assets at Precision as a result of the decision to discontinue its newspaper analog business, $0.5 million for merger-related costs primarily related to additional professional fees, and $0.3 million related to the impairment of other assets. In addition, approximately $0.4 million of previously established accruals at the Presstek segment were recognized in income in fiscal 2006 due principally to changes in the scope of previously announced severance programs.
In fiscal 2005, we recognized $0.9 million of restructuring and other charges related to Precision and ABDick. These charges included severance and fringe benefit costs, executive and other contractual obligations, and a settlement with previously terminated employees.
Interest and Other Income (Expense), Net
Net interest expense was $2.2 million in fiscal 2006 compared to $2.3 million in fiscal 2005. The decrease in the current year period is attributable to lower outstanding long-term debt resulting from the repayments of principal.
On September 7, 2006, an agreement related to the ABDick acquisition under which we were reimbursed $1.2 million was approved by the United States Bankruptcy Court for the District of Delaware. The net amount, after reductions for legal fees and additional adjustments for settlement of various assets and liabilities related to this action, totaled $0.3 million, and is included as a component of Interest and other income (expense), net, in our Consolidated Statements of Operations for the year ended December 30, 2006. The balance of other income (expense), net relates to gains or losses on foreign currency transactions for all periods presented.
Provision (Benefit) for Income Taxes
Our effective tax rate was (448.3%) in fiscal 2006 and 14.4% in fiscal 2005. The variance from the federal statutory rate for fiscal 2006 was primarily due to the reversal of valuation allowance provided against our net deferred tax assets in the U.S.
The variance from the federal statutory rate for fiscal 2005 was primarily due to the utilization of net operating losses previously offset by a valuation allowance, foreign taxes, and alternative minimum taxes.
In fiscal 2006, in accordance with Statement of Financial Accounting Standards No. 109,“Accounting for Income Taxes”, (“FAS 109”), the Company recognized through its tax provision a $11.2 million deferred tax benefit from the reversal of the previously recorded valuation allowance established on its U.S. federal, state and local deferred tax assets, except for that portion where the evidence does not yet support a reversal. To support the determination that is more likely than not that the Company’s deferred tax assets will be realized in the future, FAS 109 requires that the Company consider all available positive and negative evidence. Based on a detailed analysis conducted during fiscal 2006, the Company concluded that evidence exists to support the U.S. valuation allowance reversal as of December 30, 2006.
During 2007, we expect our income tax provision to reflect statutory federal and state tax rates.
Fiscal 2005 Compared to Fiscal 2004
Consolidated revenues were $259.1 million in fiscal 2005, an increase of $137.6 million, or 113.4%, from $121.5 million of consolidated revenues in fiscal 2004. Revenue growth in fiscal 2005 reflects the impact of our acquisition strategy launched in 2004 with the Precision and ABDick acquisitions and our success in integrating these operations into our business in 2005. We grew our digital technology base significantly in fiscal 2005, with digital product revenues increasing from $98.6 million in fiscal 2004 to $143.4 million in fiscal 2005, an increase of 45.4%.
Product equipment revenues, including royalties, were $83.9 million in fiscal 2005, an increase of $42.0 million, or 100.4%, from fiscal 2004. The fiscal 2005 increase is primarily attributable to the ABDick acquisition, which business’s direct sales channel favorably impacted our installed base of DI and CTP presses, referred to as consumable burning engines, or CBEs, sold in the current period. We increased digital equipment sales by approximately 300 units, or $23.1 million, in fiscal 2005.
Revenues generated from consumable product sales were $126.8 million in fiscal 2005, an increase of $60.2 million, or 90.5%, from the prior fiscal year. The increase is attributable primarily to incremental revenues associated with the Precision and ABDick acquisitions.
Service and parts revenues were $48.5 million in fiscal 2005, an increase of $35.5 million, or 271.4%, from the prior fiscal year. The increase is attributable primarily to incremental revenue derived from the ABDick acquisition.
The following business segment revenue information includes intersegment revenues for the Lasertel segment. Intersegment revenues are eliminated in consolidation.
Revenue for the Presstek segment was $255.4 million in fiscal 2005, an increase of $136.8 million, or 115.3%, compared to $118.6 million in fiscal 2004. This revenue increase is primarily attributable to the incremental sales generated from the acquisition of the ABDick business and the introduction of Presstek technology products into those new distribution channels. Equipment, consumables and service/parts revenues increased by $41.2 million, $60.2 million and $35.4 million, respectively.
Digital product revenues in the Presstek segment increased 45.8% from $95.8 million in fiscal 2004 to $139.6 million in fiscal 2005. A primary factor in the increase in digital revenues in fiscal 2005 was an 84% increase in sales of CBEs. Product equipment revenue was also favorably impacted by the direct sales channel acquired in the ABDick acquisition and the launch of the Vector TX52, a new generation of CTP system, into U.S. and European markets, which contributed $1.2 million in incremental revenue in fiscal 2005.
In fiscal 2005, we experienced organic growth in several consumable digital product lines, including Profire Digital Media plates, which increased $1.9 million, or 414% year over year. In addition, we entered into several strategic consumable relationships, including those with Heidleberg naming the Quickmaster DI as a preferred plate and Screen USA to market consumable plate products in non-Presstek proprietary CTP systems.
In fiscal 2005, we brought back to Presstek the previously outsourced service of our digital equipment and introduced DI training to service engineers and customer support to drive digital service growth. Our digital service contract mix increased from 18% to 24% in fiscal 2005.
Revenue for the Lasertel segment was $7.8 million in both fiscal 2005 and fiscal 2004. Revenue earned from external customers increased $0.9 million, from $2.9 million in fiscal 2004 to $3.8 million in fiscal 2005, primarily due to the addition of two significant new customers in the defense and industrial fields.
Cost of Revenue
Consolidated Cost of Revenue
Consolidated cost of product, consisting of costs of material, labor and overhead, shipping and handling costs and warranty expenses, was $144.0 million in fiscal 2005, an increase of $74.9 million, or 108.5%, from $69.0 million in fiscal 2004. The increase is primarily attributable to additional cost of product associated with the Precision and ABDick businesses acquisitions and higher revenues in fiscal 2005.
Consolidated cost of service and parts was $32.9 million in fiscal 2005 and $9.1 million in fiscal 2004. These amounts represent the costs of spare parts, labor and overhead associated with the ongoing service of products. These increases are attributable primarily to the addition of the ABDick business in November 2004.
Segment Cost of Revenue
Cost of revenue for the Presstek segment was $170.5 million in fiscal 2005, an increase of $98.5 million, compared to $72.0 million in fiscal 2004. The increase relates primarily to the addition of ABDick and higher production costs driven by increased equipment, consumable and parts sales.
Cost of revenue for the Lasertel segment was $9.1 million in fiscal 2005, compared to $9.5 million in fiscal 2004. The decrease in fiscal 2005 relates to production efficiency gains, yield improvements, and, to a lesser extent, a change in the lives of certain machinery and equipment from five to seven years, resulting in a reduction of depreciation costs of $0.4 million in both the fourth quarter and fiscal 2005. This change in estimate positively impacted net income by $0.3 million and earnings per share on both a basic and diluted basis by $0.01 in both the fiscal 2005 fourth quarter and year.
Consolidated Gross Margin
Consolidated gross margin as a percentage of total revenue was 31.8% in fiscal 2005, compared to 35.6% in fiscal 2004. Gross margin as a percentage of product revenue was 31.7% in fiscal 2005, compared to 36.3% in fiscal 2004. The product gross margin percentage decrease in fiscal 2005 is primarily the result of the addition of the Precision and ABDick businesses, together with a higher mix of equipment revenues, which historically carry lower gross margins than Presstek’s core business.
Gross margin as a percentage of service and parts revenue was 32.3% and 30.1% in fiscal 2005 and 2004, respectively. The service and parts gross margin percentage increase in fiscal 2005 is attributable to integration savings resulting from consolidating operations and a shift from an outsourced service provider to internal services.
Research and Development
Research and development expenses primarily consist of payroll and related expenses for personnel, parts and supplies, and contracted services required to conduct our equipment, consumables and laser diode development efforts. Our research and development team also contribute to the development, presentation, and launch of new technology products at key industry shows in the U.S. and Europe.
Consolidated research and development expenses were $7.3 million in fiscal 2005, an increase of $0.8 million, or 13.5%, from $6.5 million in fiscal 2004. The increase is attributable to additional costs associated with the Precision and ABDick business acquisitions, partially offset by development supplies costs incurred in fiscal 2004 in preparation for the Drupa trade show that were not incurred in 2005. As a percentage of revenue, research and development expenses declined from 5.3% to 2.8% in fiscal 2005.
Research and development expenses for the Presstek segment were $6.4 million in fiscal 2005, an increase of $0.5 million, or 9.3%, compared to $5.9 million in fiscal 2004. This increase is due to increased salary and benefits costs, partially offset by $0.6 million of development parts and supply costs incurred in fiscal 2004 in preparation for the Drupa trade show that were not incurred in fiscal 2005.
Research and development expenses for the Lasertel segment were $0.9 million in fiscal 2005, an increase of $0.3 million, compared to $0.6 million in fiscal 2004. This increase relates primarily to increased salary and benefits costs from additional development personnel associated with new product activities, combined with increased development parts and supplies expenses.
Sales, Marketing and Customer Support
Sales, marketing and customer support expenses primarily consist of payroll and related expenses for personnel, advertising, trade shows, promotional expenses, and travel costs associated with sales, marketing and customer support activities.
Consolidated sales, marketing and customer support expenses were $40.2 million in fiscal 2005, an increase of $22.6 million, or 129.0%, from $17.6 million in fiscal 2004. The increases are primarily attributable to the Precision and ABDick acquisitions, partially offset by operating costs of $0.4 million incurred in fiscal 2004 in preparation for the Drupa trade show that were not incurred in 2005.
Sales, marketing and customer support expenses for the Presstek segment were $39.8 million in fiscal 2005, an increase of $22.7 million, compared to $17.1 million in fiscal 2004. The increase in fiscal 2005 is attributable to the ABDick acquisition, partially offset by operating costs of $0.4 million incurred in fiscal 2004 in preparation for the Drupa trade show that were not incurred in 2005.
Sales and marketing expenses for the Lasertel segment were $0.4 million in both fiscal 2005 and fiscal 2004. These costs reflect a continuing drive to enhance external revenues from customers in the defense and industrial fields.
General and Administrative
Consolidated general and administrative expenses, primarily comprised of payroll and related expenses for personnel, and contracted professional services necessary to conduct our finance, information systems, human resources and administrative activities, were $21.0 million in fiscal 2005, an increase of $8.6 million, or 69.1%, compared to $12.4 million in fiscal 2004. The increase is primarily attributable to the acquisitions of ABDick and Precision, combined with salaries, benefits, professional fees and integration costs incurred by the Presstek segment.
General and administrative expenses were 8.1% of total revenue in fiscal 2005 compared to 10.2% in fiscal 2004. The decrease in fiscal 2005 reflects integration savings associated with the consolidation of operations of both Precision and ABDick, as well as overall revenue growth of 113.4% in the period due to such acquisitions.
General and administrative expenses for the Presstek segment were $20.1 million in fiscal 2005, an increase of $8.6 million, or 75.2%, compared to $11.5 million in fiscal 2004. This increase is primarily attributable to additional general and administrative costs associated with the ABDick acquisition, coupled with higher salary and benefit costs and increased fees for professional services.
General and administrative expenses for the Lasertel segment were $0.8 million in fiscal 2005 and $0.9 million in fiscal 2004.
Amortization of Intangible Assets
Amortization expense of $2.6 million and $1.3 million in fiscal 2005 and fiscal 2004, respectively, relates to intangible assets recorded in connection with the Company’s 2004 ABDick and Precision acquisitions, patents and other purchased intangible assets.
Restructuring and Other Charges/Credits
In fiscal 2005, we charged $0.9 million of restructuring and other charges related to Precision and ABDick to results of operations. These charges consisted of severance and fringe benefit costs, executive and other contractual obligations, and a settlement with previously terminated employees. In fiscal 2005, we also incurred net costs of $1.5 million associated with the integration of ABDick into Presstek. These costs were recorded as an adjustment to the purchase price of the acquisition.
In fiscal 2004, we reversed $0.4 million of excess restructuring charges related to estimated severance and fringe benefits accrued in fiscal 2003 and 2002 as a result of lower actual fringe benefit costs.
Interest and Other Income/Expense, Net
Interest expense was $2.5 million in fiscal 2005, an increase of $1.6 million from $0.9 million in fiscal 2004. The increase in interest expense is primarily attributable to higher average debt balances related to financing the two
acquisitions completed in 2004 and higher interest rates on borrowings. Effective August 31, 2005, we amended our debt facilities to reduce the current applicable LIBOR Margin to 2.5%, from the previous Applicable LIBOR Margin of 3.5%.
We recorded interest income of $0.1 million and $0.3 million in fiscal 2005 and fiscal 2004, respectively. The decrease in fiscal 2005 is principally a result of decreased cash balances available for investment.
The primary components of other income (expense), net, are gains or losses on foreign currency transactions and disposals of long-lived assets. In fiscal 2005 and fiscal 2004, we recorded losses on foreign currency transactions of $3,000 and $133,000, respectively. We recognized losses on the disposals of long-lived assets totaling $153,000 and $24,000 in fiscal 2005 and fiscal 2004, respectively.
Provision for Income Taxes
Our effective tax rate was 14.4% in fiscal 2005 and 3.3% in fiscal 2004. The variance from the federal statutory rate for fiscal 2005 was primarily due to the recognition of a non-cash deferred tax liability for goodwill, foreign taxes, and alternative minimum taxes.
In fiscal 2004, our effective tax rate differed from the federal statutory rate primarily due to state, foreign and alternative minimum tax, offset by changes in the valuation allowance.
At December 31, 2005, we had net deferred tax assets of approximately $36.0 million which were subject to consideration of a valuation allowance. A full valuation allowance was provided against the net deferred tax assets in the U.S. due to the uncertainty of their realization.
The Company accounts for its discontinued operations under the provisions of SFAS No. 144, Accounting for Impairment or Disposal of Long-Lived Assets, (SFAS 144). Accordingly, results of operations and the related charges for discontinued operations have been classified as “Loss from discontinued operations, net of income taxes” in the accompanying Consolidated Statements of Income. Assets and liabilities of discontinued operations have been reclassified and reflected on the accompanying Consolidated Balance Sheets as “Assets of discontinued operations” and “Liabilities of discontinued operations”. For comparative purposes, all prior periods presented have been classified on a consistent basis.
Precision Lithograining Corp. - Analog Newspaper Business
On December 28, 2006, the Audit Committee of the Company’s Board of Directors ratified a plan submitted by management to terminate production in South Hadley, Massachusetts of Precision-branded analog plates used in newspaper applications.
Results of operations of the discontinued analog newspaper business of Precision consist of the following (in thousands, except per-share data):
As of December 30, 2006, and in accordance with SFAS 144 and SFAS 142, the Company reviewed the potential impairment of long-lived assets associated with the analog newspaper business and goodwill of the Precision reporting unit and determined that impairment charges aggregating $4.0 million were required. Of this amount $2.8 million relates to the impairment of goodwill, $0.3 million relates to the acceleration of depreciation on fixed assets abandoned, $0.6 million relates to the acceleration of amortization on certain intangible assets and $0.3 million relates to the adjustment of inventory on hand to the lower of cost or market. Impairment charges of the reporting unit goodwill resulting from the abandonment of the analog newspaper business are reflected within restructuring and other charges (credits) of continuing operations, and the remaining charges included in the loss from discontinued operations for fiscal 2006.
Liquidity and Capital Resources
We finance our operating and capital investment requirements primarily through cash flows from operations and borrowings. At December 30, 2006, we had $9.4 million of cash and $47.5 million of working capital, compared to $5.6 million of cash and $41.4 million of working capital at December 31, 2005.
Our operating activities provided $12.8 million of cash in fiscal 2006. Cash provided by operating activities came from net income, after adjustments for non-cash depreciation, amortization, restructuring and merger-related expenses, provisions for warranty costs and accounts receivable allowances, stock compensation expense, deferred income taxes, and losses on the disposal of assets. Cash provided by operating activities were further benefited from a decrease in inventory levels of $2.2 million and an increase of $9.2 million in accounts payable. The decrease in inventory levels reflects our continued focus on inventory management. Accounts payable increases primarily relate to the timing of purchases and payments to suppliers. These amounts were partially offset by an increase of $10.9 million in accounts receivable, a decrease of $6.5 million in accrued expenses, an increase of $1.4 million of other current assets, and a decrease in deferred revenue of $0.7 million. Accounts receivable increases at December 30, 2006 are primarily attributable to increased revenue activity in the third month of the fourth quarter, timing of funding for equipment sold under third party and in-house leasing arrangements, and increased dealer sales in Europe which carry longer terms. Days sales outstanding were 62 at December 30, 2006 and 53 at December 31, 2005. The decrease in accrued expense relates to payments of, and adjustments to, previously accrued payroll-related costs, and adjustments to restructuring and related accruals. The decrease in deferred revenue relates to a reduction in service contracts resulting from the continuing erosion of our analog customer base.
We used $7.7 million of net cash for investing activities during 2006, comprised of $4.0 million of additions to property, plant and equipment, $2.8 million of investments in patents and other intangible assets and $0.8 million of transaction and accrued integration costs paid related to the acquisition of the ABDick business. Our additions to property, plant and equipment primarily relate to production equipment and investments in our infrastructure, including costs related to the implementation of a new service management system.
Our financing activities generated $4.1 million of net cash, comprised of $2.1 million of cash received from the exercise of stock options and purchase of common stock under our employee stock purchase program and $9.0 million of net borrowings under our current line of credit. These amounts were offset by payments on our current term loan and capital lease aggregating $7.0 million.
Operating activities of discontinued operations used $4.5 million in cash in fiscal 2006. Cash used by operating activities reflect a net loss of $2.1 million, after adjustments for non-cash depreciation, amortization, provisions for warranty and accounts receivable allowances, and losses on disposal of assets. Cash used by operating activities also included an increase of $1.0 million in accounts payable and $1.4 million in accrued expenses related to facility closure and other response actions.
In fiscal 2006, investing activities of discontinued operations of $.4 million relate to capital expenditures associated with discontinued operations.
Our current senior secured credit facilities, referred to as the Facilities, include a $35.0 million five year secured term loan, referred to as the Term Loan, and a $45.0 million five year secured revolving line of credit, referred to as the Revolver, which replaced our then-existing term loan and revolver entered into in October 2003. At December 30, 2006, we had $12.3 million outstanding under letters of credit, thereby reducing the amount available under the Revolver to $17.7 million. At December 30, 2006 and December 31, 2005, the interest rates on the outstanding balance of the Revolver were 7.1% and 6.9%, respectively. Principal payments on the Term Loan are made in consecutive quarterly installments of $1.75 million, with a final settlement of all remaining principal and unpaid interest on November 4, 2009. The Facilities were used to partially finance the acquisition of the business of ABDick, and are available for working capital requirements, capital expenditures, acquisitions, and general corporate purposes. Borrowings under the Facilities bear interest at either (i) the London InterBank Offered Rate, or LIBOR, plus applicable margins or (ii) the Prime Rate, as defined in the agreement, plus applicable margins. The applicable margins range from 1.25% to 4.0% for LIBOR, or up to 1.75% for the Prime Rate, based on certain
financial performance. At December 30, 2006 and December 31, 2005, the effective interest rates on the Term Loan were 7.1% and 7.5%, respectively.
Under the terms of the Revolver and Term Loan, we are required to meet various financial covenants on a quarterly and annual basis, including maximum funded debt to EBITDA, a non-U.S. GAAP measurement that we define as
earnings before interest, taxes, depreciation, amortization and restructuring and other charges (credits), and minimum fixed charge coverage covenants. At December 30, 2006, we were in compliance with all financial covenants.
The Company entered into interest rate swap agreements with its lenders in October 2003, which were intended to protect the Company’s long-term debt against fluctuations in LIBOR rates. Under the interest rate swaps LIBOR was set at a minimum of 1.15% and a maximum of 4.25%. Because the interest rate swap agreement did not qualify as a hedge for accounting purposes under SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities (“SFAS 133”), and related amendments, including SFAS No. 149, Amendment of Statement 133 on Derivative Instruments and Hedging Activities (“SFAS 149”), the Company recorded a reduction to expense of $40,000, $28,000 and $133,000 in fiscal 2006, fiscal 2005 and fiscal 2004, respectively, to mark these interest rate swap agreements to market.
On November 23, 2005, we purchased equipment under a capital lease arrangement qualifying under Statement of Financial Accounting Standards (“SFAS”) No. 13, Accounting for Leases (“SFAS 13”). The equipment is included as a component of property, plant and equipment and the current and long-term principal amounts of the lease obligation are included in our Consolidated Balance Sheets.
We believe that existing funds, cash flows from operations, and cash available under our Revolver should be sufficient to satisfy working capital requirements and capital expenditures through at least the next twelve months. There can be no assurance, however, that we will not require additional financing, or that such additional financing, if needed, would be available on acceptable terms.
Our contractual obligations at December 30, 2006 consist of the following (in thousands):
The amounts above related to estimated interest payments on the Facilities are based upon the interest rates in effect at December 30, 2006. Actual interest amounts could differ from the estimates above.
In fiscal 2000, we entered into an agreement with Fuji Photo Film Co., Ltd., whereby minimum royalty payments to Fuji are required based on specified sales volumes of our A3 format size four-color sheet-fed press. The agreement provides for total royalty payments to be no less than $6 million and not greater than $14 million over the life of the agreement. As of December 30, 2006, the Company had paid Fuji $6.4 million related to this agreement. We currently expect future sales volume to be sufficient to satisfy minimum commitments under the agreement. In the event of a volume shortfall over the term of the agreement, we are obligated to fund the shortfall as a lump-sum payment. Were such lump-sum payment required, we do not believe the amount of the payment will be material.
We have employment agreements with certain of our employees, some of which include change of control agreements that provide them with benefits should their employment with us be terminated other than for cause or their disability or death, or if they resign for good reason, as defined in these agreements, within a certain period of time from the date of any change of control of us.
From time to time we have engaged in sales of equipment that is leased by or intended to be leased by a third party purchaser to another party. In certain situations, we may retain recourse obligations to a financing institution involved in providing financing to the ultimate lessee in the event the lessee of the equipment defaults on its lease obligations. In certain such instances, we may refurbish and remarket the equipment on behalf of the financing company, should the ultimate lessee default on payment of the lease. In certain circumstances, should the resale price of such equipment fall below certain predetermined levels, we would, under these arrangements, reimburse the financing company for any such shortfall in sale price (a “shortfall payment”). The maximum contingent obligation under these shortfall payment arrangements is estimated to be $0.2 million at December 30, 2006. As of December 30, 2006, there were no defaults by ultimate lessees.
Effect of Inflation
Inflation has not had, and is not expected to have, a material impact on our financial conditions or results of operations.
Net Operating Loss Carryforwards
At December 30, 2006, we had net operating loss carryforwards for tax purposes totaling $74.3 million, of which $60.7 million resulted from stock option compensation deductions for U.S. federal tax purposes and $13.6 million resulted from operating losses. To the extent that net operating losses resulting from stock option compensation deductions result in reduction of current taxes payable, the benefit will be credited directly to additional paid-in capital. The Company’s ability to utilize its net operating loss and credit carryforwards may be limited in the future if the company experiences an ownership change, as defined by the Internal Revenue Code. An ownership change occurs when the ownership percentage of 5% or greater of stockholders changes by more than 50% over a three year period.
Critical Accounting Policies and Estimates
Our Management’s Discussion and Analysis of Financial Condition and Results of Operations is based upon our consolidated financial statements, which have been prepared in accordance with generally accepted accounting principles as adopted in the United States. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities and related disclosure of contingent assets and liabilities at the date of the financial statements. Estimates and assumptions also affect the amount of reported revenue and expenses during the period. Management believes the most judgmental estimates include those related to product returns; warranty obligations; allowances for doubtful accounts; slow-moving and obsolete inventories; income taxes; the valuation of goodwill, intangible assets, long-lived assets and deferred tax assets; stock-based compensation and litigation. We base our estimates and assumptions on historical experience and various other appropriate factors, the results of which form the basis for making judgments about the carrying values of assets and liabilities and the amounts of revenue and expenses that are not readily apparent from other sources. Actual results could differ from those estimates.
We believe the following critical accounting policies affect our more significant judgments and estimates used in the preparation of our consolidated financial statements. For a complete discussion of our accounting policies, see Note 1 to our consolidated financial statements appearing elsewhere herein.
The Company recognizes revenue principally from the sale of products (equipment, consumables, laser diodes) and services (equipment maintenance contracts, installation, training, support, and spare parts). Revenue is recognized when persuasive evidence of a sales arrangement exists, delivery has occurred or services have been rendered, the price to the customer is fixed or determinable and collection is reasonably assured. In accordance with Staff Accounting Bulletin (“SAB”) No. 104 Revenue Recognition (“SAB 104”) and Emerging Issues Task Force (“EITF”) Issue 00-21 Revenue Arrangements with Multiple Deliverables (“EITF 00-21”), when a sales arrangement contains multiple elements, such as equipment and services, revenue is allocated to each element based on its relative fair value. The fair value of any undelivered elements, such as warranty, training and services, are deferred until delivery has occurred or services have been rendered. A general right of return or cancellation does not exist once product is delivered to the customer; however, the Company may elect, in certain circumstances, to accept returns of product. Product revenues are recorded net of estimated returns, which are adjusted periodically, based upon historical rates of return. The estimated cost of post-sale obligations, including product warranties, is accrued at the time revenue is recognized based on historical experience.
The Company records amounts invoiced to customers in excess of revenue recognized as deferred revenue until all revenue recognition criteria are met.
The Company accounts for shipping and handling fees passed on to customers as revenue. Shipping and handling costs are reported as components of cost of revenue (product) and cost of revenue (service and parts).
End-User Customers - Under the Company’s standard terms and conditions of sale of equipment, title and risk of loss are transferred to third-party end-user customers upon completion of installation and revenue is recognized at that time, unless customer acceptance is uncertain or significant deliverables remain. Sales of other products, including printing plates, are generally recognized at the time of shipment.
OEM Relationships - Product revenue and any related royalties for products sold to companies with whom we have an OEM relationship are recognized at the time of shipment as installation is not required and title and risk of loss pass to the buyer at such point. Contracts with companies with whom we have OEM relationships do not include price protection or product return rights; however, the Company may elect, in certain circumstances, to accept returns of product.
Distributor Relationships - Revenue for product sold to distributors, whereby the distributor is responsible for installation, is recognized at the time of shipment. Revenue for equipment sold to distributors whereby the Company is responsible for installation, is recognized upon completion of installation. Except in the case of termination of the contract, which includes product return rights, contracts with distributors do not include price protection or product return rights; however, the Company may elect, in certain circumstances, to accept returns of product.
Services and Parts
Revenue for installation services, including time and material contracts, is recognized as services are rendered. Revenue associated with maintenance or extended service agreements is recognized ratably over the contract period. Revenue associated with training and support services is recognized as services are rendered. Certain fees and other reimbursements are recognized as revenue when the related services have been performed or the revenue is otherwise earned.
Sales Transactions Financed with Recourse Clauses
From time to time the Company has engaged in sales of equipment that is leased by or intended to be leased by a third party purchaser to another party. In certain situations, the Company may retain recourse obligations to a financing institution involved in providing financing to the ultimate lessee in the event the lessee of the equipment defaults on its lease obligations. In certain such instances, the Company may refurbish and remarket the equipment on behalf of the financing company, should the ultimate lessee default on payment of the lease.
In certain circumstances, should the resale price of such equipment fall below certain predetermined levels, the Company would, under these agreements, reimburse the financing company for any such shortfall in sale price.
Sales Transactions Financed by the Company
In fiscal 2006, the Company periodically entered into sales-type leases resulting from the marketing of the Company’s and complementary third-party products. These transactions typically have seven year terms and are collateralized by a security interest in the underlying assets. These transactions are accounted for in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 13, Accounting for Leases (“SFAS 13”). The long-term portion of financing receivables is included in Other noncurrent assets in the Company’s Consolidated Balance Sheet at December 30, 2006.
Allowance for Doubtful Accounts
The Company’s accounts receivable are customer obligations due under normal trade terms, carried at face value less an allowance for doubtful accounts. The Company evaluates its allowance for doubtful accounts on an ongoing basis and adjusts for potential credit losses when it determines that receivables are at risk for collection based upon the length of time receivables are outstanding, past transaction history and various other criteria. Receivables are written off against reserves in the period they are determined to be uncollectible.
Inventories are valued at the lower of cost or net realizable value, with cost determined using the first-in, first-out method. We assess the recoverability of inventory to determine whether adjustments for impairment are required.
Inventory that is in excess of future requirements is written down to its estimated market value based upon forecasted demand for its products. If actual demand is less favorable than what has been forecasted by management, additional inventory write-downs may be required.
In accordance with the purchase method of accounting, the fair values of assets acquired and liabilities assumed are determined and recorded as of the date of the acquisition. The Company utilizes an independent valuation specialist to determine the fair values of identifiable intangible assets acquired in order to determine the portion of the purchase price allocable to these assets. Costs to acquire the business, including transaction costs, are allocated to the fair value of net assets acquired. Any excess of the purchase price over the estimated fair value of the net assets acquired is recorded as goodwill.
As part the allocation of purchase price, the Company records liabilities, including lease termination costs and certain employee severance costs, in accordance with Emerging Issues Task Force Issue No. 95-3, Recognition of Liabilities in Connection with a Purchase Business Combination. Throughout the allocation period, these accruals are reviewed and adjusted for changes in cost and timing assumptions.
Goodwill and Intangible Assets
Presstek has goodwill and net intangible assets of $29.0 million at December 30, 2006. Goodwill and intangible assets with indefinite lives are tested annually for impairment in accordance with the goodwill provisions of SFAS 142. Intangible assets with estimated lives and other long-lived assets are reviewed for impairment when events or changes in circumstances indicate that the carrying amount of an asset or asset group may not be recoverable in accordance with SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (“SFAS 144”). Recoverability of intangible assets with estimated lives and other long-lived assets is measured by comparison of the carrying amount of an asset or asset group to future net undiscounted pretax cash flows expected to be generated by the asset or asset group. If these comparisons indicate that an asset is not recoverable, the Company will recognize an impairment loss for the amount by which the carrying value of the asset or asset group exceeds the related estimated fair value. Estimated fair value is based on either discounted future pretax operating cash flows or appraised values, depending on the nature of the asset. The Company determines the discount rate for this analysis
based on the expected internal rate of return of the related business and does not allocate interest charges to the asset or asset group being measured. Considerable judgment is required to estimate discounted future operating cash flows. Judgment is also required in determining whether an event has occurred that may impair the value of goodwill or identifiable intangible assets. Factors that could indicate that an impairment may exist include significant underperformance relative to plan or long-term projections, strategic changes in business strategy, significant negative industry or economic trends or a significant decline in our stock price for a sustained period of time. We must make assumptions about future cash flows, future operating plans, discount rates and other factors in the models and valuation reports. To the extent these future projections and estimates change, the estimated amounts of impairment could differ from current estimates.
Patents represent the cost of preparing and filing applications to patent the Company’s proprietary technologies, in addition to certain patent and license rights obtained in the Company’s acquisitions or other related transactions. Such costs are amortized over a period ranging from five to seven years, beginning on the date the patents or rights are issued or acquired.
From time to time, the Company enters into agreements with third parties under which the party will design and prototype a product incorporating Presstek products and technology. The capitalized costs associated with rights or intellectual property under these agreements will be amortized over the estimated sales life-cycle and future cash flows of the product. The Company does not amortize capitalized costs related to either patents or purchased intellectual property until the respective asset has been placed into service.
The Company amortizes license agreements and loan origination fees over the term of the respective agreement.
The amortizable lives of the Company’s other intangible assets are as follows:
Accounting for Income Taxes
The Company accounts for income taxes in accordance with SFAS No. 109, Accounting for Income Taxes. The asset and liability approach underlying SFAS No. 109 requires the recognition of deferred tax liabilities and assets for the expected future tax consequences of temporary differences between the carrying amounts and tax basis of the Company’s assets and liabilities. A valuation allowance is provided against deferred tax assets for amounts if, based on the weight of available evidence, it is more likely than not that some or all of the deferred tax assets will not be realized.
We monitor the realization of our deferred tax assets based on changes in circumstances; for example, recurring periods of income for tax purposes following historical periods of cumulative losses or changes in tax laws or regulations. Our income tax provisions and our assessment of the realizability of our deferred tax assets involve significant judgments and estimates.
The Company does not provide for U.S. income taxes on the undistributed earnings of its foreign subsidiaries, which the Company considers to be permanently reinvested.
Recently Issued Accounting Standards
In July 2006, the FASB issued FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109 ("FIN 48"). FIN 48 clarifies the accounting for uncertainty in income taxes by prescribing the recognition threshold a tax position is required to meet before being recognized in the financial statements. It also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition. FIN 48 is effective for fiscal years beginning after December 15, 2006 and is required to be adopted by Presstek in the first quarter of fiscal 2007. The cumulative effects, if any, of
applying FIN 48 will be recorded as an adjustment to retained earnings as of the beginning of the period of adoption. Presstek is currently evaluating the effect that the adoption of FIN 48 will have on its consolidated results of operations and financial condition but does not expect it to have a material impact.
In September 2006, the SEC issued SAB No. 108, Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements ("SAB 108"). SAB 108 provides guidance on the consideration of the effects of prior year misstatements in quantifying current year misstatements for the purpose of a materiality assessment. SAB 108 establishes an approach that requires quantification of financial statement errors based on the effects of each of the company's balance sheet and statement of operations and the related financial statement disclosures. SAB 108 is effective for fiscal years ending after November 15, 2006. Upon initial application, SAB 108 permits a one-time cumulative effect adjustment to beginning retained earnings. The adoption of SAB 108 did not have a material impact on its consolidated results of operations and financial condition.
In fiscal 2006 the Company adopted SFAS No. 151, Inventory Costs (“SFAS 151”), an amendment of Accounting Research Bulletin (“ARB”) No. 43, Chapter 4, Inventory Pricing. SFAS 151 amends previous guidance regarding treatment of abnormal amounts of idle facility expense, freight, handling costs and spoilage. This Statement requires that those items be recognized as current period charges regardless of whether they meet the criterion of “so abnormal” which was the criterion specified in ARB No. 43. In addition, this Statement requires that the allocation
of fixed production overheads to the cost of the production be based on normal capacity of the production facilities. The adoption of SFAS 151 did not have a material impact on the Company.
In fiscal 2006, the Company adopted Financial Accounting Standards Board (“FASB”) issued SFAS No. 154, Accounting Changes and Error Corrections (“SFAS 154”), which replaces APB Opinion No. 20, Accounting Changes and SFAS No. 3, Reporting Accounting Changes in Interim Financial Statements - An Amendment of APB Opinion No. 28. SFAS 154 provides guidance on the accounting for and reporting of accounting changes and error corrections. It establishes retrospective application, or the latest practicable date, as the required method for reporting a change in accounting principle and the reporting of a correction of an error. There was no financial statement impact in 2006.
In June 2006, the Emerging Issues Task Force (“EITF”) reached a consensus on EITF Issue No. 06-3, How Taxes Collected from Customers and Remitted to Governmental Authorities Should Be Presented in the Income Statement (That Is, Gross versus Net Presentation) (“EITF 06-3”). EITF 06-3 is effective for periods beginning after December 15, 2006, with earlier application permitted. EITF 06-3 requires disclosure of the accounting policy for any tax assessed by a governmental authority that is directly imposed on a revenue-producing transaction (i.e., sales, use, value added) on a gross basis (included in revenues and costs) or net basis (excluded from revenues and costs). The Company excludes these amounts from its revenues and costs; accordingly, no additional disclosure will be required.
In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements ("SFAS 157"). SFAS 157 provides guidance for using fair value to measure assets and liabilities. It also responds to investors' requests for expanded information about the extent to which companies measure assets and liabilities at fair value, the information used to measure fair value, and the effect of fair value measurements on earnings. SFAS 157 applies whenever other standards require (or permit) assets or liabilities to be measured at fair value, and does not expand the use of fair value in any new circumstances. SFAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007 and is required to be adopted by the Company in fiscal 2008. Presstek is currently evaluating the effect that the adoption of SFAS 157 will have on its consolidated results of operations and financial condition but does not expect it to have a material impact.
In February 2007, the FASB issued Statement of Financial Accounting Standards No. 159 ("SFAS 159"), The Fair Value Option for Financial Assets and Financial Liabilities - Including an amendment of FASB Statement No 115. SFAS 159 permits entities to choose