UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES AND
EXCHANGE ACT OF 1934
For the quarterly period ended June 27, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES AND EXCHANGE ACT OF 1934
For the Transition period from to
Commission File Number 0-10772
ESSEX CORPORATION
(Exact name of registrant as specified in its charter)
Virginia 54-0846569
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
9150 Guilford Road, Columbia, Maryland 21046
(Address of principal executive offices) (Zip Code)
(301) 939-7000
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES X NO
----- -----
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
YES NO X
----- -----
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
OUTSTANDING
CLASS AT JULY 22, 2004
----- ----------------
Common Stock, no par value per share 15,180,952
ESSEX CORPORATION
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
INDEX
o UNAUDITED CONSOLIDATED BALANCE SHEETS
o UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS
o UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
o NOTES TO INTERIM UNAUDITED CONSOLIDATED FINANCIAL INFORMATION
References hereinafter to the quarter(ly) and six month periods represent the
13-week and 26-week periods, respectively, ending on the date indicated.
2
ESSEX CORPORATION
CONSOLIDATED BALANCE SHEETS
June 27, December 28,
2004 2003
-------------- --------------
(Unaudited)
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 15,981,395 $ 31,835,294
Accounts receivable, net 14,819,527 3,969,601
Prepayments and other 653,443 146,517
-------------- --------------
Total Current Assets 31,454,365 35,951,412
-------------- --------------
PROPERTY AND EQUIPMENT
Computers and special equipment 1,539,311 1,226,349
Furniture, equipment and other 732,588 250,138
-------------- --------------
2,271,899 1,476,487
Accumulated depreciation and amortization (1,246,103) (1,107,790)
-------------- --------------
Net Property and Equipment 1,025,796 368,697
-------------- --------------
OTHER ASSETS
Goodwill 13,915,455 2,998,000
Patents, net 326,134 333,648
Other intangibles, net 683,842 50,141
Other 269,482 23,764
-------------- --------------
Total Other Assets 15,194,913 3,405,553
-------------- --------------
TOTAL ASSETS $ 47,675,074 $ 39,725,662
------------ ============== ==============
The accompanying notes are an integral part of these statements.
3
ESSEX CORPORATION
CONSOLIDATED BALANCE SHEETS
June 27, December 28,
2004 2003
------------- -------------
(Unaudited)
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable $ 6,026,672 $ 694,434
Note payable -- 100,000
Accrued wages and vacation 1,526,718 898,498
Accrued retirement plans contribution payable 151,336 298,551
Advance payments 492,568 462,000
Other accrued expenses 444,669 522,538
Capital leases 12,000 4,390
------------- -------------
Total Current Liabilities 8,653,963 2,980,411
LONG-TERM DEBT
Capital lease, net of current portion 35,165 --
------------- -------------
Total Liabilities 8,689,128 2,980,411
------------- -------------
SHAREHOLDERS' EQUITY
Common stock, no par value; 25 million shares
authorized; 15,116,329 and 15,241,257 shares
issued and outstanding, respectively 50,452,771 49,004,021
Additional paid-in capital 2,000,000 2,000,000
Accumulated deficit (13,466,825) (14,258,770)
------------- -------------
Total Shareholders' Equity 38,985,946 36,745,251
------------- -------------
TOTAL LIABILITIES AND SHAREHOLDERS'
EQUITY $ 47,675,074 $ 39,725,662
============= =============
The accompanying notes are an integral part of these statements.
4
ESSEX CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
UNAUDITED
Six Month Six Month Quarterly Quarterly
Period Ending Period Ending Period Ending Period Ending
June 27, 2004 June 29, 2003 June 27, 2004 June 29, 2003
-------------- --------------- -------------- --------------
Revenues:
Services and products $ 22,808,163 $ 7,149,941 $ 14,539,612 $ 4,148,607
Purchased hardware 12,035,922 -- 6,063,368 --
-------------- --------------- -------------- --------------
Total 34,844,085 7,149,941 20,602,980 4,148,607
-------------- --------------- -------------- --------------
Costs of goods sold and
services provided:
Services and products (17,203,129) (4,661,942) (11,068,126) (2,619,731)
Purchased hardware (11,838,197) -- (5,978,115) --
-------------- --------------- -------------- --------------
Total (29,041,326) (4,661,942) (17,046,241) (2,619,731)
-------------- --------------- -------------- --------------
Gross Margin 5,802,759 2,487,999 3,556,739 1,528,876
Selling, general and
administrative expenses (4,526,463) (1,990,251) (2,692,173) (1,204,377)
Research and development (447,215) (226,040) (306,756) (94,094)
Amortization of other
intangible assets (162,299) (174,017) (127,158) (128,291)
-------------- --------------- -------------- --------------
Operating Income 666,782 97,691 430,652 102,114
Interest income (expense),
net 125,161 (43,199) 49,440 (27,541)
-------------- --------------- -------------- --------------
Income Before Income
Taxes 791,943 54,492 480,092 74,573
Provision for income taxes -- -- -- --
-------------- --------------- -------------- --------------
Net Income $ 791,943 $ 54,492 $ 480,092 $ 74,573
============== =============== ============== ==============
Basic Earnings Per
Common Share $ 0.05 $ 0.01 $ 0.03 $ 0.01
============== =============== ============== ==============
Diluted Earnings Per
Common Share $ 0.05 $ 0.01 $ 0.03 $ 0.01
============== =============== ============== ==============
WEIGHTED AVERAGE
NUMBER OF SHARES
Basic 15,045,973 8,437,723 15,085,778 8,919,916
Effect of dilution -
Stock options 1,379,821 1,128,075 1,379,821 1,128,075
-------------- --------------- -------------- --------------
Diluted 16,425,794 9,565,798 16,465,599 10,047,991
============== =============== ============== ==============
The accompanying notes are an integral part of these statements.
5
ESSEX CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
UNAUDITED
Six Months Six Months
Ended June 27, Ended June 29,
2004 2003
--------------- ---------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income $ 791,943 $ 54,492
Adjustments to reconcile Net Income to Net
Cash Used In Operating Activities:
Depreciation and amortization 157,840 84,299
Amortization of other intangible assets 162,299 174,017
Contract reserves/account allowance 120,000 --
Other -- 2,564
Change in Assets and Liabilities:
Accounts receivable (8,439,756) (1,190,889)
Prepayments and other assets (313,934) (13,448)
Advance payments 30,568 (110,795)
Accounts payable 4,918,438 (106,300)
Accrued wages, vacation and retirement 171,380 593,728
Other liabilities (135,645) 10,681
--------------- ---------------
Net Cash Used In Operating Activities (2,536,867) (501,651)
--------------- ---------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisitions, net of cash acquired (14,179,531) (309,000)
Purchases of property and equipment (479,026) (60,338)
Other -- 707
--------------- ---------------
Net Cash Used In Investing Activities (14,658,557) (368,631)
--------------- ---------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Sales of common stock 1,192,125 --
Note payable (100,000) 100,000
Exercise of stock options 256,625 48,809
Short-term borrowings/repayments, net -- 302,229
Payment of capital lease obligations (7,225) (58,090)
--------------- ---------------
Net Cash Provided By Financing Activities 1,341,525 392,948
--------------- ---------------
CASH AND CASH EQUIVALENTS
Net decrease (15,853,899) (477,334)
Balance - beginning of period 31,835,294 1,030,247
--------------- ---------------
Balance - end of period $ 15,981,395 $ 552,913
=============== ===============
The accompanying notes are an integral part of these statements.
6
ESSEX CORPORATION
NOTES TO INTERIM UNAUDITED CONSOLIDATED FINANCIAL INFORMATION
NOTE 1: General
FISCAL YEAR AND PRESENTATION
These statements cover Essex Corporation (the "Company"), its formerly
wholly-owned subsidiary, Sensys Development Laboratories, Inc. ("SDL"), which
was acquired effective March 1, 2003 and merged into the Company effective
December 30, 2003 and its wholly-owned subsidiary, Computer Science Innovations,
Inc. ("CSI"), which was acquired effective April 30, 2004. On June 25, 2004, the
Company completed the acquisition of substantially all of the assets of
Performance Group, Inc. ("PGI"). The Company is on a 52/53-week fiscal year
ending the last Sunday in December. Years 2004 and 2003 are 52-week fiscal
years. References to the quarter(ly) and six month periods represent the 13-week
and 26-week periods, respectively, ending on the date indicated. All material
intercompany transactions have been eliminated. Certain amounts for 2003 have
been reclassified to conform to the 2004 presentation.
The information furnished in the accompanying Unaudited Consolidated Balance
Sheets, Unaudited Consolidated Statements of Operations and Unaudited
Consolidated Statements of Cash Flows have been prepared in accordance with
accounting principles generally accepted in the United States of America for
interim financial information. In the opinion of management, such information
contains all adjustments considered necessary for a fair presentation of such
information. The operating results for the twenty-six week period ended June 27,
2004 may not be indicative of the results of operations for the year ending
December 26, 2004, or any future period. This financial information should be
read in conjunction with the Company's 2003 audited consolidated financial
statements and footnotes thereto, included in the Annual Report on Form 10-K
filed with the Securities and Exchange Commission.
USE OF ESTIMATES
The preparation of the consolidated financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Estimates are used when
accounting for uncollectible accounts receivable, inventory obsolescence and
valuation, depreciation and amortization, intangible assets, employee benefit
plans and contingencies, among others. Actual results could differ from these
estimates.
RESEARCH AND DEVELOPMENT
Research and development costs are expensed as incurred. Such costs include
direct labor and materials as well as a reasonable allocation of indirect costs.
However, no general and administrative costs are included in research and
development. Equipment which has alternative future uses is capitalized and
charged to expense over its estimated useful life.
NOTE 2: Basic and Diluted Earnings Per Share
Basic earnings per common share are computed using the weighted average number
of common shares outstanding during the period reduced by contingently
returnable shares. Diluted earnings
7
ESSEX CORPORATION
NOTES TO INTERIM UNAUDITED CONSOLIDATED FINANCIAL INFORMATION
per common share incorporates the incremental shares issuable upon the assumed
exercise of stock options and warrants. As of June 27, 2004 and June 29, 2003,
the effect of the incremental shares from options, warrants and contingent
shares (if applicable) of 111,100 and 2,368,700, respectively, have been
excluded from diluted weighted average shares as the effect would have been
antidilutive or contingencies were not resolved.
NOTE 3: Common Stock
The Company completed a follow-on public offering in December 2003 and issued
4,000,000 shares of common stock. The Company received net proceeds of $31.4
million. In January 2004, the underwriters exercised their over allotment option
and the Company sold an additional 150,000 common shares and received net
proceeds of $1.2 million.
In connection with the acquisition of SDL, the Company had issued approximately
422,000 common shares into escrow. These shares were to be released to certain
SDL shareholders or returned to Essex based upon certain factors, principally
the future market price of the Company's stock. During the first quarter of
2004, the 422,000 shares in escrow were returned to the Company in accordance
with the terms of the purchase agreement.
NOTE 4: Stock-Based Compensation
The Company accounts for stock options granted to employees and directors using
the intrinsic value based method of accounting. Under this method, the Company
does not recognize compensation expenses for the stock options because the
exercise price is equal to the market price of the underlying stock on the date
of the grant. If the Company had used the fair value based method of accounting,
net earnings and earnings per share would have been reduced to the pro forma
amounts listed in the table below. The Black-Scholes option pricing model was
used to calculate the pro forma stock-based compensation costs. For purposes of
the pro forma disclosures, the assumed compensation expense is amortized over
the option's vesting periods. The pro forma information is consistent with
assumptions used in the year end calculations. Accordingly, net income (loss)
and earnings (loss) per share would be as follows:
Six Months Ended Three Months Ended
-------------------------------- --------------------------------
June 27, 2004 June 29, 2003 June 27, 2004 June 29, 2003
-------------- -------------- -------------- --------------
Net income, as reported $ 791,943 $ 54,492 $ 480,092 $ 74,573
Less: Total stock-based employee
compensation expense determined
under fair value based method 979,275 392,570 218,022 189,591
-------------- -------------- -------------- --------------
Pro forma (loss) income $ (187,332) $ (338,078) $ 262,070 $ (115,018)
============== ============== ============== ==============
Earnings (loss) per share:
Basic-as reported $ 0.05 $ 0.01 $ 0.03 $ 0.01
Basic-pro forma $ (0.01) $ (0.04) $ 0.02 $ (0.01)
Diluted-as reported $ 0.05 $ 0.01 $ 0.03 $ 0.01
Diluted-pro forma $ (0.01) $ (0.04) $ 0.02 $ (0.01)
8
ESSEX CORPORATION
NOTES TO INTERIM UNAUDITED CONSOLIDATED FINANCIAL INFORMATION
NOTE 5: Amortization of Other Intangible Assets
In connection with the March 1, 2003 acquisition of SDL, there was $431,000 of
intangible value assigned primarily to contracts. In connection with the April
30, 2004 acquisition of CSI, there was $724,000 of value assigned primarily to
contracts. In connection with the June 25, 2004 acquisition of substantially all
of the assets from Performance Group, Inc., there was $70,000 of value assigned,
primarily to covenants not to compete. (See Note 7.) Amortization of $127,000
and $162,000 was recognized in the quarter and six months ended June 27, 2004,
respectively. Amortization of $128,000 and $174,000 was recognized in the
quarter and six month periods ended June 29, 2003, respectively.
NOTE 6: Income Taxes
The Company is in a net operating loss (NOL) carryforward position for book and
tax purposes.
The Company has established a valuation reserve for all of its deferred tax
assets. Such tax assets are available to be recognized and benefit future
periods. The evaluation of the realizability of deferred tax assets in future
periods is made annually at year end based upon a variety of factors for
generating future taxable income, such as historical and projected operating
performance. The Company had a deferred income tax asset valuation allowance of
$3.5 million at December 28, 2003.
NOTE 7: Acquisitions
In April 2004, the Company agreed to acquire 100% of the common stock of
Computer Science Innovations, Inc. ("CSI"), which is headquartered in Melbourne,
Florida, for approximately $8.1 million in cash. The Company incurred another
$125,000 in related legal and accounting fees. CSI has proprietary techniques,
algorithms and tools that are used to build custom "cognitive engines" for a
broad range of intelligence, defense and commercial customers and applications.
CSI had revenue of approximately $7.5 million in its fiscal year ended March 31,
2004. The Company closed this transaction effective April 30, 2004.
The following table summarizes the estimated fair values of the assets acquired
and liabilities assumed at the date of acquisition.
Current assets $ 1,465,000
Equipment and other 172,000
Goodwill 6,414,000
Intangible assets 724,000
--------------
Total assets acquired 8,775,000
Current liabilities (550,000)
--------------
Net assets acquired $ 8,225,000
==============
9
ESSEX CORPORATION
NOTES TO INTERIM UNAUDITED CONSOLIDATED FINANCIAL INFORMATION
The intangible assets of $724,000 are primarily assigned to contracts which have
an estimated overall amortization life of less than one year. The allocation of
the purchase price is preliminary and subject to adjustment following completion
of the valuation process.
The following information is presented on a pro forma basis as though the
business combination had been completed as of the beginning of fiscal 2004.
For The Six Months Ended
June 27, 2004
(in Thousands) (Unaudited)
--------------------------------------------
As Reported Pro Forma
------------------- -------------------
Revenues $ 34,844 $ 36,972
=================== ===================
Net Income $ 792 $ 503
=================== ===================
Earnings Per Share:
Basic $ 0.05 $ 0.03
=================== ===================
Fully diluted $ 0.05 $ 0.03
=================== ===================
On June 25, 2004, the Company completed the acquisition of substantially all of
the assets of Performance Group, Inc. ("PGI") with main offices in
Fredericksburg, VA. PGI provides services and systems in the areas of Geographic
Information Systems (GIS), Imagery Processing and Analysis, Spatial Data
Development, Environmental Consulting, Visualization, and IT Solutions to
government and private sector clients. PGI had revenue of approximately $4.5
million in calendar year 2003.
The Company paid $5.85 million in cash and assumed $231,000 of liabilities. The
Company also incurred $125,000 in outside expenses.
The following table summarizes the estimated fair values of the assets acquired
and liabilities assumed at the date of acquisition.
Current assets $ 1,516,000
Equipment and other 117,000
Goodwill 4,503,000
Intangible assets 70,000
--------------
Total assets acquired 6,206,000
Current liabilities (231,000)
--------------
Net assets acquired $ 5,975,000
==============
10
ESSEX CORPORATION
NOTES TO INTERIM UNAUDITED CONSOLIDATED FINANCIAL INFORMATION
The Company is in the process of evaluating the intangible assets acquired, such
as contracts. The allocation of the purchase price is preliminary and subject to
adjustment following completion of the valuation process.
NOTE 8: Statements of Cash Flows - Supplemental Disclosure
There was a $50,000 capital lease entered into in the first six months of 2004.
There were no new capital leases in the first six months of 2003.
In connection with the acquisition of substantially all of the assets of PGI,
the Company assumed approximately $231,000 of liabilities which are expected to
be paid in the third quarter of 2004.
NOTE 9: Major Customers
Most of the Company's revenues are derived from contracts with the U.S.
Government, where the Company is either the prime contractor or a subcontractor,
depending on the contract. For the first six months ended June 27, 2004 and June
29, 2003, revenues derived from U.S. Government programs were $34.3 million, or
98.5% and $7.1 million, or 98.6%, of the Company's total revenues, respectively.
For the first six months ended June 27, 2004, approximately $24.9 million or
71.6% of revenues were derived from one U.S. Government customer on one program.
11
ESSEX CORPORATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS AND OTHER SECTIONS CONTAIN FORWARD-LOOKING STATEMENTS THAT ARE BASED
ON MANAGEMENT'S EXPECTATIONS, ESTIMATES, PROJECTIONS AND ASSUMPTIONS. WORDS SUCH
AS "EXPECTS", "ANTICIPATES", "PLANS", "BELIEVES", "ESTIMATES" AND VARIATIONS OF
SUCH WORDS AND SIMILAR EXPRESSIONS ARE INTENDED TO IDENTIFY SUCH FORWARD-LOOKING
STATEMENTS THAT INCLUDE, BUT ARE NOT LIMITED TO, PROJECTIONS OF REVENUES,
EARNINGS, SEGMENT PERFORMANCE, CASH FLOWS AND CONTRACT AWARDS. SUCH
FORWARD-LOOKING STATEMENTS ARE MADE PURSUANT TO THE SAFE HARBOR PROVISIONS OF
THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995. THESE STATEMENTS ARE NOT
GUARANTEES OF FUTURE PERFORMANCE AND INVOLVE CERTAIN RISKS AND UNCERTAINTIES
THAT ARE DIFFICULT TO PREDICT. FOR MORE INFORMATION ON RISK FACTORS, SEE THE
COMPANY'S ANNUAL REPORT ON FORM 10-K FOR THE FISCAL YEAR ENDED DECEMBER 28,
2003. THEREFORE, ACTUAL FUTURE RESULTS AND TRENDS MAY DIFFER MATERIALLY FROM
WHAT IS INDICATED IN FORWARD-LOOKING STATEMENTS DUE TO A VARIETY OF FACTORS.
REFERENCES TO THE QUARTER(LY) AND SIX MONTH PERIODS REPRESENT THE 13-WEEK AND
26-WEEK PERIODS, RESPECTIVELY, ENDING ON THE DATE INDICATED.
OVERVIEW
Essex Corporation (the "Company") provides advanced optoelectronic and signal
processing services and products for U.S. Government intelligence and defense
customers and communications customers with whom we have established and
maintained long-standing and successful relationships. The Company provides
optoelectronic and signal processing services to classified U.S. Government
customers under next generation research and development contracts. The Company
supports the intelligence community's mission critical voice and video systems
infrastructure. The Company provides systems fabrication, software integration,
testing, field deployment and other engineering services to highly classified
U.S. Government customers. The Company builds optical communications and
networking system elements and components, as well as signal and image
processing software products. While the Company has historically sold our
products to the intelligence and defense markets, we believe our existing
products and our patent portfolio position us well to benefit from spending on
next generation technology that decreases the costs and increases the speed,
performance and security of existing communications networks.
With its acquisition of Computer Science Innovations, Inc. in April 2004, the
Company now has proprietary techniques, algorithms and tools that are used to
build custom "cognitive engines" for a broad range of intelligence, defense and
commercial customers and applications. With the acquisition of substantially all
of the assets of Performance Group, Inc. in June 2004, the Company now has
services and systems in the areas of Geographic Information Systems (GIS),
Imagery Processing and Analysis, Spatial Data Development, Environmental
Consulting, Visualization, and IT Solutions for government and private sector
clients.
Most of the Company's revenues are derived from contracts with the U.S.
Government, where the Company is either the prime contractor or a subcontractor,
depending on the contract. For the six months ended June 27, 2004 and June 29,
2003, revenues derived from U.S. Government programs were $34.3 million, or
98.5%, and $7.1 million, or 98.6%, of the Company's total revenues,
respectively. The Company received a substantial amount of its intelligence and
defense community revenues for 2004 and 2003 from sole source contracts.
12
ESSEX CORPORATION
The Company's most significant expense is its cost of goods sold and services
provided, which consists primarily of direct labor and associated costs for
program personnel and direct expenses incurred to complete contracts, including
the cost of materials and equipment and subcontract efforts. The Company's
ability to accurately predict personnel requirements, salaries and other costs,
as well as to manage personnel levels and successfully redeploy personnel, can
have a significant impact on its cost of goods sold and services provided.
Selling, general and administrative expenses consist primarily of costs
associated with the Company's management, finance and administrative groups and
business development expenses which include bid and proposal efforts, and
occupancy, travel and other corporate costs.
STATUS
The Company has experienced significant growth in its U.S. Government business
and has been actively pursuing growth strategies from internal efforts and
external merger sources. These efforts have resulted in profitable operations
for the first half of 2004 and fiscal 2003. The Company completed, effective
March 1, 2003, the acquisition of Sensys Development Laboratories, Inc. ("SDL"),
a Maryland-based provider of system and software engineering support services.
This merger added over 25 highly skilled professionals to the Company's staff
and approximately $6 million of annual revenue for 10 months in 2003. The
Company completed, effective April 30, 2004, the acquisition of Computer Science
Innovations, Inc. ("CSI"), which is headquartered in Melbourne, Florida, for
approximately $8.1 million in cash and incurred an additional $125,000 in legal
and accounting fees. CSI has proprietary techniques, algorithms and tools that
are used to build custom "cognitive engines" for a broad range of intelligence,
defense and commercial customers and applications. CSI had revenue of
approximately $7.5 million in its fiscal year ended March 31, 2004. The Company
completed, effective June 25, 2004, the acquisition of substantially all of the
assets of Performance Group, Inc. ("PGI") with main offices in Fredericksburg,
Virginia for approximately $5.85 million in cash and assumed $231,000 in
liabilities. The Company also incurred $125,000 in outside expenses. PGI
provides services and systems in the areas of Geographic Information Systems
(GIS), Imagery Processing and Analysis, Spatial Data Development, Environmental
Consulting, Visualization, and IT Solutions to government and private sector
clients. PGI had revenue of approximately $4.5 million in calendar year 2003.
In October 2003, the Company was awarded a new defense-related contract for
approximately $57 million over 4 years (a 3 month base period plus 4 option
years). This is a delivery order contract for software and systems engineering
and the delivery of custom systems to national priority programs. The Company is
the prime contractor and there are numerous team members/subcontractors who will
work on this program. In the second quarter of 2004, in connection with this
contract, the Company leased over 50,000 square feet of space. The lease extends
until May 2011 with an option for early termination. The space will contain
significant floor space to provide highly classified work areas as well as
assembly, warehouse and regular office space. The Company expects to recover the
majority of the costs of this facility via direct or indirect charges to this
and other contracts.
The Company continues to patent, develop and commercialize its key leading-edge
optical technologies, principally the fiberoptic HYPERFINE WDM devices and
wireless optical processor enhanced receiver architecture (OPERA(TM))
technology. The purpose of the HYPERFINE WDM device is to increase the number of
usable communications channels within a single optical fiber.
13
ESSEX CORPORATION
The purpose of OPERA(TM) is to increase capacity and improve voice and data
quality of wireless systems.
Prototypes of the HYPERFINE WDM technology are being demonstrated to prospective
strategic partners and investors. During the first nine months of 2003, the
Company sold ten of its initial HYPERFINE WDM family devices consisting of five
prototype demultiplexers and five of the new flat-top HYPERFINE WDM devices for
use in building advanced optical code division multiple access (OCDMA) systems
for $457,000 to several government and intermediate customers. The Company is
also developing applications for using HYPERFINE WDM to achieve privacy in an
all optical network. The Company is developing simulations of its OPERA(TM)
wireless receiver device technology and is undertaking to determine the various
market entry points for such device technology. The Company is also holding
discussions with various established entities that are in the wireless
communications market in order to determine the best communications applications
of such technology.
The Company was awarded a patent for its HYPERFINE WDM technology in August
2003. In light of the continued unfavorable conditions in the communications
markets, the market for our optical technologies and products has been slow in
developing; however, as indicated above, we sold in fiscal 2003 the first 10
HYPERFINE WDM family devices to our customers in the intelligence and defense
communities. As noted previously, we are significantly expanding our U.S.
Government business base. The expansion is designed to take advantage of our
government contracting experience and technical expertise and the increased
government contracting activity in the defense, intelligence and homeland
security areas. We are selling our HYPERFINE WDM and other optical technologies
in the government marketplace and will continue to pursue such sales in the
commercial markets.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of financial statements requires the Company to make estimates
and judgments that affect the reported amounts of assets, liabilities, revenues
and expenses, and related disclosure of contingent assets and liabilities. On an
on-going basis, the Company re-evaluates its estimates, including those related
to revenue recognition, R&D, inventories, intangible assets, income taxes and
contingencies. The Company bases its estimates on historical experience and on
various other assumptions that are believed to be reasonable under the
circumstances, the results of which form the basis for making judgments about
the carrying values of assets and liabilities that are not readily apparent from
other sources. Actual results may differ from these estimates under different
assumptions or conditions. The Company believes the following critical
accounting policies affect its more significant judgments and estimates used in
the preparation of its financial statements.
REVENUE RECOGNITION
The Company enters into three types of U.S. Government contracts: cost plus
fixed fee, fixed price and time and material. The Company recognizes revenue on
cost plus fixed fee contracts to the extent costs are incurred plus a
proportionate amount of fee earned. The Company must determine that the costs
incurred are proper and that the ultimate costs incurred will not overrun the
expected funding on the contract and still deliver the scope of work proposed.
Even though cost plus fixed fee contracts generally do not require that the
Company expend costs in excess of the contract value, such expenditures may be
required in order to achieve customer satisfaction
14
ESSEX CORPORATION
and receive additional work. In addition, since the reimbursable costs include
both direct and indirect costs, the Company must determine that the indirect
costs are properly accounted for and allocated in accordance with government
cost accounting requirements. On fixed price service contracts, the Company must
determine that the costs incurred provide a proportionate amount of progress on
the work and that the ultimate costs incurred will not overrun the funding on
the contract and the required hours will be delivered. On fixed price product
orders, revenue is not recorded until the Company determines that the goods have
been delivered and accepted by the customer. On time and material contracts,
revenue is recognized to the extent of billable rates multiplied by hours
delivered, plus other direct costs. This is generally the most straightforward
revenue computation. The Company uses historical technical performance
experience where applicable to evaluate progress on fixed price and cost plus
fixed fee jobs. The Company uses historical government audit experience in the
indirect cost area to evaluate the propriety and expected recovery of its
indirect costs on cost plus fixed fee contracts.
RESEARCH AND DEVELOPMENT
The Company has expended significant amounts for research and development for
new products. In accordance with generally accepted accounting principles, the
Company expenses and does not capitalize and add to inventory such expenditures.
When product design and prototypes are finalized and product marketability and
viability have been established, expenditures for inventory are treated
accordingly. There is a judgmental aspect to this decision which could result in
the over-expensing in some cases or the early capitalization in other cases of
such expenditures. The Company had no inventory balance as of June 27, 2004.
GOODWILL AND OTHER INTANGIBLE ASSETS
The Company's business acquisitions typically result in goodwill and other
intangible assets, which affect the amount of future period amortization expense
and possible impairment expense that the Company will incur. The Company has
adopted Statement of Financial Accounting Standards ("SFAS") No. 142 "Goodwill
and Other Intangible Assets", which requires that the Company, on an annual
basis, calculate the fair value of the reporting units that contain the goodwill
and compare that to the carrying value of the reporting unit to determine if
impairment exists. Impairment testing must take place more often if
circumstances or events indicate a change in the impairment status. Management
judgment is required in calculating the fair value of the reporting units.
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ESSEX CORPORATION
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, the percentage of
items in the statement of operations in relation to total revenue (or respective
revenue with regard to cost of goods sold).
Six Months Ended Quarterly Periods Ended
(unaudited) (unaudited)
------------------------------------------- -------------------------------------------
June 27, 2004 June 29, 2003 June 27, 2004 June 29, 2003
------------------- -------------------- ------------------- --------------------
Revenues: % % % % % % % %
Services and
products 65.5 100.0 70.6 100.0
Purchased
hardware 34.5 -- 29.4 --
------- ------- ------- -------
Total 100.0 100.0 100.0 100.0
Costs of goods sold
and services
provided:
Services and
products (75.4) (65.2) (76.1) (63.1)
======= ======= ======= =======
Purchased (98.4) -- (98.6) --
hardware ======= ======= ======= =======
Total (83.3) (65.2) (82.7) (63.1)
------- -------- ------- -------
Gross Margin 16.7 34.8 17.3 36.9
Selling, general and
administrative
expenses (13.0) (27.8) (13.1) (29.0)
Research and
development (1.3) (3.2) (1.5) (2.3)
Amortization of
other intangible
assets (0.5) (2.4) (0.6) (3.1)
------- -------- ------- -------
Operating income 1.9 1.4 2.1 2.5
Interest income
(expense), net 0.4 (0.6) 0.2 (0.7)
------- -------- ------- -------
Income before income 2.3 0.8 2.3 1.8
taxes
Provision for income
taxes 0.0 0.0 0.0 0.0
------- -------- ------- -------
Net income 2.3 0.8 2.3 1.8
======= ======== ======= =======
REVENUES. Total revenues were $34.8 million and $7.1 million in the first six
months of fiscal 2004 and 2003, respectively. Total revenues were $20.6 million
and $4.1 million in the second quarters of fiscal 2004 and 2003, respectively.
The key factors for the higher revenue were the increased activity on the
October 2003 $57.0 million multi-year award and the January 2004 $4.5 million
two-year award for software and systems engineering and the delivery of custom
systems to national priority programs. Revenues from these two awards in the
first half of 2004 were $24.9 million and $2.1 million, respectively. Of this
total $27.0 million, $12.0 million was for purchased hardware. Revenues from
these two awards in the second quarter of 2004 were $15.6 million and $500,000,
respectively. Of this total $16.1 million, $6.1 million was for purchased
hardware. There was no comparable purchased hardware revenue in the first half
of 2003. The Company had $1.1 million in service and products revenue in the
second quarter of 2004 for the 2 months of operations from its acquisition of
CSI.
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ESSEX CORPORATION
COST OF GOODS SOLD AND SERVICES PROVIDED ("CGS"). Total CGS increased $24.3
million to $29.0 million for the first six months of 2004 from $4.7 million for
the comparable period in 2003. As a percentage of total revenues, total CGS was
approximately 83.3% for the first half of 2004, compared to approximately 65.2%
for the comparable period in fiscal 2003. For services and products revenue, CGS
was 75.4% for the first half of 2004 as compared to 65.2% for the comparable
period in 2003. The increase in CGS reflects increased volume and revenue for
the period. The increase in CGS as a percentage of revenue reflects the change
in the mix of work, primarily related to the two contracts awarded in October
2003 and January 2004. Specifically, upon award and ramp up, a majority of the
revenues under those contracts relate to subcontracts and purchased hardware
which are lower margin. Over time, we anticipate a gradual shift of a portion of
this work to our staff. For the second quarter of 2004, total CGS increased
$14.4 million to $17.0 million from $2.6 million for the comparable period of
2003. As a percentage of total revenues, total CGS was approximately 82.7% for
the second quarter of 2004 as compared to 63.1% for the comparable period in
2003. For services and products revenue, CGS was 76.1% for the second quarter of
2004 as compared to 63.1% for the comparable period in 2003. For purchased
hardware revenues, CGS was 98.4% and 98.6% in the first six months and second
quarter of 2004, respectively, and there were no comparable purchases in the
first six months and second quarter of 2003. These second quarter results also
reflect the higher volume and increased subcontractor and purchased hardware
components discussed above.
Overall margins increased from the end of first quarter of 2004 to the end of
second quarter of 2004 from 15.8% to 16.7% due to a change in the mix of
products and services provided with an increase in our higher margin services
revenue relative to our purchased hardware revenue.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses (SG&A) increased $2.5 million to $4.5 million for the
first six months of 2004 from $2.0 million for the comparable period in 2003.
For the second quarter of 2004, SG&A increased $1.5 million to $2.7 million from
$1.2 million for the comparable period in 2003. SG&A has increased to support
the higher volume of business as well as including the SG&A of the acquired
businesses. SG&A has decreased as a percentage of revenues.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development (R&D) expenses
increased $221,000 to $447,000 in the first six months of 2004 compared to
$226,000 in the comparable period in 2003. For the second quarter of 2004, R&D
increased $213,000 to $307,000 compared to $94,000 in the comparable period in
2003. The Company incurred the majority of its research and development on
efforts related to optical communications technology and had incurred R&D since
May 2004 in the newly-acquired CSI operation.
AMORTIZATION OF OTHER INTANGIBLE ASSETS. During the first six months of 2004,
amortization of other intangible assets was $162,000, which was primarily
related to the CSI acquisition. There was $174,000 of amortization costs in the
comparable period in 2003 relating to the SDL acquisition. For the second
quarters of 2004 and 2003, amortization was $127,000 and $128,000, respectively.
The amortization of other intangibles related to the SDL acquisition was
substantially complete in the first quarter of 2004.
17
ESSEX CORPORATION
NET INTEREST INCOME (EXPENSE). Net interest income was $125,000 in the first six
months of 2004 compared to net interest expense of $43,000 in the comparable
period in 2003. For the second quarter of 2004, net interest income was $49,000
compared to net interest expense of $28,000 in the comparable period in 2003.
The net interest income reflects the temporary investment of the proceeds from
the stock offering.
NET INCOME. The Company recorded net income of $480,000 and $75,000 in the
second quarters of 2004 and 2003, respectively. Net income was $792,000 and
$54,000 in the first six month periods of 2004 and 2003, respectively. The
Company is in a net operating loss carryforward position for book and tax
purposes. No provision for or benefit from income taxes was recognized in the
first six months of 2004 or 2003 due to the net operating loss carryforwards. We
adjusted our income tax valuation reserves accordingly during these periods.
BACKLOG
As of June 27, 2004, the Company had total contract backlog, funded and
unfunded, of approximately $92.0 million as compared with $112.8 million at
December 28, 2003. Of these amounts, funded backlog was $31.2 million and
unfunded backlog was $60.8 million at June 27, 2004 compared to $15.0 million
and $97.8 million, respectively, at fiscal year end 2003. Of the unfunded
backlog at June 27, 2004, approximately $18.4 million represents the remaining
balance of a $25.0 million U.S. Government Indefinite Delivery Indefinite
Quantity, or IDIQ, contract through May 2007 to provide technology to enhance
Department of Defense radar programs. Unfunded backlog as of June 27, 2004 also
includes the remaining balance of approximately $23.5 million on our $30
million, ten-year contract through 2011 to provide communications systems
support to the intelligence community. Unfunded backlog at June 27, 2004 also
includes the remaining balance of approximately $14.8 million on our $57.1
million multi-year contract for software and systems engineering that we
received in October 2003. Funded backlog generally consists of the sum of all
contract amounts of work for which funding has been approved and contracts
signed, less the value of work performed under such contracts.
FINANCIAL CONDITION - LIQUIDITY AND CAPITAL RESOURCES
Our primary liquidity and capital resource needs are to finance the costs of our
operations including research and development, to make capital expenditures, and
to finance acquisitions. Based upon our current level of operations, we expect
that our cash flow from operations and amounts of cash on hand will be adequate
to meet our anticipated needs for the foreseeable future.
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ESSEX CORPORATION
The Company evaluates its liquidity position using various factors. The
following represents some of the more important factors:
SELECTED FINANCIAL DATA AS OF
(In thousands)
---------------------------------------------
June 27, December 28, June 29,
2004 2003 2003
------------ ------------ ------------
Total Assets $ 47,675 $ 39,726 $ 7,911
============ ============ ============
Working Capital $ 22,800 $ 32,971 $ 1,123
============ ============ ============
Current Ratio 3.63:1 12.06:1 1.40:1
============ ============ ============
Advance from Accounts Receivable
Financing $ -- $ -- $ 472
Capital Leases 47 4 18
Convertible Debt -- -- 500
Other Debt -- 100 100
------------ ------------ ------------
Total Debt/Financing $ 47 $ 104 $ 1,090
============ ============ ============
Shareholders' Equity $ 38,986 $ 36,745 $ 4,484
============ ============ ============
During the first six months of 2004, net cash used in operating activities was
$2.5 million. Cash provided from net income and non cash depreciation,
amortization and other charges of approximately $1.2 million was offset by an
increase in accounts receivable and prepaids net of the change in accounts
payable and accrued items of $3.7 million. The increase in accounts receivable
during the first six months of 2004 was due to the increase in sales and does
not reflect any significant change in payment cycle. Payments of $3.9 million
were received within 9 days after the end of the second quarter of 2004 on our
largest program. Also, accounts receivable at the end of the second quarter
includes $1.5 million of receivables purchased from an acquisition.
During the first six months of 2004, net cash used in investing activities was
$14.7 million, of which $14.2 million was for the acquisitions of CSI and
substantially all of the assets of PGI. The Company also expended $479,000 for
property, equipment and leaseholds improvements to support our growing work
force. The Company's working capital at June 27, 2004 decreased to $22.8 million
from $33.0 million at fiscal year end 2003. The decrease was primarily a result
of the acquisitions of CSI and assets of PGI for cash.
During the first six month period of fiscal 2004, net cash provided by financing
activities of $1.3 million resulted primarily from the sale of common stock and
proceeds from exercises of stock options. (See Note 3 - Common Stock.)
The Company expects to satisfy its operating cash requirements for the remainder
of 2004 from its existing cash balance.
19
ESSEX CORPORATION
INFLATION
Because of the Company's substantial activities in professional services and
product development, the Company is more labor intensive than firms involved
primarily in industrial activities. To attract and maintain higher caliber
professional staff, the Company must structure its compensation programs
competitively. The wage demand effect of inflation is felt almost immediately in
the Company's costs; however, the net effect during the periods presented is
minimal.
The inflation rate in the United States generally has little impact on the
Company's cost-reimbursable type contracts and other short-term contracts. For
longer-term, fixed-price and time and material type contracts, the Company
endeavors to protect its margins by including cost escalation provisions or
other specific inflation protective terms in these contracts.
THE PRECEDING PARAGRAPHS DISCUSSING THE COMPANY'S FINANCIAL CONDITION CONTAIN
FORWARD-LOOKING STATEMENTS. THE FACTORS AFFECTING THE ABILITY OF THE COMPANY TO
MEET ITS FUNDING REQUIREMENTS AND MANAGE ITS CASH RESOURCES INCLUDE, AMONG OTHER
THINGS, THE AMOUNT AND TIMING OF PRODUCT SALES, INVENTORY TURNOVER, THE
MAGNITUDE OF FIXED COSTS, SALES GROWTH AND THE ABILITY TO OBTAIN WORKING
CAPITAL, ALL OF WHICH INVOLVE RISKS AND UNCERTAINTIES THAT ARE DIFFICULT TO
PREDICT.
20
ESSEX CORPORATION
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company had no debt outstanding as of June 27, 2004.
ITEM 4. CONTROLS AND PROCEDURES
Based on their most recent evaluation, Leonard E. Moodispaw, the Company's Chief
Executive Officer and Lisa G. Jacobson, the Company's Chief Financial Officer,
have concluded that the Company's disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) as of the end of the period covered by
this report are effective to ensure that information required to be disclosed by
the Company in this report is accumulated and communicated to the Company's
management, including its principal executive officer and principal financial
officer, as appropriate, to be recorded, processed, summarized and reported
within the time periods specified by the Securities and Exchange Commission's
rules and forms.
There were no significant changes in the Company's internal controls or other
factors that materially affected, or are reasonably likely to materially affect,
these controls subsequent to the date of their evaluation and there were no
corrective actions with regard to significant deficiencies and material
weaknesses.
21
ESSEX CORPORATION
PART II - OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit 31.1 - Certification by the Chief Executive Officer
Pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002
Exhibit 31.2 - Certification by the Chief Financial Officer
Pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002
Exhibit 32.1 - Certification by the Chief Executive Officer
Pursuant to 18 U.S.C. Section 1350 Adopted
Pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002 *
Exhibit 32.2 - Certification by the Chief Financial Officer
Pursuant to 18 U.S.C. Section 1350 Adopted
Pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002 *
*These exhibits are being "furnished" with this periodic report and are not
deemed "filed" with the Securities and Exchange Commission and are not
incorporated by reference in any filing of the Company under the Securities
Act of 1933 or the Securities Exchange Act of 1934, whether made before or
after the date hereof and irrespective of any general incorporation by
reference language in any such filing.
(b) Reports on Form 8-K
(1) Form 8-K dated March 29, 2004 filing of Company's press
release which announced that trading of shares of common
stock of Essex Corporation will move to the NASDAQ
National Market upon market opening on Wednesday March,
31, 2004 under the symbol "KEYW".
(2) Form 8-K dated April 21, 2004, filing of Company's press
release which announced that it has entered into an
exclusive Letter of Intent to acquire Computer Science
Innovations ("CSI") of Melbourne, Florida.
(3) Form 8-K dated April 26, 2004 filing of Company's press
release which announced the appointment of Dr. Anthony
Johnson as an independent director on Essex's Board of
Directors and that Mr. Frank Manning has retired from
the Board. Mr. Manning, the founder of Essex
Corporation, retains his position as Chairman Emeritus
of Essex.
(4) Form 8-K dated April 28, 2004 filing of Company's press
release which announced the Merger by and among the
Registrant, its wholly-owned subsidiary ("Merger Sub"),
Computer Science Innovations, Inc., a Florida
corporation ("CSI"), and Computer Science Innovations
Employee Stock Ownership Plan, Merger Sub was merged
with and into CSI with CSI as the surviving corporation
(the "Merger"). The Merger became effective as of April
30, 2004.
(5) Form 8-K dated May 4, 2004 filing of Company's press
release which announced the Corporation's financial
results for the three months ended March 28, 2004.
(6) Form 8-K dated June 7, 2004 filing of the Company's
press release which announced that it has entered into a
definitive agreement to acquire substantially all of the
assets of Performance Group, Inc. ("PGI") of
Fredericksburg, Virginia.
22
ESSEX CORPORATION
(7) Form 8-K/A dated June 25, 2004 filing of the Computer
Science Innovations, Inc. Financial Statements for the
years ended March 31, 2004 and 2003, together with
Auditors' Report and Pro Forma Financial Information
(unaudited).
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ESSEX CORPORATION
(Registrant)
Date: August 10, 2004
/S/ LISA G. JACOBSON
------------------------------
Lisa G. Jacobson
Executive Vice President and Chief Financial Officer
(Ms. Jacobson is the Principal Financial and Chief Accounting Officer of the
Registrant and has been duly authorized to sign on behalf of the Registrant.)
23