FREQUENCY ELECTRONICS, INC. and SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
(Unaudited)
NOTE A – CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
In the opinion of management of Frequency Electronics, Inc. (“the Company”), the accompanying unaudited condensed consolidated interim financial statements reflect all adjustments (which include only normal recurring adjustments) necessary to present fairly, in all material respects, the consolidated financial position of the Company as of July 31, 2016 and the results of its operations and cash flows for the three months ended July 31, 2016 and 2015. The April 30, 2016 condensed consolidated balance sheet was derived from audited financial statements. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted. It is suggested that these condensed consolidated financial statements be read in conjunction with the financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the year ended April 30, 2016, filed on July 29, 2016. The results of operations for such interim periods are not necessarily indicative of the operating results for the full fiscal year.
NOTE B – EARNINGS PER SHARE
Reconciliation of the weighted average shares outstanding for basic and diluted Earnings Per Share are as follows:
|
|
Three months ended July 31,
|
|
|
|
|
|
|
|
|
|
|
2016
|
|
|
2015
|
|
Weighted average shares outstanding:
|
|
|
|
|
|
|
Basic
|
|
|
8,762,355
|
|
|
|
8,706,185
|
|
Effect of dilutive securities
|
|
|
**
|
|
|
|
277,852
|
|
Diluted
|
|
|
8,762,355
|
|
|
|
8,984,037
|
|
** For the three-month period ended July 31, 2016, dilutive securities are excluded since the inclusion of such shares would be antidilutive due to the net loss for the period. The exercisable shares excluded are 1,200,625.
The computation of diluted earnings per share in the other fiscal periods excludes those options and stock appreciation rights (“SARS”) with an exercise price in excess of the average market price of the Company’s common shares during the periods presented. The inclusion of such options and SARS in the computation of earnings per share would have been antidilutive. The number of excluded options and SARS were:
|
|
Three months ended July 31,
|
|
|
|
|
|
|
|
|
|
|
2016
|
|
|
2015
|
|
Outstanding options and SARS excluded
|
|
|
**
|
|
|
|
330,500
|
|
NOTE C – COSTS AND ESTIMATED EARNINGS IN EXCESS OF BILLINGS, NET
At July 31, 2016 and April 30, 2016, costs and estimated earnings in excess of billings, net, consist of the following:
|
|
July 31, 2016
|
|
|
April 30, 2016
|
|
|
|
(In thousands)
|
|
Costs and estimated earnings in excess of billings
|
|
$
|
12,451
|
|
|
$
|
12,460
|
|
Billings in excess of costs and estimated earnings
|
|
|
(407
|
)
|
|
|
(83
|
)
|
Net asset
|
|
$
|
12,044
|
|
|
$
|
12,377
|
|
Such amounts represent revenue recognized on long-term contracts that had not been billed at the balance sheet dates or represent a liability for amounts billed in excess of the revenue recognized. Amounts are billed to customers pursuant to contract terms, whereas the related revenue is recognized on the percentage of completion basis at the measurement date. In general, the recorded amounts will be billed and collected or revenue recognized within twelve months of the balance sheet date. Revenue on these long-term contracts is accounted for on the percentage of completion basis. During the three months ended July 31, 2016 and 2015, revenue recognized under percentage of completion contracts was approximately $7.3 million and $9.3 million, respectively.
If contract losses are anticipated, costs and estimated earnings in excess of billings are reduced for the full amount of such losses when they are determinable.
FREQUENCY ELECTRONICS, INC. and SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
(Unaudited)
NOTE D – TREASURY STOCK TRANSACTIONS
During the three month period ended July 31, 2016, the Company made contributions of 14,365 shares of its common stock held in treasury to the Company’s profit sharing plan and trust under section 401(k) of the Internal Revenue Code. Such contributions are in accordance with the Company’s discretionary match of employee voluntary contributions to this plan. During the same periods, the Company issued 667 shares from treasury upon the exercise of SARs by certain officers and employees of the Company.
NOTE E – INVENTORIES
Inventories, which are reported at the lower of cost or market, consist of the following:
|
|
July 31, 2016
|
|
|
April 30, 2016
|
|
|
|
(In thousands)
|
|
Raw Materials and Component Parts
|
|
$
|
26,014
|
|
|
$
|
25,110
|
|
Work in Progress
|
|
|
12,226
|
|
|
|
12,042
|
|
Finished Goods
|
|
|
4,342
|
|
|
|
4,126
|
|
|
|
$
|
42,582
|
|
|
$
|
41,278
|
|
As of July 31, 2016 and April 30, 2016, approximately $36.6 million and $35.3 million, respectively, of total inventory is located in the United States, approximately $5.0 million and $5.0 million, respectively, is located in Belgium and $1.0 million and $1.0 million, respectively, is located in China.
The Company buys inventory in bulk quantities which may be used over significant time periods; due to its nature the inventory does not deteriorate.
NOTE F – SEGMENT INFORMATION
The Company operates under three reportable segments based on the geographic locations of its subsidiaries:
(1) FEI-NY – operates out of New York and its operations consist principally of precision time and frequency control products used in three principal markets- communication satellites (both commercial and U.S. Government-funded); terrestrial cellular telephone or other ground-based telecommunication stations and other components and systems for the U.S. military.
(2) Gillam-FEI - operates out of Belgium and France and primarily sells wireline synchronization and network management systems in non-U.S. markets. All sales from Gillam-FEI to the United States are to other segments of the Company.
(3) FEI-Zyfer – operates out of California and its products incorporate Global Positioning System (GPS) technologies into systems and subsystems for secure communications, both government and commercial, and other locator applications. This segment also provides sales and support for the Company’s wireline telecommunications family of products, including US5G, which are sold in the United States market.
The FEI-NY segment also includes the operations of the Company’s wholly-owned subsidiaries, FEI-Elcom Tech (“FEI-Elcom”) and FEI-Asia. FEI-Asia functions primarily as a manufacturing facility for the Company’s commercial product subsidiaries with historically minimal sales to outside customers. Beginning in late fiscal year 2014, FEI-Asia began shipping higher volumes of product to third parties as a contract manufacturer. FEI-Elcom, in addition to its own product line, provides design and technical support for the FEI-NY segment’s satellite business.
The Company’s chief executive officer measures segment performance based on total revenues and profits generated by each geographic location rather than on the specific types of customers or end-users. Consequently, the Company determined that the segments indicated above most appropriately reflect the way the Company’s management views the business.
FREQUENCY ELECTRONICS, INC. and SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
(Unaudited)
The tables below present information about reported segments with reconciliation of segment amounts to consolidated amounts as reported in the statement of income or the balance sheet for each of the periods (in thousands):
|
|
Three months ended July 31,
|
|
|
|
|
|
|
|
|
|
|
2016
|
|
|
2015
|
|
Revenues:
|
|
|
|
|
|
|
FEI-NY
|
|
$
|
9,982
|
|
|
$
|
13,494
|
|
Gillam-FEI
|
|
|
1,168
|
|
|
|
1,407
|
|
FEI-Zyfer
|
|
|
2,346
|
|
|
|
2,100
|
|
less intercompany revenues
|
|
|
(788
|
)
|
|
|
(321
|
)
|
Consolidated revenues
|
|
$
|
12,708
|
|
|
$
|
16,680
|
|
Operating (loss) profit :
|
|
|
|
|
|
|
FEI-NY
|
|
$
|
(67
|
)
|
|
$
|
1,087
|
|
Gillam-FEI
|
|
|
(494
|
)
|
|
|
(217
|
)
|
FEI-Zyfer
|
|
|
(185
|
)
|
|
|
123
|
|
Corporate
|
|
|
(50
|
)
|
|
|
(52
|
)
|
Consolidated operating (loss) profit
|
|
$
|
(796
|
)
|
|
$
|
941
|
|
|
|
July 31, 2016
|
|
|
April 30, 2016
|
|
Identifiable assets:
|
|
|
|
|
|
|
FEI-NY (approximately $2.3 and $2.5 million in China)
|
|
$
|
65,720
|
|
|
$
|
62,992
|
|
Gillam-FEI (all in Belgium or France)
|
|
|
9,566
|
|
|
|
9,610
|
|
FEI-Zyfer
|
|
|
12,638
|
|
|
|
13,275
|
|
less intersegment balances
|
|
|
(8,345
|
)
|
|
|
(7,651
|
)
|
Corporate
|
|
|
40,932
|
|
|
|
41,988
|
|
Consolidated identifiable assets
|
|
$
|
120,511
|
|
|
$
|
120,214
|
|
NOTE G – INVESTMENT IN MORION, INC.
The Company has an investment in Morion, Inc., (“Morion”) a privately-held Russian company, which manufactures high precision quartz resonators and crystal oscillators. The Company’s investment consists of 4.6% of Morion’s outstanding shares, accordingly, the Company accounts for its investment in Morion on the cost basis. This investment is included in other assets in the accompanying balance sheets.
During the three months ended July 31, 2016 and 2015, the Company acquired product from Morion in the aggregate amount of approximately $81,000 and $32,000, respectively, and the Company sold product and training services to Morion in the aggregate amount of approximately $10,000 and $423,000, respectively. (See discussion of revenues recognized under the license agreement in the paragraph below.) At July 31, 2016, approximately $29,000 was payable to Morion and accounts receivable from Morion was approximately $33,000.
On October 22, 2012, the Company entered into an agreement to license its rubidium oscillator production technology to Morion. The agreement required the Company to sell certain fully-depreciated production equipment previously owned by the Company and to provide training to Morion employees to enable Morion to produce a minimum of 5,000 rubidium oscillators per year. Morion will pay the Company approximately $2.7 million for the license and the equipment plus 5% royalties on third party sales for a 5-year period following an initial production run. During the same 5-year period, the Company commits to purchase from Morion a minimum of approximately $400,000 worth of rubidium oscillators per year although Morion is not obligated to sell that amount to the Company.
On March 29, 2016, the Company renegotiated the $1 million dollar amendment under the original agreement dated October 22, 2012 to $602,000 due to the U.S. Government easing of export regulations. Of this amount $392,500 was billed and paid during FY 2016. During the three months ended July 31, 2016, sales to Morion included $10,000 under this agreement. The remaining amount will be billed in December 2016.
FREQUENCY ELECTRONICS, INC. and SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
(Unaudited)
NOTE H – FAIR VALUE OF FINANCIAL INSTRUMENTS
The cost, gross unrealized gains, gross unrealized losses and fair market value of available-for-sale securities at July 31, 2016 and April 30, 2016 are as follows (in thousands):
|
|
July 31, 2016
|
|
|
|
Cost
|
|
|
Gross Unrealized Gains
|
|
|
Gross Unrealized Losses
|
|
|
Fair Market Value
|
|
Fixed income securities
|
|
$
|
3,404
|
|
|
$
|
167
|
|
|
$
|
-
|
|
|
$
|
3,571
|
|
Equity securities
|
|
|
7,197
|
|
|
|
1,322
|
|
|
|
(509
|
)
|
|
|
8,010
|
|
|
|
$
|
10,601
|
|
|
$
|
1,489
|
|
|
$
|
(509
|
)
|
|
$
|
11,581
|
|
|
|
April 30, 2016
|
|
|
|
Cost
|
|
|
Gross Unrealized Gains
|
|
|
Gross Unrealized Losses
|
|
|
Fair Market Value
|
|
Fixed income securities
|
|
$
|
3,407
|
|
|
$
|
121
|
|
|
$
|
(6
|
)
|
|
$
|
3,522
|
|
Equity securities
|
|
|
7,197
|
|
|
|
974
|
|
|
|
(582
|
)
|
|
|
7,589
|
|
|
|
$
|
10,604
|
|
|
$
|
1,095
|
|
|
$
|
(588
|
)
|
|
$
|
11,111
|
|
The following table presents the fair value and unrealized losses, aggregated by investment type and length of time that individual securities have been in a continuous unrealized loss position (in thousands):
|
|
Less than 12 months
|
|
|
12 Months or more
|
|
|
Total
|
|
|
|
Fair Value
|
|
|
Unrealized Losses
|
|
|
Fair Value
|
|
|
Unrealized Losses
|
|
|
Fair Value
|
|
|
Unrealized Losses
|
|
July 31, 2016
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed Income Securities
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
-
|
|
Equity Securities
|
|
|
290
|
|
|
|
(7
|
)
|
|
|
2,161
|
|
|
|
(502
|
)
|
|
|
2,451
|
|
|
|
(509
|
)
|
|
|
$
|
290
|
|
|
$
|
(7
|
)
|
|
$
|
2,161
|
|
|
$
|
(502
|
)
|
|
$
|
2,451
|
|
|
$
|
(509
|
)
|
April 30, 2016
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed Income Securities
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
467
|
|
|
$
|
(6
|
)
|
|
$
|
467
|
|
|
$
|
(6
|
)
|
Equity Securities
|
|
|
574
|
|
|
|
(18
|
)
|
|
|
2,232
|
|
|
|
(564
|
)
|
|
|
2,806
|
|
|
|
(582
|
)
|
|
|
$
|
574
|
|
|
$
|
(18
|
)
|
|
$
|
2,699
|
|
|
$
|
(570
|
)
|
|
$
|
3,273
|
|
|
$
|
(588
|
)
|
The Company regularly reviews its investment portfolio to identify and evaluate investments that have indications of possible impairment. The Company does not believe that its investments in marketable securities with unrealized losses at July 31, 2016 are other-than-temporary due to market volatility of the security’s fair value, analysts’ expectations and the Company’s ability to hold the securities for a period of time sufficient to allow for any anticipated recoveries in market value.
During the three months ended July 31, 2016 the Company neither sold nor redeemed available-for-sale securities. During the three months ended July 31, 2015, the Company sold or redeemed available-for-sale securities in the amounts of $713,000, realizing gains of approximately $137,000.
Maturities of fixed income securities classified as available-for-sale at July 31, 2016 are as follows, at cost (in thousands):
Current
|
|
$
|
1,100
|
|
Due after one year through five years
|
|
|
515
|
|
Due after five years through ten years
|
|
|
1,789
|
|
|
|
$
|
3,404
|
|
FREQUENCY ELECTRONICS, INC. and SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
(Unaudited)
The fair value accounting framework provides a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (level 1 measurements) and the lowest priority to unobservable inputs (level 3 measurements). The three levels of the fair value hierarchy are described below:
Level 1
Inputs to the valuation methodology are unadjusted quoted prices for identical assets or liabilities in active markets that the Company has the ability to access.
Level 2
Inputs to the valuation methodology include:
- Quoted prices for similar assets or liabilities in active markets;
- Quoted prices for identical or similar assets or liabilities in inactive markets
- Inputs other than quoted prices that are observable for the asset or liability;
- Inputs that are derived principally from or corroborated by observable market data by correlation or other means.
Level 3
Inputs to the valuation methodology are unobservable and significant to the fair value measurement.
The asset’s or liability’s fair value measurement level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement. Valuation techniques used need to maximize the use of observable inputs and minimize the use of unobservable inputs. All of the Company’s investments in marketable securities are valued on a Level 1 basis.
NOTE I – RECENT ACCOUNTING PRONOUNCEMENTS
In March 2016, the Financial Accounting Standards Board (“FASB”) amended the existing accounting standards for stock-based compensation, Accounting Standards Update (“ASU”) 2016-09,
Compensation-Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting
. The amendments impact several aspects of accounting for share-based payment transactions, including the income tax consequences, forfeitures, classification of awards as either equity or liabilities, and classification on the statement of cash flows. This guidance requires a mix of prospective, modified retrospective, and retrospective transition to all annual and interim periods presented and is effective for the Company beginning in fiscal 2018. The Company has not determined the full impact of implementation of this standard, but does not expect it will have a material effect on the Company’s financial condition or results of operations.
In February 2016, the FASB issued ASU No. 2016-02 Leases (Topic 842). The objective of the update is to increase transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements. The amendments of the ASU 2016-02 are effective for fiscal years beginning after December 31, 2018 and early adoption is permitted. The Company is currently evaluating the impact of this standard on our consolidated financial statements.
In November 2015, the FASB issued ASU No. 2015-17 (“ASU 2015-17”),
Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes
. The amendments in ASU 2015-17 seek to simplify the presentation of deferred income taxes and require that deferred tax liabilities and assets be classified as noncurrent in a classified statement of financial position. ASU 2015-17 is effective for financial statements issued for annual periods beginning after December 15, 2016, and interim periods within those annual periods, with early application permitted for all entities as of the beginning of an interim or annual reporting period. The Company has not determined the full impact of implementation of this standard, but believes it will not be material to net income. The Company believes that the main impact of adoption of the standard will be the reclassification of current deferred tax assets to an increase in noncurrent deferred tax assets for the period ending April 30, 2018.
In July 2015, the FASB issued ASU 2015-11,
Inventory
(Topic 330): Simplifying the Measurement of Inventory
(“ASU 2015-11”) which changes the measurement principle for inventory from the lower of cost or market to the lower of cost or net realizable value. ASU 2015-11 defines net realizable value as estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal and transportation. The new guidance must be applied on a prospective basis and is effective for periods beginning after December 15, 2016, with early adoption permitted. The Company is currently evaluating the effect that the new guidance will have on its consolidated financial statements.
FREQUENCY ELECTRONICS, INC. and SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
(Unaudited)
In August 2014, the FASB issued ASU No. 2014-15
, Presentation of Financial Statements – Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern (“ASU 2014-15”),
which is effective for annual periods after December 15, 2016 and for annual periods and interim periods
thereafter. Early application is permitted. Under ASU 2014-15, entities will be required to formally assess their ability to continue as a going concern and provide disclosures under certain circumstances. While current practice regarding such disclosures is often guided by U.S. auditing standards, the new standard explicitly requires the assessment at interim and annual periods, and provides management with its own disclosure guidance. The standard can be adopted early. The company is currently assessing the impact that adopting these new assessment and disclosure requirements will have on its financial statements and footnote disclosures.
In May 2014, the FASB issued ASU No. 2014-09
, Revenue from Contracts with Customers (Topic 606)
. ASU 2014-09 eliminates most of the existing industry-specific revenue recognition guidance and significantly expands related disclosures. The required disclosures will include both quantitative and qualitative information about the amount, timing and uncertainty of revenue from contracts with customers and the significant judgments used. Entities can retrospectively apply ASU 2014-09 or use an alternative transition method. In July 2015, the FASB approved a one-year deferral of the effective date of this ASU. Although the amending ASU has not yet been issued, since it will be amended, this ASU is effective for public companies for annual reporting periods beginning on or after December 15, 2017 and for the Company, must be adopted for its fiscal year 2019 beginning on May 1, 2018. The Company is in the process of determining the effect that ASU 2014-09 may have on its financial statements.
NOTE J – CREDIT FACILITY
On June 6, 2013, the Company obtained a credit facility (the “Facility”) from JPMorgan Chase Bank, N.A. (“JPMorgan”) pursuant to a credit agreement (the “Credit Agreement”) between the Company and JPMorgan. The maximum aggregate amount of the Facility is $25.0 million. Proceeds from the Facility will be used for working capital and to finance acquisitions. During the year ended April 30, 2015, the Company borrowed an additional $2.3 million under the Facility primarily to finance the acquisition of additional manufacturing equipment and repaid an aggregate of $6.4 million from its operating cash flow and as a result of redemptions of certain fixed income marketable securities.
The Company may make borrowings under the Facility, from either Tranche A or Tranche B or a combination of both, not to exceed $25.0 million. Pursuant to the Credit Agreement, the amount of Tranche A borrowings may not exceed the value of the Pledged Investments (as defined in the Credit Agreement). The amount of Tranche B borrowings may not exceed the lesser of (i) $15.0 million and (ii) the Borrowing Base (as defined in the Credit Agreement). Current outstanding borrowings
of $6.0 million
under the Facility are all under Tranche A. The Facility is fully guaranteed by certain of the Company’s subsidiaries and is secured by, among other things, a pledge of substantially all personal property of the Company and certain of the Company’s subsidiaries.
Borrowings under the Facility are evidenced by a line of credit note (the “Note”) and bear interest, payable monthly, at a rate equal to the LIBOR Rate, as determined from time to time by JPMorgan pursuant to the terms of the Note, plus a margin of 0.75% for Tranche A borrowings and 1.75% for Tranche B borrowings. The principal balance on the Note, along with any accrued and unpaid interest, is due and payable no later than June 5, 2018, which is the maturity date of the Facility. In addition, the Company is required to pay JPMorgan fees equal to 0.1% per annum on any unused portion of the Facility.
The Credit Agreement contains a number of affirmative and negative covenants, including limitations on the incurrence of additional debt, liens on property, acquisitions, loans and guarantees, mergers, consolidations, liquidations and dissolutions, asset sales, and distributions and other payments in respect of the Company’s capital stock. The Credit Agreement also contains certain events of default customary for credit facilities of this type, including nonpayment of principal or interest when due, material incorrectness of representations and warranties when made, breach of covenants, bankruptcy and insolvency, unstayed material judgment beyond specified periods, and acceleration or payment default of other material indebtedness. The Credit Agreement requires the Company to maintain, as of the end of each fiscal quarter, a funded debt to EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization) ratio and an interest charge coverage ratio. The calculation of both ratios is defined in the Credit Agreement. For the period ended July 31, 2016, the Company met the required covenants for its borrowings under Tranche A.
NOTE K – VALUATION ALLOWANCE ON DEFERRED TAX ASSETS
In prior fiscal years, the Company reduced the valuation allowance on the deferred tax assets of its U.S. subsidiaries. Consequently, for the three months ended July 31, 2016 and 2015, the Company recorded provisions for income taxes based on both current taxes due in the United States as well as the tax provision or benefit to be realized from temporary tax differences. As of April 30, 2016, the deferred tax asset valuation allowance was approximately $3.3 million . The valuation allowance is primarily related to deferred tax assets of the Company’s non-U.S.-based subsidiaries and U.S. state investment tax credit carryovers.
FREQUENCY ELECTRONICS, INC. and SUBSIDIARIES