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| ATCO > SEC Filings for ATCO > Form 10-K on 4-Dec-2008 | All Recent SEC Filings |
4-Dec-2008
Annual Report
The discussion and analysis set forth below in this section should be read in conjunction with the information presented in other sections of this Annual Report on Form 10-K, including "Item 1. Business," "Item 1A. Risk Factors," and "Item 8. Financial Statements and Supplementary Data." This discussion contains forward-looking statements which are based on our current expectations and industry experience, as well as our perception of historical trends, current market conditions, current economic data, expected future developments and other factors that we believe are appropriate under the circumstances. These statements involve risks and uncertainties that could cause actual results to differ materially from those suggested in the forward-looking statements.
Overview
We are a pioneer of highly intelligible, high clarity directed sound technologies and products. We aggressively seek to create markets for our products, and we are increasing our focus on and investment in worldwide sales and marketing activities while we continue to innovate.
In fiscal 2008, we completed the development and introduced a new generation of LRAD products called the LRAD-X. Our new LRAD-X products use directionality and focused acoustic output to clearly transmit critical information, instructions and warnings 500 meters and beyond. The LRAD-X product line can be manually operated or integrated into a remotely controlled security network's command and control center. Through the use of powerful voice commands and deterrent tones, large safety zones can be created while determining the intent and influencing the behavior of an intruder. Our LRAD-X products are the industry's loudest, most intelligible line of directed acoustic hailing and warning devices (AHDs), and feature rugged, weatherproof construction and enhanced voice, tone and frequency response. Our new product line includes the following:
• LRAD 1000X-selected by the U.S. Navy as its AHD for Block 0 of the Shipboard Protection System-can be manually operated to provide long distance hailing and warning with highly intelligible communication.
• LRAD 500X-selected by the U.S. Navy and U.S. Army as their AHD for small vessels and vehicles-is lightweight and can be easily transported to provide security personnel long-range communications and a highly effective hailing and warning capability where needed.
• LRAD 100X is designed for use in a variety of mass notification and commercial security applications. It is ideally suited for short-range perimeter security and it adds highly intelligible sound/communication resources into traditional camera-based security networks in an integrated package.
• LRAD-RX is our prescription for remotely controlled security. It enables system operators to detect and communicate with an intruder over long distances. LRAD-RX features an LRAD 1000X emitter head, integrated camera, high-intensity searchlight and a newly developed, robust, and IP-addressable full pan and tilt drive system for precise aiming and tracking. LRAD-RX can also be integrated with radar to provide automated intruder alerts. Because of its automated capabilities, LRAD-RX reduces manpower and false alarms while providing an intelligent, cost-effective security solution.
We incurred $3.4 million of research and development expense during fiscal 2008, an increase of 47% over the prior year. Much of the increase is attributable to the development of our enhanced LRAD-X product line. These products have been well received by our military customers and interest has been strong for other potential applications. We believe these products provide increased opportunities in government and commercial markets and allow us to continue as the leader in this market. Initial shipments of LRAD-X products began in March 2008 with our first deliveries to the U.S. Navy. The final product in the LRAD-X product line, the more portable LRAD 100X, launched in the beginning of the fourth quarter.
We incurred net losses of $6,360,276 and $5,560,848 in the fiscal years ended September 30, 2008 and 2007, respectively. We have substantial research and development and selling, marketing and general
administrative expenses, and our margins from the sale of our products have not yet been sufficient to offset these costs. We have developed an operating plan for fiscal 2009 and believe we have adequate financial resources to execute the plan and to sustain operations for the next twelve months. Our operating plan includes (a) growing revenues by focusing on direct sales to larger commercial and defense related companies, (b) improving product margins by reducing unit product costs and monitoring manufacturing overhead, and (c) controlling research and development and selling and administrative costs. Nevertheless, our operating results will depend on future product sales levels and other factors, some of which are beyond our control. If required, we have flexibility to take remedial actions to adjust the level of research and development and selling, general and administrative expenses.
Business Outlook
We recorded revenues of $11.2 million for the fiscal year ended September 30, 2008, a 13% increase over prior year's revenues of $9.9 million. Gross profit improved from $3.4 million (34% of revenue) in the year ended September 30, 2007 to $4.4 million (39% of revenue) in the year ended September 30, 2008. In fiscal year 2007, our gross profit margin was negatively impacted by an inventory reserve adjustment of $1.3 million due to a restructured order from a large HSS customer. This impact was partially offset by a change in our estimate of warranty reserve for the LRAD product line, resulting in a favorable adjustment of $304,000. In fiscal year 2008, our gross profit margin was favorably impacted by increased unit shipments in the amount of $792,000, offset by start-up production costs on initial shipments of the new LRAD-X product line. We expect LRAD gross profit margins to improve as production volume increases. Our operating loss for our fiscal year ended September 30, 2008 increased by $509,000 to $6.4 million primarily due to increased research and development and non-cash share-based compensation expenses.
In fiscal 2008, our operating expenses of $10.9 million represented an increase of $1.5 million compared to the prior year. Fiscal 2008 operating expenses included $2.2 million of non-cash share-based compensation costs under Statement of Financial Accounting Standard No. 123(R), an increase of $818,000 from the prior year. In addition, we increased spending in research and development by $516,000 to develop and launch the LRAD-X product line and increased the impairment of patents by $319,000. These increases were partially offset by decreased legal, auditing and accounting costs of $439,000 from the prior year.
In fiscal year 2009, we anticipate our revenues will grow, primarily due to the increased acceptance of our LRAD, HSS and SoundSaber products. We believe we have a solid technology and product foundation for business growth. We have had positive response to our new LRAD-X product line and we have additional technologies and products planned for fiscal 2009. We have strong market opportunities within the government and military sector, as well as increased commercial applications, especially with continued global threats to both governments and commerce where our LRAD products have proven to be effective at hailing and notification for force and asset protection. Our selling network has expanded to include a number of key integrators and sales representatives within the United States, as well as in a number of worldwide locations. However, we may face challenges in fiscal 2009 from extreme international market conditions that are severely restricting credit and disrupting major economies. A further and continued deterioration in financial markets and confidence in major economies could disrupt the operation of our business.
Critical Accounting Policies and Estimates
We have identified the policies below as critical to our business operations and
to understanding our results of operations. Our accounting policies are more
fully described in our financial statements and related notes located in "Item
8. Financial Statements and Supplementary Data." The impact and any associated
risks related to these policies on our business operations are discussed in
"Item 1A. Risk Factors" and throughout Management's Discussion and Analysis of
Financial Condition and Results of Operations when such policies affect our
reported and expected financial results.
The methods, estimates and judgments we use in applying our accounting policies, in conformity with generally accepted accounting principles in the United States, have a significant impact on the results we report in our financial statements. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. These estimates affect the carrying values of assets and liabilities. Actual results may differ from these estimates under different assumptions or conditions.
Revenue Recognition. We currently derive our revenue primarily from two sources:
(i) component and product sale revenues and associated engineering and
installation, which we refer to collectively as product sales and (ii) contract
and license fee revenues. Product sales revenues are recognized in the periods
that products are shipped to customers (FOB shipping point) or when product is
received by the customer (FOB destination), when the fee is fixed and
determinable, when collection of resulting receivables is probable and there are
no remaining obligations on our part. Revenues from engineering contracts are
recognized based on milestones or completion of the contracted services.
Revenues from up-front license and other fees and annual license fees are
evaluated for multiple elements but are generally recognized ratably over the
specified term of the particular license or agreement. Revenues from ongoing per
unit license fees are earned based on units shipped by the licensee
incorporating our patented proprietary technologies. Revenues are recognized in
the period when the ultimate customer accepts the product and collectability is
reasonably assured.
Share-Based Compensation. We account for share-based compensation in accordance with the provisions of Statement of Financial Accounting Standards No. 123(R), "Share-Based Payments" ("SFAS No. 123(R)"), using the modified prospective method which requires the measurement and recognition of compensation expense for all share-based payment awards made to employees and directors based on estimated fair values. SFAS No. 123(R) requires the use of subjective assumptions, including expected stock price volatility and the estimated term of each award. Under SFAS No. 123(R), we estimate the fair value of stock options granted using the Black-Scholes option-pricing model, which is then amortized on a straight-line basis over the requisite service periods of the awards, which is generally the vesting period. This model also utilizes the fair value of our common stock and requires that, at the date of grant, we use the expected term of the share-based award, the expected volatility of the price of our common stock over the expected term, the risk free interest rate and the expected dividend yield of our common stock to determine the estimated fair value. We determine the amount of share-based compensation expense based on awards that we ultimately expect to vest, reduced for estimated forfeitures. SFAS No. 123(R) requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. Share-based compensation expense includes awards granted prior to, but not yet vested as of September 30, 2005, based on the grant date fair value estimated in accordance with the pro forma provisions of SFAS No. 123 and compensation expense for awards granted subsequent to September 30, 2005 based on the grant date fair value estimated in accordance with the provisions of SFAS No. 123(R).
We account for equity instruments issued in exchange for the receipt of goods or services from non-employees in accordance with the consensus reached by the EITF in Issue No. 96-18, "Accounting for Equity Instruments That are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services." Costs are measured at the fair market value of the consideration received or the fair value of the equity instruments issued, whichever is more reliably measurable. The value of equity instruments issued for consideration other than employee services is determined on the earlier of the date on which there first exists a firm commitment for performance by the provider of goods or services or on the date performance is complete.
Allowance for doubtful accounts. Our products are sold to customers in many different markets and geographic locations. We estimate our bad debt reserve on a case-by-case basis due to a limited number of customers. We base these estimates on many factors including customer credit worthiness, past transaction history with the customer, current economic industry trends and changes in customer payment terms. Our judgments and estimates regarding collectability of accounts receivable have an impact on our financial statements.
Valuation of Inventory. Our inventory is comprised of raw materials, assemblies and finished products. We must periodically make judgments and estimates regarding the future utility and carrying value of our inventory. The carrying value of our inventory is periodically reviewed and impairments, if any, are recognized when the expected future benefit from our inventory is less than its carrying value. For the fiscal year ended September 30, 2008, we reviewed the carrying value of our inventory and increased the inventory reserve by $217,329 primarily to reserve for excess HSS components and certain other slow moving components associated with our older generation of products and changes in demand.
Valuation of Intangible Assets. Intangible assets consist of patents that are amortized over their estimated useful lives. We must make judgments and estimates regarding the future utility and carrying value of intangible assets. The carrying values of such assets are periodically reviewed and impairments, if any, are recognized when the expected future benefit to be derived from an individual intangible asset is less than its carrying value. In fiscal year ended September 30, 2008, we reviewed the carrying value of our intangible assets and reduced it by $372,615 due to certain assets that are no longer consistent with our business strategy and whose expected future value has decreased.
Warranty Reserve. We establish a warranty reserve based on anticipated warranty claims at the time product revenue is recognized. This reserve requires us to make estimates regarding the amount and costs of warranty repairs we expect to make over a period of time. Factors affecting warranty reserve levels include the number of units sold, anticipated cost of warranty repairs, and anticipated rates of warranty claims. In the fiscal year ended September 30, 2007, we analyzed our warranty rate for our LRAD product and reduced the reserve rate by $304,000 based on historical experience. The warranty reserve at September 30, 2008 was $235,174, compared to $182,247 as of September 30, 2007. We evaluate the adequacy of this reserve each reporting period.
Deferred Tax Asset. We have provided a full valuation reserve related to our substantial deferred tax assets. In the future, if sufficient evidence of our ability to generate sufficient future taxable income in certain tax jurisdictions becomes apparent, we may be required to reduce our valuation allowances, resulting in income tax benefits in our consolidated statement of operations. We evaluate quarterly the realizability of the deferred tax assets and assess the need for a valuation allowance. Utilizing the net operating loss carry forwards in future years could be substantially limited due to restrictions imposed under federal and state laws upon a change in ownership or control. Included in the net operating loss carryforward are deductions from stock options that if recognized will be recorded as a credit to additional paid-in capital rather than through operations.
Recent Accounting Pronouncements
A number of new pronouncements have been issued for future implementation as
discussed in the notes to our consolidated financial statements located in "Item
8. Financial Statements and Supplementary Data." See page 42 of our consolidated
financial statements for further discussion.
Segment Information
We are engaged in the design, development and commercialization of directed sound technologies and products. We present our business as one reportable segment due to the similarity in nature of products marketed, financial performance measures (revenue growth and gross margin), methods of distribution (direct and indirect) and customer markets (each product is sold by the same personnel to government and commercial customers, domestically and internationally). Our chief operating decision making officer reviews financial information on sound products on a consolidated basis.
Comparison of Results of Operations for Fiscal Years Ended September 30, 2008 and 2007
Revenues
Revenues increased $1,289,062, or 13%, in the fiscal year ended September 30, 2008 to $11,189,942 compared to $9,900,880 for the fiscal year ended September 30, 2007. Fiscal year 2008 revenues included $10,647,935 of product sales and $542,007 of contract and license and other revenue. Fiscal year 2007 revenues included $9,424,305 of product sales and $476,575 of contract and license revenue. The increase in fiscal year 2008 revenues reflected an increase in LRAD revenue from $7,700,138 in fiscal 2007 to $9,152,962 in fiscal 2008, due primarily to the launch of the new LRAD-X products and expanded sales distribution. HSS revenues decreased from $1,305,583 in fiscal year 2007 to $713,294 in 2008, as demand from certain key customers in the digital signage and in-store broadcasting markets declined.
In fiscal 2005, we entered into a license agreement that contained multiple elements. Based on our evaluation of the agreement under the guidance of EITF Issue No. 00-21, we determined this arrangement did not qualify for multiple element accounting and revenue was recognized ratably over the three-year term of the agreement. We recognized contract revenues of $162,500 and $216,667 for the fiscal years ended September 30, 2008 and 2007, respectively, representing the ratable earned revenue under the three-year agreement. At September 30, 2008, the contract ended and all revenue had been recognized. Subsequent to September 30, 2008, the Company entered into a 60 day agreement with this licensee, whereby the licensee will pay a per unit royalty fee for product sales which use our license. This revenue component is subject to significant variability based on the timing, amount and recognition of new arrangements, if any.
Gross Profit
Gross profit for the year ended September 30, 2008 was $4,410,729, or 39% of total revenues, compared to $3,392,025, or 34% of total revenues, for the year ended September 30, 2007. For the fiscal year ended September 30, 2007, our gross profit was negatively impacted by an adjustment of $1,313,486 for obsolete inventory. This charge was partially offset by a reduction in warranty expense of $304,000 due to a change in estimate for LRAD warranty. For the fiscal year ended September 30, 2008, our gross profit was favorably impacted by increased volume in the amount of $792,000, offset by start-up production costs on initial shipments of the new LRAD-X product line. We expect our LRAD gross profit percentage to improve as production volume increases.
Our products have varying gross margins, so product sales mix materially affects gross profit. In addition, we continue to make product updates and changes, including raw material and component changes that may impact product costs. We do not believe that historical gross profit margins should be relied upon as an indicator of future gross profit margins.
Selling, General and Administrative Expenses
Selling, general and administrative expenses for the year ended September 30, 2008 increased $449,819 to $7,502,641, or 67% of total revenues, compared to $7,052,822, or 71% of total revenues, for the year ended September 30, 2007. The increase in expense is primarily due to a $603,057 increase in non-cash share-based compensation expense, a $315,129 increase in commission expense for outside sales representatives which was partially offset by decreased legal, audit and accounting fees of $439,025.
We incurred non-cash share-based compensation expenses allocated to selling, general and administrative expenses in the fiscal years ended September 30, 2008 and 2007 of $1,872,153 and $1,269,096, respectively.
We may expend additional resources on marketing our products in future periods which may increase selling, general and administrative expenses. During fiscal year 2007, we incurred a significant amount of outside consultant, legal and audit fees to comply with the Sarbanes-Oxley Act (particularly Section 404), relating to
management's assessment of internal control over financial reporting and in 2007 for a voluntary review of our historical stock options and stock grants. We expect to incur continuing audit fees and other costs in fiscal year 2009 to comply with the Sarbanes-Oxley Act and to continue to improve our internal control over financial reporting and procedures.
Research and Development Expenses
Research and development expenses increased $1,078,146 to $3,354,461, or 30% of total revenues, for the year ended September 30, 2008, compared to $2,276,315, or 23% of total revenues, for the year ended September 30, 2007. This increase in research and development expenses was primarily due to $515,798 of cost to develop the new LRAD-X products, $319,420 for the impairment of patents and $214,884 increase in non-cash compensation costs.
Included in research and development expenses for the year ended September 30, 2008 was $363,208 of non-cash share-based compensation costs. A total of $148,324 of non-cash compensation costs was included for the year ended September 30, 2007. During fiscal years 2008 and 2007, we reviewed the ongoing value of our capitalized patent expenses and identified some of these assets as being associated with patents that are no longer consistent with our business strategy. As a result of this review, we reduced the value of our previously capitalized patents for the fiscal years ended September 30, 2008 and 2007 by $372,615 and $88,195, respectively.
Research and development costs vary period to period due to the timing of projects, the availability of funds for research and development and the timing and extent of use of outside consulting, design and development firms. Based on current plans and engineering staffing, we expect fiscal year 2009 research and development costs to be reduced from expenditures made in fiscal year 2008.
Loss From Operations
Loss from operations was $6,446,373 for the year ended September 30, 2008, compared to a loss from operations of $5,937,112 for the year ended September 30, 2007. The increase in loss from operations resulted primarily from the increased research and development and non-cash share-based compensation costs, offset by increased gross profit.
Other Income (Expense)
During the year ended September 30, 2008, we earned $171,537 of interest income on our cash balances. We also incurred $85,440 of other expense for the year ended September 30, 2008 related to liquidated damages in connection with the late filing of our September 30, 2007 Annual Report on Form 10-K. During the year ended September 30, 2007, we earned interest income on our cash balances of $376,264.
Net Loss
Our net loss increased 14% to $6,360,276, or $0.21 per share for the year ended September 30, 2008, compared to a net loss of $5,560,848, or $0.18 per share, for the year ended September 30, 2007.
Liquidity and Capital Resources
We continue to experience significant negative cash flow from operating activities that includes developing, introducing and marketing our proprietary sound technologies. We have financed our working capital requirements through financing activities in prior years and through cash generated from product sales, contract and license fees. Cash and cash equivalents at September 30, 2008 was $2,694,869 compared to $6,414,537 at September 30, 2007. The decrease in cash was primarily the result of the operating loss.
Other than cash and cash equivalents and our balance of accounts receivable, we have no other unused sources of liquidity at this time.
Principal factors that could affect the availability of our internally generated funds include:
• ability to meet sales projections;
• government spending levels;
• introduction of competing technologies;
• product mix and effect on margins;
• ability to reduce and manage inventory levels; and
• product acceptance in new markets.
Principal factors that could affect our ability to obtain cash from external sources include:
• volatility in the capital markets; and
• market price and trading volume of our common stock.
Based on our current cash position, our order backlog, and assuming currently planned expenditures and current level of operations, we believe we have sufficient capital to fund operations for the next twelve months. However, we operate in a rapidly evolving and often unpredictable business environment that may change the timing or amount of expected future cash receipts and expenditures. Accordingly, there can be no assurance that we may not be required to raise additional funds through the sale of equity or debt securities or from credit facilities. Additional capital, if needed, may not be available on satisfactory terms, if at all.
Cash Flows
Operating Activities
Our net cash used in operating activities was $3,409,932 for the fiscal year ended September 30, 2008 compared to $4,132,937 for the fiscal year ended September 30, 2007. Cash used in operating activities for the fiscal year ended September 30, 2008 included the $6,360,276 net loss, reduced by expenses not requiring the use of cash of $3,451,191, a $1,291,426 increase in accounts receivable and a $158,583 increase in warranty settlements. Cash generated from operating activities included $695,199 decrease in inventory, $192,273 increase in accounts payable, $8,176 decrease in prepaid expenses and a $53,514 increase in accrued liabilities. Cash used in operating activities for the fiscal year ended September 30, 2007 included the $5,560,848 net loss, reduced by expenses not requiring the use of cash of $2,815,756, a $1,132,385 reduction in accounts payable, increased inventory of $679,175, increased warranty settlements of $546,166, a $485,201 decrease in accrued liabilities, and a $15,770 increase in prepaid expenses. Cash was generated from a $1,470,852 decrease in accounts receivable.
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