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| AWRE > SEC Filings for AWRE > Form 10-Q on 6-May-2009 | All Recent SEC Filings |
6-May-2009
Quarterly Report
Cautionary Statement for Purposes of the "Safe Harbor" Provisions of the Private Securities Litigation Reform Act of 1995
Some of the information in this Form 10-Q contains forward-looking statements that involve substantial risks and uncertainties. You can identify these statements by forward-looking words such as "may," "will," "expect," "anticipate," "believe," "estimate," "continue" and similar words. You should read statements that contain these words carefully because they: (1) discuss our future expectations; (2) contain projections of our future operating results or financial condition; or (3) state other "forward-looking" information. However, we may not be able to predict future events accurately. The risk factors listed in this Form 10-Q, as well as any cautionary language in this Form 10-Q, provide examples of risks, uncertainties and events that may cause our actual results to differ materially from the expectations we describe in our forward-looking statements. You should be aware that the occurrence of any of the events described in these risk factors and elsewhere in this Form 10-Q could materially and adversely affect our business.
Results of Operations
Product Sales. Product sales consist primarily of revenue from the sale of hardware and software products. Hardware products consist of DSL test and diagnostics hardware, including systems, modules, and modems. Software products consist of software products for biometric, medical imaging and digital imaging applications, as well as DSL test and diagnostics software.
Product sales decreased 28% from $3.9 million in the first quarter of 2008 to $2.8 million in the current year quarter. As a percentage of total revenue, product sales decreased from 67% in the first quarter of 2008 to 62% in the current year quarter. The dollar decrease was primarily due to lower sales of biometric software and test and diagnostics hardware, which was partially offset by increased sales of test and diagnostics software.
Contract Revenue. Contract revenue consists of patent, license and engineering service fees that we receive under agreements relating to the sale or license of Aware's patents, DSL technology, DSL test and diagnostics technology, and biometrics technology.
Contract revenue decreased 16% from $1.5 million in the first quarter of 2008 to $1.3 million in the current year quarter. As a percentage of total revenue, contract revenue increased from 26% in the first quarter of 2008 to 28% in the current year quarter. The dollar decrease was primarily due to lower contract revenue from biometrics technology contracts, which was partially offset by a slight increase in contract revenue from DSL technology contracts. Revenue from biometrics technology contracts was lower in the current year quarter primarily because revenue from a large project that commenced in late 2007 was lower in the current quarter.
Although revenue from DSL technology contracts was slightly higher in the current year quarter, the environment for licensing DSL technology over the last few years has been characterized by uncertainty in the semiconductor and telecommunications industries generally, and intense competition and falling prices for DSL chipsets specifically. During the last several years, we have seen customers and potential customers cautiously evaluate new chipset projects or delay or cancel projects in the face of such conditions. Moreover, in the recent past, three of our licensees decided to exit the DSL chipset business altogether. As a result of these conditions and customer actions, we expect that our ability to grow or maintain revenue from these activities in the future will be challenging.
Royalties. Royalties consist of royalty payments that we receive under agreements with our customers. We receive royalties from customers for rights to Aware technology and/or patents, typically associated with the incorporation of Aware technology and/or patents in customer chipsets or solutions.
Royalties increased 11% from $0.4 million in the first quarter of 2008 to $0.5 million in the current year quarter. As a percentage of total revenue, royalties increased from 7% in the first quarter of 2008 to 10% in the current year quarter. The dollar increase in royalties was due to a $0.1 million increase in ADSL royalties.
Our royalty revenue comes predominantly from ADSL chipset sales by Ikanos Communications, Inc. ("Ikanos") and ADSL and VDSL chipset sales by Infineon Technologies AG ("Infineon"). Despite steady growth of worldwide DSL subscribers over the last several years, the availability of DSL chipsets from a number of suppliers has caused intense competition among those suppliers. We are uncertain as to whether our licensees will be able to maintain their market shares and chipset prices in the face of such competition, and whether our relationships with them will contribute meaningful royalties to us in the future.
Cost of Product Sales. Since the cost of software product sales is minimal, cost of product sales consists primarily of the cost of hardware product sales. Cost of product sales decreased 38% from $824,000 in the first quarter of 2008 to $513,000 in the current year quarter. As a percentage of product sales, cost of product sales decreased from 21% in the first quarter of 2008 to 18% in the current year quarter, which means that product gross margins increased from 79% to 82%. The cost of product sales dollar decrease was primarily due to lower sales of test and diagnostics hardware. The increase in product gross margins was primarily due to a greater proportion of software sales in product sales in the current quarter versus the year ago quarter.
Cost of Contract Revenue. Cost of contract revenue consists primarily of compensation costs for engineers and expenses for consultants, technology licensing fees, recruiting, supplies, equipment, depreciation and facilities associated with customer development projects. Our total engineering costs are allocated between cost of contract revenue and research and development expense. In a given period, the allocation of engineering costs between cost of contract revenue and research and development is a function of the level of effort expended on each.
Cost of contract revenue decreased 11% from $1.0 million in the first quarter of 2008 to $0.9 million in the current year quarter. Cost of contract revenue as a percentage of contract revenue, was 67% in the first quarter of 2008 and 71% in the current quarter, which means that the gross margins on contract revenue decreased from 33% to 29%. The dollar decrease in cost of contract revenue was primarily a function of lower biometrics contract revenue in the current quarter, which decreased the amount we charged to cost of contract revenue. Lower cost of contract revenue from biometrics contracts was partially offset by increased cost of contract revenue from DSL contracts.
Research and Development Expense. Research and development expense consists primarily of compensation costs for engineers and expenses for consultants, recruiting, supplies, equipment, depreciation and facilities related to engineering projects to improve our broadband intellectual property offerings, as well as our software and hardware product technology.
Research and development expenses decreased 12% from $3.5 million in the first quarter of 2008 to $3.1 million in the current year quarter. As a percentage of total revenue, research and development expense increased from 60% in the first quarter of 2008 to 68% in the current year quarter. The dollar decrease in research and development expense was primarily due to: 1) headcount attrition in our engineering organization over the past year and lower spending on design and other outside services; and 2) a slight shift of engineering resources from internal development projects (i.e., research and development expense) to DSL customer contracts (i.e., cost of contract revenue).
Our research and development spending was principally focused on developing analog and digital silicon IP solutions for broadband communications applications, developing test and diagnostics hardware and software, and developing biometrics and imaging software.
Selling and Marketing Expense. Selling and marketing expense consists primarily of compensation costs for sales and marketing personnel, travel, advertising and promotion, recruiting, and facilities expense. Sales and marketing expense increased 12% from $1.0 million in the first quarter of 2008 to $1.1 million in the current year quarter. As a percentage of total revenue, sales and marketing expense increased from 16% in the first quarter of 2008 to 24% in the current year quarter. The dollar increase was mainly attributable to headcount growth in our biometrics sales organization, which was partially offset by lower sales commissions.
General and Administrative Expense. General and administrative expense consists primarily of compensation costs for administrative personnel, facility costs, bad debt, audit, legal, stock exchange and insurance expenses. General and administrative expenses increased 2% from slightly less than $1.2 million in the first quarter of 2008 to slightly more than $1.2 million in the current year quarter. As a percentage of total revenue, general and administrative expense increased from 20% in the first quarter of 2008 to 27% in the current year quarter. The slight dollar increase was mainly attributable to higher stock-based compensation expenses, which were partially offset by lower legal fees.
Interest Income. Interest income decreased 67% from $383,000 in the first quarter of 2008 to $125,000 in the current year quarter. The dollar decrease was primarily due to a significant decline in money market interest rates.
Income Taxes. We made no provision for income taxes in the first three months of 2009 and 2008 due to net losses incurred and the uncertainty of the timing of profitability in future periods, except for $3,000 and $9,000 of state excise tax paid in the first quarter of 2009 and 2008, respectively. In 2002, we determined that due to our continuing operating losses as well as the uncertainty of the timing of profitability in future periods, we should fully reserve our deferred tax assets. As of March 31, 2009, our deferred tax assets continue to be fully reserved. We will continue to evaluate, on a quarterly basis, the positive and negative evidence affecting the realizability of our deferred tax assets.
As of December 31, 2008, we had federal net operating loss and research and experimentation credit carryforwards of approximately $46.5 million and $12.8 million respectively, which may be available to offset future federal income tax liabilities and expire at various dates from 2009 through 2029. In addition, at December 31, 2008, we had approximately $11.4 million and $6.6 million of state net operating losses and state research and development and investment tax carryforwards, respectively, which expire at various dates from 2009 through 2023.
Based on an analysis that we performed under Internal Revenue Code Section 382 on our NOLs generated for the period 1997 through 2007, we have not experienced a change in ownership as defined by Section 382, and, therefore, the NOLs are not currently under any Section 382 limitation.
Liquidity and Capital Resources
At March 31, 2009, we had cash and cash equivalents of $42.5 million, which represents a decrease of $3.0 million from December 31, 2008. The decrease in cash was primarily due to cash used by operations of $2.9 million and $0.1 million of capital spending on equipment.
Cash used by operations in the first three months of 2009 was primarily due to a net loss of $2.1 million, adjusted for non-cash items related to depreciation and amortization of $0.2 million, and stock based compensation expense of $0.4 million. We also used $1.4 million of cash to fund working capital items in the first three months of 2009. Capital spending was primarily related to the purchase of computer hardware, and laboratory equipment used principally in engineering activities.
On March 5, 2009, we announced a modified Dutch auction self-tender offer to purchase up to 3,500,000 shares of our common stock. The tender offer closed on April 17, 2009, and on April 23, 2009 we repurchased 3,500,252 shares at $2.50 per share for a total cost of $8.8 million, excluding expenses.
While we can not assure you that we will not require additional financing, or that such financing will be available to us, we believe that our cash and cash equivalents will be sufficient to fund our operations for at least the next twelve months.
Recent Accounting Pronouncements
In September 2006, the FASB issued SFAS No. 157 ("SFAS 157"), "Fair Value Measurements," which defines fair value, establishes guidelines for measuring fair value and expands disclosures regarding fair value measurements. SFAS 157 does not require any new fair value measurements but rather eliminates inconsistencies in guidance found in various prior accounting pronouncements. SFAS 157 is effective for fiscal years beginning after November 15, 2007. However, on February 6, 2008, the FASB issued FSP FAS 157-b which defers the effective date of SFAS 157 for one year for nonfinancial assets and nonfinancial liabilities that are recognized or disclosed at fair value in the financial statements on a recurring basis. We adopted SFAS 157 on January 1, 2008, except as it applies to those nonfinancial assets and nonfinancial liabilities as noted in FSP FAS 157-b. We adopted FSP FAS 157-b on January 1, 2009. The adoption of SFAS 157 did not have a material impact on our consolidated financial position, results of operations or cash flows.
In December 2007, the Financial Accounting Standards Board issued Statement of Financial Accounting Standard ("SFAS") No. 160, "Noncontrolling Interests in Consolidated Financial Statements, an amendment of ARB No. 51." SFAS 160 establishes accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. This accounting standard is effective for fiscal years beginning after December 15, 2008. We adopted SFAS 160 on January 1, 2009. The adoption of SFAS 160 did not have a material impact on our consolidated financial position, results of operations or cash flows.
In December 2007, the Financial Accounting Standards Board issued Statement of Financial Accounting Standard ("SFAS") No. 141(R), "Business Combinations." SFAS 141(R) establishes principles and requirements for how the acquirer recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, an any noncontrolling interest in the acquiree, recognizes and measures the goodwill acquired in the business combination or a gain from a bargain purchase, and determines what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination. This accounting standard is effective for fiscal years beginning after December 15, 2008. We adopted SFAS 141(R) on January 1, 2009. The adoption of SFAS 141(R) did not have a material impact on our consolidated financial position, results of operations or cash flows as of the date of adoption. SFAS 141(R) will be applied to any future business combinations.
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