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| EKCS.OB > SEC Filings for EKCS.OB > Form 10-Q on 13-May-2009 | All Recent SEC Filings |
13-May-2009
Quarterly Report
The following discussion should be read in conjunction with our financial statements and the notes related to those statements. Some of our discussion is forward-looking and involves risks and uncertainties. For information regarding risk factors that could have a material adverse effect on our business, refer to the risk factors section of the annual report for the year ended June 30, 2008 on Form 10-KSB.
CAUTION REGARDING FORWARD-LOOKING STATEMENTS
Our Company and its representatives may from time to time make written or verbal forward-looking statements, including statements contained in this report and other Company filings with the Securities and Exchange Commission and in our reports to shareholders. Statements that relate to other than strictly historical facts, such as statements about our plans and strategies, expectations for future financial performance, new and existing products and technologies, and markets for our products are forward-looking statements. Generally, the words "believe," "expect," "intend," "estimate," "anticipate," "will" and other similar expressions identify forward-looking statements. The forward-looking statements are and will be based on our management's then-current views and assumptions regarding future events and operating performance, and speak only as of their dates. Investors are cautioned that such statements involve risks and uncertainties that could cause actual results to differ materially from historical or anticipated results due to many factors including, but not limited to, our Company's current and future capital needs, uncertainty of capital funding, our clients' ability to cancel contracts with little or no penalty, government initiatives to implement Homeland Security measures, the likelihood of completing transactions for which we have entered into letters of intent, the state of the worldwide economy, competition, our customer's ability to pay our invoices within our standard credit terms, and other risks detailed in our Company's most recent Annual Report on Form 10-KSB and other Securities and Exchange Commission filings. We undertake no obligation to publicly update or revise any forward-looking statements.
OVERVIEW
We design, develop, manufacture and market technology-based integrated security systems. We also provide support services to system integrators consisting of risk assessment and vulnerability studies to ascertain a client's security requirements to develop a comprehensive risk management and mitigation program.
We market our products domestically and internationally to:
· security system integrators;
· national and local government entities;
· large industrial facilities and major office complexes;
· energy facilities, including nuclear plants, power utilities and pipelines; and commercial transportation centers, such as airports and seaports.
We believe we are one of the few true comprehensive security solution providers in the industry. We are able to analyze a security risk and develop security solutions specifically tailored to mitigate that risk, including design, engineering and manufacturing individual components of a system as may be necessary to deliver a fully integrated security system customized to a client's requirements. We are frequently engaged by security system integrators, security system dealers/installers, and commercial architects and engineers because we are able to deliver the integrated platform of design, engineering services and fully integrated security solutions that support their requirements for the completion of a given project.
We believe that we have developed a superior reputation as a provider of integrated security systems since our inception in 1976 because we:
· offer the complete range of solutions-driven responses to accommodate our customers' needs;
· offer technologically superior products;
· are able to design, engineer and manufacture systems customized to our clients' specific requirements;
· deliver systems that are easy to operate and maintain while providing superior life cycle cost performance compared to systems offered by competitors;
· have established solid credentials in protecting high value targets; and
· offer customers perhaps the best warranty in the industry.
During the quarter ended March 31, 2009, the Company submitted proposals on projects for Department of Defense facilities and certain nuclear power stations in the United States and southeast Asia valued at approximately $2,650,000. These proposals are pending and awaiting approval, funding and award. We anticipate decisions relating to these proposals within the fourth quarter of fiscal 2009.
Between October and December 2008, the Company was awarded purchase orders for approximately $850,000 to develop and supply security solutions for projects in the United States and Middle East. In January 2009, the Company entered into a joint venture agreement with OASIS Networks LLC for the Middle East under which the Company shall supply the security design, engineering, technology, supervision, testing, commissioning and training. OASIS will supply the program management, installation and oversight.
The Company entered into a marketing agreement with Global Trade Management for the China nuclear market. China offers the largest growth opportunity in the Company's core business, nuclear power stations.
A marketing agreement was entered into with GlobalSpec, an international website catering to architects, engineers, security directors and security consultants. The website lists all Company products and has already generated hundreds of leads which are being sent to our Representatives and Dealer-Installers for follow up and development.
CRITICAL ACCOUNTING POLICIES
Our consolidated financial statements and accompanying notes have been prepared in accordance with U.S. generally accepted accounting principles. The preparation of these financial statements requires that we make estimates, judgments and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. Management continually evaluates the accounting policies and estimates it uses to prepare the consolidated financial statements. We base our estimates on historical experience and assumptions believed to be reasonable under current facts and circumstances. Actual amounts and results could differ from these estimates made by management.
We do not participate in, nor has there been created, any off-balance sheet special purpose entities or other off-balance sheet financing. In addition, we do not enter into any derivative financial instruments for speculative purposes.
We have identified the following critical accounting policies that affect the more significant judgments and estimates used in the preparation of our condensed consolidated financial statements.
INVENTORY VALUATION
Inventories are valued at the lower of cost or market. We routinely evaluate the composition of our inventory to identify obsolete or otherwise impaired inventories. Inventories identified as impaired are evaluated to determine if reserves are required. We do not currently have any reserves against inventory.
ALLOWANCE FOR DOUBTFUL ACCOUNTS
The allowance for doubtful accounts is comprised of two parts, a specific account analysis and a general reserve. Accounts where specific information indicates a potential loss may exist are reviewed and a specific reserve against amounts due is recorded. As additional information becomes available, such specific account reserves are updated. Additionally, a general reserve is applied to the aging categories based on historical collection and write-off experience.
ACCOUNTING FOR INCOME TAXES
We record a valuation allowance to our deferred tax assets for the amount that is more likely than not to be realized. While we consider historical levels of income, expectations and risks associated with estimates of future taxable income and ongoing prudent and feasible tax planning strategies in assessing the need for the valuation allowance, in the event that we determine that we would be able to realize deferred tax assets in the future in excess of the net amount recorded, an adjustment to the deferred tax asset would increase income in the period such determination has been made. Likewise, should we determine that we would not be able to realize all or part of the net deferred tax asset in the future, an adjustment to the deferred tax asset would be charged against income in the period such determination was made.
FAIR VALUE OF EQUITY INSTRUMENTS
The valuation of certain items, including valuation of warrants or stock options that may be offered as compensation for goods or services, involve significant estimations with underlying assumptions judgmentally determined. Warrants are valued using the most reliable measure of fair value, such as the value of the goods or services rendered, if obtainable. If such value is not readily obtainable, the valuation of warrants and stock options are then based on the Black-Scholes valuation model, which involves estimates of stock volatility, expected life of the instruments and other assumptions.
RESULTS OF OPERATIONS
NINE MONTHS ENDED MARCH 31, 2009 ("2009 PERIOD") COMPARED TO NINE MONTHS ENDED MARCH 31, 2008 ("2008 PERIOD") AND THREE MONTHS ENDED MARCH 31, 2009 COMPARED TO THREE MONTHS ENDED MARCH 31, 2008
REVENUES. We had net revenues of $3,003,136 for the 2009 Period compared to $1,891,508 for the 2008 Period, representing an increase of approximately 58.8%. Net revenues for the three months ended March 31, 2009 were $564,946 as compared to $437,133 for the corresponding three month period in 2008. The increase in net revenues during the 2009 periods compared to the 2008 periods is primarily attributable to orders on contracts in-house for the United Nations program and nuclear power station orders received during the 2009 period.
GROSS MARGINS. Gross margins for the 2009 Period were 30.9% compared to 36.8% of revenue for the 2008 Period. Gross margins were 54.9% of revenue for the three months ended March 31, 2009 compared to 66.5% for the corresponding three-month period in 2008. The decrease in gross margin for the 2009 Period compared to the 2008 Period is primarily attributable to a change in the order mix of equipment sales and support services. We encountered an increase in material cost while experiencing a decrease in higher margin design and engineering support service billings which, combined, resulted in the decrease in gross margins for both the 2009 Period and the three months ended March 31, 2009.
RESEARCH AND DEVELOPMENT. Research and development expenses consist primarily of expenses incurred in designing and developing upgrades to existing products and systems as well as new product development work on the Sentinal water technology. Research and development expenses for the 2009 Period and for the three months ended March 31, 2009 were $121,002 and $40,334, respectively, compared to $77,002 and $21,334 for the corresponding periods in 2008. The increase in research and development expenses for 2009 is primarily attributable to new product development such as a Long Range PTZ/IR Illuminated CCTV/Intelligent Video Motion Detection System and the Low Volume Entry Control System.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and administrative expenses for the 2009 Period and for the three months ended March 31, 2009 were $1,064,201 and $520,846, respectively, compared to $937,899 and $200,634 for each of the corresponding periods in 2008. The increase in selling, general and administrative expenses for 2009 is attributable to costs relating to the U.N. project in Ethiopia where we incurred significant increases in freight and marketing related expenses and to an increase in our allowance for doubtful accounts in the amount of $295,845 related to two overseas projects in Asia and the Middle East. Although we attempted to resolve these issues during the past year, we felt that they may be uncollectible and elected to set-up a reserve for these receivables during this quarter.
STOCK BASED COMPENSATION. We issued stock options to our directors and various employees and consultants. The value of these options is being amortized over their respective vesting periods. Stock-based compensation is non-cash and, therefore, has no impact on cash flow or liquidity
INCOME (LOSS) FROM OPERATIONS. The net loss from operations decreased to $(314,735) in the 2009 Period compared to a loss of $(458,293) in the 2008 Period. For the three months ended March 31, 2009, there was a net loss from operations of $(255,977) compared to a net profit of $64,456 for the corresponding period in 2008. A significant portion of the loss during the three month period ended March 31, 2009 was attributable to the increase in the reserve for bad debt in the amount of $295,845 as stated under Selling, General and Administrative Expenses.
INTEREST EXPENSE. Interest expense in the 2009 Period was $116,177 compared to $149,314 incurred during the 2008 Period. Also included in interest expense in the 2009 and 2008 periods are $35,288 and $50,366, respectively, of amortization of deferred finance costs relating to the offering costs and the value of the warrant issued on the private placement of the convertible debentures.
AMORTIZATION OF BENEFICIAL CONVERSION FEATURE. In accordance with EITF No. 00-27, we recorded an additional discount in the amount of $118,748 upon the issuance of our convertible debentures in January 2006 to reflect the beneficial conversion feature of the debt and amortize this amount to the date of maturity. Amortization for the 2009 Period totaled $9,926 as compared to $13,879 in the 2008 Period
LEGAL SETTLEMENT. We recorded a charge of $55,304 in the 2009 Period in connection with the settlement of a lawsuit by one of our employees. Under the settlement agreement, we remitted $16,367 and agreed to pay $36,000 over 18 months and incurred legal fees of $2,937.
NET INCOME (LOSS). Net loss before deemed dividends related to preferred stock for the 2009 Period was $(496,142) compared to $(841,486) in 2008. For the three months ended March 31, 2009, there was a net loss before deemed dividends of $(284,967) compared to a loss of $(4,194) in the corresponding period in 2008. This was primarily a result of the increase in the bad debt reserve in the amount of $295,845. Except for this, the Company achieved improvement in operational profitability during this period.
DIVIDENDS RELATED TO PREFERRED STOCK.
We recorded dividends totaling $90,396 on our Series B Convertible Preferred Stock in the 2009 Period and $82,180 in the 2008 Period. In lieu of a cash payment, we have elected, under the terms of these securities, to add this amount to the stated value of the Series B Convertible Preferred Stock.
These dividends are non-cash and, therefore, have no impact on our net worth, cash flow or liquidity.
LIQUIDITY AND CAPITAL RESOURCES
At March 31, 2009, we had working capital of approximately $1.24 million compared to approximately $1.58 million at June 30, 2008. Net cash provided by operating activities for the 2009 Period was $15,486 as compared to net cash used by operating activities of $58,823 for the 2008 Period.
Inventory increased by $86,362 during the nine months ended March 31, 2009 which remains relatively high in anticipation of shipments for committed projects of the Company's prime manufactured product for nuclear power stations and Government projects in Asia and the United States.
Accounts receivable have decreased by $394,228 to $1,555,695 for the nine months ended March 31, 2009. Certain of the receivables have been delayed due to close out of certain Government projects, release of funds on two overseas projects, and approvals on certain task orders which we anticipate to resolve during the fourth quarter of fiscal 2009.
Accounts payable and accrued expenses have decreased by $546,930 to $2,128,369 for the nine months ended March 31, 2009 as payments to vendors match the corresponding collection of accounts receivable. Included in accrued expenses are accrued salaries to officers and other key employees in the amount of $650,040.
Investing activities for the 2009 Period included purchases of property and equipment of $7,338. We do not have any material commitments for capital expenditures going forward.
In January 2006, we raised net proceeds of $831,000 from the proceeds of the private placement of $1 million in principal amount of our Senior Secured Convertible Debentures ("the Debentures"). Our obligations with respect to the Debentures are secured by a lien on all of our assets, including our intellectual property. The Debentures have a term of three years and are convertible at the option of the holder at any time into shares of the Company's Common Stock at a conversion price of $.75 per share, subject to certain adjustments. Interest is payable at a rate equal to the greater of 8% per annum or the prime rate for the applicable interest period plus 2.5%. As of March 31, 2009, approximately $490,000 in principal amount of the debentures remains outstanding. The principal and interest owing on the debentures became due as of January 11, 2009 but were not repaid. The Company and the debenture holders are currently holding discussions to consider various proposals designed to address this issue. No assurance can be provided that the Company and the debenture holders will in fact be able to reach a resolution of this matter
We expect that cash on hand together with anticipated collection of accounts receivable will be sufficient to provide for our working capital needs for the next 12 months.
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