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MKRS > SEC Filings for MKRS > Form 10-Q on 14-May-2013All Recent SEC Filings

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Quarterly Report

Item 2. Management's Discussion and Analysis of Financial Position and Results of Operations

Mikros Systems Corporation ("Mikros," the "Company," "we" or "us") was incorporated in the State of Delaware in June 1978. We are an advanced technology company specializing in the research and development of electronic systems technology primarily for military applications. Classified by the Department of Defense ("DoD") as a small business, our capabilities include technology management, electronic systems engineering and integration, radar systems engineering, combat/command, control, communications, computers and intelligence ("C4I") systems engineering, and communications engineering.


Our primary business focus is to pursue Business Innovative Research ("SBIR") programs from the DoD, Department of Homeland Security, and other governmental authorities, and to expand this government funded research and development into products and services. Since 2002, we have been awarded several Phase I, II, and III SBIR contracts.

Revenues from our government contracts represented 100% of our revenues for the three months ended March 31, 2013 and 2012. We believe that we can utilize the intellectual property developed under our various SBIR awards to develop proprietary products for both the government and commercial marketplace.


Originally designated as the Multiple Function Distributed Test and Analysis Tool, the ADEPT began as an SBIR investigation in 2002. Additional ADEPT development was completed through a series of SBIR grants and contracts. ADEPT is an automated maintenance workstation designed to significantly reduce the man-hours required to align the AN/SPY-1 Radar System aboard U.S. Navy AEGIS cruisers and destroyers, while optimizing system performance and readiness. ADEPT represents a new approach to Navy shipboard maintenance, integrating modular instrumentation cards in a rugged enclosure with an onboard computer, input and output devices, networking hardware, removable hard drives, and a touch screen display. A custom software application provides the user interface and integrates the hardware with a database that stores user information, instrument readings, maintenance requirements, and training aids. ADEPT is designed to be adapted to other complex shipboard systems, and to provide integrated distance support capabilities for remote diagnostics and troubleshooting by shore-based Navy experts.

Key benefits of ADEPT include:

? Distance support capability enabling "expert" remote (shore-based) system support and fleet-wide system analysis;

? Reduction in the amount of electronic test equipment required for organizational level support; and

? Modularity and programmability which aims to overcome obsolescence issues encountered with current test equipment and support capability enhancements in future systems.

The goal for ADEPT has been to obtain a multi-year Indefinite-Delivery, Indefinite-Quantity ("IDIQ") contract for production, engineering, and logistics support. On March 19, 2010, we were awarded and entered into an IDIQ contract with the Naval Surface Warfare Center. The contract is for a term of five years and provides for the purchase and sale of up to $26 million of ADEPT units and related support.

An initial delivery order for 27 ADEPT units valued at $2,300,000 was awarded on March 22, 2010. In September 2010, we were awarded a new production order from the U.S. Navy to build additional ADEPT equipment for deployment on U.S. AEGIS Cruisers and Destroyers, as well as the Navy's new Littoral Combat Ship. Under this order, we delivered an additional 18 ADEPT units and upgraded to the Low-Rate Initial Production Units manufactured under previous contracts. Some of the funding associated with this award allowed our engineers to enhance the distance support capabilities of ADEPT and incorporate new design features to enable ADEPT to be used on other U.S. Navy systems. In July 2011, we received $3.1 million in orders to produce and deliver an additional 36 ADEPT units and related support services, and in September 2011, we received a $2.1 million delivery order from the U.S. Navy for additional research, development, and support of ADEPT units. In April, June, and July 2012, we received commitments of $385,000, $852,000 and $88,000, respectively, under the IDIQ to provide additional engineering and logistics support. Finally, in August and September 2012, we received new task orders to produce and deliver 35 ADEPT units.

Wireless Local Area Network Systems

Since June 2004, we have been working with the Office of Naval Research regarding emerging Wireless Local Area Network systems ("WLANs") and DoD radar systems to, among other things, evaluate and quantify the potential improvements which may be afforded by selected mitigation techniques. We continue to perform contracts in connection with this project and have worked closely with engineers from the Naval Air Warfare Center, Weapons Division. Specifically, in April 2010, we were awarded a $250,000 subcontract with a major defense prime contractor to perform design of shipboard wireless networks for a new U.S. Navy communications program.

Recent Developments

In January and April of 2013, we were awarded an additional $185,000 and $187,238, respectively, under the IDIQ to provide additional engineering and logistics support related to ADEPT.

Key Performance Indicator

As substantially all of our revenue is derived from contracts with the federal government, our key performance indicator is the dollar volume of contracts awarded to us. Increases in the number and value of contracts awarded will generally result in increased revenues in future periods and, assuming relatively stable variable costs associated with our fulfilling such contracts, increased profits in future periods. The timing of such awards is uncertain as we sell to federal government agencies where the process of obtaining such awards can be lengthy and at times uncertain. As the majority of our revenue during the first quarter of 2013, and expected revenue over the next nine months, is or will be from sales of ADEPT units under our IDIQ contract, continued generation of task orders and our ability to expand the market and potential customer base for ADEPT units will be a key indicator of future revenue.


Our strategy for continued growth is three-fold. First, we expect to continue expanding our technology base, backlog and revenue by continuing our active participation in the DoD SBIR program and bidding on projects that fall within our areas of expertise. These areas include electronic systems engineering and integration, radar systems engineering, combat/C4I systems engineering, and communications engineering. We believe that we can utilize the intellectual property developed under our various SBIR awards to develop proprietary products, such as the ADEPT, with broad appeal in both the government and commercial marketplace. This state-of-the-art test equipment can be used by many commercial and governmental customers such as the FAA, radio and television stations, cellular service providers, and airlines. Second, we will continue to pursue SBIR projects with the Department of Homeland Security, the U.S. Navy, and other government agencies. Third, we believe that through our marketing of products such as ADEPT we will develop key relationships with prime defense system contractors. Our strategy is to develop these relationships into longer-term, key subcontractor roles on future major defense programs awarded to these prime contractors.

For the remainder of 2013, our primary strategic focus is to continue to: (i) establish ourselves as a premium provider of research and development and product development services to the defense industry; and (ii) grow our business, generate profits and increase our cash reserves through obtaining additional SBIR contracts and positioning ourselves to obtain future SBIR contracts. From an operational perspective, we expect to focus substantial resources on generating purchase orders under the IDIQ contract for ADEPT units and exploring commercialization opportunities. We intend to capitalize on the Navy modernization program, which could result in two or three ADEPT units being placed on each destroyer and cruiser in the U.S. Navy, with the potential to install multiple units on additional U.S. Navy ships and submarines.

Over the longer term, we expect to further develop technology based on existing and additional SBIR contracts and to develop these technologies into products for wide deployment to DoD customers and contractors, as well as developing potential commercial applications.

Changes to Critical Accounting Policies and Estimates

Our critical accounting policies and estimates are set forth in our Annual Report on Form 10-K for the fiscal year ended December 31, 2012. As of March 31, 2013, there have been no changes to such critical accounting policies and estimates.

Results of Operations

The discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles ("GAAP") and the requirements of the SEC. The preparation of these financial statements requires us 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, we evaluate our estimates, including those related to bad debts, recoverability of long-lived assets, income taxes and commitments. We base our estimates on historical experience and on various other assumptions that we believe 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 accounting estimates and assumptions discussed in the notes to our condensed financial statements included herein are those that we consider to be the most critical to an understanding of our financial statements because they inherently involve significant judgments and uncertainties.

Three Months Ended March 31, 2013 and 2012

We generated revenues of $902,196 during the three months ended March 31, 2013 compared to $759,123 during the three months ended March 31, 2012, an increase of $143,703, or 19%. The increase was primarily due to continued production and delivery of ADEPT units from the task orders received in August and September of 2012.

Cost of sales consists of direct contract costs including labor, material, subcontracts, warranty expense for ADEPT units that have been delivered, travel, and other direct costs. Cost of sales for the three months ended March 31, 2013 was $461,951 compared to $260,230 for the three months ended March 31, 2012, an increase of $201,721, or 78%. The increase was primarily due to higher direct costs of $175,721, including subcontractor cost resulting from redesigning efforts of our ADEPT chassis, outsourcing of certain development and production stages of our ADEPT units, and an increase in our warranty provision of $26,000 due to the timing of units shipped during the first quarter of 2013 compared to 2012.

The majority of our engineering costs consist of (i) salary, wages and related fringe benefits paid to engineering employees, (ii) rent-related costs, and
(iii) consulting fees paid to engineering consultants. As the nature of these costs benefit the entire organization and all research and development efforts, and their benefits cannot be identified with a specific project or contract, these engineering costs are classified as part of "engineering overhead" and included in operating expenses. Engineering costs for the three months ended March 31, 2013 were $201,898 compared to $160,298 for the three months ended March 31, 2012, an increase of $41,600, or 26%. The increase was due to annual increases in engineering salaries.

General and administrative expenses consist primarily of salary, intellectual property, consulting fees and related costs, professional fees, business insurance, franchise tax, SEC compliance costs, travel, and unallowable expenses (representing those expenses for which the government will not reimburse us). General and administrative costs for the three months ended March 31, 2013 were $263,393 compared to $320,787 for the three months ended March 31, 2012, a decrease of $57,394, or 18%. The decrease was primarily due to decreases in new business development costs due to our allocation of resources to deliver the remaining ADEPT units, and a decrease in our incentive compensation and professional fees due to our continued efforts to control costs.

At March 31, 2013, we estimate our annual effective tax rate for 2013 to be 21.6%. We are recognizing a tax benefit of $5,400 for the quarter ended March 31, 2013 primarily due to expected net income for the remainder of 2013 and the tax benefit recognized from the decrease in valuation allowance established for net deferred tax assets. At March 31, 2013, the difference from the expected federal income tax rate is attributable to state income taxes, certain permanent book-tax differences and the income tax benefit related to the tax benefit recognized from the decrease in valuation allowance established for net deferred tax assets. As of March 31, 2013, we had net operating loss carryforwards of $530,610, which will begin expiring in 2019 if not utilized.

We incurred a net loss of $19,626 during the three months ended March 31, 2013 as compared to net income of $14,012 during the three months ended March 31, 2012. The decrease was primarily due to higher subcontractor costs related to the outsourcing of certain development and production stages for our ADEPT units.

Liquidity and Capital Resources

Since our inception, we have financed our operations through debt, private and public offerings of equity securities, and cash generated by operations.

During the three months ended March 31, 2013, net cash provided by operations was $354,005 compared to cash used in operations of $130,684 during the three months ended March 31, 2012. The increase was due primarily to timing of payments related to our operating assets and liabilities. We had a decrease in accounts receivable as result of receiving payments that were offset by increases in accounts payable and accrued expenses, including accrued payroll and payroll taxes due to the timing of our vendor payments and payroll processing. We had working capital of $1,362,165 as of March 31, 2013 as compared to $1,379,678 as of December 31, 2012.

During the three months ended March 31, 2013, net cash used in investing activities was $0 compared to $1,102 during the three months ended March 31, 2012. We did not incur any capital expenditures in the quarter ended March 31, 2013.

In August 2012, we renewed our line of credit agreement. The facility matures on August 13, 2013 and accrues interest at a variable rate equal to the bank's prime rate plus 300 basis points with a minimum annual interest rate of 5.25%. Principal borrowings may be prepaid at any time without penalty, and the facility is secured by substantially all of our assets. Borrowings under the facility are limited to a percentage of aggregate outstanding receivables that are due within 90 days. The facility contains customary affirmative and negative covenants and a net worth financial covenant. As of the date of this report, there are no amounts outstanding under the facility.

As of March 31, 2013, we had cash resources of approximately $1,241,145. We believe that our available cash resources and expected cash flows from operations will be sufficient to fund operations for the next twelve months. We do not expect to incur any material capital expenditures during the next twelve months.

In order to pursue strategic opportunities, obtain additional SBIR contracts, or acquire strategic assets or businesses, we may need to obtain additional financing or seek strategic alliances or other partnership agreements with other entities. In order to raise any such financing, we anticipate considering the sale of additional debt or equity securities under appropriate market conditions. There can be no assurance, assuming we successfully raise additional funds or enter into business alliances, that any such transaction will achieve profitability or generate positive cash flow.

Off-Balance Sheet Arrangements

As of March 31, 2013, we did not have any relationships with unconsolidated entities or financial partners, such as entities often referred to as structured finance or variable interest entities, established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. As such, we are not materially exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in such relationships. We have not made any guarantees for outside parties and have not entered into any derivative instruments.

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