XNAS:DYSL Dynasil Corp of America Quarterly Report 10-Q Filing - 6/30/2012

Effective Date 6/30/2012

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U. S. SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

 

FORM 10-Q

(Mark One)

 

xQUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE

ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2012

 

¨TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE

ACT OF 1934 FOR THE TRANSITION PERIOD FROM _______ TO ______.

 

Commission file number: 000-27503

 

DYNASIL CORPORATION OF AMERICA

(Exact name of registrant as specified in its charter)

 

Delaware 22-1734088
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
   
44 Hunt Street, Watertown, MA 02472
(Address of principal executive offices) (Zip Code)

 

Registrant’s telephone number, including area code: (617) 668-6855

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days Yes x No ¨

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No ¨

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.

Large accelerated filer ¨ Accelerated filer ¨
Non-accelerated filer ¨ Smaller reporting company x
   

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act) Yes ¨ No x

 

As of August 8, 2012 there were 14,789,152 shares of common stock, par value $.0005 per share, outstanding.

 

 
 

 

DYNASIL CORPORATION OF AMERICA AND SUBSIDIARIES

 

INDEX

 

  Page
PART 1.   FINANCIAL INFORMATION  
Item 1.   Financial Statements  
   
DYNASIL CORPORATION OF AMERICA AND SUBSIDIARIES  
   
CONSOLIDATED BALANCE SHEETS AS OF JUNE 30, 2012 AND SEPTEMBER 30, 2011 3
   
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS) FOR THE THREE AND NINE MONTHS ENDED JUNE 30, 2012 AND 2011 5
   
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY FOR THE NINE MONTHS ENDED JUNE 30, 2012 6
   
CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE NINE MONTHS ENDED JUNE 30, 2012 AND 2011 7
   
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 8
   
Item 2.   Management’s Discussion and Analysis of Financial Condition and  Results of Operations 18
   
Item 3.   Quantitative and Qualitative Disclosures About Market Risk 31
   
Item 4.  Controls and Procedures 31
   
PART II.  OTHER INFORMATION 31
   
Item 6.   Exhibits 31
   
Signatures 32

 

2
 

 

PART I – FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS.

 

DYNASIL CORPORATION OF AMERICA AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(UNAUDITED)

 

   June 30,   September 30, 
   2012   2011 
   (unaudited)     
ASSETS          
Current Assets          
Cash and cash equivalents  $2,986,312   $4,479,840 
Accounts receivable, net of allowance for doubtful accounts of $141,707 and $182,634 and sales returns allowance of $34,059 and $18,356 for June 30, 2012 and September 30, 2011, respectively.   7,643,129    5,837,139 
Inventories, net of reserves   3,151,255    3,250,539 
Costs in excess of billings   -0-    408,240 
Deferred tax asset   1,225,446    1,119,800 
Prepaid expenses and other current assets   1,151,428    771,564 
Total current assets   16,157,570    15,867,122 
           
Property, Plant and Equipment, net   5,020,442    4,860,328 
           
Other Assets          
Intangibles, net   5,885,922    6,374,329 
Goodwill   13,287,807    13,330,182 
Deferred financing costs, net   120,722    150,656 
Total other assets   19,294,451    19,855,167 
           
Total Assets  $40,472,463   $40,582,617 
           
LIABILITIES AND STOCKHOLDERS' EQUITY          
Current Liabilities          
Current portion of long-term debt  $1,857,143   $1,859,728 
Obligation to repurchase stock   1,857,546    -0- 
Accounts payable   3,186,198    2,088,395 
Accrued expenses and other liabilities   1,977,990    2,298,460 
Contingent consideration   141,337    183,713 
Total current liabilities   9,020,214    6,430,296 
           
Long-term Liabilities          
Long-term debt, net of current portion   7,555,446    8,985,442 
Deferred tax liability   811,705    924,837 
Total long-term liabilities   8,367,151    9,910,279 

 

The accompanying notes are an integral part of these unaudited consolidated financial statements.

 

3
 

 

DYNASIL CORPORATION OF AMERICA AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(UNAUDITED) (Continued)

 

LIABILITIES AND STOCKHOLDERS' EQUITY (Continued)

 

   June 30,   September 30, 
   2012   2011 
   (unaudited)     
Temporary Equity          
Redeemable common stock, at redemption value of  $2 per share; put option on 0 shares and 1,000,000 issued and outstanding at June 30, 2012 and September 30, 2011, respectively.  $0   $2,000,000 
           
Stockholders' Equity          
Preferred stock, $.001 par value, 15,000,000 shares authorized, 0 shares issued and outstanding at June 30, 2012 and September 30, 2011, respectively, 10% cumulative, convertible.   -0-    -0- 
           
Common stock, $0.0005 par value, 40,000,000 shares authorized, 15,628,868 and 15,393,053 shares issued, 14,818,708 and and 14,582,893 shares outstanding at June 30, 2012 and September 30, 2011, respectively.   7,815    7,696 
Additional paid in capital   16,911,280    15,896,755 
Accumulated other comprehensive income   268,428    297,566 
Retained earnings   6,883,917    7,026,367 
    24,071,440    23,228,384 
Less 810,160 and 810,160 shares of treasury stock - at cost at June 30, 2012 and September 30, 2011, respectively   (986,342)   (986,342)
Total stockholders' equity   23,085,098    22,242,042 
           
Total Liabilities and Stockholders' Equity  $40,472,463   $40,582,617 

 

The accompanying notes are an integral part of these unaudited consolidated financial statements.

 

4
 

 

DYNASIL CORPORATION OF AMERICA AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)

(UNAUDITED)

 

   Three Months Ended   Nine Months Ended 
   June 30,   June 30, 
   2012   2011   2012   2011 
Net revenue  $12,415,772   $12,153,175   $37,279,808   $35,896,030 
Cost of revenue   7,259,466    7,012,611    21,733,906    21,136,257 
Gross profit   5,156,306    5,140,564    15,545,902    14,759,773 
Selling, general and administrative expenses   5,180,292    4,911,288    15,679,544    12,978,126 
Income (loss) from operations   (23,986)   229,276    (133,642)   1,781,647 
Interest expense, net   140,246    148,563    375,855    461,916 
Income (loss) before income tax benefit   (164,232)   80,713    (509,497)   1,319,731 
Income tax benefit   (116,102)   (946,165)   (367,047)   (478,342)
Net income (loss)  $(48,130)  $1,026,878   $(142,450)  $1,798,073 
                     
Net income (loss)  $(48,130)  $1,026,878   $(142,450)  $1,798,073 
Other comprehensive income (loss):                    
Foreign currency translation   31,222    47,118    (29,138)   185,712 
Total comprehensive income (loss)  $(16,908)  $1,073,996   $(171,588)  $1,983,785 
                     
Net income (loss)  $(48,130)  $1,026,878   $(142,450)  $1,798,073 
Dividends on preferred stock   -0-    -0-    -0-    116,646 
Net income (loss) attributable to common stockholders   (48,130)   1,026,878    (142,450)   1,681,427 
Dividend add back due to preferred stock conversion   -0-    -0-    -0-    116,646 
Net income (loss)  for diluted income per common share  $(48,130)  $1,026,878   $(142,450)  $1,798,073 
                     
Basic net income (loss) per common share  $(0.00)  $0.07   $(0.01)  $0.12 
Diluted net income (loss) per common share  $(0.00)  $0.07   $(0.01)  $0.12 
                     
Weighted average shares outstanding                    
Basic   14,275,293    15,394,811    14,878,360    14,448,875 
Diluted   14,275,293    15,748,591    14,878,360    14,802,655 

 

The accompanying notes are an integral part of these unaudited consolidated financial statements.

 

5
 

 

DYNASIL CORPORATION OF AMERICA AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY

(UNAUDITED)

 

                       Accumulated                 
                   Additional   Other               Total 
   Preferred   Preferred   Common   Common   Paid-in   Comprehensive   Retained   Treasury Stock   Stockholders' 
   Shares   Amount   Shares   Amount   Capital   Income   Earnings   Shares   Amount   Equity 
Balance, September 30, 2011   -0-   $0    15,393,053   $7,696   $15,896,755   $297,566   $7,026,367    (810,160)  $(986,342)  $22,242,042 
Issuance of shares of common stock under employee stock purchase plan   -0-    -0-    38,235    19    50,585    -0-    -0-    -0-    -0-    50,604 
                                                   
Stock-based compensation costs   -0-    -0-    85,148    43    821,543    -0-    -0-    -0-    -0-    821,586 
Exercise of options by director to purchase common stock   -0-    -0-    41,205    21    (21)   -0-    -0-    -0-    -0-    (0)
                                                   
Expiration of put shares   -0-    -0-    71,227    36    142,418    -0-    -0-    -0-    -0-    142,454 
                                                   
Foreign currency translation adjustment   -0-    -0-    -0-    -0-    -0-    (29,138)   -0-    -0-    -0-    (29,138)
                                                   
Net loss   -0-    -0-    -0-    -0-    -0-    -0-    (142,450)   -0-    -0-    (142,450)
Balance, June 30, 2012   -0-   $-    15,628,868   $7,815   $16,911,280   $268,428   $6,883,917    (810,160)  $(986,342)  $23,085,098 

 

The accompanying notes are an integral part of these unaudited consolidated financial statements.

 

6
 

 

DYNASIL CORPORATION OF AMERICA AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

 

   Nine Months Ended 
   June 30, 
   2012   2011 
Cash flows from operating activities:          
Net income (loss)  $(142,450)  $1,798,073 
Adjustments to reconcile net income (loss) to net cash provided by operating activities:          
Stock compensation expense   821,586    497,055 
Foreign exchange loss   1,621    -0- 
Contingent consideration adjustment   (18,395)   -0- 
Depreciation and amortization   1,085,691    990,743 
Noncash interest expense   29,934    29,934 
Provision for doubtful accounts and sales returns   52,358    9,976 
Inventory reserves   59,353    -0- 
Deferred income taxes   (218,778)   (500,704)
(Increase) decrease in:          
Accounts receivable, net   (1,858,509)   537,891 
Inventories   37,312    22,459 
Costs in excess of billings   408,240    135,157 
Prepaid expenses and other current assets   (355,323)   (67,338)
Increase (decrease) in:          
Accounts payable   1,072,689    151,238 
Accrued expenses and other liabilities   (344,271)   (384,455)
Net cash provided by operating activities   631,058    3,220,029 
           
Cash flows from investing activities:          
Purchases of property, plant and equipment   (764,028)   (1,294,343)
Acquisition of Biomedical Technologies   -0-    (300,000)
Net cash used in investing activities   (764,028)   (1,594,343)
           
Cash flows from financing activities:          
Proceeds from issuance of common stock   50,604    123,489 
Repayment of long-term debt   (1,432,581)   (1,395,105)
Preferred stock dividends paid   -0-    (79,770)
Net cash used in financing activities   (1,381,977)   (1,351,386)
           
Effect of exchange rates on cash and cash equivalents   21,419    258,131 
           
Net change in cash and cash equivalents   (1,493,528)   532,431 
           
Cash and cash equivalents, beginning   4,479,840    4,111,966 
Cash and cash equivalents, ending  $2,986,312   $4,644,397 

 

The accompanying notes are an integral part of these unaudited consolidated financial statements.

 

7
 

 

DYNASIL CORPORATION OF AMERICA

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

Note 1 - Basis of Presentation and Liquidity

 

The accompanying consolidated balance sheet as of June 30, 2012, the consolidated statements of operations and comprehensive income (loss) for the three and nine months ended June 30, 2012 and 2011, changes in stockholders’ equity for the nine months ended June 30, 2012 and cash flows for the nine months ended June 30, 2012 and 2011 of Dynasil Corporation of America and subsidiaries (the “Company”), and the related information contained in these notes have been prepared by management and are unaudited. In the opinion of management, all adjustments (which include normal recurring and nonrecurring items) necessary to present fairly the financial position, results of operations and cash flows in conformity with generally accepted accounting principles for the periods presented have been made. Interim operating results are not necessarily indicative of operating results for a full year.

 

The preparation of our unaudited consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the unaudited consolidated financial statements and the reported amounts of revenues and expenses during the reporting periods. Certain information and note disclosures normally included in the Company's annual financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted. These consolidated financial statements should be read in conjunction with the financial statements and notes thereto included in the Company's September 30, 2011 Annual Report on Form 10-K previously filed by the Company with the Securities and Exchange Commission.

 

As disclosed in the Company’s quarterly report on Form 10-Q for the period ended March 31, 2012, the Company had experienced an increase in accounts receivable due to delayed collections and a decrease in borrowing capacity due to high selling, general and administrative (“SG&A”) expenses for commercialization and research and development (“R&D”) activities for product improvements. This, added with an obligation to repurchase stock from a former owner of RMD Investments, LLC (see Note 11 for additional information) caused the Company to believe that it would not satisfy its financial covenants under the Sovereign Bank Loan Agreement as of June 30, 2012. Accordingly, the Company had reclassified the $8,028,688 of debt to Sovereign Bank as a short-term liability.

 

The Company has completed certain transactions to improve its liquidity position. First, on June 7, 2012 the Company satisfied the obligation to repurchase stock by issuing three separate promissory notes in the aggregate principal amount of $1,857,546. This preserved cash and removed uncertainty regarding the ability to satisfy the obligation. The three year promissory notes were issued with a 10% interest rate.

 

Second, on June 29, 2012, the Company entered into a letter agreement (the “Waiver Letter”) as well as Amendment No. 3 to the Original Loan Agreement with Sovereign Bank, N.A. (“Sovereign” or “Sovereign Bank”). Under the Waiver Letter, the Lender agreed to waive non-compliance by the Company with certain financial covenants under the Original Loan Agreement as of June 30, 2012, subject to the Company’s compliance with the terms of the Amendment, which includes, among other things, the requirement of the Company to raise, on or before September 30, 2012, at least $2,000,000 in gross proceeds from the sale of its capital stock and/or the incurrence of new indebtedness which is subordinated to the indebtedness in favor of Sovereign and repaying the obligation to repurchase stock by September 30, 2012. The Amendment also made certain other changes to the Original Loan Agreement, including certain financial covenants to be maintained commencing on September 30, 2012, limitations on capital expenditures and the termination of the Company’s acquisition line of credit. The Amendment did not change the interest rates on outstanding indebtedness under the Original Loan Agreement.

 

Third, on July 31, 2012, the Company entered into a Note Purchase Agreement with Massachusetts Capital Resource Company (“MCRC”) in the amount of $3,000,000. The note with MCRC has a five year term with an interest rate of 10% per annum with interest-only payments to be made for the first three years. The MCRC note is subordinated to the existing debt of Sovereign. The $3,000,000 proceeds from the MCRC note were used on August 1, 2012 to pay off the $1,857,546 in promissory notes which arose from the obligation to repurchase stock from a former owner of RMD Instruments, LLC. The remaining $1.1 million will be used for working capital purposes.

 

8
 

 

Fourth, Days Sales Outstanding (“DSO”) improved by 3.5 days during the three months ended June 30, 2012 to 57.0 days compared with March 31, 2012 and selling, general and administrative costs (“SG&A”) declined by $350,951 from March 31, 2012 to June 30, 2012 improving operating results and borrowing capacity.

 

As a result of the actions, the Company expects to be in compliance with its various debt financial covenants and has classified $7,555,446 of debt to Sovereign as a long-term liability. This reclassified amount is debt to Sovereign in excess of amounts required to be repaid in the next twelve months.

 

We consider events or transactions that have occurred after the unaudited consolidated balance sheet date of June 30, 2012, but prior to the filing of the unaudited consolidated financial statements with the SEC on this Form 10-Q, to provide additional evidence relative to certain estimates or to identify matters that require additional disclosure, as applicable. Subsequent events have been evaluated through the date of the filing of this Quarterly Report on Form 10-Q with the SEC.

 

Note 2 - Inventories

 

Inventories are stated at the lower of average cost or market. Cost is determined using the first-in, first-out (FIFO) method. Inventories consist of raw materials, work-in-process and finished goods. The Company evaluates inventory levels and expected usage on a periodic basis and records, as a charge to cost of revenue, any amounts required to reduce the carrying value to net realizable value.

 

Inventories, net of reserves, consisted of the following:

 

   June 30,   September 30, 
   2012   2011 
Raw Materials  $1,991,047   $2,149,401 
Work-in-Process   550,366    757,709 
Finished Goods   609,842    343,429 
   $3,151,255   $3,250,539 

 

Note 3 – Costs in Excess of Billings

 

Costs in excess of billings relates to research and development contracts and consists of actual costs incurred plus fees in excess of billings at provisional contract rates.

 

Note 4 – Intangible Assets

 

Intangible assets at June 30, 2012 and September 30, 2011 consist of the following:

 

9
 

 

   Useful   Gross   Accumulated 
June 30, 2012  Life (years)   Amount   Amortization 
Acquired Customer Base   5-15   $7,063,962   $1,969,107 
Know How   15    513,217    136,533 
Trade Names   15    219,000    59,617 
Backlog   4    182,000    182,000 
Biomedical Technologies   5    300,000    45,000 
        $8,278,179   $2,392,257 

 

   Useful   Gross   Accumulated 
September 30, 2011  Life (years)   Amount   Amortization 
Acquired Customer Base   5-15   $7,063,962   $1,617,550 
Know How   15    513,217    112,150 
Trade Names   15    219,000    47,450 
Backlog   4    182,000    126,700 
Biomedical Technologies   5    300,000    -0- 
        $8,278,179   $1,903,850 

 

Amortization expense for the three months ended June 30, 2012 and 2011 was $162,802 and $149,205 respectively. Amortization expense for the nine months ended June 30, 2012 and 2011 was $488,407 and $447,615, respectively. Estimated amortization expense for each of the next five fiscal years is as follows:

 

   2012 (3 Months)   2013   2014   2015   2016   Thereafter   Total 
Acquired Customer Base  $117,027   $463,134   $463,134   $463,134   $463,134   $3,125,291   $5,094,855 
Know How   18,433    73,733    73,733    73,733    73,733    63,319    376,684 
Trade Names   3,650    14,600    14,600    14,600    14,600    97,333    159,383 
Backlog   -0-    -0-    -0-    -0-    -0-    -0-    -0- 
Biomedical Technologies   15,000    60,000    60,000    60,000    60,000    -0-    255,000 
   $154,110   $611,467   $611,467   $611,467   $611,467   $3,285,943   $5,885,922 

 

Note 5 – Goodwill

 

Goodwill is subject to an annual impairment test. We consider many factors which may indicate the requirement to perform additional, interim impairment tests. These include:

 

·A significant adverse long term outlook for any of our industries;
·An adverse finding or rejection from a regulatory body involved in new product regulatory approvals;
·Failure of an anticipated commercialization product line;
·Unanticipated competition or a disruptive technology introduction;
·The testing for recoverability under the Impairment or Disposal of Long-Lived Assets Subsections of Subtopic 360-10 of a significant asset group within a reporting unit;
·A loss of key personnel; and
·An expectation that a reporting unit carrying goodwill, or a significant portion of a reporting unit, will be sold or otherwise disposed of.

 

There were no changes, aside from foreign exchange rate fluctuations, in the carrying value of goodwill during the nine months ended June 30, 2012.

 

Note 6 – Earnings (Loss) Per Common Share

 

Basic earnings (loss) per common share is computed by dividing the net income applicable or loss attributable to common shares after preferred dividends paid, if applicable, by the weighted average number of common shares outstanding during each period. Diluted earnings per common share adjusts basic earnings per share for the effects of common stock options, common stock warrants, convertible preferred stock and other potential dilutive common shares outstanding during the periods.

  

10
 

 

For purposes of computing diluted earnings per share, 353,780 common share equivalents related to stock options were assumed to be outstanding for the three and nine months ended June 30, 2011. For the three and nine months ended June 30, 2012, the Company excluded no shares of potential common stock related to stock options from the calculation of dilutive shares since there was a loss from continuing operations and the inclusion of potential shares would be anti-dilutive. In addition, as of June 30, 2012 and 2011, common stock options for 1,059,584 and 1,104,406 shares, respectively, with exercise prices above current quarterly average market price per share have been excluded from the calculation of earnings per share since their effect is anti-dilutive.

 

The computation of the weighted shares outstanding for the three months ended June 30 is as follows:

 

   Three Months Ended 
   June 30, 
   2012   2011 
Weighted average shares outstanding          
Common stock   14,275,293    15,394,811 
Effect of dilutive securities Stock Options   -0-    353,780 
Dilutive Average Shares Outstanding   14,275,293    15,748,591 

 

The computation of the weighted shares outstanding for the nine months ended June 30 is as follows:

 

   Nine Months Ended 
   June 30, 
   2012   2011 
Weighted average shares outstanding          
Common stock   14,878,360    14,448,875 
Effect of dilutive securities Stock Options   -0-    353,780 
Dilutive Average Shares Outstanding   14,878,360    14,802,655 

 

Note 7 - Stock Based Compensation

 

The fair value of the stock options granted is estimated at the date of grant using the Black-Scholes option pricing model. The weighted average assumptions for grants during the nine months ended June 30, 2012 and 2011 used in the Black-Scholes option pricing model were as follows:

 

   Nine Months Ended   Nine Months Ended 
   June 30, 2012   June 30, 2011 
Expected term in years   5 years    3 years 
Risk-free interest rate   2.64%   3.95%
Expected volatility   93.62%   85.21%
Expected dividend yield   0.00%   0.00%

 

The expected volatility was determined with reference to the historical volatility of the Company's stock. The Company uses historical data to estimate option exercise and employee termination within the valuation model. The expected term of options granted represents the period of time that the options granted are expected to be outstanding. This estimate was increased form three to five years in 2012. The risk-free interest rate for periods within the contractual life of the option is based on the U.S. Treasury rate in effect at the time of grant. The dividend yield is expected to be 0.00% because historically the Company has not paid dividends on common stock.

 

11
 

 

During the three months ended June 30, 2012, no stock options were granted or exercised. During the three months ended June 30, 2012, 121,980 options were cancelled or expired with a weighted average exercise price of $1.76.

 

During the three months ended June 30, 2012 and 2011, 6,666 and 25,000 shares of restricted stock vested with the value of $26,131 and $100,500, respectively. During the nine months ended June 30, 2012 and 2011, 44,666 and 25,000 shares of restricted stock vested with the value of $178,636 and $100,500, respectively.

 

Stock Compensation Expense for the three months ended June 30, 2012 and 2011 is as follows:

 

   Three Months Ended   Three Months Ended 
Stock Compensation Expense  June 30, 2012   June 30, 2011 
Stock Grants   43,000    -0- 
Restricted Stock Grants   159,552    100,500 
Option Grants   37,206    21,948 
Employee Stock Purchase Plan   3,300    -0- 
Total  $243,058   $122,448 

 

During the nine months ended June 30, 2012, 43,960 stock options were granted at an exercise price of $3.03 per share. These options were granted as Directors’ Compensation for the twelve months ending January 31, 2013, were fully exercisable when granted and expire five years from the grant date. During the nine months ended June 30, 2012, 138,373 options were exercised at an exercise price of $1.58 per share in a cashless exercise, resulting in 41,205 common shares issued. During the nine months ended June 30, 2012, 151,980 stock options were cancelled with an weighted average exercise price of $2.83.

 

Stock Compensation Expense for the nine months ended June 30, 2012 and 2011 is as follows:

 

   Nine Months Ended   Nine Months Ended 
Stock Compensation Expense  June 30, 2012   June 30, 2011 
Stock Grants   152,041    189,892 
Restricted Stock Grants   465,303    108,125 
Option Grants   168,675    199,038 
Employee Stock Purchase Plan   35,568    -0- 
Total  $821,586   $497,055 

 

At June 30, 2012, there was $1,252,861 in unrecognized stock compensation expense based on unvested options and unvested restricted stock. At June 30, 2011, there was $1,725,677 in unrecognized stock compensation expense based on unvested options and unvested restricted stock.

 

A summary of restricted stock activity for the nine months ended June 30, 2012 and 2011 is presented below:

 

Restricted Stock Activity for the Nine
Months ended June 30, 2012
  Shares   Weighted-Average
Grant-Date Fair Value
 
Nonvested at September 30, 2011   403,000   $4.02 
           
Granted   -0-    -0- 
Vested   44,666   $4.00 
Cancelled   -0-    -0- 
Nonvested at June 30, 2012   358,334   $4.02 

 

12
 

 

Restricted Stock Activity for the Nine
Months ended June 30, 2011
  Shares   Weighted-Average
Grant-Date Fair Value
 
Nonvested at September 30, 2010   7,500   $3.75 
           
Granted   423,000   $4.02 
Vested   27,500   $4.00 
Cancelled   -0-    -0- 
Nonvested at June 30, 2012   403,000   $4.02 

 

Note 8 – Segment, Customer and Geographical Reporting

 

Segment Financial Information

 

Dynasil’s business is comprised of two segments: products and technology (“Products and Technology”) and contract research (“Contract Research”). Within these segments, there is a segregation of reportable units based upon the organizational structure used to evaluate performance and make decisions on resource allocation, as well as availability and materiality of separate financial results consistent with that structure. The Products and Technology segment manufactures optical materials, components, coatings and specialized instruments used in various applications in the medical, industrial, and homeland security/defense sectors. The Company’s most recent new business venture, Dynasil Biomedical Corp. (“Dynasil Biomedical”) is reported within this segment. It has been determined that this new business venture will primarily pursue product commercialization of technologies and technology licensing opportunities, though there can be no assurances that any of these opportunities will become successfully commercialized. Dynasil’s Contract Research segment is one of the largest small business participants in U.S. government-funded research.

 

The Company’s segment information for the three months ended June 30, 2012 and 2011 is summarized below:

 

   Three Months Ended 
   June 30, 
Segment  2012   2011 
Contract Research          
Revenue  $6,552,211   $6,273,104 
Income from Operations   (28,435)   134,132 
Income as a percent of revenue   -0.4%   2.1%
Products and Technology          
Revenue  $5,863,561   $5,880,071 
Income (loss) from Operations   4,449    95,144 
Income (loss) as a percent of revenue   0.1%   1.6%
Total          
Revenue  $12,415,772   $12,153,175 
Income (loss) from Operations   (23,986)   229,276 
Income (loss) as a percent of revenue   -0.2%   1.9%

 

13
 

 

The Company’s segment information for the nine months ended June 30, 2012 and 2011 is summarized below:

 

   Nine Months Ended 
   June 30, 
Segment  2012   2011 
Contract Research          
Revenue  $19,716,645   $18,729,027 
Income from Operations   418,949    561,240 
Income as a percent of revenue   2.1%   3.0%
Products and Technology          
Revenue  $17,563,163   $17,167,003 
Income (loss) from Operations   (552,591)   1,220,407 
Income (loss) as a percent of revenue   -3.1%   7.1%
Total          
Revenue  $37,279,808   $35,896,030 
Income (loss) from Operations   (133,642)  $1,781,647 
Income (loss) as a percent of revenue   -0.4%   5.0%

 

Customer Financial Information

 

For the three and nine months ended June 30, 2012 and 2011, the top three customers for the Contract Research segment were various agencies of the U.S. Government. For the three months ended June 30, 2012 and 2011, these customers made up 56% and 78%, respectively, of Contract Research revenue. For the nine months ended June 30, 2012 and 2011, these customers made up 70% and 80%, respectively, of Contract Research revenue.

 

For the Products and Technology segment, there was no customer whose revenue represented more than 10% of the total segment revenue for the three months or the nine months ended June 30, 2012 and 2011.

 

Geographic Financial Information

 

Revenue by geographic location in total and as a percentage of total revenue, for the three months ended June 30, 2012 and 2011 are as follows:

 

   Three Months Ended   Three Months Ended 
   June 30, 2012   June 30, 2011 
Geographic Location  Revenue   % of Total   Revenue   % of Total 
United States   10,464,672    84.3%  $10,022,392    82.5%
Europe   981,147    7.9%   1,288,494    10.6%
Other   969,954    7.8%   842,289    6.9%
   $12,415,772    100.0%  $12,153,175    100.0%

 

Revenue by geographic location in total and as a percentage of total revenue, for the nine months ended June 30, 2012 and 2011 are as follows:

 

   Nine Months Ended   Nine Months Ended 
   June 30, 2012   June 30, 2011 
Geographic Location  Revenue   % of Total   Revenue   % of Total 
United States   30,947,319    83.0%  $29,580,144    82.4%
Europe   3,476,479    9.3%   3,917,052    10.9%
Other   2,856,011    7.7%   2,398,834    6.7%
   $37,279,808    100.0%  $35,896,030    100.0%

 

14
 

 

Note 9 – Business Acquisition – Dynasil Biomedical

 

On April 14, 2011, Dynasil announced the incorporation of Dynasil Biomedical Corp. as a new business unit to pursue opportunities in the medical field. Through a purchase of assets, Dynasil Biomedical completed the purchase of specific rights to six biomedical technologies invented or co-invented by Dr. Daniel Ericson for $300,000 in cash. Dr. Ericson has joined Dynasil Biomedical as Scientific Lead for research and development. The asset purchase had no impact on the comparative unaudited financial information as reported.

 

Note 10 - Income Taxes

 

Dynasil Corporation of America and its wholly-owned subsidiaries file a consolidated federal income tax return.

 

The Company uses the asset and liability approach to account for income taxes. Under this approach, deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes and net operating loss and tax credit carryforwards. The amount of deferred taxes on these temporary differences is determined using the tax rates that are expected to apply to the period when the asset is realized or the liability is settled, as applicable, based on tax rates, and tax laws, in the respective tax jurisdiction then in effect. Valuation allowances are provided if it is more likely than not that some or all of the deferred tax assets will not be realized. The provision for income taxes includes taxes currently payable, if any, plus the net change during the year in deferred tax assets and liabilities recorded by the Company.

 

The Company applies the authoritative provisions related to accounting for uncertainty in income taxes. As required by these provisions, the Company recognizes the financial statement benefit of a tax position only after determining that the relevant tax authority would more likely than not sustain the position following an audit. For tax positions meeting the more-likely-than-not threshold, the amount recognized in the financial statements is the largest benefit that has a greater than 50 percent likelihood of being realized upon ultimate settlement with the relevant tax authority. The Company has applied these provisions to all tax positions for which the statute of limitations remained open. There was no impact on the Company’s unaudited consolidated financial position, results of operations, or cash flows as of June 30, 2012 and 2011. As of June 30, 2012 and 2011, the Company had no unrecognized tax benefits. The Company’s practice is to recognize interest and/or penalties related to income tax matters in interest and income tax expense. The Company currently has no federal or state tax examinations in progress.

 

The Company has Research and Experimentation tax credits available at both the state and local levels designed to encourage and reward companies for efforts in the areas of research and experimentation. As of June 30, 2012, the Company has federal and state tax credit carryovers totaling approximately $1,300,000, expiring through 2031. The Company’s income tax provision includes a tax benefit of an estimated $178,000 and $331,000 for Research and Experimentation credits attributable to the three and nine months ended June 30, 2012, respectively.

 

The Company has approximately $490,000 in net operating loss carryforwards to offset certain future state income taxes expiring through 2026.

 

The Company files its tax returns as prescribed by the tax laws of the jurisdictions in which it operates. The Company’s tax filings for federal and state jurisdictions for the tax years from 2009 to 2011 are still subject to examination.

 

Note 11 – Obligation to Repurchase Stock

 

As previously disclosed, on February 27, 2012, Dr. Gerald Entine, a former owner of RMD Instruments, LLC and RMD Instruments Corp. (collectively, "RMD"), exercised a put right to require the repurchase of a total of 928,773 shares of Company common stock held by certain entities affiliated with Dr. Entine (collectively, “Entine”) for an aggregate purchase price of $1,857,546, payable on the ninetieth business day with cash or by issuing three-year promissory notes from the date of the notice of the exercise of the put. This put right originated from the Company's acquisition of RMD in July 2008 and is set forth in the Asset Purchase Agreement dated July 1, 2008 by and among the Company, RMD Instruments Corp., RMD Instruments, LLC and Gerald Entine 1988 Family Trust and the other parties named therein (the "Put Right").

 

15
 

 

On June 7, 2012, the Company issued the Entine entities three separate promissory notes (the “Entine Promissory Notes”) for $1,857,546 which satisfied the put obligation. The Entine Promissory Notes had a three-year term with an interest rate of 10% per annum.

 

There were an additional 71,227 shares of common stock outstanding that were subject to the Put Right. The notice period for these shares expired on April 2, 2012 and the amount of $142,454 previously recorded as temporary equity associated with these shares was reclassified to equity.

 

Note 12 – Financial Instruments

 

The fair value of financial instruments is determined by reference to observable market data and other valuation techniques as appropriate.  The Company has established a fair value hierarchy that priorities the inputs to valuation techniques used to measure fair value. Fair values determined by Level 1 inputs utilize quoted prices (unadjusted) in active markets for identical assets or liabilities. Fair values identified by Level 2 inputs utilize observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the related assets or liabilities. Fair values identified by Level 3 inputs are unobservable data points and are used to measure fair value to the extent that observable inputs are not available. Unobservable inputs reflect the Company’s own assumptions about the assumptions that market participants would use at pricing the asset or liability.

 

The carrying amount reported in the consolidated balance sheets for cash and cash equivalents, accounts receivable and accounts payable approximates fair value because of the immediate or short-term maturity of these financial instruments. The fair value of long-term debt is determined using Level 2 inputs.  At June 30, 2012 and September 30, 2011, the carrying value of long-term debt approximates fair value because the underlying instruments are primarily at current market rates.

 

Note 13 – Debt

 

On June 7, 2012, the Company issued the Entine entities three separate promissory notes (the “Entine Promissory Notes”) for $1,857,546 which satisfied the put obligation. The Entine Promissory Notes had a three-year term with an interest rate of 10% per annum. On August 1, 2012, the Company used the proceeds from the Note Purchase Agreement with MCRC (see below) to repay the Entine Promissory Notes in full.

 

On June 29, 2012, the Company entered into Amendment No. 3 to the Original Loan Agreement with Sovereign Bank. Under the Amendment, the Company agreed with Sovereign that the Company would raise, on or before September 30, 2012, at least $2,000,000 in gross proceeds from the sale of its capital stock and/or the incurrence of new indebtedness which is subordinated to the indebtedness in favor of Sovereign, on terms and conditions acceptable to Sovereign in its sole discretion (the “Required Capital Raise”). The Amendment also required the proceeds of the Required Capital Raise be first used to repay all amounts outstanding under the Entine Promissory Notes by September 30, 2012. The Company will use the remaining proceeds for general working capital needs. Therefore, the full amount of the Entine Promissory Notes is classified as a short-term liability.

 

On July 31, 2012, the Company entered into a Note Purchase Agreement (the “Agreement”) with MCRC. Pursuant to the terms of the Agreement, the Company issued and sold to the Purchaser a $3,000,000 subordinated note (the “Subordinated Note”) for a purchase price of $3,000,000.

 

The Subordinated Note matures on July 31, 2017, unless accelerated pursuant to an event of default, as described below. The Subordinated Note bears interest at the rate of ten percent (10%) per annum, with interest to be payable monthly on the last day of each calendar month in each year, the first such payment to be due and payable on August 31, 2012. Under the terms of the Agreement, beginning on and with September 30, 2015, and on the last day of each calendar month thereafter through and including July 31, 2017, the Company will redeem, without premium, $130,434 in principal amount of the Subordinated Note together with all accrued and unpaid interest then due on the amount redeemed.

 

16
 

 

The Company has used a portion of the proceeds from the sale of the Subordinated Note to repay the Entine Promissory Notes in the aggregate principal amount of $1,857,546 and has agreed to use the balance of the proceeds for working capital.

 

Note 14 – Separation Costs

 

On June 27, 2012, the Company’s Chief Executive Officer and President resigned, effective July 6, 2012. As a result, $91,180 in separation costs were recorded in the three and nine months ended June 30, 2012.

 

Note 15 – Subsequent Events

 

On July 31, 2012, the Company received $3 million in subordinated financing as part of a Note Purchase Agreement signed with Massachusetts Capital Resource Company (MCRC). See the Liquidity Section of Item 2: Management’s Discussion and Analysis for further details.

 

On August 1, 2012, the Company satisfied three promissory notes, each dated as of June 7, 2012, issued by the Company in favor of certain entities affiliated with Dr. Gerald Entine (together, “Entine”) in the aggregate principal amount of $1,857,546. The Company incurred the Entine indebtedness in satisfaction of its obligation to repurchase certain shares of Dynasil common stock from Entine pursuant to a put right exercised by Dr. Entine on February 12, 2012. The Entine Promissory Notes were satisfied on August 1, 2012.

 

17
 

 

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

The following management's discussion and analysis should be read in conjunction with our financial statements and the notes thereto in the Dynasil Corporation of America ("Dynasil", the "Company" or "we") Form 10-K for the fiscal year ended September 30, 2011.

 

General Business Overview

 

Revenue for the third quarter of fiscal year 2012, which ended June 30, 2012, was $12.4 million, an increase of 2.2% compared with revenue of $12.2 million for the quarter ended June 30, 2011. Loss from Operations for the quarter was ($23,986) compared with Income from Operations of $229,276 for the quarter ended June 30, 2011. Loss before Taxes for the quarter was ($164,232) compared with Income before Taxes of $80,713 for the quarter ended June 30, 2011.  Net Loss was ($48,130) or $0.00 per share for the quarter ended June 30, 2012, compared with Net Income of $1,026,878, or $0.07 per share, for the quarter ended June 30, 2011. Selling, general and administrative (SG&A) costs increased $2,701,418 from the nine month period ended June 30, 2011. These increased costs were virtually all within the Products and Technology segment. However, SG&A costs declined by $349,350 for the quarter ended June 30, 2012 as compared to the previous quarter ended March 31, 2012. We continue to invest in efforts to support our growth initiatives with organic development of specific product lines within Dynasil Products (previously referred to as RMD Instruments), our dual mode detector commercialization effort and development of Dynasil Biomedical Corp (“Dynasil Biomedical”) technologies, all within our Products and Technology segment. These investments include technology development activities, capital equipment depreciation, development of intellectual property, and staff additions in support of organic products, dual mode detector technology and our longer term product/technology pipeline which includes our biomedical portfolio.

 

The dual mode detector technology is producing revenue while still under development. The timing of this development has not proceeded along the track that was originally expected; however, we are delivering limited quantities of commercial grade crystals now and are working to improve the size and quality of this product. Commercialization of technology from our extensive research and development portfolio and strategic acquisitions are expected to be the key drivers of our future growth and we plan to continue to invest in these growth opportunities, depending upon the availability of capital to fund these endeavors. At the current time, the Company is actively exploring commercialization opportunities in thin film digital x-rays, sensors for nondestructive testing and radiation dosimeters based on technologies developed at Radiation Monitoring Devices, Inc. (“RMD”). We are also developing three specific technologies within Dynasil Biomedical with the goal to monetize the most promising opportunities. Provisional patents have been filed for certain technologies. We recently entered into a technology collaboration agreement with Mayo Clinic, a not-for-profit worldwide leader in medical care, research and education for people from all walks of life. The first project under the collaborative agreement will focus on the development of a therapeutic hypothermia core cooling technology designed to protect the brain during cardiac arrest and traumatic brain injury. Separately, Dynasil and Mayo Clinic are working together on a blood storage technology designed to extend the shelf life of blood products. Dynasil is in preparation of separate business and financing plans for two of our biomedical technologies. Our intention is that, over the next six to twelve months, at least one of these will be spun out into an independent entity in which Dynasil will retain a substantial interest. This will accomplish both the elimination of some of the G&A support for these technologies as well as enable us to bring expertise to help us advance these technologies. It is too early in the process to tell if these will be commercial or investment successes; therefore, no determination has been made as to the Company’s entry into these market segments.

 

Results of Operations

 

   Results of Operations for the Three Months Ended June 30, 
   2012   2011 
   Contract
Research
   Products &
Technology
   Total   Contract
Research
   Products &
Technology
   Total 
Revenue   6,552,211    5,863,561    12,415,772    6,273,104    5,880,071    12,153,175 
Gross Profit   2,377,608    2,778,698    5,156,306    2,797,767    2,342,797    5,140,564 
SG&A   2,406,042    2,774,250    5,180,292    2,663,635    2,247,653    4,911,288 
Operating Income (Loss)   (28,435)   4,449    (23,986)   134,132    95,144    229,276 
GM %   36%   47%        45%   40%     

 

18
 

 

Revenue for the three months ended June 30, 2012 was $12,415,772, a 2.2% increase from $12,153,175 for the three months ended June 30, 2011. Revenue from our Contract Research segment (“Contract Research”) increased by 4.4%. Revenue from our Products and Technology segment (“Products and Technology”) decreased 0.3%. The Contract Research segment revenue growth was significant in light of current pressures on government research funding. The research backlog remains consistent at nearly 18 months. The Products and Technology segment revenue was essentially unchanged.

 

Gross Profit for the three months ended June 30, 2012 was $5,156,306, or 41.5% of sales, a 0.3% increase from $5,140,564, or 42.3% of sales, for the three months ended June 30, 2011. Gross profit as a percent of sales declined for the Contract Research segment to 36.3% at June 30, 2012 from 44.6% at June 30, 2011, as a result of higher direct costs associated with subcontractors and material costs necessary to perform on contracts. Gross profit for the Products and Technology segment improved to 47.4% as a percent of sales at June 30, 2012 from 39.8% as a percent of sales for the quarter ended June 30, 2011 as a result of favorable sales mix.

 

Selling, general, and administrative (“SG&A”) expenses for the three months ended June 30, 2012 were $5,180,292, or 41.7% of sales. This was an increase from SG&A expenses of $4,911,288, or 40.4% of sales, for the three months ended June 30, 2011. Included in the three months ended June 30, 2012, was approximately $91,000 associated with the separation of our former President and CEO. The Contract Research segment had a 9.7% decline in SG&A expenses of $257,593, partially offsetting the decline in gross margin. The Products & Technology SG&A grew to 47.3% of sales for the three months ended June 30, 2012 compared to 38.2% for the three months ended June 30, 2011. Included in these costs is Dynasil Products’ initiative to revitalize all product lines with the goal of gaining market share through new product launches. Dynasil Products spent approximately $362,500 on research and development efforts in the three months ended June 30, 2012 for new product development and approximately $176,500 on sales and marketing efforts. There were costs of approximately $116,500 associated with the continuing development of the dual mode technology. Finally, there was approximately $236,100 in SG&A expenses during the three months ended June 30, 2012 for continuing development of the Dynasil Biomedical technologies that were acquired in April 2011.

 

Loss from Operations for the three months ended June 30, 2012 was ($23,986), a decrease of $253,262 from the prior year comparable period. As a percent of sales, the current period was (0.2%) compared with 1.9% in 2011. The Contract Research segment had lower gross margin, partially offset by lower SG&A costs resulting in Loss from Operations of 0.4% of sales for the three months ended June 30, 2012 compared to 2.1% of sales for the period ended June 30, 2011. The Products and Technology segment had Income from Operations of $4,449 or 0.1% of sales for the three months ended June 30, 2012, compared with Income from Operations of $95,144 or 1.6% of sales for the three months ended June 30, 2011.

 

Net interest expense for the three months ended June 30, 2012 was $140,246, compared with $148,563 for the three months ended June 30, 2011. Interest-bearing debt outstanding at June 30, 2012 was $11,270,135, slightly lower than the outstanding $11,309,008 at June 30, 2011. Debt at June 30, 2012 includes $1,857,564 of promissory notes associated with the obligation to repurchase stock. The addition of the promissory notes offsets the reduction in bank debt of $1,896,419 from June 30, 2011 to June 30, 2012. The promissory notes had an interest rate of 10% per annum.

 

The Company recognized a net tax benefit of $116,102, net of accrued interest and penalties of approximately $94,000 for the three months ended June 30, 2012 in recognition of federal and state tax losses and current period Research and Experimentation tax credits. The net tax benefit of $946,165 recorded for the next three months ended June 30, 2011 included approximately $1.0 million in Research and Experimentation tax credits.

 

Net Loss for the three months ended June 30, 2012 was ($48,130), or $0.00 in basic earnings per share, compared with Net Income of $1,026,878, or $0.07 in basic earnings per share, for the quarter ended June 30, 2011. The net tax benefit included approximately $178,000 in U.K. Research and Development tax credits partially offset by approximately $94,000 in estimated interest and penalties related to amended tax returns filed for 2008, 2009 and 2010.

 

19
 

 

Results of Operations – Year to Date

 

   Results of Operations for the Nine Months Ended June 30, 
   2012   2011 
   Contract
Research
   Products &
Technology
   Total   Contract
Research
   Products &
Technology
   Total 
Revenue  $19,716,645   $17,563,163   $37,279,808   $18,729,027   $17,167,003   $35,896,030 
Gross Profit  $7,434,062   $8,111,840   $15,545,902   $7,621,912   $7,137,861   $14,759,773 
SG&A  $7,015,114   $8,664,430   $15,679,544   $7,060,672   $5,917,454   $12,978,126 
Operating Income (Loss)  $418,949   $(552,591)  $(133,642)  $561,240   $1,220,407   $1,781,647 
GM %   38%   46%        41%   42%     

 

Revenue for the nine months ended June 30, 2012 was $37,279,808, a 3.9% increase from $35,896,030 for the nine months ended June 30, 2011. Revenue from our Contract Research segment increased by 5.3% with continued high interest in our research capabilities from our largest governmental agency customers. Our Products and Technology segment had a revenue increase of 2.3%.

 

Gross Profit for the nine months ended June 30, 2012 was $15,545,902, or 41.7% of sales, a 5.3% increase from $14,759,773, or 41.1% of sales, for the nine months ended June 30, 2011.

 

SG&A expenses for the nine months ended June 30, 2012 were $15,679,544, or 42.1% of sales. This was an increase from SG&A expenses of $12,978,126, or 36.2% of sales, for the nine months ended June 30, 2011. Included in SG&A for the period, was $819,526 in stock compensation compared with $497,055 for the nine months ended June 30, 2011, and approximately $91,000 associated with the separation of our former President and CEO. The Contract Research segment had a 0.6% decrease in SG&A. The Products & Technology SG&A grew to 49.3% of sales for the nine months ended June 30, 2012 compared to 34.5% for the nine months ended June 30, 2011. Included in these costs is Dynasil Products’ initiative to revitalize all product lines with the goal of gaining market share through new product launches. Dynasil Products spent $1,075,000 on research and development efforts and $419,000 on sales and marketing in the nine months ended June 30, 2012. Finally, included in SG&A expenses during the nine months ended June 30, 2012 was $671,800 for continuing development of the Dynasil Biomedical technologies purchased in April 2011.

 

Loss from Operations for the nine months ended June 30, 2012 was ($133,642), a decrease of $1,915,289 from the prior year comparable period. As a percent of sales, the Loss from Operations for the nine months ending June 30, 2012 was (0.4%) compared with Operating Income of 5.0% in 2011. The Contract Research segment had Income from Operations of 2.1% of sales for the nine months ended June 30, 2012, compared with the period ended June 30, 2011, which was 3.0% of sales. The Products and Technology segment had Loss from Operations of ($552,591) or (3.1%) of sales for the nine months ended June 30, 2012, compared with Income from Operations of $1,220,407 or 7.1% of sales for the nine months ended June 30, 2011. The change was primarily caused by higher SG&A costs for revitalization of our product lines and commercialization of new technologies.

 

Net interest expense for the nine months ended June 30, 2012 was $375,855 compared with $461,916 for the nine months ended June 30, 2011, primarily due to the continued reduction in debt during the year partially offset by the interest expense associated with the promissory notes created on June 7, 2012.

 

The Company recognized a tax benefit of $367,047 for the nine months ended June 30, 2012 in recognition of federal and state tax losses and current period Research and Experimentation tax credits.

 

Net Loss for the nine months ended June 30, 2012 was ($142,450) or ($0.01) in basic earnings per share, compared with Net Income of $1,798,073, or $0.12 in basic earnings per share, for the nine months ended June 30, 2011.

 

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Liquidity and Capital Resources

 

Cash decreased by $1,493,528 for the nine months ended June 30, 2012 to $2,986,312. There were non-cash expenses including stock compensation expense of $821,586 and depreciation and amortization of $1,085,691. These items totaled $1,907,277. There was an increase in accounts receivable of $1,780,946 during the nine months ended June 30, 2012. However, accounts receivable declined during the quarter ended June 30, 2012 by $632,750 and Days Sales Outstanding (DSO) improved to 57.0 days from 60.5 days at March 31, 2012. The Contract Research segment had DSO of 55.4 days at June 30, 2012 compared with 54.6 days at March 31, 2012. Although we are still experiencing delays in some of the required submissions of our technical reports, resulting in delayed payments, our process has improved and collection improvement is expected. In addition, certain governmental agencies have adopted practices requiring more stringent paperwork in order for payment to be made. Once the processes are streamlined with the governmental agencies, there should be no further delays in receipt of payments. We believe that these paperwork submission difficulties are temporary and due in part to management transitions at RMD occurring earlier in the year. We do not believe that these procedural matters will ultimately affect the collectability of these receivables and accordingly, we have not made any increase in allowance for doubtful accounts for these receivables. The Products and Technology segment had DSO of 59.2 days at June 30, 2012 compared with 68.5 days at March 31, 2012. Despite the improvement, collections have generally been slower in this segment. Inventories increased a modest $37,312 and inventory turns were unchanged from 4.0 turns at September 30, 2011. Inventory reserves were increased by $59,353. The net increase in accounts payable and accrued expenses provided $728,418 in cash from operating activities. There has been greater emphasis on aligning payment practices with collection activities.

 

Cash Provided by Operating Activities

 

In total, including the increased accounts receivable and the source from accounts payable and accrued expenses, operating activities provided cash of $631,059 for the nine months ended June 30, 2012.

 

Cash Used in Investing and Financing Activities

 

Cash used for the purchase of property, plant and equipment for the nine months ended June 30, 2012 was $764,028. Payments of long term debt for the nine months ended June 30, 2012 were $1,432,581 primarily as part of regularly schedule payments to Sovereign Bank, N.A. (“Sovereign” or the “Lender”) under the five year Term Debt and Acquisition Line of Credit. Net cash used in financing activities was $1,379,917 for the nine months ended June 30, 2012.

 

Expenses and Operating Income

 

The Company has heavily invested in strategic initiatives for the future. These expenses have primarily been recognized in SG&A expenses and have reduced operating income. These expenses include organic product development within Dynasil Products, increased spending on intellectual property creation, staff additions in support of organic products, continued costs to commercialize the dual mode detector technology and spending to support our longer term product/technology pipeline which includes our biomedical portfolio. These expenses, without corresponding revenue, have reduced operating income, cash flow and the Company’s borrowing capacity. SG&A expenses associated with Dynasil Product’s activities for the nine months ended June 30, 2012 was $1,075,000 in research & development and an additional $419,000 for the nine months ended June 30, 2012 in sales & marketing efforts. There was $671,800 spent in the nine months ended June 30, 2012 for continuing development of the Dynasil Biomedical technologies purchased in April, 2011. In total, however, SG&A declined in the quarter ended June 30, 2012 from the prior quarter ended March 31, 2012.

 

Sovereign Bank Loan Agreement

 

Due in part to the factors described above, on June 29, 2012, the Company entered into a letter agreement (the “Waiver Letter”) with Sovereign as well as Amendment No. 3 (the “Amendment”) to the Loan and Security Agreement, dated July 7, 2010, as amended on April 1, 2011 and April 12, 2012 (the “Original Loan Agreement”). Under the Waiver Letter, the Lender agreed to waive non-compliance by the Company with certain financial covenants under the Original Loan Agreement as of June 30, 2012, subject to the Company’s compliance with the terms of the Amendment, including the requirement that the Company would raise, on or before September 30, 2012, at least $2,000,000 in gross proceeds from the sale of its capital stock and/or the incurrence of new indebtedness which is subordinated to the indebtedness in favor of the Lender, on terms and conditions acceptable to the Lender in its sole discretion (the “Required Capital Raise”) and applying the proceeds as described below, all of which the Company has successfully completed.

 

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The Amendment also made certain other changes to the Original Loan Agreement, including certain financial covenants, limitations on capital expenditures and the termination of the Company’s acquisition line of credit, in each case as described in more detail below. The Amendment did not change the interest rates on outstanding indebtedness under the Original Loan Agreement.

 

The terms of the Amendment are described below:

 

The Required Capital Raise on or before September 30, 2012

 

Under the Amendment, the Company agreed with the Lender that the Company would raise, on or before September 30, 2012, at least $2,000,000 in gross proceeds from the sale of its capital stock and/or the incurrence of new indebtedness which is subordinated to the indebtedness in favor of the Lender, on terms and conditions acceptable to the Lender in its sole discretion. As disclosed in the Company’s Form 8-K filed on June 8, 2012, the Company has incurred indebtedness in favor of certain entities affiliated with Dr. Gerald Entine (together, “Entine”) in the aggregate principal amount of $1,857,546 (the “Entine Indebtedness”). The Company incurred the Entine Indebtedness in satisfaction of its obligation to repurchase certain shares of Dynasil common stock from Entine pursuant to a put right exercised by Entine on February 12, 2012. The proceeds of the Required Capital Raise must first be used to repay all amounts outstanding under the Entine Indebtedness by September 30, 2012, and thereafter for general working capital needs. The Required Capital Raise has been completed as of July 31, 2012 pursuant to the Note Purchase Agreement (“the Agreement”) with Massachusetts Capital Resource Company (“MCRC”) described below. Pursuant to the terms of the Agreement, the Company issued and sold to MCRC a $3,000,000 subordinated note (the “Subordinated Note”) for proceeds of $3,000,000.

 

Amendment to Leverage Ratio Covenants

 

For the Consolidated Maximum Leverage Ratio (Consolidated Total Funded Debt to Consolidated EBITDA, as defined in the Amendment), the Amendment (i) revised the required ratio for September 30, 2012 from 3.25x to 4.5x; (ii) revised the required ratio for December 31, 2012 from 3.0x to 4.5x; and (iii) revised the required ratio for March 31, 2013 and for each rolling four quarters thereafter from 3.0x to 4.0x.

 

The Amendment also includes a new Consolidated Maximum Adjusted Leverage Ratio covenant, which is Consolidated Total Funded Debt (excluding subordinated debt) to Consolidated EBITDA, as defined in the Amendment. The Amendment requires the Company to maintain a Consolidated Maximum Adjusted Leverage Ratio equal to or less than (i) 3.25x to 1.00x for each of the rolling four quarter periods ending on September 30, 2012 and December 31, 2012, and (ii) 3.0x to 1.0x for each rolling four quarter period ending on or after March 31, 2013.

 

For the purposes of calculating both the Consolidated Maximum Leverage Ratio and the Consolidated Maximum Adjusted Leverage Ratio, Consolidated EBITDA (as defined in the Amendment) will be (i) at September 30, 2012, the actual Consolidated EBITDA for the 3 months then ended times 4; (ii) at December 31, 2012, the actual Consolidated EBITDA for the 6 months then ended times 2; and (iii) at March 31, 2013, the actual Consolidated EBITDA for the 9 months then ended times 4/3 (provided that the add-backs for costs are not annualized).

 

Amendment to Fixed Charge Coverage Ratio Covenants

 

For the Consolidated Fixed Charge Coverage Ratio, the Amendment (i) revised the required ratio for September 30, 2012 from 1.10x to 1.00x; (ii) revised the required ratio for December 31, 2012 from 1.20x to 1.00x; (iii) revised the required ratio for March 31, 2013 from 1.20x to 1.05x; (iv) revised the required ratio at 6/30/13 from 1.20x to 1.10x; and (v) did not change the required ratio at September 30, 2013 (remained at 1.20x).

 

The Consolidated Fixed Charge Coverage Ratio is defined as Consolidated EBITDA (as defined in the Amendment) for the applicable period divided by the sum of (a) the Company’s consolidated interest expense for such period, plus (b) the aggregate principal amount of scheduled payments on the Company’s indebtedness made during such period (excluding any repayment of the Entine Indebtedness), plus (c) the sum of all cash dividends and other cash distributions to the Company’s shareholders during such period, plus (d) the sum of all taxes paid in cash by the Company during such period, less (e) up to $75,000 paid to the IRS, to the extent characterized as interest expense, in connection with certain historical tax filings (the “IRS Payments”).

 

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For the purposes of calculating the Consolidated Fixed Charge Coverage Ratio, Consolidated EBITDA will be (i) at September 30, 2012, the actual Consolidated EBITDA for the 3 months then ended times 4; (ii) at December 31, 2012, the actual Consolidated EBITDA for the 6 months then ended times 2; and (iii) at March 31, 2013, the actual Consolidated EBITDA for the 9 months then ended times 4/3 (provided that the add-backs for Entine Indebtedness repayment and the IRS Payments are not annualized).

 

Restriction on Capital Expenditures

 

For the fiscal year ending September 30, 2012, the Amendment reduced the limitation on the Company’s capital expenditures from $3.25 million to $2.25 million and for fiscal years ending September 30, 2013 and for each fiscal year thereafter, the Amendment raised the limitation on the Company’s capital expenditures from $2.00 million to $2.25 million.

 

Termination of Acquisition Line of Credit

 

The Amendment also accelerated the termination date of the Company’s $5 million acquisition line of credit to June 29, 2012, which will prohibit the Company from drawing down the approximately $1 million of previously available undrawn funds.

 

Obligation to Repurchase Stock

 

As previously disclosed, on February 27, 2012, Dr. Gerald Entine, a former owner of RMD Instruments, LLC and RMD Instruments Corp. (collectively, "RMD"), exercised a put right to require the repurchase of a total of 928,773 shares of Company common stock held by certain entities affiliated with Dr. Entine (collectively, “Entine”) for an aggregate purchase price of $1,857,546, payable on the ninetieth business day from the date of the notice of the exercise of the put. This put right originated from the Company's acquisition of RMD in July 2008 and is set forth in the Asset Purchase Agreement dated July 1, 2008 by and among the Company, RMD Instruments Corp., RMD Instruments, LLC and Gerald Entine 1988 Family Trust and the other parties named therein (the "Put Right").

 

The Company determined to pay the entire aggregate purchase price by issuing the Entine entities three separate promissory notes (the “Entine Promissory Notes”) in the aggregate principal amount of $1,857,546. The closing of the transaction occurred on June 7, 2012.

 

On July 31, 2012, the Company entered into a Note Purchase Agreement with MCRC as described below, in the amount of $3,000,000. The proceeds were used to pay the Entine Promissory Notes in full on August 1, 2012.

 

There were an additional 71,227 shares of common stock outstanding that were subject to the Put Right. The notice period for these shares has expired and the temporary equity of $142,454 associated with these shares has been reclassified to permanent equity.

 

Note Purchase Agreement – Massachusetts Capital Resource Company

 

On July 31, 2012, the Company entered into the Agreement with MCRC. Pursuant to the terms of the Agreement, the Company issued and sold to MCRC the $3,000,000 Subordinated Note for proceeds of $3,000,000. The Company has used a portion of the proceeds from the sale of the Subordinated Note to repay the Entine Indebtedness in the aggregate principal amount of $1,857,546 and has agreed to use the balance of the proceeds for working capital purposes.

 

The Subordinated Note matures on July 31, 2017, unless accelerated pursuant to an event of default, as described below. The Subordinated Note bears interest at the rate of ten percent (10%) per annum, with interest to be payable monthly on the last day of each calendar month in each year, the first such payment to be due and payable on August 31, 2012. Under the terms of the Agreement, beginning on and with September 30, 2015, and on the last day of each calendar month thereafter through and including July 31, 2017, the Company will redeem, without premium, $130,434 in principal amount of the Subordinated Note together with all accrued and unpaid interest then due on the amount redeemed.

 

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Under the terms of the Agreement and a Subordination Agreement dated July 31, 2012, among the Company, the Guarantor Subsidiaries, the Lender and MCRC, MCRC and any successor holder of the Subordinated Note have agreed that the payment of the principal of and interest on the Subordinated Note shall be subordinated in right of payment, to the prior payment in full of all indebtedness of the Company for money borrowed from banks or other institutional lenders at any time outstanding, including money borrowed from the Lender under the Original Loan Agreement.

 

The Agreement contains customary representations, warranties and covenants, including covenants by the Company limiting additional indebtedness, liens, guaranties, mergers and consolidations, substantial asset sales, investments and loans, sale and leasebacks, transactions with affiliates and fundamental changes. In addition, the Agreement contains financial covenants by the Company (as further defined in the Agreement) that (i) impose a Consolidated Maximum Leverage Ratio (consolidated total funded debt to consolidated EBITDA) equal to or less than (a) 5.0 to 1.0 for each of the rolling four quarter periods ending on September 30, 2012 and December 31, 2012, and (b) 4.5 to 1.0 for each rolling four quarter period ending on or after March 31, 2013, and (ii) require a Consolidated Fixed Charge Coverage Ratio (consolidated EBITDA to consolidated fixed charges) of not less than (a) .75 to 1.00 for each of the rolling four quarter periods ending on September 30, 2012 and December 31, 2012, (b) .8 to 1.0 for each of the rolling four quarter period ending on March 31, 2013 and June 30, 2013, and (c) .95 to 1.00 for each rolling four quarter period ending on or after September 30, 2013.

 

The Agreement also provides for events of default customary for agreements of this type, including, but not limited to, non-payment, breach of covenants, insolvency and defaults on other debt. Upon an event of default, MCRC may elect to declare all obligations (including principal, interest and all others amounts payable) immediately due and payable, which shall occur automatically if the Company becomes insolvent.

 

Liquidity Outlook

 

On June 29, 2012, the Company entered into the "Waiver Letter" with Sovereign Bank as well as Amendment No. 3 to the Original Loan Agreement with the Lender. Under the Waiver Letter, the Lender agreed to waive non-compliance by the Company with certain financial covenants under the Original Loan Agreement as of June 30, 2012, subject to the Company's compliance with the terms of the Amendment, including completing a financing raising of at least $2 million in gross proceeds on or before September 30, 2012 and applying the proceeds to first repay the Entine Indebtedness with the balance (if any) to be used for general working capital purposes.

 

On July 31, 2012, the Company entered into a Note Purchase Agreement with MCRC. Pursuant to the terms of the Agreement, the Company issued and sold to MCRC the Subordinated Note for a purchase price of $3,000,000. The Company has used a portion of the proceeds from the sale of the Subordinated Note to repay the Entine Indebtedness in the aggregate principal amount of $1,857,546. The balance of approximately $1.1 million is immediately available to the Company and will be used for general working capital purposes.

 

Management believes that its current cash and cash equivalent balances, along with net cash generated by operation and access to its working capital line of credit (subject to covenant compliance), are sufficient to meet its anticipated cash needs for at least the next twelve months. As of June 30, 2012, the Company had cash of $2,986,312 with an additional amount of approximately $1,100,000 available cash from the MCRC Note Purchase after satisfying the Entine Indebtedness. The Company believes that it will stay in compliance with debt covenants and over time be able to access in full its $3 million working capital line of credit with Sovereign Bank. However, there is no assurance that the Company will be successful in its plans. The belief is also based upon many assumptions, including the general business climate. A reoccurring worldwide economic slow-down could significantly impact the Company’s revenues and profits so that a returning recession could cause a cash shortage.

 

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Strategy to Commercialize our Advanced Technology

 

Our principal business strategy is to employ our contract research, product development and technological capabilities to establish leading positions in markets including homeland security, industrial and medical. We believe that we can achieve this strategy by: 1) developing and expanding our research portfolio; 2) commercializing the technologies coming from our Contract Research segment; 3) growing organically through investment in existing products; 4) acquiring new technologies or pathways to market to help accelerate commercialization of our technologies into our primary security and medical markets; and 5) identifying and investing in those technologies with the greatest revenue and growth potential in the market.

 

To achieve our strategy we are focusing on:

 

·Building a strong team of business and marketing leadership;
·Increasing our effectiveness across the organization through a series of operational initiatives, enabling us to expand into new product lines and penetrate new markets;
·Further strengthening our technology pipeline by expanding business development and by enhancing our intellectual property estate; and
·Executing a focused acquisition strategy that leverages our research and technology expertise and aligns acquisition dollars with projects closest to field readiness.

 

Contract Research – the Science Behind our Technology

 

Our Contract Research business unit, RMD, is among the largest small business participants in U.S. government-funded research, performing research and development activities for government agencies including Department of Energy, Department of Defense, Department of Homeland Security, Domestic Nuclear Detection Office, National Institutes of Health, and NASA.

 

RMD develops advanced technology in materials, sensors and prototype instruments that detect, use or measure radiation, light, magnetism or sound for use in security, medical and industrial applications. RMD has technology practices in material science, radiation detection, digital imaging technology, magnetic imaging, laser optics and photonics.

 

For more than 25 years, RMD has successfully conducted government research under the auspices of the Small Business Innovation Research (“SBIR”) program. In recent years, RMD has augmented its SBIR research with larger, competitively bid government research and development contracts. To grow our research portfolio within the federal government, we are broadening our relationships within key federal funding agencies and the U.S. military. Our research initiatives are aligned with our focus on the homeland security, medical and industrial markets. As of June 30, 2012, RMD had a contract backlog of approximately 18 months.

 

We believe that research projects provide an important source for new commercial products in areas such as medical imaging, industrial sensors, critical care and point of care diagnostics and homeland security. For example, precision instrumentation in our Products & Technology segment, including our lead paint analyzer and a medical probe for cancer surgery, emanated from the RMD portfolio. Our government-funded research work also has spawned programs such as our dual-mode radiation detection technology.

 

Intellectual Property

 

The Company’s intellectual property portfolio has expanded from 40 issued, 3 provisional and 18 pending U.S. Patents as of June 30, 2011 to 43 issued, 25 provisional and 37 pending U.S. Patents as of June 30, 2012. We believe that intellectual property represents an important strategic advantage for us. As a result, we recently established a patent committee to help broaden the value of our intellectual property estate. The committee is strengthening the identification of intellectual property within the Company by implementing a broad based vetting process to specifically understand product definition, technical maturity, the value proposition, competition, and market size to ensure that we develop IP that maximizes the market value of our research. This is consistent with our strategy and will allow us to protect selected technologies that we believe have commercial potential – either through product offerings or licensing agreements.

 

Products & Technology – Bringing Technology to Market

 

Our Products & Technology segment includes six business units that manufacture specialized precision instruments, optical materials, components, and coatings for various applications in the medical, industrial, and homeland security/defense sectors.

 

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The largest business unit within our Products & Technology segment manufactures precision instruments such as handheld lead paint analyzers, medical probes that help surgeons detect cancer tracers, thereby enabling more effective surgical procedures, and a radiation imaging camera system. Previously referred to as RMD Instruments, this business unit has been renamed Dynasil Products.

 

We have continued investments in our pipeline of commercial product opportunities in homeland security and medical technology. Our Products & Technology businesses are helping to fund the commercial launch of our dual mode detector as well as evaluation, development and testing of certain assets within our biomedical technology portfolio.

 

We have begun to implement a Product Realization Process designed to support the evaluation, assessment, development and commercialization of our technologies. Concurrently, we will be screening technologies with this tool to develop Dynasil’s pipeline of commercial technology opportunities. This process also will serve to identify licensing or acquisition opportunities to help speed our offerings to market.

 

In conjunction with our Product Realization Process, we are building the foundation for an enhanced product development, engineering and management capability within Dynasil for those technologies that we choose to commercialize. This process also effectively provides a single resource to evaluate our design for manufacturability, contract manufacturing pathways, cost of goods and pricing, as well as our launch and distribution strategies.

 

These initiatives will be managed within our Dynasil Products business unit as it will be the commercial engine for the company generating income through organic programs and technology licensing opportunities.

 

Dynasil is also investing in organic product development in 2012. Guided by our product realization process, our product development team is undertaking simultaneous and extensive product line updates to improve features and functionality on our lead paint analyzer, medical probe and radiation imaging camera. In April, we announced the launch of our LPXpro Lead Paint Analyzer. This product will be available for sale upon receipt of our final regulatory approval. We expect this to happen in the first half of fiscal year 2013.

 

Product Pipeline

 

One of our current commercialization programs is our dual mode radiation detection technology. Our dual mode technology was developed by RMD under a program for the Department of Homeland Security for use in locating nuclear bombs or nuclear materials at our nation’s ports and borders. This technology is of critical importance to our national security, as well as other radiation detection applications, such as nuclear power plant safety.


Our dual mode detector technology is designed to be a single detector that replaces two detector subsystems – the gamma radiation detector and also the helium-3 detectors for neutrons. Increasing our value proposition is the fact that the stockpile of the chemical element helium-3, a byproduct of nuclear weapons production, is in critically short supply. The stockpile of helium-3 has been drawn down over the past ten years, as the federal government has increased its use in neutron detectors to help prevent nuclear and radiological material from being smuggled into the U.S. Potential applications for our synthetic crystals include homeland security, baggage scanning, medical imaging, oil exploration and military.


In order to accelerate the pace of this technology to market, and to establish manufacturing capacity, in July 2010 we acquired Hilger Crystals, a leading manufacturer of scintillation crystals based in Margate, Kent, U.K. During the 2011 fiscal year, our specialized furnaces began pilot production of our proprietary scintillation crystals. Additional furnaces were fabricated and tested, installed, and commissioned during the first half of Fiscal Year 2012. Although our crystal development has not proceeded along the track that was originally intended, we are delivering limited quantities of commercial grade crystals now and are focused on improving the size and quality of this product.


As part of our product pipeline review, we are continuing our efforts to evaluate additional promising technologies with commercial potential in the security, medical and industrial markets as we put our product realization process in place. Early stage opportunities currently under evaluation include dosimeters, thin film digital x-rays, sensors for non-destructive testing and certain biomedical technologies.

 

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·Dosimeters: We are developing compact, low cost radiation badges (dosimeters) for potential military, industrial, medical and consumer applications. The project is being funded by the DOD’s Defense Threat Reduction Agency. We have partially completed shipments of 150 prototypes for field evaluation. The Company is researching the potential customer base and marketability of this potential product. According to Introductory Profile 2010 on dosimetryimaging.com, the total dosimeter market size is currently about $500 million.

 

·Thin film digital X-rays: RMD is developing a family of thin film scintillators that – as a component – make possible digital X-ray detectors with higher image resolution and faster rates of image capture, all at a lower effective X-ray dose to the patient. Thicker variations of these films offer promise of lower-cost, higher-performance substitutes for use in CT, SPECT and PET imaging system detectors for medical, industrial and domestic security applications. An August 2011 report by Nanomarkets LC indicated that the area of thin film scintillators used is expected to grow from 72 million cm² in 2011 to 258 million cm² in 2018. According to the PET/SPECT Report dated November 10, 2010 from the firm Markets and Markets, the market for PET/SPECT imaging systems – of which our technology is a component — is expected to grow from $6.8 billion in 2010 to $10.3 billion in 2015.

 

·Sensors for non-destructive testing: We are developing a product with an enhanced capability to detect cracks in high value components such as aircraft wings and jet engine turbine blades at a higher rate of speed. Unlike conventional probes that use hand wound coils, our advanced technology uses solid state sensors with high sensitivity to magnetic fields and low noise characteristics. When fully developed, this emerging technology could dramatically improve the ability and speed to inspect high value components. During the fourth quarter of 2011, we reached agreement to co-develop and evaluate the advanced technology on aircraft engine applications with an early adopter customer.

 

·Biomedical technologies: In April 2011, we acquired a biomedical technology portfolio from hematologist Dr. Daniel Ericson. The portfolio included several discoveries owned jointly by Dr. Daniel Ericson and Mayo Clinic. The six purchased technology rights include a method that could significantly extend the storage time for red blood cells as well as enhancing the quality of those cells, a tuberculosis test with the potential to provide a rapid (one hour) test, a high tensile strength tissue sealant developed for both topical and internal bleeding that could accelerate clot formation, and a set of technologies focused on point of care diagnostics for assessing hemophilia, blood coagulation and cardiovascular risk. The Dynasil Biomedical technology portfolio is being managed by and has become part of our Dynasil Products business unit which already has a presence and a proven track record in medical diagnostics. We will seek opportunities to license these technologies as well as obtain research grants to advance several of the development-stage technologies for various therapeutic applications.

 

All of these technologies are in early stages of development and may require significant investment to support further development, regulatory approval and commercialization. While Dynasil currently believes that these technologies represent exciting opportunities, there can be no assurances that any of these technologies will be successfully commercialized.

 

Strategic Acquisition Targets

 

We are focused on completing new acquisitions in the homeland security, medical and industrial markets, where the Company has core competencies. Future acquisition targets will include businesses that enable us to acquire advanced products or technologies to expand our product portfolio, or to gain complementary capabilities, such as manufacturing and distribution, for our current businesses and for technologies originating from the Company’s research engine.

 

Critical Accounting Policies and Estimates

 

There have been no material changes in our critical accounting policies or critical accounting estimates since September 30, 2011. We have not adopted any accounting policies since September 30, 2011 that have or will have a material impact on our consolidated financial statements. For further discussion of our accounting policies see the “Summary of Significant Accounting Policies” in the Notes to Consolidated Financial Statements in our Annual Report on Form 10-K for the fiscal year ended September 30, 2011 as well as the notes in this Form 10-Q.

 

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The accounting policies that reflect our more significant estimates, judgments and assumptions and which we believe are the most critical to aid in fully understanding and evaluating our reported financial results include the following:

 

Revenue Recognition

 

Revenue from sales of products is recognized at the time title and the risks and rewards of ownership pass. Revenue from research and development activities is derived generally from the following types of contracts: reimbursement of costs plus fees, fixed price or time and material type contracts. Revenue is recognized when the products are shipped per customers’ instructions, the contract has been executed, the contract or sales price is fixed or determinable, delivery of services or products has occurred and the Company’s ability to collect the contract price is considered reasonably assured.

 

Government funded services revenues from cost plus contracts are recognized as costs are incurred on the basis of direct costs plus allowable indirect costs and an allocable portion of the contracts’ fixed fees. Revenue from fixed-type contracts is recognized under the percentage of completion method with estimated costs and profits included in contract revenue as work is performed. Revenues from time and materials contracts are recognized as costs are incurred at amounts generally commensurate with billing amounts. Recognition of losses on projects is taken as soon as the loss is reasonably determinable. The Company has no current accrual provision for potential losses on existing research projects based on Management expectations as well as historical experience.

 

The majority of the Company’s contract research revenue is derived from the United States government and government related contracts. Such contracts have certain risks which include dependence on future appropriations and administrative allotment of funds and changes in government policies. Costs incurred under United States government contracts are subject to audit. The Company believes that the results of such audits will not have a material adverse effect on its financial position or its results of operations.

 

Valuation of Long-Lived Assets, Intangible Assets and Goodwill

 

Goodwill

 

Goodwill is subject to an annual impairment test. We consider many factors which may indicate the requirement to perform additional, interim impairment tests. These include:

 

·A significant adverse long term outlook for any of our industries;
·An adverse finding or rejection from a regulatory body involved in new product regulatory approvals;
·Failure of an anticipated commercialization product line;
·Unanticipated competition or a disruptive technology introduction;
·The testing for recoverability under the Impairment or Disposal of Long-Lived Assets Subsections of Subtopic 360-10 of a significant asset group within a reporting unit;
·A loss of key personnel; and
·An expectation that a reporting unit carrying goodwill, or a significant portion of a reporting unit, will be sold or otherwise disposed of.

 

Goodwill is tested by reviewing the carrying value compared to the fair value at the reporting unit level. Fair value for the reporting unit is derived using the income approach. Under the income approach, fair value is calculated based on the present value of estimated future cash flows. Assumptions by management are necessary to evaluate the impact of operating and economic changes and to estimate future cash flows. Management’s evaluation includes assumptions on future growth rates and cost of capital that are consistent with internal projections and operating plans.

 

The Company generally performs its annual impairment testing of goodwill during the fourth quarter of its fiscal year, or more frequently if events or changes in circumstances indicate that the assets might be impaired. The Company tests impairment at the reporting unit level using the two-step process. The Company’s primary reporting units tested for impairment are Radiation Monitoring Devices, which comprises our Contract Research segment, Dynasil Products (previously known as RMD Instruments), which is a component of our Products and Technology segment, and Hilger Crystals, also a component of our Products and Technology segment.

 

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Step one of our impairment testing compares the carrying value of the reporting unit to its fair value. The carrying value represents the net book value of the net assets of the reporting unit or simply the equity of the reporting unit if the reporting unit is the entire entity. The Company estimates fair value using a discounted cash flow methodology which calculates fair value based on the present value of estimated future cash flows. Estimating future cash flows requires significant judgment and includes making assumptions about projected growth rates, industry-specific factors, working capital requirements, weighted average cost of capital, and current and anticipated operating conditions. Assumptions by management are necessary to evaluate the impact of operating and economic changes. The Company’s evaluation includes assumptions on future growth rates and cost of capital that are consistent with internal projections and operating plans. The use of different assumptions or estimates for future cash flows could produce different results. The Company regularly assesses the estimates based on the actual performance of our reporting units.

 

If the carrying value of a reporting unit is greater than its fair value, step two of the impairment testing process is performed to determine the amount of impairment, if any, to be recognized. Step two requires the Company to estimate an implied fair value of the reporting unit’s goodwill by allocating the fair value of the reporting unit to all of the assets and liabilities other than goodwill. An impairment then exists if the carrying value of the goodwill is greater than the goodwill’s implied fair value. With respect to the Company's annual goodwill impairment testing performed during the fourth quarter of fiscal year 2011, step one of the testing determined the estimated fair values of Radiation Monitoring Devices and Hilger Crystals substantially exceeded their carrying values by more than 20%. The estimated fair value of the Dynasil Products (formerly known as RMD Instruments) reporting unit narrowly exceeded its carrying value. Therefore, the Company undertook a step two analysis by performing essentially a new purchase price allocation as of the date of the impairment test. Values were determined of both originally recognized assets and any new assets that may have been unrecognized at the time of the original transaction, but were developed between the acquisition date and the test date. The result was confirmation that the residual value of goodwill was higher than the carrying value. Accordingly, the Company concluded that no impairment had occurred.

 

Intangible Assets

 

The Company’s intangible assets consist of an acquired customer base of Optometrics, LLC, acquired customer relationships and trade names of RMD Instruments, LLC, and acquired backlog and know how of Radiation Monitoring Devices, Inc. and purchased biomedical technologies within Dynasil Biomedical Corp. The Company amortizes its intangible assets with definitive lives over their useful lives, which range from 4 to 15 years, based on the time period the Company expects to receive the economic benefit from these assets. No impairment charge was recorded during the periods ended June 30, 2012 and 2011.

 

Impairment of Long-Lived Assets

 

The Company’s long-lived assets include property, plant and equipment and intangible assets subject to amortization. The Company evaluates long-lived assets for recoverability whenever events or changes in circumstances indicate that an asset may have been impaired. In evaluating an asset for recoverability, the Company estimates the future cash flow expected to result from the use of the asset and eventual disposition. If the expected future undiscounted cash flow is less than the carrying amount of the asset, an impairment loss, equal to the excess of the carrying amount over the fair value of the asset, is recognized.

 

Allowance for Doubtful Accounts Receivable

 

We perform ongoing credit evaluations of our customers and adjust credit limits based upon payment history and the customer's current credit worthiness, as determined by our review of their current credit information. We continuously monitor collections and payments from our customers and maintain a provision for estimated credit losses based upon our historical experience and any specific customer collection issues that we have identified. While such credit losses have historically been minimal, within our expectations and the provisions established, we cannot guarantee that we will continue to experience the same credit loss rates that we have in the past. A significant change in the liquidity or financial position of any of our significant customers could have a material adverse effect on the collectability of our accounts receivable and our future operating results.

 

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Stock-Based Compensation

 

We account for stock-based compensation using fair value. Compensation costs are recognized for stock options granted to employees and directors. Options and warrants granted to employees and non-employees are recorded as an expense over the requisite service period based on the grant date estimated fair value of the grant, determined using the Black-Scholes option pricing model.

 

Income Taxes

 

As part of the process of preparing our consolidated financial statements, we are required to estimate our income tax provision (benefit) in each of the jurisdictions in which we operate. This process involves estimating our current income tax provision (benefit) together with assessing temporary differences resulting from differing treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included within our consolidated balance sheets. We regularly evaluate our ability to recover the reported amount of our deferred income taxes considering several factors, including our estimate of the likelihood of the Company generating sufficient taxable income in future years during the period over which temporary differences reverse.

 

RECENTLY ISSUED ACCOUNTING STANDARDS

 

In May 2011, the FASB issued Accounting Standards Update No. 2011-04 (ASU 2011-04), Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs. ASU 2011-04 clarifies some existing concepts, eliminates wording differences between U.S. GAAP and International Financial Reporting Standards (“IFRS”), and in some limited cases, changes some principles to achieve convergence between U.S. GAAP and IFRS. ASU 2011-04 results in a consistent definition of fair value and common requirements for measurement of and disclosure about fair value between U.S. GAAP and IFRS. ASU 2011-04 also expands the disclosures for fair value measurements that are estimated using significant unobservable (Level 3) inputs. ASU 2011-04 is effective for interim and annual periods beginning after December 15, 2011. The adoption of this accounting standard is not expected to have a material impact on the Company’s financial position, results of operations, cash flows and disclosures.

 

In June 2011, the FASB issued ASU No. 2011-05, “Comprehensive Income (Topic 220): Presentation of Comprehensive Income.” ASU No. 2011-05 eliminates the option to present components of other comprehensive income as part of the statement of shareholders’ equity. All non-owner changes in shareholders’ equity instead must be presented either in a single continuous statement of comprehensive income or in two separate but consecutive statements. ASU 2011-05 is to be adopted retrospectively and will be effective for annual periods beginning after December 2011. The adoption of ASU 2011-05 will not have an impact on the Company’s consolidated financial position, results of operations, or cash flows, as the guidance only changes the presentation of financial information. In December 2011, the FASB issued ASU 2011-12 deferring the effective date for implementation of ASU 2011-05 related only to reclassification out of accumulated other comprehensive income until a later date to be determined after further consideration by the FASB.

 

In September 2011, the FASB issued ASU No. 2011-08, “Intangibles – Goodwill and Other (Topic 350): Testing Goodwill for Impairment.” ASU No. 2011-08 provides companies an option to perform a qualitative assessment to determine whether further goodwill impairment testing is necessary. If, as a result of the qualitative assessment, it is determined that it is more likely than not that a reporting unit’s fair value is less than its carrying amount, the two-step quantitative impairment test is required. Otherwise, no further testing is required. ASU No. 2011-08 will be effective for the Company for goodwill impairment tests performed in the fiscal year ending September 30, 2013, with early adoption permitted. The adoption of this guidance is not expected to have a significant impact on the Company’s consolidated financial statements.

 

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Forward-Looking Statements

 

The statements contained in this Quarterly Report on Form 10-Q which are not historical facts, are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements regarding future events and our future results are based on current expectations, estimates, forecasts, and projections and the beliefs and assumptions of our management, including, without limitation, our expectations regarding results of operations, our compliance with the financial covenants under our loan agreement with Sovereign Bank, and Massachusetts Capital Resource Company, the commercialization of our products including our dual mode detectors, our development of new technologies including at Dynasil Biomedical, the adequacy of our current financing sources to fund our current operations, our growth initiatives, our capital expenditures and the strength of our intellectual property portfolio. These forward-looking statements may be identified by the use of words such as “may,” “could,” “expect,” “estimate,” “anticipate,” “continue” or similar terms, though not all forward-looking statements contain such words. The actual results of the future events described in such forward-looking statements could differ materially from those stated in such forward-looking statements due to a number of important factors. These factors that could cause actual results to differ from those anticipated or predicted include, without limitation, our ability to develop and commercialize our products, the size and growth of the potential markets for our products and our ability to serve those markets, the rate and degree of market acceptance of any of our products, general economic conditions, costs and availability of raw materials and management information systems, our ability to obtain and maintain intellectual property protection for our products, competition, the loss of key management and technical personnel, our ability to obtain timely payment of our invoices to governmental customers, litigation, the effect of governmental regulatory developments, the availability of financing sources, our ability to identify and execute on acquisition opportunities and integrate such acquisitions into our business, and seasonality, as well as the uncertainties set forth in this Quarterly Report on Form 10-Q and from time to time in the Company's other filings with the Securities and Exchange Commission. The Company disclaims any intention or obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise.

 

ITEM 3   Quantitative and Qualitative Disclosures About Market Risk.

 

Dynasil, as a smaller reporting company, is not required to complete this item.

 

ITEM 4   Controls and Procedures

 

Our Interim Chief Executive Officer and Chief Financial Officer have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) under the Securities Exchange Act of 1934, as amended (“the Exchange Act”)) as of the end of the period covered by this report and have determined that, as of such date, such disclosure controls and procedures are effective.

 

There has been no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) identified in connection with this evaluation that occurred during our last fiscal quarter that materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

PART II – OTHER INFORMATION

 

ITEM 6   Exhibits

 

(a) Exhibits and index of Exhibits

 

10.1 Amendment No. 3 to Loan and Security Agreement, dated as of June 29, 2012 by and between Sovereign Bank, N.A. and Dynasil Corporation of America, filed as Exhibit 10.1 to Form 8-K filed on July 5, 2012, and incorporated herein by reference.

 

10.2 Waiver of Default Letter, dated as of June 29, 2012, from Sovereign Bank, N.A. to Dynasil Corporation of America, filed as Exhibit 10.2 to Form 8-K filed on July 5, 2012, and incorporated herein by reference.

 

10.3 Note Purchase Agreement, dated July 31, 2012 by and between Massachusetts Capital Resource Company and Dynasil Corporation of America, filed as Exhibit 10.1 to Form 8-K filed on August 6, 2012, and incorporated herein by reference.

 

10.4 Subordination Agreement, dated July 31, 2012 by and between Massachusetts Capital Resource Company, Sovereign Bank, N.A., and Dynasil Corporation of America, filed as Exhibit 10.2 to Form 8-K filed on August 6, 2012 and incorporated herein by reference.

 

31.1(a) Rule 13a-14(a)/15d-14(a) Certification of Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

31.1(b) Rule 13a-14(a)/15d-14(a) Certification of Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

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32.1 Section 1350 Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002(furnished but not filed for purposes of the Securities Exchange Act of 1934)

 

99.1 Press release, dated August 14, 2012 issued by Dynasil Corporation of America announcing its financial results for the quarter ended June 30, 2012.

 

101** The following materials from Dynasil Corporation of America’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2012, formatted in XBRL (eXtensible Business Reporting Language); (i) Consolidated Balance Sheets as of June 30, 2012 and September 30, 2011, (ii) Consolidated Statements of Operations for the nine months ended June 30, 2012 and 2011, (iii) Consolidated Statements of Changes in Stockholders’ Equity for the nine months ended June 30, 2012; (iv) Consolidated Statements of Cash Flows for the nine months ended June 30, 2012 and 2011, and (v) Notes to Consolidated Financial Statements.

 

** Pursuant to Rule 406T of Regulation S-T, these interactive data files are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, are deemed not filed for purposes of Section 18 of the Securities and Exchange Act of 1934, as amended, and otherwise are not subject to liability under those sections.

 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

DYNASIL CORPORATION OF AMERICA  
     
BY: /s/ Peter Sulick DATED: August 14, 2012
  Peter Sulick,  
  Interim Chief Executive Officer and President  
     
  /s/ Richard A. Johnson DATED: August 14, 2012
  Richard A. Johnson,  
  Chief Financial Officer  

 

32

XNAS:DYSL Dynasil Corp of America Quarterly Report 10-Q Filling

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XNAS:DYSL Dynasil Corp of America Quarterly Report 10-Q Filing - 6/30/2012
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