XNAS:CSPI CSP Inc Quarterly Report 10-Q Filing - 6/30/2012

Effective Date 6/30/2012

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United States
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 

FORM 10-Q 

 

x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
   
  For the Quarterly Period Ended      June 30, 2012
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from              to             .
 
Commission File Number 0-10843
 

CSP Inc.
(Exact name of Registrant as specified in its Charter)



Massachusetts
04-2441294
(State of incorporation)
(I.R.S. Employer Identification No.)
 
43 Manning Road
Billerica, Massachusetts 01821-3901
(978) 663-7598
(Address and telephone number of principal executive offices)
 


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 preceding 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  o.
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  o.
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
 

Large accelerated filer
o
Accelerated filer
o
       
Non-accelerated filer
o (Do not check if a smaller reporting company)
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  o    No  x
 
As of August 7, 2012, the registrant had 3,428,676 shares of common stock issued and outstanding.
 
 
 

 
 
INDEX
 
   
Page
     
 
     
 
     
  3
     
  4
     
  5
     
  6
     
  7
     
14
     
27
     
 
     
28
     
28
     
29
 
 
2

 
 

Item 1. Financial Statements

CSP INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Amounts in thousands, except par value)
 

   
June 30,
2012
   
September 30,
2011
 
   
(Unaudited)
       
ASSETS
           
Current assets:
           
Cash and cash equivalents
  $ 18,037     $ 15,874  
Accounts receivable, net of allowances of $181 and $302
    14,146       13,148  
Inventories
    6,378       6,777  
Refundable income taxes
    187       231  
Deferred income taxes
    104       158  
Other current assets
    3,136       1,690  
Total current assets
    41,988       37,878  
Property, equipment and improvements, net
    905       833  
                 
Other assets:
               
Intangibles, net
    513       574  
Deferred income taxes
    612       663  
Cash surrender value of life insurance
    3,127       2,918  
Other assets
    221       242  
Total other assets
    4,473       4,397  
Total assets
  $ 47,366     $ 43,108  
                 
LIABILITIES AND SHAREHOLDERS’ EQUITY
               
Current liabilities:
               
Accounts payable and accrued expenses
  $ 14,477     $ 12,103  
Deferred revenue
    3,722       2,937  
Pension and retirement plans
    672       709  
Income taxes payable
    226       121  
Total current liabilities
    19,097       15,870  
Pension and retirement plans
    8,835       9,056  
Other long term liabilities
    417       286  
Total liabilities
    28,349       25,212  
                 
Commitments and contingencies
               
                 
Shareholders’ equity:
               
Common stock, $.01 par value per share; authorized, 7,500 shares; issued and outstanding 3,428 and 3,417 shares, respectively
    34       34  
Additional paid-in capital
    10,882       10,880  
Retained earnings
    14,220       12,885  
Accumulated other comprehensive loss
    (6,119 )     (5,903 )
Total shareholders’ equity
    19,017       17,896  
Total liabilities and shareholders’ equity
  $ 47,366     $ 43,108  
 
See accompanying notes to unaudited consolidated financial statements.
 
 
3

 
 
CSP INC. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS
(Amounts in thousands, except for per share data)

 
   
For the three months ended
   
For the nine months ended
 
   
June 30,
2012
   
June 30,
2011
   
June 30,
2012
   
June 30,
2011
 
Sales:                        
Product
  $ 16,328     $ 14,726     $ 43,607     $ 42,784  
Services
    6,026       4,063       18,869       14,261  
Total sales
    22,354       18,789       62,476       57,045  
                                 
Cost of sales:                                
Product
    13,899       12,255       37,274       35,631  
Services
    3,226       2,913       10,435       9,016  
Total cost of sales
    17,125       15,168       47,709       44,647  
                                 
Gross profit
    5,229       3,621       14,767       12,398  
                                 
Operating expenses:                                
Engineering and development
    444       442       1,301       1,460  
Selling, general and administrative
    3,580       3,450       10,828       10,135  
Total operating expenses
    4,024       3,892       12,129       11,595  
Operating income (loss)
    1,205       (271 )     2,638       803  
                                 
Other (expense):                                
Foreign exchange (loss)
    (5 )     (9 )     (31 )      
Other (expense), net
    (27 )     (24 )     (71 )     (55 )
Total other (expense), net
    (32 )     (33 )     (102 )     (55 )
Income (loss) before income taxes
    1,173       (304 )     2,536       748  
Income tax expense (benefit)
    399       (90 )     859       287  
Net income (loss)
  $ 774     $ (214 )   $ 1,677     $ 461  
Net income (loss) attributable to common stockholders
  $ 759     $ (211 )   $ 1,647     $ 455  
Net income (loss) per share – basic
  $ 0.23     $ (0.06 )   $ 0.49     $ 0.13  
Weighted average shares outstanding – basic
    3,366       3,428       3,362       3,446  
Net income (loss) per share – diluted
  $ 0.22     $ (0.06 )   $ 0.48     $ 0.13  
Weighted average shares outstanding – diluted
    3,418       3,428       3,405       3,485  
 
See accompanying notes to unaudited consolidated financial statements.
 
 
4

 
CSP INC. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY
For the Nine Months Ended June 30, 2012:
(Amounts in thousands)
 

   
Shares
   
Amount
   
Additional
Paid-in
Capital
   
Retained
Earnings
   
Accumulated
other
comprehensive
loss
   
Total
Shareholders’
Equity
   
Comprehensive
Income
 
Balance as of September 30, 2011
    3,417     $ 34     $ 10,880     $ 12,885     $ (5,903   $ 17,896        
Comprehensive income (loss):
                                                     
Net income
                      1,677             1,677     $ 1,677  
Other comprehensive income:
                                                       
Effect of foreign currency translation
                            (216     (216 )     (216 )
Total comprehensive income
                                                  $ 1,461  
Stock-based compensation
                16                   16          
Purchase of common stock
    (28           (96                 (96 )        
Restricted stock issuance
    39             82                   82          
Cash dividends on common stock ($0.10 per share)
                      (342           (342 )        
Balance as of June 30, 2012
    3,428     $ 34     $ 10,882     $ 14,220     $ (6,119   $ 19,017          
 
See accompanying notes to unaudited consolidated financial statements.
 
 
5

 
 
CSP INC. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Amounts in thousands)
 
 
   
For the nine months ended
 
   
June 30,
2012
   
June 30,
2011
 
Cash flows from operating activities:
           
Net income
  $ 1,677     $ 461  
Adjustments to reconcile net income to net cash used in operating activities:
               
Depreciation and amortization
    278       277  
Amortization of intangibles
    62       85  
Loss on disposal of fixed assets, net
          3  
Foreign exchange loss
    31        
Non-cash changes in accounts receivable
    (120     (12 )
Stock-based compensation expense on stock options and restricted stock awards
    99       129  
Deferred income taxes
    84        
Increase in cash surrender value of life insurance
    (69     (59 )
Changes in operating assets and liabilities:
               
(Increase) decrease in accounts receivable
    (1,213     2,212  
Decrease in inventories
    383       295  
Decrease in refundable income taxes
    36       410  
Increase in other current assets
    (1,550     (449 )
Decrease in other assets
    17       54  
Increase (decrease) in accounts payable and accrued expenses
    2,650       (1,322 )
Increase in deferred revenue
    909       149  
Increase (decrease) in pension and retirement plans liability
    (80     58  
Increase (decrease) in income taxes payable
    105       (143 )
Increase in other long term liabilities
    132       271  
Net cash provided by operating activities
    3,431       2,419  
                 
Cash flows from investing activities:
               
Life insurance premiums paid
    (140     (140 )
Purchases of property, equipment and improvements
    (373     (249 )
Net cash used in investing activities
    (513     (389 )
                 
Cash flows from financing activities:
               
Dividends paid
    (342      
Proceeds from issuance of shares under employee stock purchase plan
          74  
Purchase of common stock
    (96     (448 )
Net cash used in financing activities
    (438     (374 )
Effects of exchange rate on cash
    (317     295  
Net increase in cash and cash equivalents
    2,163       1,951  
Cash and cash equivalents, beginning of period
    15,874       15,531  
Cash and cash equivalents, end of period
  $ 18,037     $ 17,482  
                 
Supplementary cash flow information:
               
Cash paid for income taxes
  $ 613     $ 267  
Cash paid for interest
  $ 85     $ 85  
 
See accompanying notes to unaudited consolidated financial statements.
 
 
6

 
 
CSP INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
THREE AND NINE MONTHS ENDED JUNE 30, 2012 AND 2011

 
Organization and Business
 
CSP Inc. was founded in 1968 and is based in Billerica, Massachusetts. To meet the diverse requirements of its industrial, commercial and defense customers worldwide, CSP Inc. and its subsidiaries (collectively “CSPI” or the “Company”) develop and market IT integration solutions and high-performance cluster computer systems. The Company operates in two segments, its Systems segment and its Service and System Integration segment.
 
1.         Basis of Presentation
 
The accompanying consolidated financial statements have been prepared by the Company, without audit, and reflect all adjustments which, in the opinion of management, are necessary for a fair statement of the results of the interim periods presented. All adjustments were of a normal recurring nature. Certain information and footnote disclosures normally included in the annual financial statements, which are prepared in accordance with accounting principles generally accepted in the United States, have been condensed or omitted. Accordingly, the Company believes that although the disclosures are adequate to make the information presented not misleading, the unaudited financial statements should be read in conjunction with the footnotes contained in the Company’s Annual Report on Form 10-K for the fiscal year ended September 30, 2011.
 
2.        Use of Estimates
 
The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results may differ from those estimates under different assumptions or conditions.
 
3.        Earnings Per Share of Common Stock
 
Basic net income per common share is computed by dividing net income available to common shareholders by the weighted average number of common shares outstanding for the period. Diluted net income per common share reflects the maximum dilution that would have resulted from the assumed exercise and share repurchase related to dilutive stock options and is computed by dividing net income by the assumed weighted average number of common shares outstanding.
 
We are required to present earnings per share, or EPS, utilizing the two class method because we had outstanding, non-vested share-based payment awards that contain non-forfeitable rights to dividends or dividend equivalents, which are considered participating securities.
 
 
7

 
 
Basic and diluted earnings per share computations for the Company’s reported net income attributable to common stockholders are as follows:
 
 
   
For the three months ended
   
For the nine months ended
 
                         
   
June 30, 2012
   
June 30, 2011
   
June 30, 2012
   
June 30, 2011
 
   
(Amounts in thousands except per share data)
 
Net income (loss)
  $ 774     $ (214 )   $ 1,677     $ 461  
Less: Net income (loss) attributable to nonvested common stock
    15       (3 )     30       6  
Net income (loss) attributable to common stockholders
  $ 759     $ (211 )   $ 1,647     $ 455  
                                 
Weighted average total shares outstanding – basic
    3,433       3,484       3,422       3,497  
Less: weighted average non-vested shares outstanding
    67       56       60       51  
Weighted average number of common shares outstanding – basic
    3,366       3,428       3,362       3,446  
Potential common shares from non-vested stock awards and the assumed exercise of stock options
    52             43       39  
Weighted average common shares outstanding – diluted
    3,418       3,428       3,405       3,485  
                                 
Net income (loss) per share – basic
  $ 0.23     $ (0.06 )   $ 0.49     $ 0.13  
Net income (loss) per share – diluted
  $ 0.22     $ (0.06 )   $ 0.48     $ 0.13  
 
All anti-dilutive securities, including stock options, are excluded from the diluted income per share computation. For the three and nine months ended June 30, 2012, 195,000 and 198,000 options, respectively, were excluded from the diluted income per share calculation because their inclusion would have been anti-dilutive.


4.         Inventories
 
Inventories consist of the following:

 
   
June 30, 2012
   
September 30, 2011
 
   
(Amounts in thousands)
 
Raw materials
  $ 1,196     $ 886  
Work-in-process
    1,238       539  
Finished goods
    3,944       5,352  
Total
  $ 6,378     $ 6,777  
 
Finished goods includes inventory that has been shipped, but for which all revenue recognition criteria has not been met, of approximately $1.0 million and $3.4 million as of June 30, 2012 and September 30, 2011, respectively.
 
Total inventory balances in the table above are shown net of reserves for obsolescence of approximately $4.4 million and $4.3 million as of June 30, 2012 and September 30, 2011, respectively.
 
 
8

 
5.        Accumulated Other Comprehensive Loss
 
The components of comprehensive income (loss) are as follows:
 

   
For the Three Months Ended
   
For the nine months ended
 
                         
   
June 30, 2012
   
June 30, 2011
   
June 30, 2012
   
June 30, 2011
 
   
(Amounts in thousands)
 
Net income (loss)
  $ 774     $ (214 )   $ 1,677     $ 461  
Effect of foreign currency translation
    (147 )     115       (216 )     156  
Minimum pension liability
                       
Comprehensive income (loss)
  $ 627     $ (99 )   $ 1,461     $ 617  
 

 The components of Accumulated Other Comprehensive Loss are as follows:

 
   
June 30, 2012
   
September 30, 2011
 
   
(Amounts in thousands)
 
Cumulative effect of foreign currency translation
 
$
(2,444
)
 
$
(2,228
)
Additional minimum pension liability
 
(3,675
)
 
(3,675
)
Accumulated Other Comprehensive Loss
 
$
(6,119
)
 
$
(5,903
)

 
6.         Pension and Retirement Plans
 
The Company has defined benefit and defined contribution plans in the United Kingdom, Germany and the U.S. In the United Kingdom and Germany, the Company provides defined benefit pension plans and defined contribution plans for the majority of its employees. In the U.S., the Company provides benefits through supplemental retirement plans to certain current and former employees. The domestic supplemental retirement plans have life insurance policies which are not plan assets but were purchased by the Company as a vehicle to fund the costs of the plan. Domestically, the Company also provides for officer death benefits through post-retirement plans to certain officers.  All of the Company’s defined benefit plans are closed to newly hired employees and have been for the two years ended September 30, 2011 and for the nine months ended June 30, 2012.

The Company funds its pension plans in amounts sufficient to meet the requirements set forth in applicable employee benefits laws and local tax laws. Liabilities for amounts in excess of these funding levels are accrued and reported in the consolidated balance sheets.
 
Our pension plan in the United Kingdom is the only plan with plan assets. The plan assets consist of an investment in a commingled fund which in turn comprises a diversified mix of assets including corporate equity securities, government securities and corporate debt securities.
 
 
9

 
 
The components of net periodic benefit costs related to the U.S. and international plans are as follows:
 
 
   
For the Three Months Ended June 30,
 
   
2012
   
2011
 
   
Foreign
   
U.S.
   
Total
   
Foreign
   
U.S.
   
Total
 
   
(Amounts in thousands)
 
Pension:                                                
Service cost
  $ 15     $ 3     $ 18     $ 18     $ 3     $ 21  
Interest cost
    178       20       198       176       25       201  
Expected return on plan assets
    (105 )           (105 )     (128 )           (128 )
Amortization of:
                                               
Prior service gain
                                   
Amortization of net gain
    22       8       30       18       7       25  
Net periodic benefit cost
  $ 110     $ 31     $ 141     $ 84     $ 35     $ 119  
                                                 
Post Retirement:
                                               
Service cost
  $     $     $     $     $ 5     $ 5  
Interest cost
          18       18             17       17  
Amortization of net gain
          17       17             12       12  
Net periodic benefit cost
  $     $ 35     $ 35     $     $ 34     $ 34  
 
 
   
For the Nine Months Ended June 30,
 
   
2012
   
2011
 
   
Foreign
   
U.S.
   
Total
   
Foreign
   
U.S.
   
Total
 
   
(Amounts in thousands)
 
Pension:
                                   
Service cost
  $ 47     $ 8     $ 55     $ 54     $ 8     $ 62  
Interest cost
    534       62       596       518       74       592  
Expected return on plan assets
    (313 )           (313 )     (379 )           (379 )
Amortization of:
                                               
Prior service gain
                                   
Amortization of net gain
    66       23       89       52       23       75  
Net periodic benefit cost
  $ 334     $ 93     $ 427     $ 245     $ 105     $ 350  
                                                 
Post Retirement:
                                               
Service cost
  $     $     $     $     $ 15     $ 15  
Interest cost
          53       53             51       51  
Amortization of net gain
          53       53             35       35  
Net periodic benefit cost
  $     $ 106     $ 106     $     $ 101     $ 101  
 
 
10

 
 
7.        Segment Information
 
The following table presents certain operating segment information.
 
 
   
Service and System Integration Segment
 
       
For the Three Months Ended June 30,
 
Systems
Segment
   
Germany
   
United
Kingdom
   
U.S.
   
Total
   
Consolidated
Total
 
   
(Amounts in thousands)
 
2012
                                               
Sales:
                                               
Product
 
$
1,132
   
$
5,179
   
$
227
   
$
9,790
   
$
15,196
   
$
16,328
 
Service
 
2,159
   
2,869
   
353
   
645
   
3,867
   
6,026
 
Total sales
 
3,291
   
8,048
   
580
   
10,435
   
19,063
   
22,354
 
Profit (loss) from operations
 
874
   
44
   
30
   
257
   
331
   
1,205
 
Assets
 
14,266
   
15,049
   
3,644
   
14,407
   
33,100
   
47,366
 
Capital expenditures
 
13
   
46
   
   
19
   
65
   
78
 
Depreciation and amortization
 
30
   
43
   
6
   
39
   
88
   
118
 
                         
2011
                       
Sales:
                       
Product
 
$
1,323
   
$
3,230
   
$
68
   
$
10,105
   
$
13,403
   
$
14,726
 
Service
 
152
   
2,787
   
347
   
777
   
3,911
   
4,063
 
Total sales
 
1,475
   
6,017
   
415
   
10,882
   
17,314
   
18,789
 
Profit (loss) from operations
 
(810
)
 
63
   
15
   
461
   
539
   
(271
)
Assets
 
12,508
   
13,699
   
3,890
   
11,333
   
28,922
   
41,430
 
Capital expenditures
 
9
   
12
   
9
   
7
   
28
   
37
 
Depreciation and amortization
 
24
   
46
   
7
   
46
   
99
   
123
 
 
 
11

 
 
   
Service and System Integration Segment
 
       
For the Nine Months Ended June 30,
 
Systems
Segment
   
Germany
   
United
Kingdom
   
U.S.
   
Total
   
Consolidated
Total
 
   
(Amounts in thousands)
 
2012
                                               
Sales:
                                               
Product
 
$
2,594
   
$
12,998
   
$
1,298
   
$
26,717
   
$
41,013
   
$
43,607
 
Service
 
5,407
   
10,159
   
961
   
2,342
   
13,462
   
18,869
 
Total sales
 
8,001
   
23,157
   
2,259
   
29,059
   
54,475
   
62,476
 
Profit from operations
 
1,345
   
483
   
147
   
663
   
1,293
   
2,638
 
Assets
 
14,266
   
15,049
   
3,644
   
14,407
   
33,100
   
47,366
 
Capital expenditures
 
130
   
162
   
25
   
56
   
243
   
373
 
Depreciation and amortization
 
78
   
124
   
20
   
118
   
262
   
340
 
                         
2011
                       
Sales:
                       
Product
 
$
3,563
   
$
9,481
   
$
140
   
$
29,600
   
$
39,221
   
$
42,784
 
Service
 
2,036
   
8,809
   
1,043
   
2,373
   
12,225
   
14,261
 
Total sales
 
5,599
   
18,290
   
1,183
   
31,973
   
51,446
   
57,045
 
Profit (loss) from operations
 
(624
)
 
213
   
   
1,214
   
1,427
   
803
 
Assets
 
12,508
   
13,699
   
3,890
   
11,333
   
28,922
   
41,430
 
Capital expenditures
 
142
   
59
   
12
   
36
   
107
   
249
 
Depreciation and amortization
 
66
   
138
   
21
   
137
   
296
   
362
 

Profit (loss) from operations is sales less cost of sales, engineering and development, selling, general and administrative expenses but is not affected by either non-operating charges/income or by income taxes. Non-operating charges/income consists principally of investment income and interest expense.  All intercompany transactions have been eliminated.
 
The following table lists customers from which the Company derived revenues in excess of 10% of total revenues for the three and nine month periods ended June 30, 2012, and 2011.


   
For the Three Months Ended
 
For the nine months ended
   
June 30, 2012
 
June 30, 2011
 
June 30, 2012
 
June 30, 2011
   
Amount
 
% of
Revenues
 
Amount
 
% of
Revenues
 
Amount
 
% of
Revenues
 
Amount
 
% of
Revenues
   
(dollars in millions)
Customer A
  $ 2.0       9 %   $ 1.5       8 %   $ 12.2       20 %   $ 6.3       11 %
Customer B
  $ 3.5       16 %   $ 4.5       24 %   $ 10.2       16 %   $ 8.8       15 %
Customer C
  $ 0.6       3 %   $ 2.2       12 %   $ 2.6       4 %   $ 4.5       8 %
Customer D
  $ 2.6       12 %   $       %   $ 3.3       5 %   $       %
 
 
12

 
 
8.        Fair Value Measures
 
Assets and Liabilities measured at fair value on a recurring basis are as follows:
 

   
Fair Value Measurements Using
 
       
   
Quoted Prices in
Active
Markets for Identical
Instruments
(Level 1)
   
Significant
Other
Observable
Inputs
(Level 2)
   
Significant
Unobservable
Inputs
(Level 3)
   
Total
Balance
   
Gain
or
(loss)
 
   
As of June 30, 2012
 
   
(Amounts in thousands)
 
Assets:
                             
Money Market funds
  $ 3,497     $     $     $ 3,497     $  
Total assets measured at fair value
  $ 3,497     $     $     $ 3,497     $  
 

   
As of September 30, 2011
 
   
(Amounts in thousands)
 
Assets:
                             
Money Market funds
  $ 3,493     $     $     $ 3,493     $  
Total assets measured at fair value
  $ 3,493     $     $     $ 3,493     $  
 
These assets are included in cash and cash equivalents in the accompanying consolidated balance sheets.  All other monetary assets and liabilities are short-term in nature and approximate their fair value.  The Company did not have any transfers between Level 1, Level 2 or Level 3 measurements.
 
The Company had no liabilities measured at fair value as of June 30, 2012 or September 30, 2011. The Company had no assets or liabilities measured at fair value on a non recurring basis as of June 30, 2012 or September 30, 2011.
 
9.        Common Stock Repurchase
 
Pursuant to prior authorizations by the Board of Directors, the Company repurchased approximately 28 thousand shares of its outstanding common stock during the nine months ended June 30, 2012.  As of June 30, 2012, approximately 201 thousand shares remain authorized for repurchase under the Company’s stock repurchase program.

10.           Dividend

On January 12, 2012, our Board of Directors declared a cash dividend of $0.10 per share which was paid on February 3, 2012 to stockholders of record as of January 27, 2012, the record date.  On August 7, 2012, our board of directors declared a cash dividend of $0.12 per share payable on August 31, 2012 to stockholders of record as of August 23, 2012, the record date.

11.       Income Taxes
 
We follow the applicable accounting provisions which clarify the accounting for uncertainty in income tax positions. These provisions require us to recognize in the consolidated financial statements only those tax positions determined to be more-likely-than-not of being sustained upon examination, based on the technical merits of the positions as of the reporting date. If a tax position is not considered more-likely-than-not to be sustained based solely on its technical merits, no benefits of the position are recognized. The more-likely-than-not threshold must continue to be met in each reporting period to support continued recognition of a benefit. 
 
 
13

 
 
As of June 30, 2012, the total amount of uncertain tax liabilities was $417 thousand, all of which would affect our effective tax rate if recognized. We recognize interest and potential penalties accrued related to unrecognized tax benefits in our provision for income taxes.
 
A reconciliation of the beginning and ending balances of the total amounts of gross unrecognized tax benefits is as follows:


   
For the Three Months
 Ended June 30, 2012
   
For the Three Months
Ended June 30, 2011
 
   
(Amounts in thousands)
 
Beginning balance
  $ 299     $  
Increases in tax positions in the current year
    104       271  
Settlements
           
Lapse in statute of limitations
           
Accrued penalties and interest
    14        
Balance, end of period
  $ 417     $ 271  
 

   
For the Nine Months
 Ended June 30, 2012
   
For the Nine Months
Ended June 30, 2011
 
   
(Amounts in thousands)
 
Balance, beginning of year
  $ 285     $  
Increases in tax positions in the current year
    104       271  
Settlements
           
Lapse in statute of limitations
           
Accrued penalties and interest
    28        
Balance, end of period
  $ 417     $ 271  
 
We file income tax returns in the U.S. federal jurisdictions and various state and foreign jurisdictions.  The Internal Revenue Service has completed an examination of fiscal year 2007, which did not result in any tax adjustment relating to our uncertain tax positions.  The Company has reviewed the tax positions taken on returns filed domestically and in its foreign jurisdictions for all open years, generally fiscal 2008 through 2011, and believes that tax adjustments in any audited year will not be material, except for the uncertain tax position described above.




Item 2.   Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
Forward-Looking Statements
 
The discussion below contains certain forward-looking statements related to, among others, but not limited to, statements concerning future revenues and future business plans. In addition, forward-looking statements include statements in which we use words such as “expect,” “believe,” “anticipate,” “intend,” or similar expressions. Although we believe the expectations reflected in such forward-looking statements are based on reasonable assumptions, we cannot assure you that these expectations will prove to have been correct, and  actual results may vary from those contained in such forward-looking statements.
 
Markets for our products and services are characterized by rapidly changing technology, new product introductions and short product life cycles. These changes can adversely affect our business and operating results. Our success will depend on our ability to enhance our existing products and services and to develop and introduce, on a timely and cost effective basis, new products that keep pace with technological developments and address increasing customer requirements. The inability to meet these demands could adversely affect our business and operating results.
 
 
14

 
 
Critical Accounting Policies
 
Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. On an on-going basis, we evaluate our estimates, including those related to uncollectible receivables, inventory valuation, income taxes, deferred compensation and retirement plans, estimated selling prices used for revenue recognition and contingencies. We base our estimates on historical performance and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. A description of our critical accounting policies is contained in our Annual Report on Form 10-K for the fiscal year ended September 30, 2011 in the “Critical Accounting Policies” section of Management’s Discussion and Analysis of Financial Condition and Results of Operations.
 
Results of Operations
 
Overview of the nine months ended June 30, 2012 Results of Operations
 
Highlights include:
 
 
Revenue increased by approximately $5.4 million, or 10%, to $62.5 million for the nine months ended June 30, 2012 versus $57.0 million for the nine months ended June 30, 2011.

 
For the nine months ended June 30, 2012, we had an operating profit of approximately $2.6 million versus an operating profit of approximately $0.8 million for the nine months ended June 30, 2011, for an increase of approximately $1.8 million.

 
For the nine months ended June 30, 2012, net income was approximately $1.7 million versus net income of approximately $0.5 million for the nine months ended June 30, 2011, for an increase of approximately $1.2 million.

The following table details our results of operations in dollars and as a percentage of sales for the nine months ended June 30, 2012 and 2011:
 
 
   
June 30, 2012
   
%
of sales
   
June 30, 2011
   
%
of sales
 
     
(Dollar amounts in thousands)
 
Sales
  $ 62,476       100 %   $ 57,045       100 %
Costs and expenses:
                               
Cost of sales
    47,709       76 %     44,647       78 %
Engineering and development
    1,301       2 %     1,460       3 %
Selling, general and administrative
    10,828       18 %     10,135       18 %
Total costs and expenses
    59,838       96 %     56,242       99 %
Operating income
    2,638       3 %     803       1 %
Other expense
    (102 )     %     (55 )     %
Income before income taxes
    2,536       3 %     748       1 %
Income tax expense
    859       1 %     287       %
Net income
  $ 1,677       2 %   $ 461       1 %
 
 
15

 
 
Sales
 
The following table details our sales by operating segment for the nine months ended June 30, 2012 and 2011:
 
 
   
Systems
   
Service and
System
Integration
   
Total
   
% of
Total
 
   
(Dollar amounts in thousands)
 
For the Nine Months Ended June 30, 2012:
                       
Product
  $ 2,594     $ 41,013     $ 43,607       70 %
Services
    5,407       13,462       18,869       30 %
Total
  $ 8,001     $ 54,475     $ 62,476       100 %
% of Total
    13 %     87 %     100 %        
 
 
   
Systems
   
Service and
System
Integration
   
Total
   
% of
Total
 
For the Nine Months Ended June 30, 2011:
                       
Product
  $ 3,563     $ 39,221     $ 42,784       75
Services
    2,036       12,225       14,261       25
Total
  $ 5,599     $ 51,446     $ 57,045       100
% of Total
    10     90     100        

 
   
Systems
   
Service and
System
Integration
   
Total
   
%
increase
 
Increase (Decrease)
                       
Product
  $ (969   $ 1,792     $ 823       2
Services
    3,371       1,237       4,608       32
Total
  $ 2,402     $ 3,029     $ 5,431       10
% increase
    43     6     10        
 
As shown above, total revenues increased by approximately $5.4 million, or 10%, for the nine months ended June 30, 2012 compared to the nine months ended June 30, 2011.  Revenue in the Systems segment increased for the current year nine month period versus the prior year nine month period by approximately $2.4 million, while revenues in the Service and System Integration segment increased by approximately $3.0 million.
 
Product revenues increased by approximately $0.8 million, or 2%, for the nine months ended June 30, 2012 compared to the comparable period of the prior fiscal year. Product revenues in the Service and System Integration segment increased by approximately $1.8 million while in the Systems segment product revenue decreased by approximately $1.0 million for the nine month period ended June 30, 2012 versus the nine month period ended June 30, 2011.

In the US division of the Service and System Integration segment, product sales decreased by approximately $2.9 million, offset by increases in sales in this segment’s German division of approximately $3.5 million and in the UK division of approximately $1.2 million.
 
In the US division, sales to several of the Company's prior year largest customers decreased by a total of approximately $5.6 million. This decrease was offset by increased product sales to two newly acquired IT infrastructure hosting company customers of approximately $1.8 million, and an increase of $0.9 million in product sales to a newly acquired university customer.

In Germany, the $3.5 million increase was net of an unfavorable foreign currency impact of approximately $0.8 million, therefore on a volume basis in constant dollars the increase was approximately $4.3 million.  This sales volume increase was driven by increased sales to the division’s largest customer, a large UK-based wireless carrier, of approximately $3.6 million, and an overall increase to two new customers of $4.0 million.  There can be no assurance that there will be significant sales to either or both of these customers in the future.  These increases were offset by decreases to three of the divisions long-term customers.  The aggregate decrease in sales volume to these three customers amounted to approximately $3.6 million.  The increase in sales in the UK division was the result of increased third party product sales versus the prior year.  This was the result of the Company's efforts to start up a third-party reseller business, offering a wider array of third-party technology products within the UK operation.
 
 
16

 
 
The decrease in product revenues in the Systems segment of approximately $1.0 million was due to a decrease in sales to our Japanese defense department customer of approximately $0.3 million, and a decrease of $0.7 million in sales of parts, components and spares to existing US defense department customers.
 
As shown in the table above, service revenues increased by approximately $4.6 million, or 32%.  This increase was made up of an increase in the Systems segment of $3.4 million and an increase in the Service and System Integration segment of approximately $1.2 million. The increase in the Systems segment service revenue was due to higher royalty income recorded in the nine months ended June 30, 2012 which was approximately $5.0 million versus $1.6 million for the nine months ended June 30, 2011. The increase in service revenues in the Service and System Integration segment was primarily from the German division, where service revenue increased by approximately $1.4 million, offset by relatively minor decreases in service revenues of approximately $0.1 million in each of the US and UK divisions.  In Germany, there was an unfavorable currency fluctuation impact to service revenues of approximately $0.6 million, therefore sales volume in constant dollars increased by approximately $1.9 million.  This increase in sales volume was driven by increased service revenues to the German division's largest customer, a UK-based wireless carrier, of approximately $2.6 million, offset by decreases in service revenues of approximately $0.7 million of all other customers combined.
 
Our sales by geographic area, based on the location to which the products were shipped or services rendered, are as follows:
 
 
   
For the nine months ended,
                   
   
June 30, 2012
   
%
   
June 30, 2011
   
%
   
$ Increase
(Decrease)
   
% Increase
(Decrease)
 
   
(Dollar amounts in thousands)
 
Americas
  $ 34,417       55 %   $ 34,976       61 %   $ (559 )     (2 )%
Europe
    25,965       42 %     19,656       35 %     6,309       32 %
Asia
    2,094       3 %     2,413       4 %     (319 )     (13 )%
Totals
  $ 62,476       100 %   $ 57,045       100 %   $ 5,431       10 %
 
The decrease in Americas revenue for the nine months ended June 30, 2012 versus the  nine months ended June 30, 2011 was primarily the result of the fluctuations described above in the Systems segment where combined product and service sales to US customers increased by an aggregate $2.7 million while in the US division of the Service and System Integration segment, sales to customers in the Americas were lower by approximately $3.3 million.
 
The increase in sales in Europe was primarily the result of the higher sales described above from the German and UK divisions of the Service and System Integration segment. The decrease in Asia sales was the result of the decrease in sales to our existing customer that supplies a large Japanese defense program (see discussion above).
 
 
17

 

Cost of Sales and Gross Margins

The following table details our cost of sales by operating segment for the nine months ended June 30, 2012 and 2011:
 
 
   
Systems
   
Service and
System
Integration
   
Total
   
% of
Total
 
   
(Dollar amounts in thousands)
 
For the Nine Months Ended June 30, 2012:
                       
Product
  $ 1,820     $ 35,454     $ 37,274       78 %
Services
    198       10,237       10,435       22 %
Total
  $ 2,018     $ 45,691     $ 47,709       100 %
% of Total
    4 %     96 %     100 %        
% of Sales
    25 %     84 %     76 %        
Gross Margins:
                               
Product
    30 %     14 %     15 %        
Services
    96 %     24 %     45 %        
Total
    75 %     16 %     24 %        
                                 
For the Nine Months Ended June 30, 2011:
                               
Product
  $ 1,614     $ 34,017     $ 35,631       80 %
Services
    239       8,777       9,016       20 %
Total
  $ 1,853     $ 42,794     $ 44,647       100 %
% of Total
    4 %     96 %     100 %        
% of Sales
    33 %     83 %     78 %        
Gross Margins:
                               
Product
    55 %     13 %     17 %        
Services
    88 %     28 %     37 %        
Total
    67 %     17 %     22 %        
                                 
Increase (decrease)
                               
Product
  $ 206     $ 1,437     $ 1,643       5 %
Services
    (41 )     1,460       1,419       16 %
Total
  $ 165     $ 2,897     $ 3,062       7 %
% Increase
    9 %     7 %     7 %        
% of Sales
    (8 )%     1 %     (2 )%        
Gross Margins:
                               
Product
    (25 )%     1 %     (2 )%        
Services
    8 %     (4 )%     8 %        
Total
    8 %     (1 )%     2 %        
 
Total cost of sales increased by approximately $3.1 million when comparing the nine months ended June 30, 2012 versus the nine months ended June 30, 2011.   This increase in cost of sales of 7% overall is consistent with the increase in sales of 10% overall as described previously.  The resulting higher gross profit margin ("GPM") of 24% for the nine months ended June 30, 2012 versus 22% for 2011 was due to several factors which are discussed below.
 
In the Service and System Integration segment, the overall GPM was 16% for the nine months ended June 30, 2012 versus 17% for the prior year nine  month period.  Product GPM in the segment increased from 13% for the nine  months ended June 30, 2011, to 14% for the nine  months ended June 30, 2012, while the segment’s service GPM decreased from 28% to 24% .  The product GPM increase was due to a more favorable product mix in the current year nine month period versus the prior year.  Current year product sales included more networking and data security products as opposed to sales of servers and other lower margin products in the prior year nine month period in both the US and German divisions.  The decrease in service GPM in the Service and System Integration segment from 28% for the nine month period ended June 30, 2011 to 24% for the nine months ended June 30, 2012 was due to several factors including greater use of contractors versus in-house resources particularly in Germany and lower third party maintenance revenue for which the Company is not the primary obligor, in the nine months ended June 30, 2012 versus the nine months ended June 30, 2011. (Note, third party maintenance for which the Company is not the primary obligor is recorded at net value, with no cost of sales.)
 
 
18

 
 
In the Systems segment, the overall GPM increased from 67% to 75% as shown in the table above.  This was because in the current year nine month period, royalty revenue, which carries a 100% GPM, made up a much greater percentage of total Systems segment revenue (63%), versus the prior year nine month period royalty revenue which was 29% of total system segment revenue.  Offsetting the favorable GPM impact of the greater royalty revenue in the current year nine month period, however, was the impact of significantly lower product GPM in the current nine month period versus the prior year.  As shown in the table above, the GPM on product sales was only 30% for the current year nine month period versus the prior year product GPM of 55%.  The reason for this is because in the current nine month period the low volume of production and product sales resulted in insufficient absorption of fixed factory overhead, therefore these fixed costs were proportionately higher versus production and sales volume, which resulted in the low GPM on product sales in the current year nine month period. In addition, we incurred significantly higher nonrecurring engineering charges for re-tooling and other services from our outside fabrication houses for the nine months ended June 30, 2012 versus the prior year nine month period.

Engineering and Development Expenses
 
The following table details our engineering and development expenses by operating segment for the nine months ended June 30, 2012 and 2011:
 
 
   
For the nine months ended,
             
                   
   
June 30, 2012
   
% of
Total
   
June 30, 2011
   
% of
Total
   
$ Decrease
   
% Decrease
 
   
(Dollar amounts in thousands)
 
By Operating Segment:
                                   
Systems
  $ 1,301       100 %   $ 1,460       100 %   $ (159 )     (11 )%
Service and System Integration
                                   
Total
  $ 1,301       100 %   $ 1,460       100 %   $ (159 )     (11 )%
 
The $0.2 million decrease in engineering and development expenses displayed above was due to lower engineering consulting expenditures in connection with the development of the next generation of MultiComputer products in the Systems segment.
 
Selling, General and Administrative
 
The following table details our selling, general and administrative (“SG&A”) expense by operating segment for the nine months ended June 30, 2012 and 2011:
 
 
   
For the nine months ended,
             
                   
   
June 30, 2012
   
% of
Total
   
June 30, 2011
   
% of
Total
   
$ Increase
   
% Increase
 
   
(Dollar amounts in thousands)
 
By Operating Segment:
                                   
Systems
  $ 3,337       31 %   $ 2,910       29 %   $ 427       15 %
Service and System Integration
    7,491       69 %     7,225       71 %     266       4 %
Total
  $ 10,828       100 %   $ 10,135       100 %   $ 693       7 %
 
The increase in SG&A expense in both segments was primarily the result of an increase in bonus and commission expense owing to the more favorable revenue, gross profit and overall operating results for the nine months ended June 30, 2012 versus the comparable period in the prior year.
 
 
19

 
 
Other Income/Expenses
 
The following table details our other income/expenses for the nine months ended June 30, 2012 and 2011:
 

   
For the nine months ended,
       
             
   
June 30, 2012
   
June 30, 2011
   
Decrease
 
   
(Amounts in thousands)
 
Interest expense
  $ (64 )   $ (64 )   $  
Interest income
    20       27       (7 )
Foreign exchange gain (loss)
    (32 )           (32 )
Other income (expense), net
    (26 )     (18 )     (8 )
Total other expense, net
  $ (102 )   $ (55 )   $ (47 )
 
Other income (expense), net, for the nine month periods ended June 30, 2012 and 2011was not significant nor was the change from the prior year nine month period to that of the current year.
 

Overview of the three months ended June 30, 2012 Results of Operations
 
Highlights include:
 
 
Revenue increased by approximately $3.6 million, or 19%, to $22.4 million for the three months ended June 30, 2012 versus $18.8 million for the three months ended June 30, 2011.

 
For the three months ended June 30, 2012, we had an operating profit of approximately $1.2 million versus operating loss of approximately $0.3 million for the three months ended June 30, 2011, for an increase of approximately $1.5 million.

 
For the three months ended June 30, 2012, net income was approximately $0.8 million versus  a net loss of approximately $0.2 million for the three months ended June 30, 2011, for an increase of approximately $1.0 million.

The following table details our results of operations in dollars and as a percentage of sales for the three months ended June 30, 2012 and 2011:

 
   
June 30, 2012
   
% of sales
   
June 30, 2011
   
% of sales
 
   
(Dollar amounts in thousands)
 
Sales
  $ 22,354       100 %   $ 18,789       100 %
Costs and expenses:
                               
Cost of sales
    17,125       77 %     15,168       81 %
Engineering and development
    444       2 %     442       2 %
Selling, general and administrative
    3,580       16 %     3,450       18 %
Total costs and expenses
    21,149       95 %     19,060       101 %
Operating income (loss)
    1,205       5 %     (271 )     (1 )%
Other expense
    (32 )     %     (33 )     %
Income (loss) before income taxes
    1,173       5 %     (304 )     (1 )%
Income tax expense(benefit)
    399       2 %     (90       %
Net income (loss)
  $ 774       3 %   $ (214 )     (1 )%
 
 
20

 
 
Sales
 
The following table details our sales by operating segment for the three months ended June 30, 2012 and 2011:
 

   
Systems
   
Service and
System
Integration
   
Total
   
% of
Total
 
   
(Dollar amounts in thousands)
 
For the Three Months Ended June 30, 2012:
                       
Product
  $ 1,132     $ 15,196     $ 16,328       73
Services
    2,159       3,867       6,026       27
Total
  $ 3,291     $ 19,063     $ 22,354       100
% of Total
    15     85     100        
 

   
Systems
   
Service and
System
Integration
   
Total
   
% of
Total
 
For the Three Months Ended June 30, 2011:
                       
Product
  $ 1,323     $ 13,403     $ 14,726       78
Services
    152       3,911       4,063       22
Total
  $ 1,475     $ 17,314     $ 18,789       100
% of Total
    8     92     100        
 

   
Systems
   
Service and
System
Integration
   
Total
   
%
increase
 
Increase (Decrease)
                       
Product
  $ (191   $ 1,793     $ 1,602       11
Services
    2,007       (44     1,963       48
Total
  $ 1,816     $ 1,749     $ 3,565       19
% increase
    123     10     19        
 
As shown above, total revenues increased by approximately $3.6 million, or 19%, for the three months ended June 30, 2012 compared to the three months ended June 30, 2011.  Revenue in the Systems segment increased for the current year three month period versus the prior year three month period by approximately $1.8 million, while revenues in the Service and System Integration segment increased by approximately $1.7 million.
 
Product revenues increased by approximately $1.6 million, or 11%, for the three months ended June 30, 2012 compared to the comparable period of the prior fiscal year. This change in product revenues was made up of an increase in product revenues in the Service and System Integration segment of approximately $1.8 million and an offsetting decrease in product revenues in the Systems segment of approximately $0.2 million for the three month period ended June 30, 2012 versus the three month period ended June 30, 2011.

The increase in the Service and System Integration segment product sales of approximately $1.8 million was due primarily to an increase in sales in this segment’s German division of approximately $1.9 million and in the UK division of approximately $0.2 million, offset by a decrease in product sales in the US division of the segment of approximately $0.3 million.
 
In Germany, the $1.9 million increase was net of an unfavorable foreign currency fluctuation impact of approximately $0.5 million, with respect to the change in product revenues. On a sales volume basis in constant dollars the increase was approximately $2.5 million. This sales volume increase was driven by increased sales to the division’s largest customer, a large UK-based wireless carrier, of approximately $1.1 million, and an overall increase to two new customers of approximately $3.3 million.  There can be no assurance that there will be significant sales to either or both of these customers in the future.  These increases were offset by decreases to two of the divisions long-term customers.  The aggregate decrease in sales volume to these two customers amounted to approximately $1.9 million.  The increase in sales in the UK division was the result of increased third party product sales versus the prior year.  This was the result of the Company's efforts to start up a third-party reseller business offering a wider array of third-party technology products within the UK operation.
 
 
21

 

In the US division, sales to three of its prior year largest customers decreased by a total of approximately $2.0 million. This decrease was off set by increased product sales to two newly acquired university customers of approximately $0.9 million, an increase of $0.4 million in product sales to two newly acquired  IT infrastructure hosting company customers and an increase in sales to one of the division's large banking industry customers of $0.2 million.
 
The decrease in product revenues in the Systems segment of approximately $0.2 million resulted primarily from higher sales to our Japanese defense department customer which increased by approximately $0.9 million when comparing the quarter ended June 30, 2012 to the quarter ended June 30, 2011.  Sale of parts, components and spares into existing programs to our  US defense department customers decreased by approximately $1.1 million.
 
As shown in the table above, service revenues increased by approximately $2.0 million, or 48%.  This  increase was made up of an increase in Systems segment service revenues of approximately $2.0 million.  Service revenues in the Service and System Integration segment were essentially unchanged from the year-ago third quarter.  The increase in Systems segment service revenues was due to royalty income recorded in the three months ended June 30, 2012 of approximately $2.0 million versus no royalty for the three months ended June 30, 2011.
 
Our sales by geographic area, based on the location to which the products were shipped or services rendered, are as follows:

 
   
For the three Months Ended
                 
                       
   
June 30, 2012
   
%
   
June 30, 2011
   
%
   
$ Increase
   
% Increase
 
   
(Dollar amounts in thousands)
 
Americas
  $ 12,499       56 %   $ 12,075       64 %   $ 424       4 %
Europe
    8,660       39 %