UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark one)
☒ | ANNUAL REPORT PURSUANT TO SECTION 13 or 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the Fiscal Year ended April 30, 2017
OR
☐ | TRANSITION REPORT PURSUANT TO SECTION 13 or 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from __________ to __________
Commission File No. 1-8061
FREQUENCY ELECTRONICS, INC.
(Exact name of Registrant as specified in its charter)
Delaware | 11-1986657 |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) |
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55 CHARLES LINDBERGH BLVD., MITCHEL FIELD, N.Y. | 11553 |
(Address of principal executive offices) | (Zip Code) |
Registrant's telephone number, including area code: 516-794-4500
Securities registered pursuant to Section 12 (b) of the Act:
Title of each class | Name of each exchange on which registered |
Common Stock (par value $1.00 per share) | NASDAQ Global Market |
Securities registered pursuant to Section 12 (g) of the Act:
None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☐ No ☒
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act. Yes ☐ No ☒
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 ☒ No ☐
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 (para 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 ☒ No ☐
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ☒
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 ☐ | Accelerated filer ☐ |
Non-accelerated filer ☐ (Do not check if a smaller reporting company) | Smaller Reporting Company ☒ |
Emerging growth company ☐ |
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
The aggregate market value of voting stock held by non-affiliates of the Registrant as of October 31, 2016 - $45,300,000
The number of shares outstanding of Registrant's Common Stock, par value $1.00 as of July 25, 2017 – 8,729,682
DOCUMENTS INCORPORATED BY REFERENCE: PART III incorporates information by reference from the definitive proxy statement to be filed for the Annual Meeting of Stockholders to be held on or about November 8, 2017.
FREQUENCY ELECTRONICS, INC. and SUBSIDIARIES
TABLE OF CONTENTS
PART I | ||
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Item 1. | Business | 3 |
Item 1A. | Risk Factors | 9 |
Item 1B. | Unresolved Staff Comments | 9 |
Item 2. | Properties | 9 |
Item 3. | Legal Proceedings | 10 |
Item 4. | Mine Safety Disclosures | 10 |
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PART II | ||
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Item 5. | Market For Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities | 11 |
Item 6. | Selected Financial Data | 12 |
Item 7. | Management's Discussion and Analysis of Financial Condition and Results of Operations | 12 |
Item 7A. | Quantitative and Qualitative Disclosures About Market Risk | 19 |
Item 8. | Financial Statements and Supplementary Data | 20 |
Item 9. | Changes in and Disagreements With Accountants on Accounting and Financial Disclosure | 45 |
Item 9A. | Controls and Procedures | 45 |
Item 9B. | Other Information | 45 |
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PART III | ||
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Item 10. | Directors and Executive Officers of the Company | 46 |
Item 11. | Executive Compensation | 46 |
Item 12. | Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters | 46 |
Item 13. | Certain Relationships and Related Transactions, and Director Independence | 46 |
Item 14. | Principal Accountant Fees and Services | 46 |
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PART IV | ||
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Item 15. | Exhibits and Financial Statement Schedules | 47 |
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SIGNATURES | 48 | |
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INDEX TO EXHIBITS | 49 |
Table of Contents
PART I
Item 1. Business
GENERAL DISCUSSION
Frequency Electronics, Inc. (sometimes referred to as "Registrant", "Frequency Electronics" or the "Company") is a world leader in precision time and frequency generation technology, which is employed in commercial and Government Satellite Payload systems, Secure Communications, Command, Control, Communication, Computer, Intelligence, Security and Reconnaissance ("C4ISR"), and EW (Electronic Warfare) systems. Its technology is used for a wide range of terrestrial and space applications.
Unless the context indicates otherwise, references to the Registrant or the Company are to Frequency Electronics, Inc. and its subsidiaries. References to "FEI" are to the parent company alone and do not refer to any of the subsidiaries. Frequency Electronics, a Delaware corporation, has its principal executive office at 55 Charles Lindbergh Boulevard, Mitchel Field, New York 11553. Its telephone number is 516-794-4500 and its website is www.frequencyelectronics.com.
Frequency Electronics was founded in 1961 as a research and development firm generating proprietary precision time and frequency technology primarily under contracts for end-use by the United States ("U.S.") Government. In the mid-1990's, the Company evolved into a designer, developer and manufacturer of state-of-the-art products for both commercial and government end-use. The Company's present mission is to be the world leader in providing precision time and low phase noise frequency generation systems, from 1 Hz to 46 GHz for space and other challenging environments. The Company's technology is the key element in enhancing the functionality and performance of many electronic systems.
MARKETS
The Company's dominant end markets are satellite payloads and precision time for terrestrial secure communications and command and control.
For the satellite market, the Company has a unique legacy of providing master timing systems, power converters, and frequency generation, synthesis and distribution systems. It is currently addressing new opportunities in frequency converters and receivers, representing a potential for a significant increase in the revenue for FEI products on any one satellite. These products support primary and hosted payloads for both commercial and U.S. Government end-use. Currently, approximately one thousand satellites with varying remaining years of useful life are operating in High/Geostationary, Medium and Low Earth Orbits. This number of operational satellites with emphasis on high-throughput is expected to continue to grow over the next ten years as many new satellites are added and older ones are replaced. Furthermore, the U.S. Government is expected to issue a competitive request for proposals for twenty-two additional satellites for the GPS III constellation, and the Company is well positioned to participate via prime contractors with its high-precision digital atomic frequency standard.
For the terrestrial secure communications and command and control market, the Company's products support multiple C4ISR counter measures and EW applications for the U.S. Government on land, sea and air-borne platforms. Recently identified threats to the communication capabilities of U.S. Government facilities through jamming, multi-path or "spoofing" GPS signals may be mitigated by the Company's technologies. In addition, similar types of threats to the public and enterprise networks have been identified by the Department of Homeland Security. The Company's high precision, ruggedized clocks combined with specialized software are essential for communication and operational security.
To address these markets, the Company has several corporate entities which operate under two reportable segments primarily based on the geographic locations of its subsidiaries.
Frequency Electronics has made a strategic decision to concentrate its focus on two of its major business areas, satellite payloads and secure communications, because these two business areas represent unprecedented opportunities for growth in comparison to both domestic and foreign opportunities looking ahead in the Company's wire line network infrastructure business. The Company believes it should allocate the full measure of its resources on its FEI-NY and FEI-Zyfer segments in which the satellite payload and secure communications revenues are generated. Accordingly, the Company has determined to divest Gillam-FEI s.a. ("Gillam"), FEI's heretofore third reportable segment. Gillam is a wholly owned foreign (Belgium) subsidiary of FEI, which develops and manufactures network infrastructure products.
In December 2016, the Company entered into a contingent share purchase agreement with certain foreign parties with respect to a potential sale of Gillam. However, these parties have not yet performed their obligations under that agreement, and the Company continues to negotiate with these parties with respect to a potential sale. Subsequently, in April 2017, the Company decided to sell its Gillam business in any event as soon as practicable. The Company is currently in discussions with a number of potential buyers and believes that the divestment of Gillam is on a path to completion by the end of fiscal year 2018. Accordingly, the Company determined that the assets and liabilities of this reportable segment met the discontinued operations criteria set forth in Accounting Standards Codification 205-20-45 in the quarter ended April 30, 2017. As such Gillam's results have been classified as discontinued operations in the accompanying Consolidated Statements of Operations and Comprehensive (Loss) Income.
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1. | FEI-NY The Company's satellite payload products for U.S. Government and commercial satellite programs are designed, developed and manufactured at its Long Island, New York facility. At this location, the Company also applies its technology and legacy to products for the U.S. military and other U.S. Government agencies, as well as products for certain terrestrial commercial communications and other industrial applications. |
Frequency Electronics, Inc. Asia ("FEI-Asia") was established in fiscal year 2002 as a wholly-owned subsidiary, to be the Company's Asia-based low-cost manufacturer of certain commercial communications products used primarily in the wireless and wireline markets as well as power grids. FEI-Asia is located in the Free-Trade Zone in Tianjin, China.
The Company's subsidiary, FEI-Elcom Tech, Inc. ("FEI-Elcom") designs and manufactures Radio Frequency ("RF") microwave modules, devices and subsystems up to 46 GHz including fast switching, ultra-low phase noise synthesizers, up-down converters, receivers, tuners, ceramic resonant oscillators and dielectric resonant oscillators. These instruments and components are mission critical for multiple applications in the EW market, including SATCOM communication, surveillance, signal intelligence (COMINT, MASINT and ELINT), threat simulation, electronic attack (EA) and electronic prevention (EP) systems. FEI-Elcom's RF microwave technology has also been utilized to develop new products for application in the Company's satellite payload end market. We continue to right-size the FEI-NY subsidiary in response to the end market weakness while at the same time best positioning FEI to capture the eventual recovery in business. These actions have had to include headcount reductions, however, we are ensuring that these reductions will have no effect on the Company's ability to provide on time delivery for present contractual obligations and to fully achieve its internal research and development objectives. We are also implementing a variety of improved operating disciplines that should prove to optimize the organization allowing the company to generate larger margins and enhanced inventory turns when our satellite end markets recover. We are working to consolidate certain of FEI-Elcom's capabilities with other FEI-NY operations in an effort to reduce costs and improve working capital management. This should have the collateral benefit of providing engineering efficiencies and better customer coverage.
2. FEI-Zyfer - Precision time for terrestrial secure communications and command and control, and frequency products that incorporate global positioning systems ("GPS") technology are manufactured by the Company's subsidiary FEI-Zyfer, Inc. ("FEI-Zyfer"). FEI-Zyfer's GPS capability complements the Company's existing technologies and permits the combined entities to provide a broader range of embedded systems for a variety of timing functions and anti-spoofing ("SAASM") applications.
For additional information about these reportable segments, see "Item 1. Business – Reportable Segments and Products."
In addition to its subsidiaries, the Company made a strategic investment in and licensed certain technology to Morion, Inc. ("Morion"), a Russian crystal oscillator manufacturer located in St. Petersburg, Russia. The Company's relationship with Morion, which includes ownership of 4.6% of the outstanding shares of Morion's common stock, permits the Company to secure a cost-effective source for high precision quartz resonators and crystal oscillators. The Morion investment is accounted for under the cost method. For more information regarding the Company's investment in Morion, see Note 10 to Consolidated Financial Statements.
REPORTABLE SEGMENTS AND PRODUCTS
The Company operates under two reportable segments, primarily aligned with the geographical locations of its subsidiaries: (1) FEI-NY and (2) FEI-Zyfer. Within each segment the Company designs, develops, manufactures and markets precision time and frequency control products for different markets as described below. The Company's Chief Executive Officer measures segment performance based on total revenues and profits generated by each geographic center rather than on the specific types of customers or end-users. Consequently, the Company determined that the segments indicated above appropriately reflect the way the Company's management views the business. The FEI-NY segment, which operates out of the Company's Long Island, New York headquarters facility, also includes the operations of the Company's wholly-owned subsidiaries, FEI-Asia and FEI-Elcom. FEI-Asia functions as a manufacturing facility for FEI-NY and FEI-Zyfer with historically minimal sales to outside customers. Beginning in late fiscal year 2014 thru fiscal 2016, FEI-Asia increased shipments of product to third parties as a contract manufacturer. Subsequently such third party sales declined to prior nominal levels. FEI-Elcom, in addition to its own product line, provides design and technical support for the FEI-NY segment's satellite business. The products manufactured by the FEI-NY segment are principally marketed to the commercial and U.S. Government satellite markets, to other U.S. Department of Defense ("DOD") programs and to wireless communications networks. The primary business of the FEI-Zyfer segment, which operates out of California, is the design and manufacture of products which incorporate GPS technologies and rugged high-precision-clocks that are designed and manufactured at FEI-NY. FEI-Zyfer sells its products to both commercial and U.S. Government customers and collaborates with FEI-NY on joint product development activities.
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During fiscal years 2017 and 2016, approximately 78% and 80%, respectively, of the Company's consolidated revenues were from products sold by the FEI-NY segment. In fiscal years 2017 and 2016, sales for the FEI-Zyfer segment were 30% and 22% of consolidated revenues, respectively. (The sum of annual sales percentages exceeds 100% due to intersegment sales.)
Consolidated revenues include sales to end-users in countries located outside of the U.S, primarily in Europe and China. During fiscal years 2017 and 2016, foreign sales comprised 9% and 12%, respectively, of consolidated revenues. For segment information, see Note 14 to the Consolidated Financial Statements.
FEI-NY segment :
The Company provides precision time, frequency generation and synchronization products and subsystems that are found on-board satellites, in ground-based communication stations, and imbedded in moving platforms operated by the U.S. military. The Company has made a substantial investment in research and development to apply its core technologies to satellite payloads, non-space DOD programs and commercial and industrial markets. Revenues from satellite payloads, both for commercial and U.S. Government applications have increased in recent years while the portion of network infrastructure sales was reduced. The Company expects to continue to generate substantial revenues from deployment of new and replacement satellites and other U.S. Government/DOD applications including sales of ruggedized subsystems for moving platforms of the U.S. military.
Satellite Payloads
The use of satellites launched for communications, navigation, weather forecasting, video and data transmissions and Internet access has expanded the need to transmit increasing amounts of voice, video, and data to earth-based receivers. This requires more precise timing and frequency control at the satellite. The Company manufactures the master timing systems (quartz, rubidium and cesium) and other significant timing and frequency generation products for communication satellites, and many of the Company's other space assemblies are used onboard spacecraft for command, control and power distribution. Efficient and reliable DC-DC power converters are also manufactured for the Company's own assemblies and as stand-alone products for space applications. The Company's oven-controlled quartz crystal oscillators are cost-effective precision clocks suited for high-end performance required in satellite transmissions, airborne telephony and geophysical survey positioning systems. Newly developed and upgraded frequency generators, synthesizers, and up/down converters and receivers have augmented the Company's product offerings and positioned the Company to provide a greater share of a typical satellite's payload. Commercial satellite programs which utilize the Company's space-qualified products include Iridium NEXT Constellation, Intelsat EPIC, O3B, WAAS, MexSat, MSV, ICO, TerreStar, EchoStar, Inmarsat and numerous others. The Company is also positioned to participate in certain large constellations being planned for the very near future that will operate in low or mid earth orbits such as the O3B Next Generation Constellation and the LeoSat constellation that consists of up to 108 satellites.
In the years ahead, the Company expects that the U.S. DOD will require more secure communication capabilities, more assets in space and greater bandwidth. The Global Positioning Satellite System (GPS), the MILSTAR Satellite System and the AEHF Satellite System are examples of the programs in which the Company participates - programs which management believes are important to the success of the U.S. Government's security, communication and intelligence needs. The Company has manufactured the master clock for the Trident missile, the basic timing system for the Voyager I and Voyager II deep space exploratory missions and the quartz timing system for the Space Shuttle. The Company's product offerings for U.S. Government satellite programs are similar in design and function to those used on commercial satellites, as described above.
U.S. Government - Non-space:
In addition to space-based programs, the Company's proprietary products have been used in airborne and ground-based guidance, navigation, communications, radar, sonar surveillance and electronic countermeasure and timing systems. The Company has developed and patented a low g-sensitivity (gravity) technology which offers a 100-fold improvement in performance under shock, vibration and other environmental effects. Products are built in accordance with DOD standards and are in use on many of the U.S. Government's important military applications. The Company anticipates that adequate funds will be provided by the U.S. Government to ensure that these programs are sustained.
FEI-Elcom designs and manufactures Radio Frequency (RF) microwave modules and subsystems up to 46 GHz including fast switching, ultra-low phase noise synthesizers, up-down converters, receivers, tuners, ceramic resonant oscillators and dielectric resonant oscillators. These instruments and components are mission critical for multiple applications in the EW market, including SATCOM communication, surveillance, signal intelligence (COMINT, MASINT, and ELINT), threat simulation, electronic attack (EA) and electronic prevention (EP) systems.
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The Company's sales on U.S. Government programs for both space and non-space applications are generally made under fixed price contracts either directly with U.S. Government agencies or indirectly through subcontracts intended for government end-use. The price paid to the Company is not subject to adjustment by reason of the costs incurred by the Company in the performance of the contract, except for costs incurred due to contract changes ordered by the customer. These contracts are negotiated on terms under which the Company bears the risk of cost overruns and derives the benefit from cost savings.
As indicated above, many of the programs and platforms for which the Company supplies products and systems, are used by the U.S. Government for maintaining secure communications world-wide, for obtaining vital intelligence and for enabling precision targeting capabilities. It is the belief of management that the future success of the mission of the U.S. military and intelligence gathering community is dependent on successful and timely deployment of these systems. Thus, the Company anticipates that adequate funds will be provided by the U.S. Government to ensure that the programs are completed. The Company's experience indicates that some programs or product sales have been slowed or delayed due to U.S. Government spending constraints.
Recently the Company has also received several cost-plus-fee contracts under U.S. Government programs. Under these contracts, the Company may be able to recover all of its direct and indirect costs related to the programs plus a pre-determined fee. In the event of substantial cost overruns, the fee may be reduced.
Negotiations on U.S. Government contracts are sometimes based in part on Certificates of Current Costs. An inaccuracy in such certificates may entitle the government to an appropriate recovery. The Company's accounts with respect to these contracts are subject to audit by the Defense Contracts Audit Agency ("DCAA"). Frequency's last full incurred cost audit was performed in 2008. The Company is required to submit for subsequent review an incurred cost report by October 31, for each year then ended. All such required reports have been filed with no adverse comment to date.
In connection with a large anticipated Cost Plus fixed fee contract, the DCAA has initiated an Accounting System Audit which upon successful completion would for the first time enable Frequency to enter into cost plus contracts with certain Government agencies directly without intermediary contractors, which would further enable the Company to take advantage of future opportunities. The Company knows of no reason to expect other than a quick and favorable Audit result.
All U.S. Government end-use contracts are subject to termination by the purchaser for the convenience of the U.S. Government and are subject to various other provisions for the protection of the U.S. Government. In the event of such termination, the Company is entitled to receive compensation as provided under such contracts and in the applicable U.S. Government regulations. There were no end-use contracts terminated for the year ended April 30, 2017.
FEI-Zyfer segment :
FEI-Zyfer designs, develops and manufactures products for precision time and frequency generation and synchronization, primarily incorporating GPS technology. FEI-Zyfer's products make use of both "in-the-clear" civil and "crypto-secured" military signals from GPS. In most cases, FEI-Zyfer's products are integrated into communications systems, computer networks, test equipment, and military command and control terminals for ground and satellite link applications. More than 85% of revenues are derived from sales where the end user is the U.S. Government. FEI-Zyfer's products are an important extension of FEI's core product line, specifically in the area of GPS capabilities and precision time for terrestrial secure communications and command and control. Recently identified threats to the communication capabilities of U.S. Government facilities and to the public and enterprise networks through jamming, multi-path or "spoofing" GPS signals may be mitigated by FEI-Zyfer's technologies and products. High precision, ruggedized clocks combined with specialized software are essential for communication and operational security.
BACKLOG
As of April 30, 2017, the Company's consolidated backlog amounted to approximately $28 million compared to approximately $30 million at the end of the prior fiscal year. Approximately 80% of the current backlog is expected to be filled during the Company's fiscal year ending April 30, 2018. As of April 30, 2017, there are no amounts included in backlog under cost-plus fee contracts that have not been funded. The Company excludes from backlog those contracts or awards for which it has not received authorization to proceed. On fixed price contracts, the Company excludes unfunded portion. The Company expects any partially funded contracts to become fully funded over time and will add the additional funding to its backlog at that time. The backlog is subject to change by reason of several factors including possible cancellation of orders, change orders, terms of the contracts and other factors beyond the Company's control. Accordingly, the backlog is not necessarily indicative of the revenues or profits (losses) which may be realized when the results of such contracts are reported.
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CUSTOMERS AND SUPPLIERS
The Company markets its products both directly and through independent sales representative organizations located in the U.S., Europe and Asia. Sales to non-U.S. end-users, totaled approximately 9% and 12%, respectively, of net revenues in fiscal years 2017 and 2016.
The Company's products are sold to both commercial and governmental customers. For the years ended April 30, 2017 and 2016, approximately 59% and 65%, respectively, of the Company's sales were made under contracts to the U.S. Government or subcontracts for U.S. Government end-use.
During fiscal year 2017, Lockheed Martin Corporation ("Lockheed"), Northrop Grumman Corporation ("Northrop"), and Thales Alenia Space ("Thales"), each accounted for more than 10% of FEI-NY segment revenues; additionally, Lockheed and Northrop also each accounted for more than 10% of consolidated revenues. During fiscal year 2016, Boeing Corporation ("Boeing"), Lockheed, Northrop and Space and Intelligence Systems/Harris Corporation ("Harris"), each accounted for more than 10% of FEI-NY segment revenues; additionally, Boeing and Lockheed also each accounted for more than 10% of consolidated revenues.
During fiscal year 2017, Raytheon Company ("Raytheon") was a major customer of the FEI-Zyfer segment, accounting for more than 10% of the segment's revenues; additionally, Raytheon also accounted for more than 10% of consolidated revenues. During fiscal year 2016, Copper River Information Technology and Raytheon were major customers of the FEI-Zyfer segment, each accounting for more than 10% of the segment's revenues.
The loss by the Company of any one of these customers could have a material adverse effect on the Company's business. The Company believes its relationship with these companies to be mutually satisfactory and is not aware of any prospect for the cancellation or significant reduction of any of its commercial or existing U.S. Government contracts.
The Company purchases a variety of components such as transistors, resistors, capacitors, connectors and diodes for use in the manufacture of its products. The Company is not dependent upon any one supplier or source of supply for any of its component part purchases and maintains alternative sources of supply for all of its purchased components. The Company has found its suppliers generally to be reliable and price-competitive.
RESEARCH AND DEVELOPMENT
The Company's technological leadership continues to be an essential factor to support future growth in revenues and earnings. The Company has focused its internal research and development efforts on improving the core physics and electronic packages in its time and frequency products, conducting research to develop new time and frequency technologies and capabilities, improving product manufacturability by seeking to reduce its production costs through product redesign and process improvements and other measures to take advantage of lower cost components.
The Company continues to focus a significant portion of its own resources and efforts on developing hardware for satellite (commercial and U.S. Government) and terrestrial commercial communications systems, including wireless and GPS-related systems. During fiscal years 2017 and 2016, the Company expended $6.9 million and $5.4 million of its own funds, respectively, on such research and development activity. See "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations." Additionally, the Company receives customer funding for specific R&D projects, and anticipates additional funding from customers for future R&D initiatives. During fiscal years 2017 and 2016, some of the Company's development resources were applied to certain cost-plus-fee contracts and the design-stage of fixed-price satellite payload programs. For fiscal year 2018 the resources to be allocated to research and development will depend on market conditions and identification of new opportunities, as was the case in fiscal 2017.
PATENTS AND LICENSES
The Company believes that its business is generally not dependent on patent or license protection. Rather, it is primarily dependent upon the Company's technical competence, the quality of its products and its prompt and responsible contract performance. However, employees working for the Company assign all rights to inventions to the Company and the Company presently holds such patents and licenses. In certain limited circumstances, the U.S. Government may use or permit the use by the Company's competitors of certain patents or licenses the government has funded. During fiscal year 2003, the Company received a broad and significant patent for, proprietary quartz oscillator technology which the Company intends to exploit in both legacy and new applications. In 2006, the Company obtained a basic patent for its low g-sensitivity technology which management believes will permit greatly enhanced performance of devices on moving platforms and under externally imposed shock or vibration.
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COMPETITION
The Company experiences competition in all areas of its business. Many of the Company's competitors are larger, have greater financial resources and have larger research and development and marketing staffs. The Company has a strong history of competing successfully in this environment due to the quality, reliability and outstanding record of performance its products have achieved. The Company competes primarily on the basis of the accuracy, performance and reliability of its products, the ability of its products to function under severe conditions, such as in space or in other extremely hostile environments, and the Company's track record of prompt and responsive contract performance and technical competence. The Company has unique and broad capabilities which includes quartz, rubidium, and cesium-based timing references and specialized RF microwave technology. With respect to very high precision products, the Company encounters fewer competitors than it does for lower precision products for which there are a significant number of suppliers.
The Company's principal competition for space products is the in-house capability of its major customers such as Boeing, Northrop, Lockheed Martin and Space Systems Loral as well as a number of other firms capable of providing high-reliability microwave frequency generators. With respect to non-space products, such as systems for precision time for terrestrial secure communication and command and control, and products for multiple applications in the EW market, the Company competes with large domestic companies such as Microsemi Corporation, Vectron, Inc., a division of Dover Corp., and Mercury Systems.
The Company has successfully outsourced certain manufacturing processes to third parties and to its wholly-owned subsidiary, FEI-Asia in Tianjin, China and to Russia-based Morion, in which the Company is a minority shareholder. The Company conducts this outsourcing to maintain a competitive position on cost while adhering to its high quality standards. The Company believes its ability to obtain raw materials, manufacture finished products, integrate them into systems and sub-systems and interface these systems with highly sophisticated end-user applications provides a strong competitive edge.
EMPLOYEES
The Company employs approximately 320 full-time persons worldwide. None of the U.S. or Chinese employees are represented by labor unions.
OTHER ASPECTS
The Company's business is not seasonal although it expects to experience some fluctuation in revenues during the second fiscal quarter as a result of summer holiday periods. No unusual working capital requirements exist.
EXECUTIVE OFFICERS OF THE COMPANY
The executive officers hold office until the annual meeting of the Board of Directors following the annual meeting of stockholders, subject to earlier removal by the Board of Directors.
The names of all executive officers of the Company and all positions and offices with the Company which they presently hold are as follows:
Martin B. Bloch | - | President, Chief Executive Officer and Director
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Markus Hechler | - | Executive Vice President, President of FEI Government Systems, Inc. and Secretary and Treasurer
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Oleandro Mancini | - | Senior Vice President, Business Development
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Steven Strang | - | President, FEI-Zyfer
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James Davis | - | President, FEI-Elcom Tech
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Thomas McClelland | - | Vice President, Advanced Development
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Adrian Lalicata | - | Vice President, RF & Microwave Systems
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Steven L. Bernstein | - | Chief Financial Officer |
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Martin B. Bloch, age 81, has been a Director of the Company and of its predecessor since 1961. Mr. Bloch is the Company's President and Chief Executive Officer and has held such positions since inception of the Company, except for the period from December 1993 through October 1998 when General Franklin held the CEO position. Previous to forming the Company, Mr. Bloch served as chief electronics engineer of the Electronics Division of Bulova Watch Company.
Markus Hechler, age 71, joined the Company in 1967. He was elected to the position of Executive Vice President in February 1999, prior to which he served as Vice President, Manufacturing since 1982. In October 2001, he was named President of the Company's subsidiary, FEI Government Systems, Inc. He has served as Assistant Secretary since 1978, and in April 2016 was appointed Secretary and Treasurer.
Oleandro Mancini, age 68, joined the Company in August 2000 as Vice President, Business Development and was promoted to Senior Vice President in 2010. Prior to joining the Company, Mr. Mancini served from 1998 as Vice President, Sales and Marketing at Satellite Transmission Systems, Inc. and from 1995 to 1998 as Vice President, Business Development at Cardion, Inc., a Siemens A.G. company. From 1987 to 1995, he held the position of Vice President, Engineering at Cardion, Inc.
Steven Strang, age 53, was named President of FEI-Zyfer, Inc., effective May 1, 2005. Previously, Mr. Strang was Executive Vice President of this subsidiary and its predecessor companies where he has served for 20 years in various technical and management positions.
James Davis, age 64, is the President of FEI-Elcom Tech, Inc. which the Company acquired in February 2012. Mr. Davis was named an officer of the Company in October 2013. Mr. Davis became the president of Elcom Technologies, Inc., the pre-acquisition company, on September 20, 2007. Prior to joining FEI-Elcom, Mr. Davis held leadership positions at other technology companies including General Manager of Hewlett Packard's (Agilent) Semiconductor Systems Center, Vice President and General Manager of Schlumberger Technologies N.A. and Vice President and General Manager of Gretag Macbeth LLC. Mr. Davis also held the rank of Captain as a U.S. Army Special Forces Team Commander.
Thomas McClelland, age 62, joined the Company as an engineer in 1984 and was elected Vice President, Commercial Products in March 1999. In fiscal year 2011, Mr. McClelland's title was modified to Vice President Advanced Development to describe his expanded role in the Company.
Adrian Lalicata, age 70, joined the Company in 2006 as Vice President, RF & Microwave Systems. Prior to joining the Company, Mr. Lalicata served as Vice President of Engineering at Herley-CTI and Communication Techniques, a Dover Company. Mr. Lalicata has served as Director of Engineering at Microphase Corp. and Adcomm, Inc. He also held leading engineering positions at Loral Electronic Systems, Cardion Electronics, and Airborne Instruments Laboratories.
Steven L. Bernstein, age 52, joined the Company in April 2010 as its Controller and was appointed to the position of Chief Financial Officer in April 2016. Prior to joining the Company, Mr. Bernstein worked in the North America accounting group of a Fortune 500 electronics distributor.
Item 1A. Risk Factors
This item is not required for smaller reporting companies.
Item 1B. Unresolved Staff Comments
This item is not required for smaller reporting companies.
Item 2. Properties
The Company operates out of several facilities located around the world. Each facility is used for manufacturing its products and for administrative activities. The following table presents the location, size and terms of ownership/occupation:
Location | Size (sq. ft.) | Own or Lease | ||
Long Island, NY | 93,000 | Lease | ||
Garden Grove, CA | 27,850 | Lease | ||
Tianjin, China | 28,000 | Lease | ||
Rockleigh, NJ | 32,000 | Lease |
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The Company's facility located in Mitchel Field, Long Island, New York, is part of the building that the Company constructed in 1981 and expanded in 1988 on land leased from Nassau County. In January 1998, the Company sold this building and the related land lease to Reckson Associates Realty Corp. ("Reckson"), leasing back the space that it presently occupies.
The Company leased its manufacturing and office space from Reckson under an initial 11-year lease followed by two five-year renewal periods. The Company is currently in the second 5-year renewal period paying annual rent of $800,000 per year plus it's pro rata share of real estate taxes and the costs of utilities and insurance. The lease will end in January 2019. The leased space is adequate to meet the Company's domestic operational needs which encompass the principal operations of the FEI-NY segment and also serves as the Company's world-wide corporate headquarters.
The Garden Grove, California facility is leased by the Company's subsidiary, FEI-Zyfer, Inc. The facility consists of a combination office and manufacturing space. The lease, which expires in August 2017, currently requires monthly payments of approximately $31,200 and will remain constant over the remaining 4 months of the lease term. The Company has signed a second amendment to the lease, which extends the lease an additional 88 months, beginning October 1, 2017 and expiring January 31, 2025. The average annual rent over the period of the amendment is approximately $332,000.
The Tianjin, China facility is the location of the Company's wholly-owned subsidiary, FEI-Asia. The subsidiary's office and manufacturing facility is located in the Tianjin Free-Trade Zone. The lease is renewable annually with monthly rent of $1,000 through May 2018. The facility is adequate for the near-term manufacturing expectations for the Company.
FEI-Elcom operates out of a leased facility located in Rockleigh, New Jersey. The facility consists of a combination office and manufacturing space. The lease, which expires in March 2018, requires monthly payments of $39,900.
Item 3. Legal Proceedings
From time to time, the Company is a defendant in litigation arising out of the ordinary course of business. As of July 31, 2017, the Company is not a party to any material, pending legal proceeding other than routine litigation incidental to its business.
Item 4. Mine Safety Disclosures
Not applicable.
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PART II
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
The Common Stock of the Company is listed on The Nasdaq Global Market ("NASDAQ") under the ticker symbol "FEIM." The following table shows the high and low sale price for the Company's Common Stock for the quarters indicated, as reported on the NASDAQ.
FISCAL QUARTER | HIGH SALE | LOW SALE | |||||||
2017– | |||||||||
FIRST QUARTER | $ | 11.99 | $ | 8.60 | |||||
SECOND QUARTER | 11.99 | 9.05 | |||||||
THIRD QUARTER | 11.24 | 9.00 | |||||||
FOURTH QUARTER | 11.50 | 10.29 | |||||||
2016 – | |||||||||
FIRST QUARTER | $ | 13.42 | $ | 10.33 | |||||
SECOND QUARTER | 11.46 | 9.95 | |||||||
THIRD QUARTER | 11.28 | 8.51 | |||||||
FOURTH QUARTER | 11.00 | 8.83 |
As of July 25, 2017, the approximate number of holders of record of common stock was 655. The closing share price of the Company's stock on April 30, 2017 was $10.50. The closing share price of the Company's stock on July 25, 2017 was $8.70.
DIVIDEND POLICY
The Board of Directors reviews the Company's dividend policy at each regular meeting. No dividends were declared or paid during fiscal years 2017 and 2016.
STOCK BUYBACK PROGRAM
In March 2005, the Company's Board of Directors authorized a stock repurchase program for up to $5 million of the Company's outstanding common stock. This program does not have an expiration date. Shares may be purchased in open market purchases, private transactions or otherwise at such times and from time to time, and at such prices and in such amounts as the Company believes appropriate and in the best interests of its shareholders. The timing and volume of repurchases will vary depending on market conditions and other factors. Purchases may be commenced or suspended at any time without notice. During fiscal year 2009, the Company repurchased 724,632 shares under the buyback program, including a block purchase of 615,000 shares from its former largest institutional shareholder. The average purchase price was $4.29 per share or an aggregate amount of approximately $3.1 million. With these purchases, the Company has acquired approximately $4 million of its common stock out of the total authorization of $5 million. The Company did not make any purchases of stock for the treasury during fiscal years 2017 or 2016.
EQUITY COMPENSATION PLAN INFORMATION
| Number of securities to be issued upon exercise of outstanding options warrants and rights | Weighted-average exercise price of outstanding options warrants and rights | Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a)) | |||||||||
| ||||||||||||
| ||||||||||||
| ||||||||||||
Plan Category | ||||||||||||
| (a) | (b) | (c) | |||||||||
Equity Compensation Plans |
|
|
|
|
|
| ||||||
Approved by Security Holders (1) | 1,642,625 | $ | 8.97 | 18,563 |
(1) | The Company's equity compensation plans are described in Note 12 to the Consolidated Financial Statements. |
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Item 6. Selected Financial Data
This item is not required for smaller reporting companies.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
"Safe Harbor" Statement under the Private Securities Litigation Reform Act of 1995:
The statements in this Annual Report on Form 10-K regarding future earnings and operations and other statements relating to the future constitute "forward-looking" statements pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements inherently involve risks and uncertainties that could cause actual results to differ materially from the forward-looking statements. Factors that would cause or contribute to such differences include, but are not limited to, inability to integrate operations and personnel, actions by significant customers or competitors, general domestic and international economic conditions, consumer spending trends, reliance on key customers, continued acceptance of the Company's products in the marketplace, competitive factors, new products and technological changes, product prices and raw material costs, dependence upon third-party vendors, competitive developments, changes in manufacturing and transportation costs, the availability of capital, and the outcome of any litigation and arbitration proceedings. The factors listed above are not exhaustive. Other sections of this Form 10-K include additional factors that could materially and adversely impact the Company's business, financial condition and results of operations. Moreover, the Company operates in a very competitive and rapidly changing environment. New factors emerge from time to time and it is not possible for management to predict the impact of all these factors on the Company's business, financial condition or results of operations or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements. Given these risks and uncertainties, investors should not rely on forward-looking statements as a prediction of actual results. Any or all of the forward-looking statements contained in this Form 10-K and any other public statement made by the Company or its management may turn out to be incorrect. The Company expressly disclaims any obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.
Critical Accounting Policies and Estimates
The Company's significant accounting policies are described in Note 1 to the Consolidated Financial Statements. The Company believes its most critical accounting policies to be the recognition of revenue and costs on production contracts and the valuation of inventory. Each of these areas requires the Company to make use of reasonable estimates including estimating the cost to complete a contract, the realizable value of its inventory or the market value of its products. Changes in estimates can have a material impact on the Company's financial position and results of operations.
Revenue Recognition
Revenues under larger, long-term contracts which generally require billings based on achievement of milestones rather than delivery of product, are reported in operating results using the percentage of completion method. On fixed-price contracts, which are typical for commercial and U.S. Government satellite programs and other long-term U.S. Government projects, and which require initial design and development of the product, revenue is recognized on the cost-to-cost method. Under this method, revenue is recorded based upon the ratio that incurred costs bear to total estimated contract costs with related cost of sales recorded as the costs are incurred. Each month management reviews estimated contract costs through a process of aggregating actual costs incurred and estimating additional costs to completion based upon the current available information and status of the contract. The effect of any change in the estimated gross margin percentage for a contract is reflected in revenues in the period in which the change is known. Provisions for the full amount of anticipated losses on contracts are made in the period in which they become determinable.
On production-type orders, revenue is recorded as units are delivered with the related cost of sales recognized on each shipment based upon a percentage of estimated final program costs.
Changes in job performance on long-term contracts and production-type orders may result in revisions to costs and income and are recognized in the period in which revisions are determined to be required. Provisions for anticipated losses on customer orders are made in the period in which they become determinable.
For customer orders in the Company's FEI-Zyfer segment or smaller contracts or orders in the FEI-NY segment, sales of products and services to customers are reported in operating results based upon (i) shipment of the product or (ii) performance of the services pursuant to terms of the customer order. When payment is contingent upon customer acceptance of the installed system, revenue is deferred until such acceptance is received and installation completed.
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Costs and Expenses
Contract costs include all direct material, direct labor costs, manufacturing overhead and other direct costs related to contract performance. Selling, general and administrative costs are charged to expense as incurred.
Inventory
In accordance with industry practice, inventoried costs contain amounts relating to contracts and programs with long production cycles, a portion of which will not be realized within one year. Inventory write downs are established for slow-moving materials, obsolete items and costs incurred on programs for which production-level orders cannot be determined as probable. Such write downs are based upon management's experience and expectations for future business. Any changes arising from revised expectations are reflected in cost of sales in the period the revision is made.
Income taxes
Our income tax expense, deferred tax asset and liabilities, and liabilities for unrecognized tax benefits reflect management's best estimate of current and future taxes to be paid. We are subject to tax in the United States and foreign jurisdictions. Significant judgments and estimates are required in the determination of the consolidated income tax expense.
Deferred income taxes arise from temporary differences between the tax basis of assets and liabilities and their reported amounts in the financial statements, which will result in taxable or deductible amounts in the future. In evaluating our ability to recover deferred tax assets in the jurisdiction from which they arise, we consider all positive and negative evidence, including the reversal of deferred tax liabilities, projected future taxable income, tax planning strategies, and results of recent operations. The carrying value of the Company's net deferred tax assets, assumes that the Company will be able to generate sufficient future taxable income in certain jurisdictions, based on estimates and assumptions. If these estimates and assumptions change in the future, the Company may be required to record an additional valuation allowances against its deferred tax assets resulting in additional income tax expense in the consolidated statement of operations, or conversely to further reduce its existing valuation allowance resulting in less income tax expense. The Company evaluates the realizability of deferred tax assets quarterly and assesses the need for additional valuation allowance quarterly. Tax benefits are recognized for an uncertain tax position when, in the Company's judgment, it is more likely than not that the position will be sustained upon examination by a taxing authority. For a tax position that meets the more-likely-than-not recognition threshold, the tax benefit is measured as the largest amount that is judged to have a greater than 50% likelihood of being realized upon ultimate settlement with a taxing authority. The liability associated with unrecognized tax benefits is adjusted periodically due to changing circumstances and when new information becomes available. Such adjustments are recognized entirely in the period in which they are identified. The effective tax rate includes the net impact of changes in the liability for unrecognized tax benefits and subsequent adjustments as considered appropriate by the Company. While it is often difficult to predict the final outcome or the timing of resolution of any particular tax matter, the Company believes its liability for unrecognized tax benefits is adequate. Interest and penalties recognized on the liability for unrecognized tax benefits are recorded as income tax expense.
RESULTS OF OPERATIONS
Discontinued Operations Presentation
The results of Gillam for fiscal years ended April 30, 2017 and 2016, are presented as discontinued operations in our Consolidated Statements of Operations and Comprehensive (Loss) Income. Unless otherwise stated, financial results discussed herein refer to continuing operations.
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Consolidated Results
The table below sets forth for the fiscal years ended April 30, 2017 and 2016, the percentage of consolidated net sales represented by certain items in the Company's consolidated statements of operations:
| 2017 | 2016 | ||||||
Revenues | ||||||||
FEI-NY | 78.4 | % | 79.8 | % | ||||
FEI-Zyfer | 29.5 | 22.2 | ||||||
Less intersegment revenues | (7.9 | ) | (2.0 | ) | ||||
| 100.0 | 100.0 | ||||||
Cost of Revenues | 77.7 | 65.2 | ||||||
Gross Margin | 22.3 | 34.8 | ||||||
Selling and Administrative expenses | 23.6 | 20.5 | ||||||
Research and Development expenses | 13.7 | 9.8 | ||||||
Operating (Loss) Profit | (15.0 | ) | 4.5 | |||||
Other Income (Expenses), net | 1.0 | 1.5 | ||||||
(Benefit) Provision for Income Taxes | (4.2 | ) | 1.9 | |||||
(Loss) Income from continuing operations | (9.8 | ) | 4.1 | |||||
Income (Loss) from discontinued operations, net of tax | 0.2 | (2.2 | ) | |||||
Net (Loss) Income | (9.6 | )% | 1.9 | % |
Revenues
Fiscal years ended April 30, (in thousands) | ||||||||||||||||
| Change | |||||||||||||||
| 2017 | 2016 | $ | % | ||||||||||||
FEI-NY | $ | 39,486 | $ | 44,238 | $ | (4,752 | ) | (11 | %) | |||||||
FEI-Zyfer | 14,853 | 12,285 | 2,568 | 21 | % | |||||||||||
Intersegment sales | (3,988 | ) | (1,107 | ) | (2,881 | ) | ||||||||||
| $ | 50,351 | $ | 55,416 | $ | (5,065 | ) | (9 | %) |
Fiscal year 2017 compared to fiscal year 2016:
Fiscal 2017 revenues from satellite programs, the Company's largest business area, decreased by $10.5 million, or 32%, compared to the prior fiscal year. This decrease is in line with the protracted industry wide slowdown in commercial communications satellite procurement, and reflects reductions in orders received from satellite service providers by the Company's major customers. Revenues on satellite program contracts are recorded in the FEI-NY segment and are recognized primarily under the percentage of completion method. Sales revenues from non-space U.S. Government/DOD customers increased by approximately $3.8 million or 24% compared to prior fiscal year. These revenues are recorded in both the FEI-NY and FEI-Zyfer segments, accounted for approximately 38% and 28% of consolidated revenues for fiscal years 2017, and 2016, respectively. For the year ended April 30, 2017, other commercial and industrial sales accounted for approximately 17% of consolidated revenues compared to approximately 12% for fiscal year 2016. Sales in this business area were $8.6 million for the year ended April 30, 2017 compared to $6.9 million for the preceding year.
Gross Margin
| Fiscal years ended April 30, | |||||||||||||||
| (in thousands) | |||||||||||||||
| Change | |||||||||||||||
| 2017 | 2016 | $ | % | ||||||||||||
| $ | 11,249 | $ | 19,275 | $ | (8,026 | ) | (42 | %) | |||||||
GM Rate | 22.3 | % | 34.8 | % |
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For the year ended April 30, 2017, gross margin and gross margin rate both decreased compared to the prior year. The two major contributing factors affecting gross margin dollars, include the $5.1 million revenue decrease and the $7 million of inventory adjustments. The gross margin percentage rate additionally reflects one-time non-cash inventory adjustments. Consistent with the Company's phase-out of its wire-line network infrastructure business area and the anticipated sale of Gillam-FEI, its foreign (Belgium) subsidiary, the Company took a one-time non-cash write down of approximately $5 million of inventory relating to wire-line copper based synchronization products in the FEI-Zyfer segment. Additionally, the Company recorded $2 million of inventory adjustments in the FEI-NY segment.
Selling and Administrative Expenses
Fiscal years ended April 30, | ||||||||||||||
(in thousands) | ||||||||||||||
Change | ||||||||||||||
2017 | 2016 | $ | % | |||||||||||
$ | 11,898 | $ | 11,379 | $ | 519 | 5 | % |
In the fiscal years ended April 30, 2017 and 2016, selling and administrative costs ("SG&A") were 24% and 21%, respectively, of consolidated revenues, the percentage increase of ("SG&A") was impacted by the year over year decline in revenues. A reduction in other selling and administrative costs was more than offset by a year over year increase in deferred compensation expense. Stock compensation expenses which are included in total ("SG&A") were $424,000 and $548,000, in 2017 and 2016 respectively.
Research and Development Expenses
Fiscal years ended April 30, | ||||||||||||||
(in thousands) | ||||||||||||||
Change | ||||||||||||||
2017 | 2016 | $ | % | |||||||||||
$ | 6,876 | $ | 5,428 | $ | 1,448 | 27 | % |
During fiscal 2017, the Company accelerated its research and development ("R&D") activity. As a percentage of consolidated revenue, R&D spending for the years ended April 30, 2017 and 2016 was approximately 14% and 10%, respectively. These R&D efforts address large business opportunities in secure communications command and control, and satellite systems that require advanced technologies and capabilities going forward. The Company believes it enjoys a competitive edge and has a head start in the development of these requirements.
The Company also engages in customer-funded development activity. The funds received in connection therewith appear in revenues and are not included in the table above. Although funding is obtained from customers, the Company retains the rights to any products developed. The Company believes that internally generated cash and cash reserves are adequate to fund its research and development activity.
Operating (Loss) Profit
Fiscal years ended April 30, | ||||||||||||||
(in thousands) | ||||||||||||||
Change | ||||||||||||||
2017 | 2016 | $ | % | |||||||||||
$ | (7,525 | ) | $ | 2,468 | $ | (9,993 | ) | (405 | %) |
For fiscal year ended April 30, 2017, the Company recorded an operating loss of 15% of revenues compared to an operating profit of 4.5% of revenues for fiscal 2016. Approximately $7 million of the $7.5 million operating loss was due to non-cash inventory adjustments.
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Other Income (Expense)
Fiscal years ended April 30, | ||||||||||||||||
(in thousands) | ||||||||||||||||
| Change | |||||||||||||||
| 2017 | 2016 | $ | % | ||||||||||||
Investment income | $ | 549 | $ | 490 | $ | 59 | 12 | % | ||||||||
Interest expense | (150 | ) | (131 | ) | (19 | ) | 15 | % | ||||||||
Other income (expense), net | 87 | 447 | (360 | ) | NM | |||||||||||
| $ | 486 | $ | 806 | $ | (320 | ) | (40 | %) |
Investment income is derived primarily from the Company's holdings of marketable securities. Earnings on these securities vary based on changes in dividend payments and interest rates. During fiscal year 2017, investment income included losses upon the sale or redemption of marketable securities of approximately $28,000 compared to a gain of approximately $131,000 during fiscal year 2016. In fiscal year 2017, the Company received a $249,000 dividend from its investment in Morion compared to $30,000 in the prior year, yielding higher investment income than in prior year.
In fiscal year 2017, interest expense was incurred on borrowings under the Company's credit facility with a bank and on deferred compensation payments. During fiscal year 2017, deferred compensation interest payments increased and interest expense relating to the line of credit was reduced. As all borrowings under the credit facility were paid in full.
Other income (expense), net decreased because during fiscal year 2016, other income included approximately $380,000 from the proceeds of a life insurance policy of a former officer of the Company.
Income Tax (Benefit) Provision
Fiscal years ended April 30, | ||||||||||||||
(in thousands) | ||||||||||||||
Change | ||||||||||||||
2017 | 2016 | $ | % | |||||||||||
$ | (2,115 | ) | $ | 1,070 | $ | (3,185 | ) | 298 | % |
Effective tax rate on pre-tax book income:
30.0 | % | 32.7 | % |
|
|
The Company is subject to taxation in several countries. The statutory federal rates are 34% in the U.S., 33% in Europe and 25% in China. For the year ended April 30, 2017, the Company recognized a tax benefit related to a current year domestic pretax loss compared to a provision for taxes in in the prior year related to domestic pretax income. The Company intends to carry back the fiscal 2017 domestic loss for a refund of taxes paid in prior years. The effective tax rate was impacted favorably by a U.S. tax deduction relating to the realization of the excess tax basis in common shares of FEI-Asia as the Company made an election to treat FEI-Asia as a disregarded entity. The effective tax rate was also impacted unfavorably by unrecognized tax benefits, a state tax rate change, and losses incurred at the Company's foreign subsidiaries for which it receives no tax benefit. (See Note 13 to the Consolidated Financial Statements for a reconciliation of the actual tax benefit to the expected tax provision at the federal statutory rate and a tabular rollforward of unrecognized tax benefits.)
The Company's Asia subsidiary has available net operating loss ("NOL") carryforwards of approximately $0.9 million to offset future taxable income. The associated deferred tax asset for the foreign subsidiary NOL is fully reserved by a valuation allowance. These loss carryforwards have no expiration date. As a result of the acquisition of FEI-Elcom, the Company has a federal NOL carryforward of $4.4 million which may be applied in annually limited amounts to offset future U.S.-sourced taxable income over the next 14 years.
Discontinued Operations
| Fiscal years ended April 30, | |||||||||||||||
| (in thousands) | |||||||||||||||
| Change | |||||||||||||||
| 2017 | 2016 | $ | % | ||||||||||||
Net Income (Loss) | $ | 103 | $ | (1,199 | ) | $ | 1,302 | NM |
|
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The above table represents the net income (loss) for the Gillam segment accounted for as discontinued operations as presented in Note 2 to the financial statements. Revenues for 2017 and 2016 were relatively flat at approximately $5.9 million for each fiscal year. The gross margin and gross margin percentage increased in fiscal 2017 due to increased engineering costs incurred in fiscal 2016. Combined SG&A and R&D expenses for fiscal 2017 decreased approximately 9% compared to fiscal 2016, resulting in an operating loss of $544,000 compared $1.2 million in fiscal 2016. The Company recognized a deferred tax asset, net of valuation allowance, of $650,000 for its excess outside tax basis in the common shares of Gillam. The corresponding tax benefit has been allocated to discontinued operations.
LIQUIDITY AND CAPITAL RESOURCES
Net positive cash flow from operations increased to $3.5 million in fiscal 2017 compared to $2.8 million in the prior year. The Company generated positive cash flow from operations despite the reported operating loss for fiscal 2017. The Company's balance sheet continues to reflect a highly liquid position with working capital of $61.7 million at April 30, 2017. Included in working capital at April 30, 2017 is approximately $10.0 million consisting of cash, cash equivalents and short-term investments. The Company's current ratio at April 30, 2017 is 8.6 to 1 compared to 8.3 to 1 at the end of the prior fiscal year.
During fiscal years 2017 and 2016, the Company incurred $11.3 million and $2.8 million, respectively, in non-cash charges to earnings, including depreciation and amortization expense, inventory adjustments, warranty and accounts receivable reserves, certain employee benefit plan expenses, including accounting for stock-based compensation. During fiscal year 2017, operating cash was increased by decreases in inventory, accounts payable, and accrued liabilities. During fiscal year 2016, operating cash was reduced by increases to inventory offset by a decrease to accounts receivables.
Net cash used in investing activities for the fiscal year ended April 30, 2017 was $1.4 million compared $3.4 million in fiscal year 2016. In fiscal year 2017, investing activities included net proceeds from the redemption, sale or purchase of marketable securities for $3.8 million and uses of acquisitions of capital equipment and other long-term assets for $5.2 million. In fiscal year 2016, investing activities included net uses from the redemption, sale or purchase of marketable securities for $89,000 and acquisitions of capital equipment and other long-term assets for $3.3 million. The Company may continue to invest cash equivalents as dictated by its investment and acquisition strategies.
During the year ended April 30, 2017, cash used in financing activities was $6.7 million consisting of the net principal balance repayment of $6 million to JPMorgan Chase Bank, N.A ("JP Morgan") and the tax effect arising from the exercise of stock-based awards. On January 30, 2017, the Company repaid the principal balance due on its credit facility, dated June 6, 2013, with JPMorgan. Subsequently, the Company voluntarily terminated this credit facility with JPMorgan to reduce the fees and expenses associated with maintaining that facility. The Company did not incur any early termination fees associated with its voluntary termination of this credit facility.
During the year ended April 30, 2016, cash provided by financing activities was $141,000 consisting of the tax benefit arising from the exercise of stock-based awards. There were no additional borrowings or payments made under the bank credit facility in 2016. The Company has been authorized by its Board of Directors to repurchase up to $5 million worth of shares of its common stock for treasury whenever appropriate opportunities arise but it has neither a fixed repurchase plan nor commitments to purchase additional shares in the future. As of the end of fiscal year 2017, the Company has repurchased approximately $4 million of its common stock out of the $5 million authorization. There were no repurchases in fiscal 2017 or 2016.
The Company will continue to expend resources to develop, improve and acquire products for space applications, guidance and targeting systems, and communication systems which management believes will result in future growth and profitability. During fiscal year 2017, the Company secured partial customer funding for a portion of its R&D efforts. The customer funds received in connection therewith appear in revenues and are not included in R&D expenses. For fiscal year 2018, the Company anticipates securing additional customer funding for a portion of its research and development activities, and will allocate internal funds depending on market conditions and identification of new opportunities as in fiscal 2017. The Company expects internally generated cash will be adequate to fund these development efforts. The Company may also pursue acquisitions to expand its range of products and may use internally generated cash and external funding in connection with such acquisitions.
Based upon the Company's decision to sell its Gillam business and the associated presentation as Discontinued Operations, the Company believes that the effect on cash flow will be neutral, however it is expected to have a positive cash effect when the intended sale is concluded.
The Company's international business is subject to changes in demand or pricing resulting from fluctuations in currency exchange rates, primarily in the Euro to U.S. Dollar exchange rate and in the Chinese Renminbi to U.S. Dollar exchange rate.
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Off-Balance Sheet Arrangements
The Company does not have any off‑balance sheet arrangements, other than operating leases, that have or are reasonably likely to have a current or future effect on the Company's financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to investors.
As of April 30, 2017, the Company's consolidated backlog amounted to approximately $28 million as compared to approximately $30 million at the beginning of the fiscal year. (See Item 1). Approximately 80% of this backlog is expected to be filled during the Company's fiscal year ending April 30, 2017. The Company excludes from backlog any contracts or awards for which it has not received authorization to proceed. On fixed price contracts, the Company excludes any unfunded portion. The Company expects any partially funded contracts to become fully funded over time and will add the additional funding to its backlog at that time. The backlog is subject to change by reason of several factors including possible cancellation of orders, change orders, terms of the contracts and other factors beyond the Company's control. Accordingly, the backlog is not necessarily indicative of the revenues or profits (losses) which may be realized when the results of such contracts are reported.
The Company's liquidity is adequate to meet its operating and investment needs through at least July 31, 2018.
RECENT ACCOUNTING PRONOUNCEMENTS
In January 2017, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2017-04, Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment ("ASU 2017-04"), which simplifies how an entity is required to test goodwill for impairment by eliminating Step 2 from the goodwill impairment test. Under ASU 2017-04 goodwill impairment will be tested by comparing the fair value of a reporting unit with its carrying amount, and recognizing an impairment charge for the amount by which the carrying amount exceeds the reporting unit's fair value. The new guidance must be applied on a prospective basis and is effective for periods beginning after December 15, 2019, with early adoption permitted. The Company will not be early adopting and is in the process of determining the effect that ASU 2017-04 may have, however, the Company expects the new standard to have an immaterial effect on its financial statements.
In March 2016, the FASB amended the existing accounting standards for stock-based compensation, ASU 2016-09, Compensation-Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting . The amendments impact several aspects of accounting for share-based payment transactions, including the income tax consequences, forfeitures, classification of awards as either equity or liabilities, and classification on the statement of cash flows. This guidance requires a mix of prospective, modified retrospective, and retrospective transition to all annual and interim periods presented and is effective for the Company in the next fiscal year. The Company has not determined the full impact of implementation of this standard, however the Company is determining if the stock options offered would require any type of transition under the new pronouncement and expects that, when adopted beginning in fiscal 2019, the new standard will have an immaterial effect on the Company's financials.
In February 2016, the FASB issued ASU No. 2016-02 Leases (Topic 842) . The objective of the update is to increase transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements. The standard requires a modified retrospective transition approach for existing leases. The amendments of the ASU 2016-02 are effective for fiscal years beginning after December 31, 2018 and early adoption is permitted. The Company is currently evaluating the impact of this standard on our consolidated financial statements, however the Company has minimal leases and expects that when adopted beginning in fiscal 2019, the new standard to have an immaterial effect on the Company's financials.
In November 2015, the FASB issued ASU No. 2015-17, Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes . The amendments in ASU 2015-17 seek to simplify the presentation of deferred income taxes and require that deferred tax liabilities and assets be classified as noncurrent in a classified statement of financial position. ASU 2015-17 is effective for financial statements issued for annual periods beginning after December 15, 2016, and interim periods within those annual periods, with early application permitted for all entities as of the beginning of an interim or annual reporting period. The Company has adopted the guidance during fiscal 2017 on a prospective basis in order to simplify balance sheet classification. Prior periods have not been retrospectively adjusted.
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In July 2015, the FASB issued ASU 2015-11, Inventory (Topic 330): Simplifying the Measurement of Inventory which changes the measurement principle for inventory from the lower of cost or market to the lower of cost or net realizable value. ASU 2015-11 defines net realizable value as estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal and transportation. The new guidance must be applied on a prospective basis and is effective for periods beginning after December 15, 2016, with early adoption permitted. The Company is currently evaluating the effect that the new guidance will have on its consolidated financial statements, however based upon the preliminary work that has been done when adopted this pronouncement is expected to have minimal, if any effect, on the financial statements. This pronouncement will be adopted for the Company's next fiscal year.
In May 2014, the FASB issued ASU No. 2014-09 , Revenue from Contracts with Customers (Topic 606) . ASU 2014-09 eliminates most of the existing industry-specific revenue recognition guidance and significantly expands related disclosures. The required disclosures will include both quantitative and qualitative information about the amount, timing and uncertainty of revenue from contracts with customers and the significant judgments used. Entities can retrospectively apply ASU 2014-09 or use an alternative transition method. In July 2015, the FASB approved a one-year deferral of the effective date of this ASU. This ASU is effective for public companies for annual reporting periods beginning on or after December 15, 2017 and for the Company, must be adopted for its fiscal year 2019 beginning on May 1, 2018. The Company is currently evaluating the impact that ASU 2014-09 may have on its financial statements when the statement is adopted for its fiscal year 2019.
OTHER MATTERS
The financial information reported herein is not necessarily indicative of future operating results or of the future financial condition of the Company. Except as noted, management is unaware of any impending transactions or internal events that are likely to have a material adverse effect on results from operations.
INFLATION
During fiscal year 2017, as in fiscal year 2016, the impact of inflation on the Company's business has not been materially significant.
Item 7A. Quantitative and Qualitative Disclosure About Market Risk
This item is not required for smaller reporting companies.
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Item 8. Financial Statements and Supplementary Data
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Shareholders of
Frequency Electronics, Inc.
We have audited the accompanying consolidated balance sheets of Frequency Electronics, Inc. and Subsidiaries (the "Company") as of April 30, 2017 and 2016, and the related consolidated statements of operations, comprehensive (loss) income, cash flows and changes in stockholders' equity for each of the years then ended. The financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Frequency Electronics, Inc. and Subsidiaries as of April 30, 2017 and 2016, and the consolidated results of their operations and their cash flows for each of the years then ended, in conformity with accounting principles generally accepted in the United States of America.
/s/ EisnerAmper LLP
New York, New York
July 31, 2017
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FREQUENCY ELECTRONICS, INC. and SUBSIDIARIES
Consolidated Balance Sheets
April 30, 2017 and 2016
(In thousands, except par value)
| 2017 | 2016 | ||||||
ASSETS: | ||||||||
Current assets: | ||||||||
Cash and cash equivalents | $ | 2,163 | $ | 5,818 | ||||
Marketable securities | 7,815 | 11,111 | ||||||
Accounts receivable, net of allowance for doubtful accounts of $187 in 2017 and $189 in 2016 | 10,986 | 7,166 | ||||||
Costs and estimated earnings in excess of billings, net | 7,964 | 12,377 | ||||||
Inventories, net | 29,051 | 36,280 | ||||||
Prepaid income taxes | 2,606 | 3,213 | ||||||
Prepaid expenses and other | 1,105 | 1,059 | ||||||
Current assets of discontinued operations | 8,165 | 8,838 | ||||||
Total current assets | 69,855 | 85,862 | ||||||
Property, plant and equipment, at cost, net of accumulated depreciation and amortization | 14,813 | 12,314 | ||||||
Deferred income taxes | 11,902 | 7,702 | ||||||
Goodwill and other intangible assets | 617 | 617 | ||||||
Cash surrender value of life insurance | 13,376 | 12,819 | ||||||
Other assets | 2,187 | 2,091 | ||||||
Non-current assets of discontinued operations | 569 | 772 | ||||||
Total assets | $ | 113,319 | $ | 122,177 | ||||
LIABILITIES AND STOCKHOLDERS' EQUITY : | ||||||||
| ||||||||
Current liabilities: | ||||||||
Accounts payable - trade | $ | 2,437 | $ | 3,165 | ||||
Accrued liabilities | 3,425 | 4,479 | ||||||
Current liabilities of discontinued operations | 2,249 | 2,664 | ||||||
Total current liabilities | 8,111 | 10,308 | ||||||
Long-term debt - noncurrent | - | 6,000 | ||||||
Deferred compensation | 13,252 | 11,773 | ||||||
Deferred rent and other liabilities | 1,409 | 103 | ||||||
Non-current liabilities of discontinued operations | 1,215 | 641 | ||||||
Total liabilities | 23,987 | 28,825 | ||||||
Commitments and contingencies | ||||||||
Stockholders' equity: | ||||||||
Preferred stock, $1.00 par value authorized 600 shares, no shares issued | - | - | ||||||
Common stock, $1.00 par value; authorized 20,000 shares, 9,164 shares issued and 8,817 outstanding in 2017; 8,753 outstanding in 2016 | 9,164 | 9,164 | ||||||
Additional paid-in capital | 55,767 | 55,576 | ||||||
Retained earnings | 23,712 | 28,533 | ||||||
88,643 | 93,273 | |||||||
Common stock reacquired and held in treasury - at cost (347 shares in 2017 and 411 shares in 2016) | (1,592 | ) | (1,885 | ) | ||||
Accumulated other comprehensive income | 2,281 | 1,964 | ||||||
Total stockholders' equity | 89,332 | 93,352 | ||||||
Total liabilities and stockholders' equity | $ | 113,319 | $ | 122,177 |
The accompanying notes are an integral part of these financial statements.
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FREQUENCY ELECTRONICS, INC. and SUBSIDIARIES
Consolidated Statements of Operations and Comprehensive (Loss) Income
Years ended April 30, 2017 and 2016
| 2017 | 2016 | ||||||
(In thousands, except per share data) | ||||||||
| ||||||||
Revenues | $ | 50,351 | $ | 55,416 | ||||
Cost of revenues | 39,102 | 36,141 | ||||||
Gross margin | 11,249 | 19,275 | ||||||
Selling and administrative expenses | 11,898 | 11,379 | ||||||
Research and development expenses | 6,876 | 5,428 | ||||||
Operating (loss) profit | (7,525 | ) | 2,468 | |||||
Other income (expense): | ||||||||
Investment income | 549 | 490 | ||||||
Interest expense | (150 | ) | (131 | ) | ||||
Other income (expense), net | 87 | 447 | ||||||
(Loss) Income before provision for income taxes | (7,039 | ) | 3,274 | |||||
(Benefit) Provision for income taxes | (2,115 | ) | 1,070 | |||||
Net (loss) income from continuing operations | (4,924 | ) | 2,204 | |||||
Income (loss) from discontinued operations, net of tax | 103 | (1,199 | ) | |||||
Net (loss) income | $ | (4,821 | ) | $ | 1,005 | |||
Net (loss) income per common share: | ||||||||
Basic (loss) earnings from continued operations | $ | (0.56 | ) | $ | 0.25 | |||
Basic earnings (loss) from discontinued operations | $ | 0.01 | $ | (0.13 | ) | |||
Basic (loss) earnings per share | $ | (0.55 | ) | $ | 0.12 | |||
Diluted (loss) earnings from continued operations | $ | (0.56 | ) | $ | 0.24 | |||
Diluted earnings (loss) from discontinued operations | $ | 0.01 | $ | (0.13 | ) | |||
Diluted (loss) earnings per share | $ | (0.55 | ) | $ | 0.11 | |||
Average shares outstanding: | ||||||||
Basic | 8,787 | 8,728 | ||||||
Diluted | 8,787 | 8,937 | ||||||
| ||||||||
Consolidated Statements of Comprehensive (Loss) Income | ||||||||
Net (loss) income | $ | (4,821 | ) | $ | 1,005 | |||
Other comprehensive (loss) income: | ||||||||
Foreign currency translation adjustment | (38 | ) | (753 | ) | ||||
Unrealized gain (loss) on marketable securities: | ||||||||
Change in market value of marketable securities before reclassification, net of tax of ($182) and $51, respectively | 352 | (99 | ) | |||||
Reclassification adjustment for realized gains included in net income, net of tax of ($25) and $57, respectively | 3 | (74 | ) | |||||
Total unrealized gain (loss) on marketable securities, net of tax | 355 | (173 | ) | |||||
| ||||||||
Total other comprehensive income (loss) | 317 | (926 | ) | |||||
Comprehensive (loss) income | $ | (4,504 | ) | $ | 79 |
The accompanying notes are an integral part of these financial statements.
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FREQUENCY ELECTRONICS, INC. and SUBSIDIARIES
Consolidated Statements of Cash Flows
Years ended April 30, 2017 and 2016
| 2017 | 2016 | ||||||
| (In thousands) | |||||||
Cash flows from operating activities: | ||||||||
Net (loss) income from continuing operations | $ | (4,924 | ) | $ | 2,204 | |||
Net income (loss) from discontinued operations | 103 | (1,199 | ) | |||||
Net (loss) income | (4,821 | ) | 1,005 | |||||
Adjustments to reconcile net (loss) income to net cash provided in operating activities: | ||||||||
Deferred income tax benefit | (1,355 | ) | (1,265 | ) | ||||
Depreciation and amortization | 2,638 | 2,498 | ||||||
Deferred lease obligation and other liabilities | 1,265 | (75 | ) | |||||
Provision for losses on accounts receivable, inventories and warranty reserve | 4,788 | (15 | ) | |||||
Losses (gains) on marketable securities | 28 | (131 | ) | |||||
Loss (gain) on sale of fixed and other assets, net | 42 | (367 | ) | |||||
Employee benefit plans expense | 2,519 | 1,450 | ||||||
Stock-based compensation expense | 662 | 824 | ||||||
Tax effect (benefit) from exercise of stock-based compensation | 671 | (141 | ) | |||||
Changes in operating assets and liabilities: | ||||||||
Accounts receivable | (3,602 | ) | (911 | ) | ||||
Costs and estimated earnings in excess of billings | 4,663 | 3,340 | ||||||
Inventories | 2,172 | (3,737 | ) | |||||
Prepaid expenses and other | (143 | ) | 135 | |||||
Other assets | (470 | ) | (570 | ) | ||||
Accounts payable - trade | (746 | ) | 1,223 | |||||
Accrued liabilities | (829 | ) | (975 | ) | ||||
Income taxes (payable) refundable | (3,099 | ) | 1,013 | |||||
Other liabilities | (877 | ) | (519 | ) | ||||
Cash provided by operating activities – continuing operations | 3,506 | 2,782 | ||||||
Cash provided by operating activities – discontinued operations | 382 | 141 | ||||||
Net cash provided by operating activities | 3,888 | 2,923 | ||||||
| ||||||||
Cash flows from investing activities: | ||||||||
Purchase of marketable securities | (575 | ) | (1,356 | ) | ||||
Proceeds from sale or redemption of marketable securities | 4,397 | 1,267 | ||||||
Capital expenditures | (5,233 | ) | (3,263 | ) | ||||
Cash used in investing activities – continuing operations | (1,411 | ) | (3,352 | ) | ||||
Cash used in investing activities – discontinued operations | (40 | ) | (174 | ) | ||||
Net cash (used in) investing activities | (1,451 | ) | (3,526 | ) |
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FREQUENCY ELECTRONICS, INC. and SUBSIDIARIES
Consolidated Statements of Cash Flows
Years ended April 30, 2017 and 2016
(Continued)
| 2017 | 2016 | ||||||
| (In thousands) | |||||||
Cash flows from financing activities: | ||||||||
Proceeds from credit line borrowing | $ | (6,000 | ) | $ | - | |||
Tax (effect) benefit from exercise of stock-based compensation | (671 | ) | 141 | |||||
Cash used in financing activities – continuing operations | (6,671 | ) | 141 | |||||
Cash used in financing activities – discontinued operations | - | - | ||||||
Net cash (used in) provided by financing activities | (6,671 | ) | 141 | |||||
| ||||||||
Net decrease in cash and cash equivalents before effect of exchange rate changes | (4,234 | ) | (462 | ) | ||||
| ||||||||
Effect of exchange rate changes on cash and cash equivalents | 890 | (678 | ) | |||||
| ||||||||
Net decrease in cash and cash equivalents | (3,344 | ) | (1,140 | ) | ||||
| ||||||||
Cash and cash equivalents at beginning of year | 6,082 | 7,222 | ||||||
| ||||||||
Cash and equivalents at end of year | 2,738 | 6,082 | ||||||
Less cash and equivalents of discontinued operations at end of year | 575 | 264 | ||||||
Cash and cash equivalents of continuing operations at end of year | $ | 2,163 | $ | 5,818 | ||||
| ||||||||
| ||||||||
Supplemental disclosures of cash flow information: | ||||||||
Cash paid during the year for: | ||||||||
Interest | $ | 146 | $ | 128 | ||||
Income taxes | $ | 335 | $ | 1,311 |
The accompanying notes are an integral part of these financial statements.
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FREQUENCY ELECTRONICS, INC. AND SUBSIDIARIES
Consolidated Statements of Changes in Stockholders' Equity
Years ended April 30, 2017 and 2016
(In thousands, except share data)
| Additional | Treasury stock | Accumulated other | |||||||||||||||||||||||||||||
| Common Stock | paid in | Retained | (at cost) | comprehensive | |||||||||||||||||||||||||||
| Shares | Amount | capital | earnings | Shares | Amount | income | Total | ||||||||||||||||||||||||
Balance at April 30, 2015 | 9,163,940 | $ | 9,164 | $ | 54,360 | $ | 27,528 | 465,163 | $ | (2,132 | ) | $ | 2,890 | $ | 91,810 | |||||||||||||||||
Contribution of stock to 401(k) plan | 283 | (46,743 | ) | 215 | 498 | |||||||||||||||||||||||||||
Stock-based compensation expense | 818 | (1,300 | ) | 6 | 824 | |||||||||||||||||||||||||||
Tax benefit from stock option exercise | 141 | 141 | ||||||||||||||||||||||||||||||
Exercise of stock options and stock appreciation rights - net of shares tendered for exercise price | (26 | ) | (5,736 | ) | 26 | - | ||||||||||||||||||||||||||
Change in unrealized gains and losses on marketable securities, net of taxes | (173 | ) | (173 | ) | ||||||||||||||||||||||||||||
Foreign currency translation adjustment | (753 | ) | (753 | ) | ||||||||||||||||||||||||||||
Net Income | 1,005 | 1,005 | ||||||||||||||||||||||||||||||
Balance at April 30, 2016 | 9,163,940 | 9,164 | 55,576 | 28,533 | 411,384 | (1,885 | ) | 1,964 | 93,352 | |||||||||||||||||||||||
Contribution of stock to 401(k) plan | 274 | (47,839 | ) | 219 | 493 | |||||||||||||||||||||||||||
Stock-based compensation expense | 658 | (850 | ) | 4 | 662 | |||||||||||||||||||||||||||
Change in excess tax benefits from stock-based compensation | (671 | ) | (671 | ) | ||||||||||||||||||||||||||||
Exercise of stock options and stock appreciation rights - net of shares tendered for exercise price | (70 | ) | (15,273 | ) | 70 | - | ||||||||||||||||||||||||||
Change in unrealized gains and losses on marketable securities, net of taxes | 355 | 355 | ||||||||||||||||||||||||||||||
Foreign currency translation adjustment | (38 | ) | (38 | ) | ||||||||||||||||||||||||||||
Net Loss | (4,821 | ) | (4,821 | ) | ||||||||||||||||||||||||||||
Balance at April 30, 2017 | 9,163,940 | $ | 9,164 | $ | 55,767 | $ | 23,712 | 347,422 | $ | (1,592 | ) | $ | 2,281 | $ | 89,332 |
The accompanying notes are an integral part of these financial statements.
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FREQUENCY ELECTRONICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
April 30, 2017 and 2016
1. Summary of Accounting Policies
Principles of Consolidation :
The consolidated financial statements include the accounts of Frequency Electronics, Inc. and its wholly-owned subsidiaries (the "Company" or "Registrant"). References to "FEI" are to the parent company alone and do not refer to any of its subsidiaries. The Company is principally engaged in the design, development and manufacture of precision time and frequency control products and components for microwave integrated circuit applications. See Note 14 for information regarding the Company's FEI-NY (which includes the subsidiaries FEI Government Systems, Inc., FEI Communications, Inc., Frequency Electronics, Inc. Asia ("FEI-Asia") and FEI-Elcom Tech, Inc. ("FEI-Elcom")), and FEI-Zyfer business segments. Intercompany accounts and significant intercompany transactions are eliminated in consolidation.
These financial statements have been prepared in conformity with United States generally accepted accounting principles ("U.S. GAAP") and require management to make estimates and assumptions that affect amounts reported and disclosed in the financial statements and related notes. Actual results could differ from these estimates.
Cash Equivalents:
The Company considers certificates of deposit and other highly liquid investments with maturities of three months or less when purchased to be cash equivalents. The Company places its temporary cash investments with high credit quality financial institutions. Such investments may at times be in excess of the FDIC and SIPC insurance limits. No losses have been experienced on such investments.
Marketable Securities:
Marketable securities consist of investments in common stocks, including exchange-traded funds, corporate debt securities and debt securities of U.S. Government agencies. All marketable securities were held in the custody of financial institutions; two institutions at April 30, 2017 and three institutions at April 30, 2016. Investments in debt and equity securities are categorized as available for sale and are carried at fair value, with unrealized gains and losses excluded from income and recorded directly to stockholders' equity. The Company recognizes gains or losses when securities are sold using the specific identification method.
Allowance for Doubtful Accounts:
Losses from uncollectible accounts receivable are provided for by utilizing the allowance for doubtful accounts method based upon management's estimate of uncollectible accounts. Management analyzes accounts receivable and the potential for bad debts, customer concentrations, credit worthiness, current economic trends and changes in customer payment terms when evaluating the amount recorded for the allowance for doubtful accounts.
Property, Plant and Equipment:
Property, plant and equipment are recorded at cost and include interest on funds borrowed to finance construction. Expenditures for renewals and betterments are capitalized; maintenance and repairs are charged to income when incurred. When fixed assets are sold or retired, the cost and related accumulated depreciation and amortization are eliminated from the respective accounts and any gain or loss is credited or charged to income.
If events or changes in circumstances indicate that the carrying amount of a long-lived asset may not be recoverable, the Company estimates the future cash flows expected to result from the use of the asset and its eventual disposition. If the sum of the expected future cash flows (undiscounted and without interest charges) is less than the carrying amount of the long-lived asset, an impairment loss is recognized. To date, no impairment losses have been recognized.
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FREQUENCY ELECTRONICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
Inventories :
Inventories, which consist of finished goods, work-in-process, raw materials and components, are accounted for at the lower of cost (specific and average) or market.
Depreciation and Amortization:
Depreciation of fixed assets is computed on the straight-line method based upon the estimated useful lives of the assets (40 years for buildings and 3 to 10 years for other depreciable assets). Leasehold improvements and equipment acquired under capital leases are amortized on the straight-line method over the shorter of the term of the lease or the useful life of the related asset.
Amortization of identifiable intangible assets is based upon the expected lives of the assets and is recorded at a rate which approximates the Company's utilization of the assets.
Intangible Assets:
Intangible assets consist of the ISO 9000 certification arising from the acquisition of FEI-Elcom in the assignment of fair value to its acquired assets including intangibles. The certification is valued at fair value and was amortized over the estimated useful life of 3 years from the date of acquisition.
Goodwill:
The Company records goodwill as the excess of purchase price over the fair value of identifiable net assets acquired. Goodwill is tested for impairment on at least an annual basis at year end. When it is determined that the carrying value of goodwill may not be recoverable, the Company writes down the goodwill to an amount commensurate with the revised value of the acquired assets. The Company measures impairment based on revenue projections, recent transactions involving similar businesses and price/revenue multiples at which they were bought and sold, price/revenue multiples of competitors, and the present market value of publicly-traded companies in the Company's industry.
Revenue and Cost Recognition:
Revenues under larger, long-term contracts, which generally require billings based on achievement of milestones rather than delivery of product, are reported in operating results using the percentage of completion method. For U.S. Government and other fixed-price contracts that require initial design and development of the product, revenue is recognized on the cost-to-cost method. Under this method, revenue is recorded based upon the ratio that incurred costs bear to total estimated contract costs with related cost of sales recorded as the costs are incurred. Costs and estimated earnings in excess of billings on uncompleted contracts, net of billings on uncompleted contracts in excess of costs and estimated earnings, are included in current assets.
On production-type orders, revenue is recorded as units are delivered with the related cost of sales recognized on each shipment based upon a percentage of estimated final program costs.
Changes in job performance on long-term and production-type orders may result in revisions to costs and revenue and are recognized in the period in which revisions are determined to be required. Provisions for the full amount of anticipated losses are made in the period in which they become determinable.
For customer orders in the Company's subsidiaries, and smaller contracts or orders in the other business segments, sales of products and services to customers are reported in operating results upon shipment of the product or performance of the services pursuant to terms of the customer order.
Contract costs include all direct material, direct labor costs, manufacturing overhead and other direct costs related to contract performance. Selling, general and administrative costs are charged to expense as incurred.
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FREQUENCY ELECTRONICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
In accordance with industry practice, inventoried costs contain amounts relating to contracts and programs with long production cycles, a portion of which will not be realized within one year. Program costs for which production-level orders cannot be determined as probable are written down in the period in which that assessment is made.
Comprehensive (Loss) Income:
Comprehensive (loss) income consists of net income and other comprehensive (loss) income. Other comprehensive (loss) income includes changes in unrealized gains or losses, net of tax, on securities available for sale during the year and the effects of foreign currency translation adjustments.
Research and Development Expenses:
The Company engages in research and development activities to identify new applications for its core technologies, to improve existing products and to improve manufacturing processes to achieve cost reductions and manufacturing efficiencies. Research and development costs include direct labor, manufacturing overhead, direct materials and contracted services. Such costs are expensed as incurred. The Company also engages in customer-funded development activity. The customer funds received in connection therewith appear in revenues and are not included in R&D expenses.
Income Taxes:
The Company recognizes deferred tax liabilities and assets based on the expected future tax consequences of events that have been included in the financial statements or tax returns. Under this method, deferred tax liabilities and assets are determined based on the difference between the financial statement and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. Valuation allowances are established and adjusted when necessary to increase or reduce deferred tax assets to the amount expected to be realized.
The Company analyzes its tax positions under accounting standards which prescribe recognition thresholds that must be met before a tax benefit is recognized in the financial statements and provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition. An entity may only recognize or continue to recognize tax positions that meet a "more likely than not" threshold. When and if the Company were to recognize interest or penalties related to income taxes, it would be reported net of the federal tax benefit in the tax provision.
Earnings Per Share:
Basic earnings per share are computed by dividing net earnings by the weighted average number of shares of common stock outstanding. Diluted earnings per share are computed by dividing net earnings by the sum of the weighted average number of shares of common stock and the if-converted effect of unexercised stock options and stock appreciation rights.
Fair Values of Financial Instruments:
Cash and cash equivalents, short-term credit obligations, long term debt and cash surrender value are reflected in the accompanying consolidated balance sheets at amounts considered by management to reasonably approximate fair value based upon the nature of the instrument and current market conditions. Management is not aware of any factors that would significantly affect the value of these amounts. The Company also has an investment in a privately-held company, Morion, Inc. ("Morion"). The Company is unable to reasonably estimate a fair value for this investment.
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FREQUENCY ELECTRONICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
Foreign Operations and Foreign Currency Adjustments:
The Company maintains manufacturing operations in Belgium (see Note 2) and the People's Republic of China. The Company is vulnerable to currency risks in these countries. The local currency is the functional currency of each of the Company's non-U.S. subsidiaries. No foreign currency gains or losses are recorded on intercompany transactions since they are effected at current rates of exchange. The results of operations of foreign subsidiaries, when translated into U.S. dollars, reflect the average rates of exchange for the periods presented. The balance sheets of foreign subsidiaries, except for equity accounts which are translated at historical rates, are translated into U.S. dollars at the rates of exchange in effect on the date of the balance sheet. As a result, similar results in local currency can vary upon translation into U.S. dollars if exchange rates fluctuate significantly from one period to the next.
Equity-based Compensation:
The Company values its share-based payment transactions using the Black-Scholes valuation model. Such value is recognized as expense on a straight-line basis over the service period of the awards, which is generally the vesting period, net of estimated forfeitures.
The weighted average fair value of each option or stock appreciation right ("SAR") has been estimated on the date of grant using the Black-Scholes option pricing model with the following range of weighted average assumptions used for grants:
| Years ended April 30 | |||||||
| 2017 | 2016 | ||||||
Expected volatility | 35 | % | 35 | % | ||||
Dividend yield | 0.0 | % | 0.0 | % | ||||
Risk-free interest rate | 1.85% and 1.14 | % | 1.35% and 1.50 | % | ||||
Expected lives | 5.0 years | 5.0 years |
The expected life assumption was determined based on the Company's historical experience as well as the term of recent SAR agreements. The expected volatility assumption was based on the historical volatility of the Company's common stock. The dividend yield assumption was determined based upon the Company's past history of dividend payments and the Company's current decision to suspend payment of dividends. The risk-free interest rate assumption was determined using the implied yield currently available for zero-coupon U.S. Government issues with a remaining term equal to the expected life of the stock options or SARs.
Concentration of Credit Risk
Financial instruments, which potentially subject the Company to concentration of credit risk, consist principally of cash and cash equivalents and trade receivables. The Company maintains accounts at several commercial banks at which the balances exceed Federal Deposit Insurance Corporation limits. The Company has not experienced any losses on such amounts. Concentration of credit risk with respect to trade receivables is generally diversified due to the large number of entities comprising the Company's customer base and their dispersion across geographic areas principally within the United States. The Company routinely addresses the financial strength of its customers and, as a consequence, believes that its receivable credit risk exposure is limited. The Company does not require customers to post collateral.
New Accounting Pronouncements:
In January 2017, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2017-04, Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment ("ASU 2017-04"), which simplifies how an entity is required to test goodwill for impairment by eliminating Step 2 from the goodwill impairment test. Under ASU 2017-04 goodwill impairment will be tested by comparing the fair value of a reporting unit with its carrying amount, and recognizing an impairment charge for the amount by which the carrying amount exceeds the reporting unit's fair value. The new guidance must be applied on a prospective basis and is effective for periods beginning after December 15, 2019, with early adoption permitted. The Company will not be early adopting and is in the process of determining the effect that ASU 2017-04 may have, however, the Company expects the new standard to have an immaterial effect on its financial statements.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
In March 2016, the FASB amended the existing accounting standards for stock-based compensation, ASU 2016-09, Compensation-Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting . The amendments impact several aspects of accounting for share-based payment transactions, including the income tax consequences, forfeitures, classification of awards as either equity or liabilities, and classification on the statement of cash flows. This guidance requires a mix of prospective, modified retrospective, and retrospective transition to all annual and interim periods presented and is effective for the Company in the next fiscal year. The Company has not determined the full impact of implementation of this standard, however the Company is determining if the stock options offered would require any type of transition under the new pronouncement and expects that, when adopted beginning in fiscal 2019, the new standard will have an immaterial effect on the Company's financials.
In February 2016, the FASB issued ASU No. 2016-02 Leases (Topic 842) . The objective of the update is to increase transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements. The standard requires a modified retrospective transition approach for existing leases. The amendments of the ASU 2016-02 are effective for fiscal years beginning after December 31, 2018 and early adoption is permitted. The Company is currently evaluating the impact of this standard on our consolidated financial statements, however the Company has minimal leases and expects that when adopted beginning in fiscal 2019, the new standard to have an immaterial effect on the Company's financials.
In November 2015, the FASB issued ASU No. 2015-17, Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes . The amendments in ASU 2015-17 seek to simplify the presentation of deferred income taxes and require that deferred tax liabilities and assets be classified as noncurrent in a classified statement of financial position. ASU 2015-17 is effective for financial statements issued for annual periods beginning after December 15, 2016, and interim periods within those annual periods, with early application permitted for all entities as of the beginning of an interim or annual reporting period. The Company has adopted the guidance during fiscal 2017 on a prospective basis in order to simplify balance sheet classification. Prior periods have not been retrospectively adjusted.
In July 2015, the FASB issued ASU 2015-11, Inventory (Topic 330): Simplifying the Measurement of Inventory which changes the measurement principle for inventory from the lower of cost or market to the lower of cost or net realizable value. ASU 2015-11 defines net realizable value as estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal and transportation. The new guidance must be applied on a prospective basis and is effective for periods beginning after December 15, 2016, with early adoption permitted. The Company is currently evaluating the effect that the new guidance will have on its consolidated financial statements, however based upon the preliminary work that has been done when adopted this pronouncement is expected to have minimal, if any effect, on the financial statements. This pronouncement will be adopted for the Company's next fiscal year.
In May 2014, the FASB issued ASU No. 2014-09 , Revenue from Contracts with Customers (Topic 606) . ASU 2014-09 eliminates most of the existing industry-specific revenue recognition guidance and significantly expands related disclosures. The required disclosures will include both quantitative and qualitative information about the amount, timing and uncertainty of revenue from contracts with customers and the significant judgments used. Entities can retrospectively apply ASU 2014-09 or use an alternative transition method. In July 2015, the FASB approved a one-year deferral of the effective date of this ASU. This ASU is effective for public companies for annual reporting periods beginning on or after December 15, 2017 and for the Company, must be adopted for its fiscal year 2019 beginning on May 1, 2018. The Company is currently evaluating the impact that ASU 2014-09 may have on its financial statements when the statement is adopted for its fiscal year 2019.
2. Discontinued Operations
In December 2016, the Company entered into a contingent share purchase agreement with certain foreign parties with respect to a potential sale of Gillam-FEI, the Company's Belgian subsidiary. However, these parties have not yet performed their obligations under that agreement, and the Company continues to negotiate with these parties with respect to a potential sale. Subsequently, in April 2017, the Company decided to sell its Gillam business in any event as soon as practicable. The Company is currently in discussions with a number of potential buyers and believes that the divestment is on a path to completion by the end of fiscal year 2018. Accordingly, the Company determined that the assets and liabilities of this reportable segment met the discontinued operations criteria in Accounting Standards Codification 205-20-45 in the quarter ended April 30, 2017. As such Gillam's results have been classified as discontinued operations in the accompanying Consolidated Statements of Operations and Comprehensive (Loss) Income.
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FREQUENCY ELECTRONICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
Summarized operating results for the Gillam discontinued operations, for the years ended April 30, 2017 and 2016 respectively, are as follows:
| For the years ended April 30, | |||||||
| 2017 | 2016 | ||||||
Revenues | $ | 5,985 | $ | 5,942 | ||||
Cost of revenues | 4,407 | 4,781 | ||||||
Gross Margin | 1,578 | 1,161 | ||||||
Selling and administrative expenses | 1,714 | 1,826 | ||||||
Research and development expenses | 408 | 501 | ||||||
Operating Loss | (544 | ) | (1,166 | ) | ||||
Other income (expense): | ||||||||
Investment (loss) income | (3 | ) | 2 | |||||
Other income (expense), net | - | (35 | ) | |||||
Loss before provision for income taxes | (547 | ) | (1,199 | ) | ||||
Provision for income taxes | 650 | - | ||||||
Net income (loss) | $ | 103 | $ | (1,199 | ) |
The carrying amounts of assets and liabilities for the Gillam discontinued operations are as follows:
| April 30, | |||||||
| 2017 | 2016 | ||||||
Cash and cash equivalents | $ | 575 | $ | 264 | ||||
Accounts receivable, net of allowance for doubtful accounts | 3,202 | 3,384 | ||||||
Inventories, net | 3,980 | 4,999 | ||||||
Prepaid expenses and other | 408 | 191 | ||||||
Total current assets of discontinued operations | $ | 8,165 | $ | 8,838 | ||||
Property, plant and equipment, at cost, net of accumulated depreciation and amortization | $ | 555 | $ | 757 | ||||
Investments | 14 | 15 | ||||||
Deferred taxes – non-current | - | - | ||||||
Total non-current assets of discontinued operations | $ | 569 | $ | 772 | ||||
Accounts payable – trade | $ | 949 | $ | 1,035 | ||||
Accrued liabilities | 1,300 | 1,629 | ||||||
Total current liabilities of discontinued operations | 2,249 | 2,664 | ||||||
Deferred rent and other liabilities | 1,215 | 641 | ||||||
Total non-current liabilities of discontinued operations | $ | 1,215 | $ | 641 |
3. Earnings Per Share
Reconciliations of the weighted average shares outstanding for basic and diluted Earnings Per Share are as follows:
| Years ended April 30, | |||||||
| 2017 | 2016 | ||||||
Basic EPS Shares outstanding (weighted average) | 8,787,082 | 8,727,874 | ||||||
Effect of Dilutive Securities | ** |
| 209,035 | |||||
Diluted EPS Shares outstanding | 8,787,082 | 8,936,909 |
** For the year ended April 30, 2017, dilutive securities are excluded since the inclusion of such shares would be antidilutive due to the net loss for the period. The exercisable shares excluded are 1,280,625.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
The computation of diluted earnings per share in the other fiscal periods excludes those options and stock appreciation rights ("SARS") with an exercise price in excess of the average market price of the Company's common shares during the periods presented. The inclusion of such options and SARS in the computation of earnings per share would have been antidilutive. The number of excluded options and SARS were:
| Years ended April 30, | |||||||
| 2017 | 2016 | ||||||
Outstanding options and SARS excluded | ** |
| 388,625 |
4. Costs and Estimated Earnings in Excess of Billings
At April 30, 2017 and 2016, costs and estimated earnings in excess of billings, net, consist of the following:
| 2017 | 2016 | ||||||
| (in thousands) | |||||||
Costs and estimated earnings in excess of billings | $ | 8,890 | $ | 12,460 | ||||
Billings in excess of costs and estimated earnings | (926 | ) | (83 | ) | ||||
Net asset | $ | 7,964 | $ | 12,377 |
Such amounts represent revenue recognized on long-term contracts that had not been billed at the balance sheet dates or represent a liability for amounts billed in excess of the revenue recognized. Amounts are billed to customers pursuant to contract terms. In general, the recorded amounts will be billed and collected or revenue recognized within twelve months of the balance sheet date. Revenue on these long-term contracts is accounted for on the percentage of completion basis. During the years ended April 30, 2017 and 2016, revenue recognized under percentage of completion contracts was approximately $26.4 million and $32.5 million, respectively. If contract losses are anticipated, costs and estimated earnings in excess of billings are reduced for the full amount of such losses when they are determinable. Total contract losses at April 30, 2017 and 2016 were approximately $300,000 and $450,000, respectively.
5. Inventories
Inventories at April 30, 2017 and 2016, respectively, consisted of the following (in thousands):
| 2017 | 2016 | ||||||
Raw Materials and Component Parts | $ | 17,702 | $ | 23,840 | ||||
Work in Progress | 7,340 | 8,316 | ||||||
Finished Goods | 4,009 | 4,124 | ||||||
| $ | 29,051 | $ | 36,280 |
As of April 30, 2017 and 2016, approximately $28.2 million and $35.3 million, respectively, of total inventory is located in the United States and $0.8 million and $1.0 million, respectively, is located in China. For the year ended April 30, 2017 the Company took a one-time non-cash write down of approximately $5 million of inventory relating to wire-line copper based synchronization products in the FEI-Zyfer segment. Additionally, the Company recorded $2 million of inventory adjustments in the FEI-NY segment. The Company buys inventory in bulk quantities which may be used over significant time periods; due to its nature, the inventory does not deteriorate.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
6. Property, Plant and Equipment and Leases
Property, plant and equipment at April 30, 2017 and 2016, consists of the following (in thousands):
| 2017 | 2016 | ||||||
Buildings and building improvements | $ | 2,646 | $ | 2,643 | ||||
Machinery, equipment and furniture | 56,435 | 51,468 | ||||||
| 59,081 | 54,111 | ||||||
Less, accumulated depreciation | 44,268 | 41,797 | ||||||
| $ | 14,813 | $ | 12,314 |
Depreciation and amortization expense for the years ended April 30, 2017 and 2016 was $2,610,000 and $2,456,000, respectively.
Maintenance and repairs charged to operations for the years ended April 30, 2017 and 2016 was approximately $675,000 and $593,000, respectively.
The Company leases its Long Island, New York headquarters building at an annual rent of $800,000 following the Company's exercise of its option to renew the lease for a second 5-year period. The lease will end in January 2019. Under the terms of the lease, the Company is required to pay its proportionate share of real estate taxes, insurance and other charges.
In addition, the Company's subsidiaries in New Jersey, China, and California lease their office and manufacturing facilities. FEI-Elcom leases 32,000 square feet of office and manufacturing space at current monthly rental of approximately $40,000 through the end of the lease which expires in March 2018. The lease for the FEI-Asia facility is for a one-year term with monthly rent of $1,000 through May 2018. FEI-Zyfer leases office and manufacturing space encompassing 27,850 square feet. Monthly rental payments are currently $31,200 for the remaining 4 months of the lease term. The Company has signed a second amendment to the lease, which extends the lease an additional 88 months, beginning October 1, 2017 and expiring January 31, 2025. The average annual rent over the period of the amendment is approximately $332,000.
Rent expense under operating leases for the years ended April 30, 2017 and 2016 was approximately $1.6 million and $1.5 million, respectively. The Company records rent expense on its New York building and FEI-Zyfer facility on the straight-line method over the lives of the respective leases. As a result, as of April 30, 2017 and 2016, the Company's balance sheet includes deferred rent payable of approximately $99,000 and $214,000, respectively, which will be recognized over the respective rental periods.
Future noncancelable minimum lease payments required by the operating leases are as follows (in thousands):
Years ending | ||||
April 30, | Operating Leases | |||
2018 | $ | 1,535 | ||
2019 | 900 | |||
2020 | 322 | |||
2021 | 332 | |||
2022 | 342 | |||
Thereafter | 994 | |||
Total future minimum lease payments | $ | 4,425 |
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FREQUENCY ELECTRONICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
7. Marketable Securities
The cost, gross unrealized gains, gross unrealized losses and fair market value of available-for-sale securities at April 30, 2017 and 2016 are as follows (in thousands):
| April 30, 2017 | |||||||||||||||
| Gross | Gross | Fair | |||||||||||||
| Unrealized | Unrealized | Market | |||||||||||||
| Cost | Gains | Losses | Value | ||||||||||||
Fixed income securities | $ | 1,516 | $ | 60 | $ | - | $ | 1,576 | ||||||||
Equity securities | 5,230 | 1,248 | (239 | ) | 6,239 | |||||||||||
| $ | 6,746 | $ | 1,308 | $ | (239 | ) | $ | 7,815 |
| April 30, 2016 | |||||||||||||||
| Gross | Gross | Fair | |||||||||||||
| Unrealized | Unrealized | Market | |||||||||||||
| Cost | Gains | Losses | Value | ||||||||||||
Fixed income securities | $ | 3,407 | $ | 121 | $ | (6 | ) | $ | 3,522 | |||||||
Equity securities | 7,197 | 974 | (582 | ) | 7,589 | |||||||||||
| $ | 10,604 | $ | 1,095 | $ | (588 | ) | $ | 11,111 |
The following table presents the fair value and unrealized losses, aggregated by investment type and length of time that individual securities have been in a continuous unrealized loss position:
| Less than 12 months | 12 Months or more | Total | |||||||||||||||||||||
| Fair | Unrealized | Fair | Unrealized | Fair | Unrealized | ||||||||||||||||||
| Value | Losses | Value | Losses | Value | Losses | ||||||||||||||||||
April 30, 2017 | ||||||||||||||||||||||||
Fixed Income Securities | $ | - | $ | - | $ | - | $ | - | $ | - | $ | - | ||||||||||||
Equity Securities | 219 | (9 | ) | 1,024 | (230 | ) | 1,243 | (239 | ) | |||||||||||||||
| $ | 219 | $ | (9 | ) | $ | 1,024 | $ | (230 | ) | $ | 1,243 | $ | (239 | ) | |||||||||
April 30, 2016 | ||||||||||||||||||||||||
Fixed Income Securities | $ | - | $ | - | $ | 467 | $ | (6 | ) | $ | 467 | $ | (6 | ) | ||||||||||
Equity Securities | 574 | (18 | ) | 2,232 | (564 | ) | 2,806 | (582 | ) | |||||||||||||||
| $ | 574 | $ | (18 | ) | $ | 2,699 | $ | (570 | ) | $ | 3,273 | $ | (588 | ) |
The Company regularly reviews its investment portfolio to identify and evaluate investments that have indications of possible impairment. The Company does not believe that its investments in marketable securities with unrealized losses at April 30, 2017 are other-than-temporary due to market volatility of the security's fair value, analysts' expectations and the Company's ability to hold the securities for a period of time sufficient to allow for any anticipated recoveries in market value.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
Proceeds from the sale or redemption of available-for-sale securities and the resulting gross realized gains and losses included in the determination of net income (loss) are as follows (in thousands):
| For the years ended April 30, | |||||||
| 2017 | 2016 | ||||||
Proceeds | $ | 4,397 | $ | 1,267 | ||||
Gross realized gains | $ | 156 | $ | 147 | ||||
Gross realized losses | $ | (184 | ) | $ | (16 | ) |
Maturities of fixed income securities classified as available-for-sale at April 30, 2017 are as follows (at cost, in thousands):
Current | $ | - | ||
Due after one year through five years | 201 | |||
Due after five years through ten years | 1,315 | |||
| $ | 1,516 |
The fair value accounting framework provides a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (level 1 measurements) and the lowest priority to unobservable inputs (level 3 measurements).
The three levels of the fair value hierarchy are described below:
Level 1 | Inputs to the valuation methodology are unadjusted quoted prices for identical assets or liabilities in active markets that the Company has the ability to access. |
Level 2 | Inputs to the valuation methodology include: |
- Quoted prices for similar assets or liabilities in active markets;
- Quoted prices for identical or similar assets or liabilities in inactive markets
- Inputs other than quoted prices that are observable for the asset or liability;
- Inputs that are derived principally from or corroborated by observable market data by correlation or other means.
Level 3 | Inputs to the valuation methodology are unobservable and significant to the fair value measurement. |
The asset's or liability's fair value measurement level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement. Valuation techniques used need to maximize the use of observable inputs and minimize the use of unobservable inputs. All of the Company's investments in marketable securities are Level 1 assets.
8. Debt Obligations
On January 30, 2017, the Company repaid the principal balance due on its credit facility, dated June 6, 2013, with JPMorgan Chase Bank, N.A. Subsequently, the Company voluntarily terminated this credit facility with JPMorgan Chase Bank, N.A to reduce the fees and expenses associated with maintaining that facility. The Company did not incur any early termination fees associated with its voluntary termination of this credit facility. If, in the future, the Company determines that it would be beneficial to have a credit facility in place, the Company believes that alternative facilities are available. As at April 30, 2017, the Company had available credit at variable terms based on its securities holdings under an advisory arrangement, under which no borrowings have been made.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
9. Accrued Liabilities
Accrued liabilities at April 30, 2017 and 2016 consist of the following (in thousands):
| 2017 | 2016 | ||||||
Vacation and other compensation | $ | 1,467 | $ | 1,683 | ||||
Incentive compensation | 265 | 677 | ||||||
Payroll taxes | 128 | 137 | ||||||
Deferred revenue | 232 | 578 | ||||||
Warranty reserve | 557 | 557 | ||||||
Commissions | 234 | 252 | ||||||
Other | 542 | 595 | ||||||
| $ | 3,425 | $ | 4,479 |
10. Investment in Morion, Inc.
The Company has an investment in Morion, Inc., a privately-held Russian company, which manufactures high precision quartz resonators and crystal oscillators. The Company's investment consists of 4.6% of Morion's outstanding shares, accordingly, the Company accounts for its investment in Morion on the cost basis. This investment is included in other assets in the accompanying balance sheets. During the fiscal years ended April 30, 2017 and 2016, the Company acquired product from Morion in the aggregate amount of approximately $317,000 and $140,000, respectively, and the Company sold product to Morion in the aggregate amount of approximately $10,000 and $845,000, respectively. At April 30, 2017, accounts receivable included $18,000 due from Morion and $13,000 was payable to Morion. Throughout the fiscal years 2017 and 2016, the Company received dividends from Morion of approximately $249,000 and $30,000, respectively.
On October 22, 2012, the Company entered into an agreement to license its rubidium oscillator production technology to Morion. The agreement required the Company to sell certain fully-depreciated production equipment previously owned by the Company and to provide training to Morion employees to enable Morion to produce a minimum of 5,000 rubidium oscillators per year. Morion will pay the Company approximately $2.7 million for the license and the equipment plus 5% royalties on third party sales for a 5-year period following an initial production run. During the same 5-year period, the Company commits to purchase from Morion a minimum of approximately $400,000 worth of rubidium oscillators per year although Morion is not obligated to sell that amount to the Company. During the fiscal year ended April 30, 2016, sales to Morion included $375,000 for product and training services under this agreement. Per the amended agreement, the balance of $1 million for the transfer of the license will be due once the United States Department of State ("State Department") approves the removal of certain provisions of the original agreement. The State Department has approved the technology transfer called for under the agreement.
On March 29, 2016, the Company renegotiated the $1 million amendment under the original agreement dated October 22, 2012 to $602,000 due to the U.S. Government easing of export regulations. Of this amount $392,500 was billed and paid during FY 2016 and the balance of $210,000 was billed during FY 2017 and was subsequently collected.
11. Goodwill and Other Intangible Assets
During fiscal year 2004, the Company acquired FEI-Zyfer, Inc. ("FEI-Zyfer"). This acquisition resulted in the recording of $219,000 in goodwill. In February 2012, the Company acquired FEI-Elcom resulting in the recording of goodwill in the amount of $398,000. Management has determined that goodwill is not impaired as of April 30, 2017 and 2016.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
12. Employee Benefit Plans
Profit Sharing Plan:
The Company provides its U.S.-based employees with a profit sharing plan and trust under section 401(k) of the Internal Revenue Code. This plan allows all eligible employees to defer a portion of their income through voluntary contributions to the plan. In accordance with the provisions of the plan, the Company can make discretionary matching contributions in the form of cash or common stock. For the years ended April 30, 2017 and 2016, the Company contributed 47,839 and 46,743 shares of common stock, respectively. The approximate value of these shares at the date of contribution was $493,000 in fiscal year 2017 and $498,000 in fiscal year 2016. Contributed shares are drawn from the Company's common stock held in treasury and are removed at the Company's original cost of acquisition of such shares on a specific identification basis. In addition to changes in the treasury stock accounts, during fiscal years 2017 and 2016, such transactions increased additional paid in capital by $274,000 and $283,000, respectively. As of April 30, 2017, all shares of the Company's common stock held by the two plans were combined for an aggregate holding of 738,064 shares, which are allocated to the accounts of the individual participants.
Income Incentive Pool:
The Company maintains incentive bonus programs for certain employees which are based on operating profits of the individual subsidiaries to which the employees are assigned. The Company also adopted a plan for the President and Chief Executive Officer of the Company, which formula is based on consolidated pre-tax profits. Under these plans, the Company charged approximately $272,000 and $702,000 to selling and administrative expenses for the fiscal years ended April 30, 2017 and 2016, respectively.
Employee Stock Plans:
The Company has various stock plans, some of which have been approved by the Company's stockholders, for key management employees, including officers and directors who are employees, certain consultants and independent members of the Board of Directors. The plans are Nonqualified Stock Options ("NQSO") plans, Incentive Stock Option ("ISO") plans and Stock Appreciation Rights ("SARS"). Under these plans, options or SARS are granted at the discretion of the Stock Option Committee at an exercise price not less than the fair market value of the Company's common stock on the date of grant.
Typically, options and SARS vest over a four-year period from the date of grant. The options and SARS generally expire ten years after the date of grant (the most recent SAR award expires in five years) and are subject to certain restrictions on transferability of the shares obtained on exercise. Under the Company's 2005 Stock Award Plan ("Plan") the Company provided option holders the opportunity to exercise stock options either by paying the exercise price for the shares or to do a cashless exercise whereby the individual receives the net number of shares of stock equal in value to the exercised number of shares times the difference between the current market value of the Company's stock and the exercise price. Under the Plan, instruments granted under other plans which expire, are canceled, or are tendered in the exercise of such instruments, increase the shares available under the Plan.
As of April 30, 2017, eligible employees and directors have been granted SARS based on approximately 2,197,000 shares of Company stock, of which approximately 1,635,000 shares are outstanding and approximately 1,281,000 shares with a weighted average exercise price of $8.35 are exercisable. As of April 30, 2016, eligible employees and directors had been granted SARS based on approximately 2,021,000 shares of Company stock, of which approximately 1,653,000 shares were outstanding and approximately 1,314,000 shares with a weighted average exercise price of $8.45 were exercisable. When the SARS become exercisable, the Company will settle the SARS by issuing to exercising recipients the number of shares of stock equal to the appreciated value of the Company's stock between the grant date and exercise date. At the time of exercise, the quantity of shares under the SARS grant equal to the exercise value divided by the then market value of the shares will be returned to the pool of available shares for future grant under the Plan. During the year ended April 30, 2017, employees exercised SARS representing 35,500 shares of Company stock and received 15,273 shares of Company stock. The 20,227 share difference was returned to the pool of available shares and may be used for future grants. During the year ended April 30, 2016, employees exercised SARS representing 19,500 shares of Company stock and received 5,736 shares of Company stock. The 13,764 share difference was returned to the pool of available shares and may be used for future grants.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
The excess of the consideration received over the par value of the common stock or cost of treasury stock issued under both types of option plans is recognized as an increase in additional paid-in capital.
The following table summarizes information about stock option and stock appreciation rights activity for the years ended April 30:
| Stock Options and Stock Appreciation Rights | |||||||||||||
| Weighted Average | |||||||||||||
| Weighted- | Remaining | ||||||||||||
| Average | Contractual | Aggregate | |||||||||||
| Shares | Exercise Price | Term | Intrinsic Value | ||||||||||
Outstanding – April 30, 2015 | 1,603,125 | $ | 8.90 | 5.8 years | ||||||||||
Granted | 72,000 | 12.30 |
| |||||||||||
Exercised | (19,500 | ) | 9.15 |
| $ | 19,110 | ||||||||
Expired or Canceled | (3,000 | ) | 10.39 |
| ||||||||||
Outstanding – April 30, 2016 | 1,652,625 | $ | 9.05 | 5.1 years | ||||||||||
Granted | 175,000 | 10.65 |
| |||||||||||
Exercised | (35,500 | ) | 6.02 |
| $ | 158,920 | ||||||||
Expired or Canceled | (157,000 | ) | 12.02 |
| ||||||||||
Outstanding – April 30, 2017 | 1,635,125 | $ | 9.00 | 4.3 years | $ | 2,974,178 | ||||||||
Exercisable | 1,280,625 | $ | 8.35 | 4.0 years | $ | 2,958,083 | ||||||||
Available for future grants | 18,563 |
|
As of April 30, 2017, total unrecognized compensation cost related to non-vested options and stock appreciation rights under the plans was approximately $1,016,000. These costs are expected to be recognized over a weighted average period of 2.6 years.
During the years ended April 30, 2017 and 2016, 159,500 and 151,500 shares, respectively, vested, the fair value of which was approximately $694,000 and $661,000, respectively. The weighted average grant date fair value of stock appreciation rights granted during the years ended April 30, 2017 and 2016, were approximately $3.48 and $4.06, respectively.
Stock-based compensation costs capitalized as part of work in process inventory or included in the cost of sales of programs on which the Company recognizes revenue under the percentage of completion method were approximately $229,000 and $265,000 for the years ended April 30, 2017 and 2016, respectively. Selling and administrative expenses include stock-based compensation expense of approximately $424,000 and $559,000 for the years ended April 30, 2017 and 2016, respectively.
The Company classifies cash flows resulting from the tax benefits from tax deductions recognized upon the exercise of stock options or SARS (tax benefits) as financing cash flows. For the years ended April 30, 2017 and 2016, the Company realized $26,000 and $141,000 respectively, of tax benefits from the exercise of stock options and SARS.
Restricted Stock Plan:
During fiscal year 1990, the Company adopted a Restricted Stock Plan which provided that key management employees could be granted rights to purchase an aggregate of 375,000 shares of the Company's common stock. The grants, transferability restrictions and purchase price were determined at the discretion of a special committee of the board of directors. The purchase price could not be less than the par value of the common stock. Transferability of shares is restricted for a four-year period, except in the event of a change in control as defined. As a result of the adoption by the Company's stockholders of the 2005 Stock Award Plan, the Restricted Stock Plan was discontinued. No additional grants will be made under this plan. As of April 30, 2017 and 2016, grants for 7,500 shares are available to be purchased at a price of $4.00 per share.
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FREQUENCY ELECTRONICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
Deferred Compensation Agreements:
The Company has a series of agreements with key employees providing for the payment of benefits upon retirement or death. Under these agreements, each key employee receives specified retirement payments for the remainder of the employee's life with a minimum payment of ten years' benefits to either the employee or his beneficiaries. The agreements also provide for lump sum payments upon termination of employment without cause and reduced benefits upon early retirement. The Company pays the benefits out of its working capital, but has also purchased whole life or term life insurance policies on the lives of certain of the participants to cover the optional lump sum obligations of the agreements upon the death of the participant. Deferred compensation expense charged to selling and administrative expenses during the years ended April 30, 2017 and 2016 was approximately $2,029,000 and $959,000, respectively.
Life Insurance Policies and Cash Held in Trust:
The whole-life insurance policies on the lives of certain participants covered by deferred compensation agreements have been placed in a trust. Upon the death of any insured participant, cash received from life insurance policies in excess of the Company's deferred compensation obligations to the estate or beneficiaries of the deceased, are also placed in the trust. These assets belong to the Company until a change of control event, as defined in the trust agreement, should occur. At that time, the Company is required to add sufficient cash to the trust so as to match the deferred compensation liability described above. Such funds will be used to continue the deferred compensation arrangements following a change of control.
13. Income Taxes
The income before provision for income taxes consisted of (in thousands):
| Year Ended April 30, | |||||||
| 2017 | 2016 | ||||||
U.S. | $ | (6,625 | ) | $ | 4,011 | |||
Foreign | (414 | ) | (737 | ) | ||||
| $ | (7,039 | ) | $ | 3,274 |
The provision for income taxes consists of the following (in thousands):
| 2017 | 2016 | ||||||
Current: | ||||||||
Federal | $ | (677 | ) | $ | 1,060 | |||
Foreign | - | - | ||||||
State | (84 | ) | 250 | |||||
Current provision | (761 | ) | 1,310 | |||||
Deferred: | ||||||||
Federal | (1,861 | ) | (150 | ) | ||||
Foreign | - | - | ||||||
State | 507 | (90 | ) | |||||
Deferred benefit | (1,354 | ) | (240 | ) | ||||
| ||||||||
Total provision | $ | (2,115 | ) | $ | 1,070 |
For the year ended April 30, 2017, the Company recognized a tax benefit related to a current year domestic pretax loss compared to a provision for taxes in in the prior year related to domestic pretax income. The Company intends to carry back the fiscal 2017 domestic loss for a refund of taxes paid in prior years.
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FREQUENCY ELECTRONICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
The following table reconciles the reported income tax expense with the amount computed using the federal statutory income tax rate (in thousands):
| 2017 | 2016 | ||||||
Statutory rate | $ | (2,394 | ) | $ | 1,113 | |||
State and local tax | (317 | ) | 85 | |||||
Valuation allowance on deferred tax assets | 260 | 425 | ||||||
Effect of foreign operations | 21 | 41 | ||||||
Nondeductible expenses | 36 | 166 | ||||||
Worthless Securities | (1,543 | ) | - | |||||
Uncertain tax positions | 1,511 | - | ||||||
Domestic production activities deduction | 66 | (159 | ) | |||||
Nontaxable life insurance cash value increase | (135 | ) | (282 | ) | ||||
Tax credits | (203 | ) | (417 | ) | ||||
Rate Change | 477 | - | ||||||
Other items | 106 | 98 | ||||||
| $ | (2,115 | ) | $ | 1,070 |
The effective tax rate was impacted favorably by a U.S. tax deduction relating to the realization of the excess tax basis in common shares of FEI-Asia as the Company made an election to treat FEI-Asia as a disregarded entity. The effective tax rate was also impacted unfavorably by unrecognized tax benefits, a state tax rate change, and losses incurred at the Company's foreign subsidiaries for which it receives no tax benefit.
The components of deferred taxes are as follows (in thousands):
| 2017 | 2016 | ||||||
Deferred tax assets: | ||||||||
Employee benefits | $ | 7,590 | $ | 8,295 | ||||
Inventory | 4,220 | 1,860 | ||||||
Accounts receivable | 360 | 490 | ||||||
Tax credits | 1,040 | 835 | ||||||
Foreign subsidiary – outside basis | 2,710 | - | ||||||
Other assets | 152 | 220 | ||||||
Net operating loss carryforwards | 1,710 | 1,595 | ||||||
Total deferred tax asset | 17,782 | 13,295 | ||||||
Deferred tax liabilities: | ||||||||
Marketable securities | (410 | ) | (200 | ) | ||||
Property, plant and equipment | (1,710 | ) | (660 | ) | ||||
Other liabilities | (60 | ) | (45 | ) | ||||
Deferred state income tax | (410 | ) | (600 | ) | ||||
Net deferred tax asset | 15,192 | 11,790 | ||||||
Valuation allowance | (3,290 | ) | (950 | ) | ||||
Net deferred tax assets | $ | 11,902 | $ | 10,840 |
The components of the deferred tax asset were as follows (in thousands):
| 2017 | 2016 | ||||||
Gross deferred assets | $ | 15,192 | $ | 11,790 | ||||
Valuation allowance | (3,290 | ) | (950 | ) | ||||
Net deferred tax asset | $ | 11,902 | $ | 10,840 | * |
*This amount consists of $3,138 included in current assets in deferred and prepaid income taxes and $7,702 included in non-current assets in deferred income taxes.
40
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FREQUENCY ELECTRONICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
A valuation allowance is provided when it is more likely than not that some portion, or all, of the deferred tax assets will not be realized. We consider the level of historical income, scheduled reversal of temporary differences, tax planning strategies and projected future taxable income in determining whether a valuation allowance is warranted. The valuation allowance of $3.3 million as of April 30, 2017, is intended to provide for uncertainty regarding the ultimate realization of U.S. state investment tax credit carryovers, capital loss assets and foreign net operating loss carryovers. Based on these considerations, we believe it is more likely than not that we will realize the benefit of the net deferred tax asset of $11.9 million as of April 30, 2017, which is net of the valuation allowance.
The consolidated valuation allowance excluding discontinued operations increased by approximately $2.3 million during the year ended April 30, 2017. The change consists of a $2.3 million deferred tax provision related to a capital loss asset, investment tax credits and a foreign net operating loss.
At April 30, 2017, the Company has available approximately $.9 million in net operating losses available to offset future income of certain of its foreign subsidiaries. These loss carryforwards have no expiration date. As a result of the acquisition of FEI-Elcom, the Company has a federal net operating loss carryforward of $4.4 million which may be applied in annually limited amounts to offset future U.S.-sourced taxable income over the next 14 years. As of April 30, 2017, the Company has state investment tax credits of $1 million. The state investment tax credit expires beginning in 2023 through 2032.
A reconciliation of the beginning and ending amounts of unrecognized tax benefits, is as follows:
Balance at April 30, 2016 | $ | - | ||
Additions based on positions taken in the current year | 1,323 | |||
Additions based on positions taken in prior years | 303 | |||
Decreases based on positions taken in prior years | - | |||
Balance at April 30, 2017 | $ | 1,626 |
The entire amount reflected in the table above at April 30, 2017, if recognized, would reduce our effective tax rate. As of April 30, 2017 and 2016, the Company had $21,000 and $0, respectively, accrued for the payment of interest and penalties. For the fiscal years ended April 30, 2017 and 2016, the Company recognized interest and penalties of $21,000 and $0, respectively. It is difficult to predict or estimate the change in the Company's unrecognized tax benefits over the next twelve months as a result of the progression of ongoing tax audits or other events. The Company believes, however, that it is reasonably possible that decreases in unrecognized tax benefits of up to $.2 million may be recognized during the next twelve months.
The Company is subject to taxation in the U.S. and various state, local and foreign jurisdictions. The Company is no longer subject to examination of its federal income tax returns by the Internal Revenue Service for fiscal years 2013 and prior. In June 2017, the Company received notification from the Internal Revenue Service that it is seeking to review its tax return for the year ended April 30, 2016. The Company is no longer subject to examination by the taxing authorities in its foreign jurisdictions for fiscal 2013 and prior. Net operating losses generated by domestic and foreign entities in closed years and utilized in open years are subject to adjustment by the tax authorities.
14. Segment Information
The Company operates under two reportable segments based on the geographic locations of its subsidiaries:
(1) | FEI-NY – operates out of New York and its operations consist principally of precision time and frequency control products used in three principal markets- communication satellites (both commercial and U.S. Government-funded); terrestrial cellular telephone or other ground-based telecommunication stations and other components and systems for the U.S. military. |
(2) | FEI-Zyfer – operates out of California and its products incorporate Global Positioning System (GPS) technologies into systems and subsystems for secure communications, both government and commercial, and other locator applications. This segment also provides sales and support for the Company's wireline telecommunications family of products, including US5G, which are sold in the United States market. |
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FREQUENCY ELECTRONICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
The FEI-NY segment also includes the operations of the Company's wholly-owned subsidiaries, FEI-Elcom and FEI-Asia. FEI-Asia functions as a manufacturing facility for the FEI-NY segment with historically minimal sales to outside customers. Beginning in late fiscal year 2014, FEI-Asia began shipping higher volumes of product to third parties as a contract manufacturer. FEI-Elcom, in addition to its own product line, provides design and technical support for the FEI-NY segment's satellite business.
The Company's Chief Executive Officer measures segment performance based on total revenues and profits generated by each geographic location rather than on the specific types of customers or end-users. Consequently, the Company determined that the segments indicated above most appropriately reflect the way the Company's management views the business.
The accounting policies of the two segments are the same as those described in the "Summary of Significant Accounting Policies." The Company evaluates the performance of its segments and allocates resources to them based on operating profit which is defined as income before investment income, interest expense and taxes. The president of FEI-Zyfer manages the assets of one segment. All acquired assets, including intangible assets, are included in the assets of both reporting segments.
The table below presents information about reported segments for each of the years ended April 30 with reconciliation of segment amounts to consolidated amounts as reported in the statement of operations or the balance sheet for each of the years (in thousands):
| 2017 | 2016 | ||||||
Net revenues: | ||||||||
FEI-NY | $ | 39,486 | $ | 44,238 | ||||
FEI-Zyfer | 14,853 | 12,285 | ||||||
Less intersegment revenues | (3,988 | ) | (1,107 | ) | ||||
Consolidated revenues | $ | 50,351 | $ | 55,416 |
Operating profit (loss): | ||||||||
FEI-NY | $ | (3,093 | ) | $ | 943 | |||
FEI-Zyfer | (2,937 | ) | 1,996 | |||||
Corporate | (1,495 | ) | (471 | ) | ||||
Consolidated operating (loss) profit | $ | (7,525 | ) | $ | 2,468 |
| 2017 | 2016 | ||||||
Identifiable assets: | ||||||||
FEI-NY (approximately $1.7 and $2.5 million in China) | $ | 64,828 | $ | 62,999 | ||||
FEI-Zyfer | 10,427 | 13,275 | ||||||
less intersegment receivables | (11,992 | ) | (7,658 | ) | ||||
Corporate | 50,056 | 53,561 | ||||||
Consolidated identifiable assets | $ | 113,319 | $ | 122,177 |
Depreciation and amortization (allocated): | ||||||||
FEI-NY | $ | 2,471 | $ | 2,323 | ||||
FEI-Zyfer | 152 | 160 | ||||||
Corporate | 15 | 15 | ||||||
Consolidated depreciation and amortization expense | $ | 2,638 | $ | 2,498 |
Major Customers
The Company's products are sold to both commercial and governmental customers. For the years ended April 30, 2017 and 2016, approximately 59% and 65% respectively, of the Company's sales were made under contracts to the U.S. Government or subcontracts for U.S. Government end-use.
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FREQUENCY ELECTRONICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
In fiscal year 2017, sales to three customers of the FEI-NY segment accounted for more than 10% of that segment's sales. Two of these customers also exceeded 10% of the Company's consolidated revenues. In the FEI-Zyfer segment, one customer accounted for more than 10% of that segment's sales and also exceeded 10% of the Company's consolidated revenues.
In fiscal year 2016, sales to four customers of the FEI-NY segment aggregated $30.7 million or 69% of that segment's total sales. Two of these customers also exceeded 10% of the Company's consolidated revenues. In the FEI-Zyfer segment, two customers accounted for more than 10% of that segment's sales. None of the customers in the FEI-Zyfer segment accounted for more than 10% of consolidated revenues.
The loss by the Company of any one of these customers would have a material adverse effect on the Company's business. The Company believes its relationship with these customers to be mutually satisfactory. Sales to major customers above can include commercial and governmental end users.
Foreign Sales
Revenues in each of the Company's segments include sales to foreign governments or to companies located in foreign countries. Revenues, based on the location of the procurement entity and excluding intersegment sales, were derived from the following countries:
| (in thousands) | |||||||
| 2017 | 2016 | ||||||
Belgium | $ | 167 | $ | 132 | ||||
France | 508 | 1,681 | ||||||
China | 1,052 | 1,798 | ||||||
Israel | 110 | 1,139 | ||||||
Russia | 168 | 853 | ||||||
Germany | 5 | 283 | ||||||
Italy | 1,059 | 356 | ||||||
South Korea | 912 | - | ||||||
Other | 519 | 534 | ||||||
| $ | 4,500 | $ | 6,776 |
15. Product Warranties
The Company generally provides its customers with a one-year warranty regarding the manufactured quality and functionality of its products. For some limited products, the warranty period has been extended. The Company establishes warranty reserves based on its product history, current information on repair costs and annual sales levels. Changes in the carrying amount of accrued product warranty costs are as follows (in thousands):
| Year Ended April 30, | |||||||
| 2017 | 2016 | ||||||
Balance at beginning of year | $ | 557 | $ | 557 | ||||
Warranty costs incurred | (159 | ) | (296 | ) | ||||
Product warranty accrual | 159 | 296 | ||||||
Balance at end of year | $ | 557 | $ | 557 |
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FREQUENCY ELECTRONICS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued
April 30, 2017 and 2016
16. Other Comprehensive Income (Loss)
Changes in Accumulated Other Comprehensive Income ("AOCI") by component and reclassifications out of AOCI are as follows (in thousands):
| Change in | Foreign | ||||||||||||||
| Market Value | Currency | ||||||||||||||
| of Marketable | Translation | ||||||||||||||
| Securities | Adjustment | Total | |||||||||||||
Balance April 30, 2015, net of taxes | $ | 985 | $ | 1,905 | $ | 2,890 | ||||||||||
Items of other comprehensive income (loss) before reclassification, pretax | (150 | ) | (753 | ) | (903 | ) | ||||||||||
Tax effect | 51 | - | 51 | |||||||||||||
Items of other comprehensive income (loss) before reclassification, net of taxes | (99 | ) | (753 | ) | (852 | ) | ||||||||||
Reclassification adjustments, pretax ** | (131 | ) | ||||||||||||||
Tax effect | 57 | (74 | ) | - | (74 | ) | ||||||||||
Total other comprehensive income (loss), net of taxes | (173 | ) | (753 | ) | (926 | ) | ||||||||||
Balance April 30, 2016, net of taxes | 812 | 1,152 | 1,964 | |||||||||||||
Items of other comprehensive income (loss) before reclassification, pretax | 534 | (38 | ) | 496 | ||||||||||||
Tax effect | (182 | ) | - | (182 | ) | |||||||||||
Items of other comprehensive income (loss) before reclassification, net of taxes | 352 | (38 | ) | 314 | ||||||||||||
Reclassification adjustments, pretax ** | 28 | |||||||||||||||
Tax effect | (25 | ) | 3 | - | 3 | |||||||||||
Total other comprehensive income (loss), net of taxes | 355 | (38 | ) | 317 | ||||||||||||
Balance April 30, 2017, net of taxes | $ | 1,167 | $ | 1,114 | $ | 2,281 |
**The reclassification adjustments represent net realized gains on the sale or redemption of available-for-sale marketable securities that were reclassified from AOCI to Other income (expense), net.
44
Table of Contents
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None
Item 9A. Controls and Procedures
Evaluation of Disclosure Controls and Procedures .
The Company's management, with the participation of the Company's chief executive officer and chief financial officer, has evaluated the effectiveness of the Company's disclosure controls and procedures (as such term is defined in Rules 13a‑15(e) and 15d‑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. There are inherent limitations to the effectiveness of any system of disclosure controls and procedures, including the possibility of human error and the circumvention or overriding of the controls and procedures. Accordingly, even effective disclosure controls and procedures can only provide reasonable assurance of achieving their control objectives. Based on their evaluation, the Company's chief executive officer and chief financial officer have concluded that, as of April 30, 2017, the Company's disclosure controls and procedures were effective.
Management's Annual Report on Internal Control Over Financial Reporting
Management of Frequency Electronics is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act. The Company's internal control system is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Because of inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Management has assessed the effectiveness of the Company's internal control over financial reporting as of April 30, 2017. In making this assessment, management used the criteria established in Internal Control-Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this evaluation, management has concluded that the Company's internal control over financial reporting were effective as of April 30, 2017.
A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the Company's annual or interim financial statements will not be prevented or detected on a timely basis.
Financial Reporting
This annual report does not include an attestation report of the Company's registered public accounting firm regarding internal control over financial reporting. Management's report was not subject to attestation by the Company's registered public accounting firm pursuant to rules of the Securities and Exchange Commission that permit the Company to provide only management's report in this annual report.
Changes in Internal Control Over Financial Reporting .
There were no changes in the Company's internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the year ended April 30, 2017 to which this report relates that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.
Item 9B. Other Information
None
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Table of Contents
PART III
Item 10. Directors and Executive Officers of the Company
The information required to be furnished pursuant to this item with respect to Directors of the Company, in compliance with Section 16(a) of the Securities Exchange Act of 1934, as amended, and the Company's code of ethics is incorporated herein by reference from the Company's definitive proxy statement to be filed no later than 120 days after April 30, 2017, for the annual meeting of stockholders to be held on or about November 8, 2017. The information required to be furnished pursuant to this item with respect to Executive Officers is set forth, pursuant to General Instruction G of Form 10‑K, under Part I of this Report.
Item 11. Executive Compensation
This item is incorporated herein by reference from the Company's definitive proxy statement to be filed no later than 120 days after April 30, 2017, for the annual meeting of stockholders to be held on or about November 8, 2017.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
This item is incorporated herein by reference from the Company's definitive proxy statement to be filed no later than 120 days after April 30, 2017, for the annual meeting of stockholders to be held on or about November 8, 2017.
Item 13. Certain Relationships and Related Transactions, and Director Independence
This item is incorporated herein by reference from the Company's definitive proxy statement to be filed no later than 120 days after April 30, 2017, for the annual meeting of stockholders to be held on or about November 8, 2017.
Item 14. Principal Accountant Fees and Services
This item is incorporated herein by reference from the Company's definitive proxy statement to be filed no later than 120 days after April 30, 2017, for the annual meeting of stockholders to be held on or about November 8, 2017.
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Table of Contents
PART IV
Item 15. Exhibits and Financial Statement Schedules
(a) | Index to Financial Statements and Exhibits |
The financial statements and exhibits are listed below and are filed as part of this report.
(1) FINANCIAL STATEMENTS
Included in Part II of this report:
| Page(s) |
Report of Independent Registered Public Accounting Firm | 20 |
|
|
Consolidated Balance Sheets |
|
- April 30, 2017 and 2016 | 21 |
|
|
Consolidated Statements of Operations and Comprehensive (Loss) Income |
|
- years ended April 30, 2017 and 2016 | 22 |
|
|
Consolidated Statements of Cash Flows |
|
- years ended April 30, 2017 and 2016 | 23-24 |
|
|
Consolidated Statements of Changes in Stockholders' Equity |
|
- years ended April 30, 2017 and 2016 | 25 |
|
|
Notes to Consolidated Financial Statements | 26-44 |
(2) EXHIBITS |
|
|
|
Exhibit 21 | List of Subsidiaries of Registrant |
Exhibit 23.1 | Consent of Independent Registered Public Accounting Firm |
Exhibit 31.1 | Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
Exhibit 31.2 | Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
Exhibit 32 | Certification of the Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
Exhibit 101 | The following materials from the Frequency Electronics, Inc. Annual Report on Form 10-K for the year ended April 30, 2017 formatted in eXtensible Business Reporting Language (XBRL): (i) Consolidated Balance Sheets, (ii) Consolidated Statements of Operations and Comprehensive (Loss) Income, (iii) Consolidated Statements of Cash Flows, (iv) Consolidated Statements of Changes in Stockholders' Equity and (v) Notes to Consolidated Financial Statements |
The exhibits listed on the accompanying Index to Exhibits beginning on page 49 are filed as part of this annual report.
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Table of Contents
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) 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.
| FREQUENCY ELECTRONICS, INC. |
|
|
By: | /s/ Martin B. Bloch |
| Martin B. Bloch |
| President and CEO |
|
|
|
|
By: | /s/ Steven L. Bernstein |
| Steven L. Bernstein |
| Chief Financial Officer |
Dated: July 31, 2017
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated:
Signature |
| Title |
| Date |
|
|
|
|
|
/s/ Joel Girsky |
| Chairman of the Board |
| 7/31/17 |
Joel Girsky |
|
|
|
|
|
|
|
|
|
/s/ S. Robert Foley |
| Director |
| 7/31/17 |
S. Robert Foley |
|
|
|
|
|
|
|
|
|
/s/ Richard Schwartz |
| Director |
| 7/31/17 |
Richard Schwartz |
|
|
|
|
|
|
|
|
|
/s/ Stanton D. Sloane |
| Director |
| 7/31/17 |
Stanton D. Sloane |
|
|
|
|
/s/ Russell M. Sarachek |
| Director |
| 7/31/17 |
Russell M. Sarachek |
|
|
|
|
/s/ General Lance W. Lord |
| Director |
| 7/31/17 |
General Lance W. Lord |
|
|
|
|
/s/ Ryan J. Levenson |
| Director |
| 7/31/17 |
Ryan J. Levenson |
|
|
|
|
/s/ Martin B. Bloch |
| President and CEO |
| 7/31/17 |
Martin B. Bloch |
| (Principal Executive Officer) |
|
|
|
|
|
|
|
/s/ Steven L. Bernstein |
| Chief Financial Officer |
| 7/31/17 |
Steven L. Bernstein |
|
|
|
|
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Table of Contents
INDEX TO EXHIBITS
ITEM 15(a)(3)
Certain of the following exhibits were filed with the Securities and Exchange Commission as exhibits, numbered as indicated below, to the Registration Statement or report specified below, which exhibits are incorporated herein by reference:
Exhibit No. in |
|
|
|
|
this Form 10-K |
| Description of Exhibit |
| NOTE |
|
|
|
|
|
2.1 |
| Stock Purchase Agreement, dated as of February 21, 2012, by and among the Registrant, Elcom Technologies Inc. and the stockholders of Elcom Technologies Inc. identified on the signature pages thereto |
| (12) |
|
|
|
|
|
3.1 |
| Copy of Certificate of Incorporation of the Registrant filed with the Secretary of State of Delaware |
| (1) |
|
|
|
|
|
3.2 |
| Amendment to Certificate of Incorporation of the Registrant filed with the Secretary of State of Delaware on March 27, 1981 |
| (2) |
|
|
|
|
|
3.3 |
| Amendment to Certificate of Incorporation of the Registrant filed with Secretary of State of Delaware on October 26, 1984 |
| (5) |
|
|
|
|
|
3.4 |
| Amendment to Certificate of Incorporation of the Registrant filed with the Secretary of State of Delaware on October 22, 1986 |
| (7) |
|
|
|
|
|
3.5 |
| Amended and Restated Certificate of Incorporation of the Registrant filed with the Secretary of State of Delaware on October 26, 1987 |
| (9) |
|
|
|
|
|
3.6 |
| Amended Certificate of Incorporation of the Company filed with the Secretary of State of Delaware on November 2, 1989 |
| (9) |
|
|
|
|
|
3.7 |
| Copy of By-Laws of the Registrant, as amended to date |
| (3) |
|
|
|
|
|
4.1 |
| Specimen of Common Stock certificate |
| (1) |
|
|
|
|
|
10.1 |
| Registrant's 1997 Independent Contractor Stock Option Plan |
| (10) |
|
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10.8 |
| Employment agreement between Registrant and Harry Newman |
| (4) |
|
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10.9 |
| Employment agreement between Registrant and Marcus Hechler |
| (4) |
|
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|
10.10 |
| Employment agreement between Registrant and Charles Stone |
| (8) |
|
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10.13 |
| Lease agreement between Registrant and Reckson Operating Partnership, L.P. dated January 6, 1998 |
| (11) |
|
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10.16 |
| Registrant's Cash or Deferral Profit Sharing Plan and Trust under Internal Revenue Code Section 401, dated April 1, 1985 |
| (6) |
|
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10.21 |
| Form of Agreement concerning Executive Compensation |
| (2) |
|
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10.23 |
| Registrant's Senior Executive Stock Option Plan |
| (8) |
49
Table of Contents
Exhibit No. in |
|
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|
this Form 10-K |
| Description of Exhibit |
| NOTE |
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10.24 |
| Amendment dated Jan. 1, 1988 to Registrant's Cash or Deferred Profit Sharing Plan and Trust under Section 401 of Internal Revenue Code |
| (8) |
|
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|
|
10.25 |
| Executive Incentive Compensation Plan between Registrant and various employees |
| (8) |
|
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21 |
| List of Subsidiaries of Registrant |
| Filed herewith |
|
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|
23.1 |
| Consent of Independent Registered Public Accounting Firm to incorporation by reference of its 2017 audit report in Registrant's Form S-8 Registration Statements. |
| Filed herewith |
|
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|
31.1 |
| Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
| Filed herewith |
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|
31.2 |
| Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
| Filed herewith |
|
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32 |
| Certifications of the Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
| Filed herewith |
|
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|
101 |
| The following materials from the Frequency Electronics, Inc. Annual Report on Form 10-K for the fiscal year ended April 30, 2017 formatted in eXtensible Business Reporting Language (XBRL): (i) Consolidated Balance Sheets, (ii) Consolidated Statements of Operations and Comprehensive (Loss) Income, (iii) Consolidated Statements of Cash Flows, (iv) Consolidated Statements of Changes in Stockholders' Equity and (v) Notes to Consolidated Financial Statements |
|
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NOTES:
(1) | Filed with the SEC as an exhibit, numbered as indicated above, to the registration statement of Registrant on Form S-1, File No. 2-29609, which exhibit is incorporated herein by reference. |
(2) | Filed with the SEC as an exhibit, numbered as indicated above, to the registration statement of Registrant on Form S-1, File No. 2-71727, which exhibit is incorporated herein by reference. |
(3) | Filed with the SEC as an exhibit, numbered as indicated above, to the annual report of Registrant on Form 10-K, File No. 1-8061 for the year ended April 30, 1981, which exhibit is incorporated herein by reference. |
(4) | Filed with the SEC as an exhibit, numbered as indicated above, to the registration statement of Registrant on Form S-1, File No. 2-69527, which exhibit is incorporated herein by reference. |
(5) | Filed with the SEC as an exhibit, numbered as indicated above, to the annual report of Registrant on Form 10-K, File No. 1-8061, for the year ended April 30, 1985, which exhibit is incorporated herein by reference. |
(6) | Filed with the SEC as exhibit, numbered as indicated above, to the annual report of Registrant on Form 10-K, File No. 1-8061, for the year ended April 30, 1986, which exhibit is incorporated herein by reference. |
(7) | Filed with the SEC as an exhibit, numbered as indicated above, to the annual report of Registrant on Form 10-K, File No. 1-8061, for the year ended April 30, 1987, which exhibit is incorporated herein by reference. |
(8) | Filed with the SEC as an exhibit, numbered as indicated above, to the annual report of Registrant on Form 10-K, File No. 1-8061, for the year ended April 30, 1989, which exhibit is incorporated herein by reference. |
(9) | Filed with the SEC as an exhibit, numbered as indicated above, to the annual report of Registrant on Form 10-K, File No. 1-8061, for the year ended April 30, 1990, which exhibit is incorporated herein by reference. |
(10) | Filed with the SEC as an exhibit, numbered as indicated above, to the registration statement of Registrant on Form S-8, File No. 333-42233, which exhibit is incorporated herein by reference. |
(11) | Filed with the SEC as an exhibit, numbered as indicated above, to the annual report of Registrant on Form 10-K, File No. 1-8061, for the year ended April 30, 1998, which exhibit is incorporated herein by reference. |
(12) | Filed with the SEC as an exhibit, numbered as indicated above, to the current report of Registrant on Form 8-K, File No. 1-8061, on February 27, 2012, which exhibit is incorporated herein by reference. |