1 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE - ------- SECURITIES AND EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED: SEPTEMBER 30, 1999 TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE - ------- SECURITIES AND EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM _______________ TO _______________ . Commission File Number: 0-10004 ---------------------------------- NAPCO SECURITY SYSTEMS, INC. ------------------------------------------------------ (Exact name of Registrant as specified in its charter) DELAWARE 11-2277818 - ------------------------------------ --------------------------------- (State or other jurisdiction of (IRS Employer Identification Number) incorporation or organization) 333 Bayview Avenue Amityville, New York 11701 - ------------------------------------ ------------------------------------- (Zip Code) (516) 842-9400 ----------------------------------------------------- (Registrant's telephone number including area code) NONE ----------------------------------------------------- (Former name, former address and former fiscal year if changed from last report) 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 and Exchange Act of 1934 during the preceding 12 months (or such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days: Yes X No ------ ------ <TABLE> <S> <C> Number of shares outstanding of each of the issuer's classes of common stock, as of: SEPTEMBER 30, 1999 COMMON STOCK, $.01 PAR VALUE PER SHARE 3,495,351 </TABLE>
2 NAPCO SECURITY SYSTEMS, INC. AND SUBSIDIARIES INDEX SEPTEMBER 30, 1999 <TABLE> <CAPTION> Page ---- <S> <C> PART I: FINANCIAL INFORMATION (unaudited) Condensed Consolidated Balance Sheets, September 30, 1999 and June 30, 1999 3 Condensed Consolidated Statements of Income for the Three Months Ended September 30, 1999 and 1998 4 Condensed Consolidated Statements of Cash Flows for the Three Months Ended September 30, 1999 and 1998 5 Notes to Condensed Consolidated Financial Statements 6 Management's Discussion and Analysis of Financial Condition and Results of Operations 8 PART II: OTHER INFORMATION 11 SIGNATURE PAGE 12 INDEX TO EXHIBITS 13 </TABLE> -2-
3 NAPCO SECURITY SYSTEMS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (unaudited) <TABLE> <CAPTION> September 30, June 30, ASSETS 1999 1999 ------ -------------- ------------- (in thousands, except share data) <S> <C> <C> Current Assets: Cash and cash equivalents $ 1,688 $ 2,230 Accounts receivable, less allowance for doubtful accounts: September 30, 1999 $ 897 June 30, 1999 $ 887 14,410 16,446 Inventories, net (Note 2) 22,865 21,495 Prepaid expenses and other current assets 538 809 Deferred income taxes, net 716 716 -------------- -------------- Total current assets 40,217 41,696 Property, Plant and Equipment, net of accumulated depreciation and amortization (Note 3): September 30, 1999 $ 12,631 June 30, 1999 $ 12,316 11,195 11,280 Goodwill, net 2,459 2,485 Other Assets 313 326 -------------- -------------- $ 54,184 $ 55,787 ============== ============== LIABILITIES AND STOCKHOLDERS' EQUITY ------------------------------------ Current Liabilities: Current portion of long-term debt $ 1,208 $ 1,433 Accounts payable 3,271 3,651 Accrued and other current liabilities 1,257 1,582 Accrued taxes 19 110 -------------- -------------- Total current liabilities 5,755 6,776 Long-Term Debt 17,042 17,241 Deferred Income Taxes 442 442 -------------- -------------- Total liabilities 23,239 24,459 Stockholders' Equity: Common stock, par value $.01 per share; 21,000,000 shares authorized, 5,908,602 shares issued; 3,495,351 and 3,490,151 shares outstanding, respectively 59 59 Additional paid-in capital 764 751 Retained earnings 34,571 34,967 Less: Treasury stock, at cost (2,418,451 shares) (4,449) (4,449) -------------- -------------- Total stockholders' equity 30,945 31,328 -------------- -------------- $ 54,184 $ 55,787 ============== ============== </TABLE> See accompanying notes to Condensed consolidated Financial Statements. -3-
4 NAPCO SECURITY SYSTEMS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF INCOME (unaudited) <TABLE> <CAPTION> Three Months Ended September 30, ----------------------------------------------- 1999 1998 -------------- -------------- (in thousands, except share and per share data) <S> <C> <C> Net Sales $ 10,449 $ 11,090 Cost of Sales 7,858 8,382 -------------- -------------- Gross profit 2,591 2,708 Selling, General and Administrative Expenses 2,719 2,228 -------------- -------------- Operating income (loss) (128) 480 -------------- -------------- Interest Expense, net 321 368 Other Expense, net 32 5 -------------- -------------- 353 373 -------------- -------------- Income (loss) before (benefit) for income taxes (481) 107 (Benefit) for Income Taxes (85) (165) -------------- -------------- Net income (loss) $ (396) $ 272 ============== ============== Earnings (Loss) Per Share (Note 5): Basic $ (0.11) $ 0.08 ============== ============== Diluted $ (0.11) $ 0.08 ============== ============== Weighted Average Number of Shares Outstanding (Note 5): Basic 3,492,751 3,489,901 ============== ============== Diluted 3,492,751 3,524,825 ============== ============== </TABLE> See accompanying notes to Condensed consolidated Financial Statements. -4-
5 NAPCO SECURITY SYSTEMS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited) <TABLE> <CAPTION> Three Months Ended September 30, ------------------------------------ 1999 1998 ------------- --------------- (in thousands) <S> <C> <C> Net Cash Provided by Operating Activities $ 112 $ 790 ------------- --------------- Cash Flows from Investing Activities: Purchases of property, plant and equipment (230) (188) ------------- --------------- Net cash used in investing activities (230) (188) ------------- --------------- Cash Flows from Financing Activities: Proceeds from long-term debt borrowings - - Principal payments on long-term debt (424) (350) ------------- --------------- Net cash (used in) financing activities (424) (350) ------------- --------------- Net Increase (Decrease) in Cash and Cash Equivalents (542) 252 Cash and Cash Equivalents at Beginning of Period 2,230 1,989 ------------- --------------- Cash and Cash Equivalents at End of Period $ 1,688 $ 2,241 ============= =============== Cash Paid During the Period for: Interest $ 315 $ 335 ============= =============== Income taxes $ 6 $ 242 ============= =============== </TABLE> See accompanying notes to Condensed consolidated Financial Statements. -5-
6 NAPCO SECURITY SYSTEMS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 1.) Summary of Significant Accounting Policies and Other Disclosures The information for the nine months ended September 30, 1999 and 1998 is unaudited, but in the opinion of the Company, all adjustments (consisting only of normal recurring adjustments) considered necessary for a fair presentation of the results of operations for such periods have been included. The results of operations for the periods may not necessarily reflect the annual results of the Company. For further information, refer to the consolidated financial statements and the notes thereto included in the Company's Annual Report on Form 10-K for the fiscal year ended June 30, 1999. The Company has adopted all recently effective accounting standards which have an impact on its condensed financial statements. 2.) Inventories <TABLE> <CAPTION> Inventories consist of: September 30, June 30, 1999 1999 ------------- ------------- (in thousands) <S> <C> <C> Component parts $ 10,736 $ 10,093 Work-in-process 5,270 4,954 Finished products 6,859 6,448 ------------- ------------- $ 22,865 $ 21,495 ============= ============= </TABLE> 3.) Property, Plant and Equipment <TABLE> <CAPTION> Property, Plant and Equipment consists of: September 30, June 30, 1999 1999 ---------------- ------------- (in thousands) <S> <C> <C> Land $ 904 $ 904 Building 8,911 8,911 Molds and dies 3,251 3,180 Furniture and fixtures 971 964 Machinery and equipment 9,733 9,581 Building improvements 56 56 ---------------- ------------- 23,826 23,596 Less: Accumulated depreciation and amortization 12,631 12,316 ---------------- ------------- $ 11,195 $ 11,280 ================ ============= </TABLE> 4.) In August 1995, the Internal Revenue Service ("IRS") informed the Company that it had completed the audit of the Company's Federal tax returns for fiscal years 1986 through 1993. The IRS had issued a report to the Company proposing adjustments that would result in taxes due of approximately $4.3 million excluding interest charges. The primary adjustments presented by the IRS related to intercompany pricing and royalty charges, DISC earnings and charitable contributions. The Company disagreed with the IRS and began the process of vigorously appealing this assessment using all remedies and procedural actions available under the law. The Company had provided a reserve to reflect its estimate of the ultimate resolution of this matter, so that the outcome of this matter would not have a material adverse effect on the Company's consolidated financial statements. During fiscal 1998, the Company continued to discuss the assessment with the IRS Appeals Office and in July 1998 received a revised audit report, which was subject to final government administrative approval, and which reduced the original assessment for the years covered by the IRS audit. The Company accepted the revised audit report and the final government approval was pending as of June 30, 1998. Accordingly, the Company determined that $900,000 of previously recorded reserves should be reversed through the 1998 income tax provision to reflect the expected final settlement with respect to the IRS audit. In fiscal 1999, the Company received the final government approval on the IRS audit related to fiscal years 1986 through 1993. In addition, the IRS completed its audits of fiscal years 1994 through 1997. As a result of the favorable outcome from the audits, the Company reversed an additional $1,896,000 of previously recorded reserves through the income tax provision in fiscal 1999. -6-
7 NAPCO SECURITY SYSTEMS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 5.) Net Income Per Common Share The Company adopted Statement of Financial Accounting standards ("SFAS") No. 128 "Earnings per share". In accordance with SFAS No. 128, net income per common share amounts ("basic EPS") were computed by dividing net income by the weighted average number of common shares outstanding for the period. Net income per common share amounts, assuming dilution ("diluted EPS"), were computed by reflecting the potential dilution from the exercise of stock options. SFAS No. 128 requires the presentation of both basic EPS and diluted EPS on the face of the income statement. Net income per share amounts for the same prior-year periods have been restated to conform to the provisions of SFAS No. 128. A reconciliation between the numerators and denominators of the basic and diluted EPS computations for net income is as follows: <TABLE> <CAPTION> Three Months Ended September 30, 1999 (in thousands, except per share data) ------------------------------------------------------ Net Income Shares Per Share (numerator) (denominator) Amounts <S> <C> <C> <C> Net income (loss) $(396) - - ------- BASIC EPS --------- Net income (loss) attributable to common stock $(396) 3,493 $(0.11) ------- EFFECT OF DILUTIVE SECURITIES ----------------------------- Options - - - ---- ---- ---- DILUTED EPS ----------- Net income (loss) attributable to common stock and assumed option exercises $(396) 3,493 $(0.11) ------- ====== ======= </TABLE> Options to purchase 173,820 shares of common stock in the three months ended September 30, 1999 were not included in the computation of diluted EPS because the exercise prices of 89,370 of the options exceeded the average market price of the common shares for this period and the inclusion of the remaining 84,450 options would have been anti-dilutive. . These options were still outstanding at the end of the period. -7-
8 NAPCO SECURITY SYSTEMS, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Results of Operations Sales for the three months ended September 30, 1999 decreased by $641,000 to $10,449,000 as compared to $11,090,000 for the same period a year ago. This change was primarily a result of the Company's reduction of volume incentives to its customers as partially offset by the increase in sales of the Company's Alarm Lock product line. The Company's gross profit for the three months ended September 30, 1999 decreased by $117,000 to $2,591,000 or 24.8% of sales as compared to $2,708,000 or 24.4% of sales for the same period a year ago. The decrease in gross profit was due primarily to the lower sales as discussed above. The increase in gross profit as a percentage of sales was primarily due to a reduction of product costs and volume incentives and a positive shift in product mix. Selling, general and administrative expenses for the three months ended September 30, 1999 increased by $491,000 to $2,719,000 as compared to $2,228,000 a year ago. This increase was due primarily to the Company's increased selling and marketing efforts in the rollout of its new products. Interest and other expense for the three months ended September 30, 1999 decreased by $20,000 to $353,000 from $373,000 for the same period a year ago. This decrease in expense was primarily due to the continuing reduction in the Company's outstanding debt. The benefit for income taxes for the three months ended September 30, 1999 decreased by $80,000 to a benefit of $85,000 as compared to a benefit of $165,000 for the same period a year ago. The current period benefit relates to the current period results; the decrease in the benefit for income taxes in the current period is primarily due to the reversal of reserves in the same period a year ago that did not recur in the current quarter. Net income decreased by $668,000 to a loss of $396,000 or $(.11) per share for the three months ended September 30, 1999 as compared to income of $272,000 or $.08 per share for the same period a year ago. The change in net income was due primarily to the factors discussed above. Liquidity and Capital Resources During the three months ended September 30, 1999 the Company utilized virtually all of its cash generated from operations and a portion of its cash on hand to reduce its outstanding borrowings and to purchase property and equipment. This resulted in a decrease in outstanding debt to $18,250,000 at September 30, 1999 from $18,674,000 at June 30, 1999 while cash and cash equivalents decreased to $1,688,000 as of September 30, 1999 as compared to $2,230,000 at June 30, 1999. Accounts Receivable at September 30, 1999 decreased $2,036,000 to $14,410,000 as compared to $16,446,000 at June 30, 1999. This decrease is primarily the result of the higher sales volume during the quarter ended June 30, 1999 as compared to the quarter ended September 30, 1999. Inventory at September 30, 1999 increased by $1,370,000 to $22,865,000 as compared to $21,495,000 at June 30, 1999. This increase was primarily the result of the Company increasing production of certain of its existing products as well as preparing for the rollout of several new products later in the fiscal year. In May of 1998 the Company repurchased 889,576 shares of Napco common stock for $5.00 per share from one of its co-founders. $2.5 million was paid at closing with the balance of the purchase price to be paid over a four (4) year period. The portion of the purchase price paid at closing was financed by the Company's primary bank and is to be repaid over a five (5) year period. On May 13, 1997, the Company refinanced the majority of its bank debt with a new primary bank and entered into a $16,000,000 secured revolving credit agreement and a $3,000,000 line of credit to be used in connection with commercial and standby letters of credit, and replaced the $2,500,000 standby letter of credit securing an earlier loan from another bank in connection with the Company's international operations. These agreements replaced the existing $11,000,000 and $2,000,000 credit agreements with another bank. The Company restructured its debt to allow for future growth and expansion as well as to obtain terms more favorable to the Company. As part of the debt restructuring, the Company retired the outstanding Industrial Revenue Bonds relating to the financing of the Company's Amityville facility. The revolving credit agreement will expire in November, 2000 and any outstanding borrowings are to be repaid on or before that time. -8-
9 NAPCO SECURITY SYSTEMS, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued) On April 26, 1993 the Company's foreign subsidiary entered into a 99 year lease of approximately four acres of land in the Dominican Republic, at an annual cost of approximately $272,000. The foreign subsidiary relocated its operations to this site at the end of fiscal 1995. The Company has entered into an employment agreement with Michael Carrieri, Vice President of Engineering Development (see Exhibit 10(U)). As of September 30, 1999 the Company had no material commitments for capital expenditures. Year 2000 Date Conversion As the century turns from 1900 to 2000, date-sensitive systems may recognize the year 2000 as 1900 or not at all. This results primarily because of the conventional use of a two digit date field in most software applications. The inability to properly recognize the year 2000 may cause systems to process financial and operational information incorrectly. The Company believes that virtually all of the Company's systems are now fully compliant. Due to the fact that the Company's software manufacturer includes the year 2000 upgrade as part of its ongoing maintenance, the Company expects to expend a minimal amount of its resources in this area. Although the Company expects its critical systems to be compliant, there is no guarantee that these results will be achieved. Specific factors that give rise to this uncertainty include a possible failure to identify all susceptible systems, noncompliance by third parties whose systems and operations impact the Company, and other similar uncertainties. In addition to internal Year 2000 remediation activities, the Company is in contact with key suppliers and customers to reduce the likelihood of any significant interruption in the business between the Company and these important third parties relating to the Year 2000 issue. A comprehensive survey of all vendors and customers has not been made and is not presently planned. The Company's efforts thus far have been focused on key vendors and customers. If these third parties do not convert their systems in a timely manner and in a way that is compatible with the Company's systems, the Year 2000 issue could have a material adverse effect on the Company's operations. The Company believes that its actions with key suppliers and customers will minimize these risks. The vast majority of the Company's products are not date-sensitive. The Company has collected information on current and discontinued date-sensitive products. At this time, the Company does not have in place a comprehensive, global contingency plan relative to potential Year 2000 disruptions. Rather, each significant system with a potential problem either has been repaired and tested or is being updated. Contingency plans for certain types of unforseen problems are being developed. Quantitative and Qualitative Disclosures About Market Risk The Company's principle financial instrument is long-term debt (consisting of a revolving credit and term loan facility) that provides for interest at a spread above the prime rate. The Company is affected by market risk exposure primarily through the effect of changes in interest rates on amounts payable by the Company under this credit facility. A significant rise in the prime rate could materially adversely affect the Company's business, financial condition and results of operations. At September 30, 1999 an aggregate amount of approximately $15,000,000 was outstanding under this credit facility with a weighted average interest rate of 6.8%. If principal amounts outstanding under this facility remained at this quarter-end level for an entire year and the prime rate increased or decreased, respectively, by 1.25% the Company would pay or save, respectively, an additional $187,500 in interest in that year. The Company does not utilize derivative financial instruments to hedge against changes in interest rates or for any other purpose. Where appropriate, the Company requires that letters of credit be provided on foreign sales. In addition, a significant number of transactions by the Company are denominated in U.S. dollars. As such, the Company has shifted foreign currency exposure onto its foreign customers. As a result, if exchange rates move against foreign customers, the Company could experience difficulty collecting unsecured accounts receivable, the cancellation of existing orders or the loss of future orders. The foregoing could materially adversely affect the Company's business, financial condition and results of operations. -9-
10 NAPCO SECURITY SYSTEMS, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued) Forward-looking Statements This quarterly report, other than historical financial information, contains forward-looking statements, as defined in the Private Securities Litigation Reform Act of 1995, that involve a number of risks and uncertainties. Important factors that could cause actual results to differ materially from those indicated by such forward-looking statements are set forth in Item 1 of the Company's annual report on Form 10-K for the year ended June 30, 1999. These include risks and uncertainties relating to competition and technological change, intellectual property rights, capital spending, international operations, and the Company's acquisition strategies. -10-
11 PART II: OTHER INFORMATION Item 1. Legal Proceedings In August 1995, the Internal Revenue Service ("IRS") informed the Company that it had completed the audit of the Company's Federal tax returns for fiscal years 1986 through 1993. The IRS had issued a report to the Company proposing adjustments that would result in taxes due of approximately $4.3 million excluding interest charges. The primary adjustments presented by the IRS related to intercompany pricing and royalty charges, DISC earnings and charitable contributions. The Company disagreed with the IRS and began the process of vigorously appealing this assessment using all remedies and procedural actions available under the law. The Company had provided a reserve to reflect its estimate of the ultimate resolution of this matter, so that the outcome of this matter would not have a material adverse effect on the Company's consolidated financial statements. During fiscal 1998, the Company continued to discuss the assessment with the IRS Appeals Office and in July 1998 received a revised audit report, which was subject to final government administrative approval, and which reduced the original assessment for the years covered by the IRS audit. The Company accepted the revised audit report and the final government approval was pending as of June 30, 1998. Accordingly, the Company determined that $900,000 of previously recorded reserves should be reversed through the 1998 income tax provision to reflect the expected final settlement with respect to the IRS audit. In fiscal 1999, the Company received the final government approval on the IRS audit related to fiscal years 1986 through 1993. In addition, the IRS completed its audits of fiscal years 1994 through 1997. As a result of the favorable outcome from the audits, the Company reversed an additional $1,896,000 of previously recorded reserves through the income tax provision in fiscal 1999. Item 2. Changes in Securities None Item 3. Defaults Upon Senior Securities None Item 4. Submission of Matters to a Vote of Security Holders None Item 5. Other Information None Item 6. Exhibits and Reports on Form 8-K (a) Exhibits 10(U) Employment agreement with Michael Carrieri 27 Financial Data Schedule (b) No reports on Form 8-K have been filed during the Company's fiscal quarter ended September 30, 1999. -11-
12 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. November 12, 1999 NAPCO SECURITY SYSTEMS, INC. (Registrant) By: /s/ Richard Soloway ----------------------------------- Richard Soloway Chairman of the Board of Directors, President and Secretary (Principal Executive Officer) By: /s/ Kevin S. Buchel ------------------------------------ Kevin S. Buchel Senior Vice President of Operations and Finance and Treasurer (Principal Financial and Accounting Officer) -12-
13 INDEX TO EXHIBITS Exhibits 10(U) Employment Agreement with Michael Carrieri 27 Financial Data Schedule -13-