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U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: April 30, 2005
Commission File Number: 0-27002
INTERNATIONAL DISPLAYWORKS, INC.
(Exact name of Registrant as specified in its charter)
Delaware 94-3333649
-------- ----------
(State of or other (I.R.S. Employer
jurisdiction of incorporation or Identification No.)
organization)
1613 Santa Clara Drive, Roseville, California 95661-3542
- --------------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
(916) 797-6800
--------------
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [x] No [ ]
Indicate by a check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes [x] No [ ]
The number of shares outstanding of the registrant's Common Stock, no par value,
as of May 18, 2005 was 31,691,206.
1
INTERNATIONAL DISPLAYWORKS, INC.
INDEX
Part 1 Consolidated Financial Information Page Number
-----------
Item 1. Consolidated Financial Statements (Unaudited):
Balance Sheets at April 30, 2005 and October 31, 2004...............3
Statements of Operations for the
Three and six months ended April 30, 2005 and 2004..................4
Statements of Cash Flows for the
Three and six months ended April 30, 2005 and 2004..................5
Notes to Financial Statements.......................................7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations......................12
Item 3. Quantitative and Qualitative Disclosure About Market Risk............17
Item 4. Controls and Procedures..............................................18
Part II Other Information
Item 1. Legal Proceedings....................................................18
Item 2. Changes in Securities and Use of Proceeds............................18
Item 3. Default Upon Senior Securities.......................................18
Item 4. Submission of Matters to a Vote of Security Holders..................18
Item 5. Other Information....................................................20
Item 6. Exhibits.............................................................20
Signatures....................................................................21
Certifications................................................................24
2
INTERNATIONAL DISPLAYWORKS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands)
------------------- -----------------
ASSETS April 30, October 31,
------ 2005 2004
Unaudited
------------------- -----------------
Current assets:
Cash and cash equivalents
Cash in banks $ 8,224 8,187
Cash in commercial paper - 1,999
------------------- -----------------
Total cash and cash equivalents 8,224 10,186
Accounts receivable,
net of allowance for doubtful accounts of $110 and $101 19,610 11,378
Inventories 8,257 5,780
Prepaid expenses and other current assets 2,265 1,160
------------------- -----------------
Total current assets 38,356 28,504
------------------- -----------------
Property, plant and equipment at cost, net 26,926 16,418
------------------- -----------------
Total assets $ 65,282 $ 44,922
=================== =================
LIABILITIES AND SHAREHOLDERS' EQUITY
------------------------------------
Current liabilities:
Accounts payable $ 13,659 7,236
Accrued liabilities 3,686 3,588
Line of credit 11,739 4,398
Current portion of long term debt 2,918 496
------------------- -----------------
Total current liabilities 32,002 15,718
Long-term debt, net of current portion 31 70
------------------- -----------------
Total liabilities 32,033 15,788
------------------- -----------------
Commitments and contingencies
Shareholders' equity
Preferred stock, no par, 10,000,000 shares authorized,
none issued
Common stock, no par, 100,000,000 shares authorized
31,682,456 and 30,573,383 shares issued and outstanding
at April 30, 2005 and October 31, 2004 respectively 67,267 65,642
Accumulated deficit (34,091) (36,579)
Cumulative translation adjustment 73 71
------------------- -----------------
Total shareholders' equity 33,249 29,134
------------------- -----------------
Total liabilities and shareholders' equity $ 65,282 $ 44,922
=================== =================
The accompanying notes are an integral part of these financial statements
3
INTERNATIONAL DISPLAYWORKS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except Share and per share data)
For Six Months Ended For Three Months Ended
--------------------------------- ----------------- ----------------
April 30, 2005 April 30, 2004 April 30, 2005 April 30, 2004
Unaudited Unaudited Unaudited Unaudited
---------------- ---------------- ----------------- ----------------
Sales $ 40,789 $ 20,420 $ 22,676 $ 10,624
Cost of goods sold 33,026 15,875 18,556 8,456
---------------- ---------------- ----------------- ----------------
Gross profit 7,763 4,545 4,120 2,168
---------------- ---------------- ----------------- ----------------
Operating expenses:
General and administrative 3,695 2,345 1,777 1,239
Selling, marketing and customer service 1,174 875 584 481
Engineering, advanced design and
product management 251 331 169 190
---------------- ----------------- ---------------- ----------------
Total operating expenses 5,120 3,551 2,530 1,910
---------------- ---------------- ----------------- ----------------
Operating income 2,643 994 1,590 258
---------------- ---------------- ----------------- ----------------
Other income (expense):
Interest expense (177) (249) (115) (111)
Other income (expense) 22 (573) (2) (596)
---------------- ----------------- ---------------- ----------------
Total other expense
(155) (822) (117) (707)
---------------- ---------------- ----------------- ----------------
Income (loss) from continuing operations
before income taxes 2,488 172 1,473 (449)
---------------- ---------------- ----------------- ----------------
Provision for income taxes - - - -
---------------- ---------------- ----------------- ----------------
Net income (loss) $ 2,488 $ 172 $ 1,473 $ (449)
================ ================ ================= ================
Basic and diluted income (loss) per common share
Basic $ 0.08 $ 0.01 $ 0.05 $ (0.02)
================ ================ ================= ================
Diluted $ 0.08 $ 0.01 $ 0.05 $ (0.02)
================ ================ ================= ================
Weighted average common shares outstanding
Basic 31,146,049 23,675,562 31,525,498 24,906,508
Diluted 32,131,389 26,117,449 32,510,838 27,348,395
================ ================ ================= ================
The accompanying notes are an integral part of these financial statements
4
INTERNATIONAL DISPLAYWORKS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
------------------------------------------
For the Periods Ended
Six Months
April 30 April 30
2005 2004
Unaudited Unaudited
---------------------- -------------------
Cash flows from operating activities:
Net income $ 2,488 $ 172
Adjustments to reconcile net loss to net cash provided
by (used in) operating activities:
Depreciation 841 444
Stock issued for services 214 58
Foreign currency translation 2 2
Gain on disposal of fixed assets (43) -
---------------------- -------------------
3,502 676
Changes in operating assets and liabilities, net of business
combinations:
Increase in accounts receivable (5,150) (3,329)
Increase in Inventories (477) (523)
Decrease in prepaid expenses and other current assets 81 377
Increase in accounts payable 3,737 1,290
(Decrease) increase in accrued liabilities (751) 729
---------------------- -------------------
Net cash used in operating activities 942 (780)
Cash flows from investing activities:
Acquisitions of property, plant and equipment (3,430) (978)
Acquisition of Three-Five Beijing Co., Ltd., net of cash acquired (8,229)
Proceeds from disposal of property, plant & equipment 51 -
---------------------- -------------------
Net cash used in investing activities
(11,608) (978)
Cash flows from financing activities:
Proceeds from issuance of common stock 1,411 4,743
Proceeds from issuance of warrants - 64
Proceeds from lines of credit, net 7,341 606
Payment on debt - related parties - (50)
(Payment) proceeds from debt (48) 6
---------------------- -------------------
Net cash provided by financing activities 8,704 5,369
Increase (decrease) in cash and cash equivalents (1,962) 3,611
Cash and cash equivalents at beginning of period 10,186 1,178
---------------------- -------------------
Cash and cash equivalents at end of period $ 8,224 $ 4,789
====================== ===================
Supplemental disclosure:
Cash paid for interest $ 177 $ 215
====================== ===================
Cash paid for income taxes $ - $ -
====================== ===================
Non-cash financing activities:
Stock issued for services $ 214 $ 58
====================== ===================
5
Supplemental disclosure of non-cash information:
In connection with the acquisition of Three-Five (Beijing) Co. Ltd. the Company paid $8 million in cash, incurred
an estimated $229 thousand in expenses related to the acquisition and acquired the following assets and
liabilities:
Current Assets
Inventory $ 2,000
Prepaid expenses and other current assets 1,186
----------------------
Total current assets 3,186
Non-current assets
Property and equipment, at cost 9,535
Current Liabilities
Mortgage payable (2,416)
Accrued liabilities (793)
----------------------
Total current liabilities (3,209)
----------------------
Total assets acquired 9,512
======================
The accompanying notes are an integral part of these financial statements
6
INTERNATIONAL DISPLAYWORKS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying consolidated financial statements include the accounts of
International DisplayWorks, Inc., and its subsidiaries (collectively referred to
as the "Company" or "IDW"). The un-audited consolidated financial statements
have been prepared in accordance with generally accepted accounting principles
for interim financial information and with the instructions to Form 10-Q and
Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the
information and notes required by generally accepted accounting principles for
complete financial statements. In the opinion of management, all adjustments
(consisting of normal recurring accruals) considered necessary for a fair
presentation have been included. Operating results for the three and six month
periods ended April 30, 2005 are not necessarily indicative of the results that
may be expected for the 2005 fiscal year. For further information, refer to the
consolidated financial statements and notes thereto included in the Company's
Annual Report on Form 10-K for the fiscal year ended October 31, 2004.
The accompanying consolidated balance sheet at October 31, 2004, has been
derived from the audited consolidated financial statements at that date, but
does not include all disclosures required by generally accepted accounting
principles.
2. ORGANIZATION
Description of Business
International DisplayWorks, Inc. (the "Company"), headquartered in
Roseville, California, was incorporated in the state of Delaware in June of
1999. On October 31, 2001, the Company merged with its parent, Granite Bay
Technologies, Inc., a California corporation.
The Company, together with its subsidiaries, all of which are wholly owned,
is engaged in the design, manufacture and worldwide distribution of liquid
crystal displays (LCDs), modules, and assemblies for major original equipment
manufacturers (OEMs) with applications in telecommunications, utilities,
automotive, industrial, medical, and consumer products.
The Company's manufacturing operations are in Shenzhen and Beijing,
People's Republic of China (PRC) where we manufacture Liquid Crystal Displays
(LCDs) and LCD modules using various display technologies such as chip-on-glass
("COG"), chip-on-board ("COB"), chip-on-flex ("COF"), surface mount technology
("SMT"), and tape automated bonding ("TAB"). The Company also provides enhanced
services by adding other components such as back lighting, and keypads to module
assemblies as well as having the capabilities to produce complete turn-key
products.
On April 8, 2005 the Company, through its wholly owned subsidiary
International DisplayWorks (Hong Kong) Ltd, acquired 100% of the outstanding
shares of Three-Five Systems (Beijing) Co., Ltd. Three-Five Systems (Beijing)
Co., Ltd. ("Three-Five Beijing") is located in Beijing, PRC where it has a
long-term land lease and owns the building in which it assembles thin film
transistor ("TFT") and super-twist nematic ("STN") displays. The acquisition,
which was accounted for by the purchase method of accounting, consisted of an $8
million cash payment, the assumption of $2.4 million in debt and an earn-out
provision based on specific revenue targets. The Company paid the purchase price
from its existing credit facility with Wells Fargo HSBC Trade Bank N.A. and cash
generated from operations.
7
3. INVENTORIES
Inventories consisted of the following (in thousands):
April 30, October 31, 2004
2005
------------------- --------------------
Finished goods $ 1,527 $ 917
Work-in-progress 2,177 1,820
Raw materials 4,957 3,510
Less: reserve for obsolete inventories (404) (467)
------------------- --------------------
Total inventories $ 8,257 $ 5,780
=================== ====================
4. PREPAID EXPENSES AND OTHER CURRENT ASSETS
Prepaid expenses and other current assets consisted of the following (in thousands):
April 30, October 31, 2004
2005
------------------- --------------------
Prepaid expenses $ 672 $ 259
Advances to suppliers 411 447
PRC - VAT recoverable 675 145
Other 507 309
------------------- --------------------
Total prepaid expenses and other current assets $ 2,265 $ 1,160
=================== ====================
5. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consisted of the following (in thousands):
April 30, October 31, 2004
2005
------------------- --------------------
Land and buildings $ 7,704 $ 1,185
Furniture, fixtures and equipment 4,071 2,503
Machinery 15,432 14,476
Leasehold improvements 4,497 410
Construction in progress 66 1,857
------------------- --------------------
31,770 20,431
Less: accumulated depreciation (4,844) (4,013)
------------------- --------------------
Net property, plant and equipment $ 26,926 $ 16,418
=================== ====================
6. ACCRUED LIABILITIES
Accrued liabilities consisted of the following (in thousands):
April 30, October 31, 2004
2005
------------------- --------------------
Accrued payroll and related liabilities $ 1,369 $ 1,335
Accrued staff hostel expenses 186 190
Accrued inventory purchases 133 27
Accrued royalties - 38
Accrued PRC government management fees 94 72
Accrued asset acquisition costs 640 1,560
Accrued commissions 206 -
Other accrued liabilities 1,058 366
------------------- --------------------
Total accrued liabilities $ 3,686 $ 3,588
=================== ====================
8
7. LINE OF CREDIT
The Company has a $20,000,000 credit line with Wells Fargo
HSBC Trade Bank N.A. The credit line, which expires on March 30, 2006,
has an interest rate of prime plus 0.5% per annum or LIBOR plus 3% with
a 30-, 60-, 90- or 180-day option, an unused line fee of 0.1%, and
includes certain financial covenants. At April 30, 2005, the
outstanding balance was $11,739,000. There was approximately $8,261,000
available under the line at April 30, 2005.
8. STOCKHOLDERS' EQUITY
Stock Option Plans
During the six months ended April 30, 2005, there were 382,800
options granted at a price equal to or greater than market price at the
date of the grant. There were no options that were cancelled or
expired, and 737,250 options were exercised under the employee stock
option plans at prices that ranged from $0.15 to $6.70 per share.
The following table illustrates the effect on net income and
earnings per share as if the Company had applied the fair value
recognition provisions of SFAS No. 123, "Accounting for Stock-Based
Compensation", to stock-based employee compensation:
Six Months Ended Three Months Ended
April 30 April 30
2005 2004 2005 2004
---------------- -- ---------------- -- -------------------- -- ----------------
Net income (loss) as reported $ 2,488 $ 172 $ 1,473 $ (449)
Deduct: Total stock-based
employee compensation expense
determined under fair value
based method for all awards. (198) (41) (99) (21)
---------------- ---------------- -- -------------------- ----------------
Pro forma net income (loss) $ 2,290 $ 131 $ 1,374 $ (470)
================ ================ ==================== ================
Earnings per share:
Basic - as reported $ 0.08 $ 0.01 $ 0.05 $ (0.02)
================ ================ ==================== ================
Diluted - as reported $ 0.08 $ 0.01 $ 0.05 $ (0.02)
================ ================ ==================== ================
Basic - pro forma $ 0.07 $ 0.01 $ 0.04 $ (0.02)
================ ================ ==================== ================
Diluted - pro forma $ 0.07 $ 0.01 $ 0.04 $ (0.02)
================ ================ ==================== ================
In December 2004, the FASB issued SFAS No. 123R that amends SFAS
No. 123 "Accounting for Stock-Based Compensation," to require public
entities (other than those filing as small business issuers) to report
stock-based employee compensation in their financial statements. The
Company will be required to comply with the provisions of SFAS No.
123R as of November 1, 2005, the begenning of it's next fiscal year.
The Company currently does not record compensation expense related to
its stock-based employee compensation plans in its financial
statements. The Company currently makes a pro-forma disclosure of the
expense related to its Stock-Based compensation plans.
9
Common Stock Issued
-------------------
During the six months ended April 30, 2005, the Company issued
1,109,073 shares of common stock. Of these 51,948 shares of the Company's
common stock were issued accordance with the employment agreement with the
Company's Chairman and CEO as a signing bonus at a share price of $3.85,
the fair market value as of the date of the agreement. The expense related
to the issuance of these shares was accrued in the fiscal year ended
October 31, 2004. The Company issued 2,500 shares as compensation to a
consultant at a share price of $5.45, the fair market value as of the date
of the agreement. The Company issued 317,375 shares of the Company's common
stock through exercise of warrants at exercise prices from $0.16 to $0.75
per share. The Company issued 734,750 shares of the Company's common stock
through exercise of stock options issued under the Company's stock option
and incentive plans at exercise prices from $0.15 to $6.70 per share.
9. COMMITMENTS
On November 23, 2004 the Company entered into a lease for the
relocation of the Company's corporate headquarters. The lease began on May
1, 2005 coinciding with the expiration of the lease for the premises that
the Company previously occupied. The term of the lease is five (5) years
with an option to renew for two additional three-year terms. The initial
annual rent is $129,600.
On February 17, 2005, the Company entered into a one-year eight-day
lease to relocate the Company's office facility in Hong Kong. This lease
replaces the lease on the current premises which has expired. The annual
rental is $9,076.
On March 30, 2005 the Company signed a one-year renewable agreement
with The Wells Fargo HSBC Trade Bank N.A. for a $20,000,000 revolving line
of credit at an interest rate of prime plus 0.50% per annum or LIBOR plus
3% with a 30-, 60-, 90-, or 180-day option which includes certain financial
covenants. This line replaces the Company's current asset-based line with
Wells Fargo Business Credit, Inc.
10. SEGMENT AND GEOGRAPHIC INFORMATION
The Company produces displays and display modules for the end products
of OEM and EMS manufacturers and hence operates in one segment. However,
the Company has four major geographic territories where it sells and
distributes essentially the same products. These are the United States,
China (including Hong Kong, Asia (excluding Hong Kong and China) and
Europe. The sales and assets by geographical area were (in thousands):
10
------------------------------------------------------------ --------------------- ---- --------------------
Revenues for Six Months Ended: April 30, 2005 April 30, 2004
------------------------------------------------------------ --------------------- ---- --------------------
United States $ 9,787 $ 8,019
China (including Hong Kong) 6,878 3,142
Asia (excluding Hong Kong and China) 18,693 4,231
Europe 4,328 3,729
Other 1,103 1,299
--------------------- --------------------
Total $ 40,789 $20,420
===================== ====================
------------------------------------------------------------ --------------------- ---- --------------------
Revenues for Three Months Ended: April 30, 2005 April 30, 2004
------------------------------------------------------------ --------------------- ---- --------------------
United States $ 5,286 $ 4,347
China (including Hong Kong) 4,840 1,555
Asia (excluding Hong Kong and China) 10,802 2,181
Europe 1,376 1,903
Other 372 638
--------------------- --------------------
Total $ 22,676 $ 10,624
===================== ====================
------------------------------------------------------------ --------------------- ---- --------------------
"Long Lived" Assets April 30, 2005 October 31, 2004
------------------------------------------------------------ --------------------- ---- --------------------
United States $ 81 $ 110
China (including Hong Kong) 26,845 16,308
--------------------- --------------------
Total $ 26,926 $ 16,418
===================== ====================
11. SUBSEQUENT EVENT
On May 16, 2005 the Company received notification from the PRC of the
successful transfer of the business license from Three-Five Systems, Inc.
to the Company.
11
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF THE FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Except for statements of historical facts, this section contains
forward-looking statements involving risks and uncertainties. You can identify
these statements by forward-looking words including "believes," "considers,"
"intends," "expects," "may," "will," "should," "forecast," or "anticipates," or
the negative equivalents of those words or comparable terminology, and by
discussions of strategies that involve risks and uncertainties. Forward-looking
statements are not guarantees of our future performance or results, and our
actual results could differ materially from those anticipated in these
forward-looking statements. We wish to caution readers to consider the important
factors, among others, that in some cases have affected and in the future could
affect our actual results and could cause actual consolidated results for fiscal
year 2005, and beyond, to differ materially from those expressed in any
forward-looking statements made by or on behalf of the Company. These factors
include without limitation, the ability to obtain capital and other financing in
the amounts and times needed, realization of forecasted income and expenses by
the PRC Companies (as defined herein), initiatives by competitors, price
pressures, changes in the political climate for business in the People's
Republic of China, the loss of one or more of our significant customers, and
other risk factors listed from time to time in the Company's SEC reports
including in particular, the factors and discussion in our Form 10-K for the
year ended October 31, 2004 and the factor listed below regarding the equipment
acquisition.
The following discussion is presented on a consolidated basis, and analyzes
our financial condition and results of operations for the three and six month
periods ended April 30, 2005 and April 30, 2004.
Overview
We manufacture LCDs and LCD modules and assemblies for major OEMs and EMSs
and offer design and engineering services related to those products. Our target
OEM customers operate in the telecommunications, utilities, automotive, medical,
computing, office equipment, home appliance and consumer electronics industries.
Our components and modules are used in various electronic products in these
industries. Developments in our industry over the years have resulted in lower
costs for displays. As a result of the decreased costs for LCDs, new display
designs and applications are being incorporated into products in new market
segments.
Historically we focused our efforts on decreasing costs and streamlining
our corporate structure, while focusing on development of new key customers with
high volume, multi-product needs for displays and display modules. We also
strengthened our core engineering competencies and manufacturing processes. We
also began to engage our customers at the design phase and emphasized our
engineering design capability and product quality to facilitate product changes
and the effective rollout of new products for our customers. More recently, with
our expanded base of strong customers, our focus has begun to shift to servicing
those customers through continual product changes and development of new
products. This focus has steadily improved our capacity utilization and resulted
in the acquisition of major accounts providing significant volume increase.
With the acquisition of an additional LCD line capable of producing color
LCDs, TFT assembly equipment and an assembly facility in Beijing People's
Republic of China, adding a total of 196,000 feet of manufacturing space, the
Company has increased capacity to offer existing and new customers an expanded
product line including CSTN and TFT products. The focus will be to utilize our
engineering and manufacturing competencies to fill the added capacity in order
to absorb overhead created by the expansion and maintain acceptable margins.
Our production is typically based on purchase orders received from
customers. However, for certain customers we may purchase components based on
non-binding forecasts or in anticipation of orders for products, consistent with
our involvement with the customers. We generally do not obtain long-term
commitments from our customers and economic changes in a customer's industry
could impact our revenue in any given period. One of our risks in manufacturing
results from inventories that may become obsolete due to customer product
changes and discontinuation of old products for next generation products. We
12
manage this risk through customer forecasts and our involvement in product
changes and engineering. Our design and engineering services also allow us to
better understand and meet our customers' needs and anticipate industry changes
that might impact our inventory and purchasing decisions. Although increases in
labor costs and other charges may impact cost of sales, our yield rate is one of
the most significant factors affecting our manufacturing operations and results.
As our industry experiences an overall upswing in its economic cycle we are
increasingly exposed to possible supply shortages of certain key components for
which alternative sources are not always available.
We are ISO-certified and emphasize our quality and manufacturing processes,
and we are generally pre-qualified through quality inspections by our major
customers. We emphasize incoming quality inspection and in-process inspection to
improve yield and reduce warranty claims and product returns. We believe that
our quality and manufacturing processes are our core strengths. We do not
anticipate any change in our practices and consider our investment in our
engineering and quality departments as a continuing cost of doing business.
Critical Accounting Policies and Estimates
The discussion and analysis of our financial condition presented in this
section are based upon our financial statements, which have been prepared in
accordance with generally accepted accounting principles in the United States of
America ("US GAAP"). During the preparation of our financial statements we are
required to make estimates and judgments that affect the reported amounts of
assets, liabilities, revenue and expenses, and related disclosure of contingent
assets and liabilities. On an ongoing basis, we evaluate our estimates and
judgments, including those related to sales returns, pricing concessions, bad
debts, inventories, investments, fixed assets, intangible assets, income taxes,
pensions and other contingencies. We base our estimates on historical experience
and on various other assumptions that we believe are reasonable under current
conditions. Actual results may differ from these estimates under different
assumptions or conditions.
Business Combinations
We account for business combinations in accordance with FASB Statement No.
141, Business Combinations. The Company completed the acquisition of Three-Five
(Beijing) Co., Ltd on April 8, 2005. The purchase price paid for the acquisition
was below the book value of the assets acquired. There has not yet been an
independent valuation of the value of the assets. Management has used their best
estimates and knowledge to determine that the book value of the assets acquired
is fairly stated. The final cost of the acquisition, including costs related to
the acquisition, may require adjustment.
Revenue Recognition
We recognize revenue from product sales in accordance with Staff Accounting
Bulletin (SAB) No. 104 "Revenue Recognition in Financial Statements." SAB No.
104 requires that revenue be recognized when all of the following conditions are
met:
.. Persuasive evidence of an arrangement exists;
.. Delivery has occurred or services have been rendered;
.. Price to the customer is fixed or determinable; and
.. Collectability is reasonably assured.
We recognize revenue from the sale of our products when the products are
shipped from our factories in China, provided collectability is reasonably
assured from the customer. Sales revenue is recorded net of discounts and
rebates except for prompt payment discounts, which are accounted for as an
operating expense. Returns and adjustments are booked as soon as they have been
assessed for validity.
13
Accounts Receivable
We maintain an allowance for doubtful accounts for estimated losses
resulting from the inability or unwillingness of our customers to make required
payments. We determine the adequacy of this allowance by regularly evaluating
individual customer receivables and considering a customer's financial
condition, credit history and current economic conditions.
Inventories
Inventories are stated at the lower of cost or market. Cost is determined
on the weighted average-cost basis. Costs included in the valuation of inventory
are labor, materials (including freight and duty) and manufacturing overhead.
Provisions are made for obsolete or slow moving inventory based on management
estimates. In November 2004 the FASB issued Statement No. 151, Inventory, an
amendment of ARB No. 43, Chapter. While retaining the general principle of ARB
43, Chapter 4, it amends ARB to clarify that:
. abnormal amounts of idle facilities, freight, handling costs, and
spoilage should be recognized as charges of the current period and
. allocation of fixed production overheads to inventories should be based on
the normal capacity of the production facilities.
Implementation of FASB Statement No. 151 is effective for inventory costs
incurred during fiscal years beginning after June 15, 2005 and should be applied
prospectively. Early application is permitted. The Company does not expect that
implementation of FASB Statement No. 151 will have a material financial impact
on the results of operations.
Stock Based Compensation
In December 2004, the FASB issued SFAS No. 123R that amends SFAS No. 123
"Accounting for Stock-Based Compensation," to require public entities (other
than those filing as small business issuers) to report stock-based employee
compensation in their financial statements. The Company will be required to
comply with the provisions of SFAS No. 123R as of November 1, 2005, the
begenning of it's next fiscal year. The Company currently does not record
compensation expense related to its stock-based employee compensation plans in
its financial statements. The Company currently makes a pro-forma disclosure of
the expense related to its Stock-Based compensation plans (See footnote No. 8 to
the financial statements).
Income Taxes
Pursuant to Financial Accounting Standards Board ("FASB") Statement of
Financial Standards ("SFAS") No. 109, "Accounting for Income Taxes," income
taxes are recorded based on current year amounts payable or refundable, as well
as the consequences of events that give rise to deferred tax assets and
liabilities. We base our estimate of current and deferred taxes on the tax laws
and rates that are currently in effect in the appropriate jurisdiction. Changes
in laws or rates may affect the current amounts payable or refundable as well as
the amount of deferred tax assets or liabilities. At April 30, 2005, we had
approximately $7,863,000 of net operating loss carry forward available resulting
in approximately $3,019,000 of deferred tax assets which are not included in our
balance sheet due to uncertainty of realizing them.
Results of Operations
Comparison of the Three and Six Months Ended April 30, 2005 and 2004.
Net Sales - Net sales were $22,676,000 and $10,624,000 for the quarters
ended April 30, 2005 and 2004 respectively, an increase of 113%. Net sales were
$40,789,000 and $20,420,000 for the six months ended April 30, 2005 and 2004,
respectively an increase of 100%. The increase for the three months and six
months ended April 30, 2005, can be attributed to the continuing success of the
Company's marketing plan which realigned the Company's customer base to
eliminate low volume customers and replace them with high volume customers as
well as increased capacity to accept additional orders through the addition of
our new LCD line at our North Campus and the addition of new assembly capacity
through the acquisition of Three-Five Beijing Co., Ltd.
14
Cost of Goods Sold - Cost of sales was 82% and 80% of net sales for the
quarters ended April 30, 2005 and 2004, respectively. Startup costs at the
Company's North Campus contributed to a 3% increase in cost of goods sold.
Increased raw material and transportation costs offset by absorption of
manufacturing overhead over an increased production output accounted for the
remaining difference. Cost of sales was 81% and 78% for the six months ended
April 30, 2005 and 2004, respectively. Start-up costs at the Company's North
Campus contributed to 2% or two-thirds of the increase. Increased raw material
and transportation costs offset by absorption of manufacturing overhead over an
increased production output accounted for the remaining increase.
General and Administrative - General and Administrative expenses increased
43% to $1,777,000 from $1,239,000 for the quarters ended April 30, 2005 and 2004
respectively. As a percentage of sales, General and Administrative expenses were
8% and 12% for the quarters ended April 30, 2005 and 2004, respectively. The
Company anticipates that this percentage relationship to sales will continue to
decrease in future periods. This cost increase is attributed to increased number
of employees and employee related expenses, increased professional fees (in part
due to outside consulting fees in connection with Sarbanes-Oxley Section 404
compliance), increased depreciation expense, increased rent and utilities
attributed to North Campus pre-opening, offset by favorable exchange rate
expense and reduced bad debt expense. The Company anticipates that costs
associated with Sarbanes Oxley Section 404 compliance will continue through the
fiscal year end as the Company prepares for its initial certification.
Significant elements of this expense include employee related expenses of
$891,000, rent and utility costs of $127,000 and professional fees of $264,000
for the quarter ended April 30, 2005. General and Administrative expenses
increased 58% to $3,695,000 from $2,345,000 for the six months ended April 30,
2005 and 2004 respectively. As a percentage of sales, General and Administrative
expenses were 9% and 12% for the six months ended April 30, 2005 and 2004,
respectively. The Company anticipates that this percentage relationship to sales
will continue to decrease in future periods. This cost increase is attributed to
the increased number of employees and employee related expenses, increased
professional fees (in part due to outside consulting fees in connection with
Sarbanes-Oxley Section 404 Compliance), increased depreciation expense,
increased rent and utilities attributed to North Campus pre-opening, offset by
favorable exchange rate expense and reduced bad debt expense. The Company
anticipates that costs associated with Sarbanes Oxley Section 404 compliance
will continue through the fiscal year end as the Company prepares for its
initial certification. Significant elements of this expense include employee
related expenses of $1,723,000, rent and utility costs of $392,000 and
professional fees of $603,000 for the six months ended April 30, 2005.
Selling, Marketing and Customer Service - Selling, Marketing and Customer
Service expenses increased to $584,000 from $481,000 for the quarters ended
April 30, 2005 and 2004 respectively, an increase of 21%. As a percentage of
sales, Selling, Marketing and Customer Service expenses were 3% and 5% for the
quarters ended April 30, 2005 and 2004 respectively. The increased expense can
be attributed to the increased number of employees and employee related expense,
commission expense (due to increased sales) and travel expense. Significant
elements of this expense consist of employee related expenses of $202,000,
commission expense of $268,000 and travel expense of $43,000 for the quarter
ended April 30, 2005. Selling, Marketing and Customer Service expenses increased
to $1,174,000 from $875,000 for the six months ended April 30, 2005 and 2004
respectively, an increase of 34%. As a percentage of sales, Selling, Marketing
and Customer Service expenses were 3% and 4% for the six months ended April 30,
2005 and 2004 respectively. The increased expense can be attributed to the
increased number of employees and employee related expense, commission expense
(due to increased sales) and travel expense. Significant elements of this
expense consist of employee related expenses of $381,000, commission expense of
$560,000 and travel expense of $82,000 for the six months ended April 30, 2005.
15
Engineering, Design, and Project Management - Engineering, design and
project management expenses were $169,000 and $190,000 for the quarters ended
April 30, 2005 and 2004 respectively, a decrease of 11%. The decrease is
attributable to decreased salary costs resulting from the retirement of the
Company's Chief Technical Officer. A significant element of this expense
includes employee salary and related expenses of $158,000. Engineering, design
and project management expenses were $251,000 and $331,000 for the six months
ended April 30, 2005 and 2004 respectively, a decrease of 24%. The decrease is
attributable to decreased salary costs resulting from the retirement of the
Company's Chief Technical Officer. A significant element of this expense
includes employee salary and related expenses of $235,000 for the six months
ended April 30, 2005.
Interest Expense (net) - Interest expense (net of interest income of
$12,000) increased 4% to $115,000 from $111,000 for the quarters ended April 30,
2005 and 2004 respectively. The increase is attributable to increased borrowings
on the Company's line of credit related to the acquisition of Three-Five Beijing
offset by a lower interest rate of prime plus 0.5% on the Company's new credit
facility with Wells Fargo HSBC Trade Bank. Interest expense (net of interest
income of $26,000) decreased 29% to $177,000 from $249,000 for the six months
ended April 30, 2005 and 2004 respectively. The is attributable to the Company's
repayment of all outstanding notes totaling $1,524,000 (at a 12% interest rate)
in May 2004, lower average monthly borrowings during the six months ended April
30, 2005 and the fact that the Company's current credit facility is at a much
lower rate of prime plus 0.5%.
Other Income / Expense - Other expense was $2,000 and $596,000 for the
quarters ended April 30, 2005 and 2004 respectively. The primary components of
other expense were rental income of $5,000 offset by other expense of $3,000.
Other income was $22,000 for the six months ended April 30, 2005 and other
expense was $573,000 for the six months ended April 30, 2004. Renal income was
the source of the other income.
Net Income - Net income was $1,473,000 ($0.05 per share basic and diluted)
and the net loss was $449,000 ($0.02 per share basic diluted) for the quarters
ended April 30, 2005 and 2004 respectively. Increased sales are the reason for
increase in net income. Net income was $2,488,000 ($0.08 per share, basic and
diluted) and $172,000 ($0.01 per share basic and diluted) for the six months
ended April 30, 2005 and 2004, respectively. Increased sales are the reason for
the increased net income.
Liquidity and Capital Resources
Adjusted for non-cash items, net income for the six months ended April 30,
2005 and 2004 resulted in net cash inflows from operations of $3,502,000 and
$676,000 respectively. Cash outflows as a result in changes in operating assets
and liabilities were $2,560,000 for the six months ended April 30, 2005
primarily resulting from increases in accounts receivable of $5,150,000,
increases in inventories of $477,000, decreases in prepaid expenses of $81,000,
increases in accounts payable of $3,737,000 (attributed to increased sales), and
decreases in accrued liabilities of $751,000, compared to cash outflows of
$780,000 for the six months ended April 30, 2004. Cash used in investing
activities was $11,608,000 ($8,229,000 for the acquisition of Three-Five Systems
Beijing) and $978,000 for the six months ended April 30, 2005 and 2004
respectively. The funds not related to the Three-Five Systems Beijing
acquisition were used primarily for tenant improvements and equipment
installation at the Company's North Campus which houses the new LCD line. Cash
inflows from financing activities were $8,704,000 and $5,369,000 for the six
months ended April 30, 2005 and 2004, respectively, primarily from the issuance
of common stock for exercise of stock options of $1,411,000, an increase of
$7,341,000 in outstanding debt on the Company's line of credit to acquire
Three-Five Beijing. Cash inflows from financing activities for the six months
ended April 30, 2004 were $5,369,000 primarily from a private placement of the
Company's common stock of $4,407,000 in December 2003.
The Company requires capital to repay certain existing fixed obligations,
to provide for additional working capital and to invest in capital equipment to
grow in accordance with its business plan. On March 30, 2005, the Company signed
a credit agreement with The Wells Fargo HSBC Trade Bank for a $20,000,000
revolving line of credit to be secured by the Company's assets. This line
replaced the Company's asset-based line of credit which only allowed for
borrowing against eligible accounts receivable. The line has certain financial
covenants, a term of one year and is renewable.
16
Management believes that current cash flow from operations will be
sufficient to maintain payments under and meet the covenants of the Wells Fargo
HSBC Trade Bank line of credit, and will be sufficient to meet its short term
and long term requirements. However, to meet anticipated growth plans, as well
as possible future business acquisitions or capital expenditures, the Company
may require additional capital, and may evaluate or seek additional capital
through debt or equity financing that will provide flexibility to move rapidly
to take advantage of growth opportunities that may be presented in the future.
The Company is not currently contemplating any such transactions, but may want
to prepare in advance for execution on such opportunities.
As of April 30, 2005, the Company has no off-balance sheet
arrangements.
Backlog
- -------
The Company's cancelable backlog at April 30, 2005 was $11,900.
On April 30, 2005 we had $2,918,000 of debt due within a year in addition
to $11,739,000 due on our credit line.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Currency Fluctuations
We sell a majority of our products in U.S. dollars and pay for our material
components in U.S. dollars, Hong Kong dollars, Chinese RMB and Japanese yen. We
pay labor costs and overhead expenses in U.S. dollars, RMB and Hong Kong
dollars.
The exchange rate of the Hong Kong dollar to the U.S. dollar has been fixed
by the Hong Kong government since October 1983 at approximately HK$7.80 to
US$1.00 through the currency issuing banks in Hong Kong and accordingly has not
in the past presented a currency exchange risk. This could change in the future
as there has been discussion in some circles concerning the advantages of the
floating rate.
Effective January 1, 1994, China adopted a floating currency system whereby
the official exchange rate equaled the market rate. Since the market and
official RMB rates were unified, the value of the RMB against the U.S. dollar
has been stable. There is currently pressure being exerted by the U.S. and
others for the RMB to be permitted to float more freely but it is unclear
whether this would lead to an upward movement in the exchange rate between the
RMB and the U.S. dollar. It is not currently possible to hedge against movement
in the RMB exchange rate through conventional means. We are thus not hedged and
remain exposed to movement in the exchange rate. We incur approximately 30% of
our expenses in RMB and have negligible RMB revenue; an increase in the value of
the RMB would thus have an adverse affect on our operating margins and minimal
effect on our monetary assets denominated in RMB as cash holdings which broadly
equate to the remaining installment of RMB 3.3 million (US$ 403,000 at current
rates) due on a mortgage repayable in June 2005.
We also incur liabilities in Japanese Yen from the purchase of raw
materials. We do not currently hedge against this exposure and are thus exposed
to exchange rate movement at present.
Interest Rate Risk
Our principal exposure to interest rate changes is on our credit line which
is based on prime rates in the U.S.
Inflation Risk
Although inflation has remained low in recent years in the markets in which
we currently sell and expect to do so for the foreseeable future, the general
inflation rate in China is higher with wage inflation expected to run between
five and ten percent annually. Such inflation represents a risk to our
profitability if sustained and not compensated for by a movement in exchange
rates or productivity improvements.
17
ITEM 4. CONTROLS AND PROCEDURES
The Company's management with the participation of principal executive and
financial officers evaluated the effectiveness of the Company's disclosure
controls and procedures as defined by Rule 13a-15(e) of the Exchange Act as of
the end of the period covered by this report. The Company's disclosure controls
and procedures are designed to ensure that information required to be disclosed
by the Company in reports it files or submits under the Exchange Act are
recorded, processed, summarized and reported on a timely basis. Based upon their
evaluation, the Company's principal executive and financial officers concluded
that the Company's disclosure controls and procedures are effective to
accumulate and communicate to the Company's management as appropriate to allow
timely decisions regarding disclosure.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
We are not a party to any legal proceedings and there are no material legal
proceedings pending with respect to our property, though from time to time, we
may be involved in routine litigation incidental to our business.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
On February 25, 2005, the Company entered into a consulting agreement for
services related to raw material procurement whereby the Company agreed to issue
2,500 shares of restricted common stock. The sale and issuances of common stock
in private placement listed above was made by us in reliance upon the exemption
from registration provided under Regulation S for offshore transactions
promulgated by the SEC under federal securities laws. The offer and sale was
made to a non-U.S. person as defined in Rule 902 under the Securities Act in an
off-shore transaction; the securities sold were subject to transfer
restrictions, and the certificates for those shares contained an appropriate
legend stating that they had not been registered under the Securities Act and
may not be offered or sold absent registration or pursuant to an exemption there
from.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
-NONE-
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
At the Annual Meeting of Shareholders held on March 23, 2005 at the
Larkspur Landing in Roseville, California the shareholders elected the directors
of the Company, approved a proposal to amend the Certificate of Incorporation to
increase the number of authorized shares of common stock from 40,000,000 to
100,000,000 and approved a proposal to adopt the 2005 Equity Incentive Plan.
18
- ---------------------------------------- -----------------------------------------------------------------------------
Votes
- ---------------------------------------- -----------------------------------------------------------------------------
Proposal #1 - Directors For Against Withheld Abstention Broker Non-Votes
- ---------------------------------------- -------------- ------------- ----------- ------------- ----------------------
Thomas A. Lacey 26,143,241 - 639,823 - -
- ---------------------------------------- -------------- ------------- ----------- ------------- ----------------------
Ronald A. Cohan 26,759,128 - 23,936 - -
- ---------------------------------------- -------------- ------------- ----------- ------------- ----------------------
Mark A. Christensen 26,766,708 - 16,356 - -
- ---------------------------------------- -------------- ------------- ----------- ------------- ----------------------
Anthony G. Genovese 25,947,676 - 835,388 - -
- ---------------------------------------- -------------- ------------- ----------- ------------- ----------------------
Glenn E. Neland 26,766,978 - 16,086 - -
- ---------------------------------------- -------------- ------------- ----------- ------------- ----------------------
Timothy Nyman 26,759,378 - 23,686 - -
- ---------------------------------------- -------------- ------------- ----------- ------------- ----------------------
D. Paul Regan 26,758,963 - 24,101 - -
- ---------------------------------------- -------------- ------------- ----------- ------------- ----------------------
- ---------------------------------------- -----------------------------------------------------------------------------
Votes
- ---------------------------------------- -----------------------------------------------------------------------------
For Against Withheld Abstention Broker Non-Votes
- ---------------------------------------- -------------- ------------- ----------- ------------- ----------------------
Proposal #2 - Amendment to the 25,699,451 1,053,822 - 29,791 -
Certificate of Incorporation to
increase the number of authorized
shares of common stock
- ---------------------------------------- -------------- ------------- ----------- ------------- ----------------------
- ---------------------------------------- -----------------------------------------------------------------------------
Votes
- ---------------------------------------- -----------------------------------------------------------------------------
For Against Withheld Abstention Broker Non-Votes
- ---------------------------------------- -------------- ------------- ----------- ------------- ----------------------
Proposal #3 - Adoption of the 2005 12,374,408 1,646,968 - 44,163 12,717,525
Equity Incentive Plan
- ---------------------------------------- -------------- ------------- ----------- ------------- ----------------------
19
ITEM 5. OTHER INFORMATION
On March 30, 2005, the Company, as previously announced, entered into an
agreement to purchase the outstanding shares of Three-Five Systems Beijing Co.,
Ltd and certain other manufacturing equipment from Three-Five Systems, Inc.
("TFS"). On April 8, 2005, the Company closed the transaction, depositing the $8
million cash purchase price into an escrow account, to be released upon approval
of the transfer by the Beijing authorities. As part of the acquisition, the
Company assumed $2.4 million in debt, and agreed to an earn-out provision based
on specific revenue targets. The Company paid the purchase price from its
existing credit facility with Wells Fargo HSBC Trade Bank N.A. and cash
generated from operations. On May 25, 2005, the Company entered into Amendment
No. 1 to the Purchase Agreement to clarify, amend and restate the terms
regarding designated assets, inventory and assumption of certain liabilities and
clarify the convent to keep separate financial results to calculate the
earn-out.
ITEM 6. EXHIBITS
Exhibits -
10.1 Purchase Agreement between International DisplayWorks,
Inc. and International DisplayWorks (Hong Kong) Limited
and Three-Five Systems, Inc., TFS International, Ltd.,
and Three-Five Systems (Beijing) Co., Ltd. dated March
30, 2005(1)
10.2 Amendment No. 1 to the Purchase Agreement between
International DisplayWorks, Inc. and International
DisplayWorks (Hong Kong) Limited and Three-Five
Systems, Inc., TFS International, Ltd., and Three-Five
Systems (Beijing) Co., Ltd. dated May 25, 2005
31.1 Certification of Chief Executive Officer pursuant to
Section 302 of the Sarbanes-Oxley Act
31.2 Certification of Chief Financial Officer pursuant to
Section 302 of the Sarbanes-Oxley Act
32. Certification of Chief Executive Officer and Chief
Financial Officer pursuant to Section 906 of the
Sarbanes-Oxley Act
(1) Incorporated by reference from the Company's current report on Form 8-K
filed on March 31, 2005 (File No. 000-27002)
20
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.
INTERNATIONAL DISPLAYWORKS, INC.
Date: /s/ Jeffrey G. Winzeler
June 6, 2005 --------------------------------------------------
Jeffrey G. Winzeler, Chief Financial Officer
(Principal Accounting Officer and Principal
Financial Officer)
21