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United States
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
( X ) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year end December 31, 1998
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 number: 0-28082
KVH Industries, Inc.
(Exact name of Registrant as specified in its charter)
Delaware 05-0420589
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
50 Enterprise Center, Middletown, RI 02842
(Address of principal executive offices) (Zip code)
(401) 847-3327
(Registrant's telephone number including area code)
Securities registered pursuant to Section 12(b) of the Act: None.
Securities registered pursuant to section 12(g) of the Act: Common Stock, $0.01
par value, per share.
(Title of Class)
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 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 ( ).
As of March 23, 1999, the aggregate market value of the voting stock held
by non-affiliates of the Registrant was $7,096,642 based upon a total of
4,125,955 shares held by non-affiliates and the last sale price on that date of
$1.72. As of March 23, 1999, the number of shares outstanding of the
Registrant's common stock was 7,205,928.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Company's definitive Proxy Statement relating to the
1999 Annual Meeting of Shareholders are incorporated by reference into Part III
of this Report on Form 10-K. The Company anticipates that its definitive Proxy
Statement will be filed with the Securities and Exchange Commission within 120
days after the end of the Company's fiscal year end December 31, 1998.
INDEX TO FORM 10-K
PART I Page
Item 1. Business 3
Item 2. Properties 8
Item 3. Legal Proceedings 9
Item 4. Submission of Matters to a Vote of Security Holders 9
PART II
Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters 9
Item 6. Selected Financial Data 10
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations 11
Item 7A. Market Risk Disclosure 16
Item 8. Financial Statements and Supplementary Data 16
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 16
PART III
Item 10. Directors and Executive Officers of the Registrant 16
Item 11. Executive Compensation 16
Item 12. Security Ownership of Certain Beneficial Owners and Management 16
Item 13. Certain Relationships and Related Transactions 16
PART IV
Item 14. Exhibits, Financial Statement Schedule, and Reports on Form 8-K 17
"Safe Harbor" statement under the Private Securities
Litigation Reform Act of 1995
With the exception of historical information, the matters discussed in this
Annual Report on Form 10-K include certain forward-looking statements that
involve risks and uncertainties. Among the risks ands uncertainties to which the
Company is subject are product life cycles, technological change, the Company's
relationship with its significant customers, market acceptance of new product
offerings, reliance on outside resources such as satellite networks, dependence
on key personnel, fluctuations in annual and quarterly performance and worldwide
economic conditions. As a result the actual results realized by the Company
could differ materially from the statements made herein. Shareholders of the
Company are cautioned not to place undue reliance on forward-looking statements
made in the Annual Report on Form 10-K or in any document or statement referring
to this Annual Report on Form 10-K. For a more detailed discussion of risks and
uncertainties, see "Management's Discussion and Analysis of Financial Condition
and Results of Operations--Forward Looking Statements."
PART I
Item 1. Business.
Overview
KVH Industries, Inc. ("KVH" or the "Company") was organized in Rhode Island
in 1978 and was reincorporated in Delaware on August 16, 1985. The Company
completed its initial public offering in April 1996. The Company's executive
offices are located at 50 Enterprise Center, Middletown, RI, and its telephone
number is (401) 847-3327. Unless the context otherwise requires, references to
KVH or the Company include KVH Industries, Inc. and its Danish sales subsidiary.
KVH utilizes its proprietary fiber optic, autocalibration and fluxgate
technologies to produce sensor systems with multiple market applications. The
Company currently sells its sensors as integrated components of navigation and
satellite communications systems for mobile marine and land applications in the
commercial, military and original equipment manufacturers ("OEM") markets. KVH's
digital navigation systems provide accurate, real-time heading, orientation,
position and pointing information. The Company's satellite communications
systems provide two-way voice, fax and data connections and deliver television
and certain data via direct broadcast satellite (DBS) services.
Since introducing the world's first commercial digital fluxgate compass in
1982, KVH has demonstrated a commitment and the ability to continually advance
the capabilities and applications of its sensors and the systems into which they
are integrated. KVH first enhanced its stand-alone compass for sailing vessels
by developing proprietary software that automatically calibrated the system. The
Company further increased its marine product capabilities by incorporating
Global Positioning System ("GPS") compatibility for precise location data,
adding gyroscopes to measure pitch, roll and yaw, enhancing display readability
and designing compact, integrated systems that interface with other navigation
devices and sensors. By continually advancing product applications and designing
components to meet the needs of new customer groups, such as powerboat owners,
the Company broadened its reach in the marine market. To support its
international marketing of marine navigation products, the Company has
established a broad network of international distributors and in 1991
established KVH Europe A/S in Hoersholm, Denmark.
In its first foray into the land navigation market, KVH developed
militarized versions of its electronic compasses and began supplying them to the
United States Navy for amphibious vehicles in 1988. To expand its land
navigation product capabilities and market depth, the Company combined its
sensor and autocalibration technologies into fully integrated systems. In 1991,
the United States Marine Corps used KVH self-calibrating compasses for on-board
military land vehicle navigation during the Persian Gulf War. Subsequently, the
Company achieved increased accuracy and capabilities in its land mobile
navigation systems through GPS integration, incorporating navigation
capabilities for turreted armored vehicles and, ultimately, producing a fully
integrated tactical navigation system that provides heading, location and
targeting data to military vehicle commanders. Tactical navigation and digital
compass systems are sold directly to the United States Department of Defense and
the armed forces of other countries in Europe and the Middle East. Major defense
contractors, including United Defense LP and General Motors Corporation, also
incorporate KVH navigation products in manufacturing military land vehicles.
Sensor technologies were further leveraged when the Company created and
introduced in 1993 an active-stabilized antenna-aiming system that maintains a
continuous satellite link from moving platforms. KVH combined its sensors and
software to integrate real-time heading, orientation and position data and then
position the antenna to compensate for the ongoing, often severe directional
changes that vessels experience at sea. Initially, the antennas were used for
mobile marine voice transmission via Inmarsat M satellites. Ongoing advances in
satellite capabilities provide KVH with a continual flow of product
opportunities, as demonstrated by Inmarsat's launch of its mini-M satellite
constellation. The higher-powered mini-M satellites made it possible for the
Company to develop and in 1997 launch a system that is significantly smaller and
costs less per minute than earlier products while delivering mobile voice, fax
and data access worldwide. Further technological advances led to the 1998
introduction of one of the smallest and lowest-cost fully stabilized marine
telephony systems available for Inmarsat mini-M service.
In a parallel expansion of its stabilized antenna technology, in 1994 the
Company introduced its first TracVision(R) system to enable mobile television
reception via direct broadcast satellite ("DBS") providers. Additional
development efforts led to the 1998 launch of the world's smallest fully
stabilized antenna for mobile marine television reception with systems designed
for reception in North America and Europe. Also in 1998, the Company exploited
its TracVision capabilities and took a major step in enabling broadband data
delivery by offering users access to real-time stock market and weather
information. Most recently, KVH developed an advanced TracVision system that
incorporates the Company's newest digital gyro compass to provide vessel
navigation capabilities in addition to antenna control. The Company also has
developed a system for mobile television reception from land vehicles such as
recreational vehicles (RVs) and motor coaches. Mobile communications products
are marketed through the Company's third-party distributor network.
KVH enhanced its sensor capabilities in 1997 by acquiring the assets of the
fiber optic sensor group of Andrew Corporation. With no moving parts, fiber
optic sensors offer the benefits of long and stable operation and a lack of
sensitivity to shock and acceleration that makes them valuable in a broad range
of environments. For example, integrated fiber optic gyroscopes (FOGs) have the
ability to significantly increase heading and location accuracy at a lower cost
than comparable tactical navigation systems. Combining FOGs and the TracVision
control system can potentially enable highly accurate antenna pointing for the
impending X-, K- or Ka-band communication systems that will provide ultra-high
data rate transmissions. FOGs also have potential applications in military
navigation, turret stabilization, merchant vessel navigation, precision
agriculture, aviation flight control and positive train control. Fiber optic
products are manufactured at the Company's Tinley Park, Illinois, facility and
some development efforts are conducted at a St. Petersburg, Florida, facility.
Company Products
KVH has determined that there are significant opportunities for its
sensor-based systems in the mobile communications market where the worldwide
growth in demand for audio, data and video accessibility is eliciting
significant growth in satellite availability. Advantages that satellites offer
over land-based communications technologies include rapid service
implementation, broad market reach that is independent of customer density,
global access for mobile travelers throughout the world and broadband
capabilities. Bandwidth on demand is required for delivering television,
high-speed data and multimedia (e.g., Internet access, corporate networking and
video conferencing) services.
KVH is using its core sensor, robotic and software technologies to develop
systems that are synergistic with the escalating demand for mobile
communications applications and that benefit from the related growth in
satellite availability. The Company also recognizes that mobile users need, and
are seeking, integrated, simplified access to those capabilities. As a result,
the Company focuses on designing turnkey and OEM systems in the areas of
broadcast, datacast and telephony.
A key component of KVH communications products is the Company's proprietary
three-axis, fully stabilized antenna, which maintains satellite contact with
geostationary satellites when a vessel or vehicle platform is in motion. The
antennas use a KVH digital gyro compass and inclinometer to measure precisely
the pitch, roll and yaw of an antenna platform in relation to the earth. The
Company's proprietary stabilization and control software and on-board
microprocessors use that data to compute the antenna movement necessary to
maintain satellite contact and then transmit precise motor control instructions
to aim the antenna. KVH has designed its antennas to permit rapid initial
acquisition of the satellite signal without operator intervention.
KVH sells two telephony systems, Tracphone 25 and Tracphone 50, to mobile
users worldwide. The Company introduced Tracphone 25 in 1998 and that year the
system was named Best Satellite Telephone System by the National Marine
Electronics Association ("NMEA"). Tracphone 50, which was introduced in 1997, is
used primarily on larger vessels such as fishing boats and bulk carrier fleets.
Basic prices for the systems are $7,000 and $8,000, respectively. Tracphones
deliver voice, fax and data via the mini-M satellite constellation operated by
Inmarsat (the International Maritime Satellite Organization), a consortium of 79
countries that operate a network of geostationary satellites providing worldwide
communications services through mobile terminals on air, sea and land. The
per-minute airtime rates for mini-M service, which average $2.40 compared to
Iridium's voice-only service for $5.00-$9.00 and Inmarsat's A/B services for
$7.00, gives the Company an additional competitive edge.
Under a new 1998 co-marketing agreement with American Mobile Satellite
Corporation ("AMSC"), the Company also offers customers AMSC's cost-effective
SKYCELL services with certain Tracphone sales. As a result of the collaborative
agreement, KVH has become an authorized SKYCELL Agent and is supporting both
hardware sales and services for AMSC Tracphones. The Tracphones covered by the
agreement were produced under an earlier $10.2-million contract with AMSC and
these units have been incorporated into KVH's telephony line. AMSC Tracphones
range in price from $5,500 to $6,900 and SKYCELL service covers as far north as
the Bering Sea and as far south as the northern tip of South America, including
all of the Caribbean. Since SKYCELL service costs are significantly lower than
global Inmarsat service, KVH telephone customers can benefit from a more
cost-effective service for North American coverage and use mini-M service for
global coverage. Distributors in the KVH network sell AMSC packages for SKYCELL
Satellite Telephone Services and the Company is using its dealer base to promote
Tracphone and service package sales. A three-year agreement between KVH and
Station 12 to co-market Tracphone 50 and Altus service will end in August 2000.
KVH markets all of its communication products through a broad network of more
than 260 national and international dealers.
KVH also sells DBS antenna systems for mobile television and data
reception. Marine systems include TracVision II, which was named Best Satellite
Television System by NMEA in 1998, for coverage in North America and
TracVision(R) 45 for coverage in a range of European countries. In North
America, TracVision II users can choose to subscribe to a variety of services
from any of three DBS providers: DIRECTV(R), a subsidiary of GM Hughes
Electronics, U.S. Satellite Broadcasting, Inc. ("USSB(R)") and EchoStar(R).
TracVision 45 provides television reception via Astra and Hotbird satellite
service to mariners in Europe, primarily in the coastal waterways of Germany,
The Netherlands, Belgium, France and sections of the United Kingdom. With
TracVision antennas, mariners can access such provider services as laser disc
quality television, subscription programming, pay-per-view services and
CD-quality audio channels. KVH introduced TracVision II in 1997 and launched
TracVision 45 in 1998. The Company is developing a TracVision II upgrade that
incorporates an optional KVH GyroTrac that controls antenna pointing and
integrates with other electronic systems such as radar and autopilots.
TracVision turnkey systems range in price from $5,000 to $7,100. Service
activation capabilities are built in and costs depend upon which packages a user
selects when establishing service with the provider.
KVH plans to introduce TracVision LM, its first land mobile satellite
communications product and another evolution in the Company's stabilized antenna
product line, in 1999 at a cost of $2,995. TracVision LM is designed to
integrate with television systems to deliver DBS channels to on-the-move
recreational and sports utility vehicles, motor coaches, vans, mini-vans and
long-haul trucks.
KVH also sells sensor-based products into marine and military markets.
Compass systems utilize the Company's digital fluxgate heading sensor to sample
the surrounding magnetic field and output precise heading data. These signals
are relayed to an on-board microprocessor, where filtering and averaging
algorithms developed by the Company translate the output to stable heading
information. The Company's proprietary autocalibration software continuously and
automatically compensates for the effects of magnetic interference. In highly
dynamic applications where greater accuracy and fully stabilized heading output
is required, KVH integrates the sensor with one or more angular rate gyros and
inclinometers. This integration provides three-dimensional error correction and
stabilization capabilities previously available only from more costly systems.
The Company is integrating FOG sensors into its navigation and communication
product lines to create enhanced systems with broader market potential.
The Azimuth GyroTrac introduced in 1998 is the successor to the Company's
Azimuth Digital Gyro Compass, which the NMEA named Best Gyro Compass in 1998.
The newly designed system incorporates in one package multiple navigation
capabilities that previously were available as options, thereby reducing the
overall cost to customers and making installation easier and more efficient.
NMEA also selected the Company's Azimuth 1000 as Best Electronic Compass in
1998. In addition to its Azimuth product line, the Company sells Sailcomp
digital compass systems, the Quadro line of integrated instrument systems and
DataScope, a hand-held compass and rangefinder that also is used in outdoor,
military, technical, sporting and commercial applications.
In the military market, KVH sells TACNAV systems in a variety of
configurations ranging from a simple GPS-compatible compass system with a single
commander's display to a complete, integrated system that provides full tactical
navigation and targeting capabilities and includes up to three separate
commander's, gunner's and driver's displays. TACNAV systems are installed in a
variety of light-armored fleets, including the United States AAV-7, LAV-25 and
Bradley ODS, the Swedish Army's CV90 fleet and the Canadian Army's RECCE and
APC.
Several new TACNAV orders that contributed modest revenues in 1998 have
potential for more significant sales going forward. The United States Army
extended its TACNAV use by installing systems in National Guard vehicles, the
first deployment that expanded upon the initial contracted applications. TACNAV
systems also were selected in 1998 as a key component for testing in the U.S.
Army's Task Force XXI Battle Command Brigade and Below (FBCB2) program. FBCB2 is
the digital battlefield effort that the Army has underway to provide battlefield
commanders with comprehensive, real-time digital information, electronic
coordination and situational awareness through an integrated tactical computer
system. Also in 1998, the United States Marine Corps selected TACNAV Light
systems for a rebuild of AAV-7's.
With the aid of Small Business Innovation Research (SBIR) grants awarded in
1998, the Company is integrating fiber-optic components to enhance the
performance of TACNAV systems. KVH is developing ToFOG Navigator, a
next-generation upgrade to TACNAV, to offer the military increased accuracy in
pointing and targeting over the TACNAV system. ToFOG Navigator also is designed
to solve the problem of GPS jamming, which the United States military has
identified as an existing and growing problem with potentially serious
consequences in battlefield situations. The Company is integrating GPS, FOGs and
accelerometer sensors to create a three-axis, non-magnetic fiber optic gyroscope
that will deliver reliable, highly accurate navigation and targeting
capabilities in mobile environments. The system is designed to increase
bandwidth, improve accuracy and ensure the continuous delivery of attitude and
azimuth functions even when GPS is blocked at less cost than existing inertial
systems. KVH also sells its FOG sensors and a variety of digital heading
sensors, stabilized gyro compasses, rate sensors, inclinometers, sensing coils
and other standard sensors and sensor systems to a variety of commercial OEMs.
Sales and Marketing. The Company sells its sensor products and systems
through a variety of channels, including a direct sales force and a network of
dealers, value-added resellers, distributors and sales representatives. KVH's
commercial and recreational marine navigation products are sold through a
domestic dealer network of more than 400 catalog chain outlets, including West
Marine, Boaters' World and Boat U.S., more than 200 technical marine electronics
value-added resellers, over 60 overseas distributors, and are supported through
an independent manufacturer's sales representative network in all domestic sales
regions. KVH markets its military navigation products to the armed forces of the
United States and other countries and to OEM manufacturers through a direct
sales force, distributors and sales representatives. The Company also uses its
direct sales force, distributors and sales representatives to sell embedded
sensors and sensor systems to a broad range of OEM manufacturers, including
Lockheed, Harris and Raytheon. A world-wide network of technical dealers and
distributors established by KVH sells the Company's antenna-aiming systems
directly to both OEM manufacturers of satellite telephone transceivers and as
turnkey systems to end-users. FOG sensors are sold directly to OEM customers
through the same distribution system that the Company utilizes to sell its
commercial digital sensors. The Company's agreements with its dealers, value
added resellers, distributors and sales representatives generally are
non-exclusive. The Company's products are sold in Europe through KVH Europe A/S
and elsewhere in the world through a network of distributors.
Until recently, a significant portion of the Company's sales depended on a
small number of customers placing large orders. During 1998 the Company made
significant progress in shifting its communication revenues towards stronger
direct sales and away from a predominance of OEM sales, a strategy that the
Company initiated in 1997. The Company expects this strategy to replace sporadic
and notable variances in sales revenues with a more level revenue stream from
repeat orders and a broader customer base, particularly in the communications
industry. (See "Management's Discussion and Analysis of Financial Condition and
Results of Operations Forward Looking Statements-Risk Factors.")
Backlog. The Company includes in its backlog only firm orders for which it
has accepted a written purchase order. Many of the Company's orders are subject
to cancellation, generally without penalties. In particular, the Company's
military orders can generally be canceled at any time for the convenience of the
customer, without penalty other than recovery of the Company's actual costs
incurred through the date of cancellation.
The Company's revenue from commercial and recreational marine markets is
derived primarily from sales to non-stocking distributors, retail chains, OEMs
and other resellers who require short lead times for delivery of products to
end-users. The Company manufactures its products on a just-in-time basis.
Customers may cancel or reschedule orders without significant penalty and the
prices of products may be adjusted between the time the purchase order is booked
into backlog and the time the product is shipped to the customer. For these
reasons, the Company believes that its backlog in general, and its backlog of
commercial and recreational marine orders in particular, are not necessarily
meaningful in predicting the Company's actual revenue for any future period.
The Company's backlog at December 31 was $3.0 million in both 1998 and
1997. The Company expects to ship all its backlog at December 31, 1998, during
1999. The Company's total backlog at December 31, 1998 includes $2.0 million in
military navigation system orders and $1.0 million in mobile satellite
communication and FOG product orders. The Company's total backlog at December
31, 1997 included $1.4 million in military navigation system orders and $1.6
million in mobile satellite communication and FOG product orders.
Research and Development. The Company's research and development efforts are
based on its core sensor technologies and focused on developing new products
that will have broad application across existing and anticipated strategic
markets while improving performance and reducing manufacturing costs for
products in the market. A substantial portion of the Company's research and
development expenditure is devoted to basic research for core technology
development projects.
The Company's research and development activities fall into two categories:
internally funded research and development and customer-funded research and
development. The Company has financed virtually all of the cost of developing
the Company's marine navigation and satellite communications products. However,
much of the funding used to develop KVH's products for the military navigation
market, in which a significant engineering effort to develop enhanced features
requested by the customer is frequently involved, has been derived from
government sources. Development of the Company's core sensor technologies has
also been subsidized to a large extent by grants under the United States
government's SBIR program. Customer-funded research and development is included
in cost of sales.
The Company's total expenditures for research and development during 1998,
1997 and 1996 were as follows:
Year ended December 31,
1998 1997 1996
( in thousands)
Internally funded research and development $3,991 3,175 2,431
Customer funded research and development 936 630 869
Total research and development $4,927 3,805 3,300
Manufacturing. The Company's manufacturing operations consist primarily of
final assembly and test of products, materials procurement management and
quality assurance. The Company manufactures a unique, proprietary optical fiber
and certain subassemblies and components, such as fluxgate and fiber optic
sensor coils. The Company contracts with third parties for some services, such
as the fabrication and assembly of printed circuit boards, injection-molded
plastic parts and machined metal components.
KVH believes there are a number of acceptable vendors for most components
and third-party services used in manufac-turing its products and the Company
actively evaluates and selects suppliers for quality, dependability and cost
effective-ness. In some instances where KVH has obtained certain components and
services from a sole source to maintain quality control or develop a strategic
supplier relationship supplier, the Company has experienced production delays
due to insufficient supplies, delivery delays, poor quality control or failure
to meet design requirements. Future shortages, delays or other problems could
adversely affect production and, consequently, Company operating results. (See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Forward Looking Statements-Risk Factors.")
Competition. The Company encounters significant competition in each of its
markets. In the mobile satellite antenna-aiming market, the Company faces
competition with its antenna systems primarily from SeaTel Corporation, which
manufactures and markets a broad line of marine satellite communications and
satellite tracking equipment, including antenna systems for Inmarsat and DBS-TV
applications. For large dish marine satellite systems, SeaTel has greater
marketing experience and a larger installed base than the Company. A second
competitor, Datron Corporation, provides a stabilized antenna design for RV and
marine reception of DBS-TV that competes with the company's turnkey DBS
products. Other competitors include Nera Corporation and Westinghouse, plus a
few smaller manufacturers of active stabilized antenna-aiming systems that may
in the future develop antenna-aiming systems or other mobile satellite
communications systems or equipment. The Company's satellite phone products also
could be affected adversely by the advent of hand-held worldwide satellite
voice, data and fax services provided by companies such as Iridium World
Communications, Ltd., Globalstar Telecommunications Ltd. and ICO Global
Communications. Iridium, the only hand-held system currently on the market,
offers voice service only and the costs per minute exceed those available
through KVH's Inmarsat service by as much as 75 percent. KVH believes that there
are certain mobile applications where hand-held systems will be ineffective and
that the Company's antennas will be required. The Company has determined that
the principal bases of competition in the satellite communications market are
system performance, reliability, antenna size, cost and customer support.
In the market for military vehicle tactical navigation systems, the Company
competes with a large number of domestic and international companies that
produce dead-reckoning, inertial, GPS-based, or radio-based navigation systems
and systems that provide integrated magnetic heading and GPS navigation
capabilities. Most of these competitors have more experience than the Company in
manufacturing and marketing products for the military marketplace. The Company
believes that the principal bases of competition in the market for military land
vehicle navigation systems are: product performance; field reliability; ease and
flexibility of installation, maintenance and field modification; size and weight
of the unit; size and stability of the vendor; and price.
In the commercial and recreational marine navigation market, the Company's
principal competitors include a large number of domestic and international
companies that manufacture and market stand-alone digital compasses, digital
heading sensors and integrated instrument systems. The Company believes that the
principal bases of competition in the commercial and recreational marine
navigation market include product design and performance; flexibility and
ease-of-use; product quality and the quality of customer support; and vendor
reputation.
The Company's fiber optic gyro and embedded sensors compete with products
of a large number of companies that pro-duce magnetic sensors and gyroscopic
rate sensors for sale in the OEM market. A number of these sensors are less
accurate and substantially less expensive than the Company's products. Some
larger competitors in the gyroscopic rate sensor market are Litton Corporation
and Honeywell Corporation.
Intellectual Property
The Company's ability to compete effectively depends to a significant extent
on its ability to protect its proprietary information. The Company relies
primarily on trade secret laws, confidentiality procedures and licensing
arrangements to protect its intellectual property rights. The technology
licenses on which the Company relies include an angular rate gyro license from
Etak, Inc. and a license from Thomson Consumer Electronics, Inc. relating to
certain consumer electronic components.
The Company has 27 issued United States patents covering the Company's core
sensor and fiber optic technologies. The Company intends to seek further patents
on its technology, if appropriate. In addition to patents, the Company registers
its product brand names and trademarks in the U.S. and other key markets where
the company does business around the world. Expiration of the Company's patents
and trademarks range from March 3, 2000, to April 7, 2015.
The Company generally enters into confidentiality agreements with its
consultants, key employees and sales representatives and generally controls
access to and distribution of its technology, software and other proprietary
information. Despite these precautions, it may be possible for a third party to
copy or otherwise obtain and use the Company's products or technology without
authorization, or to develop similar technology independently. Also, the Company
has delivered certain technical data and information to the United States
government under procurement contracts, and the United States government may
have unlimited rights to use such technical data and information or to authorize
others to use such technical data and information.
Employees
As of December 31, 1998, the Company employed 154 full-time employees. The
decline in total employees from 191 at December 31, 1997, is due primarily to a
1998 restructuring when the Company reduced staff levels, reengineered processes
and streamlined job responsibilities. KVH utilizes the services of temporary or
contract personnel within all functional areas to assist on project-related
activities. The Company generally enters into non-disclosure agreements with
temporary or contract personnel or firms to protect the confidentiality of its
proprietary technology.
The Company believes its future success will depend in large part upon the
continued service of its key technical and senior management personnel and upon
the Company's continuing ability to attract and retain highly qualified
technical and managerial personnel. None of the Company's employees are
represented by a labor union. The Company has not experienced any work stoppage
and considers its relationship with its employees to be good.
Government Regulation
The Company's manufacturing operations are subject to various laws
governing the protection of the environment. These laws and regulations are
subject to change, and such change may require the Company to improve technology
or incur expenditures to comply with such laws and regulation. The Company
believes that it complies in all material respects with applicable environmental
laws and regulations and does not expect that any costs in connection with
complying with such laws or regulations will have a material effect on the
Company's results of operations, financial position or liquidity.
The Company is subject to compliance with the United States Export
Administration Regulations. Because some of the Company's products have military
or strategic applications, some products are on the Munitions List of the
International Trafficking in Arms Regulations ("ITAR") or are subject to a
requirement for an individual validated license from the Department of Commerce
in order to be exported to certain jurisdictions. Under the Exon-Florio
Amendment to the Defense Production Act of 1950, the United States President has
authority to investigate and unwind any investment by foreign persons that could
result in foreign control of an entity, if the President determines that foreign
control would threaten national security.
Item 2. Properties.
The Company's executive offices, administration, product development and
manufacturing facilities are housed in two adjacent buildings in Middletown,
Rhode Island containing approximately 75,000 and 6,000 square feet. The Company
occupies the smaller of the two facilities under a lease that expires in
September 1999 and purchased the larger facility in May 1996. KVH relocated
operations into the wholly owned, larger facility in 1997 and subsequently made
a one-time payment of $210,000 to reduce the leased space in its smaller
facility to 6,000 square feet from approximately 30,000 square feet. The smaller
facility is being used as a warehouse for Tracphone inventory and may be
rendered idle as product ships. The Company utilized approximately $4.0 million
of the proceeds of its 1996 public offering to purchase and build out the wholly
owned 75,000-square-foot building to accommodate manufacturing and operations
needs.
The Company's fiber optic sensor group occupies approximately 23,000 square
feet in a Tinley Park, Illinois, facility under a seven-year lease agreement
that began April 1, 1998. The cost to build out the facility was approximately
$800,000 and the initial annual rent is $152,121 with a 3% escalation each year
thereafter.
Item 3. Legal Proceedings.
In the ordinary course of business, the Company is a party to legal
proceedings and claims. In addition, from time to time, the Company has
contractual disagreements with certain customers concerning the Company's
products and services. In the opinion of the Company's management, none of the
current matters or proceedings, when ultimately concluded, are likely to have a
material adverse effect on the results of operations or financial position of
the Company and its subsidiary taken as a whole.
Item 4. Submission of Matters to a Vote of Security Holders.
No matters were submitted to a vote of security holders, through the
solicitation of proxies or otherwise.
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters.
The Company's common stock has traded on the NASDAQ National Market under
the symbol KVHI since April 8, 1996. As of [ ??], 1999, there were [ ] holders
of record of the Company's Common Stock. The Company has never declared or paid
any cash dividends on its Common Stock and does not intend to pay cash dividends
on its Common Stock in the foreseeable future. The Company intends to retain
earnings for reinvestment in its business.
The Company's stock commenced trading on April 2, 1996 at $6.50. On March
23, 1999, the closing sale price for the Company's Common Stock was $1.75.
1998 1997
---------------------- ----------------------
High Low High Low
First Quarter 6.25 3.25 8.00 6.25
Second Quarter 4.00 2.13 10.00 5.00
Third Quarter 3.50 1.75 9.50 7.13
Fourth Quarter 2.06 0.88 8.13 3.75
Item 6. Selected Financial Data.
The following selected financial data is derived from the Company's
financial statements. This data should be read in conjunction with Item 8,
Financial Statements and Supplementary Data, and with Item 7, Management's
Discussion and Analysis of Financial Condition and Results of Operations.
Year Ended December 31,
1998 1997 1996 1995 1994
(in thousands, except per share data)
Consolidated Statement of Operations:
Net sales $ 20,630 25,570 25,687 14,150 8,565
Cost of goods sold 14,100 14,085 14,607 8,447 5,082
------------ ------------ ------------ ------------ --------------
Gross profit 6,530 11,485 11,080 5,703 3,483
Operating expenses:
Research and development 3,991 3,175 2,431 1,279 727
Sales and marketing 4,470 3,738 3,040 2,494 1,652
General and administrative 2,225 1,895 1,624 1,058 763
------------ ------------ ------------ ------------ --------------
Operating (loss) profit (4,156) 2,677 3,985 872 341
Other (income) expense:
Interest (income) expense, net (57) (327) (278) 27 60
Other (income) expense (27) (95) 14 20 (172)
(Gain) loss on currency translation (198) (138) 50 (4) (44)
------------ ------------ ------------ ------------ --------------
(Loss) income before income tax
(benefit) expense (3,874) 3,237 4,199 829 497
Income tax (benefit) expense (1,608) 1,020 1,743 (365) (48)
------------ ------------ ------------ ------------ --------------
Net (loss) income $ (2,266) 2,217 2,456 1,194 545
============ ============ ============ ============ ==============
Per share information (1):
Net (loss) income per common share -
basic $ (0.32) 0.31 0.39 0.25 0.11
============ ============ ============ ============ ==============
Net (loss) income per common share -
diluted $ (0.32) 0.30 0.35 0.21 0.09
============ ============ ============ ============ ==============
Weighted average number of shares outstanding:
Basic 7,124 7,049 6,370 4,862 4,970
============ ============ ============ ============ ==============
Diluted 7,124 7,498 7,055 5,710 5,851
============ ============ ============ ============ ==============
December 31,
1998 1997 1996 1995 1994
(dollars in thousands)
Consolidated Balance Sheet Data:
Working capital $ 8,486 12,410 12,570 3,214 2,110
Total assets 18,746 21,805 21,544 7,931 3,644
Long-term obligations (2) 0 7 61 113 579
Total shareholders' equity 17,070 19,194 16,563 3,654 2,451
(1) See note 1 of Notes to Consolidated Financial Statements for an explanation
of the method of calculation.
(2) Includes obligations under capital leases. See
notes 6 and 15 of Notes to Consolidated Financial Statements.
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
Overview
KVH Industries, Inc. (the "Company") derives its revenues from sensor
products and systems sold to a range of commercial, military and OEM markets in
the communications and navigation industries. The Company's products include:
stabilized antenna systems for mobile satellite applications such as voice, fax
and data transmission and television reception; positional and heading systems
for tactical military applications in amphibious and land vehicles and for
commercial applications in land vehicles; digital compasses and instrument
systems for recreational, commercial and military applications; and embedded
fiber optic sensors. The Company's in-house sales and marketing groups have
established a worldwide network of independent sales representatives and
distributors to market the Company's products. The majority of the Company's
sales, product distribution and customer service is conducted at the Company's
headquarters in Middletown, Rhode Island, and the European market is managed
through the Company's subsidiary in Hoersholm, Denmark. The Company's
manufacturing process consists primarily of light assembly and final test, which
is conducted at its facilities in Middletown, Rhode Island, and Tinley Park,
Illinois.
There was a notable impact on sales in 1998 as the Company completed its first
full fiscal year following a strategic marketing shift towards direct sales with
repeat orders and away from dependence upon large, one-time OEM sales. The
Company implemented the new strategy in mid-1997 to replace the significant
revenue fluctuations caused by non-recurring large sales, particularly of its
sensor-based products for communications applications, with repeat sales that
would provide a more consistent revenue stream. A decrease in military orders
during 1998 was related to customary funding procedures that commonly cause
periodic sales fluctuations in the defense industry. Fiber optic gyro (FOG)
sales did not meet internal expectations, primarily because the Company withdrew
its CPS(TM)-based BusNav(TM) system from the mass transportation market when the
cost of supplying full-service support to customers buying product at OEM prices
became financially counter-productive. The Company has determined that there are
greater opportunities for CPS systems in other markets such as precision
agriculture, power sensors, trains and robotics.
Results of Operations
The following table sets forth, for the periods indicated, certain financial
data as a percentage of total revenues:
Year Ended December 31,
1998 1997 1996
Net sales 100.0% 100.0% 100.0%
Gross profit 31.7 45.0 43.2
Research and development 19.3 12.4 9.5
Sales and marketing 21.7 14.6 11.8
General and administrative 10.8 7.4 6.3
Operating (loss) profit (20.1) 10.6 15.6
Interest income, net (0.3) (1.3) (1.0)
Other income, net (0.1) (0.3) 0.0
(Gain) loss on currency
translation ( 1.0) (0.5) 0.2
(Loss) income before income tax
(benefit) expense (18.7) 12.7 16.4
Income tax (benefit) expense (7.8) 4.0 6.8
Net (loss) income (10.9)% 8.7% 9.6%
Years Ended December 31, 1998 and 1997
Net Sales. Net sales decreased to $20.6 million in 1998 from $25.6 million
in 1997, primarily due to an anticipated fluctuation in military orders and an
unexpected lack of FOG revenues that would have offset lower defense sales. FOG
revenues were adversely affected by KVH's decision to remove its CPS products
from the bus navigation market and focus on other markets that the Company
believes have significantly more sales potential. Product sales were $19.6
million in 1998 and $24.6 million in 1997 with customer-funded research at $1.0
million in both 1998 and 1997. Communications revenues increased 27% in 1998 to
$6.6 million from $5.2 million in 1997 as strong growth in direct sales of
turnkey mobile satellite systems continued to supplant previous non-recurring
OEM sales. Navigation sales were $14.0 million in 1998 compared to $20.3 million
in 1997, a 31% decrease attributable to a decline in high-margin military
contracts that adversely affected gross profits. Fiber optic sensor sales
constituted $1.7 million or 12% of 1998 navigation revenues. This compares to
fiber optic revenues of $0.4 million for the two-month period in 1997 following
the Company's October 30 acquisition of the fiber optic group assets from Andrew
Corporation.
Cost of Goods Sold. The Company's cost of goods sold consists primarily of
direct labor, material and indirect manufacturing costs and includes
customer-funded research and development costs of $0.9 million in 1998 and $0.6
million in 1997. Cost of goods sold as a percentage of net sales increased to
68% in 1998 from 55% in 1997 due to a proportional decrease in higher-margin
military product sales. In addition, fiber optic manufacturing costs exceeded
fiber optic revenues to negatively impact gross margins by $0.7 million.
Manufacturing overheads increased to $3.8 million in 1998 from $2.8 million in
1997 as the company moved its fiber optic group from the former Andrew
Corporation site to a new facility in Tinley Park, Illinois. Excluding fiber
optic facility and manufacturing costs of $1.5 million, overhead would have
decreased 11 percent in 1998 from 1997. The Company anticipates that cost of
goods sold will be level or decrease slightly in 1999 as a result of increased
manufacturing efficiencies and expected sales increases in high-margin military
products.
Research and Development Expense. Research and development expense consists
primarily of direct labor and material, labor and material overhead and other
direct costs associated with the Company's internally funded product development
efforts. The Company expenses all of its software development costs in the
period incurred. Research costs increased 25 percent to $4.0 million in 1998
from $3.2 million in 1997 due to costs for developing new directional antenna
systems and $1.4 million for fiber optic sensor integration and development.
Total research and development expenditures, including customer-funded product
development expenditures included in cost of goods sold, were $4.9 million in
1998 and $3.8 million in 1997, a 29% increase that reflects general growth in
Company-funded research expenditures. The Company expects ongoing growth in
research and development expenses as it continues to develop advanced-capability
products for tactical navigation and broadband communications.
Sales and Marketing Expense. Sales and marketing expense consists primarily
of salaries and related expenses for sales and marketing personnel, sales
commissions, travel expenses, cooperative advertising, sales literature,
advertising and trade shows. Sales and marketing costs grew 22% to $4.5 million
in 1998 from $3.7 million in 1997. Major factors contributing to the growth of
sales expenses were staffing, travel and new product introduction costs. The
Company anticipates that sales and marketing expense will continue to grow to
promote expected new-product introductions.
General and Administrative Expense. General and administrative expense
consists primarily of costs attributable to the Company's management, finance,
accounting and human resources operations and legal and other professional
services. Administrative costs increased 16% to $2.2 million in 1998 from $1.9
million in 1997, primarily due to staffing and increased professional fees
related to maintaining the Company's patent portfolio.
Interest income. Interest income reflects the interest earned by investing
excess cash in Federal short-term obligations.
Gain on Foreign Currency Translation. The results of operations of the
Company's foreign subsidiary, KVH Europe, are determined by re-measuring its
foreign currency-denominated operations as if they had taken place in United
States dollars. Gains and losses resulting from this translation are included in
the Company's net income. The translation gain increase to $0.2 million in 1998
from $0.1 million in 1997 reflects changes in the relative strength of the
United States dollar in relation to the Danish krone.
Income Tax (Benefit) Expense. The Company realized an income tax benefit in
the amount of $1.6 million in 1998 as compared with income tax expense of $1.0
million in 1997, due to the Company's 1998 operating loss. The Company's
effective tax rate in both years was positively affected by the utilization of
state and Federal research and development and investment tax credits.
Years Ended December 31, 1997 and 1996
Net Sales. Net sales decreased slightly to $25.6 million in 1997 from $25.7
million in 1996. Product sales were$24.6 million in both 1997 and 1996 while
customer-funded research was $1.0 and $1.1 million in 1997 and 1996,
respectively. Navigation sales grew 28% to $20.3 million in 1997 from $15.9
million in 1996. Navigation sales increases resulted primarily from a $3.8
million or 40% increase in navigation defense shipments. Communications sales
were $5.2 million in 1997, a decrease of 47% from $9.8 million in 1996. The
anticipated decreases in communication revenues reflected a large non-recurring
OEM sale amounting to $5.6 million in 1996 that was somewhat off-set by direct
sales of turnkey mobile satellite communications systems that increased to just
under $1.0 million in 1997 from $0.1 million in 1996.
Cost of Goods Sold. Cost of goods sold includes customer-funded research
and development costs of $0.6 million in 1997 and $0.9 million in 1996. Cost of
goods sold decreased to 55% as a percentage of net sales in 1997 from 57% as a
percentage of net sales in 1996 due to a 17% mix shift to higher-margin
navigation sales. Manufacturing overheads increased to $2.8 million in 1997 from
$1.9 million in 1996 somewhat off-setting the gains in product cost of sales.
Factors contributing to the manufacturing overhead increase included fiber optic
sensor start-up costs and a one-time lease modification charge.
Research and Development Expense. Research costs increased to $3.2 million
or 33% in 1997 from $2.4 million in 1996. Costs of Company-funded product
development accounted for $0.6 million of the 1997 increase while fiber optic
start-up costs accounted for the remainder of the increase. Total research and
development expenditures, including customer-funded product development
expenditures included in cost of goods sold, were $3.8 million in 1997 and $3.3
million in 1996, reflecting the expected decline in customer-funded research.
Sales and Marketing Expense. Sales and marketing costs grew to $3.7 million
or 23% in 1997 from $3.0 million in 1996. Major factors contributing to the
growth of sales expenses were staffing, travel and new product introduction
costs.
General and Administrative Expense. Administrative costs increased to $1.9
million or 19% from 1996 spending of $1.6 million, in response to fiber optic
start-up costs, increased professional fees and staffing costs.
Interest income. The proceeds of the public offering in April 1996 fully
funded the Company's operating and capital requirements in 1997.
Other (Income) Expense. Other income increased $0.1 million in 1997 from
1996 primarily due to the award of a new-hire training grant from the state of
Rhode Island.
(Gain) Loss on Foreign Currency Translation. The translation gain of $0.1
million in 1997 and the loss of $0.05 million in 1996 reflect changes in the
relative strength of the United States dollar in relation to the Danish krone.
Income Tax Expense. The Company's income tax expense decreased to $1.0
million in 1997 from $1.7 million in 1996. The decrease in income taxes was
attributable to the utilization of state and federal research and development
and investment tax credits. The Company's effective tax rate in 1997 was 31.5%
as a percentage of taxable income versus 41.5% in 1996.
Liquidity and Capital Resources
Year ended December 31,
-------------------------------------------------------------------------------
1998 Change 1997 Change 1996
(in thousands)
Cash and cash equivalents $ 1,239 (74%) 4,758 (32%) 7,006
Working capital 8,486 (32%) 12,410 (1%) 12,570
The Company financed its 1998 operations and fixed asset acquisitions of
approximately $1.6 million dollars through a combination of short-term bank
revolving lines of credit and the remaining proceeds from its public offering.
In January 1999, the Company borrowed approximately $3 million pursuant to a
10-year mortgage note agreement and mortgage on its facility at 50 Enterprise
Center, Middletown, Rhode Island (see note 15 of Notes to Consolidated Financial
Statements).
The Company believes that existing cash balances, amounts available under
its revolving credit facility and funds generated from the mortgage will be
sufficient to meet anticipated liquidity and working capital requirements for
1999. If the Company decides to expand more rapidly, to broaden or enhance its
products more rapidly, to acquire businesses or technologies or to make other
significant expenditures to remain competitive, then it may need to raise
additional funds.
Other Matters
Recent Accounting Pronouncements. The Financial Accounting Standards Board
("FASB") recently issued Statement of Financial Accounting Standards Number 133
("SFAS 133"), "Accounting for Derivative Instruments and Hedging Activities."
SFAS 133 establishes accounting and reporting standards for derivative
instruments and hedging, requiring recognition of all derivatives as either
assets or liabilities in the statement of financial position measured at fair
value. This statement is effective for all fiscal quarters of fiscal years
beginning after June 15, 1999. The effect of adopting SFAS 133 is not expected
to have a material impact on the Company's financial condition, results of
operations or cash flows.
Year 2000 - The Company has evaluated the impact of the year 2000 issue as
it relates to its navigation and communications products, both sold or intended
to sell, and has concluded that the Company's products are not affected by year
2000 operating issues. The Company has also assessed its software and computer
systems ensuring that its computer software and hardware are year 2000
compliant. The most significant element of this process is the upgrading of its
enterprise resource planning system at a cost estimated at less than $1 million,
of which approximately $0.4 million has been spent to date. The Company is
contacting its customers, suppliers, and financial institutions, with which it
does business, to ensure that any year 2000 issue is resolved. While there can
be no assurance that the systems of other companies will be year 2000 compliant,
the Company has no knowledge of any such third party year 2000 issues that would
result in a material adverse affect on its operations. Should the Company become
aware of any such situation, contingency plans will be developed. The Company
could be adversely affected should the Company or other entities with whom the
Company conducts business be unsuccessful in resolving year 2000 issues in a
timely manner. The Company estimates that it was 90% complete at December 31,
1998, in implementing its new system and believes it will be year 2000 compliant
by the first half of 1999. The Company believes the cost of becoming year 2000
compliant will not have a material adverse effect on the Company's financial
condition, results of operations or liquidity.
Inflation. The Company believes that inflation has not had a material
effect on its results of operations.
Forward Looking Statements - Risk Factors
This "Management's Discussion and Analysis of Financial Condition and
Results of Operations" contains forward-looking statements that are subject to a
number of risks and uncertainties. Among the important factors that could cause
actual results to differ materially from those anticipated by the statements
made above are the following:
The Company's products target two industries that are subject to
volatility, risks and uncertainties. The communications industry is experiencing
rapid growth fueled by strong worldwide demand and buffeted by competing formats
and rapid, unpredictable technology changes. The defense industry historically
experiences variability in supply and demand related to international
conditions, national politics, budget decisions and technology changes, all of
which are difficult or impossible to predict. Factors in both industries could
affect the Company's ability to effectively meet prevailing market conditions.
To position itself in these uncertain industries, the Company has taken a number
of steps that include, but are not limited to: acquisition of the fiber optic
technology and development of new related products; ongoing analysis of
potential technology advances; staff reductions and reallocations; improved
operational efficiencies; inventory reduction; recruiting key personnel and
implementing cost controls. There can be no assurance that the objectives of
these development and cost-reduction activities will be achieved.
Other factors that could cause actual results to differ materially from the
results anticipated by management include:
Dependence on New Products and the Marine Mobile Satellite Communications
Market. The Company's future sales growth will depend to a considerable extent
upon the successful introduction of new mobile satellite communications products
for use in marine and land applications, and those introductions will be
affected by a number of variables including, but not limited to: market
potential and penetration; reliability of outside vendors; satellite
communications service providers' financial abilities and products; regulatory
issues; maintaining appropriate inventory levels; disparities between forecast
and realized sales; and design delays and defects. The occurrence of any of
these factors could have a material adverse effect on the Company's business,
financial condition and results of operations.
FOG Acquisition. The additional personnel and operating expenses associated
with the acquisition of FOG technology and assets from Andrew Corporation in
October 1997 added significant costs to the Company's 1998 operations. As the
Company continues the process of integrating FOG sensors into current product
offerings and identifying new, untapped markets for existing FOG products, it
expects FOG-related costs to remain level or increase. Although the Company
believes these opportunities show great promise, to date the Company has been
successful in marketing only small quantities of products and it does not
anticipate that FOG-enhanced products will provide significant revenues for the
next 9 to 12 months. The Company is designing its FOG-enhanced products to meet
what it believes are customer performance and price criteria; however, at this
early stage of product development and market introduction the Company can
provide no assurance that these objectives will be met or that competing
technologies will not be developed that may supercede FOG technology. The
occurrence of any of these factors could have a material adverse effect on the
Company's business, financial condition and results of operations.
Variability of Quarterly Operating Results. The Company's quarterly
operating results have varied in the past and may vary significantly in the
future depending upon all the foregoing risk factors and including: the size and
timing of significant orders; the ability of the Company to control costs;
changes in Company strategy and the Company's ability to attract and retain key
personnel.
Competition. Competitors in the communications market include SeaTel
Corporation, Datron Corporation and Nera Corporation, any of which could
challenge the Company's pricing or technology platforms. The Company's satellite
phone products could be negatively impacted when Iridium World Communications,
Ltd., Globalstar Telecommunications Ltd. and ICO Global Communications (all
offering hand-held worldwide, satellite voice, data and fax services) commence
operations, scheduled from late 1998 through to 2000. The Company may be faced
with increased competition from the Hitachi Corporation's newly introduced
closed-loop FOG sensor that is targeted at applications and market segments
similar to those the Company is pursuing.
Possibility of Common Stock Price Volatility. The trading price of the
Company's Common Stock has been subject to wide fluctuations. The trading price
of the Company's Common Stock could be subject to wide fluctuations in the
future in response to quarterly variations in operating results, announcement of
new products by the Company or its competitors, changes in the financial
estimates by securities analysts and other events or factors. In addition, the
stock market volatility that affects the market price of many high technology
companies often is unrelated to the operating performance of such companies.
These broad market fluctuations may adversely affect the market price of the
Company's Common Stock.
Market Dynamics. KVH's key markets for its sensors and integrated systems
are particularly volatile. In the communications industry, there are many
technologies and large, well-funded companies competing to provide a
single-source solution for broadband voice, fax, data and video access. There
are significant political, economic and business forces that are restraining
near-term growth and influencing how the communications consumer market
ultimately will resolve such issues as technology transfers, diverse and
incompatible encryption standards and the needs of underdeveloped countries. New
initiatives such as the Iridium worldwide, handheld telephone system, the advent
of low earth orbit (LEO) satellites for low-cost messaging and data
communication and developments underway at Teledesic, Alcatel and Motorola may
pose a threat to the Company's products. In the military navigation industry
where governments are the customers, defense funding, equipment focus and
performance criteria are continually evolving in reaction to international
politics, economic conditions and technological changes. A number of companies
in the military navigation industry have established extensive relationships
with United States and foreign defense departments and have the size and capital
to develop new technologies. In the marine navigation industry, there are a
number of companies competing for a portion of a relatively small market.
The Company's future growth also depends upon expanding sales of its
antenna-aiming and navigation products. Antenna-aiming systems rely upon DBS
providers DIRECTV, EchoStar, ASTRA and HotBird and telephony providers Inmarsat
and SKYCELL. The Company's business, financial condition and results of
operation could be adversely affected if any of these satellite networks
experience operating, financial or regulatory problems. Revenues from
communications products increased in 1998 from 1997 and the Company expects
continued growth in 1999 as new products penetrate the market.
Sales cycles for the Company's TACNAV and TACNAV Light systems for military
navigation applications are long and difficult to predict, resulting in a
variable revenue stream from this market. Military revenues decreased in 1998
from 1997 and the Company anticipates that 1999 revenues will remain relatively
flat.
Research and Development Efforts. The Company's future success depends on
its ability to achieve technological advances that lead to marketable new
products and this requires continued substantial investment in research and
development. A large portion of the Company's product development strategy for
the near future relies upon FOGs and success in product integration, new
development, marketing, increasing manufacturing capabilities, market
acceptance, and the Company's continued ability to fund the fiber optic effort.
Prior to the 1997 acquisition of the fiber optic group from Andrew Corporation,
the Company had no experience with fiber optic manufacturing or applications and
the learning and integration curve to date has taken longer than the Company
initially anticipated. There can be no assurance that the Company will succeed
in achieving its FOG technological and manufacturing goals or continue to have
funds available for developing and marketing fiber optic products.
Item 7A. Market Risk Disclosure.
Not applicable.
Item 8. Financial Statements and Supplementary Data.
The Company's consolidated financial statements and supplementary data,
together with the report of KPMG LLP, independent auditors, are included in Part
IV of this Report on Form 10-K.
Item 9. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure.
Not applicable
PART III
Item 10. Directors and Executive Officers of the Registrant.
Reference is made to the information set forth in the definitive Proxy
Statement relating to the Fiscal 1998 Annual Meeting of Stockholders (to be
filed with the Securities and Exchange Commission within 120 days after December
31, 1998) (the "Proxy Statement"), under the caption "Directors and Executive
Officers".
Item 11. Executive Compensation.
Reference is made to the information in the Proxy Statement under
"Remuneration of Executive Officers and Directors".
Item 12. Security Ownership of Certain Beneficial Owners and Management.
Reference is made to the information set forth in the Proxy Statement under
the caption "Security Ownership of Certain Beneficial Owners and Management".
Item 13. Certain Relationships and Related Transactions.
None.
PART IV
Item 14. Exhibits, Financial Statement Schedule, and Reports on Form 8-K.
(a) Documents filed as part of this report:
Page
1. Financial Statements:
Report of Independent Auditors 19
Consolidated Balance Sheets as of December 31, 1998, and 1997 20
Consolidated Statements of Operations for the years ended December 31, 1998, 1997 and 1996 21
Consolidated Statements of Stockholders' Equity for the years ended December 31, 1998,
1997 and 1996 22
Consolidated Statements of Cash Flows for the years ended December 31, 1998, 1997 and 1996 23
Notes to Consolidated Financial Statements 24
2. Financial Statement Schedule. See "Independent Auditors Report" and
"Schedule II - Valuation and Qualifying Accounts" included on pages 34
and 35. All other schedules have been omitted since the information is
not required to be presented, or because the information required is
included in the consolidated financial statements or notes thereto.
(b) Reports on Form 8-K:
Report on Form 8-K was filed on November 14, 1997. The report contains the
asset purchase agreement between the Company and Andrew Corporation and a
Common Stock Warrant both dated October 30,1997.
(c) Exhibit Number Description Page
3.1 Restated Certificate of Incorporation of the Company (1)
3.5 Amended and Restated By-laws of the Company
10.1 1986 Executive Incentive Stock Option Plan (1)
10.2 Amended and Restated 1995 Incentive Stock Option Plan of the Company (1)
10.3 1996 Employee Stock Purchase Plan (1)
10.5 Credit Agreement dated September 8, 1993 between the Company and
Fleet National Bank (1)
10.6 $500,000 Revolving Credit Note dated September 8, 1993 between the Company
and Fleet National Bank (1)
10.7 Security Agreement dated September 8, 1993 between the Company and
Fleet National Bank (1)
10.8 Modification to Security Agreement dated May 30, 1994 between the Company
and Fleet National Bank (1)
10.9 Second Modification to Credit Agreement and Revolving Credit Note dated
May 30, 1994 between the Company and Fleet National Bank (1)
10.10 Second Modification to Security Agreement dated March 17, 1995 between
the Company and Fleet National Bank (1)
10.11 Third Modification to Credit Agreement and Revolving Credit Note dated
March 17, 1995 between the Company and Fleet National Bank (1)
10.12 Third Modification to Security Agreement dated December 12, 1995 between
the Company and Fleet National Bank (1)
10.13 Fourth Modification to Credit Agreement and Revolving Credit Note dated
December 12, 1995 between the Company and Fleet National Bank (1)
10.14 Lease dated February 27, 1989 between the Company
and Middletown Technology Associates IV (1)
10.17 Registration Rights Agreement dated May 20, 1986 by and among the
Company and certain stockholders of the Company (1)
10.18 Amendment to Registration Rights Agreement dated January 25, 1988, by
and among the Company, Fleet Venture Resources, Inc., and Fleet Venture
Partners I and certain stockholders of the Company (1)
10.19 Amendment to Registration Rights Agreement dated
October 25, 1988 by and among the Company and
certain stockholders of the Company (1)
10.20 Amendment to Registration Rights Agreement dated
July 21, 1989 by and among the Company and
certain stockholders of the Company (1)
10.21 Third Amendment to Registration Rights Agreement
dated November 3, 1989 by and among the Company
and certain stockholders of the Company (1)
10.28 Technology License Agreement dated December 22, 1992 between the
Company and Etak, Inc. (1)
10.29 Agreement dated September 28, 1995 between the Company and Thomson
Consumer Electronics, Inc. (1)
10.30 Agreement dated September 28, 1995 between the Company and Thomson
Consumer Electronics, Inc. (1)
10.31 Agreement regarding Technology Affiliates Program between Jet
Propulsion Laboratory and the Company (1)
10.32 Purchase and Sale Agreement dated March 18, 1996, 50 Enterprise Center,
Middletown, Rhode Island between the Company and SKW Real Estate
Limited Partnership (2)
10.33 Fifth Modification to Credit Agreement and Revolving Note dated
August 8, 1996 between the Company and Fleet National Bank
(c) Exhibit Number Description Page
10.34 Andrew Corporation Asset Purchase and Warrant Agreement (3)
11.1 Computation of (Loss) Earnings per Share (2) 36
21.1 List of Subsidiaries of the Company (1)
23.1 Consent of KPMG LLP 37
27.1 Financial Data Schedule 38
99.1 Open End Mortgage, and Security Agreement 39
99.2 Tinley Park, Illinois, lease 70
(1) Incorporated by Reference to Exhibit Index on Form S-1 filed with the
Securities and Exchange Commission dated March 28, 1996, Registration No.
333-01258.
(2) Filed by paper with the Securities and Exchange Commission..
(3) Incorporated by reference to Exhibits 1 & 2 on Form 8-K filed with the
Securities and Exchange Commission dated November 14, 1997.
SIGNATURES
Pursuant to the requirements of Section 13 or Section 15(d) of the
Securities Exchange Act of 1934 the registrant has the duly caused this report
to be signed on its behalf by the undersigned, thereunto duly authorized.
KVH Industries, Inc.
DATE: March 23, 1999 By: /s/ Martin A. Kits van Heyningen
Martin A. Kits van Heyningen
President & CEO
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons in the capacities and on
the dates indicated.
Signature Title Date
/s/ Martin A. Kits van Heyningen President (Chief Executive Officer) March 24, 1999
Martin A. Kits van Heyningen
/s/ Richard C. Forsyth Chief Financial Officer March 24, 1999
Richard C. Forsyth (Principal Financial and Accounting
Officer)
/s/ Arent H. Kits van Heyningen Chairman of the Board March 24, 1999
Arent H. Kits van Heyningen
/s/ Robert W. B. Kits van Heyningen Director March 24, 1999
Robert W. B. Kits van Heyningen
/s/ Werner Trattner Director March 24, 1999
Werner Trattner
INDEPENDENT AUDITORS' REPORT
Board of Directors and Stockholders
KVH Industries, Inc. and Subsidiary:
We have audited the accompanying consolidated balance sheets of KVH Industries,
Inc. and subsidiary as of December 31, 1998 and 1997, and the related
consolidated statements of operations, stockholders' equity and cash flows for
each of the years in the three-year period ended December 31, 1998. These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
consolidated 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 financial position of KVH Industries, Inc.
and subsidiary at December 31, 1998 and 1997, and the results of its operations
and its cash flows for each of the years in the three-year period ended December
31, 1998, in conformity with generally accepted accounting principles.
/s/ KPMG LLP
Providence, Rhode Island
February 10, 1999
KVH INDUSTRIES, INC. AND SUBSIDIARY
Consolidated Balance Sheets
December 31, 1998 and 1997
Assets (note 5) 1998 1997
Current assets:
Cash and cash equivalents $ 1,239,227 4,757,614
Accounts receivable, less allowance for doubtful accounts
of $91,604 in 1998 and $73,909 in 1997 (note 12) 3,106,414 4,338,992
Income taxes receivable (note 9) 1,062,494
Contract receivables - 156,777
Costs and estimated earnings in excess of billings
on uncompleted contracts 768,156 406,014
Inventories (note 3) 3,390,787 4,751,792
Prepaid expenses and other deposits 360,346 222,015
Deferred income taxes (note 9) 234,158 387,567
Total current assets 10,161,582 15,020,771
Property and equipment, net (notes 4 and 15) 7,186,539 5,974,635
Other assets, less accumulated amortization of
$107,254 in 1998 and $0 in 1997 (note 2) 972,365 731,000
Deferred income taxes (note 9) 425,150 78,535
$ 18,745,636 21,804,941
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable $ 853,238 1,618,295
Accrued expenses (note 7) 822,533 992,834
Total current liabilities 1,675,771 2,611,129
Total liabilities 1,675,771 2,611,129
Stockholders' equity (note 8):
Preferred stock, $.01 par value. Authorized 1,440,390 shares;
none issued. - -
Common stock, $.01 par value. Authorized 7,490,582 shares;
issued 7,205,928 shares in 1998 and 7,086,046 in 1997 72,059 70,860
Additional paid-in capital 15,439,421 15,298,558
Retained earnings 1,558,385 3,824,394
Total stockholders' equity 17,069,865 19,193,812
Commitment and other information (notes 6, 10 and 15)
$ 18,745,636 21,804,941
See accompanying Notes to Consolidated Financial Statements.
KVH INDUSTRIES, INC. AND SUBSIDIARY
Consolidated Statements of Operations
Years ended December 31, 1998, 1997 and 1996
1998 1997 1996
Net sales (note 12) $ 20,630,648 25,570,347 25,687,495
Cost of goods sold 14,100,398 14,085,463 14,607,584
Gross profit 6,530,250 11,484,884 11,079,911
Operating expenses:
Research and development 3,991,193 3,175,181 2,430,755
Sales and marketing 4,469,654 3,738,605 3,039,483
General and administrative 2,225,370 1,895,031 1,624,270
Operating (loss) profit (4,155,967) 2,676,067 3,985,403
Other (income) expense:
Interest income (58,735) (336,157) (293,494)
Interest expense 2,023 8,893 15,938
Other (income) expense (27,392) (95,083) 14,303
(Gain) loss on foreign currency translation (197,663) (138,272) 50,087
(Loss) income before income tax (benefit) expense (3,874,200) 3,236,686 4,198,569
Income tax (benefit) expense (note 9) (1,608,191) 1,020,185 1,742,538
Net (loss) income $ (2,266,009) 2,216,501 2,456,031
Per share information (notes 8 and 14):
Net (loss) income per common share - basic $ (0.32) 0.31 0.39
Net (loss) income per common share - diluted $ (0.32) 0.30 0.35
Weighted average number of shares outstanding:
Basic 7,124,023 7,049,125 6,370,272
Diluted 7,124,023 7,497,695 7,055,309
See accompanying Notes to Consolidated Financial Statements.
KVH INDUSTRIES, INC. AND SUBSIDIARY
Consolidated Statements of Stockholders' Equity
Years ended December 31, 1998, 1997 and 1996
Additional Retained Total
Preferred Common Paid-in Earnings Stockholders'
Stock Stock Capital (Deficit) Equity
Balances at December 31, 1995 $ 12,982 16,160 4,473,045 (848,138) 3,654,049
Net income - - - 2,456,031 2,456,031
Exercise of stock options and
warrants- - 3,274 457,203 - 460,477
Initial public offering of common stock, net
of issuance costs of $1,736,555 (note 8) - 18,000 9,945,445 - 9,963,445
Conversion of 1,298,182 shares of preferred
stock to 3,245,500 shares of common stock (12,982) 32,455 (19,473) - -
Issuance of common stock under
benefit plans - 43 28,586 - 28,629
Balances at December 31, 1996 - 69,932 14,884,806 1,607,893 16,562,631
Net income - - - 2,216,501 2,216,501
Issuance of common stock under
benefit plan - 127 67,404 - 67,531
Exercise of stock options - 801 151,913 - 152,714
Issuance of warrants (notes 2 and 8) - - 194,435 - 194,435
- 194,435
Balances at December 31, 1997 - 70,860 15,298,558 3,824,394 19,193,812
Net (loss) - - - (2,266,009) (2,266,009)
Issuance of common stock under
benefit plan - 797 118,620 - 119,417
Exercise of stock options - 402 22,243 - 22,645
Balances at December 31, 1998 $ - 72,059 15,439,421 1,558,385 17,069,865
See accompanying Notes to Consolidated Financial Statements.
KVH INDUSTRIES, INC. AND SUBSIDIARY
Consolidated Statements of Cash Flows
Years ended December 31, 1998, 1997 and 1996
1998 1997 1996
Cash flows from operating activities:
Net (loss) income $ (2,266,009) 2,216,501 2,456,031
Adjustments to reconcile net (loss) income to net cash (used in)
provided by operating activities:
Depreciation and amortization 767,289 797,761 285,049
Provision for doubtful accounts 17,695 284 (45,000)
Provision for deferred taxes (193,206) (242,688) 315,381
Decrease (increase) in accounts and contract receivables (note 11) 1,208,198 1,827,202 (2,932,821)
Increase in income taxes receivable (1,062,494) - -
(Increase) decrease in costs and estimated earnings in excess
of billings on uncompleted contracts (362,142) 429,706 80,474
Decrease (increase) in inventories (note 11) 923,345 (649,213) (1,489,098)
Increase in prepaid expenses and other deposits (138,331) (42,310) (23,030)
(Decrease) increase in accounts payable (765,057) 586,986 72,802
(Decrease) increase in accrued expenses (170,301) (554,922) 1,035,297
Decrease in customer deposits - 2,502,432) (342,095)
Net cash (used in) provided by operating activities (2,041,013) 1,866,875 (587,010)
Cash flows from investing activities:
Acquisition (note 2) - (1,946,026) -
Capital expenditures (note 11) (1,619,436) (2,335,423) (3,703,327)
Net cash used in investing activities (1,619,436) (4,281,449) (3,703,327)
Cash flows from financing activities:
Repayments of obligations under capital lease - (53,739) (52,209)
Stock option and benefit plan transactions 142,062 220,245 489,106
Proceeds from initial public offering (note 8) - - 9,963,445
Net cash provided by financing activities 142,062 166,506 10,400,342
Net (decrease) increase in cash and cash equivalents (3,518,387) (2,248,068) 6,110,005
Cash and cash equivalents at beginning of year 4,757,614 7,005,682 895,677
Cash and cash equivalents at end of year $ 1,239,227 4,757,614 7,005,682
Supplemental disclosure of cash flow information (note 11):
Cash paid during the year for interest $ 2,023 8,589 15,938
Cash paid during the year for income taxes $ 137,784 1,872,049 20,250
See accompanying Notes to Consolidated Financial Statements.
KVH INDUSTRIES, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
December 31, 1998, 1997 and 1996
(1) Summary of Significant Accounting Policies
(a) Description of Business
KVH Industries, Inc. (the "Company") develops, manufactures and markets
proprietary fiber optic, autocalibration and sensor technologies to
produce navigation and mobile satellite communications systems for
commercial, military and marine applications.
(b) Principles of Consolidation
The consolidated financial statements include the financial statements
of KVH Industries, Inc. and its wholly-owned subsidiary, KVH Europe A/S
("KVH Europe"). All significant intercompany accounts and transactions
have been eliminated in consolidation.
(c) Cash and Cash Equivalents
The Company considers all highly liquid investments with a maturity, at
the purchase date, of three months or less to be cash equivalents.
(d) Revenue Recognition
Revenue is recognized when a product is shipped and services are
performed. Revenues on long-term contracts are recognized using the
percentage of completion method. Under this method, income is
recognized as work progresses on the contracts. The percentage of work
completed is determined principally by comparing the accumulated costs
incurred to date with management's current estimate of total costs to
be incurred at contract completion. On certain contracts where the
delivery of equipment is separable from development and other aspects
of the contract, the Company segments the contract and recognizes
revenue on each segment individually. Revisions of costs and income
estimates are reflected in the period in which the facts that require
the revisions become known. If estimated total costs on a contract
indicate a loss, the entire amount of the estimated loss is provided
for currently.
(e) Inventories
Inventories of finished goods for sale and raw materials are stated at
the lower of cost or market using the first-in first-out costing
method. Work in process is valued at production cost represented by
material, labor and overhead, and is not recorded in excess of net
realizable values.
(f) Property and Equipment
Property and equipment are stated at cost. Depreciation and
amortization is computed on the straight-line method over the estimated
useful lives of the respective assets. The principal lives, in years,
used in determining the depreciation rates of various assets are:
buildings and improvements, 40 years; leasehold improvements, over term
of lease; machinery and equipment, 5 years; office and computer
equipment, 5-7 years; and motor vehicles, 4 years. Amortization of
property and equipment under capital lease is provided using the
straight-line method over the lease terms.
(g) Other Assets
Other assets consist of patents and capitalized costs of workforce
resulting from the Company's October 1997 acquisition (see note 2).
These costs are being amortized on a straight-line basis over periods
ranging from 5-12 years. The Company continually reviews intangible
assets to assess recoverability from estimated future results of
operations and estimated future cash flows.
KVH INDUSTRIES, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
(h) Progress Payments
Progress payments received from customers are offset against
inventories associated with the contracts for which the payments were
received. Under contractual arrangements by which progress payments are
received from the United States Government, the United States
Government has a lien on the inventories identified with related
contracts.
(i) Income Taxes
Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial
statement carrying amounts of existing assets and liabilities and their
respective tax bases and operating loss and tax credit carryforwards.
Deferred tax assets and liabilities are measured using enacted tax
rates expected to apply to taxable income in the years in which those
temporary differences are expected to be recovered or settled. The
effect on deferred tax assets and liabilities of a change in tax rates
is recognized in income in the period that includes the enactment date.
(j) Research and Development
Expenditures for research and development, including customer-funded
research and development, are expensed in the year incurred. Revenue
from customer-funded research and development is included in net sales,
and the related product development costs are included in cost of goods
sold. Revenues from customer-funded research and development totaled
approximately $1,169,000, $957,000 and $1,050,000, respectively, in
1998, 1997 and 1996, and related costs included in cost of goods sold
totaled approximately $936,000, $630,000 and $869,000 in such years,
respectively.
(k) Foreign Currency Translation
The financial statements of the Company's foreign subsidiary are
re-measured into the United States dollar functional currency for
consolidation and reporting purposes. Current exchange rates are used
to re-measure monetary assets and liabilities. Historical exchange
rates are used for nonmonetary assets and related elements of expense.
Revenue and other expense elements are re-measured at rates, which
approximate the rates in effect on the transaction dates. Gains and
losses resulting from this re-measurement process are recognized
currently in the consolidated statements of operations.
(l) Stock-based Compensation
The Company applies APB Opinion 25 and related interpretations in
accounting for its stock option plans. No compensation cost has been
recognized for these plans in the accompanying consolidated financial
statements.
(m) Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates.
(n) Long-lived Assets
The Company reviews long-lived assets and certain identifiable
intangibles for impairment whenever events or changes in circumstances
indicate that the carrying amount of an asset may not be recoverable.
Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to future net cash flows
expected to be generated by the asset. If such assets are considered to
be impaired, the impairment to be recognized is measured by the amount
by which the carrying amount of the assets exceeds the fair value of
the assets. Assets to be disposed of are reported at the lower of the
carrying amount or fair value less costs to sell.
KVH INDUSTRIES, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
(o) Net (Loss) Income per Common Share
In 1997 the Company adopted the provisions of SFAS No. 128, Earnings
Per Share. Under the provisions of SFAS 128, basic earnings per share
replaces primary earnings per share and the dilutive effect of stock
options and warrants are excluded from the calculation. Fully diluted
earnings per share are replaced by diluted earnings per share and
include the dilutive effect of stock options and warrants, using the
treasury stock method. All prior period earnings per share data have
been restated to conform to the requirements of SFAS 128.
A reconciliation of the weighted average number of shares outstanding
used in the computation of the basic and diluted earnings per share for
the three years ended December 31, 1998 is as follows:
1998 1997 1996
Weighted average shares (basic) 7,124,023 7,049,125 6,370,272
Effect of dilutive stock options - 448,570 685,037
Weighted average shares (diluted) 7,124,023 7,497,695 7,055,309
The net (loss) income used in the calculation for basic and diluted
earnings per share calculations agrees with the net (loss) income
appearing in the financial statements.
(p) Fair Value of Financial Instruments
The carrying amounts of accounts receivable, contracts receivable,
costs and estimated earnings in excess of billings on uncompleted
contracts, accounts payable and accrued expenses approximate fair value
due to the short maturity of these instruments.
(2) Acquisition
On October 30, 1997 the Company purchased certain operating assets and
assumed certain liabilities of the Sensor Products Group of the Andrew
Corporation for approximately $1.9 million of cash (including acquisition
costs) and warrants to purchase the Company's common stock, valued at
approximately $0.2 million. The assets acquired will provide the Company
with the ability to produce fiber optic rate sensors that will advance the
Company's existing product performance. The acquisition has been accounted
for as a purchase and the allocation resulted in intangibles, primarily
patents and workforce, of approximately $1.1 million that are being
amortized on a straight-line basis over periods of 5-12 years. In 1998 the
Company revalued certain current acquisition assets downward by $0.6
million, increasing the valuation of property and equipment and intangibles
by approximately $0.3 million each.
(3) Inventories
Inventories at December 31, 1998 and 1997 consist of the following:
1998 1997
Raw materials $ 2,178,265 3,242,580
Work in process 461,798 356,211
Finished goods 750,724 1,153,001
$ 3,390,787 4,751,792
Project inventories totaling $139,930 and $39,408, respectively, in 1998
and 1997 have been offset against related progress payments and included as
a component of costs and estimated earnings in excess of billings on
uncompleted contracts.
KVH INDUSTRIES, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
(4) Property and Equipment
Property and equipment, net, at December 31, 1998 and 1997 consist of the
following:
1998 1997
Land $ 806,774 806,774
Building and improvements 3,227,336 3,181,986
Leasehold improvements 712,666 -
Machinery and equipment 2,912,705 1,838,603
Office and computer equipment 2,494,878 2,455,057
Motor vehicles 92,348 92,348
10,246,707 8,374,768
Less accumulated depreciation 3,060,168 2,400,133
$ 7,186,539 5,974,635
Depreciation for the years ended December 31, 1998, 1997 and 1996 amounted
to $660,035, $771,783 and $246,081, respectively.
(5) Notes Payable to Bank
On September 29, 1998, the Company renewed a revolving credit agreement
with its bank. Under the terms of the agreement, the Company may borrow up
to $2.5 million during the term of the loan at an interest rate equal to
the bank's prime rate of interest plus 125 basis points. The credit
agreement expires on June 30, 1999. Borrowings are secured by substantially
all of the assets of the Company, except for land, building and
improvements. At December 31, 1998, the Company had $2.5 million of unused
borrowings with its bank to be drawn upon as needed. The credit agreement
contains various covenants pertaining to the maintenance of certain
financial ratios and maximum operating losses. At December 31, 1998, the
Company's operating loss exceeded the maximum loss provided for in the loan
agreement, a breach of the credit agreement. The bank has waived that
requirement as of December 31, 1998.
(6) Leases
The Company has certain operating leases for facilities, automobiles, and
various equipment. The following is a summary of future minimum payments
under operating leases that have initial or remaining non-cancelable lease
terms in excess of one year at December 31, 1998:
Operating
Year ending December 31, Leases
1999 $ 223,421
2000 160,210
2001 165,016
2002 169,967
2003 175,066
Subsequent to 2003 225,728
Total minimum lease payments $1,119,408
Total rent expense incurred under operating leases for the years ended
December 31, 1998, 1997 and 1996 amounted to, $196,780, $433,908 and
$435,124, respectively. In 1997 the Company reduced the amount of square
feet under a facility lease from 30,000 to 6,000. The Company paid $210,000
in the fourth quarter of 1997 to modify the lease agreement. As a
consequence of reducing the leased square footage the Company's lease
liability decreased to $78,000 and $56,000 in 1998 and 1999, respectively.
KVH INDUSTRIES, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
(7) Accrued Expenses
Accrued expenses for the period ended December 31, 1998 and 1997 consist of
the following:
1998 1997
Accrued payroll, bonus and other related
expenses payable $ 417,406 709,544
State income tax payable - 57,601
Professional fees 110,803 162,133
Accrued sales commissions 120,045 -
Other 174,279 63,556
$ 822,533 992,834
(8) Stockholders' Equity
(a) Sale of Common Stock
On March 28, 1996, the Company's registration statement for an initial
public offering of common stock was declared effective. An aggregate of
1,800,000 shares of common stock were issued by the Company on April 8,
1996 at an initial public offering of $6.50 per share that resulted in
net proceeds of approximately $9.9 million.
(b) Employee Stock Options and Warrants
The Company has a 1986 Executive Incentive Stock Option Plan, a 1995
Incentive Stock Option Plan, and a 1996 Incentive and Non-Qualified
Stock Option Plan (the "Plans").
The Company has reserved 915,000 shares of its common stock for
issuance upon exercise of options granted or to be granted under the
Plans. These options generally vest in equal annual amounts over four
years beginning on the date of the grant. The Plans provide that
options be granted at exercise prices not less than market value on the
date the option is granted and options are adjusted for such changes as
stock splits and stock dividends. No options are exercisable for
periods of more than ten years after date of grant.
The per share weighted-average fair value of stock options granted
during 1998, 1997 and 1996 was $2.74, $4.12 and $1.80 on the date of
grant using the Black-Scholes option-pricing model with the following
weighted-average assumptions:
1998 1997 1996
Expected dividend yield 0% 0% 0%
Risk-free interest rate 5.84% 5.36% 6.4%
Expected volatility 115.48% 82.71% 3%
Expected life (years) 3 3 4
The Company applies APB Opinion No. 25 in accounting for its Plans and,
accordingly, no compensation cost has been recognized for its stock
options in the financial statements. Had the Company determined
compensation cost based on the fair value at the grant date for its
stock options under SFAS No. 123, the Company's net (loss) income would
have been reduced to the pro forma amounts indicated below:
1998 1997 1996
Net (loss) income As reported $ (2,266,009) 2,216,501 2,456,031
Pro forma (3,013,785) 1,942,467 2,109,142
Net (loss) income per As reported $ (0.32) 0.30 0.35
common share-diluted Pro forma $ (0.42) 0.26 0.30
Pro forma net (loss) income reflects only options granted in 1998, 1997
and 1996. The full impact of calculating compensation cost for stock
options under SFAS No. 123 is not reflected in the pro forma net (loss)
income amounts presented above because compensation cost is reflected
in the year of grant.
KVH INDUSTRIES, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
At December 31, 1998, warrants, issued in conjunction with the
acquisition of the Sensor Products Group of the Andrew Corporation
(note 2), to purchase 50,000 common shares were outstanding. Each
warrant allows the holder thereof to acquire one share of common stock
for a purchase price of $8.00. The warrants are exercisable through
October 30, 2002.
The changes in outstanding employee stock options for the three years
ended December 31, 1998, 1997 and 1996 is as follows:
Number of Weighted-Average
Shares Exercise Price
Outstanding at December 31, 1995 1,065,139 $ 1.11
Granted 362,000 7.91
Exercised (327,400) 0.75
Forfeited (66,080) 0.60
Expired and canceled (12,332) 5.72
Outstanding at December 31, 1996 1,021,327 3.83
Granted 66,250 7.13
Exercised (86,728) 0.76
Expired and canceled (70,446) 5.93
Outstanding at December 31, 1997 930,403 4.28
Granted 687,950 3.97
Exercised (40,195) 0.60
Expired and canceled (383,525) 7.58
Outstanding at December 31, 1998 1,194,633 $ 3.14
On March 2, 1998, the Compensation Committee of the Board of Directors
approved a stock option repricing program in which all employees and
directors of the company could elect to exchange certain previously granted
incentive and non-qualifying stock options for a "New Option" granted under
the 1996 Plan. The Company repriced the options because the exercise prices
of such options were significantly higher than the fair market value of the
Company's common stock and therefore did not provide the desired incentive
to employees.
Under the terms of the exchange, employees had the option to surrender all
outstanding previously granted options with exercise prices of $5.00 per
share or more for a New Option amounting to 80 percent of the previously
granted options at new exercise prices ranging from $4.125 to $4.538 per
share. Options to purchase 361,500 shares of common stock, with an average
exercise price per share of $7.77, were surrendered and exchanged for
289,200 shares repriced at exercise prices ranging from $4.125 to $4.538
per share, based upon the fair market closing price on March 2, 1998. The
vesting schedule and all other terms and conditions of the options remained
unchanged.
KVH INDUSTRIES, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
The following table summarizes information about employee stock options at
December 31, 1998:
Average Weighted- Number Exercisable Weighted-
Range of Outstanding Remaining Average As of Average
Exercise Prices 12/31/98 Life Exercise Price 12/31/98 Exercise Price
$0.60 - $0.60 73,245 1.53 $0.60 67,818 $0.60
$1.70 - $1.70 400,000 1.82 $1.70 400,000 $1.70
$2.50 - $3.50 120,000 4.53 $2.67 20,000 $3.50
$4.13 - $4.13 452,366 3.30 $4.13 215,948 $4.13
$4.54 - $9.13 149,022 3.67 $5.67 78,782 $6.68
$0.60 - $9.13 1,194,633 2.86 $3.14 782,548 $2.82
At December 31, 1998, 1997 and 1996 the number of options exercisable
was 782,548, 646,576 and 983,828, respectively, and the weighted
average exercise price of those options was $2.82, $3.87 and $3.83,
respectively.
(c) Employee Stock Purchase Plan
The Employee Stock Purchase Plan (the "ESPP") covers substantially all
employees in the United States and Denmark. The ESPP allows eligible
employees the right to purchase common stock on a semi-annual basis at
the lower of 85% of the market price at the beginning or end of each
six-month offering period. During 1998 and 1997, 80,510 and 12,700
shares, respectively, were issued under this plan. As of December 31,
1998, 52,439 shares were reserved for future issuance under the plan.
(9) Income Taxes
Income tax (benefit) expense for the years ended December 31, 1998, 1997
and 1996 are presented below.
Current Deferred Total
1998:
Federal $(1,237,981) (233,226) (1,471,207)
State (208,595) 40,020 (168,575)
Foreign 31,591 - 31,591
$(1,414,985) (193,206) (1,608,191)
1997:
Federal $ 1,037,954 (212,586) 825,368
State 157,997 (30,102) 127,895
Foreign 66,922 - 66,922
$ 1,262,873 (242,688) 1,020,185
1996:
Federal $ 1,062,392 246,986 1,309,378
State 285,148 68,395 353,543
Foreign 79,617 - 79,617
$ 1,427,157 315,381 1,742,538
KVH INDUSTRIES, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
The actual tax (benefit) expense differs from the "expected" tax (benefit)
expense computed by applying the U.S. Federal corporate tax rate of 34% to
(loss) income before income taxes as follows:
1998 1997 1996
Computed "expected" tax (benefit) expense $ (1,317,228) 1,100,473 1,427,513
Increase (decrease) in income taxes resulting from:
Non-deductible expenses 15,699 26,262 25,025
Utilization of tax credits (176,982) (215,411) -
State income tax (benefit) expense, net of Federal
income tax benefit (168,575) 84,411 233,674
Other 38,895 24,450 56,326
Net income tax (benefit) expense $ (1,608,191) 1,020,185 1,742,538
The tax effects of temporary differences that give rise to significant
portions of deferred tax assets and liabilities at December 31, 1998 and
1997 are as follows:
1998 1997
Deferred tax assets:
Accounts receivable, due to allowance for doubtful accounts $ 39,810 24,126
Inventories, due to valuation reserve 30,923 204,451
Inventories, due to differences in costing for tax purposes 2,138 4,334
Inventories, due to unrealized gain 48,315 130,416
Property and equipment, due to differences in depreciation - 5,812
Intangibles due to differences in amortization 14,695 -
Dislodged tax credits from prior years 460,000 -
Accrued warranty costs 42,882 96,963
Accrued vacation 98,822 -
Gross deferred tax assets $ 737,585 466,102
Deferred tax liability:
Property and equipment, due to differences in depreciation 78,277 -
Net deferred tax asset $ 659,308 466,102
The recognition of the net deferred tax asset of $659,308 is supported by
the Company's history of earnings and the expectation that it will have
future taxable income in 1999 and beyond in order to realize the benefit of
these future tax deductions. Research and development tax credit
carryforwards in the amounts of $154,000 and $255,000 relating to 1997 and
1996 expire in 2012 and 2011, respectively. An Alternative Minimum Tax
credit of $51,000 from 1996 has no expiration date.
(10) 401(k) Profit Sharing Plan
The Company has a 401(k) Profit Sharing Plan (the Plan) for all eligible
employees. All employees with a minimum of one year of service who have
attained age 21 are eligible to participate. Participants can contribute up
to 15% of total compensation, subject to the annual IRS dollar limitation.
Participants become fully vested in Company contributions after 7 years of
continuous service. Company contributions to the plan are discretionary.
During 1998, 1997 and 1996, the Company did not make any contributions to
the Plan.
KVH INDUSTRIES, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
(11) Supplemental Cash Flow Information
As discussed in Note 2, the Company purchased certain operating assets and
assumed certain liabilities of Andrew Corporation's Sensor Products Group
in 1997. During 1998 the Company revalued accounts receivable and inventory
to reflect actual fair values. As a consequence of the revaluation,
accounts receivable and inventory were reduced by $163,462 and $437,660,
respectively, while property and equipment and other assets were increased
by $252,503 and $348,619, respectively.
(12) Business and Credit Concentrations
In September 1995 the Company entered into an agreement with AMSC to design
and manufacture mobile satellite telephone systems for use at sea. The
agreement provided for AMSC to purchase 5,000 systems, for a total contract
value of $10.2 million. The Company received an advance from AMSC of $2.5
million to be applied to the purchase price of the last of the systems
covered by the agreement. The Company shipped approximately 70% of the
order in 1996 and the remainder in 1997.
The Company derives a substantial portion of its revenues from the armed
forces of the United States and foreign governments. The Company estimates
that approximately 39%, 52% and 37% of the Company's revenues were derived
from United States and foreign military and defense related sources in
fiscal 1998, 1997 and 1996, respectively. A significant portion of the
Company's revenues are also derived from customers outside the U.S.
Revenues from foreign customers accounted for 30%, 31% and 42% of total
revenues in fiscal 1998, 1997 and 1996, respectively.
Historically, a significant portion of the Company's sales in any
particular period has been attributable to sales to a limited number of
customers. There were no sales in 1998 to AMSC, which accounted for
approximately 12% and 27% of net sales in 1997 and 1996, respectively.
Sales to the United States Army Tank and Automotive Command accounted for
approximately 17% and 28% of net sales in 1998 and 1997, respectively.
Sales to the Government of Sweden did not occur in 1998 and accounted for
approximately 13% of the Company's net sales in 1997. Sales to General
Motors Corporation of Canada accounted for approximately 14% of the
Company's net sales in both 1998 and 1997.
(13) Segment Reporting
During 1998 the Company adopted Financial Accounting Standards Board
Statement of Financial Accounting Standards Number 131 ("SFAS 131"),
"Disclosures About Segments of an Enterprise and Related Information."
Under SFAS 131, the Company's operations are classified into one reportable
segment. The Company designs, manufactures and markets sensor systems for a
wide variety of applications under common management which oversees the
Company's marketing production and technology strategies.
(a) Products and Services
The Company's sensor systems are primarily marketed in the
communication and navigation industries. Revenues attributed to each of
these industries is as follows:
1998 1997 1996
Navigation $13,985,623 20,328,191 15,877,721
Communication 6,645,025 5,242,156 9,809,774
$20,630,648 25,570,347 25,687,495
(b) Geographic Information
The Company's operations are located in the United States and Europe,
and substantially all long-lived assets reside in the United States.
Inter-region sales are not significant to total revenue of any
geographic region. Information about the Company's revenues in
different geographic regions for each of the three-year periods ended
December 31, 1998, 1997 and 1996 is as follows:
KVH INDUSTRIES, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
1998 1997 1996
Net revenues:
United States $ 17,461,608 23,258,557 23,809,807
Europe 3,169,040 2,311,790 1,877,688
$ 20,630,648 25,570,347 25,687,495
United States revenues include export sales to unaffiliated customers,
located primarily in Europe and Canada, and totaled $6,112,627,
$7,813,138 and $9,051,291, respectively, in 1998, 1997 and 1996.
(14) Selected Quarterly Financial Results (Unaudited) Financial information for
interim periods was as follows:
First Second Third Fourth
Quarter Quarter Quarter Quarter
1998
Net sales $ 4,128,601 6,470,240 5,307,323 4,724,484
Gross profit 1,130,182 2,390,607 2,164,348 845,113
Net (loss) income (896,719) (247,329) 258,089 (1,380,050)
(Loss) income per share (a):
Basic $ (0.13) (0.03) 0.04 (0.19)
Diluted $ (0.13) (0.03) 0.04 (0.19)
1997
Net sales $ 5,916,329 5,770,505 7,025,976 6,857,537
Gross profit 2,737,300 2,519,762 3,546,897 2,680,925
Net income 603,989 402,167 1,018,799 191,546
Earnings per share (a):
Basic $ 0.09 0.06 0.14 0.03
Diluted 0.08 0.05 0.14 0.03
1996
Net sales $ 4,780,659 5,113,602 7,147,270 8,645,964
Gross profit 2,088,270 2,284,354 2,918,469 3,788,818
Net income 187,568 320,099 920,513 1,027,851
Earnings per share (a):
Basic $ 0.04 0.05 0.13 0.15
Diluted $ 0.03 0.04 0.12 0.14
(a) Earnings (loss) per share are computed independently for each of the
quarters. Therefore, the earnings (loss) per share for the four quarters
may not equal the annual earnings per share data.
(15) Subsequent Event
On January 11, 1999, the Company entered into a mortgage loan in the amount
of $3,000,000 with a life insurance company. The note term is 10 years,
with a principal amortization of 20 years at a fixed rate of interest of
7%. Due to the difference in the term of the note and the amortization of
principal, a balloon payment is due on February 1, 2009, in the amount of
$2,014,716.
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Shareholders
KVH Industries, Inc. and Subsidiary:
Under the date of February 10, 1999, we reported on the consolidated
balance sheets of KVH Industries, Inc., and subsidiary as of December 31,
1998 and December 31, 1997 and the related consolidated statements of
operations, stockholders' equity, and cash flows for each of the fiscal
years in the three-year period ended December 31, 1998, as contained in
the annual report on Form 10-K for the year 1998. In connection with our
audits of the aforementioned consolidated financial statements, we also
audited the related financial statement schedule listed in Item 14(a)(2).
This financial statement schedule is the responsibility of the Company's
management. Our responsibility is to express an opinion on this financial
statement schedule based on our audits.
In our opinion, such financial statement schedule when considered in
relation to the basic consolidated financial statements taken as a whole,
presents fairly, in all material respects, the information set forth
therein.
/s/ KPMG LLP
Providence, Rhode Island
February 10, 1999
Schedule II
KVH INDUSTRIES, INC. AND SUBSIDIARY
Valuation and Qualifying Accounts
Additions
Balance at Charged to
Beginning of Cost or Deductions Balance at
Description Year Expense from Reserve End of Year
----------------------------------------------------------------------------------------
(in thousands)
Deducted from accounts
receivable for doubtful
accounts
1998 74 26 (8) 92
1997 50 24 - 74
1996 95 - (45) 50
Deducted from inventory
for estimated obsolescence
1998 511 50 (484) 77
1997 105 556 (150) 511
1996 60 60 (15) 105