FORM 10-KSB/A No. 1
U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 29, 2002 Commission File No. 0-10772
ESSEX CORPORATION
(Name of small business issuer in its charter)
Virginia 54-0846569
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
9150 Guilford Road, Columbia, Maryland 21046
(Address of principal executive offices) (Zip Code)
Issuer's telephone number: (301) 939-7000
SECURITIES REGISTERED UNDER SECTION 12(b) OF THE EXCHANGE ACT:
TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED
------------------- -----------------------------------------
None None
SECURITIES REGISTERED UNDER SECTION 12(g) OF THE EXCHANGE ACT:
COMMON STOCK, NO PAR VALUE PER SHARE
(Title of Each Class)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 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 ---
----
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B is contained in this form, and no disclosure will 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-KSB or any
amendment to this Form 10-KSB.
State issuer's revenues for its most recent fiscal year. $4,506,419
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State the aggregate market value of the voting stock held by non-affiliates
computed by reference to the price at which the stock was sold, or the average
bid and asked prices of such stock, as of a specified date within the past 60
days. $12,224,550 as of March 6, 2003
-----------
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date.
CLASS OUTSTANDING AT MARCH 14, 2003
----- -----------------------------
Common Stock, no par value per share 8,911,971
DOCUMENTS INCORPORATED BY REFERENCE
None
================================================================================
A list of the Exhibits and Financial Statement Schedules in this Report on Form
10-KSB/A No. 1 appears on page 44.
Transitional Small Business Disclosure Format YES NO X
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Table of Contents
FORM 10-KSB/A No. 1
Essex Corporation
PART I
Item No. Page
-- INTRODUCTORY STATEMENT................................................ 3
1. DESCRIPTION OF BUSINESS............................................... 3
2. DESCRIPTION OF PROPERTIES..............................................25
3. LEGAL PROCEEDINGS......................................................25
4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS....................25
PART II
5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS...............26
6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION..............27
7. FINANCIAL STATEMENTS...................................................32
8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE...................................................32
PART III
9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT......................33
10. EXECUTIVE COMPENSATION.................................................38
11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.........42
12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.........................43
13. EXHIBITS AND REPORTS ON FORM 8-K.......................................44
14. CONTROLS AND PROCEDURES................................................45
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PART I
INTRODUCTORY STATEMENT
The information contained in this report pertains to the registrant, Essex
Corporation. References to the "Company", "Essex" or "we", "our" and "us" refer
to Essex Corporation.
FORWARD-LOOKING STATEMENTS
Some of the statements contained in this annual report discuss future
expectations, and other "forward-looking" information. Those statements are
subject to known and unknown risks, uncertainties and other factors that could
cause the actual results to differ materially from those contemplated by the
statements. The "forward-looking" information is based on various factors and
was derived using numerous assumptions. In some cases, you can identify these
so-called "forward-looking statements" by words like "may," "will," "should,"
"expects," "plans," "anticipates," "believes," "estimates," "predicts,"
"potential," or "continue" or the negative of those words and other comparable
words. You should be aware that those statements only reflect our predictions.
Actual events or results may differ substantially. Important factors that could
cause our actual results to be materially different from the forward-looking
statements are disclosed under the heading "DESCRIPTION OF BUSINESS - Risk
Factors."
1. DESCRIPTION OF BUSINESS
GENERAL OVERVIEW
Based in Columbia, Maryland, Essex develops and commercializes
optoelectronic devices for industry and government. Essex began 2002 with a core
team of over 25 engineers, most of whom have worked together for more than a
decade. Now, the technical team has grown to over 80, with the formation of the
Communications Services Division (CSD) and the acquisition of Sensys Development
Laboratories, Inc. (SDL) effective March 1, 2003. In the area of services, Essex
provides optoelectronic and signal processing expertise to government customers
under highly classified advanced and next generation research and development
(R&D) contracts, supports the intelligence community mission critical voice and
video systems infrastructure, and provides highly classified systems engineering
to government customers. In the area of products, Essex builds optical
communications and networking system elements and components.
Essex's team has invented, built and fielded many complex optical systems
for U.S. Government agencies' R&D in the areas of fiber optic communications,
signal processing and code division multiple access (CDMA) telecommunications
systems. The Company is a pioneer in the development of optoelectronic (OE)
processors. OE processors are specialized, high-performance computing systems
that significantly outperform conventional general-purpose computing systems in
certain important applications. Optoelectronic processors usually offer
performance improvements of a factor of ten or more. They accelerate
conventional workstations in demanding computations in image, signal and other
types of technical data processing. An optoelectronic processor is integrated
with or embedded in other processors to render daunting processing problems
feasible. ImSyn(TM), the Company's first commercially available processor,
computes at an equivalent all-digital rate of 1.6 teraflops at 120 dB dynamic
range.
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Capitalizing on its expertise and success in developing and building
optoelectronic systems for national security applications, Essex has developed
five core technology areas of expertise and intellectual property:
1) Optoelectronic processors and processing (including the Advanced
Optical Processor (AOP) program and Optical Processor Enhanced Receiver
Architecture (OPERA(TM)) technology);
2) HYPERFINE WAVELENGTH DIVISION MULTIPLEXING (WDM) technology for
telecommunications;
3) Communications services (including the capabilities of the newly formed
Communications Services Division);
4) Signal processing (including the capabilities of recently acquired
SDL); and
5) Virtual Lens Imaging (VLI) technology (including the ImSyn(TM)processor
and technology, for surface and below surface imaging).
The HYPERFINE WDM technology is a passive optical technology for powering
WDM networks of the future. OPERA(TM) will be a system that combines an
optoelectronic processor with advanced multi-user detection algorithms to
eliminate the "near-far" problem for a CDMA system. The VLI technology includes
advances in both hardware (optoelectronic processors) and software (processing
algorithms). Each of these areas includes significant intellectual property that
is patented or patent pending.
BACKGROUND AND RECENT DEVELOPMENTS
Since mid-2000, Essex has utilized approximately $6.6 million of private
capital, including $500,000 of proceeds from outstanding convertible debt, to
enable its optoelectronic development team to focus primarily on developing
commercial telecommunication products for next-generation optical networking and
wireless systems. The Company has adopted a "smart revenue" policy for
evaluating all proposals to provide its services to government agencies on a
contract basis, thus using the funds from the private equity investors during
the period 2000-2002 to substitute for revenues from government contract work
that did not promote the Company's technology development objectives. In
connection with its decision to raise private equity financing in mid 2000,
Essex management decided to concentrate its initial commercialization efforts on
the development of products for fiber optic networks based on the Company's
experience in producing all-passive, inexpensive, small and robust WDM devices
with very narrow channel spacing for national security applications.
FOCUS ON OPTICAL NETWORK TELECOMMUNICATIONS MARKET
The first products that Essex is preparing for market are built around the
Company's HYPERFINE WDM technology that provides a passive, low-cost method to
increase bandwidth capabilities within fiber optic networks. These products
under development have the potential to provide revolutionary capabilities in
the telecommunications markets to which they are applied because they share
certain key characteristics of the core HYPERFINE WDM technology:
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o All passive optical components;
o Simple and small packaging, using standard manufacturing processes;
o High density--50 MHz to 100 GHz spacing;
o Superior response and flat filter shapes with excellent channel isolation;
o Passband shapes that can be tailored for each application;
o Low insertion loss;
o Low temperature sensitivity; and
o Fixed or tunable designs.
Essex believes that significant and unique opportunities exist for its
HYPERFINE WDM technology within the optical networking telecommunications
market. This market encompasses the long-haul, metro and access networks and the
test equipment industry. The Company believes that its HYPERFINE WDM technology
addresses the issues presented as carriers in each market move away from
"legacy" networks with rigid bandwidth provisioning, significant service delays,
truck rolls for required upgrades and extremely high life cycle costs to
next-generation systems with provisioning by wavelength, tunable bandwidth,
upgrades through installation of network cards and bandwidth on demand "pay as
you go" infrastructures. HYPERFINE WDM technology promises to enable network
operators to offer services more quickly, flexibly and inexpensively, while at
the same time scaling to higher bandwidths, offering individual wavelengths,
longer distance reach and supporting multiple protocols and topologies.
DEMONSTRATION AND EARLY FIELD TRIALS OF HYPERFINE WDM TECHNOLOGY
Within six months of the September 2000 completion of its initial $2
million private placement with new investors, the Company demonstrated a lab
version of its HYPERFINE WDM device technology to representatives of select
telecommunications companies. By mid-2001, Essex began field trials of its
16-channel, OC-48, 6.25 GHz channel spacing demultiplexer based on the HYPERFINE
WDM technology. During 2002 the field trials continued and the uniqueness and
value of this technology breakthrough gained increased attention in the
industry. Currently, the devices, including design and engineering enhancements
made in 2002, are being evaluated and tailored for the needs of
telecommunications companies for application in back-bone fiber optic networks,
metro and access systems, and testing equipment. In addition, several other
products in the HYPERFINE WDM family of devices are currently in the design and
engineering phase.
EARLY SALES OF HYPERFINE WDM
These accomplishments have enabled Essex to meet with and discuss in depth
its HYPERFINE WDM technology with a broad range of major companies engaged in
the telecommunications industry. Many of these companies have agreed to field
trial Essex's HYPERFINE WDM prototype and/or work with Essex on this technology
in some fashion. In particular, Essex has announced relationships with Agilent,
MIT/Lincoln Labs and Harris Corporation. Relationships with other companies have
not yet been publicly announced due to nondisclosure agreements. The Company
continued field trials in 2002 and will do so in 2003. Adoption of the
technology by
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the commercial telecommunications market has been slowed because of the
continued unfavorable conditions in the telecommunications market. However,
early orders have occurred in the U.S. Government market. These orders have
included both prototype units for laboratory test networks and early production
(alpha) units, based on advanced designs of the product. As a result, the
commercial HYPERFINE WDM products have generated initial "early adopter" product
orders in late 2002 with additional orders in early 2003. In addition, Essex
expects to enter into one or more commercial alpha (early adopter) programs
during 2003 that should result in limited production. Expanded production for
fully operable HYPERFINE WDM devices will be timed to a recovery in the
telecommunications equipment market, currently projected by many analysts for
late 2003 or early 2004. The Company is continuing to develop prototype products
for the remaining family of HYPERFINE WDM devices: laser locker/monitor, optical
spectrum analyzer, optical add/drop multiplexer and optical CDMA, with a goal of
placing these devices in field trials as well.
MANUFACTURING RELATIONSHIP WITH HARRIS CORPORATION
In November 2001, Essex announced a relationship with Harris Corporation of
Melbourne, Florida. The two companies have worked together on government
contracts in the past and Harris has a well-deserved reputation as a
manufacturer of optical networking products. The agreement established Harris as
the primary manufacturer of the HYPERFINE WDM product line. This relationship
has remained strong throughout 2002, as the product has advanced in design and
form from prototype to early production model.
OTHER TECHNOLOGY DEVELOPMENT
With HYPERFINE WDM progressing into field trials, Essex has turned its
attention to completing research and development work on the other optical
products. The Company is continuing the design work necessary for the
commercialization of the Optical Processor Enhanced Receiver Architecture
(OPERA(TM)) technology for wireless and DSL applications. Development of this
technology has been impacted by the availability of development funds and the
importance of a strong focus on the successful commercial launch of the first
HYPERFINE WDM products. The Company is exploring the joint development of
OPERA(TM) with several communications companies with the objective of leveraging
Essex's optoelectronic experience with the communications companies' extensive
market and technical experience. Essex also believes that OPERA(TM) has the
capacity to provide enhance performance of Digital Subscriber Line (DSL)
technology solutions and wireless network technology (802.11.x networks).
NATIONAL SECURITY RELATED BUSINESS
Essex is uniquely positioned in the national security and intelligence
community to deliver its technology and services for national security programs.
In early 2002, Essex formed a National Programs Advisory Board to refine the
Company's focus and to bring Essex talent and technology into the spotlight in
the military intelligence community and to help showcase the dramatic benefits
that Essex technology offers to today's intelligence community.
Guiding Essex on its National Programs Advisory Board are retired U.S. Army
Lieutenant General Claudia J. Kennedy, retired U.S. Air Force Lieutenant General
Kenneth A. Minihan and retired U.S. Navy Rear Admiral Don H. McDowell. Over the
past year Essex has experienced significant growth in its National Programs
initiative as it has leveraged its experience in optical
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communications, signal processing, optical processing and image processing into
several government contracts.
Essex's growth in providing technology and services to government agencies
for national security programs is reflected in five main areas: our Advanced
Optical Processor (AOP); our HYPERFINE WDM for defense applications; our
Communications Services Division (CSD); our subsidiary Sensys Development
Laboratories, Inc. (SDL) (System Engineering); and our Virtual Lens Imaging
Technologies. Each area is poised for growth in 2003.
ADVANCED OPTICAL PROCESSOR
The Advanced Optical Processor (AOP) being developed by Essex under
contract for the United States Missile Defense Agency (MDA) is a third
generation device which leverages spread spectrum signal analysis, wideband
ELINT (electronic intelligence) and cryptologic exploitation. The AOP is used
for ballistic missile defense environments. In these environments, not only must
the missile target be identified using Range-Doppler Imaging (RDI), but other
items that are sent into the threat environment to make it harder to identify
and "kill" the missile target must also be identified. Other items launched
along with the missile include chaff, debris, closely spaced objects, jammers,
spoofers and missile decoys. The AOP is a high performance radar signal
processor that provides the true correlation-based image formation for ballistic
missile defense in a cost-effective, low size, low weight and low power package.
In May 2002, Essex was awarded a five-year $25 million IDIQ (indefinite
delivery, indefinite quantity) contract from the U.S. Department of Defense
(DoD), Naval Air Warfare Center to use its unique signal processing technology
to enhance DoD radar programs. Under this contract, Essex has received $6.1
million in task orders from MDA to design and deliver a next generation AOP. The
system has several advantages compared to all-digital solutions including:
elimination of wideband analog-to-digital (A/D) converters and significant
computational software; simultaneous use of advanced waveforms that mitigate the
effectiveness of counter measures; high dynamic range imagery; reduced hardware
costs and capability for in-flight reprogrammablity.
In this work for the MDA, Essex will design and fabricate a prototype AOP
then test the device at MIT/Lincoln Labs and perform test planning for a field
demonstration using the Alcor range radar system. Essex believes it is in the
last steps prior to production of the AOP.
HYPERFINE WDM PRODUCTS
HYPERFINE WDM technology and products are being proposed and applied to
several different government requirements. These include multiline lasers,
Optical CDMA systems, protection of very high speed communications links, fiber
infrastructure enhancement and leverage, and "wavelength per user" architectures
for Gigabit Ethernet networks. The Company and its customers continue to examine
and find innovative ways to apply this powerful technology to a broad range of
communications and networking applications.
COMMUNICATIONS SERVICES DIVISION
In late 2002 Essex received a telecommunication services contract with a
potential total multiyear contract value of $30 million and formed the
Communications Services Division
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(CSD) to provide telecommunication systems support in the area of modernization,
project management, integration and engineering analysis. The CSD will focus on
supporting the intelligence community's mission-critical voice and video systems
and associated infrastructure.
The CSD has hired over 35 new employees and expects to generate minimum
revenue of $3 million in 2003. The Company believes the CSD is poised for
significant growth as the intelligence community focuses on upgrading its
telecommunications infrastructure.
SENSYS DEVELOPMENT LABORATORIES
Effective March 1, 2003 Essex acquired Sensys Development Laboratories,
Inc. (SDL), a Maryland-based provider of systems and software engineering
services to the intelligence community. SDL's skill and experience are highly
complementary to Essex's core competencies in image and signal processing
technology. This acquisition is part of an overall strategy to expand Essex
resources and revenues to build a powerhouse of talent and technology founded on
a solid base of customers and revenues. This acquisition adds over 25 employees,
an estimated $4 million to Essex 2003 revenues and a solid base of contracts
with excellent growth potential.
The Company believes that SDL's experience in providing systems engineering
and software engineering for special customers in the intelligence community
will greatly enhance Essex's ability to respond to urgent intelligence
priorities.
VIRTUAL LENS IMAGING TECHNOLOGIES
The Virtual Lens Imaging technology (VLI) is a patented high-resolution
imaging system that leverages Essex's experience in synthetic aperture imagery
and optoelectronic system development. The Company's VLI technology is based on
the key features of its optoelectronic processor and its ability to calculate
images from non-uniform data in real time.
The main areas for Essex's VLI technology are Synthetic Aperture Radar
(SAR) and Ground Penetrating Radar (GPR). Under certain government contracts,
Essex provides SAR image processing using its optoelectronic processors. SAR has
become the bedrock of military imaging because it can penetrate clouds, foliage
and the ground and Essex has pioneered the use of optoelectronic processors for
SAR image processing. Essex has received and expended over $2 million in Small
Business Innovative Research (SBIR) awards to fund the continuing application of
SAR processing techniques. The next step is to transition this technology into
major government programs. The Company believes that its VLI technology for SAR
and GPR processing has excellent prospects to transition to major government
programs as such customers increasingly focus on military imaging.
STRATEGY
Essex is pursuing a business strategy that is based on sound business
practice and experience: CREATE ENDURING VALUE THROUGH GROWTH AND INNOVATION. In
2003 this strategy will emphasize the importance of financial stability along
with affordable development of new products and services. Enduring value
requires careful fiscal management and an executive team with the vision to
create products and services that are responsive to customer needs, and the
skill to balance the needs for both revenue generation and product innovation.
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With the support of its private investors over the past two years, Essex
accelerated the development of key technologies into market ready products.
During this period, even though Essex experienced an operating loss, Essex's
management team never lost sight of the importance of the principles of cost
control and revenue generation. To meet our goals, revenue generating talent was
diverted from direct customer work to focus on accelerating the development of
HYPERFINE WDM and other technologies into products.
As has already been described, the result of this diversion from immediate
revenue generation has been a resounding success. HYPERFINE WDM is now
experiencing its first commercial sales and is positioned for a major launch
when the telecommunications market returns from its current period of decline.
In addition, other applications and products have emerged from this focused
period of development and innovation.
Concurrent with the acceleration of product development, Essex has also
been pursuing a program of growth. Just as new product development requires time
to produce results, so does growth of the existing business. The results of the
growth program are clear in the results reported here. Essex revenues nearly
doubled from 2001 to 2002.
GROWTH PROGRAM
The growth program has four major elements:
o Growth of existing projects and programs;
o Creation of new projects and programs;
o Product sales; and
o Addition of products, projects, programs and capabilities through select
acquisitions.
Essex is not relying on any one these growth elements to achieve its
strategic goals for 2003 and beyond. Rather, the Company is working to ensure
that all four of these elements contribute to an exciting expansion of the
business in 2003, and a positioning for continued growth in future years.
Examples of the success of the growth program are the addition of at least
$4 million in 2003 revenue from the Communications Services Division, and the
award of follow-on funding of $3.7 million on an existing Missile Defense Agency
contract. Also, the completion of the SDL acquisition will add over 25 people
and resources and should provide a minimum of $4 million of revenues in 2003.
Product sales offer a significant opportunity for growth, in both the
government and commercial market places. Essex has several technology products
that are in different stages of market deployment, ranging from early
development to early deployment. None of Essex's products are yet in full scale
production and market deployment. However, several are ready to move from early
product stage to production within 2003, depending on market conditions,
available funding, and demand.
INNOVATION
The Essex team is expert at finding solutions and new approaches to
persistent problems. Innovative use of optical processing has produced a number
of technologies, including HYPERFINE
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WDM and OPERA. The key to extracting value from these solutions remains going
beyond first or single use applications of a technology to look for markets.
This requires a robust internal process for managing and directing the resources
that are available to develop technology and products.
In many technology companies, innovation is an occasional byproduct of
product development and sales that is quickly cut during a tight market. At
Essex, innovation and creativity are part of every project, program and product;
they are a continuous part of how we approach products and projects, rather than
being a fragile veneer.
However, it is also vitally important that technology and product
development funds are used to best advantage. In a market where development
funding is tight, this means that funds must be used to achieve maximum impact
on the revenue generation potential. Necessarily, this will slow down the
development of some products. Essex has established an internal process to
examine and balance its investment in the development of new products.
COMPETITIVE ADVANTAGE
Essex remains strongly committed to the photonics market. Part of the Essex
strategy is to carefully manage the competitive advantage of its technology and
products. This is being done by focusing on both the near-term and long-term
issues that will impact the value offered by each product. To enhance near-term
competitive advantage, Essex is taking several steps:
o Developing key partnerships and alliances;
o Focusing on early customer opportunities to showcase the technology,
particularly the U.S. Government;
o Improving its financial position;
o Working with its manufacturing partner to streamline the design and reduce
production costs;
o Working with key partners to address existing requirements in the market;
and
o Making revenue generation potential and Return On Investment (ROI)
critical design parameters for the HYPERFINE WDM product line.
To position for long-term competitive advantage, Essex is taking these
additional steps:
o Securing and protecting its intellectual property rights with patent
applications;
o Examining each technology and product for additional applications and uses;
o Continuing feature development to increase the already significant market
differentiation of HYPERFINE WDM;
o Working with key partners to respond to emerging requirements;
o Integrating HYPERFINE WDM with different system vendor architectures to
ensure interoperability; and
o Making revenue generation potential and ROI critical design parameters for
the HYPERFINE WDM product line.
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Essex has a compelling competitive advantage in the current market because
of its breakthrough technology and its well established revenue base. In
addition, one of the few customers currently buying new telecommunications
products is the U.S. Government. Essex has a long and successful history of
supplying services, technology and products to the U.S. Government, and is
successfully selling early HYPERFINE WDM units to a variety of Government
organizations for different projects.
Essex plans to use its knowledge and experience in selling technology
solutions to the U.S. Government in order to expand its relationship with key
system vendors and other companies offering leading edge optical networking
products and solutions. This will allow Essex to develop a strong relationship,
founded in revenue generation, with a select group of technology leaders. As the
commercial market for new solutions emerges from dormancy, these relationships
will form the basis for a major launch of Essex products into the commercial
telecommunications market.
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RISK FACTORS
Our business, results of operations and financial condition are subject to
the risks set forth below. You should carefully consider these risks. Additional
risks and uncertainties, including those that are not yet identified or that we
currently think are insignificant, may also adversely affect our business,
results of operations and financial condition.
RISKS RELATED TO OUR FINANCIAL RESULTS
WE HAVE A HISTORY OF NET LOSSES AND WE MAY NOT ACHIEVE OR SUSTAIN PROFITABILITY.
We incurred a net loss for our fiscal years ended December 29, 2002 and
December 30, 2001. The Company also incurred net losses in fiscal 2000 and 1998.
In 1999, we reported a small net income. As of fiscal year end 2002, we had an
accumulated deficit of $14.4 million. Our revenues have increased from $2.6
million in fiscal 2001 to $4.5 million in fiscal 2002, primarily as a result of
higher revenues on new and expanding U.S. Government programs. We expect to
incur declining net losses and to operate at breakeven or better in the near
term. Since September 2000, we have primarily funded our operations from the
sale of equity securities. We also expect to incur significant but reduced
product development and related expenses, and as a result we will need to
increase revenues to achieve profitability.
IF OUR ACTUAL CAPITAL REQUIREMENTS VARY SIGNIFICANTLY FROM OUR EXPECTATIONS, WE
MAY REQUIRE ADDITIONAL FINANCING SOONER THAN ANTICIPATED.
Between September 2000 and December 2002, we have received approximately
$6.6 million from Private Investors to pursue commercial applications of our
optical and wireless communications technologies and resulting products.
Additional funds are critical to our ability to continue to develop our
commercial technologies and products because we currently experience and expect
to continue to experience negative or breakeven cash flows. Our actual capital
requirements depend upon several factors that are difficult to predict,
including the timing of market acceptance of our commercial products under
development, our ability to establish and expand our customer base for our
commercial products and services, the level of expenditures for sales and
marketing and general and administrative functions, the level of revenues from
our U.S. Government contracts, the cost of offering additional services and
other factors. If our capital requirements vary materially from those currently
planned, we may require additional financing sooner than anticipated. There can
be no assurance that such funding will be available or could be obtained in
sufficient amounts or on terms acceptable to us, if at all, or on terms that
would not include substantial dilution to our stockholders. Without timely
financing, we would have to curtail or eliminate development and further reduce
expenditures.
RISKS RELATED TO OUR BUSINESS
WE CURRENTLY RELY ON SALES TO U.S. GOVERNMENT ENTITIES, AND THE LOSS OF SUCH
CONTRACTS WOULD HAVE A MATERIAL ADVERSE IMPACT ON OUR OPERATING RESULTS.
During fiscal 2002, contracts with the U.S. Government, primarily the
military services and other departments and agencies of the Department of
Defense (DoD), accounted for approximately 97% or $4.4 million of our revenues.
In fiscal 2001, revenues on U.S. Government programs were $2.2 million, or 84%
of our revenues.
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The loss or significant reduction in government funding of a large program
in which we participate could also materially adversely affect our future
revenues, earnings and cash flows and thus our ability to meet our financial
obligations. U.S. Government contracts are conditioned upon the continuing
approval by Congress of the amount of necessary spending. Congress usually
appropriates funds for a given program each fiscal year even though contract
periods of performance may exceed one year. Consequently, at the beginning of a
major program, the contract is usually partially funded, and additional monies
are normally committed to the contract only if appropriations are made by
Congress for future fiscal years.
GOVERNMENT CONTRACTS CONTAIN UNFAVORABLE TERMINATION PROVISIONS AND ARE SUBJECT
TO AUDIT AND MODIFICATION.
Companies engaged in supplying defense-related services and equipment to
U.S. Government agencies are subject to certain business risks peculiar to the
defense industry. These risks include the ability of the U.S. Government to
unilaterally:
o suspend us from receiving new contracts pending resolution of alleged
violations of procurement laws or regulations;
o terminate existing contracts;
o reduce the value of existing contracts;
o audit our contract-related costs and fees, including allocated indirect
costs; and
o control and potentially prohibit the export of our products.
Any of our U.S. Government contracts can be terminated by the U.S.
Government either for its convenience or if we default by failing to perform
under the contract. Termination for convenience provisions provide only for our
recovery of costs incurred or committed, settlement expenses and profit on the
work completed prior to termination. Termination for default provisions provide
for the contractor to be liable for excess costs incurred by the U.S. Government
in procuring undelivered items from another source.
OUR FIXED PRICE CONTRACTS MAY COMMIT US TO UNFAVORABLE TERMS.
We provide some of our products and services through fixed price contracts.
Fixed price contracts provided 28% and 45% of our sales for fiscal 2002 and
fiscal 2001, respectively. In a fixed price contract, the price is not subject
to adjustment based on cost incurred to perform the required work under the
contract. Therefore, we fully absorb cost overruns on fixed price contracts and
this reduces our profit margin on the contract. Those cost overruns may result
in a loss. A further risk associated with fixed price contracts is the
difficulty of estimating sales and costs that are related to performance in
accordance with contract specifications and the possibility of obsolescence in
connection with long-term procurements. Failure to anticipate technical
problems, estimate costs accurately or control costs during performance of a
fixed price contract may reduce our profit or cause a loss on the contract.
13
THE EARLY STAGE OF DEVELOPMENT OF OUR OPTICAL AND WIRELESS TELECOMMUNICATIONS
PRODUCTS MAKES IT DIFFICULT TO EVALUATE OUR FUTURE BUSINESS AND PROSPECTS.
We have traditionally derived our revenues from providing engineering and
signal processing services to the U.S. Government. While we continue to provide
these services, over the past year we have continued to emphasize our work on
developing new optoelectronics telecommunications products, including HYPERFINE
WDM fiber optic communications technology and OPERA(TM). Because our development
efforts on these products are ongoing and we have not begun commercial sales of
these products, our revenue and profit potential is unproven and our limited
history in the commercial telecommunications field makes it difficult to
evaluate our business and prospects. We have difficulty accurately forecasting
our commercial revenue, and we have limited historical financial data upon which
to base operating production budgets. You should consider our business and
prospects in light of the heightened risks and unexpected expenses and problems
we may face as a company in an early stage of development in a rapidly changing
industry.
WE MAY NOT SUCCESSFULLY IMPLEMENT OUR PLAN TO EXPAND INTO COMMERCIAL MARKETS.
Our revenues currently come from business with the DoD and other U.S.
Government agencies. In addition to continuing to pursue these market areas, we
will focus our technical capabilities and expertise on related commercial
markets, including HYPERFINE WDM, OPERA(TM) and ImSyn(TM). These products are
still under various stages of development. As such, these products are subject
to certain risks and may require us to:
o develop marketing, sales and customer support capabilities;
o obtain customer and/or regulatory certification;
o respond to rapid technological advances; and
o obtain customer acceptance of these products and product performance.
Our efforts to enter commercial markets will require significant resources,
including additional working capital and capital expenditures, as well as the
use of management's time. Our efforts to sell our commercial telecommunications
products, particularly our optical networking and broadband wireless
communications products, also may depend to a significant degree on the efforts
of independent distributors or communication service providers. We can give no
assurance that these distributors or service providers will be able to market
our products or their services successfully or that we will be able to realize a
return on our investments in them. If we are not successful in addressing these
risks or in developing these commercial business opportunities we may not be
able to reach profitability.
OUR STRATEGY INVOLVES PURSUING STRATEGIC ACQUISITIONS AND INVESTMENTS THAT MAY
NOT BE SUCCESSFUL.
Our business strategy includes acquiring or making strategic investments in
other companies with a view to expanding our portfolio of products and services,
acquiring new technologies, and accelerating the development of new or improved
products. To do so, we may issue equity that would dilute our current
shareholders' percentage ownership or incur debt or assume indebtedness. In
addition, we may incur significant amortization expenses related to intangible
assets. We also may incur significant write-offs of goodwill associated with our
companies, businesses or
14
technologies that we acquire. Acquisitions and strategic investments involve
numerous risks, including:
o difficulties in integrating the operations, technologies, and products of
the acquired companies;
o diversion of management's attention from our core business;
o potential difficulties in completing projects of the acquired company;
o the potential loss of key employees of the acquired company; and
o dependence on unfamiliar or relatively small supply partners.
In addition, acquisitions and strategic investments may involve risks of
entering markets in which we have no or limited direct prior experience, where
competitors in such markets have stronger market positions and of obtaining
insufficient revenues to offset increased expenses associated with acquisitions.
OUR SUCCESS LARGELY DEPENDS ON OUR ABILITY TO RETAIN KEY PERSONNEL.
Our success has always depended in large part on our ability to attract and
retain highly-skilled technical, managerial, sales and marketing personnel,
particularly those skilled and experienced in optoelectronics and optical
communications equipment. The loss of key personnel may prevent us from
completing current development and restrict new development.
IF WE ARE UNABLE TO DEVELOP AND SUCCESSFULLY INTRODUCE NEW AND ENHANCED PRODUCTS
THAT MEET THE NEEDS OF OUR CUSTOMERS IN A TIMELY MANNER, OUR REVENUES AND
RESULTS OF OPERATIONS COULD BE ADVERSELY AFFECTED.
Our future success depends on our ability to anticipate our customers'
needs and develop products that address those needs. Technological change in the
optical networking industry is occurring at a rapid pace. As a result, we expect
there to be frequent new product introductions, changes in customer requirements
and evolving industry standards. We may not be able to develop new products or
enhancements to our existing products in a timely manner, or at all. This would
cause potential customers to seek other solutions, which would reduce our
revenues and adversely affect our results of operations and financial condition.
We are currently developing many potential optical networking products
through our research and development efforts. Although we have several products
in development, we may not bring all of these potential products into commercial
production due to:
o changes in customer demand;
o technological developments that make our products less competitive;
o evolving industry standards; or
o allocation of our limited resources to other products or technologies.
If we incur significant expenses developing products that we do not produce
commercially, or if we select the wrong products or technologies to bring into
commercial production, our revenues
15
and results of operations could be adversely affected and we may not recover
significant research and development expenses.
ONE ASPECT OF OUR SUCCESS IS DEPENDENT ON OUR OPTOELECTRONICS TELECOMMUNICATIONS
PRODUCTS BEING DEVELOPED. FAILURE OF OUR PRODUCTS TO OPERATE AS EXPECTED COULD
DELAY OR PREVENT THEIR DEPLOYMENT AND SALE AND COULD SERIOUSLY IMPAIR OUR
COMMERCIAL BUSINESS AND PROSPECTS.
Our future growth and success depends in part on the commercial success of
our optical and wireless telecommunications products being developed. We have
begun limited commercial sales of our products and have produced devices only to
specifications required in order to conduct laboratory tests and field trials.
Some of our devices have been deployed in field trials, others have been tested
in our laboratories and still others are in earlier stages of development. If
our products fail to operate as expected, this could delay or prevent their
deployment and sale and could seriously impair our business and prospects.
THE MARKET WE INTEND TO SERVE IS HIGHLY COMPETITIVE AND WE MAY NOT BE ABLE TO
ACHIEVE OR MAINTAIN PROFITABILITY.
Competition in the network communications equipment market is intense. This
market has historically been dominated by such large companies as Alcatel,
Ciena, Cisco Systems, JDS Uniphase, Lucent Technologies, NEC and Nortel
Networks. Some of these companies, as well as emerging companies, are currently
developing products that may compete in the specialty areas that Essex's
technology is designed to address. We may face competition from other large
communications companies who may enter our proposed markets. Many of these
possible competitors have longer operating histories, greater name recognition,
larger customer bases and greater financial, technical and sales and marketing
resources than we do and may be able to undertake more extensive marketing
efforts and adopt more aggressive pricing policies than we can. Due to the
rapidly evolving markets in which we compete, additional competitors with
significant market presence and financial resources may enter our markets,
further intensifying competition.
IF WE ARE UNABLE TO PROTECT OUR INTELLECTUAL PROPERTY EFFECTIVELY, WE MAY BE
UNABLE TO PREVENT THIRD PARTIES FROM USING OUR TECHNOLOGIES, WHICH WOULD IMPAIR
OUR COMPETITIVE ADVANTAGE.
We rely on a combination of patent, copyright, trademark and trade secret
laws and restrictions on disclosure to protect our intellectual property rights.
We also enter into confidentiality or license agreements with our key employees
and consultants and control access to and distribution of our software,
documentation and other proprietary information. The Company believes that its
patents and patent applications provide it with a competitive advantage.
Accordingly, in the event the Company's products and technologies under
development gain market acceptance, patent protection would be important to the
Company's business. However, obtaining patent and other intellectual property
protection may not adequately protect our rights or permit us to gain or keep
any competitive advantage. For instance, unauthorized parties may attempt to
copy, reverse engineer or otherwise obtain and use our patented products or
technology without our permission, thus eroding or eliminating the competitive
advantage we hope to gain though the exclusive rights provided by patent
protection. Moreover, our existing patents and patents we have applied for (if
granted) may not protect us against competitors that independently develop
proprietary technologies that are substantially
16
equivalent or superior to our technologies, or design around our patents. In
addition, the competitive advantage provided by patenting our technology may
erode if we do not upgrade, enhance and improve our technology on an ongoing
basis to meet competitive challenges.
Monitoring unauthorized use of our technology is difficult, and we cannot
be certain that the steps we have taken will prevent unauthorized use of our
technology, particularly in foreign countries where the laws may not protect our
proprietary rights as fully as in the United States. A complete description of
Essex's patents and patent applications is contained in this Annual Report on
Form 10-KSB/A No. 1.
THERE IS A RISK THAT OUR PATENT APPLICATIONS WILL NOT BE GRANTED.
Although we have filed several applications for U.S. patents relating to
our HYPERFINE WDM and OPERA(TM) technologies, there is a risk that some or all
of our pending applications will not issue as patents. Although we believe our
patent applications are valid, the failure of our pending applications to issue
as patents would affect the competitive advantage we hope to gain by obtaining
patent protection and thus likely would have a material adverse effect upon our
business and results of operations.
WE MAY BECOME INVOLVED IN INTELLECTUAL PROPERTY DISPUTES, WHICH COULD SUBJECT US
TO SIGNIFICANT LIABILITY, DIVERT THE TIME AND ATTENTION OF OUR MANAGEMENT AND
PREVENT US FROM SELLING OUR PRODUCTS.
We or our customers may be a party to litigation in the future to protect
our intellectual property or to respond to allegations that we infringe on
others' intellectual property. Any parties asserting that our products infringe
upon their proprietary rights would force us to defend ourselves and possibly
our customers against the alleged infringement. If we are unsuccessful in any
intellectual property litigation, we could be subject to significant liability
for damages and loss of our proprietary rights. Intellectual property
litigation, regardless of its success, would likely be time consuming and
expensive to resolve and would divert management's time and attention. In
addition, we could be forced to do one or more of the following:
o stop selling, incorporating or using our products that include the
challenged intellectual property;
o obtain from the owner of the infringed intellectual property right a
license to sell or use the relevant technology, which license may not be
available on reasonable terms, or at all; or
o redesign those products that use the technology.
If we are forced to take any of these actions, our business could be
seriously harmed.
IF NECESSARY LICENSES OF THIRD-PARTY TECHNOLOGY ARE NOT AVAILABLE TO US OR ARE
VERY EXPENSIVE, OUR BUSINESS WOULD BE SERIOUSLY HARMED.
From time to time we may be required to license technology from third
parties to sell or develop our products and product enhancements. These
third-party licenses may not be available to us on commercially reasonable
terms, if at all. Our inability to maintain or obtain any third-party license
required to sell or develop our products and product enhancements could require
us to
17
obtain substitute technology of lower quality or performance standards or
at greater cost. If we were required to use technology with lower performance
standards or quality, customers may stop buying our products and this would
cause our revenues to decline. Similarly, if our costs rise significantly,
customers may choose less expensive alternative products, which would cause our
revenues to decline.
RISKS RELATED TO OUR COMPANY
A LIMITED NUMBER OF STOCKHOLDERS ARE ABLE TO EXERT SIGNIFICANT INFLUENCE OVER
MATTERS REQUIRING STOCKHOLDER APPROVAL.
Since September 2000, the Company has engaged in several private placements
with a few private investors or their affiliates. We refer to these entities and
their affiliates as the "Private Investors". The Private Investors hold
collectively approximately 3,243,000 shares of common stock. The Private
Investors also hold warrants exercisable under certain circumstances for up to
two million shares of our common stock. Accordingly, the Private Investors could
seek to exercise significant control and influence of certain actions requiring
the approval of the holders of shares of our common stock. This concentration of
ownership may also delay or prevent a change in control of Essex or reduce the
price other investors might be willing to pay for our common stock. The
interests of the Private Investors may conflict with the interests of other
holders of our common stock.
THERE IS CURRENTLY ONLY A LIMITED PUBLIC MARKET FOR OUR COMMON STOCK AND OUR
COMMON STOCK IS SUBJECT TO SIGNIFICANT PRICE fluctuations.
Our Common Stock is listed on the OTC Bulletin Board and there has only
been a limited public market for our common stock. Unless and until our common
stock is admitted for quotation on a national securities exchange or the Nasdaq
Stock Market, it is unlikely that any active trading market will develop or, if
any such market develops, that it will be sustained. Even if our common stock is
admitted for quotation or listing on a national securities exchange, an active
trading market may not develop unless the number of shares in the hands of the
public is substantially increased. In addition, in the event our operating
results fall below the expectations of public market analysts and investors, the
market price of our common stock would likely be materially adversely affected.
The trading price of our common stock is likely to be volatile and
sporadic. The stock market in general, and the market for technology companies
in particular, has experienced extreme volatility. This volatility has often
been unrelated to the operating performance of particular companies. Volatility
in the market price of our common stock may prevent investors from being able to
sell their common stock at or above the price such investors paid for their
shares or at any price at all.
SALES BY THE PRIVATE INVESTORS OR OTHERS OF A SIGNIFICANT NUMBER OF SHARES OF
COMMON STOCK COULD HAVE A MATERIAL ADVERSE EFFECT ON PREVAILING MARKET PRICES.
We cannot predict what effect, if any, that future sales of shares, or the
availability of shares for future sale, will have on the market price of our
common stock prevailing from time to time. Nevertheless, sales of substantial
amounts of common stock by the Private Investors, or the perception that such
sales may occur, could have a material adverse effect on prevailing market
prices.
18
At March 14, 2003, we have outstanding approximately 8.9 million shares of
our common stock, approximately 4,348,000 of which were sold or issued by us in
private transactions in reliance upon exemptions from registration under the
Securities Act. (See "Other Business Information - Recent Developments" section
which follows for further information.) These privately placed shares may be
sold only pursuant to an effective registration statement filed by Essex or an
applicable exemption, including the exemption contained in Rule 144 promulgated
under the Securities Act. In general, under Rule 144 as currently in effect, a
shareholder, including an affiliate of Essex, may sell shares of common stock
after at least one year has elapsed since such shares were acquired from us or
an affiliate of ours. The number of shares of common stock which may be sold
within any three- month period is limited to the greater of one percent of the
then outstanding number of shares of common stock or the average weekly trading
volume in the common stock during the four calendar weeks preceding the date on
which notice of such sale was filed under Rule 144. Certain other requirements
of Rule 144 concerning availability of public information, manner of sale and
notice of sale must also be satisfied. In addition, a shareholder who is not our
affiliate (and who has not been our affiliate for 90 days prior to the sale) and
who has beneficially owned shares acquired from us or our affiliate for over two
years may resell the shares without compliance with the foregoing requirements
under Rule 144.
The Private Investors have been granted rights to have up to 2,000,000
shares of common stock issuable upon exercise of warrants registerable under the
Securities Act upon demand. In addition, 660,000 of the 4,348,000 shares of the
privately issued common stock are covered by a registration statement on Form
S-2 that allows the sale of these shares from time to time on the
over-the-counter market or otherwise. We are also contractually obligated to
register an additional 1.l million shares of our common stock in early 2003.
Sales of substantial amounts of common stock under Rule 144 or pursuant to the
holder's registration rights, or the perception that such sales may occur, could
have a material adverse effect on prevailing market prices.
WE ARE AT RISK OF SECURITIES CLASS ACTION LITIGATION DUE TO OUR EXPECTED STOCK
PRICE VOLATILITY.
In the past, securities class action litigation has often been brought
against companies after periods of volatility in the market price of their
securities. Securities litigation could result in substantial costs and divert
management's attention and resources from our business. Due to the potential
volatility of our stock price, we may be the target of securities litigation in
the future.
19
RISKS RELATED TO THE OPTICAL NETWORKING INDUSTRY
THE OPTICAL NETWORKING INDUSTRY IS DEVELOPING, UNPREDICTABLE AND CHARACTERIZED
BY RAPID TECHNOLOGICAL CHANGES AND EVOLVING STANDARDS. IF THIS INDUSTRY DOES NOT
DEVELOP AND EXPAND AS WE ANTICIPATE, DEMAND FOR OUR PRODUCTS MAY FAIL TO GROW OR
MAY DECLINE, WHICH WOULD ADVERSELY AFFECT OUR REVENUES.
The optical networking industry is developing and characterized by rapid
technological change, frequent new product introductions, changes in customer
requirements and continuously evolving industry standards. As a result, it is
difficult to predict its potential size and future growth rate. In addition,
evolving customer requirements and industry standards are uncertain. Our success
in generating revenues in this evolving market will depend on our ability to:
o establish, maintain and enhance our relationships with optical networking
customers;
o convince our customers of the benefits of next-generation optical networks;
and
o predict accurately, and develop our products to meet, evolving customer
requirements and industry standards.
If we fail to address changing market conditions, sales of our products may
fail to grow or may decline, which would adversely affect our revenues.
THE OPTICAL NETWORKING EQUIPMENT INDUSTRY IS EXPERIENCING DECLINING AVERAGE
SELLING PRICES, WHICH COULD ADVERSELY AFFECT OUR REVENUES AND GROSS MARGINS.
The optical networking equipment industry is experiencing declining average
selling prices as a result of increasing competition and greater unit volumes as
communications service providers continue to deploy fiber optic networks. We
anticipate that average selling prices will continue to decrease in the future
in response to product introductions by competitors, price pressures from
significant customers and greater manufacturing efficiencies. These average
selling price declines may contribute to a decline in our gross margins, which
could adversely affect our results of operations.
IF THE INTERNET AND COMMERCIAL DATA NETWORKS DO NOT CONTINUE TO EXPAND AND
NEXT-GENERATION OPTICAL NETWORKS ARE NOT DEPLOYED AS RAPIDLY AS WE ANTICIPATE,
SALES OF OUR PRODUCTS UNDER DEVELOPMENT MAY DECLINE, AND OUR REVENUES MAY BE
ADVERSELY AFFECTED.
Our future commercial success depends on the continued growth of the
Internet and commercial data networks for commerce and communications, the
continuing increase in the amount of data transmitted over communications
networks and the increasing adoption of, and improvements to, optical networks
to meet the increased demand for bandwidth. If data networks, including the
Internet, do not continue to expand as a widespread communications medium and
commercial marketplace, the need for significantly increased bandwidth across
networks and the market for optical networking products may not continue to
develop. Future demand for the products we are developing is uncertain and will
depend to a great degree on the continued growth and upgrading of optical
networks.
20
BECAUSE OPTICAL PRODUCTS ARE COMPLEX AND ARE DEPLOYED IN COMPLEX ENVIRONMENTS,
THE PRODUCTS WE ARE DEVELOPING MAY HAVE DEFECTS THAT WE DISCOVER ONLY AFTER FULL
DEPLOYMENT, WHICH COULD SERIOUSLY HARM OUR BUSINESS.
Optical products are complex and are designed to be deployed in large
quantities across complex networks. Because of the nature of the products, they
can only be fully tested when completely deployed in large networks with high
amounts of traffic. Customers may discover errors or defects in the hardware or
the software, or products we develop may not operate as expected, after they
have been fully deployed. If we are unable to fix defects or other problems that
may be identified in full deployment, we would likely experience:
o loss of, or delay in, revenue and loss of market share;
o loss of existing customers;
o difficulties in attracting new customers or achieving market acceptance;
o diversion of development resources;
o increased service and warranty costs;
o legal actions by our customers; and
o increased insurance costs.
The occurrence of any of these problems could seriously harm our business,
financial condition and results of operations. Defects, integration issues or
other performance problems could result in financial or other damages to our
customers or could negatively affect market acceptance for the products we
develop. Our customers could also seek damages for losses from us, which, if
they were successful, would seriously harm our business, financial condition and
results of operations. A product liability claim brought against us, even if
unsuccessful, would likely be time consuming and costly and would put a strain
on our management and resources.
21
OTHER BUSINESS INFORMATION
FINANCING AND MARKETING
From September 2000 through December 2002, the Company has closed on
several private placement funding transactions with the Private Investors
aggregating $6,650,000. The funds have been and are to be used substantially to
patent, develop and commercialize its key leading-edge optical technologies,
principally HYPERFINE WDM and OPERA(TM). (See "Management's Discussion and
Analysis - Liquidity and Capital Resources" for further details about the
private placements.)
Although constrained by limited financial resources, the Company's
commercial marketing continues through use of internal staff and consultants.
Military end-use marketing continues to be carried out by key employees, both
directly to government agencies and indirectly through prime contractors,
through the submission of proposals. Such proposals may be in response to
customer requests while others are unsolicited proposals by the Company to
potential customers to solicit new work.
ACQUISITION
Effective March 1, 2003, the Company acquired Sensys Development
Laboratories, Inc. ("SDL") which has a history of profitable operations. This
acquisition adds over 25 employees and is expected to increase Essex 2003
revenue by $4 million. See Note 12 of Notes to Financial Statements for further
details.
CONTRACT MIX
Services of the Company are performed under cost-reimbursement (67% and 39%
in 2002 and 2001, respectively), fixed-price (28% and 45% in 2002 and 2001,
respectively) or time and material (5% and 16% of revenues in 2002 and 2001,
respectively) contracts and subcontracts. Fixed-price contracts have a greater
degree of risk and higher potential reward than cost-type contracts since the
Company is obligated to provide specific deliverables within the confines of the
contracted price.
GOVERNMENT PROGRAMS
Historically, a significant portion of the Company's revenues have been
derived from contracts, or subcontracts thereunder, with departments or agencies
of the U.S. Government, primarily the military services and other departments
and agencies of the Department of Defense (DoD). The percentage of the Company's
total revenues derived from government DoD contracts or subcontracts was 94% and
74% in 2002 and 2001, respectively. Government military programs include work
principally with the DoD Missile Defense Agency and the Army, and to a lesser
extent with the Air Force, Navy and other DoD entities. The Company also works
with industrial companies, engineering firms, equipment manufacturers and
research institutions.
The Company's business is focused upon applications of its proprietary
optoelectronics technology and products. During 2002, the Company worked on a
$2.4 million Missile Defense Agency program to design a next-generation advanced
optoelectronic radar processor. In January 2003, the Company received a $3.7
million dollar follow-on award to deliver the prototype processor by September
2003. The Company also worked in 2002 on several related
22
Phase 2 contracts for Small Business Innovation Research (SBIR) that deal with
processor applications.
PATENTS
The Company has a significant patent portfolio covering the core
intellectual property for the Company's products. The portfolio is divided into
four technology groups: HYPERFINE WDM, OPERATM, ImSynTM and Virtual Lens Imaging
(VLI).
The Company believes that its patents and patent applications provide it
with a competitive advantage. Accordingly, in the event the Company's products
and technologies under development gain market acceptance, patent protection
would be important to the Company's business. However, obtaining patent and
other intellectual property protection may not adequately protect our rights or
permit us to gain or retain any competitive advantage.
HYPERFINE WDM
The first HYPERFINE WDM U.S. and International patent applications in
certain countries were filed on October 13, 2000 and cover the use of the device
as a receiver and demultiplexer for wavelength division multiplexing fiber optic
networks. On January 22, 2002, U.S. and International patents were filed for use
of HYPERFINE WDM technology as an add drop multiplexer and as an optical-code
division multiple access (OCDMA) system. On March 19, 2002, U.S. and
International patents were filed for HYPERFINE WDM as a wavelength locker. On
July 2002, U.S. and International patents were filed for several other HYPERFINE
WDM optical signal processing architectures. On November 19, 2002 a provisional
U.S. application was filed for HYPERFINE WDM as a private and secure fiber optic
transmission system.
OPERATM
The OPERA(TM) application was filed with the U.S. and International Patent
offices in certain countries on January 19, 2001. OPERA(TM) is an optoelectronic
system for wireless communications that eliminates interfering signals using
optical correlation combined with Multi-User Detection (MUD) algorithms.
IMSYNTM
There are currently four ImSyn(TM) patents which have issued in the U.S.
The first three patents cover the optoelectronic architecture and applications
including accelerating image reconstructions for SAR and MRI. The claims in the
fourth patent cover the sensing and reconstruction techniques of the Virtual
Lens Microscope(TM) (VLM) technology which is part of the Company's VLI
technology family. The VLM has application for semiconductor inspection, ground
penetrating radar, biomedical imaging, and non-destructive testing.
The first ImSyn(TM) U.S. Patent No. 5,079,555, "Sequential Image
Synthesizer", includes 20 claims and expires January 7, 2009. The corresponding
patent, No. 2,058,209, issued in Canada, expires November 25, 2011. The
corresponding European patent for a subset of the claims, No. 0543064, is in
force in Great Britain and Germany, and will expire November 21, 2011. Japan has
issued Patent No. 3113338 for the same claims as the U.S. version and it will
expire on October 29, 2011.
23
The second ImSyn(TM) patent, U.S. Patent No. 5,384,573, "Image Synthesis
Using Time Sequential Holography" includes 157 claims and expires on January 24,
2012. Notification of allowance for a similar patent has been received from
Canada. In France, Great Britain, Germany and Italy, Patent EP0617797B1 has been
awarded for a subset of the claims in the U.S. patent and this patent expires
December 17, 2012.
The third ImSyn(TM) U.S. Patent No. 5,736,958, "Image Synthesis Using Time
Sequential Holography", with 8 claims expires April 7, 2015.
The fourth ImSyn(TM) U.S. Patent No. 5,751,243, "Image Synthesis Using Time
Sequential Holography" with 21 claims expires May 11, 2015.
VIRTUAL LENS IMAGING (VLI)
The ImSyn(TM)U.S. Patent No. 5,751,243 discloses the Virtual Lens
Microscope, a 2D and 3D sensing and reconstruction technique called the
Synthetic Aperture Microscope. On December 11, 2001, full U.S. and International
utility patent applications entitled "Efficient Fourier Transform Algorithm For
Non-Uniform Data" were filed.
COMPETITION
Market acceptance of Essex optical products and technology has not yet been
accomplished. The Company only began in late 2000 to announce the capabilities
of its HYPERFINE WDM and OPERA(TM) technologies. Since then, the Company has
been in contact with major telecommunications firms which are users and/or
supplies of equipment and services where the Company's technology would be
beneficial. In the telecommunications industry, all the largest international
telecommunications firms such as Lucent, Nortel, WorldCom, and all the largest
international fiber optic equipment manufacturers and suppliers such as JDS
Uniphase, Avanex, Ciena and Corvis, have the ability to produce competing
products in the specialty areas which Essex technology and products would
address. These companies are all larger and well established and have existing
customer bases. Essex will likely have to partner with or license to one of the
major industry entities in order to successfully introduce its technology and
products.
In business areas where ImSyn(TM) processors could be utilized, Essex is
just beginning to express itself outside the development laboratory and is not
yet firmly in the market. ImSyn(TM) processors need enhancement development and
testing which are not expected to occur until additional sources of funds for
such development are obtained.
See "Risk Factors" for a discussion of the competitive risks faced by Essex.
BACKLOG
As of December 29, 2002, the Company had a total backlog (funded and
unfunded) of approximately $52,100,000 as compared with $1,920,000 at December
30, 2001. Of these amounts, backlog was $600,000 funded and $51,500,000 unfunded
at yearend 2002 as compared to $1,025,000 funded and $895,000 unfunded at
yearend 2001. In January 2003, the Company was awarded a follow-on contract for
$3.7 million. This effectively increased year-end 2002 backlog to $55.8 million,
of which $4.1 million was funded and $51.7 million was unfunded. In the unfunded
24
backlog, there is approximately $19 million which is the remaining balance of a
$25 million U.S. Government Indefinite Delivery Indefinite Quantity 5 year
contract through 2007 to provide technology to enhance DoD radar programs. There
is also approximately $27 million which is the remaining balance on the new $30
million 10 year contract to provide telecommunications systems support to the
intelligence community. Funded backlog generally consists of the sum of all
contract amounts of work for which funding has been approved and contracts
signed, less the value of work performed under such contracts. Even though such
contracts are fully funded by appropriations, they are subject to other risks
inherent in government and commercial contracts, such as termination for the
convenience of the customer.
RESEARCH AND DEVELOPMENT
The Company incurred and expensed approximately $1,395,000 and $2,417,000
in 2002 and 2001, respectively, on internally-funded research and development
activities.
EMPLOYEES
As of March 1, 2003, the Company had approximately 100 employees, of whom
76 were full-time employees.
2. DESCRIPTION OF PROPERTIES
OFFICE FACILITIES
The Company leases its offices. The Company's corporate headquarters and
offices are located in a one-story building at 9150 Guilford Road, Columbia,
Maryland where the Company occupies approximately 18,000 square feet. The lease
is through October 2005. The Company believes that its present facility is
adequate for its current business needs.
EQUIPMENT
The Company owns a variety of computer workstations, test equipment,
microcomputers, printers and reproduction equipment. The Company leases computer
workstations in support of customer work. Other computer hardware and software,
test equipment, word processing and reproduction equipment used by the Company
are leased.
OPTOELECTRONICS LABORATORY
The laboratory consists of optical hardware and computer hardware and
software, optical benches and test equipment. The laboratory includes the
physical property which demonstrates and tests the capabilities of the Company's
patent-pending HYPERFINE WDM and OPERA(TM) and patented Image Synthesizer
(ImSyn(TM)) technology as well as other optoelectronic devices and applicatioNS.
3. LEGAL PROCEEDINGS - None
4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS - None
25
PART II
5. MARKET FOR THE COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
PRICE RANGE OF COMMON STOCK
The Company's common stock is quoted and trades are executed through the
OTC Bulletin Board under the symbol "ESEX".
The following table sets forth the range of high and low sales prices of
the Common Stock for the periods indicated. Sales prices include prices between
dealers, may not reflect mark-ups, mark-downs or commissions and may not
represent final actual transactions.
2002 2001
------------------------- -------------------------
High Low High Low
---------- ---------- ---------- ----------
First Quarter....... $ 8.25 $ 3.60 $ 5.25 $ 2.22
Second Quarter...... 6.40 3.15 4.80 2.88
Third Quarter....... 4.25 2.15 6.70 3.30
Fourth Quarter...... 3.56 1.50 7.50 5.55
At March 3, 2003, there were approximately 1,500 beneficial owners of the
Company's Common Stock, which includes 326 holders of record.
SALE OF UNREGISTERED SECURITIES
On December 17, 2002, the Company entered into a Convertible Note Purchase
Agreement with one of its Private Investors. The Company issued a $500,000
unsecured promissory note due December 31, 2004. The note bears interest at 10%;
such interest may be deferred until maturity. The outstanding principal balance
is convertible into common stock at $2.60 per share. If the note is converted,
then no interest shall be paid.
EQUITY COMPENSATION PLAN INFORMATION
The following table sets forth information as of December 29, 2002 with
respect to compensation plans under which equity securities of the Company are
authorized for issuance.
NUMBER OF SECURITIES TO WEIGHTED AVERAGE EXERCISE NUMBER OF SECURITIES
BE ISSUED UPON EXERCISE PRICE OF OUTSTANDING REMAINING AVAILABLE FOR
OF OUTSTANDING OPTIONS, OPTIONS, WARRANTS AND FUTURE ISSUANCE
PLAN CATEGORY WARRANTS AND RIGHTS RIGHTS [EXCLUDING COLUMN (A)]
(A) (B) (C)
------------------------------- ----------------------- ------------------------- ------------------------
EQUITY COMPENSATION PLANS
APPROVED BY SECURITY HOLDERS 1,462,218 $3.41 466,900
EQUITY COMPENSATION PLANS NOT
APPROVED BY SECURITY HOLDERS 436,500 $2.98 47,550
(1)
----------------------- ------------------------
TOTAL 1,898,718 514,450
(1) Represents shares of common stock underlying stock options, warrants
and rights issued outside of any formal plan.
26
6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION AND OTHER
SECTIONS CONTAIN FORWARD-LOOKING STATEMENTS THAT ARE BASED ON MANAGEMENT'S
EXPECTATIONS, ESTIMATES, PROJECTIONS AND ASSUMPTIONS. WORDS SUCH AS "EXPECTS",
"ANTICIPATES", "PLANS", "BELIEVES", "ESTIMATES", VARIATIONS OF SUCH WORDS AND
SIMILAR EXPRESSIONS ARE INTENDED TO IDENTIFY SUCH FORWARD-LOOKING STATEMENTS.
THESE STATEMENTS ARE NOT GUARANTEES OF FUTURE PERFORMANCE AND INVOLVE CERTAIN
RISKS AND UNCERTAINTIES THAT ARE DIFFICULT TO PREDICT. SEE "FORWARD LOOKING
STATEMENTS."
OVERVIEW
The Company's business is focused upon applications of its proprietary
optoelectronics technology and products for commercial and U.S. Government
customers and signal processing technology for U.S. Government customers.
U.S. GOVERNMENT BUSINESS
The Company has experienced growth in its government business and has been
actively pursuing growth strategies from internal efforts and external merger
sources. In 2002, under a 5-year $25 million Indefinite Delivery Indefinite
Quantity contract, the Company received an initial funding of $2.4 million to
develop a next generation optoelectronic radar processor. This initial phase was
substantially completed in 2002, and in January 2003 the Company received a $3.7
million follow-on award to complete the design and deliver a prototype before
the end of 2003. The Company received a new subcontract in November 2002 to
provide at least $3 million annually in telecommunications systems support in
the area of modernization, project management, integration and engineering
analysis. This work began in January 2003. This work is part of the multi-year
$30 million award to provide such services. The Company completed, effective
March 1, 2003, the merger with SDL, a Maryland-based provider of technical
engineering and software support services (see Note 12 in Notes to Financial
Statements). This merger adds over 25 highly skilled professionals to the Essex
staff and an expected $4 million of annual revenue in 2003.
FINANCING
Since September 2000, the Company has closed on several equity private
placement funding transactions with the Private Investors. Under the terms of
the equity funding, the Company has received over $6.1 million and the Private
Investors and their affiliates received approximately 3.2 million shares of
common stock. The Private Investors were also issued warrants for an additional
two million shares of common stock. The warrants can be exercised for a nominal
price under certain terms and conditions. See Note 11 of Notes to Financial
Statements for further details. The Company has also received proceeds of
$500,000 from the private placement of outstanding convertible debt.
COMMERCIAL BUSINESS
The Company's primary use of the private placement funds has been to
patent, develop and commercialize its key leading-edge optical technologies,
principally the fiberoptic HYPERFINE WDM
27
devices and wireless OPERA(TM) technology. The purpose of the HYPERFINE WDM
device is to increase the number of usable communications channels within a
single optical fiber. The purpose of OPERA(TM) is TO increase capacity and
improve voice and data quality of wireless systems. These inventions arose from
the Company's work and expertise in the optical device and communications
fields.
The Company has prototypes of the HYPERFINE WDM technology which are being
demonstrated to prospective strategic partners and investors. The Company began
placing prototypes of its initial HYPERFINE WDM devices in field trials by
potential customers in late September 2001. The Company is developing
simulations of its OPERA(TM) wireless receiver device technology and is
undertaking TO determine the various market entry points for such device
technology. The Company is also holding discussions with various established
commercial entities that are in the wireless communications market in order to
determine the best commercial applications of such technology.
The development of the commercial HYPERFINE WDM devices required a
diversion of labor resources from revenue generation in 2002 and 2001. Because
of the emphasis on development, the Company was unable in 2002 and 2001 to
maintain customer programs of sufficient volume and to expand such work to
consistently achieve an overall breakeven or better level of operations on such
revenues.
STATUS
In light of the continued unfavorable conditions in the telecommunications
markets, the commercial market for the Company's optical technologies and
products has been slow in developing. As a consequence, the Company has opted to
significantly expand the government business base. The expansion should reduce
the net losses and permit the Company to move to breakeven and eventual
profitable operations while still continuing commercial development and
marketing, although at a reduced level to the extent funds are available. The
Company is also pursuing sales of its commercial HYPERFINE WDM and other optical
technologies in the government marketplace.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of financial statements requires the Company to make
estimates and judgments that affect the reported amounts of assets, liabilities,
revenues and expenses, and related disclosure of contingent assets and
liabilities. On an on-going basis, the Company re-evaluates its estimates,
including those related to revenue recognition, research and development,
inventories, intangible assets, income taxes and contingencies. The Company
bases its estimates on historical experience and on various other assumptions
that are believed to be reasonable under the circumstances, the results of which
form the basis for making judgments about the carrying values of assets and
liabilities that are not readily apparent from other sources. Actual results may
differ from these estimates under different assumptions or conditions. The
Company believes the following critical accounting policies affect its more
significant judgments and estimates used in the preparation of its financial
statements.
28
REVENUE RECOGNITION
For U.S. Government customers, the Company provides services and products
under a variety of contract types, namely cost plus fixed fee (CPFF), fixed
price (FP) and time & material (T&M). The Company recognizes revenue on CPFF
contracts to the extent costs are incurred plus a proportionate amount of fee
earned. The Company must determine that the costs incurred are proper and that
the ultimate costs incurred will not overrun the expected funding on the
contract and still deliver the scope of work proposed. Even though CPFF
contracts generally do not require that the Company expend costs in excess of
the contract value, such expenditures may be required in order to achieve
customer satisfaction and receive additional work. In addition, since the
reimbursable costs include both direct and indirect costs, the Company must
determine that the indirect costs are properly accounted and allocated in
accordance with government cost accounting requirements. On FP level-of-effort
service contracts, the Company must determine that the costs incurred provide a
proportionate amount of progress on the work and that the ultimate costs
incurred will not overrun the funding on the contract and the required hours
will be delivered. On FP product orders, revenue is not recorded until the
Company determines that the goods have been delivered and accepted by the
customer. On T&M contracts, revenue is recognized to the extent of billable
rates multiplied by hours delivered, plus other direct costs. This is generally
the most straightforward revenue computation. The Company uses historical
technical performance experience where applicable to evaluate progress on FP and
CPFF jobs. The Company uses historical government audit experience in the
indirect cost area to evaluate the propriety and expected recovery of its
indirect costs on CPFF contracts.
RESEARCH AND DEVELOPMENT
The Company has expended significant amounts for research and development
for new products. In accordance with generally accepted accounting principles,
the Company expenses and does not capitalize and add to inventory such
expenditures. When product design and prototypes are finalized and product
marketability and viability have been established, expenditures for inventory
are treated accordingly. There is a judgmental aspect to this decision which
could result in the over expensing in some cases or the early capitalization in
other cases of such expenditures.
2002 COMPARED TO 2001
Revenues were $4,506,000 and $2,642,000 for fiscal 2002 and 2001,
respectively, an increase of 71%. The increase was primarily due to the
increased revenue from the $2.4 million new U.S. Government Missile Defense
Agency program for design of a next generation advanced optoelectronics radar
processor (AOP) demonstration unit, including procurement of necessary materials
and equipment. This initial phase commenced May 2002 and was substantially
completed by December 2002. In January 2003, the Company received a $3.7 million
follow-on award to complete the design and prototype unit by September 2003.
There was an operating loss of $2,150,000 in fiscal 2002 compared to an
operating loss of $3,577,000 in fiscal 2001. Cost of goods sold and services
(COGS) provided as a percentage of revenue for fiscal 2002 was 57.6% as compared
to 50.8% in fiscal 2001. In 2001, the major component of COGS was direct labor
and associated costs. In 2002, due to the new AOP program referenced above,
there was a significant increase in the direct materials and equipment component
29
of COGS. The Company receives a higher markup on direct labor than direct
material and equipment costs.
Research and development (R&D) decreased in fiscal 2002 to approximately
$1,395,000 from approximately $2,417,000 in fiscal 2001. Expenditures for the
initial HYPERFINE WDM development in 2001 required significant outside vendor
costs for materials and non-recurring engineering. Such costs have declined in
2002 and are also being managed against available funding. The majority of the
R&D costs were incurred on efforts related to optical telecommunications
technology. The Company expects, subject to the availability of funds, to
continue its R&D spending in the optical and telecommunications areas in 2003.
The Company increased slightly its selling, general and administrative
expenses ("SG&A"), particularly in marketing for the optoelectronics and
telecommunications new device business areas. The Company has also incurred
higher expenses related to the Company's efforts to raise additional financing
in 2002. Overall, SG&A expenses remain high relative to the revenue volume as
the Company seeks to commercialize its optoelectronic telecommunications
products and services. The high SG&A expenses contributed to the operating
losses in 2002 and 2001.
Overall, the 2002 net loss declined primarily due to the decline in R&D
expenses and the higher revenue volume covering a greater portion of fixed
expenses.
CORPORATE MATTERS
The Company recognized a $750,000 charge in 2001 from the beneficial
conversion feature of convertible preferred stock. As proceeds were received
from the sale of preferred stock in 2001 and 2000, the Company recognized the
pro rata beneficial conversion feature on the convertible preferred stock as a
deemed dividend for purposes of computing net loss attributable to common
stockholders and per share amounts. The total recorded was $750,000 in 2001 and
$1,250,000 in 2000. This imputed amount had no effect on net loss (from
operations) or cash flows.
The Company had net interest expense of $24,000 in 2002 compared to net
interest income of $8,000 in 2001. In 2001, the Company netted $26,000 of
interest income, primarily from the temporary investment of funds from the
private placements, against $18,000 of interest expense. In 2002, there were
less funds available for investment.
The Company is in a net operating loss (NOL) carryforward position. No
provision or benefit from income taxes was recognized in 2002 or 2001.
30
LIQUIDITY AND CAPITAL RESOURCES
The Company evaluates its liquidity position using various factors as is
discussed below:
SELECTED FINANCIAL DATA
($ Thousands)
as of
-----------------------------------
December 29, December 30,
2002 2001
--------------- ---------------
Total Assets $ 2,343 $ 1,553
=============== ===============
Working Capital $ 222 $ 112
=============== ===============
Current Ratio 1.15:1 1.13:1
=============== ===============
Capital Leases $ 76 $ 191
Convertible Debt 500 --
--------------- ---------------
Total Debt/Financing $ 576 $ 191
=============== ===============
Stockholders' Equity $ 358 $ 645
=============== ===============
The net cash provided by financing activities in 2002 and 2001 is from the
Company completing several private placements of equity securities or debt
instruments to its Private Investors or their affiliates. The Company received
$2,000,000 and $3,000,000 in 2002 and 2001, respectively, from these private
placements. The funds have been used primarily for the development of the
optical telecommunications device technologies.
The net cash used in operating activities has resulted from the significant
losses incurred by the Company in 2002 and 2001, primarily due to the
expenditures for development of its optoelectronics products and services. The
Company's working capital and current ratio at the end of fiscal 2002 and 2001
were comparable. The Company plans to continue R&D spending on optoelectronics
in 2003 at a reduced level. The reduced R&D spending is intended to allow the
Company to operate at an overall breakeven or better level. Such R&D would be
financed with internally generated funds. In order to increase spending levels,
the Company would need additional funds.
The Company is seeking to establish joint ventures or strategic
partnerships, including the licensing of its technologies to major industrial
concerns to facilitate these goals. The Company might also seek additional funds
under appropriate terms from private sources to further finance development and
to achieve initial market penetration. If the Company does not successfully
commercialize its optoelectronic products or raise substantial additional
working capital, then these events could have a significant adverse effect on
the Company's future operating results and financial position.
The Company has a working capital financing arrangement with an accounts
receivable factoring organization. Under such an agreement, the factoring
organization may purchase certain of the Company's accounts receivable subject
to full recourse against the Company in the case of nonpayment by the customers.
The Company generally receives 85%-90% of the invoice amount at the time of
purchase and the balance when the invoice is paid. The Company is charged an
31
interest fee and other processing charges, payable at the time each invoice is
paid. There were $169,000 of funds advanced as of December 29, 2002.
The Company believes that it will be able to meet its 2003 funding
requirements and obligations from the aforementioned sources of revenue and
capital, and if necessary, by cost reductions. However, there can be no
assurances in this regard and we expect that it will need significant financing
in the future if we pursue acquisitions or increased product development is to
occur.
THE PRECEDING PARAGRAPHS CONTAIN FORWARD-LOOKING STATEMENTS AND THE FACTORS
AFFECTING THE ABILITY OF THE COMPANY TO MEET ITS FUNDING REQUIREMENTS AND MANAGE
ITS CASH RESOURCES INCLUDE, AMONG OTHER THINGS, THE MAGNITUDE AND TIMING OF
PRODUCT SALES AND THE MAGNITUDE OF FIXED COSTS, ALL OF WHICH INVOLVE RISKS AND
UNCERTAINTIES THAT ARE DIFFICULT TO PREDICT.
INFLATION
The Company, because of its substantial activities in professional services
and product development, is more labor intensive than firms involved primarily
in industrial activities. To attract and maintain higher caliber professional
staff, the Company must structure its compensation programs competitively. The
wage demand effect of inflation is felt almost immediately in its costs;
however, the net effect during the years presented is minimal.
The inflation rate in the United States generally has little impact on the
Company's cost-reimbursable type contracts and other short-term contracts. For
longer-term, fixed-price type contracts, the Company endeavors to protect its
margins by including cost escalation provisions or other specific inflation
protective terms in these contracts.
7. FINANCIAL STATEMENTS
See Item 13(a)(1) in Part III of this Form 10-KSB/A No. 1.
8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE
None.
32
PART III
9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE WITH
SECTION 16(A) OF THE EXCHANGE ACT
DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS
The Directors* and executive officers elected by the Board are:
NAME AGE POSITION
Leonard E. Moodispaw 60 President; Chief Executive Officer and
Director (3)
Terry M. Turpin 60 Sr. Vice President; Chief Scientist and
Director
Joseph R. Kurry, Jr. 52 Sr. Vice President; Treasurer and Chief
Financial Officer
Matthew S. Bechta 49 Vice President
Gerald J. Davieau 46 Vice President
Caroline S. Pisano 36 Vice President, Finance and General Counsel(4)
Craig H. Price 53 Vice President
Kimberly J. DeChello 42 Chief Administrative Officer and Secretary
H. Jeffrey Leonard 48 Chairman; Director (3)
Frank E. Manning 84 Chairman Emeritus; Director (2)
John G. Hannon 65 Director (2)
Robert W. Hicks 65 Director (1)
Ray M. Keeler 71 Director (1)(2)
Marie S. Minton 41 Director (1)
Arthur L. Money 63 Director (4)
* Directors are elected annually at the Company's Annual Meeting of
Stockholders.
(1) Member of the Audit Committee of the Board of Directors.
(2) Member of the Compensation Committee of the Board of Directors.
(3) Member of the Executive Committee of the Board of Directors.
(4) Ms. Pisano was succeeded by Mr. Money on the Board. She will continue
with the Company as Vice President of Finance and General Counsel.
Leonard E. Moodispaw, President, Chief Executive Officer and Director of
the Company, rejoined Essex in 1998. He held the office of Chief Operating
Officer until September 2000 when he was elected Chief Executive Officer. Mr.
Moodispaw was an employee and consultant with Essex during 1988 to 1993. From
1988 to 1993, he was President of the former Essex subsidiary, System
Engineering and Development Corporation (SEDC), and later served as Essex Chief
Administrative Officer and General Counsel. From April 1994 to April 1998, Mr.
Moodispaw was President of ManTech Advanced Systems International, Inc. (MASI),
a subsidiary of ManTech International Corporation. From 1965 to 1978, Mr.
Moodispaw was a senior manager in the National Security Agency (NSA). Following
NSA he was engaged in the private practice of law. He is the Founder of the
Security Affairs Support Association (SASA) that brings government and industry
together to solve problems of mutual interest. He also serves as a member of the
Board of Directors of Griffin Services, Inc., a subsidiary of
Vosper-Thornycroft, a UK company. He received a Bachelor of Science degree in
Business Administration from the American University in Washington, D.C. in
1965, a Master of Science degree in Business Administration from George
Washington University in Washington D.C. in 1969 and Juris Doctor in Law from
the University of Baltimore, Maryland in 1977. He enjoys chocolate and Key West,
Florida; is growing older but not up.
33
Terry M. Turpin was elected a Director of the Company in January 1997. He
is Senior Vice President and Chief Scientist for the Company, positions he has
held since 1996. He joined Essex through merger with SEDC where he was Vice
President and Chief Scientist from September 1984 through June 1989. Currently
Mr. Turpin is the Chairman of the Industrial Advisory Board for the
Opto-electronic Computing Center at the University of Colorado. From December
1983 to September 1984 he was an independent consultant. From 1963 through
December 1983, Mr. Turpin was employed by the NSA. He was Chief of the Advanced
Processing Technologies Division for ten years. He holds patents for optical
computers and adaptive optical components. Mr. Turpin represented NSA on the
Tri-Service Optical Processing Committee organized by the Under Secretary of
Defense for Research and Engineering. He received a Bachelor of Science degree
in Electrical Engineering from the University of Akron in 1966 and a Master of
Science degree in Electrical Engineering from Catholic University in Washington,
D.C. in 1970.
Joseph R. Kurry, Jr. joined Essex Corporation in March 1985. He is
Treasurer and Chief Financial Officer, positions he has held since 1985, and a
Senior Vice President. Mr. Kurry was controller of ManTech International
Corporation from December 1979 to March 1985. Mr. Kurry graduated in 1972 from
Georgetown University, in Washington, D.C. and is a Certified Public Accountant.
Mr. Kurry and his wife spend time with their college-age daughters and teenage
son in supporting various sports and school programs for Lehigh University in
Pennsylvania and Gonzaga College High School in Washington, D.C. The family
prefers summer vacations at the shore in Sea Girt, New Jersey.
Matthew S. Bechta was elected Vice President in October 1993. As Director
of the Processing Systems Group, Mr. Bechta is responsible for the development
and delivery of signal processing solutions to government, industry and
commercial customers. Mr. Bechta joined Essex in 1989 with the merger of Essex
and SEDC. As one of the founders of SEDC, he served in various technical and
management capacities since incorporation in 1980. From 1975-1980, Mr. Bechta
was employed by NSA as a systems engineer. Mr. Bechta holds a Master of Science
degree in Computer Science from the Johns Hopkins University and a Bachelor of
Science degree in Electrical Engineering from Spring Garden College,
Pennsylvania.
Gerald J. Davieau joined Essex in 1989 as a result of the merger of Essex
with SEDC, and was elected Vice President in November 1997. Mr. Davieau,
Director of Telecomm Systems Engineering, is responsible for design and analysis
of wireless satellite applications. He is listed on 14 Motorola patents and 6
patent disclosures from work on Iridium(R) and Teledesic(TM) satellite progrAMs.
Mr. Davieau was employed by SPACECOM in Gaithersburg, Maryland, 1982-1987. He
served in the U.S. Army from 1978 to 1982. Mr. Davieau holds a Bachelor of
Science degree in Electrical Engineering from Lehigh University and a Master of
Science degree in Electrical Engineering from the University of Maryland.
Caroline Pisano was a Director of the Company from September 2000 through
January 2003 and now serves as General Counsel and Vice President of Finance.
From August 1996 to March 2000, Ms. Pisano served as General Counsel and the
Chief Financial Officer of Pulse Engineering, Inc., an information security and
signal processing company which was sold in March 2000. From August 1992 to July
1996 Ms. Pisano served as a senior transactional attorney with the law firm of
Wechsler, Selzer, and Gurvitch, Chartered. From June 1988 to August 1990, Ms.
Pisano, a certified public accountant, practiced public accounting and
specialized in high tech and biotech companies. Ms. Pisano received her Juris
Doctor from the Washington College of Law at the American University in
Washington, D.C. Ms. Pisano graduated Magna Cum Laude with a
34
Bachelor of Science degree in Accounting from the University of Maryland.
Although Ms. Pisano is an attorney and an accountant she likes to follow Jimmy
Buffett's advice and "say what you mean, mean what you say". Ms. Pisano has four
children and enjoys volunteering at her kid's public school.
Craig H. Price was elected Vice President in October 1993. Dr. Price,
Director of Optical Solutions, is responsible for the development of products
utilizing Essex patented optical technologies. Dr. Price joined Essex in 1989 as
a result of the merger of Essex and SEDC. Dr. Price had joined SEDC in 1985,
with varied assignments in engineering, analysis and advanced technologies.
Previously, he served in numerous technical and project positions in the U.S.
Air Force during the period 1974 - 1985, and he was awarded the Distinguished
Service Medal. Dr. Price holds a Bachelor of Science degree in Electrical
Engineering from Kansas State University, a Master of Science degree in
Electrical Engineering from Purdue University and a Doctor of Philosophy degree
in Electrical Engineering, from Stanford University. He is an avid tennis player
and enjoys vacations with his wife and daughter to warm climates in winter
months.
Kimberly J. DeChello joined Essex in May 1987 and has served in various
administrative and management capacities. She was appointed Chief Administrative
Officer in November 1997 and Corporate Secretary in January 1998. Ms. DeChello
is responsible for administration, human resources, investor relations and
industrial insurance. Ms. DeChello received a Master of Science degree in Human
Resources Management in 2000 from the University of Maryland. Ms. DeChello also
holds an Associate of Arts degree in Accounting and a Bachelor of Science degree
in Criminal Justice/Criminology from the University of Maryland. Kim's current
favorite hobbies are dancing and bird watching. She teaches West Coast Swing
classes and competes as a ProAm student. She participates in the Smithsonian's
Neighborhood Nest Watch Program where she assists in catching, banding and data
collection of birds in her backyard.
Frank E. Manning, Chairman Emeritus, is the founder of the Company. Mr.
Manning has served as a Director of the Company since its organization in 1969.
Mr. Manning has been a special advisor to the CEO for the past six years. Mr.
Manning received a Bachelor of Science degree in Economics from Franklin and
Marshall College in 1942, and a Masters of Letters degree in Industrial
Relations from the University of Pittsburgh in 1946.
H. Jeffrey Leonard, was elected a Director of the Company in September 2000
and Chairman of the Board in December 2000. Dr. Leonard is the President and
founding shareholder of Global Environment Fund. Dr. Leonard has served as
Chairman of the Investment Committee for GEF's five investment funds. He has
extensive experience in international private equity and project finance
investments, and advanced technology investments in the energy, environmental,
applications software, intelligent systems engineering, biological and medical
fields. Dr. Leonard also serves as a member of the Board of Directors of the
National Cooperative Bank, Measuring and Monitoring Inc., Aurora Flight Sciences
Corp., Athena Technologies, Sorbent Technologies, International Pepsi-Cola
Bottlers Limited and Global Forest Products Company Limited. He has served as an
advisor to the U.S. Office of Technology Assessment and is a member of the Board
of Directors of the National Council for Science and the Environment. Dr.
Leonard received a Bachelor of Arts degree in 1976 from Harvard College, a
Master of Science degree from the London School of Economics in 1978 and a
Doctor of Philosophy degree from Princeton University in 1984. Jeff is the
Chairman of the Board of Beacon House, a not-for profit community development
and education organization assisting children and their families in Northeast
35
Washington D.C. In 2002, he broke his over-40 personal record in the Baltimore
Marathon with a time of 3 hours and 40 minutes.
John Hannon was elected a Director of the Company in September 2000. He is
a partner in Networking Ventures, L.L.C., a privately held company dedicated to
investing in and guiding technology companies in the expanding optical and
information security sector. From 1979 to March 2000, Mr. Hannon served as the
Chief Executive Officer of Pulse Engineering, Inc. an information security and
signals processing company which was sold in March 2000. Mr. Hannon started his
business career in 1963 after serving in the United States Marine Corps. Since
that time, he has been involved in numerous entrepreneurial ventures. He is a
Director of the Armed Forces Communications and Electronics Association (AFCEA).
Robert W. Hicks was elected a Director of the Company in August 1988. He
has been an independent consultant since 1986. During this period he was engaged
for three and one-half years by the State of Maryland Deposit Insurance Fund
Corporation, Receiver of several savings and loan associations, first as an
Agent and then as a Special Representative (both court-approved positions). He
was a principal officer and stockholder in Asset Management & Recovery, Inc., a
consulting firm which primarily provided services, directly and as a
subcontractor, to the Resolution Trust Corporation and law firms engaged by the
Resolution Trust Corporation. Mr. Hicks is also a Director and the Corporate
Secretary of the Kirby Lithographic Company, Inc. In 1998 he formed Hicks Little
Company, LLC for the purpose of conducting consulting activity.
Ray M. Keeler was elected a Director of the Company in July 1989. Since
1986, he has been an independent consultant to both industry and government
organizations in areas related to national and tactical intelligence programs.
Mr. Keeler served on the Board of Directors of SEDC from December 1987 through
April 1989. From 1988 to November 1995, he was President of CRYTEC, Inc., a
service company providing management, business development and technical support
to companies involved in classified cryptologic projects. Since December 1995,
he has been a consultant to companies involved in national technical
intelligence programs. From 1982 to 1986, Mr. Keeler was Director of Program and
Budget for the NSA. He received a Bachelor of Arts degree from the University of
Wisconsin-Madison in 1957.
Arthur L. Money was elected a Director of the Company in January 2003. Mr.
Money served as the Assistant Secretary of Defense for Command, Control,
Communication and Intelligence (C3I) from October 1999 to April 2001. Prior to
his Senate confirmation in that role, he was the Senior Civilian Official,
Office of the ASD (C3I) from February 1998. Mr. Money also served as the Chief
Information Officer for the Department of Defense from 1998 to 2001. From 1996
to 1998, he served as Assistant Secretary of the Air Force for Research,
Development and Acquisition, and as CIO for the Air Force. Prior to his
government service, Mr. Money held senior management positions with ESL Inc., a
subsidiary of TRW, and the TRW Avionics and Surveillance Group. Mr. Money serves
on numerous United States Government Panels, Boards and Commissions. He
additionally serves on many U.S. Company Boards, Advisory Boards and Advisory
Groups. Mr. Money received a Bachelor of Science degree in Mechanical
Engineering from San Jose State University in 1965, a Master of Science degree
in Mechanical Engineering from University of Santa Clara in 1970 and attended
the Harvard Executive Security Program in 1985 and the Program for Senior
Executives at the Massachusetts Institute of Technology in 1988.
36
Marie S. Minton was elected a Director of the Company in December 2000. Ms.
Minton is a Managing Director and the Chief Financial Officer of Global
Environment Fund, an international private equity investment management firm.
Ms. Minton has been a member of the senior management team of GEF since 1994.
Before joining GEF, Ms. Minton was the Vice President of Finance for Clean Air
Capital Markets Corporation, a boutique investment banking firm. Prior to that,
Ms. Minton was an Audit Manager in the Entrepreneurial Services Division of
Ernst & Young from 1986 through 1993. Ms. Minton graduated from the University
of Virginia in 1986 with a Bachelor of Science degree in Commerce. She is a
member of the Virginia Society and American Institute of Certified Public
Accountants, the Washington Society of Investment Analysts (WSIA) and the
Association for Investment Management and Research. Ms. Minton is a Certified
Public Accountant and a Chartered Financial Analyst. She teaches accounting for
the WSIA CFA education program, volunteers as a Girl Scout leader and enjoys
riding her horse, Abner, in her free time.
SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
Section 16(a) of the Securities Exchange Act of 1934, as amended (the
"Exchange Act") requires the Company's officers and directors, and persons who
own more than ten percent of a registered class of the Company's equity
securities (the "Reporting Persons"), to file reports of ownership and changes
in ownership of equity securities of the Company with the Securities and
Exchange Commission ("SEC"). Officers, directors, and greater than ten percent
shareholders are required by SEC regulations to furnish the Company with copies
of all Section 16(a) forms that they file.
Based solely upon a review of Forms 3 and Forms 4 furnished to the Company
pursuant to Rule 16(a)-3 under the Exchange Act during its most recent fiscal
year and Forms 5 with respect to its most recent fiscal year, the Company
believes that all such forms required to be filed pursuant to Section 16(a) of
the Exchange Act were timely filed by the Reporting Persons during the fiscal
year ended December 29, 2002.
37
10. EXECUTIVE COMPENSATION
SUMMARY COMPENSATION TABLE
The following table sets forth the aggregate cash compensation paid for
services rendered to the Company during the last three fiscal years by the
Company's Chief Executive Officer and the Company's four other most highly
compensated executive officers who served as such at the end of the last fiscal
year and whose total compensation exceeds $100,000.
=================================================================================================
LONG-TERM COMPENSATION
ANNUAL COMPENSATION AWARDS
Other Securities
Annual Underlying
Name and Compensation Options/SARs
Principal Position Year Salary($)(1) Bonus ($) ($)(2) (#)
-------------------------------------------------------------------------------------------------
Leonard E. Moodispaw 2002 175,032 0 0 30,000
President and CEO 2001 175,032 0 1,616 85,000
2000 136,404 0 0 100,000
Terry M. Turpin 2002 155,064 0 0 20,000
Senior Vice President 2001 155,064 0 4,652 70,000
and Director 2000 134,496 25,000 4,785 52,000
Joseph R. Kurry, Jr. 2002 134,992 0 0 10,000
Treasurer, Senior Vice 2001 134,992 0 4,050 40,000
President and CFO 2000 122,804 15,000 4,134 61,500
Craig H. Price 2002 134,992 0 0 7,500
Vice President 2001 134,992 0 4,050 25,000
2000 114,184 15,000 3,875 27,500
Matthew S. Bechta 2002 130,000 0 0 7,500
Vice President 2001 130,000 0 3,900 25,000
2000 112,840 10,000 3,685 31,000
=================================================================================================
(1) Includes amounts deferred at the election of the named executive officer
pursuant to Section 401(k) of the Internal Revenue Code ("401(k)").
(2) Represents matching 401(k) contributions made on behalf of the respective
named executive officer pursuant to the Company's Retirement Plan and
Trust. Excludes other perquisites and benefits not exceeding the lesser of
$50,000 or 10% of the named executive officer's total annual salary and
bonus.
DEFINED CONTRIBUTION RETIREMENT PLAN
The Company has a qualified defined contribution retirement plan, the Essex
Corporation Retirement Plan and Trust, which includes a 401(k) salary reduction
feature for its employees. The Plan calls for an employer matching contribution
of up to 3% of eligible employee compensation under the salary reduction feature
and a discretionary contribution as determined by the Board of Directors. No
discretionary contribution was made by the Company to the Retirement Plan for
38
1999 - 2002. The total authorized contribution under the matching contribution
feature of the Plan was approximately $78,000 in 2002. All employee
contributions are 100% vested at all times and Company contributions vest based
on length of service. Vested contributions are distributable and benefits are
payable only upon death, disability, retirement or break in service.
Participants may request that their accrued benefits under the Section 401(k)
portion of the Plan be allocated among various investment options established by
the Plan administrator.
The Company contributions under the Retirement Plan for the persons
referred to in the Summary Compensation Table are included in that Table.
EMPLOYEE INCENTIVE PERFORMANCE AWARD PLAN
The Company has an Employee Incentive Performance Award Plan under which
bonuses are distributed to employees. All employees are eligible to receive such
awards under flexible criteria designed to compensate for superior division and
individual performance during each fiscal year. Awards are generally recommended
annually by management and approved by the Board of Directors. Such awards may
be constrained by overall Company performances. There was approximately $141,000
awarded in 2000, including the $65,000 awarded to persons named in the Summary
Compensation Table. No awards were made in 2001 and 2002.
RESTRICTED STOCK BONUS PLAN
Essex has a Restricted Stock Bonus Plan under which up to 50,000 shares of
the Company's common stock may be reserved for issuance to non-employee members
of the Board of Directors and key employees of the Company selected by the Board
of Directors. Shares of restricted stock may be issued under the Plan subject to
forfeiture during a restriction period, fixed in each instance by the Board of
Directors, whereby all rights of the grantee to the stock terminate upon certain
conditions such as cessation of continuous employment during the restriction
period. Upon expiration of the restriction period, or earlier upon the death or
substantial disability of the grantee, the restrictions applicable to all shares
of restricted stock of the grantee expire. The Plan also provides that loans may
be advanced by the Company to a grantee to pay income taxes due on the taxable
value of shares granted under the Plan. Such loans must be evidenced by an
interest bearing promissory note payable five (5) years after the date of the
loan, and be secured by shares of stock of the Company (which may be restricted
stock) having a fair market value equal to 200 percent of the loan.
During 2000 - 2002, no awards were made. There were approximately 4,000
shares remaining in the plan as of December 29, 2002.
OPTIONS TO PURCHASE SECURITIES
The Company has established several Essex Corporation Stock Option and
Appreciation Rights Plans ("Plans"). The Plans provide for the grant of options
to purchase shares of common stock of the Company, no par value per share (the
"Common Stock"), which qualify as incentive stock options ("Incentive Options")
under Section 422 of the Internal Revenue Code of 1986, as amended (the "Code"),
to persons who are employees, as well as options which do not so qualify
("Non-Qualified Options") to be issued to persons or consultants, including
those who are not employees. The Plans also provide for grants of stock
appreciation rights ("SARs") in connection with the grant of options under the
Plans. The exercise price of an Incentive Option under the Plans may not be
39
less than the "fair market value" of the shares of Common Stock at the time of
grant; the exercise price of Non-Qualified Options and the appreciation base
price of SARs are determined in the discretion of the Board of Directors except
that the SAR appreciation base price may not be less than 50% of the fair market
value of a share of Common Stock on the grant date with respect to awards to
persons who are officers or directors of the Company. The Plans reserve
1,860,518 shares of Common Stock for issuance. As of February 28, 2003, options
for 1,383,118 shares of the Company's Common Stock were outstanding at exercise
prices ranging from $1.00 - $6.07. As of February 28, 2003, there remained
477,400 shares available for future grants of options or SARs.
The Company grants non plan non-qualified options from time to time
directly to certain parties. The Company issued such options for 85,000 shares
to its President and 40,000 to its Chief Financial Officer/Treasurer in 2001.
Also in 2001, such options for 45,000 shares were issued to another employee of
the Company. There were no grants of non plan non-qualified options in 2002.
The following table shows for the fiscal year ended December 29, 2002 for
the persons named in the Summary Compensation Table, information with respect to
options to purchase Common Stock granted during 2002.
STOCK OPTIONS GRANTS
FOR FISCAL YEAR ENDED DECEMBER 29, 2002
NUMBER OF
SECURITIES % OF TOTAL
UNDERLYING OPTIONS/SARS GRANTED EXERCISE OR
OPTIONS TO EMPLOYEES IN FISCAL BASE PRICE EXPIRATION
NAME GRANTED (#) YEAR ($/SH) DATE
=======================================================================================
Leonard E. Moodispaw 30,000 (1) 25.2 2.36 11/12/12
Terry M. Turpin 20,000 (2) 16.8 2.36 11/12/12
Joseph R. Kurry, Jr. 10,000 (1) 8.4 2.36 11/12/12
Craig H. Price 7,500 (1) 6.3 2.36 11/12/12
Matthew S. Bechta 7,500 (1) 6.3 2.36 11/12/12
(1) Such options became exercisable beginning November 13, 2002.
(2) Such options became exercisable beginning January 1, 2004.
The following table shows for the fiscal year ended December 29, 2002 for
the persons named in the Summary Compensation Table, information with respect to
option/SAR exercises and fiscal year end values for unexercised options/SARs.
40
AGGREGATED OPTION/SAR EXERCISES AND FY-END OPTION/SAR VALUES
TABLE FOR FISCAL YEAR ENDED DECEMBER 29, 2002
NUMBER OF
SECURITIES VALUE OF
UNDERLYING UNEXERCISED
UNEXERCISED IN-THE-MONEY
OPTIONS AT OPTIONS AT
FY-END (#) FY-END($)(1)
SHARES
ACQUIRED ON VALUE EXERCISABLE/ EXERCISABLE/
NAME EXERCISE (#) REALIZED ($) UNEXERCISABLE UNEXERCISABLE
=======================================================================================
Leonard E. Moodispaw --- --- 360,500/15,000 386,925/11,850
Terry M. Turpin --- --- 171,100/28,900 134,120/15,800
Joseph R. Kurry, Jr. 1,000 $2,150 168,250/5,000 133,002/3,950
5,750 $2,588
Craig H. Price --- --- 102,250/3,750 76,763/2,963
Matthew S. Bechta 3,000 $12,420 95,900/3,750 79,695/2,963
(1) Market value of underlying securities based on the closing price of
the Company's Common Stock on December 27, 2002 (last trading day of
fiscal 2002) on the OTC Bulletin Board system of $3.15 minus the
exercise price.
REMUNERATION OF DIRECTORS
The Company's Board of Directors generally meets quarterly. Additionally,
the By-Laws provide for special meetings and, as also permitted by Virginia law,
Board action may be taken without a meeting upon unanimous written consent of
all Directors. There are two Board members not employed by the Company who
receive a maximum of $1,500 for each Board or $750 for each Board Committee
Meeting attended. In 2002 the Board held three meetings; the entire membership
of the Board was present at all of the meetings except one where one director
was absent. Directors affiliated with the Private Investors have waived any
board fees.
41
11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS ANDMANAGEMENT
The following table and accompanying notes set forth as of December 29,
2002, information with respect to the beneficial ownership of the Company's
voting securities by (i) each person or group who beneficially owns more than 5%
of the voting securities, (ii) each of the directors of the Company, (iii) each
of the officers of the Company named in the Summary Compensation Table, and (iv)
all directors and executive officers of the Company as a group.
Percentage of
Outstanding Shares of
Amount and Nature of Common Stock
Name and Address of Beneficial Owner* Beneficial Ownership (1) Beneficially Owned
--------------------------------------------- ---------------------------- ---------------------------
H. Jeffrey Leonard (2) 1,629,700 20.9
Marie S. Minton (3) 1,598,200 20.5
John G. Hannon (4) 1,355,491 17.4
Terry M. Turpin (5) 449,793 5.7
Leonard E. Moodispaw (6) 418,150 5.1
Caroline S. Pisano (7) 408,000 5.2
Joseph R. Kurry, Jr. (8) 208,359 2.6
Frank E. Manning (9) 146,775 1.9
Matthew S. Bechta (10) 140,137 1.8
Craig H. Price (11) 117,478 1.5
Robert W. Hicks (12) 76,700 1.0
Ray M. Keeler (13) 51,500 **
James P. Gregory (14) 1,598,200 20.5
Harry Letaw, Jr. (15) 669,859 8.6
GEF Optical Investment
Company, LLC (16) 1,598,200 20.5
Global Environment Capital
Co. LLC ("GECC") (16) 1,598,200 20.5
Global Environment Strategic
Technology Partners ("GESTP") (16) 1,598,200 20.5
The Hannon Family LLC (17) 1,346,666 17.3
All Directors and Executive Officers
as a Group (14 persons) (18) 5,111,923 57.0
----------------------------------------
* Except as noted below, all beneficial owners are directors and/or
officers of the Company and can be reached c/o Essex Corporation, 9150
Guilford Road, Columbia, MD 21046.
** Less than 1%.
(1) The shares listed above include options and rights to acquire shares
within sixty (60) days and shares held of record by the Essex Corporation
Retirement Trust as to which shares the respective participant has
disposition and voting rights. The
42
percentage ownership is computed based upon the number of shares which
would be outstanding if such options and rights were exercised.
(2) H. Jeffrey Leonard is Chairman of the Board of the Company and a director
of the managing member of GEF. Of the shares of Common Stock shown as
beneficially owned, 31,500 are owned directly by Mr. Leonard. In
addition, 1,598,200 shares of Common Stock may be deemed to be
beneficially owned by Mr. Leonard as described in footnotes (16) and (19)
below. Mr. Leonard's address is c/o GEF, 1225 Eye Street, N.W., Suite
900, Washington, DC 20005. Mr. Leonard is the brother-in-law of Ms.
Pisano.
(3) Marie S. Minton is a Director of the Company and a director of the
managing member of GEF. Ms. Minton may be deemed to be the beneficial
owner of these shares by virtue of the arrangements described in
footnotes (16) and (19) below. Ms. Minton's address is c/o GEF, 1225 Eye
Street, N.W., Suite 900, Washington, DC 20005.
(4) John G. Hannon is a Director of the Company. Of the shares of Common
Stock shown as beneficially owned, 8,825 are owned directly by Mr.
Hannon. In addition, 1,346,666 shares of Common Stock may be deemed to be
beneficially owned by Mr. Hannon as described in footnote (17) below.
(5) Terry M. Turpin is a Director, Senior Vice President and Chief Technical
Officer of the Company. Of the shares shown as beneficially owned,
171,000 represent presently exercisable rights to acquire Common Stock
through stock options.
(6) Leonard E. Moodispaw is President, Chief Executive Officer and a Director
of the Company. Of the shares shown as beneficially owned, 360,500
represent presently exercisable rights to acquire Common Stock through
stock options.
(7) Caroline S. Pisano is Vice President of Finance and General Counsel of
the Company. Ms. Pisano is the sister-in-law of Mr. Leonard.
(8) Joseph R. Kurry, Jr. is Senior Vice President, Treasurer and Chief
Financial Officer of the Company. Of the shares shown as beneficially
owned, 168,250 represent presently exercisable rights to acquire Common
Stock through stock options.
(9) Mr. Manning is the Chairman Emeritus and a Director of the Company. Of
the shares shown as beneficially owned, 64,000 represent presently
exercisable rights to acquire Common Stock through stock options. Does
not include 37,000 shares of the Company's Common Stock owned of record
and beneficially by Mrs. Eva L. Manning, wife of Mr. Frank E. Manning.
Also does not include 94,500 shares beneficially owned by separate family
trusts of which Mrs. Manning is the sole trustee and over which trusts
she has exclusive voting and dispositive power.
(10)Matthew S. Bechta is Vice President of the Company. Of the shares shown
as beneficially owned, 95,900 represent presently exercisable rights to
acquire Common Stock through stock options.
(11)Craig H. Price is Vice President of the Company. Of the shares shown as
beneficially owned, 102,250 represent presently exercisable rights to
acquire Common Stock through stock options.
(12)Robert W. Hicks is a Director of the Company. Of the shares shown as
beneficially owned, 36,500 represent presently exercisable rights to
acquire Common Stock through stock options.
(13)Ray M. Keeler is a Director of the Company. Of the shares shown as
beneficially owned, 37,500 represent presently exercisable rights to
acquire Common Stock through stock options.
(14)James P. Gregory is a director of the managing member of GEF. Mr. Gregory
may be deemed to be the beneficial owner of these shares by virtue of the
arrangements described in footnotes (16) and (19) below. Mr. Gregory's
address is c/o GEF, 1225 Eye Street, N.W., Suite 900, Washington, DC
20005.
(15)Dr. Harry Letaw, Jr. is the former Chairman of the Board and Chief
Executive Officer of the Company. His address is 1023 Benfield Boulevard,
Millersville, MD 21108.
(16)Consists of 1,330,000 shares of Common Stock directly owned by GEF. Also
consists of (i) 118,200 shares of Common Stock directly owned by GECC, by
virtue of the arrangements described in footnote (19) and (ii) 150,000
shares of Common Stock directly owned by GESTP, by virtue of the
arrangements described in footnote (19) below. GEF is a Delaware limited
liability company with its principal executive offices located at 1225
Eye Street, N.W., Suite 900, Washington, DC 20005.
(17)Consists of 1,346,666 shares directly held by The Hannon Family LLC. Mr.
John G. Hannon is the managing person of this entity.
(18)Of the shares shown as beneficially owned, 1,140,768 represent presently
exercisable rights to acquire Common Stock through stock options.
(19)Based on a Schedule 13D/A filed with the SEC on November 18, 2002, each
of GEF, GECC, GESTP, Mr. Leonard, Ms. Minton, Mr. Gregory may be deemed
the beneficial owner of 1,598,200 shares of Common Stock directly held
for the account of GEF.
12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS - None
43
13. EXHIBITS AND REPORTS ON FORM 8-K (a) (1) Financial Statements
Report of Independent Auditors 49
Balance Sheet 50
Statements of Operations 51
Statements of Changes in Stockholders' Equity 52
Statements of Cash Flows 53
Notes to Financial Statements 54 - 64
(2) Exhibits
(i) None.
(ii) Exhibit 3(i) - Articles of Incorporation A
Exhibit 3(i) - Articles of Amendment B
Exhibit 3(ii) -By-Laws, as amended C
(iii) Exhibit 4 - Instruments defining the Rights of Holders
4.3 Specimen of Common Stock Certificate D
(iv) Exhibit 10 - Material Contracts
10.3 Restricted Stock Bonus Plan D
10.4 Option and Stock Appreciation Rights Plan D
10.6 Pension Plan and Trust Agreement D
10.7 Defined Contribution Retirement Plan D
10.8 Incentive Performance Award Plan D
10.11 Option Agreement between the Company and Rumsey D
Associates Limited Partnership
10.13 Registration Rights Agreement D
10.15 1996 Stock Option and Appreciation Rights Plan E
10.22 1998 Stock Option and Appreciation Rights Plan F
10.23 1999 Stock Option and Appreciation Rights Plan G
10.24 2000 Stock Option and Appreciation Rights Plan H
10.25 Flex Lease Agreement Between PHL-OPCO, LP, as Landlord and I
Essex Corporation, As Tenant, Rivers 95 Columbia, MD
10.26 2001 Stock Option and Appreciation Rights Plan J
10.27 2002 Stock Option and Appreciation Rights Plan K
(v) Exhibit 23 - Consent of Experts and Counsel
23.1 Consent of Independent Auditors 65
(vi) Exhibit 99
(a) Securities Purchase Agreement dated September 7, 2000 B
(b) Registration Rights Agreement dated September 7, 2000 B
(c) Common Stock Purchase Warrants dated September 12, 2000 B
(b) Reports on Form 8-K
None.
Separately, the Chief Executive Officer and the Chief Financial Officer
submitted certifications to the SEC required by Section 906 of the
Sarbanes - Oxley Act of 2002.
-----------------------
A Filed as Exhibit 3(i) to Registrant's Registration Statement on Form SB-2
filed October 17, 1994, Registration No. 33-82920
B Filed as Exhibit to Registrant's Form 8-K dated September 20, 2000
C Filed as Exhibit 3(ii) to Registrant's Registration Statement on Form SB-2
filed October 17, 1994, Registration No. 33-82920
D Filed as Exhibit to Registrant's Registration Statement on Form SB-2
filed October 17, 1994, Registration No. 33-82920
E Filed as Exhibit to Registrant's Form 8-K dated November 13, 1996
F Filed as Exhibit to Form Def 14a - Definitive Proxy Statement dated
October 12, 1998
G Filed as Exhibit to Form Def 14a - Definitive Proxy Statement dated
October 11, 1999
H Filed as Exhibit to Form Def 14a - Definitive Proxy Statement dated
November 10, 2000
I Filed as Exhibit to Registrant's Form 8-K dated December 12, 2001
J Filed as Exhibit to Form Def 14a - Definitive Proxy Statement dated
May 23, 2001
K Filed as Exhibit to Form Def 14a - Definitive Proxy Statement dated
October 10, 2002
44
14. CONTROLS AND PROCEDURES
Based on their most recent evaluation, which was completed within 90 days of the
filing of this Form 10-KSB/A No. 1, the Company's Chief Executive Officer and
Chief Financial Officer believe the Company's disclosure controls and procedures
(as defined in Exchange Act Rules 13a-14 and 15d-14) are effective to ensure
that information required to be disclosed by the Company in this report is
accumulated and communicated to the Company's management, including its
principal executive officer and principal financial officer, as appropriate, to
allow timely decisions regarding required disclosure. There were no significant
changes in the Company's internal controls or other factors that could
significantly affect these controls subsequent to the date of their evaluation
and there were no corrective actions with regard to significant deficiencies and
material weaknesses.
45
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
ESSEX CORPORATION
(Registrant)
By: /S/ LEONARD E. MOODISPAW
--------------------------------------------
Leonard E. Moodispaw
President and Chief Executive Officer;
Principal Executive Officer
July 17, 2003
By: /S/ JOSEPH R. KURRY, JR.
--------------------------------------------
Joseph R. Kurry, Jr.
Senior Vice President, Treasurer and Chief Financial Officer;
Principal Financial and Accounting Officer
July 17, 2003
In accordance with the Exchange Act, this report has been signed below by
the following persons on behalf of the registrant and in the capacities and on
the dates indicated.
/S/ JOHN G. HANNON /S/ MARIE S. MINTON
------------------------ -------------------------
John G. Hannon, Director Marie S. Minton, Director
July 17, 2003 July 17, 2003
/S/ ROBERT W. HICKS /S/ ARTHUR L. MONEY
------------------------- ------------------------
Robert W. Hicks, Director Arthur L Money, Director
July 17, 2003 July 17, 2003
/S/ RAY M. KEELER /S/ LEONARD E. MOODISPAW
----------------------- ------------------------------
Ray M. Keeler, Director Leonard E. Moodispaw, Director
July 17, 2003 July 17, 2003
/S/ TERRY M. TURPIN
---------------------------- -------------------------
H. Jeffrey Leonard, Director Terry M. Turpin, Director
July 17, 2003 July 17, 2003
/S/ FRANK E. MANNING
--------------------------
Frank E. Manning, Director
July 17, 2003
46
CERTIFICATIONS
I, Leonard E. Moodispaw, certify that:
1. I have reviewed this annual report on Form 10-KSB/A No. 1 of Essex
Corporation;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d -14) for the registrant and have:
a. designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report is
being prepared;
b. evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
annual report (the "Evaluation Date"); and
c. presented in the annual report our conclusions about the effectiveness
of the disclosure controls and procedures based on our evaluation as of
the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent functions):
a. all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b. any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether there were significant changes in internal controls
or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
Dated July 17, 2003 /S/ LEONARD E. MOODISPAW
-------------------------------------
Leonard E. Moodispaw
President and Chief Executive Officer
47
CERTIFICATIONS
I, Joseph R. Kurry, Jr., certify that:
1. I have reviewed this annual report on Form 10-KSB/A No. 1 of Essex
Corporation;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d -14) for the registrant and have:
a. designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report is
being prepared;
b. evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
annual report (the "Evaluation Date"); and
c. presented in the annual report our conclusions about the effectiveness
of the disclosure controls and procedures based on our evaluation as of
the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent functions):
a. all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b. any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether there were significant changes in internal controls
or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
Dated July 17, 2003 /S/ JOSEPH R. KURRY, JR.
------------------------------------
Joseph R. Kurry, Jr.
Senior Vice President, Treasurer and
Chief Financial Officer
48
REPORT OF INDEPENDENT AUDITORS
To the Board of Directors and Stockholders of
Essex Corporation
Columbia, Maryland
We have audited the accompanying balance sheet of Essex Corporation as of
December 29, 2002 and the related statements of operations, changes in
stockholders' equity and cash flows for the fiscal years ended December 29, 2002
and December 30, 2001. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audits to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Essex Corporation as of
December 29, 2002 and the results of its operations and its cash flows for the
fiscal years ended December 29, 2002 and December 30, 2001 in conformity with
accounting principles generally accepted in the United States of America.
/s/ Stegman & Company
Stegman & Company
Baltimore, Maryland
February 21, 2003, except as to Note 12
which is dated March 1, 2003
49
ESSEX CORPORATION
BALANCE SHEET
AS OF DECEMBER 29, 2002
ASSETS
CURRENT ASSETS
Cash $ 1,030,247
Accounts receivable, net 565,626
Prepayments and other 106,987
--------------
1,702,860
PROPERTY AND EQUIPMENT
Computers and special equipment 948,455
Furniture, equipment and other 219,112
--------------
1,167,567
Accumulated depreciation and amortization (845,360)
---------------
322,207
OTHER ASSETS
Patents, net 296,407
Other 21,725
--------------
318,132
TOTAL ASSETS $ 2,343,199
------------ ==============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Advance from accounts receivable financing $ 169,432
Accounts payable 659,977
Accrued wages and vacation 233,940
Capital leases 71,261
Accrued retirement 65,000
Billings in excess of costs 135,000
Other accrued expenses 146,041
--------------
1,480,651
LONG-TERM DEBT
Convertible note payable 500,000
Capital leases, net of current portion 4,390
--------------
Total Liabilities 1,985,041
--------------
COMMITMENTS AND CONTINGENCIES (NOTE 6)
STOCKHOLDERS' EQUITY
Common stock, no par value; 25 million shares
authorized; 7,790,398 shares issued and outstanding 12,706,520
Additional paid-in capital 2,000,000
Prepaid warrant 50,000
Accumulated deficit (14,398,362)
--------------
Total Stockholders' Equity 358,158
--------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 2,343,199
------------------------------------------ ==============
The accompanying notes are an integral part of this statement.
50
ESSEX CORPORATION
STATEMENTS OF OPERATIONS
FOR THE FIFTY-TWO WEEK FISCAL YEARS ENDED
DECEMBER 29, 2002 AND DECEMBER 30, 2001
2002 2001
-------------- -------------
Revenues $ 4,506,419 $ 2,641,776
Cost of goods sold and services provided (2,593,677) (1,342,444)
Research and development (1,394,784) (2,416,837)
Selling, general and administrative expenses (2,668,117) (2,459,631)
-------------- -------------
Operating Loss (2,150,159) (3,577,136)
Interest (expense) income, net (23,458) 7,937
-------------- -------------
Loss Before Income Taxes (2,173,617) (3,569,199)
Provision for income taxes -- --
------------- -------------
Net Loss (2,173,617) (3,569,199)
Beneficial conversion feature of convertible
preferred stock -- (750,000)
------------- -------------
Net Loss Attributable to Common Stockholders $ (2,173,617) $ (4,319,199)
============== =============
Weighted Average Number of Shares
Outstanding 7,410,647 6,493,665
============= =============
Basic Loss Per Common Share $ (0.29) $ (0.67)
============= =============
Diluted Loss Per Common Share $ (0.29) $ (0.67)
============= =============
The accompanying notes are an integral part of these statements.
51
ESSEX CORPORATION
STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
FOR THE FISCAL YEARS ENDED DECEMBER 29, 2002 AND DECEMBER 30, 2001
Common Stock Preferred Stock Total
----------------------- ---------------------- Additional Stock-
Prepaid Paid-In Accumulated holder's
Shares Amount Shares Amount Warrant Capital Deficit Equity
--------- ----------- -------- ----------- ------- ---------- ------------ ----------
BALANCE, DECEMBER 31, 2000 4,570,361 $ 6,496,320 312,500 $ 1,250,000 $ -- $1,250,000 $ (7,905,546) $1,090,774
Preferred stock issued -- -- 187,500 750,000 -- -- -- 750,000
Beneficial conversion feature
of preferred stock -- -- -- -- -- 750,000 (750,000) --
Common stock issued 538,462 2,250,000 -- -- -- -- -- 2,250,000
Stock options exercised 49,182 91,806 -- -- -- -- -- 91,806
Retired shares/cashless stock
option tender (2,400) (17,082) -- -- -- -- -- (17,082)
Stock compensation -- 49,000 -- -- -- -- -- 49,000
Net loss -- -- -- -- -- -- (3,569,199) (3,569,199)
--------- ----------- -------- ----------- ------- ---------- ------------ ----------
BALANCE, DECEMBER 30, 2001 5,155,605 8,870,044 500,000 2,000,000 -- 2,000,000 (12,224,745) 645,299
Preferred stock converted 2,000,000 2,000,000 (500,000) (2,000,000) -- -- -- --
Common stock issued 511,538 1,400,003 -- -- -- -- -- 1,400,003
Stock options exercised 81,350 143,398 -- -- -- -- -- 143,398
Retired shares/cashless stock
option tender (6,261) (26,250) -- -- -- -- -- (26,250)
Stock compensation 31,500 269,325 -- -- -- -- -- 269,325
Prepaid warrant issued -- -- -- -- 100,000 -- -- 100,000
Prepaid warrant converted 16,666 50,000 -- -- (50,000) -- -- --
Net loss -- -- -- -- -- -- (2,173,617) (2,173,617)
--------- ----------- -------- ----------- -------- ---------- ------------ ----------
BALANCE, DECEMBER 29, 2002 7,790,398 $12,706,520 -- $ -- $ 50,000 $2,000,000 $(14,398,362) $ 358,158
========= =========== ======== =========== ======== ========== ============ ==========
The accompanying notes are an integral part of these statements.
52
ESSEX CORPORATION
STATEMENTS OF CASH FLOWS
FOR THE FISCAL YEARS ENDED DECEMBER 29, 2002 AND DECEMBER 30, 2001
2002 2001
------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Loss $ (2,173,617) $ (3,569,199)
Adjustments to reconcile Net Loss to Net Cash
Used In Operating Activities:
Depreciation and amortization 147,401 193,117
Stock compensation expense 269,325 49,000
Inventory valuation reserve 29,983 60,000
Other (91) (1,047)
Change in Assets and Liabilities:
Accounts receivable (280,977) (119,035)
Inventory -- (40,126)
Prepayments and other (30,480) (43,536)
Accounts payable 346,236 181,807
Other assets and liabilities 74,603 (32,227)
------------ ------------
Net Cash Used In Operating Activities (1,617,617) (3,321,246)
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment, net (29,677) (80,918)
------------ ------------
Net Cash Used In Investing Activities (29,677) (80,918)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Sale of common stock 1,450,003 2,250,000
Convertible note payable 500,000 --
Sale of preferred stock -- 750,000
Exercise of stock options 117,148 74,724
Short-term borrowings under receivables
financing, net 169,432 --
Prepaid warrant 50,000 --
Payment of capital lease obligations (177,220) (120,016)
------------ ------------
Net Cash Provided By Financing Activities 2,109,363 2,954,708
------------ ------------
CASH AND CASH EQUIVALENTS
Net increase (decrease) 462,069 (447,456)
Balance - beginning of year 568,178 1,015,634
------------ ------------
Balance - end of year $ 1,030,247 $ 568,178
============ ============
The accompanying notes are an integral part of these statements.
53
ESSEX CORPORATION
NOTES TO FINANCIAL STATEMENTS
FOR THE FISCAL YEARS ENDED DECEMBER 29, 2002 AND DECEMBER 30, 2001
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND OTHER IMPORTANT FACTORS
These statements cover Essex Corporation (the "Company"). Certain amounts
for prior years have been reclassified or recalculated to conform to the
2002 presentation.
REPORTING YEAR
The Company is on a 52/53 week fiscal year ending the last Sunday in
December. Years 2002 and 2001 were 52-week fiscal years.
USE OF ESTIMATES
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting period. Estimates
are used when accounting for uncollectible accounts receivable, inventory
obsolescence and valuation, depreciation and amortization, intangible
assets, employee benefit plans and contingencies, among others. Actual
results could differ from those estimates.
IMPORTANT BUSINESS RISK FACTORS
The Company has historically been principally a supplier of technical
services under contracts or subcontracts with departments or agencies of
the U.S. Government, primarily the military services and other departments
and agencies of the Department of Defense. The Company's revenues have
been and continue to come from such programs. The Company is focusing and
expanding in this business area. See Note 12 - Subsequent Event.
In recent years, the Company has expended significant funds to transition
into the commercial marketplace, particularly the productization of its
proprietary technologies in telecommunications and optoelectronic
processors. In June 2000, the Company announced that it had filed
applications to secure patent protection for innovative technologies in
two communications device families: Fiberoptic HYPERFINE WDM (wavelength
division multiplexing) devices and wireless optical processor enhanced
receiver architecture. Since September 2000, the Company has received over
$6 million in financing from its Private Investors or affiliates to
advance its programs to capitalize upon these inventions. The long-term
success of the Company in these areas is dependent on its ability to
successfully develop and market products related to its communications
devices and optoelectronic processors. The success of these efforts is
subject to changing technologies, availability of additional financing,
competition, and, ultimately, market acceptance.
Primarily due to the expenditures for development and marketing of its
optoelectronics products and services, particularly the optical
telecommunications device technologies, the Company incurred significant
losses in 2002 and 2001. To the extent funds are available, the
54
ESSEX CORPORATION
NOTES TO FINANCIAL STATEMENTS
FOR THE FISCAL YEARS ENDED DECEMBER 29, 2002 AND DECEMBER 30, 2001
Company plans to continue research and development spending in 2003 in the
optoelectronics operations.
The Company is seeking to establish joint ventures or strategic
partnerships including licensing of its technologies with major industrial
concerns to facilitate these goals. The Company will also seek additional
funds under appropriate terms from private sources to continue to finance
development and to achieve initial market penetration. Significant delays
in the commercialization of the Company's optoelectronic products, failure
to market such products or failure to raise substantial additional working
capital would have a significant adverse effect on the Company's future
operating results and future financial position.
CONTRACT ACCOUNTING
Revenues consist of services rendered on cost-plus-fixed-fee, time and
materials and fixed-price contracts. Revenue on cost-plus-fixed-fee
contracts (approximately 67% and 39% of total revenues in 2002 and 2001,
respectively) is recognized to the extent of costs incurred plus a
proportionate amount of fee earned. Revenue on fixed-price contracts
(approximately 28% and 45% of total revenues in 2002 and 2001,
respectively) is recognized on the percentage-of-completion method of
accounting based on costs incurred in relation to the total estimated
costs. Revenue on time and materials contracts (approximately 5% and 16%
of total revenues in 2002 and 2001, respectively) is recognized to the
extent of billable rates multiplied by hours delivered, plus other direct
costs. Anticipated losses are recognized as soon as they become known. A
portion of the Company's business is with agencies of the U.S. Government
and such contracts are subject to audit by cognizant government audit
agencies. Furthermore, while such contracts are fully funded by
appropriations, they may be subject to other risks inherent in government
contracts, such as termination for the convenience of the government.
Because of the inherent uncertainties in estimating costs and the
potential for audit adjustments by U.S. Government agencies, it is at
least reasonably possible that the estimates will change in the near term.
INCOME TAXES
Deferred income taxes are recorded under the asset and liability method
whereby deferred tax assets and liabilities are recognized for the future
tax consequences, measured by enacted tax rates, attributable to
differences between the financial statement carrying amounts of existing
assets and liabilities and their respective tax bases and operating loss
carryforwards. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period the rate change
becomes effective. Valuation allowances are recorded for deferred tax
assets when it is more likely than not that such deferred tax assets will
not be realized.
INVENTORY
Inventory costs include purchased parts, labor and manufacturing overhead.
Inventories are stated at the lower of cost or market. Cost is determined
using the first-in, first-out (FIFO)
55
ESSEX CORPORATION
NOTES TO FINANCIAL STATEMENTS
FOR THE FISCAL YEARS ENDED DECEMBER 29, 2002 AND DECEMBER 30, 2001
method. Management monitors the market value of its inventory and records
valuation allowances when deemed necessary.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation is calculated
using straight-line methods based on useful lives as follows:
Leasehold improvements Life of lease
Production and special equipment 3 to 5 years
Furniture and equipment 3 to 5 years
Repairs and maintenance are charged to expense as incurred. When assets
are retired or otherwise disposed of, the asset and related allowance for
depreciation are eliminated from the accounts and any resulting gain or
loss is reflected in income.
PATENT COSTS
Patent costs include legal and filing fees covering the various patents
which have been issued to the Company. Patent costs are amortized over
their respective lives (15 - 20 years) and amortization was $15,000 in
2002 and in 2001.
IMPAIRMENT OF LONG-LIVED ASSETS
Long-lived assets and identifiable intangibles to be held and used are
reviewed for impairment whenever events or changes in circumstances
indicate that the carrying amount should be addressed. Impairment is
measured by comparing the carrying value to the estimated undiscounted
future cash flows expected to result from use of the assets and their
eventual disposition.
BASIC AND DILUTED EARNINGS (LOSS) PER COMMON SHARE
Basic earnings (loss) per common share are computed using the weighted
average number of common shares outstanding during the period or issuable
upon the required conversion of preferred stock. Diluted earnings per
common share incorporates the incremental shares issuable upon the assumed
exercise of stock options and warrants. Such incremental shares were anti
dilutive for the periods presented.
RESEARCH AND DEVELOPMENT
Research and development costs are expensed as incurred. Such costs
include direct labor and materials as well as a reasonable allocation of
indirect costs. However, no selling, general and administrative costs are
included. Equipment which has alternative future uses is capitalized and
charged to expense over its estimated useful life.
56
ESSEX CORPORATION
NOTES TO FINANCIAL STATEMENTS
FOR THE FISCAL YEARS ENDED DECEMBER 29, 2002 AND DECEMBER 30, 2001
STATEMENTS OF CASH FLOWS
Supplemental disclosures of cash flow information are as follows:
2002 2001
---------- ----------
A. Cash paid during the year for-
Interest $ 27,000 $ 16,600
Income taxes $ -- $ --
B. In 2002 and 2001, there were new capital leases of $62,000 and $288,000,
respectively.
2. ACCOUNTS RECEIVABLE
Accounts receivable consist of the following:
U.S. Government
Amounts billed, including retainages $ 611,526
Commercial and other 4,100
----------
615,626
Contract reserves and allowances for doubtful accounts (50,000)
----------
$ 565,626
U.S. Government receivables arise from U.S. Government prime contracts and
subcontracts. Retainages (which are not material) will be collected upon
job completion or settlement of audits performed by cognizant U.S.
Government audit agencies. Company cost records have been audited through
2000. In the year an audit is settled, the difference between audit
adjustments and previously established reserves is reflected in income.
Contract reserves and allowances for doubtful accounts have been provided
where less than full recovery under the contract is expected.
3. ACCOUNTS RECEIVABLE FINANCING
The Company has a working capital financing agreement with an accounts
receivable factoring organization. Under such an agreement, the factoring
organization may purchase certain of the Company's accounts receivable
subject to full recourse against the Company in the case of nonpayment by
the customers. The Company generally receives 85%-90% of the invoice amount
at the time of purchase and the balance when the invoice is paid. The
Company is charged an interest fee and other processing charges, payable at
the time each invoice is paid. There were $169,000 of funds advanced as of
December 29, 2002.
4. INVENTORY
Inventory costs were all related to the Company's ImSyn(TM) optoelectronic
processor. The Company has approximately $300,000 of inventory which is
fully reserved as the existing configuration of finished goods in inventory
is being redesigned.
57
ESSEX CORPORATION
NOTES TO FINANCIAL STATEMENTS
FOR THE FISCAL YEARS ENDED DECEMBER 29, 2002 AND DECEMBER 30, 2001
5. MAJOR CUSTOMER INFORMATION
The Company's largest customer contract is with the DoD Missile Defense
Agency to design a next generation optoelectronic radar processor. Such
new work in 2002 amounted to $2,052,000 (46% of revenues). Another
significant customer program was for work to an agency of the Department
of Defense. The Company is continuing research work under this
subcontract on the use of its optoelectronics technology and devices in
certain customer systems and applications. Such work amounted to
approximately $1,002,000 (22%) of revenues in 2002 and $1,030,000 (39%)
of revenues in 2001.
6. COMMITMENTS AND CONTINGENCIES
LEASE OBLIGATIONS
The Company leases office space and certain equipment. As of December 29,
2002, the Company is committed to pay aggregate rentals under these leases
as follows:
2003 $ 315,000
2004 $ 246,000
2005 $ 202,000
Rental expense charged to operations, including payments made under
short-term leases, amounted to $275,000 and $261,000 in 2002 and 2001,
respectively.
The Company's office facility is under a long-term lease which expires
October 2005. The lease contains provisions to pay for proportionate
increases in operating costs and property taxes.
7. CONVERTIBLE NOTE PAYABLE
On December 17, 2002, the Company entered into a Convertible Note Purchase
Agreement with one of its Private Investors. The Company issued a $500,000
unsecured promissory note due December 31, 2004. The note bears interest at
10%; such interest may be deferred until maturity. The outstanding
principal balance is convertible into common stock at $2.60 per share, the
approximate market price of the Company's stock at the date of issuance of
the note. If the note is converted, then no interest shall be paid.
8. RETIREMENT PLAN
The Company has a qualified defined contribution retirement plan, the Essex
Corporation Retirement Plan and Trust, which includes a salary reduction
401(k) feature for its employees. The Plan calls for an employer matching
contribution of up to 3% of eligible employee compensation under the salary
reduction feature and allows for a discretionary contribution. Total
authorized contributions under the matching contribution feature of the
Plan were
58
ESSEX CORPORATION
NOTES TO FINANCIAL STATEMENTS
FOR THE FISCAL YEARS ENDED DECEMBER 29, 2002 AND DECEMBER 30, 2001
$78,000 in 2002 and approximately $64,000 in 2001. There were no
discretionary contributions in these years.
In accordance with the retirement plan and trust, as amended, such
authorized contributions and the resulting annual expense can be reduced by
forfeitures by terminated employees of unvested amounts of prior years'
contributions. Forfeitures of $13,000 and $2,000 were utilized to reduce
annual expenses in 2002 and 2001, respectively.
9. INCOME TAXES
The components of the Company's net deferred tax asset account are as
follows as of December 29, 2002:
NOL carryforward $ 3,869,000
Tax credit carryforward 206,000
Inventory valuation reserve 107,000
Accrued employee benefit costs 40,000
Allowance for doubtful accounts 17,500
Other, net 18,000
Valuation Reserve (4,257,500)
--------------
Net Deferred Tax Asset $ --
==============
The Company has a regular net operating loss ("NOL") carryforward of
$11,054,000 and tax credit carryforwards of $206,000 that are available,
subject to certain limitations, to offset future book income and taxes
payable. The NOL begins to expire in 2008 and the tax credit carryforwards
expire through 2022.
The evaluation of the realizability of such deferred tax assets in future
periods is made based upon a variety of factors for generating future
taxable income, such as intent and ability to sell assets and historical
and projected operating performance. At this time, the Company has
established a valuation reserve for all of its deferred tax assets. Such
tax assets are available to be recognized and benefit future periods.
The Company recorded no benefit or provision for income taxes in 2002 or
2001.
10. STOCK OPTION AND STOCK BONUS PLANS; OTHER STOCK OPTIONS
The Company has several stock option plans with similar terms and
conditions. The plans reserve 1,754,318 shares of the Company's unissued
shares for option and stock appreciation rights ("SAR") grants. The plans
expire through 2012. Options, which may be tax qualified ("ISOs") and
non-qualified ("NSOs"), are exercisable for a period of up to 10 years at
prices at or above market price as established on the date of grant. Under
the plans, the Company will accept shares of its stock that were previously
owned for at least 6 months by the option holder as payment for options
being exercised. In such a transaction, the Company retires the stock
tendered and issues the new shares at the same overall consideration. There
is no change on
59
ESSEX CORPORATION
NOTES TO FINANCIAL STATEMENTS
FOR THE FISCAL YEARS ENDED DECEMBER 29, 2002 AND DECEMBER 30, 2001
the capital accounts but there is a net increase in the shares outstanding.
In other transactions, the option holder may use a broker to sell a portion
of the option shares in the open market to provide the option exercise
proceeds. In this case, the option holder is the owner of the option shares
being sold and the broker/option holder bear the risk of the open market
sale. Upon the exercise of a stock appreciation right, the recipient will
receive payment in the form of stock, cash, or both, as determined by the
Company, equal to the appreciation in value of the shares to which the
rights were awarded. A total of 199,250 ISO or NSO options were granted
under the plans in 2002. No SARs were granted under the plans in 2002 or
are outstanding.
Stock Option Plans
Number of Shares Price Per Share
---------------------------------------------------------------------
Outstanding, 12/31/00 956,700 $ 1.00 - $ 3.00
Granted 441,300 $ 3.00 - $ 6.07
Exercised (49,182) $ 1.00 - $ 3.00
Outstanding, 12/30/01 1,348,818 $ 1.00 - $ 6.07
Granted 199,250 $ 2.36 - $ 4.96
Exercised (71,350) $ 1.00 - $ 3.00
Canceled (14,500) $ 2.40 - $ 3.96
Outstanding, 12/29/02 1,462,218 $ 1.00 - $ 6.07
Exercisable, 12/29/02 1,375,818 $ 1.00 - $ 6.07
Under the plans, the weighted average price for options outstanding was
$3.41 and for options exercisable $3.18. The weighted average life for
options outstanding was 6.3 years and for options exercisable 6.2 years.
The following table summarizes information about all plan stock options
outstanding at December 29, 2002:
Options Outstanding Options Exercisable
--------------------------------------------------- ----------------------------
Weighted-
Average Weighted- Weighted-
Remaining Average Average
Range of Shares Contractual Exercise Shares Exercise
Exercise Prices # Life (Years) Price ($) # Price ($)
-----------------------------------------------------------------------------------------------------
$ 1.00 - $ 1.69 342,168 5.8 1.17 342,168 1.17
$ 2.04 - $ 2.70 386,350 8.2 2.22 313,850 2.18
$ 3.00 - $ 3.96 575,900 5.0 3.73 575,900 3.73
$ 4.73 - $ 6.07 157,800 7.5 5.91 143,900 5.92
-------------- --------------
1,462,218 6.3 2.94 1,375,818 2.95
============== ==============
The Company has a Restricted Stock Bonus Plan covering key employees and
directors of the Company. The Plan can reserve up to 50,000 of the
Company's unissued shares for awards. There were no shares awarded in 2002
or 2001. As of December 29, 2002, there were 4,050 shares available for
award under the Plan.
60
ESSEX CORPORATION
NOTES TO FINANCIAL STATEMENTS
FOR THE FISCAL YEARS ENDED DECEMBER 29, 2002 AND DECEMBER 30, 2001
In 1994, the Company issued an option for 125,000 shares of unregistered
common stock under a lease settlement. The option is exercisable through
December 31, 2004 at an exercise price (as adjusted) of $1.29 per share.
The option price is subject to adjustment under anti-dilution provisions of
the option agreement. The optionholders have certain registration rights
for these shares of common stock. In January 2002, the optionholders
exercised options for 10,000 of these shares.
In 2001, the Company issued non-qualified options for 85,000 shares
directly to its President and 40,000 to its Chief Financial
Officer/Treasurer. Also in 2001, 45,000 shares were issued to another
employee of the Company. The exercise price was equal to the market price
on the date of grant.
In October 1995, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting
for Stock-Based Compensation". SFAS No. 123 defines a "fair value based
method" of accounting for an employee stock option or similar equity
instrument. Under the fair value based method, compensation cost is
measured at the grant date based on the value of the award and is
recognized over the service period. The Company has historically accounted
for employee stock options or similar equity instruments under the
"intrinsic value method" as defined by APB Opinion No. 25, "Accounting for
Stock Issued to Employees". Under the intrinsic value method, compensation
cost is the excess, if any, of the quoted market price of the stock at
grant date or other measurement date over the amount an employee must pay
to acquire the stock.
SFAS No. 123 allows an entity to continue to use the intrinsic value method
and management has elected to do so. However, entities electing to remain
with the accounting in APB Opinion No. 25 must make pro forma disclosures
of net income and earnings per share, as if the fair value based method of
accounting had been applied. Because the SFAS No. 123 method of accounting
has not been applied to options granted prior to January 1, 1995, the
resulting pro forma compensation costs may not be representative of the
cost to be expected in future years. Accordingly, net loss and loss per
share would be as follows:
61
ESSEX CORPORATION
NOTES TO FINANCIAL STATEMENTS
FOR THE FISCAL YEARS ENDED DECEMBER 29, 2002 AND DECEMBER 30, 2001
December 29, 2002 December 30, 2001
------------------ ------------------
Net loss, as reported $ (2,173,617) $ (4,319,199)
Add: Stock-based employee compensation expense
included in reported net loss 209,325 --
Less: Total stock-based employee compensation
expense determined under fair value based method for
all awards (897,452) (1,224,974)
------------------ ------------------
Pro forma loss attributable to common stockholders
$ (3,611,069) $ (5,544,173)
================== ==================
Loss per share:
Basic-as reported $ (0.29) $ (0.67)
Basic-pro forma $ (0.49) $ (0.85)
Diluted-as reported $ (0.29) $ (0.67)
Diluted-pro forma $ (0.49) $ (0.85)
The fair value of each option is estimated on the date of grant using the
Black-Scholes option pricing model with the following assumptions:
2002 2001
--------- ----------
Dividend yield 0.00% 0.00%
Volatility 101.5% 84.85%
Weighted average risk free interest rate 4.32% 5.18%
Weighted average expected lives of grants 9.7 years 9.6 years
The weighted average grant date fair value of the options issued in 2002
and 2001 was approximately $2.30 and $3.81, respectively.
11. COMMON STOCK; WARRANTS; PREFERRED STOCK
The Company's Articles of Incorporation authorize 1 million shares of
preferred stock, par value $0.01 per share, the series and rights of which
may be designated by the Board of Directors in accordance with applicable
state and federal law. In September 2000, the Board designated 500,000
shares of such preferred stock as Series B. There were 312,500 shares of
Series B issued in 2000 for $1,250,000 and the remaining 187,500 issued in
2001 for $750,000 to the Company's Private Investors. The 500,000 Series B
shares were converted as required into 2,000,000 shares of common stock in
September 2002. No Series A or Series B preferred shares are currently
outstanding.
62
ESSEX CORPORATION
NOTES TO FINANCIAL STATEMENTS
FOR THE FISCAL YEARS ENDED DECEMBER 29, 2002 AND DECEMBER 30, 2001
In connection with the issuance of the preferred stock, the Company also
issued common stock warrants to the preferred stock holders. These
warrants are for an additional 2 million shares of common stock. The
warrants expire in September 2005 and can be exercised at a nominal price
of $2,000. The warrants become exercisable under certain terms and
conditions, such as the market price of the common stock exceeding $10
through $20 per share for 5 consecutive days, or the occurrence of an
additional private placement of $10 million where the valuation of the
Company exceeds $50 million. The warrants would also become exercisable
upon a sale of all or substantially all of the assets of the Company or a
merger or acquisition of the Company. The Company has determined that the
warrants had a nominal fair value at issuance due to the restrictive
covenants. The Company has reserved 2 million shares of common stock in
connection with the possible exercise of the related common stock
warrants. As of December 29, 2002, these warrants were not exercisable.
In addition to the preferred stock transactions, the Company completed
several private placement transactions of its common stock directly with
its Private Investors or their affiliates. In 2001, the Company received
$2,250,000 and issued approximately 539,000 shares of common stock. In
2002, the Company received $1,450,000 and issued approximately 528,000
shares of common stock. In January 2003, a prepaid warrant for $50,000 was
converted into approximately 16,000 shares of common stock.
In accordance with Emerging Issues Task Force Issue No. 98-5 "Accounting
for Convertible Securities with Beneficial Conversion Features or
Contingently Adjustable Conversion Ratios", the Company has imputed and
recorded in 2000 and 2001 a deemed dividend of $2,000,000 on its Series B
Preferred Stock equal to the difference between the estimated current
market price at original date of issuance and the conversion price (the
"beneficial conversion feature"). Such imputed dividends have no impact on
net loss from operations or cash flows but have to be considered when
calculating loss per share attributable to common stockholders.
12. SUBSEQUENT EVENT
As of March 1, 2003, the Company acquired 100% of the common stock of
Sensys Development Laboratories, Inc. ("SDL"). The assigned value of the
consideration and related expenses is approximately $4,405,000. Under the
terms of the agreement, the Company will pay $309,000 in cash and issue
approximately 683,000 shares of common stock. The agreement further
provides that an additional number of shares up to 422,000 may be released
from escrow on the first anniversary of closing based upon certain factors.
The Company also issued approximately 195,000 non-qualified fully vested
options for its common stock at below market exercise prices in exchange
for SDL fully vested outstanding options. In accordance with Emerging
Issues Task Force 99-12, Determination of the Measurement Date for the
Market Price of Acquirer Securities Issued in a Purchase Business
Combination, the value of the stock consideration was based upon the
weighted average market price of the Company's common stock a few days
before and after February 28, 2003, the date the deal terms were agreed to
and announced.
63
ESSEX CORPORATION
NOTES TO FINANCIAL STATEMENTS
FOR THE FISCAL YEARS ENDED DECEMBER 29, 2002 AND DECEMBER 30, 2001
SDL provides both system and software engineering technical support to
U.S. Government customers and prime contractors supporting government
programs. SDL has an established workforce with specialized experience and
credentials. For its most recent fiscal year ended September 30, 2002, SDL
had revenues of over $3 million and has been operating at an annualized
level of over $4 million for fiscal 2003.
The following table summarizes the estimated fair values of the asset
acquired and liabilities assumed at the date of acquisition. The Company
is in the process of valuing certain intangible assets and does not expect
to complete this evaluation until April 2003.
Current assets $ 1,292,000
Equipment and other 33,000
Goodwill and other intangibles 3,600,000
--------------
Total assets acquired 4,925,000
Current liabilities (520,000)
--------------
Net assets acquired $ 4,405,000
==============
Until the valuation of the intangible assets is completed, the above
purchase price allocation is subject to change. A preliminary review
indicates that a significant portion of intangibles will be goodwill and
not subject to amortization.
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CONSENT OF INDEPENDENT AUDITORS
We hereby consent to the incorporation of our report dated February 21,
2003, except as to Note 12 which is dated March 1, 2003, included in this Form
10-KSB/A No. 1, into Essex Corporation's previously filed Registration
Statements on Form S-8, File No. 33-47900, File No.33-336770, File No. 333-57122
and File No. 333-65466; and on Form S-3, File No. 333-61200 and File No.
333-104819.
Stegman & Company
/s/ Stegman & Company
Baltimore, Maryland
July 17, 2003
65