UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 6-K
REPORT OF FOREIGN PRIVATE ISSUER PURSUANT TO RULE 13a-16 OR 15d-16
UNDER THE SECURITIES EXCHANGE ACT OF 1934
For the month of April, 2005
EXFO ELECTRO-OPTICAL ENGINEERING INC.
(Translation of registrant's name into English)
400 GODIN AVENUE, VANIER, QUEBEC, CANADA G1M 2K2
(Address of principal executive offices)
Indicate by check mark whether the registrant files or will file annual reports
under cover of Form 20-F or Form 40-F.
Form 20-F [X] Form 40-F [_]
Indicate by check mark whether the registrant by furnishing the information
contained in this Form is also thereby furnishing the information to the
Commission pursuant to Rule 12g3-2(b) under the Securities Exchange Act of
1934.
Yes [_] No [X]
If "Yes" is marked, indicate below the file number assigned to the registrant in
connection with Rule 12g3-2(b): 82-______.
On March 29, 2005, EXFO Electro-Optical Engineering Inc., a Canadian
corporation, reported its results of operations for the second fiscal quarter
ended February 28, 2005. This report on Form 6-K sets forth the news release
relating to EXFO's announcement and certain information relating to EXFO's
financial condition and results of operations for the second fiscal quarter of
the 2005 fiscal year. This press release and information relating to EXFO's
financial condition and results of operations for the second fiscal quarter of
the 2005 fiscal year are hereby incorporated as a document by reference to
Form F-3 (Registration Statement under the Securities Act of 1933) declared
effective as of July 30, 2001 and to Form F-3 (Registration Statement under
the Securities Act of 1933) declared effective as of March 11, 2002 and to
amend certain material information as set forth in these two Form F-3
documents.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
EXFO ELECTRO-OPTICAL ENGINEERING INC.
By: /s/ Germain Lamonde
-----------------------
Name: Germain Lamonde
Title: President and Chief Executive Officer
Date: April 6, 2005
[GRAPHIC OMITTED]
[LOGO - EXFO]
Corporate Headquarters > 400 Godin Avenue, Vanier (Quebec) G1M 2K2 CANADA
Tel: 1 418 683-0211 | Fax: 1 418 683-2170 | info@exfo.com
================================================================================
www.exfo.com
------------
EXFO ACHIEVES GAAP BREAK-EVEN IN SECOND QUARTER
o SALES INCREASE 37.1% YEAR-OVER-YEAR TO US$23.1 MILLION
o BOOKINGS IMPROVE 39.8% YEAR-OVER-YEAR TO US$24.9 MILLION
o RECIPIENT OF 2005 GROWTH STRATEGY LEADERSHIP AWARD FOR MARKET-SHARE
GAINS
o LEADERSHIP POSITION IN FIBER-TO-THE-PREMISES TEST MARKET
QUEBEC CITY, CANADA, March 29, 2005--EXFO Electro-Optical Engineering Inc.
(NASDAQ: EXFO; TSX: EXF.SV) announced today that it achieved GAAP break-even
in the second quarter of fiscal 2005.
Sales increased 37.1% to US$23.1 million in the second quarter ended February
28, 2005, from US$16.9 million in the second quarter of 2004 and 7.1% from
US$21.6 million in the first quarter of 2005. Net bookings improved 39.8% to
US$24.9 million in the second quarter of fiscal 2005 from US$17.7 million in
the same period last year and 6.5% from US$23.3 million in the first quarter
of 2005.
Gross margin accounted for 54.9% of sales in the second quarter of fiscal 2005
compared to 55.4% in the second quarter of 2004 and 52.7% in the first quarter
of 2005.
GAAP net earnings in the second quarter of fiscal 2005 totaled US$9 thousand,
or US$0.00 per share, compared to a net loss of US$2.9 million, or US$ 0.04
per share, in the same period last year and a net loss of US$2.4 million, or
US$0.03 per share, in the first quarter of 2005.
On a pro forma basis*, net earnings in the second quarter of fiscal 2005
amounted to US$1.5 million or US$0.02 per share, compared to a net loss of
US$1.5 million, or US$0.02 per share, in the second quarter of 2004 and a net
loss of US$0.8 million, or US$0.01 per share, in the first quarter of 2005.
"I am delighted that we achieved GAAP break-even, posted our sixth consecutive
quarterly increase in sales and bookings, while being recognized by Frost &
Sullivan for capturing the largest market-share gains in the optical test and
measurement industry in calendar 2004," said Germain Lamonde, EXFO's Chairman,
President and CEO. "These milestones, combined with 36% sales growth in the
first half of fiscal 2005 compared to the same period last year, represent
clear-cut evidence that EXFO gained sizeable market-share, established a
leadership position in fiber-to-the-premises testing, and strengthened its
unique value proposition for next-generation IP networking through sustained
R&D spending during the telecom downturn."
SEGMENTED RESULTS
(IN MILLIONS OF US DOLLARS)
SALES EARNINGS (LOSS) FROM OPERATIONS
------------------------------------ ------------------------------------
Q2 2005 Q1 2005 Q2 2004 Q2 2005 Q1 2005 Q2 2004
------- ------- ------- ------- ------- -------
BUSINESS SEGMENT
Telecom Division $ 19.4 $ 17.4 $ 13.3 $ 0.6 $ (1.0) $ (2.5)
Photonics and Life
Sciences Division 3.7 4.2 3.6 (0.8) (0.3) (1.0)
-------- -------- -------- -------- -------- --------
TOTAL $ 23.1 $ 21.6 $ 16.9 $ (0.2) $ (1.3) $ (3.5)
======== ======== ======== ======== ======== ========
[GRAPHIC OMITTED]
[LOGO - EXFO]
OPERATING EXPENSES
Selling and administrative expenses amounted to US$7.7 million, or 33.4% of
sales, in the second quarter of fiscal 2005 compared to US$6.8 million, or
40.0% of sales, in the same period last year and US$7.4 million, or 34.3% of
sales, in the first quarter of 2005.
Gross research and development expenses totaled US$3.8 million, or 16.5% of
sales, in the second quarter of fiscal 2005 compared to US$4.3 million, or
25.4% of sales, in the second quarter of 2004 and US$3.8 million, or 17.6% of
sales, in the first quarter of 2005.
SECOND-QUARTER BUSINESS HIGHLIGHTS
o Growing through market-share gains, EXFO received for the second
consecutive year the Growth Strategy Leadership Award from Frost &
Sullivan following the quarter-end. The award is presented
annually to the company whose visionary growth strategy generates
the largest market-share gains in the global fiber-optic test
equipment (FOTE) market. Based on a report by Frost & Sullivan,
EXFO increased its market share from 8.4% to 10.4% overall in 2004
to attain the second overall position worldwide, while expanding
its leadership position from 17.4% to 22.2% of the network service
provider market.
o Continuing its leadership in the FTTx (fiber-to-the-premises,
fiber-to-the-node, fiber-to-the curb) test market, EXFO shipped
several such orders to a US-based, Tier-1 telecom carrier, who
accounted for 21.4% of sales in the second quarter of 2005, and
the company received long-term, sole-source approval for a suite
of FTTx test solutions from a second Tier-1 carrier in the United
States.
o Focusing on profitability, EXFO reached GAAP break-even in the
second quarter of 2005 and was profitable on a pro forma basis*
for the third time in the last four quarters.
o Taking advantage of its strong R&D program, EXFO launched five new
products in the second quarter, including amongst others an
All-Band Component Analyzer for FTTx and coarse-wavelength
division multiplexing (CWDM) manufacturing/R&D applications. Sales
of new products that have been on the market two years or less
accounted for 45.5% of sales in the second quarter of 2005.
BUSINESS OUTLOOK
EXFO forecasts sales between US$23.0 million and US$26.0 million and GAAP net
earnings (loss) between a net loss of US$0.02 per share and net earnings of
US$0.01 per share for the third quarter of fiscal 2005. Excluding stock-based
compensation costs, amortization of intangible assets, restructuring charges
and other unusual items, the company expects to report pro forma net earnings
between US$0.00 per share and US$0.03 per share.
CONFERENCE CALL AND WEBCAST
EXFO will host a conference call today at 5 p.m. (Eastern time) to review its
financial results for the second quarter of fiscal 2005. To listen to the
conference call and participate in the question period via telephone, dial
1-416-695-9716. Germain Lamonde, Chairman, President and CEO, and Pierre
Plamondon, CA, Vice-President of Finance and Chief Financial Officer, will
participate in the call. An audio replay of the conference call will be
available until April 5, 2005. The replay number is 1-416-695-5275. The audio
Webcast of the conference call will also be available on EXFO's Website at
WWW.EXFO.COM, under the Investors section.
[GRAPHIC OMITTED]
[LOGO - EXFO]
RECONCILIATION OF PRO FORMA NET EARNINGS (LOSS) WITH GAAP NET EARNINGS (LOSS)
*PRO FORMA NET EARNINGS (LOSS) REPRESENTS NET EARNINGS (LOSS)
EXCLUDING STOCK-BASED COMPENSATION COSTS, AMORTIZATION OF
INTANGIBLE ASSETS, RESTRUCTURING CHARGES AND AN UNUSUAL TAX
RECOVERY. ALL FIGURES ARE IN THOUSANDS OF US DOLLARS EXCEPT PER
SHARE DATA.
ACTUAL RESULTS
THREE MONTHS SIX MONTHS THREE MONTHS SIX MONTHS
ENDED ENDED ENDED ENDED
FEBRUARY 28, FEBRUARY 28, FEBRUARY 29, FEBRUARY 29,
2005 2005 2004 2004
------------ ----------- ----------- -----------
(UNAUDITED)
NET EARNINGS (LOSS) IN ACCORDANCE WITH
GAAP $ 9 $ (2,364) $ (2,885) $ (4,893)
PRO FORMA ADJUSTMENTS:
STOCK-BASED COMPENSATION COSTS 224 381 84 89
AMORTIZATION OF INTANGIBLE ASSETS 1,225 2,447 1,291 2,576
RESTRUCTURING CHARGES 54 254 - -
UNUSUAL TAX RECOVERY - - - (1,406)
--------- --------- --------- ---------
PRO FORMA NET EARNINGS (LOSS) $ 1,532 $ 718 $ (1,510) $ (3,634)
========= ========= ========= =========
BASIC AND DILUTED NET EARNINGS (LOSS)
PER SHARE IN ACCORDANCE WITH GAAP $ - $ (0.03) $ (0.04) $ (0.08)
========= ========= ========= =========
BASIC AND DILUTED PRO FORMA NET
EARNINGS (LOSS) PER SHARE $ 0.02 $ 0.01 $ (0.02) $ (0.06)
========= ========= ========= =========
OUTLOOK
THREE MONTHS ENDING
MAY 31, 2005
------------------------------------
(UNAUDITED)
BASIC AND DILUTED NET EARNINGS (LOSS) PER SHARE IN
ACCORDANCE WITH GAAP FROM $ (0.02) TO $ 0.01
PRO FORMA ADJUSTMENTS:
STOCK-BASED COMPENSATIONS COSTS 0.00 0.00
AMORTIZATION OF INTANGIBLE ASSETS 0.02 0.02
RESTRUCTURING CHARGES 0.00 0.00
---------- ----------
BASIC AND DILUTED PRO FORMA NET EARNING PER SHARE FROM $ 0.00 TO $ 0.03
========== ==========
EXFO DISCLOSES PRO FORMA FINANCIAL DATA IN ORDER TO PROVIDE SUPPLEMENTAL
INFORMATION REGARDING ITS RESULTS OF OPERATIONS AND TO ENHANCE INVESTORS'
OVERALL UNDERSTANDING OF ITS CORE FINANCIAL PERFORMANCE AND ITS PROSPECTS FOR
THE FUTURE. EXFO BELIEVES THAT INVESTORS BENEFIT FROM SEEING ITS RESULTS
THROUGH THE EYES OF MANAGEMENT IN ADDITION TO SEEING THE GAAP INFORMATION.
THIS NON-GAAP INFORMATION FACILITATES MANAGEMENT'S COMPARISON OF CURRENT
RESULTS WITH THE COMPANY'S HISTORICAL RESULTS OF OPERATIONS AND STRATEGIC PLAN
AND WITH THOSE OF ITS PEERS. THIS INFORMATION IS NOT IN ACCORDANCE WITH, OR AN
ALTERNATIVE TO, GAAP AND AND SHOULD BE CONSIDERED IN ADDITION TO, BUT NOT AS A
SUBSTITUTE FOR, OTHER MEASURES OF FINANCIAL PERFORMANCE REPORTED IN ACCORDANCE
WITH GAAP, SUCH AS NET EARNINGS (LOSS). AS A RESULT, EXFO'S PRO FORMA NET
EARNINGS (LOSS) MAY NOT BE COMPARABLE TO SIMILARLY TITLED MEASURES REPORTED BY
OTHER COMPANIES.
[GRAPHIC OMITTED]
[LOGO - EXFO]
ABOUT EXFO
EXFO is a recognized test and measurement expert in the global
telecommunications industry through the design and manufacture of advanced and
innovative solutions as well as best-in-class customer support. The Telecom
Division, which represents the company's main business activity, offers fully
integrated and complete test solutions to network service providers, system
vendors and component manufacturers in approximately 70 countries. One of
EXFO's strongest competitive advantages is its PC/Windows-based modular
platforms that host a wide range of tests across optical, physical, data and
network layers, while maximizing technology reuse across several market
segments. The Photonics and Life Sciences Division mainly leverages core
telecom technologies to offer value-added solutions in the life sciences and
high-precision assembly sectors. For more information about EXFO, visit
WWW.EXFO.COM.
FORWARD-LOOKING STATEMENTS
This news release contains forward-looking statements within the meaning of
the U. S. Private Securities Litigation Reform Act of 1995 and we intend that
such forward-looking statements be subject to the safe harbors created
thereby. Forward-looking statements are statements other than historical
information or statements of current condition that refer to expectations,
projections or other characterizations of future events and circumstances.
They are not guarantees of future performance and involve risks and
uncertainties. Actual results may differ materially from those in
forward-looking statements due to various factors including economic
uncertainty; capital spending levels in the telecommunications, life sciences
and high-precision assembly sectors; fluctuating exchange rates and our
ability to execute in these uncertain conditions; the effects of the
additional actions we have taken in response to such economic uncertainty
(including workforce reductions, ability to quickly adapt cost structures with
anticipated levels of business, ability to manage inventory levels with market
demand); market acceptance of our new products and other upcoming products;
limited visibility with regards to customer orders and the timing of such
orders; our ability to successfully integrate our acquired and to-be-acquired
businesses; the retention of key technical and management personnel; and
future economic, competitive and market conditions. Assumptions relating to
the foregoing involve judgments and risks, all of which are difficult or
impossible to predict and many of which are beyond our control. Other risk
factors that may affect our future performance and operations are detailed in
our Annual Report on Form 20-F and our other filings with the U. S. Securities
and Exchange Commission and the Canadian securities commissions. We believe
that the expectations reflected in the forward-looking statements are
reasonable based on information currently available to us, but we cannot
assure you that the expectations will prove to have been correct. Accordingly,
you should not place undue reliance on these forward-looking statements. These
statements speak only as of the date of this document and shall not be revised
or updated to reflect events after the date of this document.
-30-
FOR MORE INFORMATION
Vance Oliver
Manager, Investor Relations
(418) 683-0913, Ext. 3733 VANCE.OLIVER@EXFO.COM
EXFO ELECTRO-OPTICAL ENGINEERING INC.
INTERIM CONSOLIDATED BALANCE SHEET
(in thousands of US dollars)
AS AT AS AT
FEBRUARY 28, AUGUST 31,
2005 2004
---------------- ----------------
(UNAUDITED)
ASSETS
CURRENT ASSETS
Cash $ 4,258 $ 5,159
Short-term investments 94,515 83,969
Accounts receivable
Trade, less allowance for doubtful accounts of $571
($510 as at August 31, 2004) 13,227 12,080
Other 1,425 1,532
Income taxes and tax credits recoverable 4,118 7,836
Inventories (note 4) 18,345 15,371
Prepaid expenses 1,226 1,513
---------------- ----------------
137,114 127,460
INCOME TAXES AND TAX CREDITS RECOVERABLE 2,489 449
PROPERTY, PLANT AND EQUIPMENT 14,853 15,442
LONG-LIVED ASSET HELD FOR SALE 1,600 1,600
INTANGIBLE ASSETS 7,699 9,447
GOODWILL 19,667 18,393
------------------ ------------------
$ 183,422 $ 172,791
================ ================
LIABILITIES
CURRENT LIABILITIES
Accounts payable and accrued liabilities (note 5) $ 12,447 $ 11,393
Deferred revenue 1,341 805
Current portion of long-term debt 122 121
---------------- ----------------
13,910 12,319
DEFERRED REVENUE 1,385 1,123
DEFERRED GRANTS 1,807 1,690
LONG-TERM DEBT 273 332
---------------- ----------------
17,375 15,464
---------------- ----------------
CONTINGENCY (note 8)
SHAREHOLDERS' EQUITY
Share capital 521,832 521,733
Contributed surplus 2,367 1,986
Cumulative translation adjustment 24,424 13,820
Deficit (382,576) (380,212)
---------------- ----------------
166,047 157,327
---------------- ----------------
$ 183,422 $ 172,791
================ ================
The accompanying notes are an integral part of these consolidated financial
statements.
EXFO ELECTRO-OPTICAL ENGINEERING INC.
INTERIM UNAUDITED CONSOLIDATED STATEMENTS OF EARNINGS
(in thousands of US dollars, except share and per share data)
THREE MONTHS SIX MONTHS THREE MONTHS SIX MONTHS
ENDED ENDED ENDED ENDED
FEBRUARY 28, FEBRUARY 28, FEBRUARY 29, FEBRUARY 29,
2005 2005 2004 2004
--------------- --------------- --------------- ---------------
SALES $ 23,135 $ 44,732 $ 16,880 $ 32,842
COST OF SALES (1,2) 10,431 20,656 7,528 15,343
--------------- --------------- --------------- ---------------
GROSS MARGIN 12,704 24,076 9,352 17,499
--------------- --------------- --------------- ---------------
OPERATING EXPENSES
Selling and administrative (1) 7,728 15,141 6,759 12,616
Net research and development (1) (note 6) 2,781 5,561 3,492 6,321
Amortization of property, plant and
equipment 1,098 2,192 1,295 2,616
Amortization of intangible assets 1,225 2,447 1,291 2,576
Restructuring charges (note 3) 54 254 - -
--------------- --------------- --------------- ---------------
TOTAL OPERATING EXPENSES 12,886 25,595 12,837 24,129
--------------- --------------- --------------- ---------------
LOSS FROM OPERATIONS (182) (1,519) (3,485) (6,630)
Interest and other income 625 1,349 514 670
Foreign exchange gain (loss) 263 (772) 427 (43)
--------------- --------------- --------------- ---------------
EARNINGS (LOSS) BEFORE INCOME TAXES 706 (942) (2,544) (6,003)
INCOME TAXES (note 7) 697 1,422 341 (1,110)
--------------- --------------- --------------- ---------------
NET EARNINGS (LOSS) FOR THE PERIOD $ 9 $ (2,364) $ (2,885) $ (4,893)
=============== =============== =============== ===============
BASIC AND DILUTED NET EARNINGS
(LOSS) PER SHARE $ - $ (0.03) $ (0.04) $ (0.08)
BASIC WEIGHTED AVERAGE NUMBER OF SHARES
OUTSTANDING (000'S) 68,528 68,495 64,129 63,594
DILUTED WEIGHTED AVERAGE NUMBER OF SHARES
OUTSTANDING (000'S)
(note 10) 68,968 68,978 64,772 64,217
(1) STOCK-BASED COMPENSATION COSTS
INCLUDED IN:
Cost of sales $ 32 $ 57 $ 8 $ 8
Selling and administrative 165 252 54 59
Net research and development 47 72 22 22
--------------- --------------- --------------- ---------------
$ 244 $ 381 $ 84 $ 89
=============== =============== =============== ===============
(2) The cost of sales is exclusive of amortization, shown separately.
The accompanying notes are an integral part of these consolidated financial
statements.
EXFO ELECTRO-OPTICAL ENGINEERING INC.
INTERIM UNAUDITED CONSOLIDATED STATEMENTS OF DEFICIT
AND CONTRIBUTED SURPLUS
(in thousands of US dollars)
DEFICIT
SIX MONTHS SIX MONTHS
ENDED ENDED
FEBRUARY 28, FEBRUARY 29,
2005 2004
---------------- ----------------
BALANCE - BEGINNING OF PERIOD $ (380,212) $ (371,788)
ADD
Net loss for the period (2,364) (4,893)
---------------- ----------------
BALANCE - END OF PERIOD $ (382,576) $ (376,681)
================ ================
CONTRIBUTED SURPLUS
SIX MONTHS SIX MONTHS
ENDED ENDED
FEBRUARY 28, FEBRUARY 29,
2005 2004
---------------- ----------------
BALANCE - BEGINNING OF PERIOD $ 1,986 $ 1,519
ADD
Premium on resale of share capital - 10
Stock-based compensation costs 381 89
---------------- ----------------
BALANCE - END OF PERIOD $ 2,367 $ 1,618
================ ================
The accompanying notes are an integral part of these consolidated financial
statements.
EXFO ELECTRO-OPTICAL ENGINEERING INC.
INTERIM UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands of US dollars)
THREE MONTHS SIX MONTHS THREE MONTHS SIX MONTHS
ENDED ENDED ENDED ENDED
FEBRUARY 28, FEBRUARY 28, FEBRUARY 29, FEBRUARY 29,
2005 2005 2004 2004
---------------- ---------------- ---------------- ----------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net earnings (loss) for the period $ 9 $ (2,364) $ (2,885) $ (4,893)
Add (deduct) items not affecting cash
Discount on short-term investments 470 320 101 332
Stock-based compensation costs 244 381 84 89
Amortization 2,323 4,639 2,586 5,192
Deferred revenue 275 660 252 783
Deferred grants - - (90) (212)
---------------- ---------------- ---------------- ----------------
3,321 3,636 48 1,291
Change in non-cash operating items
Accounts receivable (381) (91) 2,088 227
Income taxes and tax credits 1,914 2,260 1,231 (1,916)
Inventories (1,001) (1,948) (1,818) (968)
Prepaid expenses 380 396 284 1,014
Accounts payable and accrued
liabilities (82) 377 (224) (1,015)
---------------- ---------------- ---------------- ----------------
4,151 4,630 1,609 (1,367)
---------------- ---------------- ---------------- ----------------
CASH FLOWS FROM INVESTING ACTIVITIES
Additions to short-term investments (223,561) (288,647) (166,987) (246,912)
Proceeds from disposal of short-term
investments 218,943 283,273 135,668 218,509
Additions to property, plant and equipment
and intangible assets (246) (823) (171) (576)
---------------- ---------------- ---------------- ----------------
(4,864) (6,197) (31,490) (28,979)
---------------- ---------------- ---------------- ----------------
CASH FLOWS FROM FINANCING ACTIVITIES
Repayment of long-term debt (30) (58) (27) (52)
Net proceeds of offering - - 29,164 29,164
Share issue expenses - - (166) (166)
Exercise of stock options 13 99 157 218
Redemption of share capital - - (1) (3)
Resale of share capital - - 5 13
---------------- ---------------- ---------------- ----------------
(17) 41 29,132 29,174
EFFECT OF FOREIGN EXCHANGE RATE CHANGES ON
CASH 140 625 (1,007) (628)
---------------- ---------------- ---------------- ----------------
CHANGE IN CASH (590) (901) (1,756) (1,800)
CASH - BEGINNING OF PERIOD 4,848 5,159 5,322 5,366
---------------- ---------------- ---------------- ----------------
CASH - END OF PERIOD $ 4,258 $ 4,258 $ 3,566 $ 3,566
================ ================ ================ ================
The accompanying notes are an integral part of these consolidated financial
statements.
EXFO ELECTRO-OPTICAL ENGINEERING INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(tabular amounts in thousands of US dollars,
except share and per share data and as otherwise noted)
1 INTERIM FINANCIAL INFORMATION
The financial information as at February 28, 2005, and for the three- and
six-month periods ended February 29, 2004 and February 28, 2005, is
unaudited. In opinion of management, all adjustments necessary to present
fairly the results of these periods in accordance with generally accepted
accounting principles in Canada have been included. The adjustments made
were of a normal and recurring nature. Interim results may not
necessarily be indicative of results anticipated for the entire year.
These interim consolidated financial statements are prepared in
accordance with generally accepted accounting principles in Canada and
use the same accounting policies and methods used in the preparation of
the company's most recent annual consolidated financial statements. All
disclosures required for annual financial statements have not been
included in these financial statements. These interim consolidated
financial statements should be read in conjunction with the company's
most recent annual consolidated financial statements.
2 NEW ACCOUNTING STANDARDS AND PRONOUNCEMENTS
On September 1, 2004, the company prospectively adopted the Canadian
Institute of Chartered Accountants (CICA) handbook sections 1100 and
1400, "Generally Accepted Accounting Principles" and "General Standards
of Financial Statement Presentation". Among other things, these new
sections define generally accepted accounting principles (GAAP),
establish the relative authority of various types of CICA Accounting
Standards Board pronouncements and clarify the role of "industry
practice" in applying GAAP. The adoption of these new standards had no
significant impact on the financial statements of the company.
Furthermore, in January 2005, the CICA issued four new accounting
standards in relation with financial instruments: section 3855,
"Financial Instruments - Recognition and measurement", section 3865,
"Hedges", section 1530, "Comprehensive Income" and section 3251,
"Equity".
Section 3855 expands on section 3860, "Financial Instruments - Disclosure
and Presentation", by prescribing when a financial instrument is to be
recognized on the balance sheet and at what amount. It also specifies how
financial instrument gains and losses are to be presented in the
financial statements.
Section 3865 provides alternative treatments to section 3855 for entities
which choose to designate qualifying transactions as hedges for
accounting purposes. It replaces and expands on Accounting Guideline 13,
"Hedging Relationships", and the hedging guidance in Section 1650,
"Foreign Currency Translation" by specifying how hedge accounting is
applied and what disclosure are necessary when it is applied.
Section 1530, "Comprehensive Income" introduces a new requirement to
temporarily present certain gains and losses outside net income.
Consequently, Section 3250, "Surplus", has been revised as Section 3251,
"Equity".
EXFO ELECTRO-OPTICAL ENGINEERING INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(tabular amounts in thousands of US dollars,
except share and per share data and as otherwise noted)
Sections 1530, 3251, 3855 and 3865 apply to fiscal years beginning on or
after October 1, 2006. The company will adopt these new standards on
September 1, 2007 and has not yet determined the impact they will have on
its financial statements.
3 RESTRUCTURING CHARGES
During the three- and six-month periods ended February 28, 2005, the
company incurred $244,000 and $444,000 respectively, for the
consolidation of the Photonics and Life Sciences Division. The company
expects to incur an additional $160,000, mainly in the third quarter of
fiscal 2005, for a total of approximately $2,600,000 in charges related
to this consolidation process. In addition, during the three months ended
February 28, 2005, the company recorded adjustments of $190,000 to the
fiscal 2003 plan because actual charges were lower than expected.
Changes in the restructuring charges payable are as follows:
BALANCE AS AT BALANCE AS AT
AUGUST 31, FEBRUARY 28,
2004 ADDITIONS PAYMENTS ADJUSTMENTS 2005
---------------- ------------- ------------- ------------- ----------------
FISCAL 2004 PLAN (UNAUDITED) (UNAUDITED) (UNAUDITED) (UNAUDITED)
Severance expenses $ 467 $ 83 $ (500) $ - $ 50
Other - 361 (361) - -
---------------- ------------- ------------- ------------- ----------------
467 444 (861) - 50
---------------- ------------- ------------- ------------- ----------------
FISCAL 2003 PLAN
Severance expenses 109 - (77) (32) -
Exited leased facilities 386 - (186) (7) 193
Other 197 - (23) (151) 23
---------------- ------------- ------------- ------------- ----------------
692 - (286) (190) 216
---------------- ------------- ------------- ------------- ----------------
FISCAL 2001 PLAN
Exited leased facilities 10 - (10) - -
---------------- ------------- ------------- ------------- ----------------
Total for all plans
(note 5) $ 1,169 $ 444 $ (1,157) $ (190) $ 266
================ ============= ============= ============= ================
EXFO ELECTRO-OPTICAL ENGINEERING INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(tabular amounts in thousands of US dollars,
except share and per share data and as otherwise noted)
4 INVENTORIES
AS AT AS AT
FEBRUARY 28, AUGUST 31,
2005 2004
---------------- -----------------
(UNAUDITED)
Raw materials $ 9,578 $ 7,244
Work in progress 1,835 1,370
Finished goods 6,932 6,757
---------------- -----------------
$ 18,345 $ 15,371
================ =================
5 ACCOUNTS PAYABLE AND ACCRUED LIABILITIES
AS AT AS AT
FEBRUARY 28, AUGUST 31,
2005 2004
---------------- -----------------
(UNAUDITED)
Trade $ 6,204 $ 4,484
Salaries and social benefits 3,952 3,932
Restructuring charges (note 3) 266 1,169
Tax on capital 755 526
Warranty 507 390
Other 763 892
---------------- -----------------
$ 12,447 $ 11,393
================ =================
Changes in the warranty provision are as follows:
SIX MONTHS ENDED
------------------------------------------
FEBRUARY 28, FEBRUARY 29,
2005 2004
---------------- -----------------
(UNAUDITED)
Balance - Beginning of period $ 390 $ 687
Provision 349 202
Settlement (253) (565)
Foreign currency translation adjustment 21 24
--------------- -----------------
Balance - End of period $ 507 $ 348
================ =================
EXFO ELECTRO-OPTICAL ENGINEERING INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(tabular amounts in thousands of US dollars,
except share and per share data and as otherwise noted)
6 NET RESEARCH AND DEVELOPMENT EXPENSES
THREE MONTHS SIX MONTHS THREE MONTHS SIX MONTHS
ENDED ENDED ENDED ENDED
FEBRUARY 28, FEBRUARY 28, FEBRUARY 29, FEBRUARY 29,
2005 2005 2004 2004
---------------- ---------------- ---------------- ----------------
(UNAUDITED) (UNAUDITED)
Gross research and development
expenses $ 3,820 $ 7,619 $ 4,286 $ 7,859
Research and development tax
credits and grants (1,039) (2,058) (794) (1,538)
---------------- ---------------- ---------------- ----------------
$ 2,781 $ 5,561 $ 3,492 $ 6,321
================ ================ ================ ================
7 INCOME TAXES
During the three- and six-month periods ended February 28, 2005, the
company recorded income taxes of $697,000 and $1,422,000, respectively,
representing income tax payable in some specific tax jurisdictions.
Since fiscal 2003, the company has been recording a full valuation
allowance against its future income tax assets because it is more likely
than not that these assets will not be recovered. This caused its income
tax rate to be distorted in relation to its pre-tax accounting income.
8 CONTINGENCY
On November 27, 2001, a class action suit was filed in the United States
District Court for the Southern District of New York against the company,
four of the underwriters of its Initial Public Offering and some of its
executive officers pursuant to the Securities Exchange Act of 1934 and
Rule 10b-5 promulgated thereunder and sections 11, 12 and 16 of the
Securities Act of 1933. This class action alleges that the company's
registration statement and prospectus filed with the Securities and
Exchange Commission on June 29, 2000, contained material
misrepresentations and/or omissions resulting from (i) the underwriters
allegedly soliciting and receiving additional, excessive and undisclosed
commissions from certain investors in exchange for which they allocated
material portions of the shares issued in connection with the company's
Initial Public Offering; and (ii) the underwriters allegedly entering
into agreements with customers whereby shares issued in connection with
the company's Initial Public Offering would be allocated to those
customers in exchange for which customers agreed to purchase additional
amounts of shares in the after market at pre-determined prices.
On April 19, 2002, the plaintiffs filed an amended complaint containing
master allegations against all of the underwriters in all of the 310
cases included in this class action and, also filed an amended complaint
containing allegations specific to four of the company's underwriters,
the company and two
EXFO ELECTRO-OPTICAL ENGINEERING INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(tabular amounts in thousands of US dollars,
except share and per share data and as otherwise noted)
of its executive officers. In addition to the allegations mentioned
above, the amended complaint alleges that the underwriters (i) used their
analysts to manipulate the stock market; and (ii) implemented schemes
that allowed issuer insiders to sell their shares rapidly after an
initial public offering and benefit from high market prices. As concerns
the company and its two executive officers in particular, the amended
complaint alleges that (i) the company's registration statement was
materially false and misleading because it failed to disclose the
additional commissions and compensation to be received by underwriters;
(ii) the two named executive officers learned of or recklessly
disregarded the alleged misconduct of the underwriters; (iii) the two
named executive officers had motive and opportunity to engage in alleged
wrongful conduct due to personal holdings of the company's stock and the
fact that an alleged artificially inflated stock price could be used as
currency for acquisitions; and (iv) the two named executive officers, by
virtue of their positions with the company, controlled the company and
the contents of the registration statement and had the ability to prevent
its issuance or cause it to be corrected. The plaintiffs in this suit
seek an unspecified amount for damages suffered.
In July 2002, the issuers filed a motion to dismiss the plaintiffs'
amended complaint and judgment was rendered on February 19, 2003. Only
one of the claims against the company was dismissed. On October 8, 2002,
the claims against its officers were dismissed pursuant to the terms of
Reservation of Rights and Tolling Agreements entered into with the
plaintiffs.
In June 2003, a committee of the company's Board of Directors
conditionally approved a proposed settlement between the issuer
defendants, the individual defendants, and the plaintiffs. If approved,
the settlement would provide, among other things, a release of the
company and of the individual defendants for the conduct alleged in the
action to be wrongful in the amended complaint. The company would agree
to undertake other responsibilities under the settlement, including
agreeing to assign away, not assert, or release certain potential claims
the company may have against its underwriters. Any direct financial
impact of the proposed settlement is expected to be borne by the
company's insurance carriers.
On June 25, 2004, the Plaintiffs moved for Preliminary Approval of the
settlement, and the Underwriter defendants have opposed that motion. The
court granted the preliminary approval motion on February 15, 2005,
subject to certain modifications. The parties are directed to report back
to the court regarding the modifications. If the parties are able to
agree upon the required modifications, and such modifications are
acceptable to the court, notice will be given to all class members of the
settlement, a "fairness" hearing will be held and if the court determines
that the settlement is fair to the class members, the settlement will be
approved. There can be no assurance that this proposed settlement would
be approved and implemented in its current form, or at all. Therefore, it
is not possible to predict the final outcome of the case, nor determine
the amount of any possible losses. If the settlement process fails, the
company will continue to defend its position in this litigation that the
claims against it, and its officers, are without merit. Accordingly, no
provision for this case has been made in the interim consolidated
financial statements as at February 28, 2005.
EXFO ELECTRO-OPTICAL ENGINEERING INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(tabular amounts in thousands of US dollars,
except share and per share data and as otherwise noted)
9 STOCK-BASED COMPENSATION PLANS
During the three months ended February 28, 2005, the company amended its
stock option plan to include the award of Restricted Stock Units (RSUs).
Each RSU entitles employees to receive one subordinate voting share
without consideration on the vesting dates established by the Board of
Directors of the company, subject to a minimum term of three years and a
maximum term of ten years from the award date. RSUs granted under the
plan expire at the latest ten years from the date of grant.
Furthermore, during the same period, the company established a Deferred
Stock Unit (DSUs) plan for the members of the Board of Directors as part
of their annual retainer fees. Each DSU entitles the Board members to
receive one subordinate voting share. DSUs are acquired on the date of
grant and will be redeemed in subordinate voting shares when the Board
member will cease to be Director of the company.
During the three months ended February 28, 2005, the company granted
176,185 RSUs and 5,350 DSUs. These awards have been accounted for in the
financial statements using the fair value-based method.
10 EARNINGS (LOSS) PER SHARE
The following table summarizes the reconciliation of the basic weighted
average number of shares outstanding and the diluted weighted average
number of shares outstanding:
THREE MONTHS SIX MONTHS THREE MONTHS SIX MONTHS
ENDED ENDED ENDED ENDED
FEBRUARY 28, FEBRUARY 28, FEBRUARY 29, FEBRUARY 29,
2005 2005 2004 2004
-------------- -------------- ---------------- ----------------
(UNAUDITED) (UNAUDITED)
Basic weighted average number of
shares outstanding (000's) 68,528 68,495 64,129 63,594
Dilutive effect of stock options
(000's) 425 449 551 504
Dilutive effect of restricted stock
awards (000's) 13 33 92 119
Dilutive effect of deferred stock
units (000's) 2 1 - -
------------- -------------- ---------------- ----------------
Diluted weighted average number of
shares outstanding (000's) 68,968 68,978 64,772 64,217
============= ============== ================ ================
Stock options excluded from the
calculation of diluted weighted
average number of shares because
their exercise price was greater
than the average market price of
the common shares (000's) 2,115 1,964 2,085 2,028
============= ============== ================ ================
EXFO ELECTRO-OPTICAL ENGINEERING INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(tabular amounts in thousands of US dollars,
except share and per share data and as otherwise noted)
The diluted loss per share for the periods ended February 29, 2004, and
the six months ended February 28, 2005, was the same as the basic loss
per share since the dilutive effect of stock options, restricted stock
awards and deferred stock units should not be included in the
calculation; otherwise, the effect would be anti-dilutive. Accordingly,
diluted loss per share for those periods was calculated using the basic
weighted average number of shares outstanding.
11 SEGMENT INFORMATION
The company is organized under two reportable segments: the Telecom
Division and the Photonics and Life Sciences Division. The Telecom
Division offers integrated test solutions to network service providers,
system vendors and component manufacturers throughout the global
telecommunications industry. The Photonics and Life Sciences Division
mainly leverages developed and acquired core telecom technologies for
high-tech industrial manufacturing and research markets.
The following tables set out information by segment:
THREE MONTHS ENDED FEBRUARY 28, 2005 SIX MONTHS ENDED FEBRUARY 28, 2005
--------------------------------------------- ----------------------------------------------
PHOTONICS PHOTONICS
AND LIFE AND LIFE
TELECOM SCIENCES TELECOM SCIENCES
DIVISION DIVISION TOTAL DIVISION DIVISION TOTAL
----------- ------------- ------------- ----------- -------------- -------------
(UNAUDITED) (UNAUDITED)
Sales $ 19,469 $ 3,666 $ 23,135 $ 36,900 $ 7,832 $ 44,732
Earnings (loss) from
operations $ 575 $ (757) $ (182) $ (405) $ (1,114) $ (1,519)
Unallocated items:
Interest and other income 625 1,349
Foreign exchange gain (loss) 263 (772)
------------- -------------
Earnings (loss) before
income taxes 706 (942)
Income taxes 697 1,422
------------- -------------
Net earnings (loss) for the
period $ 9 $ (2,364)
============= =============
EXFO ELECTRO-OPTICAL ENGINEERING INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(tabular amounts in thousands of US dollars,
except share and per share data and as otherwise noted)
THREE MONTHS ENDED FEBRUARY 29, 2004 SIX MONTHS ENDED FEBRUARY 29, 2004
--------------------------------------------- ----------------------------------------------
PHOTONICS PHOTONICS
AND LIFE AND LIFE
TELECOM SCIENCES TELECOM SCIENCES
DIVISION DIVISION TOTAL DIVISION DIVISION TOTAL
------------ ------------- ------------- ----------- -------------- -------------
(UNAUDITED) (UNAUDITED)
Sales $ 13,340 $ 3,540 $ 16,880 $ 25,482 $ 7,360 $ 32,842
Loss from operations $ (2,464) $ (1,021) $ (3,485) $ (4,844) $ (1,786) $ (6,630)
Unallocated items:
Interest and other income 514 670
Foreign exchange gain
(loss) 427 (43)
------------- -------------
Loss before income taxes (2,544) (6,003)
Income taxes 341 (1,110)
------------- -------------
Net loss for the period $ (2,885) $ (4,893)
============= =============
AS AT AS AT
FEBRUARY 28, AUGUST 31,
2005 2004
------------------ ------------------
(UNAUDITED)
TOTAL ASSETS
Telecom Division $ 60,817 $ 59,463
Photonics and Life Sciences Division 17,225 15,915
Unallocated assets 105,380 97,413
------------------ ------------------
$ 183,422 $ 172,791
================== ==================
Unallocated assets are comprised of cash, short-term investments and
income taxes and tax credits recoverable.
12 DIFFERENCES BETWEEN CANADIAN AND U.S. GAAP
These interim consolidated financial statements are prepared in
accordance with Canadian GAAP and significant differences in measurement
and disclosure from U.S. GAAP are set out in note 20 to the company's
most recent annual consolidated financial statements. This note describes
significant changes occurring since the most recent annual consolidated
financial statements and provides a quantitative analysis of all
significant differences. All disclosures required in annual financial
statements under U.S. GAAP have not been provided in these interim
consolidated financial statements.
EXFO ELECTRO-OPTICAL ENGINEERING INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(tabular amounts in thousands of US dollars,
except share and per share data and as otherwise noted)
RECONCILIATION OF NET EARNINGS (LOSS) TO CONFORM TO U.S. GAAP
THREE MONTHS SIX MONTHS THREE MONTHS SIX MONTHS
ENDED ENDED ENDED ENDED
FEBRUARY 28, FEBRUARY 28, FEBRUARY 29, FEBRUARY 29,
2005 2005 2004 2004
-------------- -------------- ---------------- ----------------
(UNAUDITED) (UNAUDITED)
Net earnings (loss) for the period in
accordance with Canadian GAAP $ 9 $ (2,364) $ (2,885) $ (4,893)
Stock-based compensation costs
related to stock-based
compensation plans - - (39) (175)
Unrealized gains (losses) on forward
exchange contracts (669) (460) (346) 255
-------------- -------------- ---------------- ----------------
Net loss for the period in accordance
with U.S. GAAP (660) (2,824) (3,270) (4,813)
Other comprehensive income (loss)
Unrealized gains on forward
exchange contracts 165 1,201 - -
Foreign currency translation
adjustment (5,167) 9,962 (4,266) 3,348
-------------- -------------- ---------------- ----------------
Comprehensive income (loss) $ (5,662) $ 8,339 $ (7,536) $ (1,465)
============= ============== ================ ================
Basic and diluted net loss per share
in accordance with U.S. GAAP $ (0.01) $ (0.04) $ (0.05) $ (0.08)
SHAREHOLDERS' EQUITY
As a result of the aforementioned adjustments to net earnings (loss) and
other comprehensive income (loss), significant differences with respect
to shareholders' equity under U.S. GAAP are as follows:
EXFO ELECTRO-OPTICAL ENGINEERING INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(tabular amounts in thousands of US dollars,
except share and per share data and as otherwise noted)
SHARE CAPITAL
AS AT AS AT
FEBRUARY 28, AUGUST 31,
2005 2004
------------------ ------------------
(UNAUDITED)
Share capital in accordance with Canadian GAAP $ 521,832 $ 521,733
Stock-based compensation costs related to stock purchase
plan
Current period - (47)
Cumulative effect of prior periods 2,356 2,403
Reclassification from other capital upon exercise of
restricted stock awards
Current period 1,213 1,784
Cumulative effect of prior periods 6,636 4,852
Shares issued upon business combinations
Cumulative effect of prior periods 65,584 65,584
------------------ ------------------
Share capital in accordance with U.S. GAAP $ 597,621 $ 596,309
------------------ ------------------
DEFERRED STOCK-BASED COMPENSATION COSTS
AS AT AS AT
FEBRUARY 28, AUGUST 31,
2005 2004
------------------ ------------------
(UNAUDITED)
Deferred stock-based compensation costs in accordance
with Canadian GAAP $ - $ -
Stock-based compensation costs related to stock-based
compensation plans
Current period (1,703) (1,463)
Cumulative effect of prior periods (31,039) (29,576)
Amortization for the period
Current period 349 1,718
Cumulative effect of prior periods 14,813 13,095
Reduction of stock-based compensation costs
Current period 24 84
Cumulative effect of prior periods 15,287 15,203
------------------ ------------------
Deferred stock-based compensation costs in accordance
with U.S. GAAP $ (2,269) $ (939)
================== ==================
EXFO ELECTRO-OPTICAL ENGINEERING INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(tabular amounts in thousands of US dollars,
except share and per share data and as otherwise noted)
OTHER CAPITAL
AS AT AS AT
FEBRUARY 28, AUGUST 31,
2005 2004
------------------ ------------------
(UNAUDITED)
Other capital in accordance with Canadian GAAP $ - $ -
Stock-based compensation costs related to stock-based
compensation plans
Current period 1,703 1,463
Cumulative effect of prior periods 28,357 26,894
Reduction of stock-based compensation costs
Current period (43) (439)
Cumulative effect of prior periods (17,052) (16,613)
Reclassification to share capital upon exercise of
restricted stock awards
Current period (1,213) (1,784)
Cumulative effect of prior periods (6,636) (4,852)
------------------ ------------------
Other capital in accordance with U.S. GAAP $ 5,116 $ 4,669
================== ==================
EXFO ELECTRO-OPTICAL ENGINEERING INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(tabular amounts in thousands of US dollars,
except share and per share data and as otherwise noted)
DEFICIT
AS AT AS AT
FEBRUARY 28, AUGUST 31,
2005 2004
------------------ ------------------
(UNAUDITED)
Deficit in accordance with Canadian GAAP $ (382,576) $ (380,212)
Stock-based compensation costs related to stock-based
compensation plans
Current period - (867)
Cumulative effect of prior periods (12,273) (11,406)
Unrealized gains (losses) on forward exchange contracts,
net of income taxes
Current period (460) (280)
Cumulative effect of prior periods 1,171 1,451
Change in reporting currency
Cumulative effect of prior periods 1,016 1,016
Future income taxes on acquired in-process research and
development
Cumulative effect of prior periods (1,380) (1,380)
Amortization of intangible assets, net of income taxes
Cumulative effect of prior periods 712 712
Write-down of goodwill and intangible assets, net of income taxes
Cumulative effect of prior periods (55,225) (55,225)
Valuation allowance on future income tax assets
Cumulative effect of prior periods (252) (252)
Amortization of goodwill
Cumulative effect of prior periods (17,716) (17,716)
------------------ ------------------
Deficit in accordance with U.S. GAAP $ (466,983) $ (464,159)
================== ==================
EXFO ELECTRO-OPTICAL ENGINEERING INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(tabular amounts in thousands of US dollars,
except share and per share data and as otherwise noted)
ACCUMULATED OTHER COMPREHENSIVE INCOME
AS AT AS AT
FEBRUARY 28, AUGUST 31,
2005 2004
------------------ ------------------
(UNAUDITED)
Accumulated other comprehensive income in accordance
with Canadian GAAP $ - $ -
Foreign currency translation adjustment
Current period 9,962 5,969
Cumulative effect of prior periods 11,188 5,219
Unrealized gains on forward exchange contracts
Current period 1,201 689
Cumulative effect of prior periods 689 -
------------------ ------------------
Accumulated other comprehensive income in accordance
with U.S. GAAP $ 23,040 $ 11,877
================== ==================
BALANCE SHEETS
The following table summarizes the significant differences in balance
sheet items between Canadian GAAP and U.S. GAAP:
AS AT FEBRUARY 28, 2005 AS AT AUGUST 31, 2004
------------------------------------ ------------------------------------
AS REPORTED U.S. GAAP AS REPORTED U.S. GAAP
(UNAUDITED)
Goodwill
Cost $ 97,013 $ 104,680 $ 93,967 $ 102,138
Accumulated amortization (77,346) (95,714) (75,574) (93,753)
---------------- ---------------- ---------------- ----------------
$ 19,667 $ 8,966 $ 18,393 $ 8,385
================ ================ ================ ================
Shareholders' equity
Share capital $ 521,832 $ 597,621 $ 521,733 $ 596,309
Contributed surplus 2,367 1,537 1,986 1,537
Cumulative translation
adjustment 24,424 - 13,820 -
Deficit (382,576) (466,983) (380,212) (464,159)
Deferred stock-based
compensation costs - (2,269) - (939)
Other capital - 5,116 - 4,669
Accumulated other
comprehensive income - 23,040 - 11,877
---------------- ---------------- ---------------- ----------------
$ 166,047 $ 158,062 $ 157,327 $ 149,294
================ ================ ================ ================
EXFO ELECTRO-OPTICAL ENGINEERING INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(tabular amounts in thousands of US dollars,
except share and per share data and as otherwise noted)
RESEARCH AND DEVELOPMENT TAX CREDITS
During the three- and six-month periods ended February 29, 2004 and
February 28, 2005, net research and development expenses under Canadian
GAAP included tax credits that are refundable against taxable income of
$842,000 and $1,193,000, respectively. Under U.S. GAAP, these credits
would have been recorded in the income taxes. This difference had no
impact on the net loss and net loss per share figures for the reporting
periods under U.S. GAAP.
STATEMENTS OF CASH FLOWS
For the three and six-month periods ended February 29, 2004 and February
28, 2005, there were no significant differences between the statements of
cash flows under Canadian GAAP as compared to U.S. GAAP.
NEW ACCOUNTING STANDARDS
In November 2004, the Financial Accounting Standards Board (FASB) has
issued Statement of Financial Position (SFAS) 151, "Inventory Costs", an
amendment of ARB No. 43, Chapter 4. The amendments made by SFAS 151 will
improve financial reporting by clarifying that any abnormal amount of
idle facility expenses, freight, handling costs, and wasted materials
(spoilage) should be recognized as current-period charges and by
requiring the allocation of fixed production overheads to inventory based
on the normal capacity of the production facilities. This SFAS is
effective for inventory costs incurred during fiscal years beginning
after June 15, 2005. The company will adopt this new statement on
September 1, 2005, and does not expect this to have a significant impact
on its financial statements.
On September 1, 2003, the company prospectively adopted SFAS 123,
"Accounting for Stock-Based Compensation", under the revised transition
provisions of SFAS 148, "Accounting for Stock-Based Compensation -
Transition and Disclosure". Upon the adoption of SFAS 123 and SFAS 148,
the company recognized stock-based compensation costs for stock options
granted to employees since September 1, 2003, using the fair value-based
method. The company adopted this Statement in order to conform to the
newly adopted rules under Canadian GAAP. As a result of the adoption of
the fair value-based method, the accounting for stock-based compensation
under Canadian GAAP and U.S. GAAP is the same for awards granted after
September 1, 2003.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
THIS DISCUSSION AND ANALYSIS MAY CONTAIN FORWARD-LOOKING STATEMENTS
WITHIN THE MEANING OF THE U.S. PRIVATE SECURITIES LITIGATION REFORM ACT OF
1995 AND WE INTEND THAT SUCH FORWARD- LOOKING STATEMENTS BE SUBJECT TO THE
SAFE HARBORS CREATED THEREBY. FORWARD-LOOKING STATEMENTS ARE STATEMENTS OTHER
THAN HISTORICAL INFORMATION OR STATEMENTS OF CURRENT CONDITION. WORDS SUCH AS
"MAY," "WILL," "EXPECT," "BELIEVE," "ANTICIPATE," "INTEND," "COULD,"
"ESTIMATE" OR "CONTINUE" OR THE NEGATIVE OR COMPARABLE TERMINOLOGY ARE
INTENDED TO IDENTIFY FORWARD-LOOKING STATEMENTS. IN ADDITION, ANY STATEMENTS
THAT REFER TO EXPECTATIONS, PROJECTIONS OR OTHER CHARACTERIZATIONS OF FUTURE
EVENTS OR CIRCUMSTANCES ARE FORWARD-LOOKING STATEMENTS. FORWARD-LOOKING
STATEMENTS ARE NOT GUARANTEES OF FUTURE PERFORMANCE AND INVOLVE RISKS AND
UNCERTAINTIES, AND ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THOSE IN THE
FORWARD-LOOKING STATEMENTS AS A RESULT OF VARIOUS FACTORS, INCLUDING ECONOMIC
UNCERTAINTY, CAPITAL SPENDING LEVELS IN THE TELECOMMUNICATIONS AND HIGH-TECH
INDUSTRIAL MANUFACTURING SECTORS, FLUCTUATING EXCHANGE RATES AND OUR ABILITY
TO EXECUTE IN THESE UNCERTAIN CONDITIONS; THE EFFECTS OF THE ADDITIONAL
ACTIONS WE HAVE TAKEN IN RESPONSE TO SUCH ECONOMIC UNCERTAINTY (INCLUDING
WORKFORCE REDUCTIONS, THE QUICK ADAPTATION OF OUR COST STRUCTURES TO ALIGN
WITH ANTICIPATED LEVELS OF BUSINESS, THE MANAGEMENT OF OUR INVENTORY LEVELS
ACCORDING TO MARKET DEMAND); MARKET ACCEPTANCE OF OUR NEW PRODUCTS AND OTHER
UPCOMING PRODUCTS; LIMITED VISIBILITY WITH REGARDS TO CUSTOMER ORDERS AND THE
TIMING OF SUCH ORDERS; OUR ABILITY TO SUCCESSFULLY INTEGRATE OUR ACQUIRED AND
TO-BE-ACQUIRED BUSINESSES; THE RETENTION OF KEY TECHNICAL AND MANAGEMENT
PERSONNEL; AND FUTURE ECONOMIC, COMPETITIVE AND MARKET CONDITIONS. ASSUMPTIONS
RELATING TO THE FOREGOING INVOLVE JUDGMENTS AND RISKS, ALL OF WHICH ARE
DIFFICULT OR IMPOSSIBLE TO PREDICT ACCURATELY AND MANY OF WHICH ARE BEYOND OUR
CONTROL. OTHER RISK FACTORS THAT MAY AFFECT OUR FUTURE PERFORMANCE AND OUR
OPERATIONS ARE DETAILED IN OUR ANNUAL REPORT ON FORM 20-F AND OUR OTHER
FILINGS WITH THE U.S. SECURITIES AND EXCHANGE COMMISSION AND THE CANADIAN
SECURITIES COMMISSION. ALTHOUGH WE BELIEVE THAT THE EXPECTATIONS REFLECTED IN
THE FORWARD-LOOKING STATEMENTS ARE REASONABLE BASED ON INFORMATION CURRENTLY
AVAILABLE TO US, WE CANNOT ASSURE YOU THAT THE EXPECTATIONS WILL PROVE TO HAVE
BEEN CORRECT. ACCORDINGLY, YOU SHOULD NOT PLACE UNDUE RELIANCE ON THESE
FORWARD-LOOKING STATEMENTS. IN ANY EVENT, THESE STATEMENTS SPEAK ONLY AS OF
THE DATE OF THIS DOCUMENT. WE UNDERTAKE NO OBLIGATION TO REVISE OR UPDATE ANY
OF THEM TO REFLECT EVENTS OR CIRCUMSTANCES AFTER THE DATE OF THIS DOCUMENT.
THE FOLLOWING DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS IS DATED APRIL 1, 2005.
ALL DOLLAR AMOUNTS ARE EXPRESSED IN US DOLLARS, EXCEPT AS OTHERWISE
NOTED.
INDUSTRY OVERVIEW
Access network deployments in the United States remained a primary
growth driver in the global telecommunications industry during the second
quarter of fiscal 2005. Leading US-based telecom carriers (telcos) continued
massive deployments of fiber deeper into access networks in order to provide
consumers with increased bandwidth and services. These carriers, along with a
number of Tier-II and local and rural Tier-III players, have opted for an
assortment of deployment scenarios including fiber-to-the-premises (FTTP),
fiber-to-the-node (FTTN), or fiber-to-the-curb (FTTC), depending on their
respective network architectures.
1
Leading U.S. telcos are accelerating spending on fiber deployments in
access networks because they are embroiled in a market war with cable
companies (cablecos) to offer bundled voice, data and video services to
consumers in preparation to migration to IP-Networking. Consequently, wireline
capital expenditures are expected to increase in 2005, despite consolidation
announcements in the industry.
While fiber deployments in access networks are stronger in the North
American market (with the exception of Japan and Korea), the shift to
converged Internet protocol (IP)-based networks is expected to be a worldwide
phenomenon. Telecom operators, on a global basis, are increasingly turning to
a single, IP-based network architecture in order to deliver increased services
at drastically reduced costs.
These key market trends affected multiple segments of the global
telecommunications supply chain. System manufacturers benefited from orders by
both telcos and cablecos for next-generation, converged IP networks as well as
through major investments by telcos in access networks. Component vendors saw
incremental demand for optical components that support IP-based systems. Some
test and measurement equipment vendors attracted the attention of telcos,
cablecos, system manufacturers and component vendors, especially ones offering
test solutions for IP optical networking and/or FTTx (FTTP, FTTN, FTTC)
applications.
COMPANY OVERVIEW
Sales reached $23.1 million in the second quarter of fiscal 2005, of
which 21.4% was shipped to a U.S.-based, Tier-1 telecom carrier. Historically,
sales to our top customer represented less than 10% of total sales on a
quarterly basis, but in the last four quarters, we had one customer that
accounted for more than 10% of our sales. We believe this sales concentration
is largely due to our leadership position in the FTTx test market.
We also reported GAAP net earnings of $9,000 for the second quarter
of fiscal 2005. This marked the first time since the second quarter of fiscal
2001 that we were profitable on a GAAP basis.
In the first half of fiscal 2005, we launched 12 new products,
including an All-Band Component Analyzer for FTTx and coarse
wavelength-division multiplexing (CWDM) applications in the manufacturing/R&D
market; a next-generation SONET/SDH analyzer for testing data-centric Internet
Protocol (IP) networks; a Gigabit Ethernet test solution with voice-over-IP
(VoIP) test capabilities; a suite of three handheld test instruments for the
installation and maintenance market; and an optical spectrum analyzer (OSA)
for CWDM applications in metro and access networks.
Following the end of the second quarter, EXFO was named recipient of
the 2005 Growth Strategy Leadership Award by Frost & Sullivan, a leading
market research firm in the telecommunications test sector. The award is
presented annually to the company whose visionary growth strategy generates
the largest market-share gains in the global fiber-optic test equipment market
in the previous year. Based on a report by Frost & Sullivan, we increased our
market share from 8.4% in fiscal 2003 to 10.4% in 2004. This marked the second
consecutive year that we have earned this industry award.
In the first half of fiscal 2005, we recorded a foreign exchange loss
of $772,000, or $0.01 per share, due to the significant increase in the value
of the Canadian dollar compared to the US dollar during that period. In
addition to this foreign exchange loss, our P&L line items of
2
2005 were also negatively affected by this appreciation of the Canadian dollar
as a significant portion of our expenses are incurred in Canadian dollars and
we report our results in US dollars.
In the second quarter of fiscal 2005, we recorded $244,000 in
restructuring expenses for the consolidation of our Photonics and Life
Sciences Division. This amount was recorded in addition to the $200,000
incurred in the first quarter of 2005. So far, we have sustained $2.0 million
in restructuring and other charges since the fourth quarter of 2004 in
conjunction with this consolidation process and we expect to incur an
additional $160,000, mainly in the third quarter of 2005, for a total of $2.6
million in charges related to this process. We estimate that we will derive
$1.5 million in annual savings from these streamlined operations.
OUR STRATEGY, KEY PERFORMANCE INDICATORS AND CAPABILITY TO DELIVER RESULTS
For a complete description of our strategy and the related key
performance indicators as well as our capability to deliver results, please
refer to the corresponding sections in our most recent Annual Report, filed
with the securities commissions.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
For a complete description of our critical accounting policies and
estimates, please refer to the corresponding section in our most recent Annual
Report, filed with the securities commissions. The following points detail the
changes in critical accounting policies that have occurred since our most
recent Annual Report:
On September 1, 2004, we prospectively adopted the following new
Canadian Institute of Chartered Accountants (CICA) handbook sections:
o Section 1100, "Generally Accepted Accounting Principles"
o Section 1400, "General Standards of Financial Statement
Presentation"
Furthermore, in January 2005, the CICA issued four new accounting
standards in relation with financial instruments: section 3855, "Financial
Instruments - Recognition and measurement", section 3865, "Hedges", section
1530, "Comprehensive Income" and section 3251, "Equity".
Please refer to note 2 to our interim consolidated financial
statements for further information about these new standards and their impact
on our financial statements.
3
RESULTS OF OPERATIONS
The following discussion and analysis of our consolidated financial
condition and results of operations for the periods ended February 29, 2004,
and February 28, 2005, should be read in conjunction with our interim
consolidated financial statements and the related notes thereto. Our interim
consolidated financial statements have been prepared in accordance with
Canadian generally accepted accounting principles (Canadian GAAP) and
significant differences in measurement and disclosure from United States
generally accepted accounting principles (U.S. GAAP) are set out in note 12 to
our interim consolidated financial statements. Our functional currency is the
Canadian dollar although we report our financial statements in US dollars. The
following tables set forth certain interim consolidated statements of earnings
data in thousands of US dollars, except per share data, and as a percentage of
sales for the periods indicated:
THREE MONTHS SIX MONTHS THREE MONTHS SIX MONTHS
ENDED ENDED ENDED ENDED
FEBRUARY 28, FEBRUARY 28, FEBRUARY 29, FEBRUARY 29,
2005 2005 2004 2004
------------ ------------ -------------- ------------
(UNAUDITED) (UNAUDITED)
Sales $ 23,135 $ 16,880 $ 44,732 $ 32,842
Cost of sales 10,431 7,528 20,656 15,343
----------- ----------- ------------ ------------
Gross margin 12,704 9,352 24,076 17,499
----------- ----------- ------------ ------------
Operating expenses
Selling and administrative 7,728 6,759 15,141 12,616
Net research and development 2,781 3,492 5,561 6,321
Amortization of property, plant and
equipment 1,098 1,295 2,192 2,616
Amortization of intangible assets 1,225 1,291 2,447 2,576
Restructuring charges 54 - 254 -
----------- ----------- ------------ ------------
Total operating expenses 12,886 12,837 25,595 24,129
----------- ----------- ------------ ------------
Loss from operations (182) (3,485) (1,519) (6,630)
Interest and other income 625 514 1,349 670
Foreign exchange gain (loss) 263 427 (772) (43)
----------- ----------- ------------ ------------
Earnings (loss) before income taxes 706 (2,544) (942) (6,003)
Income taxes 697 341 1,422 (1,110)
----------- ----------- ------------ ------------
Net earnings (loss) for the period $ 9 $ (2,885) $ (2,364) $ (4,893)
=========== =========== ============ ============
Basic and diluted net earnings (loss) per share $ - $ (0.04) $ (0.03) $ (0.08)
Segment information:
Sales:
Telecom Division $ 19,469 $ 13,340 $ 36,900 $ 25,482
Photonics and Life Sciences Division 3,666 3,540 7,832 7,360
----------- ----------- ------------ ------------
$ 23,135 $ 16,880 $ 44,732 $ 32,842
=========== =========== ============ ============
Earnings (loss) from operations:
Telecom Division $ 575 $ (2,464) $ (405) $ (4,844)
Photonics and Life Sciences Division (757) (1,021) (1,114) (1,786)
----------- ----------- ------------ ------------
$ (182) $ (3,485) $ (1,519) $ (6,630)
=========== =========== ============ ============
Research and development data:
Gross research and development $ 3,820 $ 4,286 $ 7,619 $ 7,859
Net research and development $ 2,781 $ 3,492 $ 5,561 $ 6,321
OTHER CONSOLIDATED STATEMENTS OF EARNINGS DATA: (1)
Pro forma net earnings (loss) $ 1,532 $ (1,510) $ 718 $ (3,634)
Basic and dilited pro forma net earnings
(loss) per share $ 0.02 $ (0.02) $ 0.01 $ (0.06)
(1) Net earnings (loss) excluding stock-based compensation costs,
amortization of intangible assets, restructuring charges as well as an unusual
tax recovery. This information may not be comparable to similarly titled
measures reported by other companies because it is non-GAAP information.
Please refer to the Pro forma section included further in this document.
4
THREE MONTHS SIX MONTHS THREE MONTHS SIX MONTHS
ENDED ENDED ENDED ENDED
FEBRUARY 28, FEBRUARY 28, FEBRUARY 29, FEBRUARY 29,
2005 2005 2004 2004
------------ ------------ -------------- ------------
(UNAUDITED) (UNAUDITED)
Sales 100.0 % 100.0 % 100.0 % 100.0 %
Cost of sales 45.1 44.6 46.2 46.7
------------- ------------- ------------- -------------
Gross margin 54.9 55.4 53.8 53.3
------------- ------------- ------------- -------------
Operating expenses
Selling and administrative 33.4 40.0 33.8 38.4
Net research and development 12.0 20.7 12.4 19.3
Amortization of property, plant and
equipment 4.8 7.7 4.9 8.0
Amortization of intangible assets 5.3 7.6 5.5 7.8
Restructuring charges 0.2 - 0.6 -
------------- ------------- ------------- -------------
Total operating expenses 55.7 76.0 57.2 73.5
------------- ------------- ------------- -------------
Loss from operations (0.8) (20.6) (3.4) (20.2)
Interest and other income 2.7 3.0 3.0 2.0
Foreign exchange gain (loss) 1.1 2.5 (1.7) (0.1)
------------- ------------- ------------- -------------
Earnings (loss) before income taxes 3.0 (15.1) (2.1) (18.3)
Income taxes 3.0 2.0 3.2 (3.4)
------------- ------------- ------------- -------------
Net earnings (loss) for the period - % (17.1)% (5.3)% (14.9)%
------------- ------------- ------------- -------------
Segment information:
Earnings (loss) from operations:
Telecom Division 2.5 % (14.6)% (0.9)% (14.8)%
Photonics and Life Sciences Division (3.3) (6.0) (2.5) (5.4)
------------- ------------- ------------- -------------
(0.8)% (20.6)% (3.4)% (20.2)%
============= ============= ============= =============
Research and development data:
Gross research and development 16.5 % 25.4 % 17.0 % 23.9 %
Net research and development 12.0 % 20.7 % 12.4 % 19.3 %
OTHER STATEMENTS OF EARNINGS DATA: (1)
Pro forma net earnings (loss) 6.6 % (8.9) % 1.6 % (11.1) %
(1) Net earnings (loss) excluding stock-based compensation costs,
amortization of intangible assets, restructuring charges as well as an unusual
tax recovery. This information may not be comparable to similarly titled
measures reported by other companies because it is non-GAAP information.
Please refer to the Pro forma section included further in this document.
5
SALES
For the three months ended February 28, 2005, our global sales
increased 37.1% to $23.1 million from $16.9 million for the same period last
year, with an 84%-16% split in favor of our Telecom Division.
For the six months ended February 28, 2005, our global sales
increased 36.2% to $44.7 million from $32.8 million for the same period last
year, with an 82%-18% split in favor of our Telecom Division.
TELECOM DIVISION
For the three months ended February 28, 2005, sales of our Telecom
Division increased 45.9% to $19.5 million from $13.3 million for the same
period last year.
For the six months ended February 28, 2005, sales of our Telecom
Division increased 44.8% to $36.9 million from $25.5 million for the same
period last year.
Since the second half of fiscal 2004, we have benefited from an
increased demand for our test solutions following the deployment of fiber
deeper into access networks (FTTP, FTTC and FTTN), in particular from a Tier-1
NSP customer, who accounted for 21% of our telecom sales in the second quarter
of fiscal 2005 and 23% in the first half of 2005. In addition, the positive
spending environment helped us increase our sales for these periods.
PHOTONICS AND LIFE SCIENCES DIVISION
For the three months ended February 28, 2005, sales of our Photonics
and Life Sciences Division increased 3.6% to $3.7 million from $3.5 million
for the same period last year.
For the six months ended February 28, 2005, sales of our Photonics
and Life Sciences Division increased 6.4% to $7.8 million from $7.4 million
for the same period last year.
The increase in sales during these periods is mainly due to
market-share gain in the illumination market as well as increased sales
activities in the curing market year-over-year.
Overall, for the two divisions, net accepted orders increased 39.8%
to $24.9 million in the second quarter of fiscal 2005 from $17.7 million for
the same period last year. The improvement in the telecommunications market
environment, the increased demand for our test solutions for FTTx applications
as well as market-share gain in the telecommunications and life sciences
markets helped us increase our bookings year-over-year. Based on a report by
Frost & Sullivan, in 2004, we increased our market share by 200 basis points
compared to 2003. Our net book-to-bill ratio rose to 1.07 in the second
quarter of 2005, from 1.05 for the same period last year. In the previous
quarter, the net book-to-bill ratio reached 1.08.
GEOGRAPHIC DISTRIBUTION
For the three months ended February 28, 2005, sales to the Americas,
Europe-Middle East-Africa (EMEA) and Asia-Pacific (APAC) accounted for 65%,
20% and 15% of global sales, respectively. For the corresponding period last
year, sales to the Americas, EMEA and APAC accounted for 67%, 18% and 15% of
global sales, respectively. Our sales to the Americas, which increased 33%
year-over-year, benefited from the recent deployments of fiber deeper in the
access networks that mainly occurred in the United States as mentioned above.
Our sales to EMEA increased more significantly (52%) year-over-year, mainly
due to market-share gains in both divisions, following our efforts to develop
this market. Our sales
6
to APAC increased 39% year-over-year. Most of our sales to this market are
made through tenders that may vary in number and importance from quarter to
quarter.
For the six months ended February 28, 2005, sales to the Americas,
EMEA and APAC accounted for 68%, 19% and 13% of global sales, respectively.
For the corresponding period last year, sales to the Americas, EMEA and APAC
accounted for 66%, 17% and 17% of global sales, respectively.
Through our two divisions, we sell our products to a broad range of
customers, including Network Service Providers, optical component and system
manufacturers, as well as high-tech industrial manufacturers and research and
development laboratories. During the three months ended February 28, 2005, we
had a high amount of sales to a single customer that accounted for 21.4% of
our total sales and our top three customers accounted for 27.8% of our sales.
For the corresponding period last year, no customer accounted for more than
8.1% of our sales and our top three customers accounted for 16.5% of our
sales. For the six months ended February 28, 2005, we had one customer that
accounted for 23.1% of our total sales and our top three customers accounted
for 27.9% of our sales. For the corresponding period last year, no customer
accounted for more than 6.8% of our sales and our top three customers
accounted for 17.5% of our sales.
Considering the sales level and the net book-to-bill ratio for the
first half of fiscal 2005 as well as the benefits expected from our recent
product introductions, we still believe that we will achieve our KPI; that is,
20% sales growth year-over-year in a stable telecommunications market.
GROSS MARGIN
Gross margin amounted to 54.9% of sales for the three months ended
February 28, 2005, compared to 55.4% for the same period last year. Despite
the significant increase in sales year-over-year (37.1%), which lead to a
better absorption of our fixed manufacturing costs and the benefits of our
cost reduction programs, our gross margin decreased 0.5%. A stronger Canadian
dollar, compared to the US dollar year-over-year, had a negative impact on our
gross margin as some cost of sales elements are denominated in Canadian
dollars. Also, a different customer mix, product mix, as well as the increased
pricing pressure observed in the second quarter of fiscal 2005 further
contributed to the reduction of the gross margin.
Gross margin amounted to 53.8% of sales for the six months ended
February 28, 2005, compared to 53.3% for the same period last year. The slight
increase in our gross margin can be explained by the following factors. First,
we were able to reduce our cost of goods sold with lower purchasing price of
various commodities we buy. In addition, the significant rise in sales
year-over-year (36.2%) resulted in an increase in manufacturing activities
allowing us to better absorb our fixed manufacturing costs. Furthermore,
streamlined operations following our consolidation actions in fiscal 2004 and
cost-reduction programs allowed us to improve our gross margin year-over-year.
However, a stronger Canadian dollar, compared to the US dollar year-over-year,
prevented us from further improving our gross margin as some cost of sales
elements are denominated in Canadian dollars. In addition, a different
customer mix and pricing pressure observed in the first half of fiscal 2005
also prevented us from further improving our gross margin.
7
Considering the current state of the telecommunications industry, our
cost-reduction measures, our tight control on operating costs as well as our
expected sales growth, we believe that our gross margin will improve in fiscal
2005, compared to 2004. However, our gross margin may fluctuate
quarter-over-quarter as our sales may fluctuate. Furthermore, any further
increase in the stength of the Canadian dollar in the upcoming quarters will
have a negative impact on our gross margin. Finally, our gross margin can be
negatively affected by increased competitive pricing pressure, customer
concentration, increased obsolescence costs, shifts in customer and product
mix, under-absorption of fixed manufacturing costs and increases in product
offerings by other suppliers in our industry.
SELLING AND ADMINISTRATIVE
For the three months ended February 28, 2005, selling and
administrative expenses were $7.7 million, or 33.4% of sales, compared to $6.8
million, or 40.0% of sales for the same period last year.
For the six months ended February 28, 2005, selling and
administrative expenses were $15.1 million, or 33.8% of sales, compared to
$12.6 million, or 38.4% of sales for the same period last year.
The increase in our selling and administrative expenses in dollars is
mainly related to the significant increase in our sales, which caused our
commission expenses to increase year-over-year, and to the increase of sales
and marketing expenditures (including head-counts), resulting from our
strategic decision to expand the sales organization to better leverage the
various leading technologies developed over the past fiscal years. In
addition, a stronger Canadian dollar, compared to the US dollar
year-over-year, further increased our selling and administrative expenses, as
more than half of our selling and administrative expenses are incurred in
Canadian dollars. Furthermore, stock-based compensation costs were higher in
fiscal 2005 than in 2004, further increasing our selling and administrative
expenses year-over-year. However, we were able to mitigate the increase in our
selling and administrative expenses as well as reduce these expenses in
percentage of sales year-over-year due to tight cost-control measures and our
recent consolidation actions.
For the upcoming quarters, we expect our selling and administrative
expenses to increase in dollars, while remaining relatively stable as a
percentage of sales. In particular, we expect our commission expenses to
increase as sales volume increases. Also, considering our goal of becoming the
leading player in the telecom test and measurement space, we will intensify
our sales and marketing efforts, both domestic and international, which will
also cause our expenses to rise. Finally, any further increase in the strength
of the Canadian dollar will also cause our selling and administrative expenses
to increase, as more than half of these expenses are incurred in Canadian
dollars.
RESEARCH AND DEVELOPMENT
For the three months ended February 28, 2005, gross research and
development expenses totaled $3.8 million, or 16.5% of sales, compared to $4.3
million, or 25.4% of sales for the same period last year.
8
For the six months ended February 28, 2005, gross research and
development expenses totaled $7.6 million, or 17.0% of sales, compared to $7.9
million, or 23.9% of sales for the same period last year.
The decrease in our gross research and development expenses in
dollars is mainly attributable to the consolidation of our Photonics and Life
Sciences Division activities, as we refocused our R&D activities in this
division based on our strategy to leverage existing telecom technologies.
Also, mix and timing of R&D projects can explain the decrease in gross
research and development expenses for both periods.
On the other hand, in fiscal 2005, most of our gross research and
development expenses were incurred in Canadian dollars as we have consolidated
most of our R&D activities in Canada. Consequently, the significant increase
in the strength of the Canadian dollar compared to the US dollar
year-over-year caused our gross research and development expenses to increase.
The decrease in gross research and development expenses as a
percentage of sales is directly related to the decrease in our gross research
and development expenses, combined with the significant increases in our sales
year-over-year.
For the three months ended February 28, 2005, tax credits and grants
from the Canadian federal and provincial governments for research and
development activities were $1.0 million, or 27.2% of gross research and
development expenses, compared to $794,000, or 18.5% of gross research and
development expenses for the same period last year. For the six months ended
February 28, 2005, these tax credits and grants were $2.1 million, or 27.0% of
gross research and development expenses, compared to $1.5 million, or 19.6% of
gross research and development expenses for the same period last year.
The increase in our tax credits and grants is mainly related to the
increase in our eligible gross research and development expenses in Canada,
since we were entitled to similar grant programs and tax credits
year-over-year. Following the consolidation of our R&D activities in Canada,
we incurred most of our R&D expenses in Canada, where we are entitled to R&D
tax credits and grants.
We still invested significantly in research and development
activities in the first half of fiscal 2005, mainly in our Telecom Division,
as we firmly believe that innovation and new product introductions are key in
gaining market share in the current economic environment and ensuring the
long-term growth and profitability of the company.
For the first half of fiscal 2005, 44% of our sales originated from
products that have been on the market for two years or less. The 2005 figure
thus far has almost reached our fiscal 2005 objective of 45%. With the help of
the 20 new products brought to the market place in fiscal 2004 - several of
which were released in the second half of the fiscal year - and the 12 new
ones lauched in the first half of fiscal 2005, we remain confident that we
will achieve our KPI of 45% for fiscal 2005.
We expect to continue investing significantly in research and
development activities in the upcoming quarters, reflecting our focus on
innovation, our desire to gain market share and our goal of exceeding customer
needs and expectations.
9
AMORTIZATION OF PROPERTY, PLANT AND EQUIPMENT
For the three months ended February 28, 2005, amortization of
property, plant and equipment was $1.1 million, compared to $1.3 million for
the same period last year. For the six months ended February 28, 2005,
amortization expenses amounted to $2.2 million, compared to $2.6 million for
the same period last year. The decrease in amortization expenses in fiscal
2005, compared to 2004, despite the significant increase in the strength of
the Canadian dollar compared to the US dollar, is mainly due to the fact that
some of our property, plant and equipment became fully amortized during fiscal
2004.
RESTRUCTURING CHARGES
For the three and the six months ended February 28, 2005,
restructuring charges amounted to $54,000 and $254,000, respectively. During
these periods, we recorded $244,000 and $444,000, respectively, in conjunction
with the consolidation of our Photonics and Life Sciences Division. This
consolidation process, which is substantially completed, started in the last
quarter of fiscal 2004 and will extend through the third and fourth quarters
of 2005. Also, in the second quarter of fiscal 2005, we recorded adjustments
of $190,000 to reverse accrued expenses related to our 2003 restructuring plan
because actual expenses were lower than expected. During the corresponding
periods of 2004, we had no restructuring charges.
INTEREST AND OTHER INCOME
For the three months ended February 28, 2005, interests and other
income amounted to $625,000 compared to $514,000 for the same period last
year. During the second quarter of fiscal 2005, our interest income was higher
than the corresponding period of 2004, mainly because of the increase in our
cash position following our public offering in February 2004 and the increase
in interest rates. However, other income in the second quarter of fiscal 2004,
included revenues from the non-recurring sale of certain excess assets.
For the six months ended February 28, 2005, interests and other
income amounted to $1.3 million compared to $670,000 for the same period last
year. The increase in interest income year-over-year is due in part to the
increase in our cash position following our public offering in February 2004
and the increase in interest rates. Also, during the first half of fiscal
2005, we recovered R&D tax credits earned in previous years and we were
granted $249,000 in interests by the tax authorities.
FOREIGN EXCHANGE GAIN (LOSS)
For the three months ended February 28, 2005, the foreign exchange
gain amounted to $263,000 compared to $427,000 for the same period last year.
Foreign exchange gains and losses are the result of the translation
of operating activities denominated in currencies other than the Canadian
dollar. During the three months ended February 28, 2005, the Canadian dollar
value decreased compared to the US dollar, resulting in a foreign exchange
gain during the quarter. During the same period last year, the Canadian dollar
value decreased more significantly than in fiscal 2005, resulting in a higher
foreign exchange gain during that period.
10
For the six months ended February 28, 2005, the foreign exchange loss
amounted to $772,000 compared to $43,000 for the same period last year. The
significant exchange loss recorded in the first half of fiscal 2005 is the
result of the significant and rapid increase in the value of the Canadian
dollar compared to the US dollar in the first half of fiscal 2005, resulting
in a significant foreign exchange loss during that period. During the same
period last year, the Canadian dollar value also increased significantly
compared to the US dollar, resulting in a less important exchange loss during
that quarter. Higher levels of activity in the first half of fiscal 2005,
compared to the same pariod last year, further increased the exchange loss
year-over-year.
We manage our exposure to currency risk with forward exchange
contracts. In addition, some of our operating activities are denominated in
currencies other than the Canadian dollar, which further hedges this risk.
However, any further increase in the value of the Canadian dollar, compared to
the US dollar, will have a negative impact on our operating results.
INCOME TAXES
For the three months ended February 28, 2005, we recorded an income
tax expense of $697,000 compared to $341,000 for the same period last year.
For the six months ended February 28, 2005, we recorded an income tax expense
of $1.4 million compared to an income tax recovery of $1.1 million for the
same period last year.
The income tax expense recorded in fiscal 2005 and in the second
quarter of fiscal 2004 represented income taxes payable in some specific tax
jurisdictions.
The income tax recovery recorded in the first half of fiscal 2004 was
mainly due to the recovery, in the first quarter of 2004, of $1.4 million of
income taxes paid in previous periods following the receipt of a tax
assessment.
Since fiscal 2003, we have been recording a full valuation allowance
against our future income tax assets because it is more likely than not that
these assets will not be recovered. The valuation allowance will be reversed
once management will have concluded that realization of future income tax
assets is more likely than not. Consequently, our income tax rates are
distorted compared to statutory rates.
NET EARNINGS (LOSS) AND PRO FORMA NET EARNINGS (LOSS)
Net earnings amounted to $9,000 for the three months ended February
28, 2005, compared to a net loss of $2.9 million for the same period last
year. In terms of per share amounts, we recorded net earnings of nil in the
second quarter of fiscal 2005, compared to a net loss of $0.04 for the same
period last year.
Net loss amounted to $2.4 million and $4.9 million for the first half
of fiscal 2005 and 2004, respectively. In terms of per share amounts, we
recorded a net loss of $0.03 and $0.08 for the first half of fiscal 2005 and
2004, respectively.
Also, as a measure to assess financial performance, we use pro forma
net earnings (loss) and pro forma net earnings (loss) per share. Pro forma net
earnings (loss) represent net earnings (loss) excluding stock-based
compensation costs, amortization of intangible assets, restructuring charges
as well as unusual tax recovery.
11
Pro forma net earnings amounted to $1.5 million for the three months
ended February 28, 2005, compared to a pro forma net loss of $1.5 million for
the same period last year. In terms of pro forma per share amounts, we
recorded net earnings of $0.02 for the three months ended February 28, 2005,
compared to a net loss of $0.02 for the same period last year.
For the six months ended February 28, 2005, pro forma net earnings
amounted to $718,000 or $0.01 per share compared to a pro forma net loss of
$3.6 million, or $0.06 per share for the same period last year.
Pro forma net earnings (loss) are reconciled as follows:
THREE MONTHS SIX MONTHS THREE MONTHS SIX MONTHS
ENDED ENDED ENDED ENDED
FEBRUARY 28, FEBRUARY 28, FEBRUARY 29, FEBRUARY 29,
2005 2005 2004 2004
------------ ------------ -------------- ------------
(UNAUDITED) (UNAUDITED)
Net earnings (loss) for the period
in accordance with GAAP $ 9 $ (2,364) $ (2,885) $ (4,893)
Pro forma adjustments:
Stock-based compensation costs 244 381 84 89
Amortization of intangible assets 1,225 2,447 1,291 2,576
Restructuring charges 54 254 - -
Unusual tax recovery - - - (1,406)
------------ ------------ -------------- ------------
Pro forma net earnings (loss) for
the period $ 1,532 $ 718 $ (1,510) $ (3,634)
============ ========= ============== ============
Basic and diluted net earnings
(loss) per share $ - $ (0.03) $ (0.04) $ 0.08)
Basic and diluted pro forma net
earnings (loss) per share $ 0.02 $ 0.01 $ (0.02) $ (0.06)
One of the three main objectives of our fiscal 2005 strategic plan
was to maximize profitability. We believe that such an objective will be
achieved by being profitable on a pro forma basis. As shown above, in the
first half of fiscal 2005, we reported pro forma net earnings of $718,000,
which is a step in the right direction.
We disclose pro forma financial data in order to provide supplemental
information regarding our results of operations and to enhance our investors'
overall understanding of our core financial performance and our prospects for
the future. We believe that our investors benefit from seeing our results
through the eyes of management in addition to seeing the GAAP information.
This non-GAAP information facilitates management's comparison of current
results with the company's historical results of operations and strategic plan
and with those of our peers. This information is not in accordance with, or an
alternative to, GAAP and should be considered in addition to, but not as a
substitute for, other measures of financial performance reported in accordance
with GAAP, such as net earnings (loss). As a result, our pro forma net
12
earnings (loss) may not be comparable to similarly titled measures reported by
other companies.
LIQUIDITY AND CAPITAL RESOURCES
We finance our operations and meet our capital expenditure
requirements mainly through cash flows from operating activities, the use of
our cash and short-term investments as well as the issuance of subordinate
voting shares.
As at February 28, 2005, cash and short-term investments consisted of
$98.8 million, while our working capital was at $123.2 million. During the
second quarter of fiscal 2005, our cash and short-term investments increased
$4.2 million due to cash flows from operating activities. However, this
increase in cash and short-term investments was mostly offset by an unrealized
foreign exchange loss of $3.9 million on cash and short-term investments, as
the Canadian dollar dropped slightly this quarter, and by the cash payments
for the purchase of property, plant and equipment of $246,000. The unrealized
foreign exchange loss resulted from the translation in US dollars of our
Canadian-dollar-denominated cash and short-term investments, and was recorded
in the cumulative translation adjustment in the balance sheet.
We believe that our cash balances and short-term investments,
combined with an available line of credit of $3.4 million, will be sufficient
to meet our liquidity and capital requirements for the foreseeable future.
However, possible additional operating losses and/or possible investment in or
acquisition of complementary businesses, products or technologies may require
additional financing. There can be no assurance that additional debt or equity
financing will be available when required or, if available, it can be secured
on satisfactory terms. Our line of credit bears interest at prime rate.
OPERATING ACTIVITIES
Cash flows provided by operating activities were $4.2 million for the
three months ended February 28, 2005, compared to $1.6 million for the same
period last year. Cash flows provided by operating activities in the second
quarter of fiscal 2005 were mainly attributable to the net earnings after
items not affecting cash of $3.3 million and the positive net change in
non-cash operating items of $830,000. During the second quarter of 2005, our
income taxes and tax credits recoverable decreased $1.9 million following the
recovery of tax credits earned in previous years. However, during that same
period, our inventories increased $1.0 million in order to sustain our
increased sales activities.
Cash flows provided by operating activities were $4.6 million for the
six months ended February 28, 2005, compared to cash flows used of $1.4
million for the same period last year. Cash flows provided by operating
activities in the first half of fiscal 2005 were mainly attributable to the
net earnings after items not affecting cash of $3.6 million and the positive
net change in non-cash operating items of $1.0 million. During the second half
of fiscal 2005, our income taxes and tax credits recoverable decreased $2.3
million for the above-mentioned reason. Also, our accounts payable and accrued
liabilities increased by $377,000 due to the increased level of activities. On
the other hand, our inventories increased $1.9 million due to our increased
sales activities.
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INVESTING ACTIVITIES
Cash flows used by investing activities were $4.9 million for the
three months ended February 28, 2005, compared to $31.5 million for the same
period last year. In the second quarter of fiscal 2005, we acquired $4.6
million worth of short-term investments with cash flows from operating
activities and paid $246,000 for the purchase of property, plant and
equipment. For the corresponding period last year, we acquired $31.3 million
worth of short-term investments with the net proceeds of the public offering
completed during that quarter and cash flows from operating activities.
Cash flows used by investing activities were $6.2 million for the six
months ended February 28, 2005, compared to $29.0 million for the same period
last year. In the first half of fiscal 2005, we acquired $5.4 million worth of
short-term investments with cash flows from operating activities and cash
on-hand and paid $823,000 for the purchase of property, plant and equipment.
For the corresponding period last year, we acquired $28.4 million worth of
short-term investments with the net proceeds of the public offering and paid
$576,000 for the purchase of property, plant and equipment.
FORWARD EXCHANGE CONTRACTS
We utilize forward exchange contracts to manage our foreign currency
exposure. Our policy is not to utilize those derivative financial instruments
for trading or speculative purposes.
Our forward exchange contracts, which are used to hedge anticipated
US-dollar-denominated sales, qualify for hedge accounting; therefore, foreign
exchange translation gains and losses on these contracts are recognized as an
adjustment of the revenues when the corresponding sales are recorded.
As at February 28, 2005, we held forward exchange contracts to sell
US dollars at various forward rates, which are summarized as follows:
CONTRACTUAL WEIGHTED AVERAGE CONTRACTUAL
EXPIRY DATES: AMOUNTS FORWARD RATES
-------------- ----------------------------
March 2005 to August 2005 $ 7,800 1.3663
September 2005 to November 2007 19,600 1.2862
As at February 28, 2005, these forward exchange contracts generated
deferred unrealized gains of US$1.7 million. Deferred unrealized gains were
calculated using an exchange rate of Cdn$1.2316 = US$1.00 as at February 28,
2005.
CONTINGENCY
As discussed in note 8 to our interim consolidated financial
statements, the company was named as a defendant in a U.S. securities class
action related to its initial public offering (IPO) in June 2000. The
complaints allege that the prospectus and the registration statement for the
IPO failed to disclose that the underwriters allegedly received excessive
commissions and that the underwriters and some investors collaborated in order
to inflate the price of EXFO's stock in the after-market.
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In June 2003, a committee of the company's Board of Directors
conditionally approved a proposed settlement between the issuer defendants,
the individual defendants, and the plaintiffs. If approved, the settlement
would provide, among other things, a release of the company and of the
individual defendants for the conduct alleged in the action to be wrongful in
the amended complaint. The company would agree to undertake other
responsibilities under the settlement, including agreeing to assign away, not
assert, or release certain potential claims the company may have against its
underwriters. Any direct financial impact of the proposed settlement is
expected to be borne by the company's insurance carriers.
On June 25, 2004, the Plaintiffs moved for Preliminary Approval of
the settlement, and the Underwriter defendants have opposed that motion. The
court granted the preliminary approval motion on February 15, 2005, subject to
certain modifications. The parties are directed to report back to the court
regarding the modifications. If the parties are able to agree upon the
required modifications, and such modifications are acceptable to the court,
notice will be given to all class members of the settlement, a "fairness"
hearing will be held and if the court determines that the settlement is fair
to the class members, the settlement will be approved. There can be no
assurance that this proposed settlement will be approved and implemented in
its current form, or at all. Therefore, it is not possible to predict the
final outcome of the case, nor determine the amount of any possible losses. If
the settlement process fails, the company will continue to defend its position
in this litigation that the claims against it, and its officers, are without
merit. Accordingly, no provision for this case has been made in our interim
consolidated financial statements as at February 28, 2005.
SHARE CAPITAL AND STOCK-BASED COMPENSATION PLANS
SHARE CAPITAL
As at April 1, 2005, EXFO had 37,900,000 multiple voting shares
outstanding, entitling to ten votes each and 30,648,774 subordinate voting
shares outstanding. The multiple voting shares and the subordinate voting
shares are unlimited as to number and without par value.
STOCK OPTION PLAN
During the three months ended February 28, 2005, EXFO amended its
stock option plan to include the award of Restricted Stock Units (RSUs). Each
RSU entitles employees to receive one subordinate voting share without
consideration on the vesting dates established by the Board of Directors of
EXFO, subject to a minimum term of three years and a maximum term of ten years
from the award date. RSUs granted under the plan expire at the latest ten
years from the date of grant. The aggregate number of subordinate voting
shares covered by RSUs granted under the stock option plan was 176,185 as at
February 28, 2005. In addition, the aggregate number of subordinate voting
shares covered by options granted under the stock option plan was 2,842,949 as
at February 28, 2005. The weighted average exercise price of those stock
options was $12.94 compared to the market price of $4.70 per share as at
February 28, 2005.
Finally, during the three months ended February 28, 2005, EXFO
established a Deferred Stock Unit (DSUs) plan for the members of the Board of
Directors as part of their annual retainer fees. Each DSU entitles the Board
members to receive one subordinate voting share. DSUs are acquired on the date
of grant and will be redeemed in subordinate voting shares when the Board
member will cease to be Director of the company. The aggregate number of
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subordinate voting shares covered by DSUs granted under the plan was 10,930 as
at February, 28, 2005.
The following tables summarize information about stock options, RSUs
and DSUs granted to the members of the Board of Directors and to Management
and Corporate Officers of the company and its subsidiaries as at February 28,
2005:
WEIGHTED
% OF ISSUED AVERAGE
AND EXERCISE
STOCK OPTIONS NUMBER OUTSTANDING PRICE
--------------- --------------- --------------
Chairman of the Board, President and CEO
(one individual) 168,424 5.9% $ 9.34
Board of Directors (five individuals) 194,375 6.9% $ 6.23
Management and Corporate Officers
(eight individuals) 345,591 12.1% $ 14.17
--------------- --------------- --------------
708,390 24.9% $ 10.84
=============== =============== ==============
RESTRICTED STOCK UNITS NUMBER % OF ISSUED
AND
OUTSTANDING
--------------- ---------------
Chairman of the Board, President and CEO
(one individual) 13,089 7.4 %
Management and Corporate Officers
(eight individuals) 151,096 85.8 %
--------------- ---------------
164,185 93.2 %
=============== ===============
% OF ISSUED
AND
DEFERRED STOCK UNITS NUMBER OUTSTANDING
--------------- ---------------
Board of Directors (five individuals) 10,930 100.0 %
=============== ===============
RISKS AND UNCERTAINTIES
Over the past few years, we have managed our business in a difficult
environment; focused on research and development programs for new and
innovative products aimed at expected growth pockets in our sector; continued
the development of our domestic and international markets; and made strategic
acquisitions. However, we operate in a highly competitive sector that is in
constant evolution and, as a result, we encounter various risks and
uncertainties that must be given appropriate consideration in our strategic
management policies.
Firstly, we are exposed to currency risks due to the export of our
Canadian-manufactured products, the large majority of which are denominated in
US dollars for sale. These risks are partially hedged by operating expenses
denominated in US dollars, the purchase of raw materials in US dollars and
forward exchange contracts. The increased
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strength of the Canadian dollar, compared to the US dollar, over the last two
years caused our operating expenses, as well as our foreign exchange loss, to
increase. Any further increase in the value of the Canadian dollar in the
coming months will negatively affect our results of operations.
Secondly, risks and uncertainties related to the telecommunications
test and measurement industry involve the rapid development of new products
that may have short life cycles and require extensive research and
development; the difficulty of adequately predicting market size and trends;
the difficulty of retaining highly skilled employees; and the ability to
quickly adapt our cost structure to changing market conditions in order to
achieve profitability.
In addition, given our strategic goals for growth and competitive
positioning in our industry, we are continuously expanding into international
markets. This exposes us to certain risks and uncertainties related to changes
in local laws and regulations, multiple technological standards, protective
legislation and pricing pressure.
Furthermore, while strategic acquisitions, like those we have made in
the past and possibly others in the future, are essential to our long-term
growth, they also expose us to certain risks and uncertainties related to the
rapid and effective integration of these businesses as well as their products,
technologies and personnel.
The economic environment of our industry could also result in some of
our customers experiencing difficulties and, consequently, this could have a
negative effect on our results especially in terms of future sales and
recoverability of accounts receivable. However, the sectorial and geographic
diversity of our customer base provides us with a reasonable level of
protection in this area. Finally, other financial instruments, which
potentially subject us to credit risks, consist mainly of cash, short-term
investments and forward exchange contracts. Our short-term investments consist
of debt instruments issued by high-credit quality corporations and trusts. Our
cash and forward exchange contracts are held with or issued by high-credit
quality financial institutions; therefore, we consider the risk of
non-performance on these instruments to be remote.
For a more complete understanding of risk factors that may affect us,
please refer to the risk factors set forth in our disclosure documents
published with securities commissions at www.sedar.com in Canada or
www.edgar.com in the U.S.
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