UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) (X) Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2006 or ( ) Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 FOR THE TRANSITION PERIOD FROM ________ TO _________ COMMISSION FILE NUMBER 1-9125 ----------------------------- AMERICAN TECHNICAL CERAMICS CORP. --------------------------------- (Exact Name of Company as Specified in Its Charter) DELAWARE 11-2113382 ------------------------------- ---------- (State or Other Jurisdiction of (I.R.S. Employer Identification No.) Incorporation or Organization) 1 NORDEN LANE, HUNTINGTON STATION, NY 11746 ---------------------------------------- ----- (Address of Principal Executive Offices) (Zip Code) (631) 622-4700 -------------- (Telephone Number, Including Area Code) Indicate by check mark whether the Company (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Company was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes (X) No ( ) Indicate by check mark whether the Company is a large accelerated filer, an accelerated filer or a non-accelerated filer. See definition of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act (Check one): Large Accelerated Filer ( ) Accelerated Filer ( ) Non-Accelerated Filer (X) Indicate by check mark whether the Company is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ( ) No (X) As of May 8, 2006, the Company had outstanding 8,645,223 shares of Common Stock, par value $0.01 per share. PART 1 - FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (In thousands, except per share data) MARCH 31, 2006 JUNE 30, 2005 ---------------- --------------- ASSETS (unaudited) Current assets Cash (including cash equivalents of $13 and $4, respectively) $ 9,319 $ 4,927 Investments 2,062 2,023 Accounts receivable (net of allowance for doubtful accounts and sales returns of $390 and $300, respectively) 11,069 10,008 Inventories 28,189 27,540 Deferred income taxes, net 3,434 2,668 Prepaid and other current assets 890 1,007 ---------------- --------------- TOTAL CURRENT ASSETS 54,963 48,173 ---------------- --------------- Property, plant and equipment (net of accumulated depreciation and amortization of $51,365 and $47,143, respectively) 32,039 29,502 Other assets 385 197 ---------------- --------------- TOTAL ASSETS $ 87,387 $ 77,872 ================ =============== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities Current portion of long-term debt (including related party debt of $472 and $437, respectively) $ 1,898 $ 1,103 Accounts payable 2,492 2,449 Accrued expenses 5,692 5,589 Income tax payable 1,446 --- ---------------- --------------- TOTAL CURRENT LIABILITIES 11,528 9,141 Long-term debt, net of current portion (including related party debt of $2,100 and $2,459, respectively) 7,546 5,276 Deferred income taxes, net 3,584 3,308 ---------------- --------------- TOTAL LIABILITIES 22,658 17,725 ---------------- --------------- Commitments and contingencies Stockholders' equity Common Stock -- $0.01 par value; authorized 20,000 shares; issued 9,047 and 8,917 shares, outstanding 8,633 and 8,503 shares, respectively 90 89 Capital in excess of par value 14,430 13,195 Retained earnings 51,441 48,114 Accumulated other comprehensive income: Cumulative foreign currency translation adjustment 164 145 ---------------- --------------- 164 145 ---------------- --------------- Less: Treasury stock, at cost (414 and 414 shares, respectively) 1,396 1,396 ---------------- --------------- TOTAL STOCKHOLDERS' EQUITY 64,729 60,147 ---------------- --------------- $ 87,387 $ 77,872 ================ =============== See accompanying notes to unaudited consolidated financial statements. 2 AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS (In thousands, except per share data) For the Three Months Ended For the Nine Months Ended March 31, March 31, 2006 2005 2006 2005 ------------- ------------- ------------- ------------- Net sales $ 22,690 $ 18,991 $ 59,870 $ 52,148 Cost of sales 14,120 12,324 39,460 34,519 ------------- ------------- ------------- ------------- Gross profit 8,570 6,667 20,410 17,629 ------------- ------------- ------------- ------------- Selling, general and administrative expenses 4,586 4,044 13,252 11,840 Research and development expenses 427 536 1,488 1,575 Other 20 4 26 25 ------------- ------------- ------------- ------------- Operating expenses 5,033 4,584 14,766 13,440 ------------- ------------- ------------- ------------- ------------- ------------- ------------- ------------- Income from operations 3,537 2,083 5,644 4,189 ------------- ------------- ------------- ------------- Other (income) expense: Interest expense 174 118 461 309 Interest income (19) (13) (63) (43) Other -- (1) -- 7 ------------- ------------- ------------- ------------- 155 104 398 273 ------------- ------------- ------------- ------------- Income before provision for income taxes 3,382 1,979 5,244 3,916 Provision for income taxes 1,293 599 1,917 1,170 ------------- ------------- ------------- ------------- Net income $ 2,089 $ 1,380 $ 3,327 $ 2,746 ============= ============= ============= ============= Basic net income per common share $ 0.24 $ 0.16 $ 0.39 $ 0.33 ============= ============= ============= ============= Diluted net income per common share $ 0.23 $ 0.16 $ 0.38 $ 0.32 ============= ============= ============= ============= Basic weighted average common shares outstanding 8,583 8,470 8,545 8,374 ============= ============= ============= ============= Diluted weighted average common shares outstanding 8,918 8,775 8,861 8,717 ============= ============= ============= ============= See accompanying notes to unaudited consolidated financial statements. 3 AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands) For the Nine Months Ended March 31, 2006 2005 --------------- ----------------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 3,327 $ 2,746 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 4,527 4,141 Loss (gain) on disposal of fixed assets 52 (18) Deferred income taxes (490) (643) Stock-based compensation expense 292 56 Provision for doubtful accounts and sales returns 90 Investment interest accretion, net (28) (10) Realized loss on investments 8 Changes in operating assets and liabilities: Accounts receivable (1,144) 477 Inventories (644) (3,889) Other assets (95) (149) Accounts payable and accrued expenses 144 (420) Income taxes payable 1,446 723 --------------- ----------------- Net cash provided by operating activities 7,477 3,022 --------------- ----------------- CASH FLOWS FROM INVESTING ACTIVITIES: Capital expenditures (7,109) (7,195) Purchase of investments (1,045) (2,490) Proceeds from sale of investments 1,034 3,010 Proceeds from sale of fixed assets 22 50 --------------- ----------------- Net cash used in investing activities (7,098) (6,625) --------------- ----------------- CASH FLOWS FROM FINANCING ACTIVITIES: Repayment of debt (884) (441) Proceeds from the exercise of stock options 653 756 Tax benefit from exercise of stock options 290 183 Proceeds from the issuance of long term debt 3,956 4,751 --------------- ----------------- Net cash provided by financing activities 4,015 5,249 --------------- ----------------- --------------- ----------------- Effect of exchange rate changes on cash (2) (153) --------------- ----------------- Net increase in cash and cash equivalents 4,392 1,493 CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 4,927 4,534 --------------- ----------------- CASH AND CASH EQUIVALENTS, END OF PERIOD $ 9,319 $ 6,027 =============== ================= Supplemental cash flow information: Interest paid $ 469 $ 309 Taxes paid $ 670 $ 953 See accompanying notes to unaudited consolidated financial statements. 4 AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except per share data) (1) BASIS OF PRESENTATION: The accompanying unaudited interim consolidated financial statements of American Technical Ceramics Corp. and subsidiaries (the "Company") reflect all adjustments (consisting of normal recurring accruals) which are, in the opinion of management, necessary for a fair presentation of its consolidated financial position as of March 31, 2006, and the results of its operations for the three and nine month periods ended March 31, 2006 and 2005. These consolidated financial statements should be read in conjunction with the summary of significant accounting policies and notes to the consolidated financial statements included in the Company's Annual Report on Form 10-K for the fiscal year ended June 30, 2005. Results for the three and nine month periods ended March 31, 2006 are not necessarily indicative of results which could be expected for the entire year. Certain reclassifications have been made to prior year amounts to conform to the current year presentation. (2) STOCK-BASED COMPENSATION: On April 1, 1997, the Board of Directors approved the American Technical Ceramics Corp. 1997 Stock Option Plan (the "1997 Option Plan") pursuant to which the Company may grant options to purchase up to 800 shares of the Company's common stock. On April 11, 2000, the Board of Directors approved the American Technical Ceramics Corp. 2000 Incentive Stock Plan (the "2000 Plan", and collectively with the 1997 Option Plan, the "Plans") pursuant to which the Company may grant options or stock awards covering up to 1,200 shares of the Company's common stock. Options granted under the Plans may be either incentive or non-qualified stock options. The term of each incentive stock option shall not exceed ten years from the date of grant (five years for grants to employees who own 10% or more of the voting power of the Company's common stock), and options may vest in accordance with a vesting schedule established by the plan administrator (traditionally 25% per year during the first four years of their term). Unless terminated earlier by the Board, the 1997 Option Plan will terminate on March 31, 2007. Unless terminated earlier by the Board, the 2000 Plan will terminate on April 10, 2010. Shares issued upon the exercise of options are generally issued from the Company's authorized and unissued shares. Disposition of shares acquired pursuant to the exercise of incentive stock options under both Plans may not be made by the optionees within two years following the date that the option is granted, nor within one year after the exercise of the option, without the written consent of the Company. Prior to fiscal year 2004, the Company did not recognize compensation cost for these options upon grant as the exercise price was equal to or greater than the fair market value of the underlying stock at the date of grant. In July 2003, the Company adopted Statement of Financial Accounting Standard No. 123, "Accounting for Stock-Based Compensation" ("SFAS No. 123"), using the prospective method as prescribed in Statement of Financial Accounting Standard No. 148 "Accounting for Stock-Based Compensation -Transition and Disclosure - an amendment of FASB Statement No. 123" ("SFAS No. 148"). The Company applied SFAS No. 123 in accounting for employee stock-based compensation awarded or granted after June 30, 2003, and applied Accounting Principals Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("Opinion No. 25"), in accounting for employee stock-based compensation awarded or granted prior to July 1, 2003, and made pro-forma disclosures of net income and net income per share as if the fair value method under SFAS No. 123, as amended by SFAS No. 148, had been applied. 5 AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except per share data) On July 1, 2005, the Company adopted Statement of Financial Accounting Standards No. 123 (revised 2004), "Share-Based Payment" ("SFAS No. 123 (R)"). This Statement is a revision of SFAS No. 123. SFAS No. 123 (R) supersedes Opinion No. 25 and its related implementation guidance. SFAS No. 123 (R) establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services. It also addresses transactions in which an entity incurs liabilities in exchange for goods or services that are based on the fair value of the entity's equity instruments, or that may be settled by the issuance of those equity instruments. The adoption of this standard did not have a material impact on the Company's consolidated results of operations or financial position. There were no stock options granted during the three months ended March 31, 2006 and 2005. The weighted average grant-date fair value of stock options granted during the nine months ended March 31, 2006 and 2005 was $8.33 and $5.18 per share, respectively, as determined by the Black-Scholes option pricing model (assuming a risk-free interest rate of 3.98% and 3.80%, respectively, expected life of six years and five years, respectively, expected volatility of 73.7% and 67.0%, respectively, and no dividends). The total intrinsic value of options exercised during the periods ended March 31, 2006 and 2005 was $921 and $1,487, respectively. Expected volatility is calculated using historical volatility. The expected term (life) of options granted represents the period of time that options granted are expected to be outstanding. In determining expected life, the Company uses historical data to estimate option exercise and employee departure behavior. Groups of employees that have similar historical behavior are considered separately for valuation purposes. The risk free interest rate is based on the US Treasury Yield curve in effect at the time of grant for the expected life of the option. Stock option activity for the nine months ended March 31, 2006 is as follows: Weighted Weighted Average Shares Average Remaining Subject to Exercise Contractual Aggregate Options Price Term Intrinsic Value ---------- -------- ----------- --------------- Outstanding, beginning of period 991 $ 7.91 Granted 40 13.22 Canceled (1) 9.09 Expired (19) 9.59 Exercised (130) 5.04 ---------- Outstanding, end of period 881 $ 8.54 4.6 $ 5,254 ---------- ----------- Exercisable, end of period 768 $ 8.38 4.0 $ 4,700 ========== =========== 6 AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except per share data) A summary of the status of the Company's nonvested options at March 31, 2006, and changes during the nine months then ended is presented below: Weighted Shares Average Subject to Grant Date Options Fair Value ---------- ---------- Nonvested, beginning of period 121 $ 4.77 Granted 40 8.33 Vested (47) 4.61 Forfeited (1) 5.11 ---------- Nonvested, end of period 113 $ 6.09 ========== As of March 31, 2006, there was $517 of total unrecognized compensation costs related to nonvested options granted under the Plans. That cost is expected to be recognized over a weighted average period of 3.1 years. The total fair value of shares vested during the three and nine month periods ended March 31, 2006 was $84 and $215, respectively. Compensation cost capitalized in inventory and fixed assets for the three and nine months ended March 31, 2006 was $6 and $46, respectively. Compensation cost recognized in income for amounts previously capitalized in inventory and fixed assets for the three and nine months ended March 31, 2006 was $3 and $34, respectively. Cash received from the exercise of options for the three months ended March 31, 2006 and 2005 was $487 and $28, respectively. The related tax benefit recognized for the three months ended March 31, 2006 and 2005 was $190 and $18, respectively. The total compensation cost related to options was $61 and $9 for the three months ended March 31, 2006 and 2005, respectively. Cash received from the exercise of options for the nine months ended March 31, 2006 and 2005 was $653 and $756, respectively. The related tax benefit recognized for the nine months ended March 31, 2006 and 2005 was $290 and $183, respectively. The total compensation cost related to options for the nine months ended March 31, 2006 and 2005 was $232 and $26, respectively. Had compensation expense with respect to options and awards been determined based on the fair value method on the date of grant consistent with the methodology prescribed under SFAS No. 123 prior to July 1, 2003, the Company's net income and earnings per share would have approximated the pro forma amounts indicated below: 7 AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except per share data) Three Months Nine Months Ended Ended March 31, March 31, 2005 2005 ------------ ----------- Net income, as reported $ 1,380 $ 2,746 Add: Stock-based employee compensation expense included in reported net income, net of related tax effects 13 39 Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects (30) (312) ------------ ----------- Pro forma income $ 1,363 $ 2,473 Earnings per common share: Basic - as reported $ 0.16 $ 0.33 Basic - pro forma $ 0.16 $ 0.30 Diluted - as reported $ 0.16 $ 0.32 Diluted - pro forma $ 0.16 $ 0.28 The weighted average fair value of each stock option included in the preceding pro forma amounts was estimated using the Black-Scholes option pricing model and is amortized ratably over the vesting period of the options which is typically four years. At March 31, 2006, an aggregate of 206 shares were available for option grants or awards under the Plans. Other Stock-Based Compensation During the nine months ended March 31, 2006 and 2005, the Company granted stock awards for an aggregate of 7 and 6 shares, respectively. These awards resulted in compensation expense of $95 and $53, respectively (including $35 and $23, respectively, of payments made to offset tax liabilities associated with these awards), measured by the market value of the shares on their respective grant dates. (3) SUPPLEMENTAL CASH FLOW INFORMATION: During the nine months ended March 31, 2006, the Company (i) granted stock awards with an aggregate value of $ 85 with respect to which expense shall be recognized ratably throughout fiscal year 2006, (ii) granted stock options with respect to which compensation expense of $333 will be recognized evenly over the service period, and (iii) recognized a $290 reduction of income taxes payable related to disqualifying dispositions upon the exercise of incentive stock options. 8 AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except per share data) During the nine months ended March 31, 2005, the Company (i) granted stock awards with an aggregate value of $40 with respect to which expense was recognized ratably throughout fiscal year 2005, (ii) granted stock options with respect to which compensation expense of $116 will be recognized evenly over the service period, and (iii) recognized a $183 reduction of income taxes payable related to disqualifying dispositions upon the exercise of incentive stock options. (4) INVENTORIES: Inventories included in the accompanying consolidated financial statements consist of the following: March 31, June 30, 2006 2005 ----------- ---------- Raw materials $ 12,422 $ 14,122 Work-in-process 9,127 7,382 Finished goods 6,640 6,036 ----------- ---------- $ 28,189 $ 27,540 =========== ========== (5) EARNINGS PER SHARE: The following represents a reconciliation of the numerators and denominators of the basic and diluted earnings per share ("EPS") computation: For the Three Months Ended March 31 --------------------------------------------------------------------------------- 2006 2005 ---- ---- Net Income Shares Per Share Net Income Shares Per Share (Numerator) (Denominator) Amount (Numerator) (Denominator) Amount ----------- ------------- --------- ----------- ------------- --------- Basic EPS $ 2,089 8,583 $ 0.24 $ 1,380 8,470 $ 0.16 ========= ========= Effect of dilutive securities: Stock options --- 328 --- 299 Deferred compensation stock awards --- 7 --- 6 ----------- ------------- --------- ----------- ------------- --------- Diluted EPS $ 2,089 8,918 $ 0.23 $ 1,380 8,775 $ 0.16 =========== ============= ========= =========== ============= ========= Options covering 168 and 353 shares have been omitted from the calculation of dilutive EPS for the three months ended March 31, 2006 and 2005, respectively, because their inclusion would have been antidilutive. 9 AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except per share data) For the Nine Months Ended March 31, ------------------------------------------------------------------------------------------ 2006 2005 ---- ---- Net Income Shares Per Share Net Income Shares Per Share (Numerator) (Denominator) Amount (Numerator) (Denominator) Amount ----------- -------------- ------------ ----------- ------------- --------- Basic EPS $ 3,327 8,545 $ 0.39 $ 2,746 8,374 $ 0.33 ============ ========= Effect of dilutive securities: Stock options --- 309 --- 337 Deferred compensation stock awards --- 7 --- 6 ----------- -------------- ------------ ----------- ------------- --------- Diluted EPS $ 3,327 8,861 $ 0.38 $ 2,746 8,717 $ 0.32 =========== ============== ============ =========== ============= ========= Options covering 393 and 415 shares have been omitted from the calculation of dilutive EPS for the nine months ended March 31, 2006 and 2005, respectively, because their inclusion would have been antidilutive. (6) COMPREHENSIVE INCOME: The Company's comprehensive income is as follows: Three Months Ended Nine Months Ended ------------------------------ ----------------------------- March 31, March 31, March 31, March 31, 2006 2005 2006 2005 ------------ ------------- ------------ ------------- Net income $ 2,089 $ 1,380 $ 3,327 $ 2,746 ------------ ------------- ------------ ------------- Other comprehensive income: Foreign currency translation adjustments 17 (143) 19 102 Unrealized gains on investments, net of tax --- --- --- 5 ------------ ------------- ------------ ------------- Other comprehensive income/(loss) 17 (143) 19 107 ------------ ------------- ------------ ------------- Comprehensive income $ 2,106 $ 1,237 $ 3,346 $ 2,853 ============ ============= ============ ============= (7) INDEBTEDNESS: Long-term debt consists of the following: March 31, June 30, 2006 2005 ------------- ------------ Notes payable to banks $ 6,871 $ 3,483 Obligations under capital leases 2,573 2,896 ------------- ------------ 9,444 6,379 Less: current portion 1,898 1,103 ------------- ------------ Long-term debt $ 7,546 $ 5,276 ============= ============ 10 AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except per share data) In April 2004, the Company entered into a $4,000 credit facility with General Electric Capital Corporation ("GECC") for the purchase of equipment. In May 2005, the credit facility was increased to $6,000. Borrowings under the line bear interest, at the Company's option, at either a fixed rate of 3.47% above the five year Treasury Bond yield at the time of election or a floating rate of 3.65% above LIBOR. Borrowings under the line are secured by the equipment purchased thereunder. Each separate borrowing under the line will be a fully amortizing term loan with a maturity of five years from the date the funds are drawn down. The line of credit will expire on March 24, 2007. GECC has the option to securitize these loans with a third party. Loans securitized with a third party increase the available line of credit to the Company. As of March 31, 2006, the Company had $5,330 of borrowings outstanding under this facility at fixed interest rates ranging from 7.15% to 7.93%. In December 2004, the Company entered into a credit facility with Commerce Bank, N.A. Under the terms of this facility, the Company may request advances from time to time up to an aggregate of $5,000. Any advance made bears interest at the Prime Rate as reported in the Wall Street Journal. Borrowings under the facility are secured by a lien on the Company's accounts receivable and inventory. In November 2005, this line was extended through, and unless further extended, all borrowings under the line are due on, November 30, 2006. The facility is subject to certain financial covenants, including minimum tangible net worth and liability percentage ratios. As of March 31, 2006, the Company had no outstanding borrowings under this credit facility. In September 2005, the Company's wholly-owned subsidiary in Sweden obtained a series of five term loans aggregating 12,000 Swedish Krona ("SEK") (approximately $1,500) from Svenska Handelsbanken, AB ("Handelsbanken"). The loans are unsecured and bear interest at fixed rates ranging from 3.56% to 4.59%. The five loans are each for a principal amount of 2,400 SEK and are fully amortizing. The loans mature in one to five years with the first maturing on September 30, 2006 and one maturing on each succeeding September 30th through 2010. In connection with, and as an inducement to Handelsbanken to make the loans, the Company entered into a Guaranty and Agreement with Handelsbanken whereby the Company has agreed to guarantee the payment of all its Swedish subsidiary's obligations under the loans. The Company leases an administrative office, manufacturing and research and development complex located in Jacksonville, Florida (the "Jacksonville Facility") from a partnership controlled by the Company's President, Chief Executive Officer and principal stockholder under a capital lease. At March 31, 2006, the Jacksonville Facility has an aggregate cost of $5,104 and a net book value of $1,682. The lease is for a period of 30 years, was capitalized using an interest rate of 10.5% and expires on September 30, 2010. The lease currently provides for base rent of approximately $780 per annum. The lease further provides for annual increases in base rent for years beginning after May 1, 1999, based on the increase in the Consumer Price Index since May 1, 1998 applied to base rent. The lease also provides for increases to the base rent in connection with any new construction at the Jacksonville Facility. Under the lease, upon any new construction being placed into use, the base rent is subject to increase to the fair market rental of the Jacksonville Facility, including the new construction. 11 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (In thousands, except per share data) The following discussion and analysis should be read in conjunction with the consolidated financial statements, related notes and other information included in this Quarterly Report on Form 10-Q. Statements in this Quarterly Report on Form 10-Q that are not historical fact may constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. All such forward-looking statements are subject to risks and uncertainties, including, but not limited to, market and economic conditions, the impact of competitive products, product demand and market acceptance risks, changes in product mix, costs and availability of raw materials, fluctuations in operating results, delays in development of highly complex products, risks associated with international sales and sales to the U.S. military, risk of customer contract or sales order cancellations and other risks detailed from time to time in the Company's filings with the Securities and Exchange Commission, including, without limitation, those contained under the caption "Item 1. BUSINESS - CAUTIONARY STATEMENTS REGARDING FORWARD - LOOKING STATEMENTS" in the Company's Annual Report on Form 10-K. These risks could cause the Company's actual results for future periods to differ materially from those expressed in any forward-looking statements made by, or on behalf of, the Company. Any forward-looking statement represents the Company's expectations or forecasts only as of the date it was made and should not be relied upon as representing its expectations or forecasts as of any subsequent date. The Company undertakes no obligation to correct or update any forward-looking statement, whether as a result of new information, future events or otherwise, even if its expectations or forecasts change. OVERVIEW Demand for the Company's products continues to be strong. Sales for the quarter ended March 31, 2006 reached the second highest level in the Company's history. Nearly all product lines showed improvement over the comparable quarter last fiscal year. Revenue growth has been strongest in the wireless infrastructure, semiconductor, military and fiber optic markets. Growth has come from all of the geographic markets the Company serves, but is particularly strong in Asia. In order to reduce lead times and better service its customers in this increasingly important region, in May 2006, the Company began stocking inventory in China. RESULTS OF OPERATIONS KEY COMPARATIVE PERFORMANCE INDICATORS Three Months Ended Nine Months Ended --------------------------------------- --------------------------------------- March 31, 2006 March 31, 2005 March 31, 2006 March 31, 2005 ------------------ ----------------- ----------------- ------------------ Sales $ 22,690 $ 18,991 $ 59,870 $ 52,148 Bookings $ 24,643 $ 19,304 $ 64,244 $ 52,291 Gross Margin $ 8,570 $ 6,667 $ 20,410 $ 17,629 Gross Margin (% of sales) 37.8% 35.1% 34.1% 33.8% Operating Expenses $ 5,033 $ 4,584 $ 14,766 $ 13,440 Operating Expenses (% of sales) 22.2% 24.1% 24.7% 25.8% 12 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (In thousands, except per share data) SIGNIFICANT HIGHLIGHTS Sales for the three and nine months ended March 31, 2006 increased 19% and 15%, respectively, over the comparable periods in the prior fiscal year. Bookings for the three and nine months ended March 31, 2006 increased 28% and 23%, respectively, over the comparable periods in the prior fiscal year. Three Months Ended March 31, 2006 Compared with Three Months Ended March 31, 2005 Net sales for the three months ended March 31, 2006 increased 19% from the comparable period in the prior fiscal year. The increase was due to higher volume of product shipped as a result of improved economic conditions in the electronic components industry, increased market share and expanding acceptance of the Company's newer products in the market. The volume improvement was mainly from sales to customers in the wireless infrastructure, semiconductor, military and fiber optic markets. Bookings for the three months ended March 31, 2006 were $24,643, compared to $19,304 for the three months ended March 31, 2005. The improvement in bookings was due primarily to increased orders from the wireless infrastructure, semiconductor and fiber optic markets. The backlog of unfilled orders at March 31, 2006 was $18,290, compared to $13,621 at March 31, 2005 and $13,958 at June 30, 2005. Gross margin for the three months ended March 31, 2006 was 38% of net sales, compared to 35% of net sales for the comparable period in the prior fiscal year. Gross margins increased due to higher sales volume and efficiencies associated with operating at higher production levels, partially offset by increased labor and overhead costs. Labor and overhead cost increases primarily relate to increased staff costs. Over the past year, the Company has added personnel and incurred other expenses in connection with the expansion of its resistive products line and growth in its thin film product line. Selling, general and administrative expenses for the three months ended March 31, 2006 increased 13% from the comparable period in the prior fiscal year. The increase was primarily the result of increased bonuses, commission expense, professional fees and expenses associated with the expansion of the Company's foreign sales office in China. Research and development expenses for the three months ended March 31, 2006 decreased 20% from the comparable period in the prior fiscal year, primarily as a result of lower staff costs and lower supplies. During the comparable period of the prior fiscal year, the Company was working on material development that required consumption of high quantities of high cost material. Supplies expense is a function of the projects in development during the period. Supplies consumption will fluctuate from period to period based on project needs. Interest expense for the three months ended March 31, 2006 increased 47% from the comparable period in the prior fiscal year as a result of higher average borrowings outstanding during the period. Over the past 12 months, the Company has borrowed under its equipment line of credit to expand its capacity and upgrade capabilities. Additionally, the Company's Swedish subsidiary borrowed approximately $1.5 million in order to repatriate earnings. 13 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (In thousands, except per share data) The effective income tax rates for the three months ended March 31, 2006 and 2005 were approximately 38% and 30%, respectively. The increase in the effective tax rate was primarily the result of lower estimates of certain tax benefits of foreign sales and state tax credits. As a result of the foregoing, net income for the three months ended March 31, 2006 was $2,089 or $0.24 per common share and $0.23 per common share assuming dilution, compared to net income of $1,380, or $0.16 per common share and common share assuming dilution, for the comparable period in the prior fiscal year. Nine Months Ended March 31, 2006 Compared with Nine Months Ended March 31, 2005 Net sales for the nine months ended March 31, 2006 increased 15% from the comparable period in the prior fiscal year. The increase was due to higher volume of product shipped as a result of improved economic conditions in the electronic components industry, increased market share and expanding acceptance of the Company's newer products in the market. The volume improvement was mainly from sales to customers in the wireless infrastructure, semiconductor, military and fiber optic markets. Bookings for the nine months ended March 31, 2006 were $64,244, compared to $52,291 for the nine months ended March 31, 2005. The improvement in bookings was due primarily to increased orders bookings from the wireless infrastructure, semiconductor and fiber optic markets. Gross margin for the nine months ended March 31, 2006 was 34% of net sales, approximately the same as the gross margin for the comparable period in the prior fiscal year. The gross margin remained flat despite higher sales volume and efficiencies associated with operating at higher production levels due to the expenses associated with the attempted conversion of certain functions to a different computer system in the first quarter of the current fiscal year. Selling, general and administrative expenses for the nine months ended March 31, 2006 increased 12% from the comparable period in the prior fiscal year. The increase was primarily the result of increased administrative staff costs, increased stock related compensation, training costs related to the implementation of a new computer system, bonuses, commission expense, professional fees (relating to the computer system, adopting of new accounting standards and audit and tax services), bad debt expense, depreciation and expenses associated with the expansion of the Company's foreign sales office in China, partially offset by lower severance expense. Research and development expenses for the nine months ended March 31, 2006 decreased 6% from the comparable period in the prior fiscal year, primarily as a result of lower staff costs and lower supplies. During the comparable period of the prior fiscal year, the Company was working on material development that required consumption of high quantities of high cost material. Supplies expense is a function of the projects in development during the period. Supplies consumption will fluctuate from period to period based on project needs. 14 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (In thousands, except per share data) Interest expense for the nine months ended March 31, 2006 increased 49% from the comparable period in the prior fiscal year as a result of higher average borrowings outstanding during the period. Over the past 12 months, the Company has borrowed under its equipment line of credit to expand its capacity and upgrade capabilities. Additionally, the Company's Swedish subsidiary borrowed approximately $1.5 million in order to repatriate earnings. The effective income tax rates for the nine months ended March 31, 2006 and 2005 were approximately 37% and 30%, respectively. The increase in the effective tax rate was primarily the result of lower estimates of certain tax benefits of foreign sales and state tax credits. As a result of the foregoing, net income for the nine months ended March 31, 2006 was $3,327 or $0.39 per common share and $0.38 per common share assuming dilution, compared to net income of $2,746, or $0.33 per common share and $0.32 per common share assuming dilution, for the comparable period in the prior fiscal year. LIQUIDITY AND CAPITAL RESOURCES March 31, 2006 June 30, 2005 ---------------- ---------------- Cash and Investments $ 11,381 $ 6,950 Working Capital $ 43,435 $ 39,032 Quarter Ended: Operating Cash Flow $ 3,442 $ 1,504 Capital Expenditures $ 1,929 $ 1,589 Depreciation and Amortization $ 1,533 $ 1,242 Current Ratio 4.8:1 5.3:1 Quick Ratio 1.9:1 1.9:1 The Company's financial position at March 31, 2006 remains strong as evidenced by working capital of $43,435. The Company's current and quick ratios at March 31, 2006 also remain strong. Cash, cash equivalents and investments increased by $4,431 from June 30, 2005, as a result of positive operating cash flows and loan proceeds, partially offset by capital expenditures. Accounts receivable increased by $1,061 from June 30, 2005, primarily as a result of increased sales in the quarter ended March 31, 2006 compared to the quarter ended June 30, 2005. Inventories increased by $649 from June 30, 2005, primarily as a result of higher production levels to support current and future demand. Deferred income tax assets increased $766 primarily due to timing differences between tax and book inventory. 15 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (In thousands, except per share data) The current portion of long-term debt increased by $795 from June 30, 2005, due to borrowings incurred under the Company's equipment line of credit with General Electric Capital Corporation ("GECC") and borrowings by the Company's subsidiary in Sweden. Accrued expenses increased by $103 from June 30, 2005, due to the timing of payments of various accrued expenses. Taxes payable increased $1,446 from June 30, 2005, primarily due to taxable income generated during the nine months ended March 31, 2006, partially offset by federal estimated tax payments. Deferred income tax liabilities increased $276 from June 30, 2005, primarily due to timing differences between tax and book depreciation. In April 2004, the Company entered into a $4,000 credit facility with GECC for the purchase of equipment. In May 2005, the credit facility was increased to $6,000. Borrowings under the line bear interest, at the Company's option, at either a fixed rate of 3.47% above the five year Treasury Bond yield or a floating rate of 3.65% above LIBOR. Borrowings under the line are secured by the equipment purchased thereunder. Each separate borrowing under the line will be a fully amortizing term loan with a maturity of five years from the date the funds are drawn down. The line will expire on March 24, 2007. GECC has the option to securitize these loans with a third party. Loans securitized with a third party increase the available line of credit to the Company. As of March 31, 2006, the Company had $5,330 of borrowings outstanding under this facility at fixed interest rates ranging from 7.15% to 7.93%. At March 31, 2006, the Company had $6,000 available to borrow under this credit facility. In December 2004, the Company entered into a credit facility with Commerce Bank, N.A. Under the terms of this facility, the Company may request advances from time to time up to an aggregate of $5,000. Any advance made bears interest at the Prime Rate as reported in the Wall Street Journal. Borrowings under the facility are secured by a lien on the Company's accounts receivable and inventory. Borrowings under the line are due on November 30, 2006. The facility is subject to certain financial covenants, including minimum tangible net worth and liability percentage ratios. As of March 31, 2006, the Company had no outstanding borrowings under this credit facility. In September 2005, the Company's wholly-owned subsidiary in Sweden obtained a series of five term loans aggregating 12,000 Swedish Krona ("SEK") (approximately $1,500) from Svenska Handelsbanken, AB ("Handelsbanken"). The loans are unsecured and bear interest at fixed rates ranging from 3.56% to 4.59%. The five loans are each for a principal amount of 2,400 SEK and are fully amortizing. The loans mature in one to five years with the first maturing on September 30, 2006 and one other maturing on each succeeding September 30th through 2010. In connection with, and as an inducement to Handelsbanken to make the loans, the Company entered into a Guaranty and Agreement with Handelsbanken whereby the Company has agreed to guarantee the payment of all its Swedish subsidiary's obligations under the loans. The Company leases a facility in Jacksonville, Florida from a partnership controlled by the Company's President, Chief Executive Officer and principal stockholder under a capital lease. The rental payments under this lease have been adjusted several times, most recently as of October 2005, primarily to reflect fair market rental adjustments as a result of certain additions or improvements to the facility or annual increases based on the consumer price index as required by the terms of the lease. Each fair market rental adjustment has been based upon an independent appraisal of the fair market rental of the facility giving effect to the addition or improvement at issue. Effective October 1, 2005, the Company is obligated to pay approximately $780 per annum under this lease. The payments due over the remaining term of this capital lease, including the portion related to interest, total approximately $3,510. 16 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (In thousands, except per share data) Capital expenditures for the nine months ended March 31, 2006 totaled $7,109, including expenditures for machinery and equipment and leasehold improvements. The Company intends to use cash on hand, cash generated through operations and the line of credit with GECC to finance budgeted capital expenditures of approximately $1,000 for the remainder of fiscal year 2006, primarily for equipment acquisitions and building renovations. Aggregate contractual obligations as of March 31, 2006 mature as follows: Payments Due by Period --------------------------------------------------------------------------------- Less than 1 1- 3 3- 5 After 5 Contractual Obligations Total Year years Years years --------------------------------- -------------- -------------- -------------- -------------- ------------- Bank Debt $ 8,000 $ 1,853 $ 3,671 $ 2,476 $ --- Capital Lease Obligations 3,510 780 1,560 1,170 --- Operating Leases 786 500 286 --- --- Purchase Obligations 3,243 3,243 --- --- --- -------------- -------------- -------------- -------------- ------------- Total Contractual Obligations $ 15,539 $ 6,376 $ 5,517 $ 3,646 $ --- ============== ============== ============== ============== ============= The Company routinely enters into binding and non-binding purchase obligations in the ordinary course of business, primarily covering anticipated purchases of inventory and equipment. The terms of these commitments generally do not extend beyond one year. CRITICAL ACCOUNTING POLICIES The Securities and Exchange Commission (the "SEC") issued disclosure guidance for "critical accounting policies." The SEC defines "critical accounting policies" as those that require the application of management's most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain and may change in subsequent periods. The Company's significant accounting policies are described in Note 1 to its consolidated financial statements contained in its Annual Report on Form 10-K for the fiscal year ended June 30, 2005. The Company believes that the following accounting policies require the application of management's most difficult, subjective or complex judgments: Allowances for Doubtful Accounts Receivable The Company performs ongoing credit evaluations of its customers and adjusts credit limits based upon payment history and a customer's current creditworthiness, as determined by its review of the customer's current credit information. The Company continuously monitors collections and payments from its customers and maintains an allowance for estimated credit losses based upon its historical experience and any specific customer collection issues that the Company has identified. While such credit losses have historically been within the Company's expectations and the allowances established, the Company cannot guarantee that it will continue to experience the same credit loss rates that it has in the past. Should the financial position of its customers deteriorate resulting in an impairment of their ability to pay amounts due, the Company's revised estimate of such losses and any actual losses in excess of previous estimates may negatively impact its operating results. 17 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (In thousands, except per share data) Sales Returns and Allowances In the ordinary course of business, the Company accepts returns of products sold for various reasons and grants sales allowances to customers. While the Company engages in extensive product quality control programs and processes, its level of sales returns is affected by, among other things, the quality of its manufacturing processes. The Company maintains an allowance for sales returns and allowances based upon historical returns and allowances granted. While such returns and allowances have historically been within the Company's expectations, actual return and allowance rates in the future may differ from current estimates, which could negatively impact its operating results. Inventory Valuation The Company values inventory at the lower of aggregate cost (first-in, first-out) or market. When the cost of inventory is determined by management to be in excess of its market value, such inventory is written down to its estimated net realizable value. This requires the Company to make estimates and assumptions about several factors (e.g., future sales quantities and selling prices, and percentage complete and failure rates for work in process) based upon historical experience and its projections for future periods. Changes in factors such as the level of order bookings, the product mix of order bookings and the Company's manufacturing processes could have a material impact on the Company's assessment of the net realizable value of inventory in the future. Valuation of Deferred Tax Assets The Company regularly evaluates its ability to recover the reported amount of its deferred income taxes considering several factors, including its estimate of the likelihood of the Company generating sufficient taxable income in future years during the period over which temporary differences reverse. Presently, the Company believes that it is more likely than not that it will realize the benefits of its deferred tax assets based primarily on its history of and projections for taxable income in the future. In the event that actual results differ from its estimates or the Company adjusts these estimates in future periods, the Company may need to establish a valuation allowance against a portion or all of its deferred tax assets, which could materially impact its financial position or results of operations in future periods. Valuation of Long-lived Assets The Company assesses the recoverability of long-lived assets whenever the Company determines that events or changes in circumstances indicate that the carrying amount may not be recoverable. Its assessment is primarily based upon its estimate of future cash flows associated with these assets. The Company believes that the carrying amount of its long-lived assets is recoverable. However, should its operating results deteriorate, or anticipated new product launches not occur or not attain the commercial acceptance that the Company anticipates, the Company may determine that some portion of its long-lived assets are impaired. Such determination could result in non-cash charges to income that could materially affect its financial position or results of operations for that period. 18 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (In thousands, except per share data) Accounting Standards Issued Not Yet Adopted In March 2005, the Financial Accounting Standards Board issued FASB Interpretation No. 47, "Accounting for Conditional Asset Retirement Obligations-an interpretation of FASB Statement No. 143" ("FIN No. 47"). This Interpretation clarifies that the term conditional asset retirement obligation as used in FASB Statement No. 143, Accounting for Asset Retirement Obligations, refers to a legal obligation to perform an asset retirement activity in which the timing and (or) method of settlement are conditional on a future event that may or may not be within the control of the entity. The obligation to perform the asset retirement activity is unconditional even though uncertainty exists about the timing and (or) method of settlement. Accordingly, an entity is required to recognize a liability for the fair value of a conditional asset retirement obligation if the fair value of the liability can be reasonably estimated. The fair value of a liability for the conditional asset retirement obligation should be recognized when incurred-generally upon acquisition, construction, or development and (or) through the normal operation of the asset. This Interpretation also clarifies when an entity would have sufficient information to reasonably estimate the fair value of an asset retirement obligation. This Interpretation is effective no later than the end of fiscal years ending after December 15, 2005. The Company is currently assessing the impact of the adoption of FIN No. 47 on its financial position and consolidated results of operations. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company's market risk exposure at March 31, 2006 is consistent with the types of market risk and amount of exposures presented in its Annual Report on Form 10-K for the fiscal year ended June 30, 2005, including foreign currency exchange rate, commodity price, security price and interest rate risks. ITEM 4. CONTROLS AND PROCEDURES Evaluation of Disclosure Controls and Procedures In response to the requirements of the Sarbanes-Oxley Act of 2002, as of the end of the period covered by this Quarterly Report on Form 10-Q (the "Evaluation Date"), the Company's President and Chief Executive Officer and Vice President - Finance carried out an evaluation of the effectiveness of the Company's "disclosure controls and procedures" (as defined in the Securities Exchange Act of 1934 Rules 13a-15(e) and 15d-15(e)). Based on that evaluation, these officers concluded that, as of the Evaluation Date, the Company's disclosure controls and procedures were adequate and effective to ensure that material information relating to the Company and the Company's consolidated subsidiaries was made known to them by others within those entities, particularly during the period in which this report was being prepared. Changes in Internal Controls There were no changes in the Company's internal controls over financial reporting identified in connection with the evaluation of such internal controls that occurred during the Company's last fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company's internal controls over financial reporting. 19 PART II - OTHER INFORMATION ITEMS 1. THROUGH 4. Not Applicable ITEM 5. Other Events On May 2, 2006, the Compensation Committee of the Board of Directors of the Company approved an increase in salary for Victor Insetta, the Company's Chairman, President and Chief Executive Officer, from $390,000 to $425,000 per annum, effective June 1, 2006. ITEM 6. Exhibits EXHIBIT NO. DESCRIPTION 10.14(i) - Letter extending the Consulting Agreement with Northport Systems, Inc., until December 31, 2006. 10.28 - Victor Insetta Compensation Arrangement 31.1 - Section 302 Certification of Principal Executive Officer. 31.2 - Section 302 Certification of Principal Accounting Officer. 32.1 - Section 906 Certification of Principal Executive Officer. 32.2 - Section 906 Certification of Principal Accounting Officer. 20 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Company in the capacities and on the dates indicated. AMERICAN TECHNICAL CERAMICS CORP. (Company) DATE: May 12, 2006 BY: /S/ Victor Insetta ------------------------------ Victor Insetta President and Director (Principal Executive Officer) DATE: May 12, 2006 BY: /S/ Andrew R. Perz ------------------------------ Andrew R. Perz Vice President, Finance (Principal Accounting Officer) 21