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PAR TECHNOLOGY CORP - 10-Q - : Management's Discussion and Analysis of Financial Condition and Results of Operations Forward-Looking Statement(Edgar Glimpses Via Acquire Media NewsEdge) This document contains "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934. Any statements in this document that do not describe historical facts are forward-looking statements. Forward-looking statements in this document (including forward-looking statements regarding the continued health of the Hospitality industry, future information technology outsourcing opportunities, changes in contract funding by the U.S. Government, the impact of current world events on our results of operations, the effects of inflation on our margins, and the effects of interest rate and foreign currency fluctuations on our results of operations) are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. When we use words such as "intend," "anticipate," "believe," "estimate," "plan," "will," or "expect", we are making forward-looking statements. We believe that the assumptions and expectations reflected in such forward-looking statements are reasonable based on information available to us on the date hereof, but we cannot assure you that these assumptions and expectations will prove to have been correct or that we will take any action that we presently may be planning. We have disclosed certain important factors that could cause our actual future results to differ materially from our current expectations, including a decline in the volume of purchases made by one or a group of our major customers; risks in technology development and commercialization; risks of downturns in economic conditions generally, and in the quick-service sector of the hospitality market specifically; risks associated with government contracts; risks associated with competition and competitive pricing pressures; and risks related to foreign operations. Forward-looking statements made in connection with this report are necessarily qualified by these factors. We are not undertaking to update or revise publicly any forward-looking statements if we obtain new information or upon the occurrence of future events or otherwise. Overview PAR's technology solutions for the Hospitality segment feature software, hardware and support services tailored for the needs of restaurants, luxury hotels, resorts and spas, casinos, cruise lines, movie theatres, theme parks and retailers. The Company's Government segment provides technical expertise in the contract development of advanced systems and software solutions for the U.S. Department of Defense and other federal agencies, as well as information technology and communications support services to the U.S. Department of Defense. The Company's products sold in the Hospitality segment are utilized in a range of applications by thousands of customers. The Company faces competition across all of its markets within the Hospitality segment, competing on the basis of product design, features and functionality, quality and reliability, price, customer service, and delivery capability. PAR's continuing strategy is to provide complete integrated technology solutions and services with industry leading customer service in the markets in which it participates. The Company conducts its research and development efforts to create innovative technology offerings that meet and exceed customer requirements and also have a high probability for broader market appeal and success. 13 -------------------------------------------------------------------------------- The Company is focused on expanding four distinct parts of its Hospitality businesses. First, it is investing in new product offerings which include upgrades to its hardware product portfolio as well as the market introduction and deployment of ATRIO®, its next generation, cloud-based property management software for the Hotel/Resort/Spa market. Second, the Company is investing in the enhancement of existing software and the development of the Company's SureCheck® product for food safety and task management applications. Third, the Company continues to work on building more robust and extensive third-party distribution channels. Fourth, as the Company's customers continue to expand in international markets, PAR has created an international infrastructure focused on that expansion. The Quick Serve Restaurant (QSR) market, PAR's primary market, continues to perform well for the majority of large, international companies, despite worldwide macroeconomic uncertainty. However, the Company has seen an impact of these current economic conditions on smaller, regional QSR organizations, whose business is slowing because of higher unemployment and lack of consumer confidence in certain regions. The Company is continuing to reassess the alignment of its product and service offerings to support improved operational efficiency and profitability going forward. These conditions could have a material adverse impact on the Company's significant estimates, specifically the fair value of its assets related to its legacy products. Approximately 40% of the Company's revenues are generated by its Government business. The Company's focus is to expand two separate aspects of its Government business: services and solutions. Through outstanding performance of existing service contracts and investing in enhancing its business development staff and processes, the Company is able to consistently win renewal of expiring contracts, extend existing contracts, and secure additional new business. With its intellectual property and investment in new technologies, the Company provides solutions to the U.S. Department of Defense and other federal/state agencies with systems integration, products and highly-specialized services. The general uncertainty in U.S. defense total workforce policies (military, civilian and contract), procurement cycles and spending levels for the next several years may impact the performance of this business segment. Results of Operations - Three Months Ended March 31, 2013 Compared to Three Months Ended March 31, 2012 During the first quarter of fiscal year 2012, the Company sold substantially all of the assets of its Logistics Management business, PAR Logistics Management Systems Corporation (LMS) to ORBCOMM Inc., including but not limited to accounts receivable, inventory, equipment, intellectual property, and customer contracts. The transaction closed on January 12, 2012. The results of operations of LMS for the periods presented ending March 31, 2013 and 2012 have been recorded as discontinued operations in accordance with Accounting Standards Codification (ASC) 205-20, Presentation of Financial Statements - Discontinued Operations. All prior period amounts have been reclassified to conform to the current period presentation. Refer to Note 2 "Discontinued Operations" in the Notes to the Consolidated Financial Statements for further discussion. 14 -------------------------------------------------------------------------------- PAR reported revenues of $66.7 million for the quarter ended March 31, 2013, an increase of 20% from the $55.6 million reported for the quarter ended March 31, 2012. PAR reported a net loss from continuing operations of $369,000 or $0.02 per diluted share for the first quarter of 2013 versus net income of $1.0 million or $0.07 per diluted share for the same period in 2012. During the quarter, PAR reported a net loss from discontinued operations of $15,000 or $0.00 per diluted share versus net income from discontinued operations of $1.4 million or $0.09 per diluted share for the same period in 2012. Product revenues were $23.9 million for the quarter ended March 31, 2013, an increase of 18% from the $20.2 million recorded in 2012. This increase was the result of increased domestic sales to YUM! Brands® and Carl's Jr.® units of CKE Restaurants, Inc.® as PAR continues the roll out of their significant technology upgrade program. Additionally, international product revenue was up 19.8% as the result of terminal upgrades to McDonald's® and YUM! Brands in various countries. Partially offsetting this increase was a decrease in sales of the Company's SureCheck product, which included a significant launch customer in the first quarter of 2012. Service revenue primarily includes installation, software maintenance, training, twenty-four hour help desk support and various depot and on-site service options. Service revenues were $16.0 million for the quarter ended March 31, 2013, an increase of 4% from the $15.4 million reported for the same period in 2012. This increase was associated with an increase of installation revenue to commensurate with the related increase of product revenue in the Company's Hospitality businesses. Additionally, the improvement was driven by an increase in software maintenance revenue due to higher software sales in 2012 as well as an increase in professional services revenue associated with the deployment of the Company's SureCheck product in the quarter. Contract revenues were $26.7 million for the quarter ended March 31, 2013, compared to $20.0 million reported for the same period in 2012. This increase is mostly attributable to the Company's new Intelligence, Surveillance, and Reconnaissance (ISR) systems integration contract with the U.S. Army. Product margins for the quarter ended March 31, 2013 were 31.2%, a decrease from 45.6% for the same period in 2012. This decrease was driven by an unfavorable product mix resulting from a reduction in the amount of software revenue due to lower sales associated with the Company's SureCheck software product. 15 -------------------------------------------------------------------------------- Service margins were 27.9% for the quarter ended March 31, 2013, a decrease from the 31.3% recorded for the same period in 2012 as a result of an unfavorable mix of service offerings. Contract margins were 4.7% for the quarter ended March 31, 2013, compared to 5.3% for the same period in 2012. This decrease is due to certain investments being made in our ISR capabilities. The most significant components of contract costs in 2013 and 2012 were labor and fringe benefits. For the first quarter of 2013, labor and fringe benefits were $10.4 million or 41% of contract costs compared to $10.6 million or 56% of contract costs for the same period in 2012. This decrease in percentage is mostly attributable to the amount of subcontract pass through revenue associated with the Company's new ISR systems integration contract with the U.S. Army. Selling, general and administrative expenses for the quarter ended March 31, 2013 were $10.2 million, a slight increase compared to $10.1 million recorded for the same period in 2012. The slight increase is attributable to costs primarily incurred from separation costs and litigation related matters that were resolved during the quarter, partially offset by reduced sales and marketing expenses as the Company executes upon expense management initiatives. Research and development expenses were $4.1 million for the quarter ended March 31, 2013, an increase from the $3.5 million recorded for the same period in 2012. This increase was associated with software development costs for certain products within the Hospitality segment due to the Company's continued investment in our product offerings. The Company acquired identifiable intangible assets in connection with its acquisitions in prior years. Amortization for the three months ended March 31, 2012 was $153,000. The related intangible assets were fully amortized in 2012. Other expense, net was $34,000 for the quarter ended March 31, 2013 compared to income of $573,000 for the same period in 2012. Other income/expense primarily includes unrealized gains/losses on the Company's investments, rental income, finance charges and foreign currency gains and losses. During 2012, the Company received shares of ORBCOMM Inc. common stock as part of the consideration from the sale of its LMS business to ORBCOMM Inc. The Company classified this investment as a trading security, and therefore recorded the fair value adjustment as a component of Other income, net. As a result of this classification, the Company recorded $361,000 of unrealized gains during Q1 2012 and subsequently liquidated the stock. Also contributing to the decrease was unfavorable currency adjustments in 2013 related to our international operations. Interest expense primarily represents interest charged on the Company's short-term borrowing requirements from banks and from long-term debt. Interest expense was $13,000 for the quarter ended March 31, 2013 as compared to $21,000 for the same period in 2012. This reduction is associated with lower outstanding borrowing in 2013 as compared to the same period in 2012. 16 -------------------------------------------------------------------------------- For the quarter ended March 31, 2013, the Company's effective income tax benefit was 70%, compared to expense of 41.7% for the same period in 2012. The variance from the federal statutory rate in 2013 was due to a benefit of $390,000 received in connection with the American Taxpayer Relief Act of 2012 that was signed into law in January 2013. The credit related to retroactive tax relief for certain tax law provisions that expired in 2012. Because the legislation was signed into law after the end of PAR's 2012 fiscal year, the retroactive effects of the bill will be reflected in the first quarter of 2013. Excluding the retroactive application of this credit, the Company's expected effective federal rate is 37.8%. The variance from the federal statutory rate in 2012 was due to state and foreign taxes. Liquidity and Capital Resources The Company's primary sources of liquidity have been cash flow from operations and its bank line of credit. Cash used in operating activities of continuing operations was $4.1 million for the three months ended March 31, 2013 compared to cash provided of $7.5 million for the same period in 2012. In 2013, cash was used in operations due to the change in working capital requirements, primarily associated with decreases in accrued expenses and accounts payable from timing of payments made to vendors, specifically for inventory purchases and timing of payments associated with the Company's ISR contract with the U.S. Government. This was offset by the add back of non-cash charges, as well as an increase in deferred service revenue due to the timing of billing of customer service contracts. In 2012, cash was generated by the Company's net income plus the add back of non-cash charges, offset by reductions to changes in operating assets and liabilities. The most significant changes to the Company's operating assets and liabilities were the decrease in accounts receivable due to the timing of collections of advanced service and maintenance contract billings as well as increases in its deferred revenue related to increased service contracts. This was partially offset by cash used for an increase in inventory in support of future demand as well as payments of accrued salaries and benefits based on the timing of payments. Cash used by investing activities from continuing operations was $845,000 for the three months ended March 31, 2013 versus cash provided by investing activities of $2.1 million for the same period in 2012. In 2013, capital expenditures of $184,000 were primarily for the tooling related to the Company's hardware products, as well as for purchases of office and computer equipment. Capitalized software was $661,000 and was associated with certain Hospitality software platforms. In 2012, the Company received cash proceeds of $4 million related to the sale of its Logistics Management business. Capital expenditures were $494,000 and were primarily for tooling associated with the Company's new hardware products, as well as for purchases of office and computer equipment. Capitalized software was $679,000 and was associated with the Company's Hospitality software platforms. Cash used in financing activities from continuing operations was $40,000 for the three months ended March 31, 2013 versus $462,000 in 2012. In 2013, the Company decreased its long-term debt by $39,000. In 2012, the Company decreased its long-term debt by $485,000 and benefited $23,000 from the exercise of employee stock options. 17 -------------------------------------------------------------------------------- The Company maintains a credit facility which provides borrowing availability up to $20 million (with the option to increase to $30 million) in the form of a line of credit. This agreement allows the Company, at its option, to borrow funds at the LIBOR rate plus the applicable interest rate spread or at the bank's prime lending rate (3.25% at March 31, 2013). This agreement expires in June 2014. At March 31, 2013, the Company did not have any outstanding balance on this line of credit. The weighted average interest rate paid by the Company was 3.25% during fiscal year 2013. This agreement contains certain loan covenants including leverage and fixed charge coverage ratios. In February 2013, the agreement was amended to allow the Company to exclude certain extraordinary or non-recurring, non-cash expenses, charges or losses, and certain litigation expenses incurred during the fourth quarter of 2012. The exclusion of these charges will be applied to the Company's debt covenant calculation through December 31, 2013. Additionally, as part of this amendment, the Company modified its definition of Earnings before Interest Taxes, Depreciation and Amortization (EBITDA), to exclude certain non-cash charges for the remainder of the agreement. The Company is in compliance with these amended covenants at March 31, 2013. This credit facility is secured by certain assets of the Company. The Company has a $1.2 million mortgage loan, collateralized by certain real estate. This mortgage matures on November 1, 2019. The Company's fixed interest rate is currently 4.05% through October 1, 2014. Beginning on October 1, 2014 and through the maturity date of the loan, the fixed rate will be converted to a new rate equal to the then-current five year fixed advanced rate charged by the New York Federal Home Loan bank, plus 225 basis points. The annual mortgage payment including interest through October 1, 2014 totals $207,000. During fiscal year 2013, the Company anticipates that its capital requirements will not exceed approximately $5-$6 million. The Company does not usually enter into long term contracts with its major Hospitality segment customers. The Company commits to purchasing inventory from its suppliers based on a combination of internal forecasts and actual orders from customers. This process, along with good relations with suppliers, minimizes the working capital investment required by the Company. Although the Company lists two major customers, McDonald's and Yum! Brands, it sells to hundreds of individual franchisees of these corporations, each of which is individually responsible for its own debts. These broadly made sales substantially reduce the impact on the Company's liquidity if one individual franchisee reduces the volume of its purchases from the Company in a given year. The Company, based on internal forecasts, believes its existing cash, line of credit facilities and its anticipated operating cash flow, will be sufficient to meet its cash requirements through the next twelve months. However, the Company may be required, or could elect, to seek additional funding prior to that time. The Company's future capital requirements will depend on many factors including its rate of revenue growth, the timing and extent of spending to support product development efforts, potential growth through strategic acquisition, expansion of sales and marketing, the timing of introductions of new products and enhancements to existing products, and market acceptance of its products. The Company cannot assure additional equity or debt financing will be available on acceptable terms or at all. The Company's sources of liquidity beyond twelve months, in management's opinion, will be its cash balances on hand at that time, funds provided by operations, funds available through its lines of credit and the long-term credit facilities that it can arrange. 18 -------------------------------------------------------------------------------- Table of Contents Recently Issued Accounting Pronouncements Not Yet Adopted In February 2013, the FASB issued guidance requiring an entity to measure obligations resulting from joint and several liability arrangements for which the total amount of the obligation is fixed at the reporting date as the amount the entity agreed to pay for the arrangement between them and the other entities that are also obligated to the liability and any additional amount the entity expects to pay on behalf of the other entities. The amendments are effective for fiscal periods (and interim reporting periods within those years) beginning after December 15, 2013. While we do not expect a material impact on PAR's financial statements upon adoption, the effects on future periods will depend upon the nature and significance of future transactions subject to the amendments. In March 2013, the Financial Accounting Standards Board (FASB) clarified that, when a reporting entity (parent) ceases to have a controlling financial interest in a subsidiary or group of assets that is a business within a foreign entity, the parent is required to release any related cumulative translation adjustment into net income. The cumulative translation adjustment should be released into net income only if the sale or transfer results in the complete or substantially complete liquidation of the foreign entity in which the subsidiary or group of assets had resided. The FASB also clarified that if a business combination is achieved in stages related to a previously held equity method investment (step-acquisition) that is a foreign entity, the amount of accumulated other comprehensive income that is reclassified and included in the calculation of gain or loss as of the acquisition date shall include any foreign currency translation adjustment related to that previously held investment. The amendments are effective prospectively for fiscal years beginning after December 15, 2013, with early adoption permitted. While we do not expect a material impact on PAR's financial statements upon adoption, the effects on future periods will depend upon the nature and significance of future transactions subject to the amendments. Recently Adopted Accounting Pronouncements On July 27, 2012, the FASB issued Accounting Standards Update 2012-02, Intangibles - Goodwill and Other (Topic 350): Testing Indefinite-Lived Intangible Assets for Impairment ("ASU 2012-02"). ASU 2012-02 is intended to reduce the cost and complexity of the annual indefinite-lived intangible assets impairment testing by providing entities an option to perform a "qualitative" assessment to determine whether further impairment testing is necessary. As such, there is the possibility that quantitative assessments would not need to be performed if it is more likely than not that no impairment exists. The Company is required to adopt the provisions of ASU 2012-02, which is effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012. Early adoption is permitted. The Company adopted ASU 2012-02 on January 1, 2013. This adoption did not have a significant impact on the Company's financial position or results of operations. 19 -------------------------------------------------------------------------------- Table of Contents Critical Accounting Policies In our Annual Report on Form 10-K for the year ended December 31, 2012, we disclose accounting policies, referred to as critical accounting policies, that require management to use significant judgment or that require significant estimates. Management regularly reviews the selection and application of our critical accounting policies. There have been no updates to the critical accounting policies contained in our Annual Report on Form 10-K for the year ended December 31, 2012. Off-Balance Sheet Arrangements The Company does not have any off-balance sheet arrangements. |