Iteris
Annual Report 2002

Plain-text annual report

================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K __________________ FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTIONS 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934(Mark One)[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended March 31, 2002 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 000-10605 __________________ ODETICS, INC. (Exact Name of Registrant as Specified in Its Charter) Delaware 95-2588496 (State or Other Jurisdiction (I.R.S. Employer of Incorporation or Organization) Identification No.) 1515 South Manchester Avenue, Anaheim, California 92802 (Address of Principal Executive Offices) (Zip Code) Registrant's Telephone Number, Including Area Code: (714) 774-5000 __________________ Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Class A common stock, $.10 par value Class B common stock, $.10 par value (Title of Class) __________________ Indicate by check mark whether the registrant: (1) has filed all reportsrequired to be filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject to suchfiling requirements for the past 90 days. Yes [X] No [_] Indicate by a check mark if disclosure of delinquent filers pursuant toItem 405 of Regulation S-K is not contained herein, and will not be contained,to the best of registrant's knowledge, in definitive proxy or informationstatements incorporated by reference in Part III of this Form 10-K or anyamendment to this Form 10-K [X] Based on the closing sale price on Nasdaq SmallCap Market on June 27, 2002,the aggregate market value of the voting stock held by nonaffiliates of theregistrant was $20,574,481. For the purposes of this calculation, shares ownedby officers, directors and 10% stockholders known to the registrant have beendeemed to be owned by affiliates. This determination of affiliate status is notnecessarily a conclusive determination for other purposes. Odetics has two classes of common stock outstanding, the Class A commonstock and the Class B common stock. The rights, preferences and privileges ofeach class of common stock are identical in all respects, except for votingrights. Each share of Class A common stock entitles its holder to one-tenth ofone vote per share and each share of Class B common stock entitles its holder toone vote per share. As of June 27, 2002, there were 11,580,914 shares of Class Acommon stock and 1,035,841 shares of Class B common stock outstanding. Unlessotherwise indicated, all references to common stock collectively refer to theClass A common stock and the Class B common stock. DOCUMENTS INCORPORATED BY REFERENCE Part III incorporates by reference certain information from theregistrant's proxy statement for the Annual Meeting of Stockholders to be heldSeptember 13, 2002.================================================================================ ODETICS, INC. FORM 10-K ANNUAL REPORT TABLE OF CONTENTS PART I Page ---- ITEM 1. BUSINESS ............................................................ 1ITEM 2. PROPERTIES .......................................................... 14ITEM 3. LEGAL PROCEEDINGS ................................................... 15ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS ................. 15 PART IIITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS ................................................. 16ITEM 6. SELECTED FINANCIAL DATA ............................................. 17ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS ............................................... 18ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK ........... 26ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA ......................... 26ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE ............................................ 26 PART IIIITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT .................. 27ITEM 11. EXECUTIVE COMPENSATION .............................................. 27ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT .......................................................... 27ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS ...................... 27 PART IVITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K ............................................................ 27 In this report, "Odetics," the "Company," the "Registrant," "we," "us" and"our" collectively refers to Odetics, Inc. and its wholly-owned subsidiaries. Note: This report contains forward-looking statements which are based onour current expectations, estimates and projections about our business and ourindustry, and reflect management's beliefs and certain assumptions made by usbased upon information available to us as of the date of this report. When usedin this Annual Report on Form 10-K and the information incorporated herein byreference, the words "expect(s)," "feel(s)," "believe(s)," "will," "may,""anticipate(s)," and similar expressions are intended to identifyforward-looking statements. These forward-looking statements include but are notlimited to statements regarding our anticipated revenue, expenses, capitalneeds, backlog and manufacturing capabilities and the status of our facilities.These statements are not guarantees of future performance and are subject tocertain risks and uncertainties which could cause actual results to differmaterially from those projected. You should not place undue reliance on theseforward-looking statements that speak only as of the date hereof. We undertakeno obligation to republish revised forward-looking statements to reflect eventsor circumstances after the date hereof or to reflect the occurrence ofunanticipated events. We encourage you to carefully review and consider thevarious disclosures made by us which describe certain factors which could affectour business, including the risk factors set forth at the end of Part I, Item 1of this report and in Part II, Item 7. "Management's Discussion and Analysis ofFinancial Condition and Results of Operations." PART IITEM 1. BUSINESSGeneral Odetics, Inc. provides products, systems, and services that control andmanage the use of public roadways, secure access to public and privatefacilities, and secure the delivery of digital communications. Our company wasfounded in 1969 to supply digital recorders for use in the United States spaceprogram. We pioneered new designs and standards for digital magnetic taperecorders offering high reliability and enhanced performance in the adverseenvironment attendant to space flight. In the 1970s, we broadened ourinformation automation product line to include time-lapse videocassetterecorders for commercial security and surveillance applications, and entered thebusiness of manufacturing telecom network synchronization products. Through ourGyyr Incorporated subsidiary, we became a leading supplier of time-lapsevideotape cassette recorders, and we pioneered new products incorporatingdigital video technologies and related CCTV products used in security andsurveillance systems. In April 2001, we sold Gyyr's Vortex Dome and QuarterbackController product lines. Then in September 2001, we sold the assets of our CCTVproduct line, and changed the name of our Gyyr subsidiary to MAXxess SystemsInc. to continue to pursue the security market with electronic access controlproducts and systems. Beginning in the late 1970s, we developed and manufactured telecomsynchronization products in our Communications division. We incorporated ourCommunications division in fiscal 1999 as our wholly-owned subsidiary, Zyfer,Inc., as part of our business expansion to develop products focused on thesecurity aspects of data traffic over ground and satellite links, and networkcommunications. Leveraging our expertise in video image processing, we entered into theintelligent transportation system ("ITS") business with the introduction of avideo-based vehicle detection system in 1993. In June 1997, we acquired certainassets comprising the Transportation Systems business from RockwellInternational, creating our ITS division, which expanded our offerings toinclude advanced traffic management systems and advanced traveler informationsystems. We incorporated our ITS division in 1998 as Odetics ITS, Inc. InOctober 1998, we broadened our systems offerings by acquiring Meyer, MohaddesAssociates, Inc. In January 2000, we reincorporated Odetics ITS in Delaware andchanged its name to Iteris, Inc. Odetics currently owns 78.2% of the outstandingcommon stock of Iteris or 62.7% as calculated for the preferred stock conversionequivalent. Meyer, Mohaddes Associates, Inc. currently operates as awholly-owned subsidiary of Iteris, Inc. In the early 1980s, we developed the technical expertise to applyautomation to new commercial applications and established our Odetics Broadcastdivision. We incorporated our Odetics Broadcast division in 1999 as Broadcast,Inc. Broadcast is a supplier of content management and delivery solutions forthe television, cable and satellite industries. The success of our video tapelibraries led us to pursue new applications for information automationtechnologies. In 1991, we introduced an automated tape handling subsystem forintegration into tape libraries designed for midrange computers andclient/server networks. In January 1993, we formed a separate subsidiary, ATLProducts, Inc., to pursue the market for automated tape libraries. In March1997, ATL completed an initial public offering of 1,650,000 shares of its ClassA common stock. We distributed our remaining 82.9% interest in ATL to ourstockholders in a tax-free distribution in October 1997. 1 Odetics has a unique mix of competencies in outdoor image processing,high-speed security processing, precision timing and synchronization, and datamanagement. We have a unique identity within each of our vertical markets thatwe address, and our business is organizationally structured so that ourmanagement teams and technical competencies are in alignment with each area ofmarket focus. Our business units share a common overhead structure forfacilities, human resources, benefits and certain accounting, finance andmanagement services. We currently define our business segments as video products, telecomproducts and ITS. Our video products segment includes our Broadcast subsidiaryand our MAXxess subsidiary. Our telecom products segment consists of our Zyfersubsidiary. Our ITS segment consists of our Iteris subsidiary. For moreinformation concerning our business segments, please see Note [14] of Notes toConsolidated Financial Statements.Video Products Broadcast, Inc. Broadcast is a supplier of content management and delivery solutions forthe television, cable and satellite industries. Broadcast's systems automate thestorage and scheduling of commercials, news stories and other televisionprogramming recorded on video server storage systems and videotape. We believethat enhanced operational efficiencies are a principal factor underlying theautomation of broadcast television stations and satellite uplink operations asthe industry transitions to digital television. The Broadcast product offeringis based on proprietary software solutions for broadband video contentmanagement and delivery to serve broadcast and cable operations. The AIRO(TM)suite of products is Broadcast's content management and delivery solution thatis designed to automate the on-air operations of television and cablebroadcasters. Sales, Marketing and Principal Customers. Broadcast sells directly tobroadcast television stations, satellite uplink operations, and other broadcasttelevision and cable television system operators. The sales and marketingmanagement for Broadcast is located at our principal facilities in Anaheim,California. Broadcast maintains a dedicated field sales force of four personsoperating in four sales regions in North America, and two sales managers forLatin America and Europe. Broadcast also utilizes additional independentrepresentative organizations to promote its products in various other foreignmarkets. During the year ended March 31, 2002, Broadcast implemented indirectsales channels consisting of system integrators, value added resellers andsystem distributors. The customers of Broadcast include major television networks such as Fox,Nickelodeon, CNBC, Televisa, Measat Broadcast Network Systems, NBC, the PBSNetwork, Group W Satellite Communications, Asia Broadcast Centre, Univision andover 250 independent and network-affiliated television stations. Broadcastcurrently has systems installed in over 40 countries. Manufacturing and Materials. Within our Anaheim facilities, Broadcastmaintains a dedicated manufacturing operation as well as infrastructure tosupport production and inventory control, purchasing, quality assurance andmanufacturing. Our AIRO products are serviced primarily in a facility located inAustin, Texas. Broadcast purchases video servers from Grass Valley Group, Leitch andPinnacle Systems and purchases video switching, conversion and monitoringequipment from Grass Valley Group and Leitch. Broadcast also purchases cabinetsand other fabricated parts and components from other third party suppliers. MAXxess Systems Inc. MAXxess Systems produces enterprise security management systems andelectronic access control systems that meet the facility security needs ofinstitutional, commercial, industrial and retail users. MAXxess sells a fullline of electronic access control products consisting of software, hardware anddigital video badging technologies. During the year ended March 31, 2002,MAXxess introduced its Environmental Security Systems that integrate its baseAXxess 202 system with new detection technologies for toxic chemicals, gases andnarcotics, in addition to video-based detection of smoke and unauthorizedvehicles. MAXxess believes that its Environmental Security Systems provideenhanced levels of monitoring, control and detection that will be required inpublic facilities including buildings, airports, ports and for other high valueassets. 2 Sales, Marketing and Principal Customers. MAXxess markets and sells itsproducts globally through a network of system integrators. In the United States,MAXxess has three regional sales managers who oversee three geographical regionsand manage the integrators. MAXxess operates a full service branch office inWindsor U.K. which serves the sales needs of the EMEA region. The Windsor officealso provides local product availability and technical support for the region. Manufacturing and Materials. MAXxess maintains a dedicated manufacturingarea located within our principal facilities in Anaheim, California. MAXxessmaintains infrastructure to support production and inventory control,purchasing, quality assurance and manufacturing engineering at our Anaheimfacilities.Telecom Products - Zyfer, Inc. Zyfer designs, develops and manufactures precision time and synchronizationsystems and products for network communications, computer networks and militarycommand and control applications. Zyfer is under subcontract to provide NASAservice support for space-borne digital data recorders. The space-borne digitalrecorders serviced by Zyfer used in on-board recording of flight systems for theU.S. Space Shuttle program. Zyfer's synchronization systems are based on GPS and oscillatortechnologies and are sold for applications in wireless networks and satellitecommunications for both commercial and government consumers. Significantcustomers of Zyfer include the U.S. government, government subcontractors andOEM suppliers to wireless carriers. Zyfer has developed a Gigabit network security processor called theSKP-100S. This product, anticipated to be the first of a family of products, isbuilt around a proprietary network security processor technology calledStealthKey. Typical applications are for network security, specifically storagearea networks. Zyfer believes that the StealthKey technology has key performanceadvantages including automatic and transparent key generation, ease ofimplementation, and the ability to operate at wire speed. Sales, Marketing and Principal Customers. Zyfer conducts its selling andmarketing activities directly from our principal facilities in Anaheim,California, and sells its synchronization products primarily throughmanufacturers' representatives. Manufacturing and Materials. Zyfer's manufacturing processes are ISO 9001certified. Most of its manufacturing processes consist of final assembly andtest, which are conducted at our Anaheim, California facilities. Zyferoutsources board assembly and some preliminary fabrication processes.ITS Products - Iteris, Inc. Iteris, Inc. designs, develops, markets and implements sensors and systemsfor surface transportation. Using its proprietary software and ITS industryexpertise, Iteris provides video sensor systems and transportation managementand traveler information systems for the ITS industry. The ITS industry iscomprised of companies applying a variety of technologies to enable the safe andefficient movement of people and goods. Iteris uses its outdoor imagerecognition software expertise to develop proprietary algorithms for videosensor systems that improve vehicle safety and the flow of traffic. Ourknowledge of the ITS industry enables Iteris to design and implementtransportation solutions that help public agencies reduce traffic congestion andprovide greater access to traveler information. Iteris' proprietary image recognition systems include AutoVue and Vantage.AutoVue is a small windshield mounted sensor that utilizes proprietary softwareto detect and warn drivers of unintended lane departures. Iteris believes thatAutoVue is a broad sensor platform that, through additional softwaredevelopment, may be expanded to incorporate additional safety and conveniencefeatures. Vantage is a video vehicle sensing system that detects the presence ofvehicles at signalized intersections enabling a more efficient allocation ofgreen signal time. Iteris' transportation management systems services business designs,develops and implements software-based systems that integrate sensors, videosurveillance, computers and advanced communications equipment enabling publicagencies to monitor, control and direct traffic flow, assist in the quickdispatch of emergency crews and distribute real-time information about trafficconditions. 3 Sales, Marketing and Principal Customers. Iteris markets and sells itstransportation management systems and services directly to government agenciespursuant to negotiated contracts that involve competitive bidding and specificqualification requirements. Sales of Iteris' systems contracts generally involvelong lead times and require extensive specification development, evaluation andprice negotiations. Iteris sells its Vantage vehicle detection systems primarily throughindirect sales channels comprised of independent dealers in the United Statesand Canada who sell integrated solutions and related products to the trafficintersection market. The independent dealers for Iteris are primarilyresponsible for sales, installation and support of Vantage systems. Thesedealers maintain an inventory of demonstration traffic products including theVantage vehicle detection systems and sell directly to government agencies andinstallation contractors. These dealers often have long-term arrangements withthe government agencies in their territory for the supply of various productsfor the construction and renovation of traffic intersections. Iteris holdstechnical training classes for its dealers and maintains a full-time staff ofcustomer support technicians to provide technical assistance when needed. The marketing strategy for AutoVue is to establish it as the leadingplatform for in vehicle video sensing for trucks and passenger cars. AutoVue issold directly by Iteris to vehicle manufacturers and major automotive suppliers.Iteris currently has a direct sales force for AutoVue consisting of two productmanagers. Product managers are supported by project and applications engineerswho are responsible for applications and customer support. Manufacturing and Materials. Iteris designs, assembles and tests thecomponents of its Vantage systems in approximately 6,000 square feet of space atour Anaheim facility. Production equipment consists of assembly lines and testapparatus for final assembly and testing of the manufactured product. Productionvolume is based upon quarterly forecasts that Iteris readjusts on a monthlybasis to control inventory. Iteris subcontracts the manufacture of its AutoVuesystems to one manufacturer. Iteris intends to engage additional manufacturerswith expertise in high volume production to produce higher volumes for light andmedium trucks and passenger cars. Iteris does not manufacture any of thehardware used in the transportation management and traveler information systemsthat it designs and implements. The production facility for Iteris is ISO 9001certified.Customer Support and Services Each of our business units is responsible for its own customer support andservice organizations. We provide warranty service for each of our productlines, as well as follow-up service and support, for which we typically chargeseparately. We also offer separate software maintenance agreements to ourcustomers. We view customer support services as a critical competitive factor aswell as a revenue source.Backlog Our backlog of unfulfilled firm orders was approximately $42.7 million asof March 31, 2002 and was approximately $31.0 million as of March 31, 2001.Approximately 68% of our backlog at March 31, 2001 was recognized as revenues inthe fiscal year ended March 31, 2002, and approximately 67% of our backlog atMarch 31, 2002 is expected to be recognized as revenues in the fiscal year endedMarch 31, 2003. Pursuant to the customary terms of our agreements withgovernment contractors and other customers, customers can generally cancel orreschedule orders with little or no penalties. Lead times for the release ofpurchase orders depend upon the scheduling and forecasting practices of ourindividual customers, which also can affect the timing of the conversion of ourbacklog into revenues. For these reasons, among others, our backlog at aparticular date may not be indicative of our future revenues.Product Development Each of our business units directs and staffs its own product developmentactivities. Most of our development activities are conducted at our principalfacilities in Anaheim, California. Our business units have historically requiredsubstantial ongoing research and development expenditures and other productdevelopment activities. Our company-sponsored research and development costs andexpenses were approximately $13.0 million in fiscal 2000, $13.8 million infiscal 2001 and $8.1 million in fiscal 2002. We expect to continue to pursuesignificant product development programs and incur significant research anddevelopment expenditures in each of our business units. 4Competition Our business units generally face significant competition in each of theirrespective markets. Increased competition may result in price reductions,reduced gross margins and loss of market share, any of which could have amaterial adverse effect on our business, financial condition and results ofoperations. Broadcast's primary competitors include Sony, Harris, Encoda and Probel.Sony is a large, international supplier of extensive professional qualityproducts. Harris and Probel principally provide automation control for videolibraries and disk recorders. Broadcast's systems compete primarily in the arenaof facility management and enterprise wide automation. We believe that thecapability of our systems to integrate the broadcast station business systemsacquisition processes, storage devices and presentation devices under arelational database management system represents a unique and differentiablecapability. MAXxess principally competes with Casi-Rusco, Checkpoint, Cardkey, Leneland Northern Computers in the sale of access control systems. MAXxess generallycompetes on the basis of its distributed processing system architecture, an opensystem that readily integrates other security subsystems and new detectioncapabilities, and a superior operator interface. Zyfer's primary competition for network synchronization products is Datum,Inc. and TrueTime Inc. While we believe that AutoVue is the only commercially-available lanedeparture warning system, potential competitors of Iteris include DelphiAutomotive Systems Corporation domestically, NEC Corporation and Hitachi Ltd. inJapan and Robert Bosch Gmbh in Europe, which are currently developing videosensor technologies for the vehicle industry that could be used for lanedeparture warning systems. In the market for our Vantage vehicle detectionsystems, Iteris competes with manufacturers of both "above ground" video cameradetection systems, such as Econolite Control Products, Inc., Trafficon, N.V. andthe Peek Traffic Systems, and other non-intrusive detection devices includingmicrowave, infrared, ultrasonic and magnetic detectors, as well as manufacturersand installers of in-pavement inductive loop products. The transportation management and traveler information systems market ishighly fragmented and is subject to evolving national and regional quality andsafety standards. Iteris' competitors vary in number, scope and breadth of theproducts and services they offer. Iteris' competitors in advanced transportationmanagement and traveler information systems include corporations such asTranscore, Lockheed Martin Corporation, PB Farradyne Inc., Kimley-Horn andAssociates, Inc. and National Engineering Technology, Inc. Iteris' competitorsin transportation engineering, planning and design include major firms such asParsons Brinkerhoff, Inc. and Parsons Transportation Group Inc., as well as manyregional engineering firms. In general, the markets for the products and services offered by ourbusinesses are highly competitive and are characterized by rapidly changingtechnology and evolving standards. Many of our current and prospectivecompetitors have longer operating histories, greater name recognition, access tolarger customer bases and significantly greater financial, technical,manufacturing, distribution and marketing resources than us. As a result, theymay be able to adapt more quickly to new or emerging standards or technologiesor to devote greater resources to the promotion and sale of their products. Itis also possible that new competitors or alliances among competitors couldemerge and rapidly acquire significant market share. We believe that our abilityto compete effectively in our target markets depends on a number of factors,including the success and timing of our new product development, thecompatibility of our products with a broad range of computing systems, productquality and performance, reliability, functionality, price, and service andtechnical support. Our failure to provide services and develop and marketproducts that compete successfully with those of other suppliers and consultantsin our target markets would have a material adverse effect on our business,financial condition and results of operations.Intellectual Property and Proprietary Rights Our ability to compete effectively depends in part on our ability todevelop and maintain the proprietary aspects of our technology. Our policy is toobtain appropriate proprietary rights protection for any potentially significantnew technology acquired or developed each of our business units. We currentlyhold a number of United States and foreign patents and trademarks, which willexpire at various dates commencing in 2004. We also have pending a number ofUnited States and foreign patent applications relating to certain of ourproducts; however, we cannot be certain that any patents will be grantedpursuant to these applications. 5 In addition to patent laws, we rely on copyright and trade secret laws toprotect our proprietary rights. We attempt to protect our trade secrets andother proprietary information through agreements with customers and suppliers,proprietary information agreements with our employees and consultants, and othersimilar measures. We cannot be certain that we will be successful in protectingour proprietary rights. While we believe our patents, patent applications,software and other proprietary know-how have value, changing technology makesour future success dependent principally upon our employees' technicalcompetence and creative skills for continuing innovation. Litigation has been necessary in the past and may be necessary in thefuture to enforce our proprietary rights, to determine the validity and scope ofthe proprietary rights of others, or to defend us against claims of infringementor invalidity by others. An adverse outcome in such litigation or similarproceedings could subject us to significant liabilities to third parties,require disputed rights to be licensed from others or require us to ceasemarketing or using certain products, any of which could have a material adverseeffect on our business, financial condition and results of operations. Inaddition, the cost of addressing any intellectual property litigation claim,both in legal fees and expenses, as well as from the diversion of management'sresources, regardless of whether the claim is valid, could be significant andcould have a material adverse effect on our business, financial condition andresults of operations.Employees We refer to our employees as associates. As of June 17, 2002, Odetics andits subsidiaries employed an aggregate of 315 associates, including 77associates in general management, administration and finance; 36 associates insales and marketing; 132 associates in product development; 58 associates inoperations, manufacturing and quality; and 12 associates in customer service.None of our associates are represented by a labor union, and we have neverexperienced a work stoppage. We provide centralized support for human resources management for each ofour business units and subsidiaries. These services include recruiting,administration and outplacement.Government Regulation Our manufacturing operations are subject to various federal, state andlocal laws, including those restricting the discharge of materials into theenvironment. We are not involved in any pending or threatened proceedings whichwould require curtailment of our operations because of such regulations. Wecontinue to expend funds in connection with our compliance with applicableenvironmental regulations. These expenditures have not, however, beensignificant in the past, and we do not expect any significant expenditures inthe near future. From time to time, a portion of our work relating to networksynchronization systems may constitute classified United States governmentinformation or may be used in classified programs of the United StatesGovernment. For this purpose, we possess certain relevant security clearances.Our affected facilities and operations are also subject to security regulationsof the United States Government. We believe we are currently in full compliancewith these regulations. 6 RISK FACTORS Before deciding to invest in Odetics or to maintain or increase yourinvestment, you should carefully consider the risks described below, in additionto the other information contained in this report and in our other filings withthe SEC, including our reports on Forms 10-Q and 8-K. The risks anduncertainties described below are not the only ones facing us. Additional risksand uncertainties not presently known to us or that we currently deem immaterialmay also affect our business operations. If any of these risks actually occur,our business, financial condition or results of operations could be seriouslyharmed. In that event, the market price for our common stock could decline andyou may lose all or part of your investment. We Have Experienced Substantial Losses and Expect Future Losses. Weexperienced operating losses of $10.8 million the year ended March 31, 2002,$37.9 million for the year ended March 31, 2001 and $32.9 million for the yearended March 31, 2000. In the quarter ended September 30, 2001, we downsized ourbusiness in connection with our sale of the Gyyr CCTV Products division and thediscontinuation of the business of our Mariner Networks subsidiary and thereorganization of our European operations. We cannot assure you that our effortsto downsize our operations will improve our financial performance, or that wewill be able to achieve profitability on a quarterly or annual basis in thefuture. Most of our expenses are fixed in advance, and we generally are unableto reduce our expenses significantly in the short-term to compensate for anyunexpected delay or decrease in anticipated revenues. As a result, we maycontinue to experience losses, which would make it difficult to fund ouroperations and achieve our business plan, and could cause the market price ofour common stock to decline. We Will Need to Raise Additional Capital in the Future and May Not Be Ableto Secure Adequate Funds on Terms Acceptable to Us, or at All. We have generatedsignificant net losses in recent periods, and have experienced negative cashflows from operations in the amount of $18.2 million for the year ended March31, 2002 and $20.1 million for the year ended March 31, 2001. Although wecompleted the sale of our Anaheim, California property in May 2002, the majorityof the proceeds of such sale were used to repay outstanding short-termindebtedness. We anticipate that we will need to raise additional capital in thefuture. Our Iteris subsidiary currently maintains a line of credit with amaximum availability of $5.0 million, which expires in August 2004.Substantially all of the assets of Iteris have been pledged to the lender tosecure the outstanding indebtedness under this facility (although there were noamounts outstanding under the line of credit at June 21, 2002). Even though weretired the Odetics line of credit in the quarter ended December 31, 2001, wealso incurred cash obligations in the amount of $3.0 million payable over thenext seven months related to the discontinuation of Mariner Networks and thereorganization of our European operations. We plan to raise additional capitalin the near future, either through bank borrowings, other debt or equityfinancings, or the divestiture of business units or select assets. We cannotassure you that any additional capital will be available on a timely basis, onacceptable terms, or at all. These conditions, together with our recurringlosses and cash requirements, raise substantial doubt about our ability tocontinue as a going concern. Our capital requirements will depend on many factors, including: . our ability to control costs; . market acceptance of our products and the overall level of sales of our products; . our ability to generate operating income; . increased research and development funding, and required investments in our business units; . increased sales and marketing expenses; . technological advancements and our competitors' response to our products; . capital improvements to new and existing facilities; . potential acquisitions of businesses and product lines; . our relationships with customers and suppliers; and 7 . general economic conditions including the effects of the current economic slowdown and international conflicts. If our capital requirements are materially different from those currentlyplanned, we may need additional capital sooner than anticipated. If additionalfunds are raised through the issuance of equity or convertible debt securities,the percentage ownership of our stockholders will be reduced and such securitiesmay have rights, preferences and privileges senior to our common stock.Additional financing may not be available on favorable terms or at all. Ifadequate funds are not available or are not available on acceptable terms, wemay be unable to continue our operations as planned, develop or enhance ourproducts, expand our sales and marketing programs, take advantage of futureopportunities or respond to competitive pressures. The Trading Price of Our Common Stock Is Volatile. The trading price of ourcommon stock has been subject to wide fluctuations in the past. Since January2000, our common stock has traded at prices as low as $1.27 per share and ashigh as $29.44 per share. In April 2002, because we failed to meet the minimumstockholder's equity requirement for continued listing on the Nasdaq NationalMarket, both our Class A common stock and Class B common stock were delistedfrom the Nasdaq National Market and subsequently approved for listing on theNasdaq SmallCap Market. If our stock price continues to decline or declinesbelow $1.00 per share for a period of time, our common stock could be subject todelisting from the Nasdaq SmallCap Market and there may not be a market for ourstock. We may not be able to increase or sustain the current market price of ourcommon stock in the future. As such, you may not be able to resell your sharesof common stock at or above the price you paid for them. The market price of ourcommon stock could continue to fluctuate in the future in response to variousfactors, including, but not limited to: . quarterly variations in operating results; . our ability to control costs and improve cash flow; . shortages announced by suppliers; . announcements of technological innovations or new products by our competitors, customers or us; . acquisitions or businesses, products or technologies; . changes in pending litigation or new litigation; . changes in investor perceptions; . our ability to spin-off any business unit; . applications or product enhancements by us or by our competitors; and . changes in earnings estimates or investment recommendations by securities analysts. The stock market in general has recently experienced volatility, which hasparticularly affected the market prices of equity securities of many hightechnology companies. This volatility has often been unrelated to the operatingperformance of these companies. These broad market fluctuations may adverselyaffect the market price of our common stock. In the past, companies that haveexperienced volatility in the market price of their securities have been thesubject of securities class action litigation. If we were to become the subjectof a class action lawsuit, it could result in substantial losses and divertmanagement's attention and resources from other matters. We Depend on Government Contracts and Subcontracts and Face AdditionalRisks Related to Fixed Price Contracts. A significant portion of the sales byIteris and a portion of our sales by Zyfer were derived from contracts withgovernmental agencies, either as a general contractor, subcontractor orsupplier. Government contracts represented approximately 24%, 26% and 38% of ourtotal net sales and contract revenues for the years ended March 31, 2000, 2001and 2002, respectively. We anticipate that revenue from government contractswill continue to increase in the near future. Government business is, ingeneral, subject to special risks and challenges, including: 8 . long purchase cycles or approval processes; . competitive bidding and qualification requirements; . performance bond requirements; . changes in government policies and political agendas; . delays in funding, budgetary constraints and cut-backs; and . milestone requirements and liquidated damage provisions for failure to meet contract milestones. In addition, a large number of our government contracts are fixed pricecontracts. As a result, we may not be able to recover for any cost overruns.These fixed price contracts require us to estimate the total project cost basedon preliminary projections of the project's requirements. The financialviability of any given project depends in large part on our ability to estimatethese costs accurately and complete the project on a timely basis. In the eventour costs on these projects exceed the fixed contractual amount, we will berequired to bear the excess costs. These additional costs adversely affect ourfinancial condition and results of operations. Moreover, certain of ourgovernment contracts are subject to termination or renegotiation at theconvenience of the government, which could result in a large decline in our netsales in any given quarter. Our inability to address any of the foregoingconcerns or the loss or renegotiation of any material government contract couldseriously harm our business, financial condition and results of operations. We are Exposed to the Risks Associated with the Recent Worldwide EconomicSlowdown and Related Uncertainties. Concerns about inflation, decreased consumerconfidence, reduced corporate profits and capital spending, and recentinternational conflicts and terrorist and military actions have resulted in adownturn in worldwide economic conditions, particularly in the United States. Asa result of these unfavorable economic conditions, we have experienced aslowdown in customer orders, cancellations and rescheduling of backlog andhigher overhead costs. In addition, recent political and social turmoil relatedto international conflicts and terrorist acts can be expected to put furtherpressure on economic conditions in the U.S. and worldwide. These political,social and economic conditions make it extremely difficult for our customers,our suppliers and us to accurately forecast and plan future business activities.If such conditions continue or worsen, our business, financial condition andresults of operations will likely be materially and adversely affected. Our Quarterly Operating Results Fluctuate as a Result of Many Factors. Ourquarterly revenues and operating results have fluctuated and are likely tocontinue to vary from quarter to quarter due to a number of factors, many ofwhich are not within our control. Factors that could affect our revenuesinclude, among others, the following: . our ability to raise additional capital; . our significant investment in research and development for our subsidiaries and business units; . our ability to control costs; . international conflicts and acts of terrorism; . our ability to develop, introduce, market and gain market acceptance of new products applications and product enhancements in a timely manner; . the size, timing, rescheduling or cancellation of significant customer orders; . the introduction of new products by competitors; . the availability of components used in the manufacture of our products; . changes in our pricing policies and the pricing policies by our suppliers and competitors, pricing concessions on volume sales, as well as increased price competition in general; 9 . the long lead times associated with government contracts or required by vehicle manufacturers; . our success in expanding and implementing our sales and marketing programs; . the effects of technological changes in our target markets; . our relatively small level of backlog at any given time; . the mix of sales among our business units; . deferrals of customer orders in anticipation of new products, applications or product enhancements; . the risks inherent in our acquisitions of technologies and businesses; . risks and uncertainties associated with our international business; . currency fluctuations and our ability to get currency out of certain foreign countries; and . general economic and political conditions. In addition, our sales in any quarter may consist of a relatively smallnumber of large customer orders. As a result, the timing of a small number oforders may impact our quarter-to-quarter results. The loss of or a substantialreduction in orders from any significant customer could seriously harm ourbusiness, financial condition and results of operations. Due to all of the factors listed above and other risks discussed in thisreport, our future operating results could be below the expectations ofsecurities analysts or investors. If that happens, the trading price of ourcommon stock could decline. As a result of these quarterly variations, youshould not rely on quarter-to-quarter comparisons of our operating results as anindication of our future performance. Our Operating Strategy for Developing Companies is Expensive and May Not BeSuccessful. Our business strategy historically has required us to makesignificant investments in our business units. These investments are expensiveand require the commitment of significant time and resources. We expect tocontinue to invest in the development of certain of our business units with thegoal of achieving profitability in each of our business units, and to a lesserextent, to monetize those business units for the benefit of our stockholdersthrough an initial public offering, spin-off or sale to a strategic buyer. Wemay not recognize the benefits of this investment for a significant period oftime, if at all. Our ability to achieve profitability in any business unit, tocomplete any private or public offerings of securities by any of our businessunits, and/or to spin-off our interest in the business unit to our stockholderswill depend upon many factors, including: . the overall performance and results of operations of the particular business unit; . the potential market for our business unit; . our ability to assemble and retain a qualified management team for the business unit; . our financial position and cash requirements; . the business unit's customer base and product line; . the current tax treatment of spin-off and sale transactions, and our ability to obtain favorable determination letters from the Internal Revenue Service; and . general economic and market conditions, including the receptiveness of the stock markets to initial public offerings and private placements. We may not be able to achieve profitability in our business units, tocomplete a successful private or public offering or to spin-off of any of ourbusiness units in the near future, or at all. During fiscal 2001, we attemptedto complete the initial public offering of Iteris, but withdrew the offering dueto adverse market conditions. Even if we 10are able to achieve profitability and the market is receptive to publicofferings, we may decide not to complete any further offerings, spin-off aparticular business unit, or delay the spin-off until a later date. We Must Keep Pace with Rapid Technological Change to Remain Competitive.Our target markets are in general characterized by the following factors: . rapid technological advances; . downward price pressure in the marketplace as technologies mature; . changes in customer requirements; . frequent new product introductions and enhancements; and . evolving industry standards and changes in the regulatory environment. Our future success will depend upon our ability to anticipate and adapt tochanges in technology and industry standards, and to effectively develop,introduce, market and gain broad acceptance of new products and productenhancements incorporating the latest technological advancements. We believe that we must continue to make substantial investments to supportongoing research and development in order to remain competitive. We need tocontinue to develop and introduce new products that incorporate the latesttechnological advancements in hardware, storage media, operating system softwareand applications software in response to evolving customer requirements. Ourbusiness and results of operations could be adversely affected if we do notanticipate or respond adequately to technological developments or changingcustomer requirements. We cannot assure you that any such investments inresearch and development will lead to any corresponding increase in revenue. Our Future Success Depends on the Successful Development and MarketAcceptance of New Products. We believe our revenue growth and future operatingresults will depend on our ability to complete development of new products andenhancements, introduce these products in a timely, cost-effective manner,achieve broad market acceptance of these products and enhancements, and reduceour product costs. We may not be able to introduce any new products or anyenhancements to our existing products on a timely basis, or at all. In addition,the introduction of any new products could adversely affect the sales of ourcertain of our existing products. Our future success will also depend in part on the success of severalrecently introduced products including CommSync II, a Zyfer solution for secure,high speed, point-to-point communications; AutoVue, our lane departure warningsystem; and AIRO 9.0, our broadcast automation solution. Market acceptance ofour new products depends upon many factors, including our ability to accuratelypredict market requirements and evolving industry standards, our ability toresolve technical challenges in a timely and cost-effective manner and achievemanufacturing efficiencies, the perceived advantages of our new products overtraditional products and the marketing capabilities of our independentdistributors and strategic partners. Our business and results of operationscould be seriously harmed by any significant delays in our new productdevelopment. Certain of our new products could contain undetected design faultsand software errors or "bugs" when first released by us, despite our testing. Wemay not discover these faults or errors until after a product has been installedand used by our customers. Any faults or errors in our existing products or inany new products may cause delays in product introduction and shipments, requiredesign modifications or harm customer relationships, any of which couldadversely affect our business and competitive position. Iteris currently outsources the manufacture of its AutoVue product line toa single manufacturer. This manufacturer may not be able to produce sufficientquantities of this product in a timely manner or at a reasonable cost, whichcould materially and adversely affect our ability to launch or gain marketacceptance of AutoVue. We Have Significant International Sales and Are Subject to Risks Associatedwith Operating in International Markets. International sales represented 10% ofour net sales and contract revenues for the fiscal year ended March 31, 2002,20% for the fiscal year ended March 31, 2001, and 20% for the fiscal year endedMarch 31, 2000. During the fiscal year ended March 31, 2002, we reorganized ourEuropean operations, which included the discontinuation of our Odetics EuropeLtd., MAXxess Europe Ltd., Mariner France and Mariner Europe Ltd. 11operations, and the transition of our Broadcast and MAXxess internationaloperations to branch office operations with the intent of lowering ourinternational costs. This reorganization may result in significantly lowerinternational sales in future periods and unanticipated liabilities related tothe closures and we may not achieve the anticipated cost savings. We may alsoface challenges in managing and transitioning our international operations dueto our limited experience operating through branch offices. In addition, therecent terrorist attacks in the United States and heightened security mayadversely impact our international sales and could make our internationaloperations more expensive. International business operations are also subject to other inherent risks,including, among others: . unexpected changes in regulatory requirements, tariffs and other trade barriers or restrictions; . longer accounts receivable payment cycles; . difficulties in managing and staffing international operations; . potentially adverse tax consequences; . the burdens of compliance with a wide variety of foreign laws; . import and export license requirements and restrictions of the United States and each other country in which we operate; . exposure to different legal standards and reduced protection for intellectual property rights in some countries; . currency fluctuations and restrictions; and . political, social and economic instability. We believe that international sales will continue to represent asignificant portion of our revenues, and that continued growth and profitabilitymay require further expansion of our international operations. Nearly all of ourinternational sales from this point on are denominated in U.S. dollars. As aresult, an increase in the relative value of the dollar could make our productsmore expensive and potentially less price competitive in international markets.We do not engage in any transactions as a hedge against risks of loss due toforeign currency fluctuations. Any of the factors mentioned above may adversely effect our futureinternational sales and, consequently, effect our business, financial conditionand operating results. Furthermore, as we increase our international sales, ourtotal revenues may also be affected to a greater extent by seasonal fluctuationsresulting from lower sales that typically occur during the summer months inEurope and other parts of the world. We Need to Manage Operations and the Integration of Our Acquisitions. Overthe past few years, we have expanded our operations and made several substantialacquisitions of diverse businesses, including Intelligent Controls, Inc.,International Media Integration Services, Ltd., Meyer Mohaddes Associates, Inc.,Viggen Corporation, and certain assets of the Transportation Systems business ofRockwell International. We may engage in acquisitions of complementarybusinesses, products and technologies. Acquisitions may require significantcapital infusions and, in general, acquisitions also involve a number of specialrisks, including: . potential disruption of our ongoing business and the diversion of our resources and management's attention; . the failure to retain or integrate key acquired personnel; . the challenge of assimilating diverse business cultures, and the difficulties in integrating the operations, technologies and information system of the acquired companies; . increased costs to improve managerial, operational, financial and administrative systems and to eliminate duplicative services; 12 . the incurrence of unforeseen obligations or liabilities; . potential impairment of relationships with employees or customers as a result of changes in management; and . increased interest expense and amortization of acquired intangible assets. Acquisitions may also materially and adversely affect our operating resultsdue to large write-offs, contingent liabilities, substantial depreciation,deferred compensation charges or goodwill amortization, or other adverse tax oraudit consequences. Our failure to manage growth and integrate our acquisitionssuccessfully could adversely affect our business, financial condition andresults of operations. Our competitors are also soliciting potential acquisition candidates, whichcould both increase the price of any acquisition targets and decrease the numberof attractive companies available for acquisition. We cannot assure you that wewill be able to consummate any additional acquisitions, successfully integrateany acquisitions or realize the benefits anticipated from any acquisition. The Markets in Which We Operate Are Highly Competitive and Have Many MoreEstablished Competitors. We compete with numerous other companies in our targetmarkets and we expect such competition to increase due to technologicaladvancements, industry consolidations and reduced barriers to entry. Increasedcompetition is likely to result in price reductions, reduced gross margins andloss of market share, any of which could seriously harm our business, financialcondition and results of operations. Many of our competitors have far greatername recognition and greater financial, technological, marketing and customerservice resources than we do. This may allow them to respond more quickly to newor emerging technologies and changes in customer requirements. It may also allowthem to devote greater resources to the development, promotion, sale and supportof their products than we can. Recent consolidations of end users, distributorsand manufacturers in our target markets have exacerbated this problem. As aresult of the foregoing factors, we may not be able to compete effectively inour target markets and competitive pressures could adversely affect ourbusiness, financial condition and results of operations. We Cannot Be Certain of Our Ability to Attract and Retain Key Personnel andWe Do Not Have Employment Agreements with Any Key Personnel. Due to thespecialized nature of our business, we are highly dependent on the continuedservice of our executive officers and other key management, engineering andtechnical personnel, particularly Joel Slutzky, our Chairman of the Board, whorecently retired as our Chief Executive Officer, and Gregory A. Miner, our ChiefExecutive Officer and Chief Financial Officer. The leadership transition betweenMr. Slutzky and Mr. Miner could adversely affect our business. We do not haveany employment contracts with any of our officers or key employees. The loss ofany of these individuals could adversely affect our business, financialcondition or results of operations. Our success will also depend in large part upon our ability to continue toattract, retain and motivate qualified engineering and other highly skilledtechnical personnel. Competition for employees, particularly developmentengineers, is intense. We may not be able to continue to attract and retainsufficient numbers of such highly skilled employees. Our inability to attractand retain additional key employees or the loss of one or more of our currentkey employees could adversely affect upon our business, financial condition andresults of operations. We May Not be Able to Adequately Protect or Enforce Our IntellectualProperty Rights. If we are not able to adequately protect or enforce theproprietary aspects of our technology, competitors could be able to access ourproprietary technology and our business, financial condition and results ofoperations will likely be seriously harmed. We currently attempt to protect ourtechnology through a combination of patent, copyright, trademark and tradesecret laws, employee and third party nondisclosure agreements and similarmeans. Despite our efforts, other parties may attempt to disclose, obtain or useour technologies or solutions. Our competitors may also be able to independentlydevelop products that are substantially equivalent or superior to our productsor design around our patents. In addition, the laws of some foreign countries donot protect our proprietary rights as fully as do the laws of the United States.As a result, we may not be able to protect our proprietary rights adequately inthe United States or abroad. From time to time, we have received notices that claim we have infringedupon the intellectual property of others. Even if these claims are not valid,they could subject us to significant costs. We have engaged in litigation in thepast, and litigation may be necessary in the future to enforce our intellectualproperty rights or to determine 13the validity and scope of the proprietary rights of others. Litigation may alsobe necessary to defend against claims of infringement or invalidity by others.An adverse outcome in litigation or any similar proceedings could subject us tosignificant liabilities to third parties, require us to license disputed rightsfrom others or require us to cease marketing or using certain products ortechnologies. We may not be able to obtain any licenses on terms acceptable tous, or at all. We also may have to indemnify certain customers or strategicpartners if it is determined that we have infringed upon or misappropriatedanother party's intellectual property. Any of these results could adverselyaffect on our business, financial condition and results of operations. Inaddition, the cost of addressing any intellectual property litigation claim,both in legal fees and expenses, and the diversion of management resources,regardless of whether the claim is valid, could be significant and couldseriously harm our business, financial condition and results of operations. We Are Controlled by Certain of Our Officers and Directors. As of June 21,2002, our officers and directors beneficially owned approximately 24% of thetotal combined voting power of the outstanding shares of our Class A commonstock and Class B common stock. As a result of their stock ownership, ourmanagement will be able to significantly influence the election of our directorsand the outcome of corporate actions requiring stockholder approval, such asmergers and acquisitions, regardless of how our other stockholders may vote.This concentration of voting control may have a significant effect in delaying,deferring or preventing a change in our management or change in control and mayadversely affect the voting or other rights of other holders of common stock. Our Stock Structure and Certain Anti-Takeover Provisions May Affect thePrice of Our Common Stock. Certain provisions of our certificate ofincorporation and our stockholder rights plan could make it difficult for athird party to acquire us, even though an acquisition might be beneficial to ourstockholders. These provisions could limit the price that investors might bewilling to pay in the future for shares of our common stock. Our Class A commonstock entitles the holder to one-tenth of one vote per share and our Class Bcommon stock entitles the holder to one vote per share. The disparity in thevoting rights between our common stock, as well as our insiders' significantownership of the Class B common stock, could discourage a proxy contest or makeit more difficult for a third party to effect a change in our management andcontrol. In addition, our Board of Directors is authorized to issue, withoutstockholder approval, up to 2,000,000 shares of preferred stock with voting,conversion and other rights and preferences superior to those of our commonstock, as well as additional shares of Class B common stock. Our future issuanceof preferred stock or Class B common stock could be used to discourage anunsolicited acquisition proposal. In March 1998, we adopted a stockholder rights plan and declared a dividendof preferred stock purchase rights to our stockholders. In the event a thirdparty acquires more than 15% of the outstanding voting control of our company or15% of our outstanding common stock, the holders of these rights will be able topurchase the junior participating preferred stock at a substantial discount offof the then current market price. The exercise of these rights and purchase of asignificant amount of stock at below market prices could cause substantialdilution to a particular acquiror and discourage the acquiror from pursuing ourcompany. The mere existence of a stockholder rights plan often delays or makes amerger, tender offer or proxy contest more difficult. We Do Not Pay Cash Dividends. We have never paid cash dividends on ourcommon stock and do not anticipate paying any cash dividends on either class ofour common stock in the foreseeable future. We May Be Subject to Additional Risks. The risks and uncertaintiesdescribed above are not the only ones facing our company. Additional risks anduncertainties not presently known to us or that we currently deem immaterial mayalso adversely affect our business operations.ITEM 2. PROPERTIES. Our headquarters and principal operations are located in SouthernCalifornia. In 1984, we purchased and renovated a two building complexcontaining approximately 257,900 square feet situated on approximately 14 acreslocated at 1515 and 1585 South Manchester Boulevard in Anaheim, California. Ourfacilities house our corporate and administrative offices (approximately 43,600dedicated square feet), as well as the operations of MAXxess and Broadcast,(approximately 35,000 dedicated square feet), Zyfer (approximately 56,300dedicated square feet), and Iteris (approximately 30,000 dedicated square feet). 14 In May 2002, we completed the sale and leaseback of our Anaheim Facilitiesfor an aggregate sales price of $22.6 million. We entered into a 30-month leasefor 1585 South Manchester for a monthly rental payment of $57,553, and a tenyear lease for 1515 South Manchester for a monthly rental payment of $152,150.We intend to consolidate our operations to within approximately 140,000 squarefeet and sublease the remaining space in Anaheim to other tenants. Broadcast leases approximately 7,400 square feet in Austin, Texas primarilyfor service, sales support, and engineering. Iteris leases 8 office suitesrepresenting an aggregate of approximately 20,000 square feet within the UnitedStates for its support staff and development teams. We currently operate a single shift in each of our manufacturing andassembly facilities, and we believe that our facilities are adequate for ourneeds for at least the next twelve months.ITEM 3. LEGAL PROCEEDINGS. We are not currently a party to any material legal proceedings.ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. No matters were submitted to a vote of our security holders during thethree months ended March 31, 2002. 15 PART IIITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. Since April 22, 2002, our Class A common stock and Class B common stock hasbeen listed on the Nasdaq SmallCap Market under the symbols "ODETA" and "ODETB,"respectively. Prior to that, our Class A common stock and Class B common stockwere listed on the Nasdaq National Market. The following table sets forth forthe fiscal periods indicated the high and low sales prices for the Class Acommon stock and Class B common stock as reported by the Nasdaq SmallCap Market: Class A Class B Common Stock Common Stock ------------ ------------ High Low High Low ---- --- ---- --- Fiscal Year Ended March 31, 2001 First Quarter ......................................... $15.25 $ 7.88 $15.00 $10.00 Second Quarter ........................................ 17.94 13.00 17.63 13.50 Third Quarter ......................................... 17.00 5.53 17.00 5.63 Fourth Quarter ........................................ 8.00 2.94 8.25 3.00Fiscal Year Ended March 31, 2002 First Quarter ......................................... 4.50 2.19 4.59 3.13 Second Quarter ........................................ 2.49 1.38 3.80 1.76 Third Quarter ......................................... 1.97 1.13 2.59 1.41 Fourth Quarter ........................................ 1.92 1.44 3.29 1.82Fiscal Year Ending March 31, 2002 First Quarter (through June 27, 2002) ................. 1.67 1.32 2.30 1.85 As of June 27, 2002, we had 508 holders of record of Class A common stockand 113 holders of record of Class B common stock according to informationfurnished by our transfer agent.Dividend Policy We have never paid or declared cash dividends on either class of our commonstock, and have no current plans to pay such dividends in the foreseeablefuture. We currently intend to retain any earnings for working capital andgeneral corporate purposes. The payment of any future dividends will be at thediscretion of our Board of Directors, and will depend upon a number of factors,including, but not limited to, future earnings, the success of our business,activities, our capital requirements, our general financial condition and futureprospects, general business conditions, the consent of our lender and such otherfactors as the Board may deem relevant.Recent Sales of Unregistered Securities During the quarter ended March 31, 2002, we did not sell or issue anyunregistered securities. 16ITEM 6. SELECTED FINANCIAL DATA. The following selected consolidated financial data with respect to ourconsolidated statement of operations for each of the five fiscal years in theperiod ended March 31, 2002 and the consolidated balance sheet data at March 31,1998, 1999, 2000, 2001 and 2002 are derived from our audited consolidatedfinancial statements. The consolidated statements of operation data for thefiscal years ended March 31, 1998 and 1999 and the consolidated balance sheetdata at March 31, 1998, 1999 and 2000 are not included in the consolidatedfinancial statements included elsewhere in this report. The followinginformation should be read in conjunction with "Management's Discussion andAnalysis of Financial Condition and Results of Operations" and with ourconsolidated financial statements and the related notes thereto includedelsewhere in this report. Fiscal Year Ended March 31, -------------------------------------------------------- 1998 1999 2000 2001 2002 -------- -------- -------- -------- -------- (in thousands, except per share data) Consolidated Statement of Operations Data:Net sales .................................................... $ 77,373 $ 64,805 $ 59,949 $ 56,119 $ 36,642Contract revenues ............................................ 10,284 13,331 18,666 20,039 22,846 -------- -------- -------- -------- --------Total net sales and contract revenues ........................ 87,657 78,136 78,615 76,158 59,488Cost of sales ................................................ 53,663 46,939 49,147 44,869 22,245Cost of contract revenues .................................... 6,430 9,007 13,431 13,781 13,132Gross profit--net sales ...................................... 23,710 17,866 10,802 11,250 14,397Gross profit--contract revenues .............................. 3,854 4,324 5,235 6,258 9,714Total gross profit ........................................... 27,564 22,190 16,037 17,508 24,111Selling, general and administrative expenses ................. 25,052 29,872 35,938 35,398 24,570Research and development expenses ............................ 8,631 9,980 12,978 13,753 8,115In process research and development .......................... 2,106 -- -- -- --Special charge ............................................... 1,716 -- -- 6,285 2,189 -------- -------- -------- -------- --------Loss from operations ......................................... (9,941) (17,662) (32,879) (37,928) (10,763)Non-operating income (expense): Royalty/other income ..................................... -- -- 38,437 19,055 2,864 Interest expense, net ..................................... (617) (1,807) (2,048) (1,762) (4,190) -------- -------- -------- -------- --------Income (loss) before taxes ................................... (10,558) (19,469) 3,510 (20,635) (12,089)Income taxes (benefit) ....................................... (2,858) -- -- -- (785)Minority interest in earnings of subsidiary .................. -- -- -- -- 1,910 -------- -------- -------- -------- --------Income (loss) from continuing operations ..................... (7,700) (19,469) 3,510 (20,635) (13,214)Income (loss) from discontinued operations, net of income tax ................................................ 1,106 (649) (5,789) (11,905) (12,924)Extraordinary loss from early extinguishment of debt, net .............................................. -- -- -- -- (450) -------- -------- -------- -------- --------Net loss .................................................... . $ (6,594) $(20,118) $ (2,279) $(32,540) $(26,588) ======== ======== ======== ======== ========Diluted earnings (loss) per share: Continuing operations ..................................... $ (1.11) $ (2.49) $ 0.37 $ (2.07) $ (1.17) Discontinued operations ................................... 0.16 (0.08) (0.61) (1.19) (1.15) Extraordinary loss from the extinguishment of debt ........ -- -- -- -- (0.04) -------- -------- -------- -------- -------- Loss per share ............................................ $ (0.95) $ (2.57) $ (0.24) $ (3.26) $ (2.36) ======== ======== ======== ======== ========Shares used in calculating diluted earnings (loss) per share . 6,912 7,820 9,444 9,977 11,267 ======== ======== ======== ======== ======== At March 31, -------------------------------------------------------- 1998 1999 2000 2001 2002 ---- ---- ---- ---- ----Consolidated Balance Sheet Data:Working capital (deficit) ................................... $ 22,076 $ 18,045 $ 15,763 $ (5,785) $ (9,327)Total assets ................................................ 88,760 81,355 81,850 68,061 52,238Long-term debt (less current portion) ....................... 21,000 19,962 11,666 4,800 2,042Accumulated deficit ......................................... (3,795) (23,913) (26,192) (58,732) (85,320)Total stockholders' equity .................................. 38,580 36,323 36,110 20,378 5,255 17ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.General We define our business segments as ITS, video products and telecomproducts. The ITS segment consists of our majority-owned subsidiary, Iteris,Inc. The video products segment includes our wholly-owned subsidiaries,Broadcast, Inc. and MAXxess Systems, Inc. (previously known as GyyrIncorporated). The telecom products segment consists of Zyfer, Inc., ourwholly-owned subsidiary (formerly known as our Communications division). InApril 2001, Gyyr separated its operations into two divisions, the Gyyr CCTVProducts division, which manufactures analog and digital storage solutions, andthe Gyyr Electronic Access Control division, which manufactures enterprisesecurity management systems. In September 2001, we sold substantially all of theassets and certain liabilities of the Gyyr CCTV Products division. In connectionwith the sale, we changed the name of Gyyr to MAXxess Systems, Inc. to reflectthe focus of the business on electronic access control systems. All references to our subsidiaries in this report include the priorbusiness and results of operations of such subsidiaries as our business unitsprior to their incorporation. During the quarter ended December 31, 2000, we began a restructuring toreduce our overall expenses and to focus our business on those areas that webelieve would provide the highest return for stockholder capital. Thisrestructuring resulted in a 25% reduction in our workforce in the fiscal yearended March 31, 2001 and the discontinuation of certain product lines. Therestructuring efforts in fiscal 2001 also resulted in restructuring charges ofapproximately $6.3 million for severance costs and the write down of certainassets. In September 2001, in connection with continued cost control efforts andthe slowdown in the telecommunications industry, our Board of Directors approvedthe immediate discontinuation of Mariner Networks, Inc., our wholly ownedsubsidiary. Mariner had previously been included within our telecom productssegment. The aggregate losses recognized to exit the Mariner operations wereapproximately $8.4 million and are included in the loss from discontinuedoperations in the consolidated statements of operations in the fiscal year endedMarch 31, 2002. As a result of the sale of the Gyyr CCTV Products division and thediscontinuation of Mariner Networks, we reorganized our European operations andreduced our corporate staff. The reorganization of the European operationsincluded the discontinuation of our Odetics Europe Ltd., Gyyr Europe Ltd.,Mariner France and Mariner Europe Ltd. operations, and the transition of ourBroadcast and MAXxess international operations to branch office operations withthe intent of lowering our international costs. Related to the actions inEurope, we incurred severance and other costs totaling $1.4 million in thefiscal year ended March 31, 2002.Critical Accounting Policies And Estimates Management's Discussion and Analysis of Financial Condition and Results ofOperations is based on our consolidated financial statements included herein,which have been prepared in accordance with accounting principles generallyaccepted in the United States. The preparation of these financial statementsrequires management to make estimates and assumptions that affect the reportedamounts of assets and liabilities and related disclosure of contingent assetsand liabilities at the date of the financial statements and the reported amountsof revenues and expenses during the reporting period. On an ongoing basis, weevaluate these estimates and assumptions, including those related to thecollectibility of accounts receivables, the valuation of inventories, therecoverability of long-lived assets, including goodwill, and reserves forrestructuring and related activities. We base these estimates on historicalexperience and on various other factors which we believe to be reasonable underthe circumstances, the results of which form the basis for making judgmentsabout the carrying values of assets and liabilities that are not readilyapparent from other sources. These estimates and assumptions by their natureinvolve risks and uncertainties, and may prove to be inaccurate. In the eventthat any of our estimates or assumptions are inaccurate in any material respect,it could have a material adverse effect on our reported amounts of assets andliabilities at the date of the financial statements and the reported amounts ofrevenues and expenses during the reporting period. 18 The following critical accounting policies affect our more significantjudgments and estimates used in the preparation of our consolidated financialstatements. Revenue Recognition. We record product revenues and related cost of saleson the date of shipment or, if required, upon acceptance by the customer,provided that we believe collectibility of the net sales amount is probable.Accordingly, at the date revenue is recognized, the significant uncertaintiesconcerning the sale have been resolved. Unless otherwise stated in our productliterature, we provide a one to two year warranty on all product material andworkmanship, and establish reserves for potential warranty returns as productsare shipped. Defective products will be either repaired or replaced, at ouroption, upon meeting certain criteria. Contract revenue is derived primarily from long-term contracts withgovernmental agencies. Contract revenue includes costs incurred plus a portionof estimated fees or profits determined on the percentage of completion methodof accounting based on the relationship of costs incurred to total estimatedcosts. We record a charge to earnings for any anticipated losses on contracts inthe period in which such losses are identified. Changes in job performance andestimated profitability, including those arising from contract penaltyprovisions and final contract settlements, may result in revisions to cost andrevenue and are recognized in the period in which the revisions are determined.We include in revenue profit incentives in the period in which their realizationis reasonably assured. We sell certain products that include software which is integral to thefunctionality of the product. When such products do not require significantproduction, modification or customization of the software, we recognize revenueis upon delivery, assuming the fee is fixed and collectibility is probable. Ifan arrangement requires significant production, modification or customization ofthe software, we account for the arrangement on the percentage of completionmethod of accounting as costs are incurred. We record revenues from follow-on service and support, for which we chargeseparately, in the period in which such services are performed. We recordrevenues from computer software maintenance agreements ratably over the term ofthe agreements. When computer software maintenance is included in a softwarelicense agreement, we defer an appropriate portion of the license fee andrecognize it over the maintenance period. Accounts Receivable. We estimate the collectibility of customer receivableson an ongoing basis by periodically reviewing balances outstanding over acertain period of time. We have recorded reserves for receivables deemed to beat risk for collection as well as a general reserve based on our historicalexperience. A considerable amount of judgment is required in assessing theultimate realization of these receivables, including the currentcredit-worthiness of each customer. If the financial condition of our customersdeteriorates, resulting in an impairment of their ability to make requiredpayments, additional allowances may be required which could adversely affect ouroperating results. Inventory. We state our inventories at the lower of cost or market andprovide reserves for potentially excess and obsolete inventory. In assessing theultimate realization of inventories, we make judgments as to future demandrequirements and compare that with the current or committed inventory levels.Reserves are established for inventory levels that exceed future demand. It ispossible that reserves over and above those already established may be requiredin the future if market conditions for our products should deteriorate. Impairment of Assets and Restructuring. We assess the impairment ofgoodwill and other identifiable intangibles whenever events or changes incircumstances indicate that the carrying value may not be recoverable. Thedetermination of related estimated useful lives and whether or not these assetsare impaired involves significant judgments, related primarily to the futureprofitability and/or future value of the assets. Changes in our strategic planand/or market conditions could significantly impact these judgments and requireadjustments to recorded asset balances. In 2001, the FASB issued Statement No. 142, Goodwill and Other IntangibleAssets ("Statement 142"), which we adopted on April 1, 2002. Under Statement142, goodwill will be subject to annual impairment tests based upon a comparisonof the fair value of each of our reporting units, as defined, and the carryingvalue of the reporting units' net assets, including goodwill. Pursuant toStatement 142, we are currently testing our goodwill for impairment, and areunable at this time to estimate the amount of the impairment charge, if any,that may be required. 19 During fiscal 2002, we recorded reserves in connection with thediscontinuance of out Mariner Networks subsidiary, the sale of the assets of ourGyyr CCTV Products division and the restructuring of our European operations.These reserves include estimates pertaining to employee separation costs andfacility closure costs. Although we do not anticipate significant changes, theactual costs to settle such liabilities may differ from the amounts estimated.Results of Operations The following table sets forth certain income statement data as apercentage of total net sales and contract revenues for the periods indicatedand should be read in conjunction with Management's Discussion and Analysis ofFinancial Condition and Results of Operations. As of March 31, --------------- 2000 2001 2002 ---- ---- ---- Net sales ............................................................... 76.3% 73.7% 61.6%Contract revenues ....................................................... 23.7 26.3 38.4 ------ ------ -------Total net sales and contract revenues ................................... 100.0% 100.0% 100.0%Gross profit--net sales ................................................. 18.0 20.0 39.3Gross profit--contract revenues ......................................... 28.0 31.2 42.5Selling, general and administrative expense ............................. 45.7 46.5 41.3Research and development expense ........................................ 16.5 18.1 13.6Special charge .......................................................... -- 8.3 3.7 ------ ------ -------Loss from operations .................................................... (41.8) (49.8) (18.1)Non-operating income (expense): Royalty/other income ............................................... 48.9 25.0 4.8 Interest expense, net .............................................. (2.6) (2.3) (7.0)Income taxes (benefit) .................................................. -- -- (1.3)Minority interest in earnings of subsidiary ............................. -- -- 3.2Income and (loss) from discontinued operations, net of income taxes ..... (7.4) (15.6) (21.7)Extraordinary loss from early extinguishment of debt .................... -- -- (0.8) ------ ------ -------Net loss ................................................................ (2.9)% (42.7)% (44.7)% ====== ====== ======= Net Sales and Contract Revenues. Net sales and contract revenues consist of(i) sales of products and services to commercial and municipal agencies ("netsales") and (ii) revenues derived from contracts with state, county andmunicipal agencies for ITS projects ("contract revenues"). Contract revenuesalso include revenue from contracts with agencies of the United Statesgovernment and foreign entities for space-borne recorders. Total net sales andcontract revenues decreased 21.9% to $59.5 million for the fiscal year endedMarch 31, 2002 ("fiscal 2002") compared to $76.2 million for the fiscal yearended March 31, 2001 ("fiscal 2001"), and decreased 3.1% for the fiscal yearended March 31, 2001 compared to $78.6 million for the fiscal year ended March31, 2000 ("fiscal 2000"). Net Sales. Net sales decreased 34.7% to $36.6 million in fiscal 2002compared to $56.1 million in fiscal 2001. The majority of the decrease in netsales in fiscal 2002 compared to fiscal 2001 was attributable to our sale of theGyyr CCTV Products division ("CCTV") late in the second quarter of fiscal 2002.CCTV product sales in fiscal 2002 include sales only through the date of thedivestiture. CCTV product sales comprised $26.4 million and $8.3 million of netsales in fiscal 2001 and fiscal 2002, respectively. The Company also experienceddecreased sales in Broadcast, Zyfer and MAXxess, which were offset by increasedsales of Iteris products in fiscal 2002 compared to fiscal 2001. Iteris salesgrowth reflects increased unit sales of Vantage video detection systems andAutoVue lane departure warning systems. In the third quarter of fiscal 2001,Broadcast determined it would not pursue continued sales opportunities for itsRoswell facility management system and shifted the focus of its business tosales of its AIRO Automation systems. The average selling price of an AIROsystem is lower than that of Broadcast's tape library products that comprised asignificant portion of its net sales in the prior fiscal year. The decrease inBroadcast net sales largely reflects sales of a more focused, software centricproduct line in fiscal 2002 compared to fiscal 2001. The decrease in Zyfer salesin fiscal 2002 primarily reflects its transition to selling its new line ofCommSynch II products that address specialized communications applications, andthe decline in revenue derived from LGIC, a significant Korean-based customer.The decrease in MAXxess net sales primarily reflects the decrease in sales to amajor telecommunications customer in fiscal 2002 compared to fiscal 2001. 20 Net sales decreased 6.4% to $56.1 million in fiscal 2001 compared to $59.9million in fiscal 2000 as a result of declining sales in Broadcast and MAXxess,offset in part by increased sales in Iteris and Zyfer. Broadcast sales decreased20.1% in fiscal 2001 compared to fiscal 2000 as a result of declining unit salesof its automated tape libraries. In the third quarter of fiscal 2001, Broadcastdetermined it would not pursue continued sales opportunities for its Roswellfacility management system and shifted the focus of its business on sales of itsAIRO Automation Systems. MAXxess' sales decreased 10.8% in fiscal 2001 comparedto fiscal 2000 due principally to the decline in sales of analog basedtime-lapse recorder product families. During the first quarter of fiscal 2001,MAXxess' divested its Vortex Dome and Quarterback Controller product lines aspart of a broader strategy to narrow its product offering to digital and analogrecording and access control systems. Iteris' product sales increased 37% infiscal 2001, primarily due to increased unit sales of its Vantage videodetection products. Contract Revenues. Contract revenues increased 14.0% to $22.8 million infiscal 2002 compared to $20.0 million in fiscal 2001, and increased 7.4%compared to $18.7 million in fiscal 2000. The increase in contract revenues inboth fiscal 2002 and fiscal 2001 reflects an increase in Iteris' contractrevenues for ITS projects. Contract revenues derived from Iteris represented 88.4% of total contractrevenues in fiscal 2002 compared to 87.0% of total contract revenues in fiscal2001, and 83.5% of total contract revenues in fiscal 2000. The increase inIteris' contract revenues in both fiscal 2002 and fiscal 2001 was offset in partby continued declines in contract revenues derived from the sale of space-bornerecorders and related service and equipment to agencies of the United StatesGovernment. Gross Profit. Total gross profit increased 37.7% to $24.1 million in fiscal2002 compared to $17.5 million in fiscal 2001, and increased 9.2% in fiscal 2001compared to $16.0 million in fiscal 2000. Total gross profit as a percent of netsales and contract revenues increased to 40.1% in fiscal 2002 compared to 23.0%in fiscal 2001 and 20.4% in fiscal 2000. Gross profit as a percentage of netsales increased to 39.3% in fiscal 2002 compared to 20.0% in fiscal 2001 and18.0% in fiscal 2000. Gross profit in fiscal 2001 was net of charges of $3.1million for the write-off of inventories associated with discontinued productlines. Before the effect of these write-offs, gross profit as percent net salesin fiscal 2001 was 25.6%. The increase in gross profit in fiscal 2002 compared to fiscal 2001primarily reflects increased gross margin on net sales in Iteris and Broadcast.Broadcast experienced an improved gross margin as a result of its focus on thesale of higher margin AIRO Automation Systems, and fewer sales of automated tapelibraries, which historically had low gross profits relative to sales. Iteris'gross profits improved in fiscal 2002 primarily as a result of a 53.5% increasein Vantage sales and related improved manufacturing efficiencies. The increasein gross profit in fiscal 2002 also reflects the benefit of the divestiture ofthe Gyyr CCTV Product line, which had historically low gross margins relative tonet sales in fiscal 2001. The increase in gross profit as a percent of net sales in fiscal 2001reflects increased gross profit on sales of Iteris Vantage products, whichcomprised 17.5% of net sales in fiscal 2001 compared to 11.7% of net sales infiscal 2000. The improvement in Vantage gross profits was offset in part bypricing concessions given to certain customers in our Broadcast business, whichnegatively impacted the gross profit performance in fiscal 2000. During fiscal2000, gross profit on net sales was also impaired due to our adjustments toinventory reserves and capitalized software related to certain discontinuedproducts and product options in Broadcast and MAXxess. Gross profit as a percent of contract revenues increased to 57.5% in fiscal2002 compared to 31.2% in fiscal 2001, and compared to 28.0% in fiscal 2000. Theincrease in gross profit on contract revenues in fiscal 2002 principallyreflects adjustments to loss reserves on certain long term contracts in Iterisresulting from changes in the scope of work defined by a major customer. Theincrease in gross profit on contract revenues in fiscal 2001 primarily reflectsimproved gross profit performance in both Iteris and Zyfer. We recognizecontract revenues and related gross profit using percentage of completioncontract accounting, and the underlying mix of contract activity primarilyaffects the related gross profit recognized in any given year. Selling, General and Administrative Expense. Selling, general andadministrative expense decreased 30.6% to $24.6 million (or 41.3% of total netsales and contract revenues) in fiscal 2002 compared to $35.4 million (or 46.5%of total net sales and contract revenues) in fiscal 2001, and decreased 1.5% infiscal 2001 compared to $35.9 million (or 45.7% of total net sales and contractrevenues) in fiscal 2000. The restructuring activities, which commenced duringthe third quarter of fiscal 2001, resulted in substantial decreases in selling,general and administrative 21expense in Broadcast, MAXxess and Iteris in fiscal 2002. The expense reductionsin the current fiscal year that are associated with the restructuring wereaugmented by further cost reductions associated with the divestiture of the GyyrCCTV Product line in September 2001. The decrease in selling, general and administrative expenses in fiscal 2001reflects increased expenses in Iteris, offset by decreased expenses in MAXxessand Broadcast. During fiscal 2001, Iteris experienced increased general andadministrative expense related to the build-up of its administrativeinfrastructure to support its planned initial public offering and spin-off fromOdetics, originally planned for the first quarter of fiscal 2001. As a result ofthe aborted public offering and spin-off, general and administrative expense infiscal 2001 included a charge of approximately $360,000 related to the write-offof deferred public offering costs. The increase in Iteris was offset bydecreased expenditures in MAXxess and Broadcast, realized as part of costreductions included in our restructuring activities. Research and Development Expense. Research and development expensedecreased 41.0% to $8.1 million (or 13.6% of total net sales and contractrevenues) in fiscal 2002 compared $13.8 million (or 18.1% of total net sales andcontract revenues) in fiscal 2001, and increased 6.0% in fiscal 2001 compared to$13.0 million (or 16.5% of total net sales and contract revenues) in fiscal2000. For competitive reasons, we closely guard the confidentiality of specificdevelopment projects. The decrease in research and development expense in fiscal2002 reflects the full fiscal year cost benefit of the restructuring, which wasbegun in the fourth quarter of fiscal 2001. The restructuring resulted insubstantial decreases in research and development expenditures, primarily in theareas of payroll and related benefits, prototype material cost and consultingfees. Reductions in research and development expenses in fiscal 2002 were alsoassociated with the divestiture of the Gyyr CCTV Product line at the end of thesecond quarter of fiscal 2002. The increase in research and development expense in fiscal 2001 reflectsincreased spending primarily by Iteris, partially offset by reductions inspending by Gyyr and Broadcast. The increase in Iteris research and developmentexpense largely represents expenditures to support its development initiativesfor its Personalized Traveler Information Systems and, to a lesser extent,continued development of its AutoVue product offering. As part of cost reductioninitiatives completed in the third quarter of fiscal 2001, Iteris substantiallyreduced spending to support development of its Personalized Traveler InformationSystems. The reductions in research and development expense in MAXxess andBroadcast reflect the result of our overall expense reduction efforts. Special Charge. The special charge of $2.2 million in fiscal 2002 reflectsapproximately $700,000 in severance charges incurred upon the retirement of theformer Chief Executive Officer of Odetics, and charges of $1.5 million relatedto the reorganization of our European operations. The reorganization of Europeanoperations included the discontinuation of our Odetics Europe Ltd., Gyyr EuropeLtd., Mariner France and Mariner Europe Ltd. operations, and the transition ofour Broadcast and MAXxess international operations to branch office operationswith the intent of lowering our international costs. In fiscal 2001, we incurred restructuring charges of $6.3 million.Approximately $1.3 million of the charges related to severance payments forstaffing reductions, and the remainder represents non-cash charges for assetwrite-downs and reserves established in connection with the discontinuation ofcertain product lines. Royalty Income. During fiscal 2000 and 2001, in connection with thesettlement of patent litigation filed that Odetics filed against StorageTek, wereceived proceeds, net of expenses and fees, of approximately $38.4 million and$17.8 million respectively in full settlement of the amounts due us. Interest Expense, Net. Interest expense, net reflects the net of interestexpense and interest income as follows: Year Ended March 31, ----------------------------------- 2000 2001 2002 --------- --------- --------- Interest expense ................. $2,313 $2,012 $4,190 Interest income .................. 265 250 -- ------ ------ ------ Interest expense, net ............ $2,048 $1,762 $4,190 Interest expense increased 108.3% in fiscal 2002 compared to fiscal 2001and decreased 13.0% in fiscal 2001 compared to fiscal 2000. The increase ininterest expense in fiscal 2002 reflects an increase in our average outstandingborrowings, an increase in our cost of borrowing and $1.2 million ofamortization of debt discount associated with a warrant issued in connectionwith certain of our financing transactions. Interest income in fiscal 2000 andfiscal 2001 and 22the decline in interest expense from 2000 to fiscal 2001 is primarily related tointerest earned on invested cash received from our settlement with StorageTek. Extraordinary Item. The extraordinary loss incurred in fiscal 2002 relatesto a prepayment penalty on the retirement of our mortgage note payable resultingfrom the refinancing of our Anaheim real property. Income Taxes. During fiscal 2002, we recognized an income tax benefit of$785,000 for the recovery of net operating loss carrybacks made available underthe Job Creation and Workers Association Act of 2002. We have not providedincome tax benefit for the losses incurred in fiscal 2000 and fiscal 2001 due tothe uncertainty as to the ultimate realization of the related benefit.Liquidity and Capital Resources As of March 31, 2002, we had cash and cash equivalents of $408,000. Duringfiscal 2002, we used $18.2 million of cash to fund our operations, whichreflects our net loss of $26.6 million reduced by non-cash charges of $8.4million related to asset impairment write-downs and reserves for costs to exitMariner Networks, $3.8 million for depreciation and amortization, and $1.6million of losses incurred from the sale of common stock of our majority ownedsubsidiary, Iteris, Inc. Significant financing and investing activities duringfiscal 2002 are discussed below. In April 2001, we concluded the sale of our Vortex Dome and QuarterbackController product lines for approximately $1.1 million in net cash proceedsresulting in a $0.1 million gain. The proceeds were used to reduce outstandingborrowings due on our bank line of credit. In May 2001, we received $16.0 million pursuant to a promissory notesecured by a first trust deed on our principal facilities in Anaheim, Californiawhich bore interest at 10% per annum. This promissory note was paid in full atits scheduled maturity date on May 29, 2002. In connection with this note, weissued warrants to the lender to purchase 426,667 shares of our Class A commonstock at an exercise price of $4.00 per share. In connection with a forbearanceagreement negotiated in November 2001, we repriced the exercise price of thesewarrants to $3.00 per share. We allocated approximately $1.3 million of the loanproceeds to the warrant, and will accrete that amount to interest expense overthe term of the loan. Of the $16.0 million proceeds received from this note, we usedapproximately $6.0 million to retire the pre-existing first trust deed on ourAnaheim real property, which included a prepayment penalty of $450,000. Thisprepayment penalty is reflected as an extraordinary item in the accompanyingconsolidated statement of operations. We also used approximately $5.9 million ofthe proceeds to repay all outstanding borrowings under our bank line of credit,which was then terminated. We used the balance of the proceeds from thisfinancing, after payment of the related expenses, for general working capitalpurposes. In August 2001, Iteris issued 1,781,268 shares of its Series A preferredstock to one institutional investor for a purchase price of $5.0 million incash. In addition, Iteris issued 1,343,645 shares of its Series A preferredstock and 547,893 shares of its common stock in exchange for $500,000 in cashand the retirement of its $3.75 million subordinated convertible promissorynote, which Iteris entered into in January 2000, plus related accrued interestof $400,000. In August and December 2001, Odetics sold 1,539,241 shares ofIteris common stock that Odetics owned for proceeds of 3.8 million to a group ofinvestors, which included certain members of management of Odetics and Iteris.As a result of this transaction, we realized a loss of $0.6 million. At December31, 2001, Odetics owned 78.2% of the outstanding common stock of Iteris or 62.7%as calculated for the preferred stock conversion equivalent. In August 2001, Iteris entered into a loan and security agreement whichprovided for a line of credit with maximum borrowings of $5.0 million. The lineof credit bears interest at prime plus 2% (6.75% at March 31, 2002) and maturesin August 2004. At March 31, 2002, $0.8 million was outstanding under the lineof credit and $3.3 million was available for future borrowing. In September 2001, we completed the sale of substantially all of the assetsof our Gyyr CCTV Products division for $8.8 million in cash, plus the assumptionof $1.0 million in debt. In connection with this transaction, we recorded anon-operating gain of $2.5 million in the three months ended September 30, 2001.We used the proceeds from the transaction to retire the remaining obligationsdue under our previous bank 23line of credit, which has now expired, and to fund severance obligations and forother general working capital requirements. In September 2001, we discontinued the operations of our wholly-ownedsubsidiary, Mariner Networks Inc. The aggregate losses recognized to exit theMariner operations were approximately $8.4 million, and are included in the lossfrom discontinued operations in our consolidated statements of operations forfiscal 2002. In February 2002, we entered into a $1.25 million line of credit with apartnership controlled by the Chairman of our Board of Directors. The line ofcredit bears interest at prime plus 4% (8.75% at March 31, 2002) and matures inJuly 2003. At March 31, 2002, $1.25 million was outstanding under this line ofcredit. In May 2002, we completed the sale and leaseback of our Anaheim, Californiafacilities for an aggregate sale price of $22.6 million. Approximately $16.4million of the proceeds from this sale were used to repay the outstandingindebtedness under the 2001 promissory note which was secured by a first deed oftrust on our Anaheim facilities. The balance of the proceeds from this sale willbe used for general working capital purposes. The Company's contractual obligations are as follows at March 31, 2002 Payments Due by Period (in thousands) ------------------------------------------------------------------- 1 year After Total or less 2-3 years 4-5 years 5 years ----- ------- --------- --------- ------- Note payable ..................... 16,000 16,000 - - - Lines of credit .................. 2,017 - 2,017 - - Capital lease obligations ........ 402 377 25 - - Operating leases.................. 545 327 218 - - ------ ------ ----- ----- ---- Total ...................... 18,964 16,704 2,260 - - ====== ====== ===== ===== ==== The $16.0 million note payable was paid in full in May 2002, upon thecompletion of the sale and leaseback of our Anaheim facility. Under the terms ofthe lease, we committed to lease one of the two buildings on the property for aperiod of ten years, and to lease the other building for a period of 30 months.Minimum lease payments under the terms of these leases over the next five years,and thereafter are as follows: 2003: $2.1 million; 2004: $2.5 million; 2005:$2.3 million; 2006: $1.8 million; 2007: $1.8 million; and thereafter: $9.4million. We expect that our operations will continue to use net cash at leastthrough the first half of fiscal 2003. We also expect to have an ongoing need toraise cash by securing additional debt or equity financing, or by divestingcertain assets to fund our operations until we return to profitability andpositive operating cash flows. However we cannot be certain that we will be ableto secure additional debt or equity financing or divest of certain assets onterms acceptable to us, or at all. Our future cash requirements will be highlydependent upon our ability to control expenses, as well as the successfulexecution of the revenue plans by each of our business units. As a result, anyprojections of future cash requirements and cash flows are subject tosubstantial uncertainty. These conditions, together with our recurring operating losses, raisesubstantial doubt about our ability to continue as a going concern. Ourconsolidated financial statements do not include any adjustments to reflect thepossible future effects on the recoverability and classification of assets orliabilities that may result from the outcome of this uncertainty.Recent Accounting Pronouncements In August 2001, the Financial Accounting Standards Board (FASB) issuedStatement of Financial Accounting Standards No.144, "Accounting for theImpairment or Disposal of Long-Lived Assets" (SFAS 144). The Statementsupersedes FASB Statement No. 121, Accounting for the Impairment of Long-LivedAssets and for Long-Lived Assets to be Disposed Of, however it retains thefundamental provisions of that statement related to the recognition andmeasurement of the impairment of long-lived assets to be "held and used." SFAS144 also supersedes the accounting and reporting provisions of AccountingPrinciples Board Opinion No. 30, Reporting the Results of Operation's--Reportingthe Effects of Disposal of a Segment of a Business, and Extraordinary, Unusualand Infrequently Occurring Events and Transactions (APB 30), for the disposal ofa segment of a business. Under SFAS 24144 a component of a business that is held for sale is reported in discontinuedoperations if (i) the operations and cash flows will be, or have been,eliminated from the on-going operations of the company and, (ii) the companywill not have any significant continuing involvement in such operations. In thequarter ended September 30, 2001, we adopted the provisions of SFAS 144effective April 1, 2001. In 2001, the FASB issued Statement No. 141, Business Combinations ("SFAS141"), and No. 142, Goodwill and Other Intangible Assets ("SFAS 142"), which weadopted on April 1, 2002. Under the new rules, goodwill and intangible assetsdeemed to have indefinite lives will no longer be amortized but, instead, willbe subject to annual impairment tests. Other intangible assets will continue tobe amortized over their useful lives. We will apply the new rules on accountingfor goodwill and other intangible assets beginning in the first quarter offiscal 2003. At March 31, 2002, we had goodwill of approximately $9.8 million.Pursuant to Statement 142, we are currently testing our goodwill for impairmentand are unable at this time to estimate the amount of the impairment charge, ifany, that may be required. On a pro forma basis, application of the non-amortization provision of SFAS141 would have reduced our net loss in the years ended March 31, 2000, 2001 and2002 as follows: Year ended March 31(in thousands) 2000 2001 2002 --------------------------------------- Pro forma net loss $(592) $(30,616) $(25,072) 25ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK. Our exposure to interest rate risk is limited to our lines of credit.Iteris' and Odetics' lines of credit bear interest at the prevailing prime rate,plus 2% and 4%, respectively. Our $16.0 million note payable, prior to itsrepaymentin May 2002, carried a fixed rate of interest. We estimate that, basedon amounts outstanding at March 31, 2002, a 10% increase in the prime rate wouldresult in an increase in interest expense, on an annualized basis, of less than$0.1 million.ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. The financial statements and supplementary data required by Regulation S-Xare included in this Form 10-K commencing on page F-1.ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. Not applicable. 26 PART IIIITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANTDirectors and Executive Officers (a) Indemnification of Directors. The information under the caption"Election of Directors" appearing in our proxy statement, is incorporated hereinby reference. (b) Identification of Executive Officers. The information under the caption"Executive Compensation and Other Information" appearing in our proxy statement,is incorporated herein by reference. (c) Compliance with Section 16(a) of the Exchange Act. The informationunder the caption "Executive Compensation and Other Information" appearing inour proxy statement, is incorporated herein by reference.ITEM 11. EXECUTIVE COMPENSATION The information under the caption "Executive Compensation and OtherInformation" appearing in our proxy statement, is incorporated herein byreference.ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS As of March 31, 2002, Odetics had only one plan, the 1997 Stock IncentivePlan, pursuant to which equity securities of Odetics are authorized forissuance. The following table sets forth certain information regarding thisplan: (a) (b) (c) Number of Securities Number of Securities Remaining Available to be Issued Weighted Average under Equity Compensation Upon Exercise of Exercise Price of Plans (excluding someEquity Compensation Plans Outstanding Options, Outstanding Options, securities reflectedApproved by Security Holders Warrants and Rights Warrants and Rights in column (a))---------------------------- -------------------- -------------------- ------------------------- 1997 Stock Incentive Plan.... 328,655 8.37 1,322,195Equity Compensation Plans NotApproved by Security Holders---------------------------- None......................... - - -Total.......................... The information under the caption "Principal Stockholders and Common StockOwnership of Certain Beneficial Owners and Management," appearing in our proxystatement, is incorporated herein by reference.ITEM 13. CERTAIN TRANSACTIONS The information under the caption "Certain Transactions," appearing in ourproxy statement, is incorporated herein by reference. PART IVITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K. (a) Documents filed as part of this report: 1. Financial Statements. The following financial statements of Odetics areincluded in a separate section of this Annual Report on Form 10-K commencing onthe pages referenced below: Page ---- Report of Independent Auditors ....................................................................... F-2 Consolidated Balance Sheets as of March 31, 2001 and 2002 ............................................ F-3 Consolidated Statements of Operations for the years ended March 31, 2000, 2001 and 2002 .............. F-4 Consolidated Statements of Stockholders' Equity for the years ended March 31, 2000, 2001 and 2002 ........................................................................................... F-5 Consolidated Statements of Cash Flows for the years ended March 31, 2000, 2001 and 2002 .............. F-6 Notes to Consolidated Financial Statements ........................................................... F-7 2. Financial Statement Schedules. Schedule II-- Valuation and Qualifying Accounts ...................................................... S-1 27 All other schedules have been omitted because they are not required or therequired information is included in our consolidated financial statements andnotes thereto. 3. (a) Exhibits. 3.1 Certificate of Incorporation of Odetics, as amended (incorporated by reference to Exhibit 19.2 to Odetics' Quarterly Report on Form 10-Q for the quarter ended September 30, 1987). 3.2 Bylaws of Odetics, as amended (incorporated by reference to Exhibit 4.2 to Odetics' Registration Statement on Form S-1 (Reg. No. 033-67932) as filed with the SEC on July 6, 1993). 4.1 Specimen of Class A common stock and Class B common stock certificates (incorporated by reference to Exhibit 4.3 to Amendment No. 1 to Odetics' Registration Statement on Form S-1 (Reg. No. 033-67932) as filed with the SEC on September 30, 1993). 4.2 Form of rights certificate for Odetics' preferred stock purchase rights (incorporated by reference to Exhibit A of Exhibit 4 to Odetics' Current Report on Form 8-K as filed with the SEC on May 1, 1998). 10.1 Profit Sharing Plan and Trust (incorporated by reference to Exhibit 10.3 to Odetics' Amendment No. 2 to the Registration Statement on Form S-8 (Reg. No. 002-98656) as filed with the SEC on May 5, 1988). 10.2 Form of Executive Deferral Plan between Odetics and certain employees of Odetics (incorporated by reference to Exhibit 10.4 to Odetics' Annual Report on Form 10-K for the year ended March 31, 1988). 10.3 Form of Indemnity Agreement entered into by Odetics and certain of its officers and directors (incorporated by reference to Exhibit 19.4 to Odetics' Quarterly Report on Form 10-Q for the quarter ended September 30, 1988). 10.4 Amendment Nos. 3 and 4 to the Profit Sharing Plan and Trust (incorporated by reference to Exhibits 4.3.1 and 4.3.2, respectively, to Amendment No. 3 to Odetics' Registration Statement on Form S-3 (Reg. No. 002-86220) as filed with the SEC on June 13, 1990). 10.5 1997 Stock Incentive Plan of Odetics (incorporated by reference to Exhibit 99.1 to Odetics' Registration Statement on Form S-8 (File No. 333-30396) as filed with the SEC on February 14, 2000). 10.6 Form of Notice of Grant of Stock Option (incorporated by reference to Exhibit 99.2 to Odetics' Registration Statement on Form S-8 (File No. 333-30396) as filed with the SEC on February 14, 2000) 10.7 Form of Stock Option Agreement (incorporated by reference to Exhibit 99.3 to Odetics' Registration Statement on Form S-8 (File No. 333-30396) as filed with the SEC on February 14, 2000). 10.8 Form of Addendum to Stock Option Agreement--Involuntary Termination Following Corporate Transaction or Change in Control (incorporated by reference to Exhibit 99.4 to Odetics' Registration Statement on Form S-8 (File No. 333-30396) as filed with the SEC on February 14, 2000). 10.9 Form of Addendum to Stock Option Agreement--Limited Stock Appreciation Rights (incorporated by reference to Exhibit 99.5 to Odetics' Registration Statement on Form S-8 (File No. 333-30396) as filed with the SEC on February 14, 2000). 10.10 Form of Stock Issuance Agreement (incorporated by reference to Exhibit 99.6 to Odetics' Registration Statement on Form S-8 (File No. 333-30396) as filed with the SEC on February 14, 2000) 28 10.11 Form of Addendum to Stock Issuance Agreement--Involuntary Termination Following Corporate Transaction/Change in Control (incorporated by reference to Exhibit 99.7 to Odetics' Registration Statement on Form S-8 (File No. 333-30396) as filed with the SEC on February 14, 2000). 10.12 Form of Notice of Grant of Automatic Stock Option--Initial Grant filed as Exhibit 99.8 filed as Exhibit (incorporated by reference to Exhibit 99.8 to Odetics' Registration Statement on Form S-8 (File No. 333-30396) as filed with the SEC on February 14, 2000). 10.13 Form of Notice of Grant of Automatic Stock Option--Annual Grant (incorporated by reference to Exhibit 99.9 to Odetics' Registration Statement on Form S-8 (File No. 333-30396) as filed with the SEC on February 14, 2000). 10.14 Form of Automatic Stock Option Agreement filed as Exhibit 99.10 to the (incorporated by reference to Exhibit 99.10 to Odetics' Registration Statement on Form S-8 (File No. 333-30396) as filed with the SEC on February 19, 2000). 10.15 Rights Agreement dated April 24, 1998 between Odetics and BankBoston, N.A., which includes the form of Certificate of Designation for the junior participating preferred stock as Exhibit A, the form of rights certificate as Exhibit B and the summary of rights to purchase Series A preferred shares as Exhibit C (incorporated by reference to Exhibit 4 to Odetics' Current Report on Form 8-K as filed with the SEC on May 1, 1998). 10.16 1994 Long-Term Equity Plan of Odetics (incorporated by reference to Exhibit 4.3 to Odetics' Registration Statement on Form S-8 (File No. 333-05735) as filed with the SEC on June 11, 1996). 10.17 Subordinated Convertible Note Purchase Agreement dated January 25, 2000 between Iteris, Inc. and DaimlerChrysler GmbH (incorporated by reference to Exhibit 10.31 to Odetics' Annual Report on Form 10-K as filed with the SEC on June 29, 2000). 10.18 Subordinated Convertible Note dated January 25, 2000 between Iteris, Inc. and DaimlerChrysler GmbH (incorporated by reference to Exhibit 10.32 to Odetics' Annual Report on Form 10-K as filed with the SEC on June 29, 2000). 10.19 Amendment to Rights Agreement, dated May 21, 2001, by and between Odetics and Fleet National Bank (a.k.a. Bank Boston, N.A.) (incorporated by reference to Exhibit 99.4 to Odetics' Current Report on Form 8-K as filed with the SEC on June 1, 2001). 10.20 Amended and Restated Agreement of Purchase and Sale and Escrow Instructions, dated February 19, 2002, by and between Odetics, Inc. and 1515 South Manchester, LLC (incorporated by reference to Exhibit 2.1 to Odetics' Current Report on Form 8-K as filed with the SEC on June 12, 2002). 21 Subsidiaries of Odetics. 23.1 Consent of Independent Auditors. (b) Reports on Form 8-K On June 12, 2002, we filed a Current Report on Form 8-K to announce thesale and lease back of our headquarters and principal operating facilities inAnaheim, California. 29 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the SecuritiesExchange Act of 1934, the Registrant has duly caused this Report to be signed onits behalf by the undersigned, thereunto duly authorized, in the City ofAnaheim, State of California, on June 28, 2002. ODETICS, INC. By: /s/ GREGORY A. MINER -------------------------------- Gregory A. Miner, Chief Executive Officer and Chief Financial Officer POWER OF ATTORNEY We, the undersigned officers and directors of Odetics, Inc., do herebyconstitute and appoint Gary Smith and Gregory A. Miner, and each of them, ourtrue and lawful attorneys-in-fact and agents, each with full power ofsubstitution and resubstitution, for him and in his name, place and stead, inany and all capacities, to sign any and all amendments to this report, and tofile the same, with exhibits thereto, and other documents in connectiontherewith, with the Securities and Exchange Commission, granting unto saidattorneys-in-fact and agents, and each of them, full power and authority to doand perform each and every act and thing requisite or necessary to be done inand about the premises, as fully to all intents and purposes as he might orcould do in person, hereby, ratifying and confirming all that each of saidattorneys-in-fact and agents, or his substitute or substitutes, may lawfully door cause to be done by virtue hereof. Pursuant to the requirements of the Securities Exchange Act of 1934, thisreport has been signed below by the following persons in the capacities and onthe dates indicated: Signature Title Date --------- ----- ---- /s/ GREGORY A. MINER Director, Chief Executive Officer June 28, 2002 -------------------- Gregory A. Miner and Chief Financial Officer (principal executive officer and principal financial officer) /s/ JOEL SLUTZKY Chairman of the Board June 28, 2002 ----------------- Joel Slutzky /s/ KEVIN C. DALY Director June 28, 2002 ------------------ Kevin C. Daly, Ph.D /s/ CRANDALL GUDMUNDSON Director June 28, 2002 ----------------------- Crandall Gudmundson /s/ JERRY MUENCH Director June 28, 2002 ---------------- Jerry Muench 30 Signature Title Date --------- ----- ---- /s/ JOHN SEAZHOLTZ Director June 28, 2002 ------------------- John Seazholtz /s/ GARY SMITH Vice President and Controller June 28, 2002 --------------- Gary Smith (principal accounting officer) /s/ THOMAS L. THOMAS Director June 28, 2002 -------------------- Thomas L. Thomas /s/ PAUL E. WRIGHT Director June 28, 2002 ------------------- Paul E. Wright 31 Odetics, Inc. Index to Consolidated Financial Statements Page Report of Independent Auditors ..................................................................... F-2Consolidated Balance Sheets as of March 31, 2001 and 2002 .......................................... F-3Consolidated Statements of Operations for the years ended March 31, 2000, 2001 and 2002 .................................................................. F-5Consolidated Statements of Stockholders' Equity for the years ended March 31, 2000, 2001 and 2002 .................................................................. F-6Consolidated Statements of Cash Flows for the years ended March 31, 2000, 2001 and 2002 .................................................................. F-7Notes to Consolidated Financial Statements ......................................................... F-8 F-1 Report of Independent AuditorsStockholders and Board of DirectorsOdetics, Inc.We have audited the accompanying consolidated balance sheets of Odetics, Inc. asof March 31, 2001 and 2002, and the related consolidated statements ofoperations, stockholders' equity, and cash flows for each of the three years inthe period ended March 31, 2002. Our audits also included the financialstatement schedule listed in Item 14(a). These financial statements and scheduleare the responsibility of the Company's management. Our responsibility is toexpress an opinion on these financial statements based on our audits.We conducted our audits in accordance with auditing standards generally acceptedin the United States. Those standards require that we plan and perform the auditto obtain reasonable assurance about whether the financial statements are freeof material misstatement. An audit includes examining, on a test basis, evidencesupporting the amounts and disclosures in the financial statements. An auditalso includes assessing the accounting principles used and significant estimatesmade by management, as well as evaluating the overall financial statementpresentation. We believe that our audits provide a reasonable basis for ouropinion.In our opinion, the consolidated financial statements referred to above presentfairly, in all material respects, the consolidated financial position ofOdetics, Inc. at March 31, 2001 and 2002, and the consolidated results of itsoperations and its cash flows for each of the three years in the period endedMarch 31, 2002, in conformity with accounting principles generally accepted inthe United States. Also, in our opinion, the related financial statementschedule, when considered in relation to the basic financial statements taken asa whole, presents fairly in all material respects the information set forththerein.The accompanying consolidated financial statements have been prepared assumingthe Company will continue as a going concern. As discussed in Note 1 to theconsolidated financial statements, the Company's recurring losses fromoperations raise substantial doubt about its ability to continue as a goingconcern. Management's plans as to these matters are also described in Note 1.The consolidated financial statements do not include any adjustments that mightresult from the outcome of this uncertainty. /s/ Ernst & Young LLPOrange County, CaliforniaMay 22, 2002, except for Note 1,as to which the date is May 29, 2002 F-2 Odetics, Inc. Consolidated Balance Sheets (In thousands, except share and per share amounts) March 31 2001 2002 -------------------------- AssetsCurrent assets: Cash and cash equivalents $ 2,218 $ 408 Trade accounts receivable, net of allowance for doubtful accounts of $1,644 in 2001 and $381 in 2002 14,300 10,301 Costs and estimated earnings in excess of billings on uncompleted contracts 3,296 3,565 Inventories: Finished goods 1,611 1,034 Work in process 51 103 Materials and supplies 8,991 7,275 Prepaid expenses and other 992 1,830 Assets of discontinued operations 5,639 205 --------------------------Total current assets 37,098 24,721Property, plant and equipment: Land 2,060 2,060 Buildings and improvements 18,982 19,014 Equipment 30,897 26,993 Furniture and fixtures 2,643 1,094 Allowances for depreciation (34,405) (31,441) -------------------------- 20,177 17,720Goodwill, net of accumulated amortization of $4,217 in 2001 and $4,553 in 2002 10,622 9,769Other assets 164 28 --------------------------Total assets $ 68,061 $ 52,238 ========================== F-3 Odetics, Inc. Consolidated Balance Sheets (continued) (In thousands, except share and per share amounts) March 31 2001 2002 ------------------------ Liabilities and stockholders' equityCurrent liabilities: Trade accounts payable $ 8,954 $ 6,611 Accrued payroll and related 4,255 5,295 Accrued expenses 2,352 1,373 Contract reserve 2,290 600 Billings in excess of costs and estimated earnings on uncompleted contracts 2,575 2,236 Revolving line of credit 13,471 - Line of credit with related party - - Liabilities of discontinued operations 1,996 1,800 Current portion of long-term debt 6,990 16,133 ------------------------Total current liabilities 42,883 34,048Revolving line of credit - 2,017Long-term debt, less current portion 4,800 25Minority interest - 10,893Commitments (Note 13)Stockholders' equity: Preferred stock: Authorized shares - 2,000,000 Issued and outstanding - none - - Common stock, $.10 par value: Authorized shares - 50,000,000 of Class A and 2,600,000 of Class B Issued and outstanding shares - 9,468,620 of Class A and 1,035,841 of Class B at March 31, 2001; 11,490,530 of Class A and 1,035,841 of Class B at March 31, 2002 1,050 1,252 Paid-in capital 78,548 89,134 Treasury stock, 93 and 93 shares in 2001 and 2002, respectively (1) (1) Notes receivable from employees (51) (51) Accumulated other comprehensive income (436) 241 Accumulated deficit (58,732) (85,320) ------------------------Total stockholders' equity 20,378 5,255 ------------------------Total liabilities and stockholders' equity $ 68,061 $ 52,238 ========================See accompanying notes. F-4 Odetics, Inc. Consolidated Statements of Operations (In thousands, except per share information) Year ended March 31 2000 2001 2002 ------------------------------------------- Net sales and contract revenues: Net sales $ 59,949 $ 56,119 $ 36,642 Contract revenues 18,666 20,039 22,846 ------------------------------------------- 78,615 76,158 59,488Costs and expenses: Cost of sales 49,147 44,869 22,245 Cost of contract revenues 13,431 13,781 13,132 Selling, general and administrative expenses 35,938 35,398 24,570 Research and development expenses 12,978 13,753 8,115 Special charge - 6,285 2,189 ------------------------------------------- 114,494 114,086 70,251 -------------------------------------------Loss from operations (32,879) (37,928) (10,763)Non-operating income (expense) Royalty income 38,437 17,825 - Other income (loss), net - 1,230 2,864 Interest expense, net (2,048) (1,762) (4,190) -------------------------------------------Income (loss) before income tax 3,510 (20,635) (12,089)Income tax benefit - - 785 -------------------------------------------Income (loss) from continuing operations before 3,510 (20,635) (11,304) minority interestMinority interest in earnings of subsidiary - - (1,910) -------------------------------------------Income (loss) from continuing operation 3,510 (20,635) (13,214)Loss from discontinued operations, including loss on disposal of $8,361 in 2002, net of taxes of $0 (5,789) (11,905) (12,924)Extraordinary loss from early extinguishment of debt, net of tax of $0 - - (450) -------------------------------------------Net loss $ (2,279) $ (32,540) $ (26,588) ===========================================Basic earnings (loss) per share Continuing operations $ 0.39 $ (2.07) $ (1.17) Discontinued operations (0.64) (1.19) (1.15) Extraordinary items - - (0.04) -------------------------------------------Net loss $ (0.25) $ (3.26) $ (2.36) ===========================================Diluted earnings (loss) per share Continuing operations $ 0.37 $ (2.07) $ (1.17) Discontinued operations (0.61) (1.19) (1.15) Extraordinary items - - (0.04) -------------------------------------------Net loss $ (0.24) $ (3.26) $ (2.36) ===========================================Shares used in computing basic earnings (loss) per share 9,089 9,977 11,267 ===========================================Shares used in computing diluted earnings (loss) per share 9,444 9,977 11,267 ===========================================See accompanying notes. F-5 Odetics, Inc. Consolidated Statements of Stockholders' Equity (In thousands) Common stock --------------------------------- Shares outstanding ---------------------- Notes Accumulative Class A Class B receivable other common common Paid-in Treasury from comprehensive stock stock Amount capital stock employees income ------------------------------------------------------------------------------------ Balance at March 31, 1999 7,941 1,060 $ 901 $ 59,579 $(240) $ (96) $ 92 Issuances of common stock 234 - 22 1,621 218 - - Conversion of Class B common stock 8 (8) - - - - - Payments on notes receivable - - - - - 35 - Foreign currency translation adjustments - - - - - - 170 Net loss - - - - - - - ------------------------------------------------------------------------------------Balance at March 31, 2000 8,183 1,052 923 61,200 (22) (61) 262 Issuances of common stock 1,270 - 127 17,348 21 - - Conversion of Class B common stock 16 (16) - - - - - Payments on notes receivable - - - - - 10 - Foreign currency translation adjustments - - - - - - (698) Net loss - - - - - - - ------------------------------------------------------------------------------------Balance at March 31, 2001 9,469 1,036 1,050 78,548 (1) (51) (436) Issuances of Odetics common stock 2,022 - 202 3,716 - - - Issuance of Iteris common stock - - - 5,513 - - - Issuance of warrant - - - 1,357 - - - Foreign currency translation adjustments - - - - - - 677 Net loss - - - - - - - ------------------------------------------------------------------------------------Balance at March 31, 2002 11,491 1,036 $ 1,252 $ 89,134 $ (1) $ (51) $ 241 ==================================================================================== Accumulated Comprehensive deficit Total income --------------------------------------- Balance at March 31, 1999 $ (23,913) $ 36,323 Issuances of common stock - 1,861 Conversion of Class B common stock - - Payments on notes receivable - 35 Foreign currency translation adjustments - 170 $ 170 Net loss (2,279) (2,279) (2,279) ---------------------------------------Balance at March 31, 2000 (26,192) 36,110 $ (2,109) ============== Issuances of common stock - 17,496 Conversion of Class B common stock - - Payments on notes receivable - 10 Foreign currency translation adjustments - (698) $ (698) Net loss (32,540) (32,540) (32,540) ---------------------------------------Balance at March 31, 2001 (58,732) 20,378 $ (33,238) ============== Issuances of Odetics common stock - 3,918 Issuance of Iteris common stock - 5,513 Issuance of warrant - 1,357 Foreign currency translation adjustments - 677 $ 677 Net loss (26,588) (26,588) (26,588) ---------------------------------------Balance at March 31, 2002 $ (85,320) $ 5,255 $ (25,911) ======================================= See accompanying notes. F-6 Odetics, Inc. Consolidated Statements of Cash Flows (In thousands) Year ended March 31 2000 2001 2002 ------------------------------------------- Operating activitiesNet loss $ (2,279) $ (32,540) $ (26,588)Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization 7,185 4,967 3,776 Amortization of warrants - - 1,230 Write-off of discontinued subsidiary - - 8,361 Minority interest in earnings of subsidiary - - 1,910 Loss on sale of Iteris common stock - - 1,597 Loss on disposal of assets - - 48 Write-off of capitalized software - 4,014 - Gain on sale of product lines - (1,230) (3,385) Provision for losses on accounts receivable 745 78 102 Changes in operating assets and liabilities (Note 15) 1,179 4,621 (5,284) -------------------------------------------Net cash provided by (used in) operating activities 6,830 (20,090) (18,233)Investing activitiesPurchases of property, plant and equipment, net (2,169) (2,502) (426)Repurchase of real estate option - (5,000) -Proceeds from sale of product lines - 1,877 9,884Proceeds from option to sell real estate 5,000 - -Software development costs (330) - -Purchase of net assets of acquired business (1,500) (42) (200)Other 213 (688) 677 -------------------------------------------Net cash provided by (used in) investing activities 1,214 (6,355) 9,935Financing activitiesProceeds from line of credit and long-term borrowings 23,966 26,644 28,720Principal payments on line of credit, long-term debt, and capital lease obligations (29,528) (19,857) (30,929)Proceeds from sale of Iteris common and preferred stock - - 8,697Proceeds from issuance of common stock 1,611 16,996 - -------------------------------------------Net cash provided by (used in) financing activities (3,951) 23,783 6,488 -------------------------------------------Increase (decrease) in cash 4,093 (2,662) (1,810)Cash and cash equivalents at beginning of year 787 4,880 2,218 -------------------------------------------Cash and cash equivalents at end of year $ 4,880 $ 2,218 $ 408 ===========================================See accompanying notes. F-7 Odetics, Inc. and Subsidiary Notes to Consolidated Financial Statements March 31,20021. Formation and OperationsOdetics, Inc. (the Company) serves as a developer of technology orientedcompanies, each with its own marketplace, customers and products, including theCompany's wholly-owned subsidiaries MAXxess Systems Inc., formerly known as GyyrIncorporated (MAXxess), Broadcast, Inc. (Broadcast), Mariner Networks, Inc.(Mariner), Zyfer, Inc. (Zyfer), Odetics Europe Limited, Odetics GYYR Limited,Odetics Mariner Limited, Odetics Asia Pacific Pte. Ltd) and its majority-ownedsubsidiary, Iteris, Inc. (Iteris).During fiscal 2002 and 2001, the Company experienced operating losses of $10.8million and $37.9 million, respectively, and at March 31, 2002 has a workingcapital deficiency of $9.3 million. The Company financed its operations infiscal 2001 and 2002 largely through cash received from the settlement ofcertain litigation with StorageTek (Note 16), debt and equity financings andthrough the sale of assets of certain of its subsidiaries.On May 28, 2002, the Company completed the sale and leaseback of its Anaheim,California facility for an aggregate sale price of $22.6 million. Under theterms of the sale and leaseback agreement, the Company will continue to leaseone of the two buildings located on the property for an initial ten-year periodat a rate of $152,150 per month and the other building for a period of 30 monthsat a rate of approximately $57,553 per month. Approximately $16.4 million of theproceeds from the sale was used to repay the outstanding indebtedness, andaccrued interest under a promissory note that was secured by a first deed oftrust on the Anaheim facility (Note 7). The balance of the proceeds is availablefor general working capital purposes. The gain on the sale of the facility ofapproximately $8.2 million will be deferred and amortized against rent expensesover the term of the leases. Notwithstanding the sale and leaseback transaction, the Company expectsthat its operations will continue to use net cash at least through the firsthalf of fiscal 2003. The Company also expects to have an ongoing need to raisecash by securing additional debt or equity financing, or by divesting certainassets to fund its operations until they return to profitability and positiveoperating cash flow. However, the Company cannot be certain that it will be ableto secure an additional debt or equity financing, or divest of certain assets onterms acceptable to us, or at all. The Company's future cash requirements willbe highly dependent on its ability to control expenses as well as the successfulexecution of the revenue plans by each of its businesses. As a result, anyprojections of future cash requirements and cash flows are subject tosubstantial uncertainty. F-8 Odetics, Inc. Notes to Consolidated Financial Statements1. Formation and Operations (continued)These conditions, together with the Company's recurring operating losses, raisesubstantial doubt about the Company's ability to continue as a going concern.The accompanying consolidated financial statements do not include anyadjustments to reflect the possible future effects on the recoverability andclassification of assets or liabilities that may result from the outcome of thisuncertainty.2. Summary of Significant Accounting PoliciesPrinciples of ConsolidationThe accompanying consolidated financial statements include the accounts of theCompany and its subsidiaries. All significant intercompany accounts andtransactions have been eliminated in consolidation.Use of EstimatesThe preparation of financial statements in conformity with generally acceptedaccounting principles requires management to make estimates and assumptions thataffect the amounts reported in the financial statements and accompanying notes.Actual results could differ from those estimates. Significant estimates made inpreparing the consolidated financial statements include the allowances fordoubtful accounts and deferred tax assets, inventory reserves, certain accruedliabilities, costs to complete long-term contracts and estimates of future cashflows used to determine the recoverability of long lived assets.Revenue RecognitionProduct revenues and related cost of sales are recognized on the date ofshipment or, if required, upon acceptance by the customer, provided that theCompany believes collectibility of the net sales amount is probable.Accordingly, at the date revenue is recognized, the significant uncertaintiesconcerning the sale have been resolved.Contract revenues is derived primarily from long-term contracts withgovernmental agencies. Contract revenue includes costs incurred plus a portionof estimated fees or profits determined on the percentage of completion methodof accounting based on the relationship of costs incurred to total estimatedcosts. Any anticipated losses on contracts are charged to earnings whenidentified. Changes in job performance and estimated profitability, includingthose arising from contract penalty provisions and final contract settlementsmay result in revisions to cost and revenue and are recognized in the period inwhich the revisions are determined. Profit incentives are included in revenuewhen their realization is reasonably assured. F-9 Odetics, Inc. Notes to Consolidated Financial Statements2. Summary of Significant Accounting Policies (continued)Revenue Recognition (continued)Certain products sold by the Company include software which is integral to thefunctionality of the product. When such products do not require significantproduction, modification or customization of the software, revenue is recognizedupon delivery, assuming the fee is fixed and collectibility is probable. If anarrangement requires significant production, modification or customization ofthe software, the arrangement is accounted for on the percentage of completionmethod of accounting as costs are incurred.Revenues from follow-on service and support, for which the Company chargesseparately, are recognized when earned. Revenues from computer softwaremaintenance agreements are recognized ratably over the term of the agreements.When computer software maintenance is included in a software license agreement,an appropriate portion of the license fee is deferred and recognized over themaintenance period.Cash and Cash EquivalentsCash and cash equivalents consist of cash and short-term investments withmaturities of less than ninety days.Concentration of Credit RiskThe Company performs periodic credit evaluations of its customers' financialcondition and generally does not require collateral. Credit losses have beenwithin management's expectations and within amounts provided through theallowances for doubtful accounts. At March 31, 2001 and 2002, accountsreceivable from governmental agencies and prime government contractors wereapproximately $3,719,000 and $4,774,000, respectively.Fair Values of Financial InstrumentsFair values of cash and cash equivalents, and the current portion of long-termdebt approximate the carrying value because of the short period of time tomaturity. The fair value of long-term debt approximates carrying value becausethe related rates of interest approximate current market rates and has variablerates of interest. F-10 Odetics, Inc. Notes to Consolidated Financial Statements2. Summary of Accounting Policies (continued)Inventory ValuationInventories are stated at the lower of cost or market. Cost is determined on thefirst-in, first-out method.Property, Plant and EquipmentProperty, plant and equipment are recorded at cost. Buildings are depreciatedusing the straight-line method over their estimated useful lives up to a periodof forty years. Equipment, furniture and fixtures are depreciated principally bythe declining balance method over their estimated useful lives ranging from fourto eight years. Depreciation expense for the years ended March 31, 2000, 2001and 2002 was $3.7 million, $1.9 million and $2.3 million, respectively.Long-Lived AssetsLong-lived assets and certain identifiable intangibles held and used by theCompany are reviewed for impairment whenever events or changes in circumstancesindicate that the carrying amount of an asset may not be recoverable. TheCompany believes no impairment of the carrying value of its long-lived assets,inclusive of goodwill, existed at March 31, 2002. The Company's analysis wasbased on an estimate of future undiscounted cash flows using forecasts containedin the Company strategic plan. It is at least reasonably possible that theCompany's estimate of future undiscounted cash flows may change during fiscal2003. If the Company's estimate of future undiscounted cash flow should changeor if the strategic plan is not achieved, future analyses may indicateinsufficient future undiscounted cash flows to recover the carrying value of theCompany's long-lived assets, in which case such assets would be written down toestimated fair value.GoodwillGoodwill, representing the excess of the purchase price over the fair value ofthe net assets of acquired entities, is being amortized using the straight-linemethod over an estimated useful lives of ten years. F-11 Odetics, Inc. Notes to Consolidated Financial Statements2. Summary of Accounting Policies (continued)Goodwill (continued)In 2001, the FASB issued Statements No. 141, Business Combinations (SFAS 141),and Statement No. 142, Goodwill and Other Intangible Assets (SFAS 142), whichthe Company adopted on April 1, 2002. Under the new rules, goodwill andintangible assets deemed to have indefinite lives will no longer be amortized,but, instead, will be subject to annual impairment tests. Other intangibleassets will continue to be amortized over their useful lives. The Company willapply the new rules on accounting for goodwill and other intangible assetsbeginning in the first quarter of fiscal 2003. Pursuant to Statement 142, theCompany is currently testing its goodwill for impairment and is unable at thistime to estimate the amount of the impairment charge, if any, that may berequired.On a pro forma basis, application of the non-amortization provision of SFAS 141would have resulted in a net loss in the years ended March 31, 2000, 2001 and2002 as follows: Year ended March 31(in thousands) 2000 2001 2002 --------------------------------------- Pro forma net loss $(592) $(30,616) $(25,072)Research and Development ExpendituresSoftware development costs incurred subsequent to determination of technicalfeasibility are capitalized. Amortization of capitalized software costs isprovided on a product-by-product basis at the greater of the amount computedusing (a) the ratio of current gross revenues for the product to the total ofcurrent and anticipated future gross revenues or (b) the straight-line methodover the remaining estimated economic life of the product. Amortization beginswhen product is available for general release to customers. Generally, anoriginal estimated economic life of two to five years is assigned to capitalizedsoftware development costs.During fiscal 2000, 2001 and 2002, software development costs were amortized tocost of sales totaling $1,515,000, $940,000 and $237,000, respectively. Duringfiscal 2002, the Company discontinued certain product lines, resulting in thewrite-off of $1.9 million of previously capitalized software development costs.All other research and development expenditures are charged to expense in theperiod incurred. F-12 Odetics, Inc. Notes to Consolidated Financial Statements2. Summary of Accounting Policies (continued)WarrantyThe Company provides a warranty of one to two years on all products and recordsa related provision for estimated warranty costs at the date of the sale.Foreign Currency Translation The balance sheet accounts of the Company's foreign based subsidiaries aretranslated at the current year-end exchange rate and income statement items aretranslated at the average exchange rate for the year. Resulting translationadjustments are made directly to a separate component of stockholders' equity.Gains and losses resulting from transactions of the Company and its subsidiarieswhich are made in currencies different from their own are immaterial and areincluded in income as they occur.Comprehensive IncomeThe only component of accumulated other comprehensive income is the cumulativeforeign currency translation adjustment recorded in stockholders' equity.Income TaxesDeferred income tax assets and liabilities are computed for differences betweenfinancial statement and tax basis of assets and liabilities based on enacted taxlaws and rates applicable to the period in which differences are expected toaffect taxable income. Valuation allowances are established when necessary toreduce deferred tax assets to amounts which are more likely than not to berealized. The provision for income taxes is the taxes payable or refundable forthe period plus or minus the change during the period in deferred income taxassets and liabilities.Earnings (Loss) Per ShareBasic and diluted earnings (loss) per share is computed using the weightedaverage number of shares of common stock outstanding during the year andexcludes the anti-dilutive effects of options. F-13 Odetics, Inc. Notes to Consolidated Financial Statements2. Summary of Accounting Policies (continued)Stock CompensationThe Company has elected to follow Accounting Principles Board Opinion No. 25,Accounting for Stock Issued to Employees (APB 25) and related Interpretations inaccounting for its employee stock options because the alternative fair valueaccounting provided for under Statement of Financial Accounting Standard No.123, Accounting for Stock-Based Compensation ("Statement 123"), requires use ofoption valuation models that were not developed for use in valuing employeestock options. Under APB 25, if the exercise price of the Company's employeestock options equals the market price of the underlying stock on the date ofgrant, no compensation expense is recognized.To calculate the pro forma information required by Statement 123, the Companyuses the Black-Scholes option pricing model. The Black-Scholes model wasdeveloped for use in estimating the fair value of traded options which have novesting restrictions and are fully transferable. In addition, option valuationmodels require the input of highly subjective assumptions including the expectedstock price volatility. Because the Company's employee stock options havecharacteristics significantly different from those of traded options, andbecause changes in the subjective input assumptions can materially affect thefair value estimate, in management's option, the existing models do notnecessarily provide a reliable single measure of the fair value of its employeestock options.In March 2000, the Financial Accounting Standards Board issued InterpretationNo. 44, Accounting for Certain Transactions Involving Stock Compensation - aninterpretation of APB Opinion No. 25 ("FIN 44"). FIN 44 clarifies the definitionof employee for purposes of applying Accounting Practice Board Opinion No. 25,Accounting for Stock Issued to Employees, the criteria for determining whether aplan qualifies as a noncompensatory plan, the accounting consequence of variousmodifications to the terms of a previously fixed stock option or award, and theaccounting for an exchange of stock compensation awards in a businesscombination. The adoption of FIN 44 did not have a material effect on theCompany's financial position or results of operations.Advertising ExpensesThe Company expenses advertising costs as incurred. Advertising expense totaled$2,488,000, $3,491,000 and $1,264,000 in the years ended March 31, 2000, 2001and 2002, respectively. F-14 Odetics, Inc. Notes to Consolidated Financial Statements2. Summary of Accounting Policies (continued)Derivative Instruments and Hedging ActivitiesIn June 1998 Statement of Financial Accounting Standard No. 133, Accounting forDerivative Instruments and Hedging Activities ("Statement 133"), was issued,which establishes new standards for recording derivatives in financialstatements. This statement requires recording all derivative instruments asassets or liabilities, measured at fair value. The Company adopted Statement133, as amended, on April 1, 2001. The adoption of Statement 133 did not have asignificant impact on the consolidated results of operations, financial positionor cash flows of the Company.Discontinued OperationsIn August of 2001, the Financial Accounting Standards Board (FASB) issuedStatement of Financial Accounting Standards No. 144, Accounting for theImpairment or Disposal of Long-Lived Assets (SFAS 144). The Statement supersedesFASB Statement No. 121, Accounting for the Impairment of Long-Lived Assets andfor Long-Lived Assets to be Disposed Of, however, it retains the fundamentalprovisions of that statement related to the recognition and measurement of theimpairment of long-lived assets to be "held and used." SFAS 144 also supersedesthe accounting and reporting provisions of Accounting Principles Board OpinionNo. 30, Reporting the Results of Operation's - Reporting the Effects of Disposalof a Segment of a Business, and Extraordinary, Unusual and InfrequentlyOccurring Events and Transactions (APB 30), for the disposal of a segment of abusiness. Under SFAS 144, a component of a business that is held for sale isreported in discontinued operations if (i) the operations and cash flows willbe, or have been, eliminated from the ongoing operations of the company and,(ii) the company will not have any significant continuing involvement in suchoperations. In the quarter ended September 30, 2001, the Company adopted theprovisions of SFAS 144 effective April 1, 2001.In September of 2001, the Company's Board of Directors approved a plan todiscontinue the operations of Mariner which was part of the Company's telecomproducts segment. The aggregate losses recognized to write down the assets ofMariner to their fair value less cost to sell were approximately $6.7 million.In addition, the Company accrued $1.7 million for severance and other directcosts to exit the operation. F-15 Odetics, Inc. Notes to Consolidated Financial Statements2. Summary of Accounting Policies (continued)Discontinued Operations (continued)The write-downs and costs are included in the loss from discontinued operationsin the year ending March 31, 2002. Mariner's results of operations for all priorperiods presented have been reclassified and presented as discontinuedoperations in the accompanying consolidated statement of operations. Interestexpense was not allocated to discontinued operations because the discontinuancedid not eliminate any of the Company's debt.The assets and liabilities of the discontinued operations consisted of thefollowing: 2001 2002 ----------------------- Accounts receivable, net $ 80 $ - Inventories 2,413 - Prepaid expenses and other assets 98 2 Property, plant and equipment, net 958 203 Capitalized software costs, net 2,090 - ----------------------- Total assets of discontinued operations $ 5,639 $ 205 ======================= Accounts payable $ 1,690 $ 1,258 Accrued expenses 306 542 ----------------------- Total liabilities of discontinued operations $ 1,996 $ 1,800 =======================ReclassificationsCertain amounts in the 2000 and 2001 consolidated financial statements have beenreclassified to conform with the 2002 presentation.3. Acquisitions and DispositionsIn October 1998, the Company, through Iteris, acquired Meyer, MohaddesAssociates, Inc., a provider of transportation, engineering and planningservices (MMA). Pursuant to the terms of the merger agreement, the Companypurchased all of the issued and outstanding shares of stock of MMA for $4.3million, by issuing 55,245 shares of the Company's Class A common stock valuedat $250,000 and 810,153 shares of Iteris, Inc.'s common stock. F-16 Odetics, Inc. Index to Consolidated Financial Statements3. Acquisitions and Dispositions (continued)The merger agreement provided for MMA shareholders to receive additional sharesof the Company's Class A common stock with a then market value of $250,000 ateach of April 16, 1999, October 16, 1999, April 16, 2000, October 16, 2000 andApril 16, 2001 in the event the Company did not consummate an initial publicoffering of the common stock of Iteris, Inc. by each and any of those dates.Pursuant to this provision, Odetics issued an additional 219,706 shares of itsClass A common stock to the MMA shareholders, which was recorded by the Companyas additional goodwill. In addition, as a result of Iteris' failure to completean initial public offering by October 2001, the MMA shareholder exercised theirrights under the agreement and required Odetics to exchange 1,107,301 shares ofOdetics' Class A common stock for 155,149 shares of Iteris common stock. Thistransaction resulted in additional goodwill of $2.5 million.During fiscal 2001, the Company sold certain assets of its solid state recordingproduct line of its Zyfer subsidiary for cash proceeds of $1.9 million. Inconnection with these sales the Company recorded gains aggregating $1.2 million.In April 2001, the Company sold its Vortex Dome and Quarterback Controllerproduct lines for approximately $1.1 million in net cash proceeds. In connectionwith this transaction, the Company realized a gain of $0.1 million.In September 2001, the Company sold substantially all of the assets of its GyyrCCTV Products divisions for $8.8 million in cash, plus the assumption of $1.0million in debt. In connection with this transaction, the Company wrote-offgoodwill with a net book value of $2.3 million and, net of this write-off,realized a gain of $4.3 million. F-17 Odetics, Inc. Index to Consolidated Financial Statements4. Special ChargeDuring fiscal 2001 and 2002, the Company approved a number of actions to reduceoperating expenses and improve profitability and cash flows. These actionsincluded a reduction in workforce of 222 and 130 employees in 2001 and 2002,respectively, and the discontinuance of certain product lines. As a result ofthese actions the company recorded the following as special charge (inthousands): Severance Write-off of Write-off Write-off and related capitalized of of deferred costs software goodwill costs Total ------------------------------------------------------------------- Special provision $ 1,305 $ 3,452 $ 562 $ 966 $ 6,285 Cash expenditures Non-cash activities (1,305) (3,452) (562) (966) (6,285) ------------------------------------------------------------------- Balance at March 31, 2001 - - - - - Special provision 2,189 - - - 2,189 Cash expenditures (858) - - - (858) ------------------------------------------------------------------- Balance at March 31, 2002 $ 1,331 $ - $ - $ - $ 1,331 ===================================================================In addition during fiscal 2001, the Company reserved or wrote-off inventory inthe amount of $3.1 million, primarily related to discontinued products in itsBroadcast and Gyyr subsidiaries. The charge is included in cost of sales in theaccompanying consolidated statement of operations.5. Real Estate OptionIn July 1999, the Company sold an option to an investment company controlled bycertain officers and shareholders of the Company, for an aggregate purchaseprice of $5.0 million to purchase certain real property of Odetics. In August2000 the Company repurchased the option for $5.6 million which represented theoriginal purchase price plus accrued interest. F-18 Odetics, Inc. Index to Consolidated Financial Statements6. Costs and Estimated Earnings on Uncompleted ContractsCosts incurred, estimated earnings and billings on uncompleted long-termcontracts are as follows: March 31 2001 2002 ------------------------------------ (In thousands) Costs incurred on uncompleted contracts $ 14,054 $ 17,998 Estimated earnings 1,054 1,355 ------------------------------------ 15,108 19,353 Less billings to date 14,387 18,024 ------------------------------------ $ 721 $ 1,329 ==================================== Included in accompanying balance sheets: Costs and estimated earnings in excess of billings on uncompleted contracts $ 3,296 $ 3,565 Billings in excess of costs and estimated earnings on uncompleted contracts 2,575 2,236 ------------------------------------ $ 721 $ 1,329 ====================================Costs and estimated earnings in excess of billings at March 31, 2001 and 2002include $232,575 and $136,114 respectively, that were not billable as certainmilestone objectives specified in the contracts had not been attained.Substantially all costs and estimated earnings in excess of billings at March31, 2002 are expected to be billed and collected during the year ending March31, 2003.7. Revolving Lines of Credit and Long-Term DebtIn February 2002, the Company entered into a $1.25 million line of credit with apartnership controlled by the Company's Chairman of the Board. The line ofcredit is collateralized by substantially all of the Company's assets other thanreal property. Borrowings on the line of credit bear interest at the prime rateplus 4% (8.75% at March 31, 2002) and matures in July 2003. F-19 Odetics, Inc Notes to Consolidated Financial Statements7. Revolving Lines of Credit and Long-Term Debt (continued)In August 2001, the Company through Iteris, entered into a loan and securityagreement with a maximum available credit line of $5 million. At March 31, 2002,$767,000 was outstanding under this line of credit and amounts available forfuture borrowing totalled $3,309,000. Under the terms of the agreement, theCompany may borrow against its eligible accounts receivable and the value of itseligible inventory, as defined. Interest on borrowed amounts is payable monthlyat the prime rate plus 2% (6.75% at March 31, 2002). Additionally, Iteris isobligated to pay an unused line fee of 0.5% per annum applied to the amount bywhich the maximum credit amount exceeds the average daily principal balanceduring the preceding month, and a monthly collateral management fee of $2,000.The agreement is secured by substantially all of Iteris' assets and expires inAugust 2004. Either party can terminate the agreement with thirty days writtennotice. Should Iteris elect to terminate the agreement, a one-time terminationfee of 3%, 2% and 1% of the maximum credit limit would apply in years 1 through3, respectively.In January 2000, the Company through Iteris, entered into a joint ventureagreement, pursuant to which Iteris obtained a Subordinated ConvertiblePromissory Note in the amount of $3.75 million. In July 2001, the note holderconverted the note and related accrued interest into common and preferred stockof Iteris (Note 11).In May 2001, the Company entered into a $16 million promissory note secured by afirst trust deed on its principle facilities in Anaheim, California which boreinterest at 10% per annum. The promissory note was paid in full at its scheduledmaturity date in May 2002 (Note 1). In connection with the note the Companyissued warrants to the lender to purchase 426,667 shares of Class A common stockat an exercise price of $4.00 per share. The Company repriced the warrants to$3.00 per share, in connection with a forbearance agreement negotiated inNovember of 2001. The issuance of the warrant represented a discount on the notetotaling $1,357,000, which is being amortized over the life of the note. AtMarch 31, 2002, $244,000 of the discount had not been amortized and is reflectedas a reduction of the outstanding note balance.Approximately $6.0 million of the proceeds of the promissory note was used toretire the pre-existing note payable on the Anaheim facility, which included aprepayment penalty of $450,000. This prepayment penalty is reflected as anextraordinary item in the accompanying consolidated statement of operations. F-20 Odetics, Inc Notes to Consolidated Financial Statements7. Revolving Lines of Credit and Long-Term Debt (continued)Long-term debt consisted of the following: March 31 2001 2002 ------------------------- (In thousands) Note payable, net of discount of $244,000 at March 31, 2002, paid in May 2002 $ - $ 15,756 Note payable, paid in May 2001 5,874 - Note payable, converted to common and preferred stock of Iteris in July 2001 3,750 - Note payable, assumed in September 2001 by the purchaser of the Gyyr CCTV Products division (Note 3) 1,000 - Notes payable, accruing interest at 7.55% to 17.08%, collateralized by equipment, payable in monthly installments through 2003 1,166 402 ------------------------- 11,790 16,158 Less current portion 6,990 16,133 ------------------------- $ 4,800 $ 25 =========================The annual maturities of long-term debt at March 31, 2002 are as follows: (In thousands) 2003 $ 16,133 2004 25 -------------- $ 16,158 ============== F-21 Odetics, Inc Notes to Consolidated Financial Statements8. Income Taxes During fiscal 2002, the Company recognized an income tax benefit of$785,000 related to the recovery of net operating loss carrybacks made availableunder the Job Creation and Workers Association Act of 2002. The reconciliation of the income tax benefit from continuing operations totaxes computed at U.S. federal statutory rates is as follows: Year ended March 31 2000 2001 2002 ------------------------------------------------------ (In thousands) Income tax expense (benefit) at statutory rates $ 1,193 $ (7,015) $ (4,111) Recognition of net operating losses - - (785) Increase (decrease) of valuation allowance associated with federal deferred tax assets (2,741) 4,304 2,169 Foreign losses recorded without benefit 1,258 2,255 1,489 Nondeductible goodwill amortization 191 153 176 Other 99 303 277 ------------------------------------------------------ $ - $ - $ (785) ======================================================United States and foreign loss from continuing operations before income taxesare as follows: Year ended March 31 2000 2001 2002 ------------------------------------------------------ (In thousands) Pretax income (loss): Domestic $ 4,488 $ (16,110) $ (7,709) Foreign (978) (4,525) (4,380) ------------------------------------------------------ $ 3,510 $ (20,635) $ (12,089) ====================================================== F-22 Odetics, Inc. Notes to Consolidated Financial Statements8. Income Taxes (continued)The components of deferred tax assets and liabilities are as follows: 2001 2002 ---------------------- (In thousands) Deferred tax assets: Inventory reserves $ 738 $ 716 Deferred compensation and other payroll accruals 1,074 1,192 Net operating loss carryforward 14,578 21,269 Credit carryforwards 2,051 1,503 Bad debt reserve and other reserves 1,300 357 Other, net 281 402 --------------------- Total deferred tax assets 20,022 25,439 Valuation allowance for deferred tax assets (17,378) (23,557) --------------------- Net deferred tax assets 2,644 1,882 --------------------- Deferred tax liabilities: Tax over book depreciation 1,990 1,416 Capitalized interest and taxes 434 420 Cash to accrual adjustment 174 - Other, net 46 46 --------------------- Total deferred tax liabilities 2,644 1,882 --------------------- Net deferred taxes $ - $ - =====================At March 31, 2002, for federal income tax purposes, the Company hadapproximately $1,430,000 in general business credit carryforwards, which expireat various dates beginning in 2003. The Company also has $49,746,000 of netoperating loss carryforwards for federal income tax purposes that begin toexpire in 2019. For financial reporting purposes, a valuation allowance has beenrecorded to offset the deferred tax asset related to these credits and netoperating losses. Any future benefits recognized from the reduction of thevaluation allowance related to these carryforwards will result in a reduction ofincome tax expense.In December 2001, the Company's ownership interest in Iteris fell below thethreshold required for the Company to file a consolidated tax return. As aresult, Iteris will no longer be included in the Odetics consolidated group forincome tax purposes, and instead will be required to file a separate tax return.At March 31, 2002, for federal income tax purposes, Iteris had approximately$3,200,000 of net operating loss carryforwards that begin to expire in 2021. F-23 Odetics, Inc. Notes to Consolidated Financial Statements8. Income Taxes (continued)Because of the "change of ownership" provision of the Tax Reform Act of 1986,utilization of the Company's net operating loss carryforwards may be subject toan annual limitation against taxable income in future periods. As a result ofthe annual limitation, a portion of these carryforwards may expire beforeultimately becoming available to reduce future income tax liabilities.9. Associate Incentive ProgramsUnder the terms of a Profit Sharing Plan, the Company contributes to a trustfund such amounts as are determined annually by the Board of Directors. Nocontributions were made in 2000, 2001 or 2002.In May 1990, the Company adopted a 401(k) Plan as an amendment and replacementof the former Associate Stock Purchase Plan that was an additional feature ofthe Profit Sharing Plan. Under the 401(k) Plan, eligible associates voluntarilycontribute to the plan up to 15% of their salary through payroll deductions. TheCompany matches 50% of contributions up to a stated limit. Under the provisionsof the 401(k) Plan, associates have four investment choices, one of which is thepurchase of Odetics, Class A common stock at market price. Company matchingcontributions were approximately $746,000, $812,000 and $722,000 in 2000, 2001and 2002, respectively. F-24 Odetics, Inc. Notes to Consolidated Financial Statements9. Associate Incentive Programs (continued)Effective April 1, 1987, the Company established a noncontributory AssociateStock Ownership Plan (ASOP) for all associates with more than six months ofeligible service. The ASOP provides that Company contributions, which aredetermined annually by the Board of Directors, may be in the form of cash orshares of Company stock. The Company contributions to the ASOP wereapproximately $69,000, $17,000 and $0 in 2000, 2001 and 2002, respectively.Shares distributed through the ASOP Plan were included in total outstandingshares used in the earnings per share calculation.10. Deferred Compensation PlansDuring 1986, the Company adopted an Executive Deferral Plan under which certainexecutives may defer a portion of their annual compensation. All deferredamounts earn interest, generally with no guaranteed rate of return. Compensationcharged to operations and deferred under the plan totaled $110,000, $128,000 and$66,000 for 2000, 2001 and 2002, respectively.11. Iteris Preferred and Common StockIn July 2001, Iteris issued 1,781,268 shares of its Series A Preferred Stock(Iteris Preferred Stock) to an institutional investor in exchange for $5.0million in cash. In addition, Iteris issued 1,343,645 shares of its Series APreferred Stock and 547,893 shares of its common stock in exchange for $500,000in cash and the retirement of its $3.75 million Subordinated ConvertiblePromissory Note plus related accrued interest of $0.4 million.Shares of Iteris Preferred Stock are convertable into shares of Iteris commonstock at the conversion rate in effect at the time, as defined. Each share ofIteris Preferred Stock will automatically convert into shares of Iteris commonstock immediately upon the closing of a firmly underwritten public offeringpursuant to an effective registration statement under the Securities Act of 1933with aggregate gross proceeds to the Company of not less than $30 million andprice per share of not less than two times the original Series A Preferred Stockissue price of $2.80 per share. F-25 Odetics, Inc. Notes to Consolidated Financial Statements11. Iteris Preferred and Common Stock (continued)In the event that the Company fails to consummate an initial public offering ofIteris common stock or complete a sale of Iteris to a third party with aggregateproceeds of $25 million by January 1, 2004 and/or the holders of Series APreferred Stock elect not to exercise their rights to convert into Common Stock,the Company will be obligated to redeem the Series A shares at a sum equal totwo times the original Series A Preferred Stock issue price.At March 31, 2002, the liquidation preference on Iteris Preferred Stock totals$17.5 million. The difference between the initial issue price, net of relatedissuance costs, and the liquidation preference is being amortized over theredemption period and is reflected in minority interest in earnings ofsubsidiary in the accompanying consolidated statement of operations.In August and December 2001, Odetics sold 1,539,241 shares of Iteris commonstock that it held at an aggregate purchase price of $3.8 million to a group ofinvestors, which included certain members of management of Odetics and Iteris.In connection with this transaction, Odetics realized a loss of $1.6 millionwhich is reflected in other income (loss) in the accompanying consolidatedstatement of operations. At March 31, 2001, Odetics owned 78.2% of theoutstanding common stock of Iteris.12. Stock Option PlansThe Company has adopted an Associate Stock Option Plan which provides thatoptions for shares of the Company's unissued Class A common stock may be grantedto directors and associates of the Company. Options granted enable the optionholder to purchase one share of Class A common stock at prices which are equalto or greater than the fair market value of the shares at the date of grant.Options expire ten years after date of grant or 90 days after termination ofemployment and vest ratably at 33% on each of the first three anniversaries ofthe grant date. F-26 Odetics, Inc. Notes to Consolidated Financial Statements12. Stock Option Plans (continued)A summary of all Company stock option activity is as follows: Year ended March 31 2000 2001 2002 --------------------------------------------------------------------- Weighted Weighted Weighted Average Average Average Exercise Exercise Exercise Options Price Options Price Options Price --------------------------------------------------------------------- (In thousands, except per share data) Options outstanding at beginning of year 628 $ 5.27 801 $ 7.68 804 $8.44 Granted 358 10.36 120 13.47 30 2.28 Exercised (152) 4.65 (24) 7.95 - - Canceled (33) 4.65 (93) 8.21 (505) 8.06 --------- --------- ---------Options outstanding at end of year 801 $ 7.68 804 $ 8.44 329 $8.37 =====================================================================Exercisable at end of year 219 531 237 =====================================================================Available for grant at end of year 114 487 1,322 ========= ========= =========Weighted average fair value of options granted $ 5.25 $ 7.03 $1.20 ========== ========== ==========The exercise price for options outstanding as of March 31, 2002, ranged from$2.28 to $15.625. The weighted-average remaining contractual life of thoseoptions is 8.3 years. F-27 Odetics, Inc. Notes to Consolidated Financial Statements12. Stock Option Plans (continued)Pro Forma Disclosures of the Effect of Stock-Based Compensation PlansIn calculating pro forma information regarding net income and earning per share,as required by Statement No. 123, the fair value was estimated at the date ofgrant using a Black-Scholes option pricing model with the following assumption: Years ended March 31 2000 2001 2002 ------------------------------- Dividend rate 0.0 0.0 0.0 Expected life - years 7.0 7.0 7.0 Risk-free interest rate 6.0 6.0 4.5 Volatility of common stock 0.4 0.4 0.4For purposes of pro forma disclosures, the estimated fair value of the optionsis amortized to expense over the options' vesting period. The Company's proforma information for the year ended March 31, 2000, 2001 and 2002 follows (inthousands, except per share data): 2000 2001 2002 ----------------------------------- Pro forma: Net loss $ (2,969) $ (33,512) $ (26,789) Basic and diluted loss per share $ (0.33) $ (3.36) $ (2.38)Iteris, Inc.'s Stock OptionsIn September 1997, Iteris granted options to purchase up to 899,960 shares ofits common stock to certain members of its senior management at an exerciseprice of $1.07 per share. As of March 31, 2002, options to purchase 759,345shares of common stock were outstanding.Subsequently, Iteris' Board of Directors adopted and approved the 1998 StockIncentive Plan (the Plan), as amended in February 2000, authorized 3,000,000shares of Iteris' common stock for issuance under the Plan. Options to purchase2,228,492 shares of common stock, at exercise prices ranging from $1.60 to $9.07per share, were outstanding at March 31, 2002. Under the Plan, options expireten years after date of grant or 90 days after termination of employment. Theoptions granted vested ratably at 25% on each of the first four anniversaries ofthe grant date. F-28 Odetics, Inc. Notes to Consolidated Financial Statements12. Stock Option Plans (continued)Zyfer, Inc.'s Stock Option PlansIn April 2000, Zyfer's Board of Directors adopted a Special Executive StockOption Plan which provides for the granting of stock options for shares ofZyfer's unissued common stock to certain officers, key employees, non-employeemembers of the Board of Directors, consultants and independent contractors. Atotal of 1,176,500 shares of Zyfer's common stock are reserved for issuanceunder this plan.In April 2000, Zyfer's Board of Directors also adopted the 1999 Employee StockOption Plan which provides options for shares of Zyfer's common stock toassociates, non-employee members of the Board of Directors of Zyfer, Odetics orother Odetics subsidiaries and independent consultants. A total of 588,500shares of Zyfer's common stock are reserved for issuance under this plan.Options expire ten years after the date of grant or 90 days after termination ofemployment and vest upon the optionee's completion of five years of servicemeasured from the vesting commencement date as specified on the stock optionagreements. The vesting of these options will accelerate upon initial publicoffering of Zyfer's common stock. Options to purchase 1,266,500 shares ofZyfer's common stock under these plans were outstanding at March 31, 2002.13. CommitmentsThe Company has lease commitments for facilities in various locations throughoutthe United States. The annual commitment under these noncancelable operatingleases at March 31, 2002 is as follows: Fiscal Year (in thousands) ----------- 2003 $ 327 2004 162 2005 56 -------------------- $ 545 ====================Rent expense under operating leases totaled $973,000, $1,040,000 and $1,139,000,respectively for the years ended March 31, 2000, 2001 and 2002. F-29 Odetics, Inc. Notes to Consolidated Financial Statements13. Commitments (continued)Common stock reserved for future issuance at March 31, 2002: Issuable under stock options plans 1,651,000 Issuable upon the exercise of warrants 426,66714. Business Segment and Geographic InformationThe Company operates in three reportable segments: intelligent transportationsystems, video products which includes products for the television broadcast andvideo security markets, and telecommunications. The accounting policies of thereportable segments are the same as those described in the summary ofsignificant accounting policies except that certain expenses, such as interest,amortization of certain intangibles and certain corporate expenses are notallocated to the segments. In addition, certain assets including cash and cashequivalents, deferred taxes and certain long-lived and intangible assets are notallocated to the segments. Intersegment sales are recorded at the sellingsegment's cost plus profit.The reportable segments are each managed separately because they manufacture anddistribute distinct products or provide services with different processes.Selected financial information for the Company's reportable segments as of andfor the years ended March 31, 2000, 2001 and 2002 follows: Intelligence(In thousands) Transportation Video Products Telecom Product Total-------------------------------------------------------------------------------------------------------------- Year ended March 31, 2000Revenue from external customers $ 23,411 $ 38,958 $ 7,572 $ 69,941Intersegment revenues - 6,001 84 6,085Depreciation and amortization 1,962 2,637 732 5,331Segment income (loss) (4,407) (16,350) (2,035) (22,792)Segment assets 19,240 38,831 5,473 63,544Expenditure for long-lived assets 470 760 308 1,538 F-30 Odetics, Inc. Notes to Consolidated Financial Statements14. Business Segment and Geographic Information (continued) Intelligence Video Telecom(In thousands) Transportation Products Product Total------------------------------------------------------------------------------------------------------------ Year ended March 31, 2001Revenue from external customers $ 28,057 $ 39,726 $ 6,972 $ 74,755Intersegment revenues - 1,183 57 1,240Depreciation and amortization 1,502 1,849 183 3,534Segment income (loss) (3,942) (15,767) (2,137) (21,846)Segment assets 18,709 22,706 6,326 47,741Expenditure for long-lived assets, net 1,392 631 206 2,150Year ended March 31, 2002Revenue from external customers $ 37,308 $ 16,715 $ 5,465 $ 59,488Intersegment revenues - - - -Depreciation and amortization 1,759 547 313 2,619Segment income (loss) 2,979 (3,306) (3,787) (4,114)Segment assets 25,736 5,805 5,016 36,557Expenditure for long-lived assets, net 272 22 63 357 F-31 Odetics, Inc. Notes to Consolidated Financial Statements14. Business Segment and Geographic Information (continued)The following reconciles segment income to consolidated income before incometaxes and segment assets and deprecation and amortization to consolidated assetsand consolidated depreciation and amortization:(In thousands) 2000 2001 2002----------------------------------------------------------------------------------------------------------- RevenueTotal revenues for reportable segments $ 76,026 $ 75,995 $ 59,488Non reportable segment revenues 8,674 1,403 -Elimination of Intersegment sales (6,085) (1,240) - ------------------------------------------- Total consolidated revenues $ 78,615 $ 76,158 $ 59,488 ===========================================Segment Income (Loss)Total income (loss) for reportable segments $ (22,792) $ (21,846) $ (4,114)Other income (loss) (3,618) (2,893) 2,726Unallocated amounts: Corporate and other expenses (6,469) (5,674) (4,322) Royalty income 38,437 17,825 - Special charge - (6,285) (2,189) Interest expense (2,048) (1,762) (4,190) ------------------------------------------- Income (Loss) from continuing operations before income taxes $ 3,510 $ (20,635) $ (12,089) ===========================================AssetsTotal assets for reportable segments $ 63,544 $ 47,741 $ 36,557Assets held at Corporate 18,306 20,320 15,681 ------------------------------------------- Total assets $ 81,850 $ 68,061 $ 52,238 ===========================================Depreciation and AmortizationDepreciation and amortization for reportable segments $ 5,331 $ 3,534 $ 2,619Other 1,854 1,433 1,157 ------------------------------------------- Total depreciation and amortization $ 7,185 $ 4,967 $ 3,776 =========================================== F-32 Odetics, Inc. Notes to Consolidated Financial Statements14. Business Segment and Geographic Information (continued)Selected financial information for the Company's operations by geographicsegment is as follows:(In thousands) 2000 2001 2002----------------------------------------------------------------------------------------------------------- Geographic Area RevenueUnited States $ 63,193 $ 60,595 $ 53,461Europe 8,509 7,340 3,466Asia Pacific Rim 2,821 2,703 1,762Other 4,092 5,520 799 ----------------------------------------- Total net revenue $ 78,615 $ 76,158 $ 59,488 =========================================Geographic Area Long-Lived AssetsUnited States $ 35,897 $ 30,526 $ 27,496Europe 1,101 414 -Asia Pacific Rim 15 23 21 ----------------------------------------- Total long-lived assets $ 37,013 $ 30,963 $ 27,517 =========================================15. Supplemental Cash Flow Information Year ended March 31 2000 2001 2002 ------------------------------------------ (In thousands) Net cash used in changes in operating assets and liabilities, net of acquisitions: (Increase) decrease in accounts receivable $ 4,568 $ (882) $ 3,897 (Increase) decrease in net costs and estimated earnings in excess of billings (833) 1,259 (608) (Increase) decrease in inventories (2,227) 4,499 (1,542) Increase in prepaids and other assets 428 861 (735) Increase (decrease) in accounts payable and accrued expenses (757) (1,116) (3,170) Change in net operating assets of discontinued operations - - (3,126) ------------------------------------------ Net cash used in changes in operating assets and liabilities $ 1,179 $ 4,621 $ (5,284) ========================================== Cash paid (received) during the year: Interest $ 1,995 $ 1,768 $ 2,514 Income taxes paid (refunded) (1,144) 86 - Noncash transactions during the year: Exchange of note payable and accrued interest for Iteris stock $ - $ - $ 4,203 Acquisition of business for note payable 2,000 - Stock issuance to former MMA shareholders 251 500 2,737 Contribution of common stock to 401(k) Plan - - 791 Issuance of common stock in settlement of accounts payable - - 390 F-33 Odetics, Inc. Notes to Consolidated Financial Statements16. Legal ProceedingsOn October 11, 1999, the Company settled a patent infringement case it hadbrought against Storage Technology Corporation (StorageTek). Through anagreement, StorageTek agreed to pay the Company a license fee totaling $100.0million for use of the Company's United States Patent No. 4,779,151. Under theagreement, the license fee was payable in three installments: $80.0 million uponsigning of the agreement, and two annual installments of $10.0 million payablein each of October 2000 and 2001. In connection with the initial payment, theCompany received $38.4 million, net of legal fees and other direct expenses,which is reflected in the accompanying consolidated statement of operations asroyalty income.On June 12, 2000, the Company and StorageTek amended the agreement, wherebyStorageTek agreed to pay a final discounted payment of $17.8 million immediatelyin full settlement of the $20.0 million otherwise due to complete thesettlement, which is reflected in the accompanying consolidated financialstatements as royalty income.17. Supplementary Quarterly Consolidated Financial Data (Unaudited)All quarters presented in the following schedule have been restated for thediscontinuance of Mariner in September 2001. Income Income per Share (Loss) from Net from Net Gross Continuing Income Continuing Sales Profit Operations (Loss) Operations -----------------------------------------------------June 30, 2000(1) 19,317 4,550 9,169 7,430 .95September 30, 2000 18,844 4,605 (9,358) (12,266) (.97)December 31, 2000(2) 18,533 1,976 (16,748) (19,951) (1.60)March 31, 2001 19,464 6,377 (3,698) (7,753) (.35)June 30, 2001 16,384 5,387 (4,355) (7,775) (.41)September 30, 2001(3) 15,977 6,149 (4,291) (15,164) (.41)December 31, 2001 13,618 5,753 (2,332) (2,332) (.20)March 31, 2002 13,509 6,822 (2,236) (1,317) (.18)(1) On June 12, 2000 the Company amended the settlement of a patent infringement case whereby the Company accepted a final discounted payment of $17.8 million to complete the settlement. The settlement is reflected in the operating results for the quarter ended June 30, 2000.(2) During the quarter ended December 31, 2000, the Company effected a restructuring that included a reduction of approximately 25% of its total workforce and discontinuation of certain product lines. As a result of these actions, the Company incurred charges in the amount of $9.4 million, which is reflected in the operating results for the quarter ended December 31, 2000.(3) During the quarter ended September 30, 2001, the Company discontinued the operations of its Mariner subsidiary and restructured its European operations. In connection with these actions the Company recorded severance and other reserves and wrote down assets totaling $9.9 million. F-34 Schedule II Odetics, Inc. Valuation and Qualifying Accounts Balance at Charged to Balance at Beginning of Costs and Charged to Deductions End of Description Period Expenses Accounts Describe Period----------------------------------------------- -------------- ------------ ------------ ------------- ----------- Year ended March 31, 2000 Deducted from asset accounts: Allowance for doubtful accounts ........... $ 839,000 $1,293,000 $ (64,000) $ -- $2,068,000 Reserve for inventory obsolescence ...... 3,171,000 1,438,000 (1,123,000) -- 3,486,000Year ended March 31, 2001 Deducted from asset accounts: Allowance for doubtful accounts ........... $2,068,000 $ 78,000 $ (502,000) $ -- $1,644,000 Reserve for inventory obsolescence ...... 3,486,000 4,925,000 (4,443,000) -- 3,968,000Year ended March 31, 2002 Deducted from asset accounts: Allowance for doubtful accounts ........... $1,644,000 $ 102,000 $(1,365,000) $ -- $ 381,000 Reserve for inventory obsolescence ...... 3,968,000 363,000 (2,264,000) -- 2,067,000 EXHIBIT 21 List of Subsidiaries -------------------- State of Other JurisdictionName of Subsidiary of Incorporation or Organization------------------ --------------------------------Broadcast, Inc. DelawareMAXxess Systems Inc.formally known as Gyyr Incorporated CaliforniaIteris, Inc.,formally known as Odetics ITS, Inc.(63.7% subsidiary of ODETICS, INC) DelawareMariner Networks, Inc. DelawareMeyer, Mohaddes Associates, Inc.(100% owned subsidiary of Iteris, Inc.) CaliforniaOdetics Europe Limited England and WalesOdetics Asia Pacific Pte. Ltd SingaporeZyfer, Inc. DelawareMAXxess EUROPE Ltd(100% owned subsidiary of MAXxess Systems INC) England and WalesMARINER EUROPE Ltd(100% owned subsidiary of MARINER NETWORKS, INC) England and Wales EXHIBIT 23.1 Consent of Independent Auditors We consent to the incorporation by reference in the Registration Statements(Form S-3 Nos. 333-90416, 333-40555, 333-63011, 333-66448, 333-66717, 333-69677,333-74509, 333-74654, 333-91903, 333-88185, 333-40726, 333-46420, 333-65735 and333-63983) of Odetics, Inc. and in the related Prospectuses, and in theRegistration Statements (Form S-8 Nos. 333-75728, 333-05735, 333-44907,333-30396, 333-90416) of our report dated May 22, 2002, except for Note 1 as towhich the date is May 29, 2002, with respect to the consolidated financialstatements and schedule of Odetics, Inc. included in this Annual Report (Form10-K) for the year ended March 31, 2002. /s/ Ernst & Young LLPOrange County, CaliforniaJune 26, 2002

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