CSP INC /MA/ - Quarter Report: 1999 November (Form 10-Q)

(Mark One)

[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended            November 30, 1999      

or

[  ]  Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from                        to                      

                             Massachusetts                                                             04-2441294  
                  (State or other jurisdiction of                                               (I.R.S. Employer
                  incorporation or organization)                                              Identification No.)

                 40 Linnell Circle, Billerica, Massachusetts                               01821-3901
                (Address of principal executive offices)                                         (Zip Code)

                                                                 (978) 663-7598 
                                      (Registrant's telephone number, including area code)

                                                                         None                                                                        
                      (Former name, former address, former fiscal year, if changed since last report)

     Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports). And (2) has been subject to such filing requirements for the past 90 days.        [X]  Yes            [  ]  No

                                    APPLICABLE ONLY TO CORPORATE ISSUERS:
     Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.

                                Class                                                               Outstanding January 7, 2000
           Common Stock, $.01 par value                                                 3,567,548 shares

See accompanying notes to consolidated financial statements.

See accompanying notes to consolidated financial statements.

The accompanying financial statements have been prepared by the Company, without audit, and reflect all adjustments which, in the opinion of management, are necessary for a fair statement of the results of the interim periods presented. All adjustments were of a normal recurring nature. Certain information and footnote disclosures normally included in the annual financial statements, which are prepared in accordance with generally accepted accounting principles, have been condensed or omitted. Accordingly, the Company believes that although the disclosures are adequate to make the information presented not misleading, the financial statements should be read in conjunction with the footnotes contained in the Company's Annual Report on Form 10-K for the fiscal year ended August 27, 1999.

The following table presents certain operating segment information (Amounts in thousands).

Each segment is broken down by related business activities, which crosses different business operations. These segments are based on the different customer activity of the Company. CSPI has four major segments: systems which includes company manufactured hardware products, systems integration and services which includes maintenance of the Company and other systems sold and integration and sale of third party hardware products and services, E-Commerce software, and other software products which are developed by the Company.

Profit from operations is sales less cost of sales, engineering and development, selling, general and administrative expenses but is not affected by either non-operating charges/income or by income taxes. Non operating charges/income consists principally of investment income and interest expense.

In calculating profit from operations for individual operating segments, substantial administration expenses incurred at the operating level are common to more than one segment and are allocated based on a sales basis except for those related to E-Commerce software which is allocated based upon employee headcount.

All intercompany transactions have been eliminated.

Identifiable assets include deferred income tax assets and other financial instruments managed by the Company. Capital expenditures common to more than one segment are allocated on a sales basis.

     A summary of the period to period changes in principal items included in the Statements of Operations is shown in Schedules I and II (pages 14 and 15).

     The discussion below contains certain forward-looking statements related to, among others, but not limited to, statements concerning future revenues and future business plans. Actual results may vary from those contained in such forward-looking statements.

     Sales for the three-month period ended November 30, 1999 were $15,734,000 compared to $11,515,000 for the same period of fiscal 1999. This represented an increase of approximately $4,219,000 or 37%. This was due primarily to an increase in revenue for service and systems integration orders shipped by MODCOMP's Germany subsidiary. During the quarter MODCOMP Germany shipped a large outsourcing and integration services sales of disc storage systems to E-Plus which represented 22% of revenue for the quarter. In addition, sales of MODCOMP's E-Commerce software, ViewMax, increased $281,000, or 223%, from $126,000 for the quarter ended November 27, 1998 to $407,000 for the quarter ended November 30, 1999. MODCOMP accounted for 88% of total revenue for the current quarter compared to 59% for the same quarter of fiscal 1999. CSP MultiComputer Division (CSPI) products accounted for only 10% of total revenue which was down from 37% in the same period of last fiscal year. The decrease was due in part to extended incubation periods for defense industry procurements. In addition, in the first quarter of fiscal 1999, CSPI shipped the largest Power PC system (340 processors) to an international customer which represented 53% of systems sales. Scanalytics revenues accounted for 2% and 4% of total revenues for the three-month periods ended November 30, 1999 and November 27, 1998, respectively.

     The Company has changed its fiscal year from the last Friday in August in Fiscal 1999 to the last day in August for Fiscal 2000. In Fiscal 1999 each quarter was 13 weeks in length ending on the last Friday of the quarter. Beginning in Fiscal 2000 each quarter will end on the last day of the last month of the quarter. For Fiscal Year 2000 the first quarter ended on November 30, 1999 compared to November 27, 1998 for the prior year. This resulted in approximately $2.6 million of additional revenue from the MODCOMP German subsidiary during the period November 28, 1999 through November 30, 1999. Fiscal Year 2000 will be 53 weeks in length compared to 52 weeks in Fiscal 1999. The effect of the change is not expected to have a material effect on the Company's financial statements for Fiscal 2000.

     Cost of sales as a percentage of sales increased to 78% for the quarter ended November 30, 1999 compared to 53% for the prior comparable quarter of fiscal 1999. The increase in cost of sales was due to the change in product mix with the significant increase in service and system integration sales which have high cost of sales due to the large content of third party products. The software and systems sales have lower costs of sales and they represented a small portion of revenue in the first quarter of fiscal 2000. The increase in integration service sales, which traditionally has a high cost of sales, combined with a decrease in sales of systems, which has lower cost of sales, contributed to the decline in gross margin .

     Engineering and development expenditures were $1,093,000 for the three months ended November 30, 1999 compared to $1,129,000 for the three months ended November 27, 1998. This represented a slight decrease of approximately 3%. The major portion of the engineering and development expense related to CSPI which accounted for approximately 47% of the total expense. CSPI expenses decreased by 9% during the current quarter as compared to the same quarter of fiscal 1999. This decline was mainly attributable to a reduction in outside services and consulting expenses needed to complete the software and hardware work on the Series 2000 products. MODCOMP accounted for 40% of total engineering and development expenditures compared to 34% in the same quarter of fiscal 1999. The development work in fiscal 2000 was for the continued development of the E-Commerce product, ViewMAX, which included the new Linux version of the product recently announced. Scanalytics accounted for 13% and 10% of total engineering and development expenditures for the three-month periods ended November 30, 1999 and November 27, 1998, respectively.

     Selling, general and administration expenditures were $3,189,000 for the three months ended November 30, 1999 compared to $3,348,000 for the three months ended November 27, 1998, a decline of 5%. The major portion of total selling, general and administration expense related to MODCOMP which accounted for 55% of the total compared to 50% for the prior comparable quarter of fiscal 1999. The increase expense for MODCOMP was for added personnel and other expenses related to the marketing and sales of the E-Commerce software business. CSPI accounted for 34% of the expense compared to 42% for the same quarter of fiscal 1999. The reduction in executive bonus, retirement plan and shareholder service expense represented the major portion of the reduction in the expenses. Scanalytics accounted for 11% of the expense compared to 8% for the same quarter of fiscal 1999. This increase was mainly due to the addition of a sales person and the costs related to the participation in two trade shows.

     Other income/expense decreased by 9% for the three months ended November 30, 1999 compared to the three months ended November 27, 1998. This decline is mainly due to the Company investing a larger percentage of its cash in short-term non-taxable and taxable instruments, which have lower rates of return on a pre-tax basis than our investments in the prior comparable quarter of fiscal 1999.

     The Company had a high effective tax rate of 50%, which is above the normal US statutory rate. This was primarily due to a large portion of foreign-based revenue and profits from France and Germany, which have high statutory tax rates. The company will continue to review strategies with its advisors to reduce our effective rate.

     The Company still has a solid financial position as working capital decreased to $23,134,000 as of November 30, 1999 from $23,469,000 as of August 27, 1999. The Company's accounts receivable increased to $9,779,000 from $7,395,000. This increase is due to the timing of shipments made at the end of the first quarter of fiscal 2000. The Company's inventory decreased to $5,688,000 from $5,805,000. The increase of $2,189,000 in accounts payable and accrued expenses was primarily related to the large integration service orders and represented 90 % of the increase.

     The Company spent $111,000 and $231,000 on capital improvements for the three months ended November 30, 1999 and November 27, 1998, respectively.

     Management believes that all of the Company's current and foreseeable needs can be met through working capital generated by operations and investments.

     Management does not believe that inflation and changing prices had significant impact on sales, revenues or income from continued operations during the three-month period ended November 30, 1999. There is no assurance, however, that the Company's business will not be materially and adversely affected by inflation and changing prices in the future.

Factors That May Affect Future Performance
     

     This document contains forward-looking statements based on current expectations that involve a number of risks and uncertainties. The factors that could cause actual results to differ materially include the following: general economic conditions and growth rates in the peripheral and computer products, biological imaging software, and the instruments and machine code readers industries; competitive factors and pricing pressures; changes in product mix; the timely development and acceptance of new products; inventory risks due to shifts in market demand; and component constraints and shortages. In response to competitive pressures or new product introductions, the Company may take certain pricing or marketing actions that could adversely affect the Company's operating results. In addition, changes in the mix of old products may cause fluctuations in the Company's gross margin. Due to the potential quarterly fluctuations in operating results, the Company believes that quarter-to-quarter comparisons of its results of operations are not necessarily an indicator of future performance.

     Markets for the Company's products are characterized by rapidly changing technology, new product introductions and short product life cycles. These changes can adversely affect the business and operating results. The Company's success will depend upon its ability to enhance its existing products and to develop and introduce, on a timely and cost effective basis, new products that keep pace with technological developments and address increasing customer requirements. The inability to meet these demands could adversely affect the Company's business and operating results.

     The Company has reviewed both its internal computer systems and its products that could be affected by the "Year 2000" issue and has identified some systems and a few products that will be affected. The Company presently believes with the modification to existing software and conversion to new software, the "Year 2000" issues related to internal computer systems and products will not cause significant operational or computer problems. Furthermore, the cost of implementing these solutions has been fully expensed in the current fiscal year and management believes that any further financial position or results of operations will not be material.

     The Company has identified alternative remediation if any upgrade or replacement does not correct the "Year 2000" issue.

     The Company continues a formal communication with all of its significant suppliers and large customers to determine the extent to which the Company is vulnerable to those third-parties failure to correct their own " Year 2000" issues. Where practicable, the Company has attempted to mitigate its risks with respect to the failure of suppliers to be "Year 2000" ready. In the event that suppliers are not "Year 2000" compliant, the Company has found alternative sources of supply where practical. There can be no guarantee that the systems of other companies upon which significant supplies and large customers rely will be converted in a timely fashion nor can there be any guarantee that failure to convert by another, will not have a material impact on the Company.

     As of January 7, 2000, the Company has not experienced any problems related to the "Year 2000" issue.

             None

1. Exhibits

27.0 Financial Data Schedule

2. Reports on Form 8-K

     Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

CSP Inc.
(Registrant)

Date: January 7, 2000                                         By: /s/ Alexander R. Lupinetti
                                                                                       Chief Executive Officer,
                                                                                       President and Chairman

Date: January 7, 2000                                         By: /s/ Gary W. Levine
                                                                                        Vice President of Finance,
                                                                                        Chief Financial Officer

                                                     /-------------------For the three months ended-----------------------/

                                                     /--For the three months ended---/
                                              November 30, 1999 vs. November 27, 1998