U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
[X] Quarterly report under Section 13 or 15(d) of the Securities Exchange Act
of 1934 for the quarterly period ended March 31, 2005
[_] Transition report under Section 13 or 15(d) of the Exchange Act for the
transition period from ___ to ___
Commission file number: 1-9009
DEFENSE INDUSTRIES INTERNATIONAL, INC.
(Exact Name of Small Business Issuer as Specified in Its Charter)
NEVADA 84-1421483
(State of Incorporation) (I.R.S. Employer Identification No.)
8 BRUSSELS ST. SDEROT, P.O. BOX 779, ASHKELON 78101, ISRAEL
(Address of Principal Executive Offices)
(011) 972-7-689-1611
(Issuer's Telephone Number, Including Area Code)
______________________________________________
(Former Name, Former Address and Former Fiscal Year,
if Changed Since Last Report)
Check whether the issuer: (1) filed all reports required to be filed
by Section 13 or 15(d) of the Exchange Act during the past 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.
Yes [X] No [_]
APPLICABLE ONLY TO CORPORATE ISSUERS
As of May 23, 2005 the Issuer had 25,386,463 shares of Common Stock, $.0001
par value per share, outstanding.
Transitional Small Business Disclosure Format (check one):
Yes [_] No [X]
DEFENSE INDUSTRIES INTERNATIONAL, INC. AND SUBSIDIARIES
INDEX
PAGE
PART I - FINANCIAL INFORMATION:
Item 1. Condensed Consolidated Balance Sheets as of March 31, 2005
(Unaudited) and December 31, 2004 1-2
Condensed Consolidated Statements of Operations and
Comprehensive Income for the Three Months
Ended March 31, 2005 and 2004 (Unaudited) 3
Condensed Consolidated Statements of Cash Flows
For the Three Months Ended March 31, 2005
and 2004 (Unaudited) 4
Notes to Condensed Consolidated Financial Statements
(Unaudited) 5-9
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 10
Item 3. Controls and Procedures 18
PART II - OTHER INFORMATION:
Item 1. Legal Proceedings
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Item 3. Default Upon Senior Securities
Item 4. Submission of Matters to a Vote of Shareholders
Item 6. Exhibits and Reports on Form 8-K
Signatures
DEFENSE INDUSTRIES INTERNATIONAL, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
PART I - FINANCIAL INFORMATION
ITEM 1.
ASSETS
March 31, 2005 December 31,
(Unaudited) 2004
----------- -----------
CURRENT ASSETS
Cash and cash equivalents $ 528,578 $ 505,013
Accounts receivable, net of allowance for doubtful accounts
of $117,821and $105,927, respectively 3,907,328 2,495,861
Accounts receivable - related parties, net 443,834 374,458
Inventories 3,178,061 2,809,019
Investments in marketable securities 851,032 808,102
Deferred taxes 38,762 43,049
Other current assets 658,315 402,325
----------- -----------
Total Current Assets 9,605,910 7,437,827
----------- -----------
PROPERTY, PLANT AND EQUIPMENT, NET 2,000,252 1,761,842
----------- -----------
OTHER ASSETS
Deposits for the severance of employer-employee relations 485,863 483,334
Deferred taxes, long-term 70,718 60,326
Intangible assets, net 28,376 31,337
Goodwill 80,900 -
----------- -----------
Total Other Assets 665,857 574,997
----------- -----------
TOTAL ASSETS $12,272,019 $ 9,774,666
=========== ===========
The accompanying notes are an integral part of the condensed consolidated
financial statements.
1
DEFENSE INDUSTRIES INTERNATIONAL, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
LIABILITIES AND SHAREHOLDERS' EQUITY
March 31, 2005 December 31,
(Unaudited) 2004
------------ ------------
CURRENT LIABILITIES
Accounts payable $ 1,154,688 $ 1,026,162
Accrued expenses 1,746,710 490,236
Short-term debt 1,440,266 652,913
Current portion of long-term debt 422,287 407,227
Common stock to be issued 80,000 -
Other current liabilities 486,333 516,723
------------ ------------
Total Current Liabilities 5,330,284 3,093,261
------------ ------------
LONG-TERM LIABILITIES
Long-term portion of debt 810,213 731,442
Provision for the severance of employer-employee relations 351,119 336,101
Common stock to be issued 120,000 -
Minority interest 915,130 902,771
------------ ------------
Total long-term Liabilities 2,196,462 1,970,314
------------ ------------
TOTAL LIABILITIES 7,526,746 5,063,575
------------ ------------
COMMITMENTS AND CONTINGENCIES
SHAREHOLDERS' EQUITY
Preferred stock, $.0001 par value, 50,000,000 shares authorized, none issued and
outstanding - -
Common stock, $.0001 par value, 250,000,000 shares authorized, 25,350,000 issued and
outstanding 2,535 2,535
Additional paid-in capital 1,711,450 1,711,450
Retained earnings 3,232,186 3,148,950
Accumulated other comprehensive loss (200,898) (151,844)
------------ ------------
Total Shareholders' Equity 4,745,273 4,711,091
------------ ------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 12,272,019 $ 9,774,666
============ ============
The accompanying notes are an integral part of the condensed consolidated
financial statements.
2
DEFENSE INDUSTRIES INTERNATIONAL, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME AND
COMPREHENSIVE INCOME FOR THE THREE MONTHS ENDED MARCH 31, 2005
AND 2004
(UNAUDITED)
For the Three For the Three
Months Ended Months Ended
March 31, 2005 March 31, 2004
------------ ------------
NET REVENUES $ 3,684,480 $ 3,746,079
COST OF SALES 3,029,383 2,779,840
------------ ------------
GROSS PROFIT 655,097 966,239
------------ ------------
OPERATING EXPENSES
Selling 144,081 120,919
General and administrative 397,096 306,697
------------ ------------
TOTAL OPERATING EXPENSES 541,177 427,616
------------ ------------
INCOME FROM OPERATIONS 113,920 538,623
------------ ------------
OTHER INCOME (EXPENSE)
Financial expense, net (44,169) (24,482)
Other income, net 80,226 27,198
------------ ------------
Total Other Income, net 36,057 2,716
------------ ------------
INCOME BEFORE INCOME TAXES 149,977 541,339
Less: income tax expense 49,014 194,338
------------ ------------
INCOME BEFORE MINORITY INTEREST
100,963 347,001
Minority interest (income) loss (17,725) 2,223
------------ ------------
NET INCOME 83,238 349,224
------------ ------------
OTHER COMPREHENSIVE INCOME
Foreign currency translation loss, net of minority interest portion (41,284) (118,481)
------------ ------------
Other comprehensive income before tax (41,284) (118,481)
Income tax benefit related to items of other comprehensive income 16,679 42,653
------------ ------------
TOTAL OTHER COMPREHENSIVE (LOSS), NET OF TAX (24,605) (75,828)
------------ ------------
COMPREHENSIVE INCOME $ 58,633 $ 273,396
============ ============
Net income per share - basic and diluted $ 0.00 $ 0.01
============ ============
Weighted average number of shares outstanding - basic and diluted 25,350,000 25,350,000
============ ============
The accompanying notes are an integral part of the condensed consolidated
financial statements.
3
DEFENSE INDUSTRIES INTERNATIONAL, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE THREE MONTHS ENDED MARCH 31, 2005 AND 2004
(UNAUDITED)
For The Three For The Three
Months Ended Months Ended
March 31, 2005 March 31, 2004
----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 83,238 $ 349,224
Adjustments to reconcile net income to net cash (used in) provided by operating activities:
Depreciation and amortization 44,376 71,317
Gain from sale of property, plant and equipment (17,725) -
Provision for doubtful accounts 4,779 3,388
Net realized and unrealized (gain) loss on marketable securities (59,281) 24,455
Minority interest in income (loss) of subsidiary 17,725 (2,223)
Changes in operating assets and liabilities, net of effects of acquisition:
(Increase) decrease in deposits for employee severance (2,529) 6,055
(Increase) decrease in deferred taxes (6,105) 3,846
Increase in accounts receivable (1,253,398) (282,551)
Increase in other current assets (252,125) (36,883)
(Increase) decrease in inventories (189,736) 153,318
Increase in accounts payable 97,553 156,392
Increase in accrued expenses 1,256,474 718,070
Decrease in other current liabilities (190,436) (159,909)
Increase (decrease) in provision for the severance of employer-employee relations 15,018 (563)
----------- -----------
Net Cash (Used in) Provided By Operating Activities (452,172) 1,003,936
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property, plant and equipment (186,128) (118,404)
Proceeds from sale of property, plant and equipment 17,794 -
Proceeds from sale of marketable securities 111,743 48,999
Cash acquired in acquisition of Owen Mills Company 20,415 -
Purchases of marketable securities (105,242) (36,571)
----------- -----------
Net Cash Used in Investing Activities (141,418) (105,976)
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Short-term debt, net 787,353 (285,900)
Payments on long-term debt (158,425) (160,019)
----------- -----------
Net Cash Provided By (Used In) Financing Activities 628,928 (445,919)
----------- -----------
EFFECT OF CHANGES IN EXCHANGE RATES ON CASH (11,773) (140,044)
----------- -----------
NET INCREASE IN CASH AND CASH EQUIVALENTS 23,565 311,997
CASH AND CASH EQUIVALENTS - BEGINNING OF PERIOD 505,013 784,026
----------- -----------
CASH AND CASH EQUIVALENTS - END OF PERIOD $ 528,578 $ 1,096,023
=========== ===========
INTEREST PAID $ 28,449 $ 26,225
=========== ===========
TAXES PAID $ 54,752 $ 49,489
=========== ===========
SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
On February 28, 2005, the Company acquired all the outstanding shares of Owen
Mills Company for an aggregate of $372,401, consisting of a note payable of
$172,401 and $200,000 in common stock of the Company, both of which are to be
paid over five years. (See Note 2 for assets and liabilities acquired).
The accompanying notes are an integral part of the condensed consolidated
financial statements.
4
DEFENSE INDUSTRIES INTERNATIONAL, INC.
AND SUBSIDIARIES
NOTES TO CONDENDED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE MONTHS ENDED MARCH 31, 2005 AND 2004
(UNAUDITED)
NOTE 1 BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES
(A) BASIS OF PRESENTATION
The accompanying condensed consolidated financial statements are presented
in United States dollars under accounting principles generally accepted in
the United States of America.
(B) PRINCIPLES OF CONSOLIDATION
The condensed consolidated financial statements include the accounts of
Defense Industries International, Inc. and its wholly owned subsidiaries,
Export Erez, USA, Inc., Export Erez, Ltd., Mayotex, Ltd. Dragonwear Trading
Ltd. and its 76% owned subsidiary Achidatex Nazareth Elite for all periods
presented and Rizzo, Inc. (doing business as Owen Mills Company) since
February 28, 2005 (the acquisition date) (collectively, the "Company"). The
minority interest represents the minority shareholders' proportionate share
of Achidatex and Owen Mills Company.
All intercompany accounts and transactions have been eliminated in
consolidation.
(C) USE OF ESTIMATES
The preparation of condensed consolidated financial statements in
conformity with accounting principles generally accepted in the United
States of America requires management to make estimates and assumptions
that effect the reported amounts of assets and liabilities and disclose the
nature of contingent assets and liabilities at the date of the condensed
consolidated financial statements and the reported amounts of revenues and
expenses during the reporting periods. Actual results could differ from
those estimates.
(D) PER SHARE DATA
Basic net income per common share is computed based on the weighted average
number of common shares outstanding during the period. Diluted net income
per common share is computed based on the weighted average number of common
shares and common stock equivalents outstanding during the period. There
were no common stock equivalents outstanding during the periods presented.
Accordingly, a reconciliation between basic and diluted earnings per share
is not presented.
5
DEFENSE INDUSTRIES INTERNATIONAL, INC.
AND SUBSIDIARIES
NOTES TO CONDENDED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE MONTHS ENDED MARCH 31, 2005 AND 2004
(UNAUDITED)
(E) INTERIM CONSOLIDATED FINANCIAL STATEMENTS
The condensed consolidated financial statements as of and for the three
months ended March 31, 2005 and 2004 are unaudited. In the opinion of
management, such condensed consolidated financial statements include all
adjustments (consisting only of normal recurring accruals) necessary for
the fair presentation of the consolidated financial position and the
consolidated results of operations. The consolidated results of operations
for the three months ended March 31, 2005 and 2004 are not necessarily
indicative of the results to be expected for the full year. The
consolidated balance sheet information as of December 31, 2004 was derived
from the audited consolidated financial statements included in the
Company's annual report Form 10-KSB. The interim condensed consolidated
financial statements should be read in conjunction with that report.
(F) GOODWILL AND OTHER INTANGIBLE ASSETS
In accordance with Statement of Financial Accounting Standards ("SFAS") No.
141, the Company allocates the purchase price of its acquisitions to the
tangible assets, liabilities and intangible assets acquired based on their
estimated fair values. The excess purchase price over those fair values is
recorded as goodwill. The fair value assigned to intangible assets acquired
is either based on valuations prepared by independent third party appraisal
firms using estimates and assumptions provided by management or negotiated
at arms-length between the Company and the seller of the acquired assets.
In accordance with SFAS No. 142, goodwill and purchased intangibles with
indefinite lives are not amortized, but will be reviewed periodically for
impairment. Purchased intangibles with finite lives will be amortized on a
straight-line basis over their respective useful lives.
NOTE 2 BUSINESS COMBINATION
Effective February 28, 2005, the Company acquired all of the outstanding
shares of Rizzo Inc. (doing business as Owen Mills Company), a Los
Angeles-based manufacturing and service company specializing in military
and industrial sewing of marine and ballistic fabric products. Under the
terms of the agreement, the Company purchased all of the outstanding stock
of Owen Mills Company in consideration for a $200,000 note payable and
shares of the Company's common stock having a value of $200,000, based on
the average closing price per share of the Company's common stock for the
ten trading days preceding the issuance of such shares. The Company shall
pay the $400,000 of consideration as follows: (i) $3,333.33 each month
commencing on March 31, 2005 and thereafter on the last business day of
each successive month until the Company has paid the former shareholder of
Owen Mills Company a total of $200,000; the present value of the payments
is $172,401 (ii) $40,000 in the form of shares of common stock of the
Company payable within fifteen (15) business days from the date of the
Agreement; and (iii) $40,000 in the form of the Company's common stock paid
to the former shareholder of Owen Mills Company on each of the last
business days of February 2006, February 2007, February 2008, and of
February 2009. The Company acquired assets totaling $576,190 (consisting of
cash of $20,415, accounts receivable, net of $232,224, inventory of
$179,306, property, plant and equipment, net of $140,380, and other current
assets of $3,865) and assumed liabilities of $284,689 (consisting of
accounts payable of $30,973, other current liabilities of $160,046, and
long-term debt of $93,670), which resulted in the recording of $80,900 in
goodwill.
6
DEFENSE INDUSTRIES INTERNATIONAL, INC.
AND SUBSIDIARIES
NOTES TO CONDENDED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE MONTHS ENDED MARCH 31, 2005 AND 2004
(UNAUDITED)
The acquisition of Owen Mills Company was accounted for as a purchase
under SFAS No. 141, Business Combinations. Accordingly, the operating
results of Owen Mills Company have been included in the consolidated
statements of income after the acquisition date of February 28, 2005. The
following table reflects the unaudited pro forma combined results of
operations for the three months ended March 31, 2005 and 2004, assuming
the acquisition had occurred at the beginning of 2004.
For the Three For the Three
Months Ended Months Ended
March 31, 2005 March 31, 2004
---------- ----------
Revenue $3,844,061 $4,017,093
Net income $ 80,681 $ 353,652
Net income per share - basic and diluted $ 0.00 $ 0.01
NOTE 3 INVENTORIES
Inventories consisted of the following:
March 31, 2005 December 31, 2004
---------- ----------
Raw materials $1,772,702 $1,639,456
Work in process 1,149,010 837,836
Finished goods 256,349 331,727
---------- ----------
$3,178,061 $2,809,019
========== ==========
NOTE 4 SEGMENT INFORMATION AND CONCENTRATIONS
The Company has two strategic business units: the civilian market and the
military market. The military market is further broken down between local
and export sales in order to better analyze trends in sales and profit
margins. The Company does not allocate assets between segments because
several assets are used in more than one segment and any allocation would
be impractical.
7
DEFENSE INDUSTRIES INTERNATIONAL, INC.
AND SUBSIDIARIES
NOTES TO CONDENDED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE MONTHS ENDED MARCH 31, 2005 AND 2004
(UNAUDITED)
(A) SALES AND INCOME FROM OPERATIONS:
Civilian Military
Local Military Local Export Consolidated
---------- ---------- ---------- ----------
March 31, 2005
Net Sales $ 459,020 $ 581,467 $2,643,993 $3,684,480
Income from
operations 10,297 34,786 68,837 113,920
March 31, 2004
Net Sales $ 257,087 $ 442,017 $3,046,975 $3,746,079
Income from operations 40,669 99,178 398,776 538,623
(B) SINGLE CUSTOMERS EXCEEDING 10% OF SALES:
For the Three For the Three
Months Ended Months Ended
March 31, 2005 March 31, 2004
---------- ----------
Sales
Customer A (Military Export) - $1,731,656
Customer B (Military Export) $ 795,168 -
Customer C (Military Export) $ 540,428 -
Customer D (Military Export) $ 515,392 -
NOTE 5 COMMITMENTS AND CONTINGENCIES
During 2004, the Israeli Government decided to evacuate the Erez Industrial
Zone in the Gaza Strip where part of operations were located. The Company
owns facilities, leases other facilities and maintains equipment and
inventory within this area. In 2005, the Company moved its "light cut and
sew" operation from the Industrial Zone Erez to Sderot as well as some of
its webbing equipment to Nazareth. The Israeli Government's initial
decision to evacuate the Gaza Strip was backed by resolutions to compensate
the Israeli Gaza Strip settlers as well as business and property owners in
the Gaza Strip and in the Erez Industrial Zone. While the Israeli
Government has not yet decided on the date of the evacuation, there is no
doubt that it will evacuate the area, or that it will come to an agreement
with the business and property owners for their compensation. The
compensation is mentioned in the "Evacuation Law" resolution that was
adopted by the Israeli Parliament, however, the amount of the compensation
will be negotiable.
8
DEFENSE INDUSTRIES INTERNATIONAL, INC.
AND SUBSIDIARIES
NOTES TO CONDENDED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE MONTHS ENDED MARCH 31, 2005 AND 2004
(UNAUDITED)
The Company believes that, at a minimum, it will be compensated for the
actual expenses incurred in connection with the potential relocation.
NOTE 6 SUBSEQUENT EVENTS
On April 27, 2005, the Company issued 36,463 common shares having a fair
value of $40,000 to the former shareholder of Owen Mills Company according
to the business combination agreement signed on February 28, 2005. Also see
Note 2.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS O F FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THIS INFORMATION SHOULD BE READ IN CONJUNCTION WITH THE CONDENSED
CONSOLIDATED FINANCIAL STATEMENTS AND NOTES INCLUDED IN ITEM 1 OF PART I OF THIS
QUARTERLY REPORT AND THE AUDITED CONSOLIDATED FINANCIAL STATEMENTS AND NOTES
THERETO AND MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, 2004 CONTAINED IN OUR 2004
ANNUAL REPORT ON FORM 10-KSB. THE DISCUSSION AND ANALYSIS WHICH FOLLOWS MAY
CONTAIN TREND ANALYSIS AND OTHER FORWARD-LOOKING STATEMENTS WITHIN THE MEANING
OF SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934 WHICH REFLECT OUR CURRENT
VIEWS WITH RESPECT TO FUTURE EVENTS AND FINANCIAL RESULTS. THESE INCLUDE
STATEMENTS REGARDING OUR EARNINGS, PROJECTED GROWTH AND FORECASTS, AND SIMILAR
MATTERS THAT ARE NOT HISTORICAL FACTS.
WE REMIND SHAREHOLDERS THAT FORWARD-LOOKING STATEMENTS ARE MERELY
PREDICTIONS AND THEREFORE ARE INHERENTLY SUBJECT TO UNCERTAINTIES AND OTHER
FACTORS THAT COULD CAUSE THE FUTURE RESULTS TO DIFFER MATERIALLY FROM THOSE
DESCRIBED IN THE FORWARD-LOOKING STATEMENTS
CRITICAL ACCOUNTING POLICIES
We have identified the following policies as critical to the understanding
of our condensed consolidated financial statements. The preparation of our
consolidated financial statements requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the condensed
consolidated financial statements and the reported amounts of sales and expenses
during the reporting periods. Our condensed consolidated financial statements
have been prepared in accordance with accounting principles generally accepted
in the United States.
REVENUES AND REVENUE RECOGNITION. Revenues from sales of products are
recognized upon shipment to customers. We provide a warranty on goods ranging
from three to four years. Our policy is to consider the establishment of a
reserve for warranty expenses. Based upon historical experience of no warranty
claims, we have not established a reserve at March 31, 2005 and March 31, 2004.
If we change any of our assumptions with regard to our recognition of revenues,
or if there is a change with respect to warranties expenses our financial
position and results of operations may change materially.
FOREIGN CURRENCY TRANSLATION AND TRANSACTIONS. The functional currency of
Export Erez, Ltd., Mayotex Ltd., and Achidatex Nazareth Elite is the New Israeli
Shekel, or NIS. The functional currency of Dragonwear Trading Ltd. is the Cyprus
Pound, or CYP. The financial statements of Dragonwear are translated into NIS.
The financial statements for all of these entities are then translated into
United States dollars from NIS at quarter-end exchange rates as to assets and
liabilities and average exchange rates as to revenues and expenses. Capital
accounts are translated at their historical exchange rates when the capital
transactions occurred. Foreign currency transaction gains or losses from
transactions denominated in currencies other than NIS are recognized in net
income in the period the gain or loss occurs. Any change in exchange rates may
have a material impact on our financial position and results of operations.
10
INVENTORIES. Inventories are valued at the lower of cost or market value
using the first-in first-out method. The cost includes expenses of freight-in
transportation. The specific identification method is used for finished goods
since all orders are custom orders for customers. Inventories write-offs and
write-down provisions are provided to cover risks arising from slow-moving items
or technological obsolescence. Any change in our assumptions with respect to the
need to write-off write-down the value of our inventories may have material
affect on our financial position or results of operations.
PROPERTY AND EQUIPMENT. Fixed assets are stated at cost less accumulated
depreciation. Depreciation is computed using the straight-line method over the
estimated useful lives of three to twenty-five years. These long-lived assets
are generally evaluated on an individual basis in making a determination as to
whether such assets are impaired. Periodically, we review our long-lived assets
for impairment based on estimated future non discounted cash flows attributed to
the assets. In the event such cash flows are not expected to be sufficient to
recover the recorded value of the assets, the assets are written down to their
estimated fair values. The use of different assumptions with respect to the
expected cash flows from our assets and other economic variables, primarily the
discount rate, may lead to different conclusions regarding the recoverability of
our assets' carrying values and to the potential need to recordan impairment
loss for our long lived assets.
OVERVIEW
We are a manufacturer and global provider of personal military and civilian
protective equipment and supplies. Our products are used by military, law
enforcement, border patrol enforcement, and other special security forces,
corporations, non-governmental organizations and individuals throughout the
world.
Our main products include body armor, bomb disposal suits, bullet proof
vests and jackets, ballistic wall coverings, bullet proof ceramic and
polyethylene panels, V.I.P. car armoring and lightweight armor kits for
vehicles, personal military equipment, dry storage systems, liquid logistic
products, tents and other camping and travel gear.
From time to time we have provided bulletproof vests developed by us to
laboratories in the United States for testing, and following the tests, the
products were deemed to have met the American National Institute of Justice
(NIJ) standards. The American NIJ standards are the accepted standards worldwide
for bulletproof vests and compliance with these standards has enabled us to
enter into the North American market as well as other new markets for our
bulletproof vests. Similarly, we have submitted our ballistic ceramic plates for
testing by German laboratories and following the tests, the products were deemed
to have met the German qualification standard. Obtaining this standard has
enabled us to enter the German and other European markets for these products.
Our strategy is to capitalize on our significant research and development
capabilities and the strength of our brand identity and achieve greater
economies of scale. Due to ever-present international tensions we believe that
the demand for our products will continue to grow. We expect to address this
growth by offering a comprehensive array of high quality branded security
products to meet the needs of our customers around the world. We intend to
enhance our leadership position in the industry through additional strategic
acquisitions and by creating a broad portfolio of products and services to
satisfy all of our customers' increasingly complex security products needs. The
following elements define our growth strategy.
11
o CAPITALIZE ON EXPOSURE TO MILITARY PROBLEMS. We believe that the
events of September 11, 2001, the subsequent "War on Terrorism," the
continuing conflict in Iraq, the increasing likelihood of military
conflicts abroad, and recent events where lives have been saved due to
the performance of armor systems, are all likely to result in
additional interest in our products.
o EXPAND DISTRIBUTION, NETWORKS AND PRODUCT OFFERINGS. We expect to
continue to leverage our distribution network by expanding our range
of branded law enforcement equipment through the acquisition of niche
defensive security products manufacturers and by investing in the
development of new and enhanced products which complement our existing
offerings. We believe that a broader product line will strengthen our
relationships with distributors and enhance our brand appeal with
military, law enforcement and other end users.
o PURSUE STRATEGIC ACQUISITIONS. In addition to our recent acquisition
of Owen Mills, we intend to continue selectively pursue strategic
acquisitions that complement and/or expand our product offerings,
provide access to new geographic markets, and provide additional
distribution channels and new customer relations.
OPERATIONS IN EREZ INDUSTRIAL ZONE
During 2004, the Israeli Government decided to evacuate the Erez Industrial
Zone in the Gaza Strip where part of our operations are located. We own
facilities, lease other facilities and maintain equipment and inventory within
this area. The Israeli Government's initial decision to evacuate the Gaza Strip
was backed by resolutions to compensate the Israeli Gaza Strip settlers as well
as business and property owners in the Gaza Strip and in the Erez Industrial
Zone. While the Israeli Government has not yet decided on the date of the
evacuation, there is no doubt that it will evacuate the area, or that it will
come to an agreement with the business and property owners for their
compensation. The compensation is mentioned in the "Evacuation Law" resolution
that was adopted by the Israeli Parliament, however, the amount of the
compensation will be negotiable.
During the last half of 2004, we prepared for the eventual evacuation by
merging existing production facilities. We moved a "light cut and sew" operation
from the Erez Industrial Zone to Sderot as well as some of our webbing equipment
to Nazareth. The Erez Industrial Zone activity will continue operating and
inventories will continue to be maintained there until the evacuation occurs.
12
Due to the Company's anticipation that it will be reimbursed for all costs
related to the evacuation of the Erez Industrial Zone and the fact that the
facility is still operating and the equipment will be relocated, no impairment
or accrued liabilities have been recorded at March 31, 2005.
THREE MONTHS ENDED MARCH 31, 2005 COMPARED WITH THREE MONTHS ENDED MARCH 31,
2004
RESULTS OF OPERATIONS
NET REVENUES AND GROSS PROFIT MARGIN. Net revenues for the three months
ended March 31, 2005 decreased to $3,684,480 from $3,746,079 in the same period
in 2004, a decrease of 1.6%. The decrease is attributable to a decrease in
export sales. We attribute this decrease in export sales to the fact that a
major export customer in 2004 did not contribute to the export sales during the
three months ended March 31, 2005. This decrease was partially offset by the
continued successful implementation of our growth plan with our focus on the
international markets and increased sales to the local markets.
The following table sets forth the breakdown of sales by segment for the
three months ended March 31, 2005 and 2004.
Three Months Ended March 31,
-----------------------
2005 2004
---------- ----------
Sales to the local civilian market $ 459,020 $ 257,087
Sales to the local military market 581,467 442,017
Export military sales 2,643,993 3,046,975
---------- ----------
Total $3,684,480 $3,746,079
---------- ----------
The dominance of export sales is expected to continue into the second
quarter of 2005. This expectation is based, among other things, on the fact that
we have broadened our export customers base.
We anticipate that our revenues for the remainder of 2005 will exceed our
sales results in the same period in 2004.
Gross profit for the three months ended March 31, 2005 was $655,097
compared to $966,239 for the same period in 2004. This decrease in gross profit
is principally attributable to the change in the mix of products sold, which
products were characterized by low profit margins, and the temporary lower
operating efficiency resulting from the partial relocation of certain
manufacturing lines from Erez Industrial Zone to Sderot. As a result, our gross
profit margin for the three months ended March 31, 2005 was 17.8% compared to
25.8% for the same period in 2004. We anticipate an increase in our gross profit
margin in the second quarter of 2005. Also affecting our gross profits in the
three months ended March 31, 2005 was the approximate 5.9% increase in the ratio
between the Euro (which is the currency used for the majority of our raw
material purchases) and the US Dollar (which is the principal currency for our
sales). We believe that the second quarter of 2005 will be characterized by an
increased demand worldwide for raw materials, that may result in significant
extensions in the regular delivery schedules and an increase in raw material
prices which will likely effect our cost of production.
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SELLING EXPENSES. Selling expenses for the three months ended March 31,
2005 increased to $144,081 from $120,919 for the same the same period in 2004.
The increase in our selling expenses was attributable to higher commission
payments on sales to a major export customer.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
for three months ended March 31, 2005 increased to $397,096 from $306,697 for
the same period in 2004. This increase is mainly a result of our activity to
expand our presence in the United States and costs associated with the partial
relocation of certain manufacturing lines from Erez Industrial Zone to Sderot.
We do not anticipate any material change in our general and administrative
expenses in the second quarter of 2005.
INCOME TAX EXPENSE. Our income tax expense for the three months ended March
31, 2005 was $49,014 as compared to a tax expense of $194,338 for the comparable
period in 2004, reflecting the lower level of earnings in the first quarter of
2005. Our effective tax rate was 32.7 % in the 2005 period, compared to 35.9% in
the 2004 period.
FINANCIAL EXPENSES. We had financial expenses, net of $44,169 for the three
months ended March 31, 2005 as compared to $24,482 for the same period in 2004.
This increase is attributed mainly to the increase in the rate of exchange
between the U.S. Dollar ($) and the New Israeli Shekel (NIS).
OTHER INCOME, NET. We had other income, net for the three months ended
March 31, 2005 of $80,226 as compared to other income of $27,198 for the same
period in 2004. The increase in other income, net is attributable to income from
our marketable securities.
LIQUIDITY AND CAPITAL RESOURCES
As of March 31, 2005, we had $528,578 in cash and cash equivalents,
$851,032 in marketable securities and working capital of $4,275,626 as compared
to $505,013 in cash and cash equivalents, $808,102 in marketable securities and
$4,344,566 in working capital on December 31, 2004. The decrease in working
capital is mainly due to our acquisition of Owen Mills Company in March 2005 and
purchase of fixed assets.
Net cash used by operating activities was $452,172 for the three months
ended March 31, 2005. This was primarily attributable to a $1,253,398 increase
in accounts receivable due to an increase in export sales from the forth quarter
of 2004, a $252,125 increase in other current assets, a $190,435 increase in
other current liabilities and a $ 189,736 increase in inventories, which was
offset by, among other things, $83,238 of net income, and a $97,553 increase in
accounts payable.
Net cash used for investing activities was $141,418 for the three months
ended March 31, 2005. During the three months ended March 31, 2005, $186,128 was
used to purchase property, plant and equipment, while $17,794 was provided from
sales of fixed assets, and $20,415 was obtained in connection with the
acquisition of Owen Mills in February 2005.
Net cash provided from financing activities was $628,928 for the three
months ended March 31, 2005. During the three months ended March 31, 2005, we
increased our short-term debt by $787,353, net and we repaid long term debt of
$158,425.
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We believe that we have sufficient working capital and borrowing capability
to sustain our current level of operations for the next twelve months.
We anticipate that our research and development expenses for the remainder
of 2005 and for 2006 will reflect annualized spending of approximately $250,000
per year. If we are unable to affect a financing that will provide for research
and development and other corporate purposes, we will fund our research and
development through our operating funds. In such event, the pace of our
anticipated research and development and subsequent production schedule would be
delayed.
FOREIGN CURRENCY EXCHANGE RISK
We develop products in Israel and sell them in South America, Asia and
several European countries. As a result, our financial results could be affected
by factors such as changes in foreign currency exchange rates or weak economic
conditions in foreign markets.
Our foreign currency exposure with respect to our sales is mitigated, and
we expect it will continue to be mitigated, through salaries, materials and
support operations, in which part of these costs are denominated in NIS.
During 2004, the NIS appreciated in value in relation to the dollar by
approximately 2.35% against the U.S. dollar. In the first quarter of 2005 the
NIS appreciated in value in relation to the dollar by approximately 1.28 %
against the U.S. dollar. Among the factors contributing to the appreciation in
NIS value in relation to the dollar is the low interest rate for US investments
compared to the higher interest rate for Israeli investments. The deflation in
Israel was approximately 0.6% for the three months ended March 31, 2005 compared
to an annual deflation of 1.2% in 2004.
Since most of our sales are quoted in U.S. dollars, and a portion of our
expenses are incurred in NIS, our results may be adversely affected by a change
in the rate of inflation in Israel or if such change in the rate of inflation is
not offset, or is offset on a lagging basis, by a corresponding devaluation of
the NIS against the U.S. dollar and other foreign currencies. We will also be
adversely affected if the U.S. dollar continues to depreciate against the Euro,
the currency used for many of our purchases of raw material.
We did not enter into any foreign exchange contracts in 2004 or the first
three months of 2005.
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CONTRACTUAL OBLIGATIONS
The following table summarizes our contractual obligations and commercial
commitments as of March 31, 2005.
Contractual Obligations Payments due by Period
----------------------- ----------------------------------------------------------
less than more than 5
Total 1 year 2-3 years 4-5 years years
--------- --------- --------- --------- --
Long-term debt obligations 1,232,500 422,287 602,972 207,241 -
Capital (finance) lease obligations - - - - -
Operating lease obligations 736,100 255,600 468,000 12,500 -
Purchase obligations - - - - -
Other long-term liabilities
reflected on the Company's
balance sheet under U.S. GAAP - - - - -
--------- --------- --------- --------- --
Total 1,968,600 677,887 1,070,972 219,741 -
========= ========= ========= ========= ==
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION AND RISK FACTORS
THIS REPORT CONTAINS FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF THE
PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995. WORDS SUCH AS "ANTICIPATE,"
"EXPECT," "INTEND," "PLAN," "BELIEVE," "SEEK," "OUTLOOK" AND "ESTIMATE" AS WELL
AS SIMILAR WORDS AND PHRASES SIGNIFY FORWARD-LOOKING STATEMENTS. OUR
FORWARD-LOOKING STATEMENTS ARE NOT GUARANTEES OF FUTURE RESULTS AND CONDITIONS
AND IMPORTANT FACTORS, RISKS AND UNCERTAINTIES MAY CAUSE OUR ACTUAL RESULTS TO
DIFFER MATERIALLY FROM THOSE EXPRESSED IN OUR FORWARD-LOOKING STATEMENTS. THESE
UNCERTAINTIES AND OTHER FACTORS INCLUDE, BUT ARE NOT LIMITED TO, THE FOLLOWING:
o Our products are used in applications that are inherently risky and could
give rise to product liability and other claims arising from the design,
manufacture or sale of such goods. If we are found to be liable in such
claim we may be required to pay substantial damages and our insurance costs
may increase significantly. Moreover, our insurance coverage may not be
sufficient to cover the payment of any potential claim. As a result of such
claim, insurance coverage will may not be available for us. The inability
to obtain product liability coverage would prohibit us from bidding for
orders from certain governmental customers.
o Our failure or inability to comply with extensive government regulation to
which we are subject could materially restrict our operations and subject
us to substantial penalties.
o Our significant international operations subject us to financial and
regulatory risks.
o Currency exchange rate fluctuations in the world markets in which we
conduct business could have a material adverse effect on our business,
results of operations and financial condition.
o Reduction in military budgets worldwide may cause a reduction in our
revenues.
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o Sales of our products are subject to governmental procurement procedures
and practices; termination, reduction or modification of contracts with our
customers, and especially with the government of Israel, or a substantial
decrease in our customers' budgets may adversely affect on us.
o The loss of one or more of our key customers would result in a loss of a
significant amount of our revenues.
o Our markets are highly competitive. Inability to compete effectively will
adversely affect us.
o Limited sources for some of our raw materials may significantly curtail our
manufacturing operations.
o Our resources may be insufficient to manage the demands imposed by any
future growth.
o Technological advances, the introduction of new products, and new design
and manufacturing techniques could adversely affect our operations unless
we are able to adapt to the resulting change in conditions.
o We may need to raise additional capital in the future, which may not be
available to us.
o Conditions in Israel affect our operations and may limit our ability to
produce and sell our products, which could decrease our revenues.
o The economic conditions in Israel have not been stable in recent years.
o Some of our directors, officers and employees are obligated to perform
annual military reserve duty in Israel. We cannot assess the potential
impact of these obligations on our business.
o Our common stock is thinly traded.
o We are subject to the penny stock rules. These rules may adversely effect
trading in our common shares.
o We do not intend to pay dividends.
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ITEM 3. CONTROLS AND PROCEDURES
Our management, including our chief executive officer and chief financial
officer, evaluated the effectiveness of our disclosure controls and procedures
(as defined in Exchange Act Rule 13a-15(e)) as of the end of the period covered
by this quarterly report on Form 10-QSB. Based upon that evaluation, our chief
executive officer and chief financial officer have concluded that, as of such
date, our disclosure controls and procedures were effective to ensure that
information required to be disclosed by our company in reports that we file or
submit under the U.S. Securities Exchange Act of 1934, as amended, is recorded,
processed, summarized and reported within the time periods specified in the
Securities and Exchange Commission's rules and forms and that such information
was made known to them by others within the company, as appropriate to allow
timely decisions regarding required disclosure.
There were no changes to our internal control over financial reporting that
occurred during the period covered by this quarterly report on Form 10-QSB that
have materially affected, or are reasonably likely to materially affect, our
internal control over financial reporting
All internal control systems, no matter how well designed, have inherent
limitations. Therefore, even those systems determined to be effective may not
prevent or detect misstatements and can provide only reasonable assurance with
respect to financial statement preparation and presentation. Also, projections
of any evaluation of effectiveness to future periods are subject to the risk
that controls may become inadequate because of changes in conditions, or that
the degree of compliance with the policies or procedures may deteriorate.
PART II - OTHER INFORMATION
DEFENSE INDUSTRIES INTERNATIONAL, INC. AND SUBSIDIARIES
ITEM 1. LEGAL PROCEEDINGS
We are not a party to any pending or to the best of our knowledge, any
threatening legal proceedings. None of our directors, officers or affiliates, or
owner of record of more than five percent (5%) of our shares, or any affiliate
of any such director, officer or security holder is a party adverse to us or has
a material interest adverse to us in reference to a pending litigation.
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ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
On February 28, 2005 we entered into an agreement of purchase and sale of
stock with Owen Mills Company, a Los Angeles based manufacturing and service
company specializing in military and industrial sewing of marine and ballistic
fabric products. Under the terms of the agreement, we purchased all of Owen
Mills Company's outstanding stock in consideration for $200,000 in cash and
shares of our common stock having a value of $200,000, based on the average
closing price per share of our shares of common stock for the ten trading days
preceding the issuance of such shares. The issuance of shares was made pursuant
to an exemption from registration under section 4(2) of the Securities Act of
1933.
ITEM 3. DEFAULT UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SHAREHOLDERS
None.
ITEM 6. EXHIBITS
(A) EXHIBITS
31.1 Certification by Chief Executive Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.
31.2 Certification by Chief Financial Officer Pursuant to Section 302 of
the Sarbanes-Oxley Act of 2002.
32.1 Certification by Chief Executive Officer Pursuant to 18 U.S.C. Section
1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
32.2 Certification by Chief Financial Officer Pursuant to 18 U.S.C. Section
1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
DEFENSE INDUSTRIES INTERNATIONAL, INC.
(Registrant)
/S/ Joseph Postbinder
---------------------
Joseph Postbinder
Chief Executive Officer
/S/ Tsippy Moldovan
-------------------
Tsippy Moldovan
Chief Accounting and Financial Officer
Date: May 23, 2005
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