UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
(x) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Quarterly Period Ended June 30, 2005
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 No. 0-25184
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ENOVA SYSTEMS, INC.
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(Exact name of registrant as specified in its charter)
CALIFORNIA 95-3056150
---------- ----------
(State or other jurisdiction of (IRS employer identification number)
incorporation or organization)
19850 South Magellan Drive Torrance, CA 90502
---------------------------------------------
(Address of Principal Executive Offices and Zip Code)
Registrant's telephone number, including area code (310) 527-2800
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter periods 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 (___)
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes [ ] No [X]
As of August 16, 2005, there were 14,728,422 shares, post-split, of Common
Stock, no par value, 2,734,000 shares of Series A Preferred Stock, no par value,
and 1,217,000 shares of Series B Preferred Stock, no par value, outstanding.
INDEX
ENOVA SYSTEMS, INC.
Page No.
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PART 1. FINANCIAL INFORMATION
Item 1. Financial Statements...............................................3
Balance Sheets:
June 30, 2005 (unaudited) and December 31, 2004....................3
Statements of Operations (unaudited):
Three and six months ended June 30, 2005 and 2004..................4
Statements of Cash Flows (unaudited):
Six months ended June 30, 2005 and 2004............................5
Notes to Financial Statements (unaudited):.........................7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations...............................13
Item 3. Quantitative and Qualitative Disclosure about Market Risk.........23
Item 4. Control and Procedures............................................23
PART II. OTHER INFORMATION
Item 1. Legal Proceedings ................................................24
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.......24
Item 3. Defaults upon Senior Securities...................................24
Item 4. Submission of Matters to a Vote of Security Holders...............24
Item 5. Other Information.................................................24
Item 6. Exhibits..........................................................24
SIGNATURE ..................................................................26
CERTIFICATIONS ...............................................................48
2
ENOVA SYSTEMS, INC.
BALANCE SHEETS
----------------------------------------------------------------------------------------------------------------
ASSETS
As of As of
June 30, 2005 December 31, 2004
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(unaudited)
Current assets
Cash and cash equivalents $ 624,000 $ 1,575,000
Accounts receivable, net 726,000 522,000
Inventories and supplies, net 889,000 1,036,000
Prepaid expenses and other current assets 445,000 304,000
------------- -------------
Total Current Assets 2,684,000 3,437,000
Property and equipment, net 346,000 387,000
Equity method investment 1,702,000 1,768,000
Other assets 242,000 296,000
------------- -------------
Total assets $ 4,974,000 $ 5,888,000
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities
Accounts payable $ 317,000 $ 66,000
Deferred revenues 84,000 392,000
Line of credit -- 229,000
Accrued payroll and related expense 169,000 194,000
Other accrued expenses 49,000 13,000
Current portion of notes payable 169,000 166,000
Current portion of capital lease obligations -- 6,000
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Total current liabilities 788,000 1,066,000
Accrued interest payable 1,528,000 1,378,000
Notes payable, net of current portion 3,332,000 3,341,000
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Total liabilities $ 5,648,000 $ 5,785,000
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Commitments and contingencies
Stockholders' equity (deficit)
Series A convertible preferred stock - no par value 30,000,000 shares
authorized 2,734,000 and 2,748,000 shares issued and outstanding
Liquidating preference at $0.60 per share, aggregating
$1,640,000 and $1,649,000 $ 1,759,000 $ 1,774,000
Series B convertible preferred stock - no par value
5,000,000 shares authorized
1,217,000 and 1,217,000 shares issued and outstanding
Liquidating preference at $2 per share aggregating $2,434,000 2,434,000 2,434,000
Common Stock, no par value
750,000,000 shares authorized
9,378,000 and 415,265,000 shares issued and
outstanding (Note 6) 91,144,000 90,465,000
Common stock subscribed 63,000 165,000
Stock notes receivable (1,176,000) (1,176,000)
Additional paid-in capital 6,901,000 6,900,000
Accumulated deficit (101,799,000) (100,459,000)
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Total stockholders' equity (deficit) (674,000) 103,000
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Total liabilities and stockholders' equity (deficit) $ 4,974,000 $ 5,888,000
============= =============
The accompanying notes are an integral part of these financial statements
3
ENOVA SYSTEMS, INC.
STATEMENTS OF OPERATIONS (Unaudited)
For the Three and Six Months Ended June 30,
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Three Months Six Months
2005 2004 2005 2004
----------- ----------- ----------- -----------
Net revenues
Research and development contracts $ 505,000 $ 262,000 $ 705,000 $ 698,000
Production 817,000 456,000 1,309,000 1,128,000
----------- ----------- ----------- -----------
Total net revenues 1,322,000 718,000 2,014,000 1,826,000
----------- ----------- ----------- -----------
Cost of revenues
Research and development contracts 300,000 188,000 419,000 493,000
Production 724,000 331,000 1,175,000 684,000
----------- ----------- ----------- -----------
Total cost of revenues 1,024,000 519,000 1,594,000 1,177,000
----------- ----------- ----------- -----------
Gross profit 298,000 199,000 420,000 649,000
----------- ----------- ----------- -----------
Other costs and expenses
Research & development 178,000 181,000 395,000 309,000
Selling, general & administrative 550,000 453,000 1,158,000 935,000
Interest and other income/expense, net 72,000 79,000 141,000 124,000
Equity in losses of equity method investee 26,000 88,000 66,000 44,000
----------- ----------- ----------- -----------
Total other costs and expenses 826,000 801,000 1,760,000 1,412,000
----------- ----------- ----------- -----------
Net loss $ (528,000) $ (602,000) $(1,340,000) $ (763,000)
=========== =========== =========== ===========
Basic and diluted loss per common share $ (0.01) $ (0.01) $ (0.01) $ (0.01)
=========== =========== =========== ===========
Weighted-average number of
shares outstanding 9,263,000 8,519,000 9,263,000 8,519,000
=========== =========== =========== ===========
The accompanying notes are an integral part of these financial statements
4
ENOVA SYSTEMS, INC.
STATEMENTS OF CASH FLOWS (Unaudited)
For the Six Months Ended June 30,
-------------------------------------------------------------------------------------
---------------------------------
2005 2004
---------------- ---------------
Cash flows from operating activities
Net loss $(1,340,000) $ (763,000)
Adjustments to reconcile net loss
to net cash used by operating activities
Depreciation and amortization 146,000 175,000
Equity in losses of equity method investee 66,000 88,000
Issuance of common stock for services 63,000 37,000
(Increase) decrease in
Accounts receivable (204,000) 165,000
Inventory and supplies 147,000 286,000
Prepaid expenses and other current assets (141,000) (8,000)
Increase (decrease) in
Accounts payable 252,000 (618,000)
Accrued expenses 11,000 30,000
Deferred revenues (308,000) --
Accrued interest payable 150,000 124,000
----------- -----------
Net cash used by operating activities (1,158,000) (484,000)
----------- -----------
Cash flows from investing activities
Purchases of property and equipment $ (51,000) $ (129,000)
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Net cash used in investing activities (51,000) (129,000)
----------- -----------
Cash flows from financing activities
Borrowings (repayments) on line of credit $ (229,000) $ 113,000
Proceeds (repayment) on notes payable and
capital lease obligations (13,000) 24,000
Proceeds from sale of common stock 500,000 2,622,000
----------- -----------
Net cash provided by (used in) financing activities 258,000 2,759,000
----------- -----------
Net increase (decrease) in cash and (951,000) 2,146,000
cash equivalents
Cash and cash equivalents,
beginning of year 1,575,000 530,000
----------- -----------
Cash and cash equivalents,
end of year $ 624,000 $ 2,676,000
=========== ===========
Supplemental disclosure of cash
flow information
Interest paid $ 4,000 $ 4,000
=========== ===========
Income taxes paid $ -- $ --
=========== ===========
Supplemental schedule of non- cash
investing and financing activities
Conversion of preferred stock
to common stock $ 13,000 $ 64,000
=========== ===========
The accompanying notes are an integral part of these financial statements
5
ENOVA SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
(Unaudited)
NOTE 1 - Basis of Presentation
The accompanying unaudited financial statements have been prepared from the
records of our company without audit and have been prepared in accordance with
accounting principles generally accepted in the United States of America for
interim financial information and with the instructions to Form 10-Q and Article
10 of Regulation S-X. Accordingly, they do not contain all the information and
notes required by accounting principles generally accepted in the United States
of America for complete financial statements. In the opinion of management, all
adjustments (consisting of normal recurring accruals) considered necessary for a
fair presentation of the financial position at June 30, 2005 and the interim
results of operations for the three and six months ended June 30, 2005 and cash
flows for the six months ended June 30, 2005 have been included. The balance
sheet at December 31, 2004, presented herein, has been prepared from the audited
financial statements of our company for the year then ended.
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires us to make estimates
and assumptions affecting the reported amounts of assets, liabilities, revenues
and expenses, and the disclosure of contingent assets and liabilities. The June
30, 2005 and December 31, 2004 inventories are reported at market value.
Inventories have been valued on the basis that they would be used, converted and
sold in the normal course of business. Certain reclassifications have been made
to the prior period's financial statements to conform to the current period's
presentation. The amounts estimated for the above, in addition to other
estimates not specifically addressed, could differ from actual results; and the
difference could have a significant impact on the financial statements.
Accounting policies followed by us are described in Note 1 to the audited
financial statements for the fiscal year ended December 31, 2004. Certain
information and footnote disclosures normally included in financial statements
prepared in accordance with accounting principles generally accepted in the
United States of America have been condensed or omitted for purposes of the
interim financial statements. The financial statements should be read in
conjunction with the audited financial statements, including the notes thereto,
for the year ended December 31, 2004, which are included in our Form 10-K Annual
Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 as
filed with the Securities and Exchange Commission.
Basic and diluted net loss per common share is computed using the weighted
average number of common shares outstanding. Since a loss from operations
exists, diluted earnings per share number is not presented because the inclusion
of common stock equivalents, consisting of Series A and B preferred stock,
unexercised stock options and warrants, would be anti-dilutive.
The results of operations for the three and six months ended June 30, 2005
presented herein are not necessarily indicative of the results to be expected
for the full year.
Revenue Recognition
From time to time, the Company enters into arrangements with its customers where
there are multiple deliverables. In accordance with Emerging Issues Task Force
Issue No. 00-21 "Revenue Arrangements with Multiple Deliverables", when a
company enters into these types of arrangements, the contract is divided into
separate units of accounting based on relative fair values, and revenue
recognition criteria are assessed separately for each separate unit of
accounting. These elements will include product sales, service elements, and
fixed-price development elements.
6
Revenues from Component Sales
Revenues from sales of components are recognized when shipped and title passes
to the customer.
Service Revenue
Services revenues are billed and recognized in the period the services are
rendered and earned and the collection of the related receivable is probable.
Method of Accounting for Long-Term Contracts
In accordance with the American Institute of Certified Public Accountant's
Statement of Position 81-1, "Accounting for Performance of Certain
Construction-Type and Certain Product Type Contracts," the Company records its
revenues on long-term, fixed price contracts on the basis of the
percentage-of-completion method applied to individual contracts, commencing when
progress reaches a point where experience is sufficient to estimate final
results with reasonable accuracy and collection of the related receivable is
probable.
That portion of the total contract price is accrued which is allocable, on the
basis of the Company's estimates of the percentage-of-completion, to contract
expenditures and work performed. Operating expenses, including indirect costs
and administrative expenses, are charged to income as incurred and are not
allocated to contract costs.
As these long-term contracts are performed, revisions in cost and profit
estimates during the course of the work are recognized in the accounting period
in which the facts which require the revision become known.
At the time a loss on a contract becomes known, the entire amount of the
estimated ultimate loss on both short- and long-term contracts is accrued.
Recently Issued Pronouncement
In March 2005, the FASB issued FIN 47, "Accounting for Conditional Asset
Retirement Obligations - an Interpretation of FASB Statement No. 143, Accounting
for Asset Retirement Obligations." This interpretation addresses the timing of
liability recognition for legal obligations associated with the retirement of a
tangible long-lived asset when the timing and/or method of settlement of the
obligation are conditional on a future event. The interpretation requires an
entity to recognize a liability for the fair value of a conditional asset
retirement obligation when incurred if the liability's fair value can be
reasonably estimated. The adoption of this interpretation did not have any
impact on our financial statements
In May 2005, the FASB issued Statement of Accounting Standards (SFAS) No. 154,
"Accounting Changes and Error Corrections" an amendment to Accounting Principles
Bulletin (APB) Opinion No. 20, "Accounting Changes", and SFAS No. 3, "Reporting
Accounting Changes in Interim Financial Statements" though SFAS No. 154 carries
forward the guidance in APB No. 20 and SFAS No. 3 with respect to accounting for
changes in estimates, changes in reporting entity, and the correction of errors.
SFAS No. 154 establishes new standards on accounting for changes in accounting
principles, whereby all such changes must be accounted for by retrospective
application to the financial statements of prior periods unless it is
impracticable to do so. SFAS No. 154 is effective for accounting changes and
error corrections made in fiscal years beginning after December 15, 2005, with
early adoption permitted for changes and corrections made in years beginning
after May 2005. The adoption of this interpretation did not have any impact on
our financial statements
7
NOTE 2 - Notes Payable
Notes payable is comprised of the following:
June 30, 2005 December 31,
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(unaudited) 2004
----------- ----
Secured note payable to Credit Managers Association of California, bearing
interest at 6% per annum during 2003 and at prime plus 3% per annum in 2004 and
through maturity. Principal and unpaid interest due in April 2016. A sinking
fund escrow is required to be
funded with 10% of future equity financing, as defined in the
agreement 3,332,000 3,332,000
Unsecured note payable, bearing interest at 10% per annum. This
note payable is in default 120,000 120,000
Secured note payable to a Coca Cola Enterprises in the original
amount of $40,000, bearing interest at 5% per annum. Principal and
unpaid interest due in July 2005 40,000 40,000
Secured note payable to a financial institution in the original
amount of $33,000, bearing interest at 8% per annum, payable in 36
equal monthly installments 9,000 15,000
---------- ----------
3,501,000 3,507,000
Less current maturities 169,000 166,000
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Total $3,332,000 $3,341,000
========== ==========
NOTE 3 - Tomoe LTA Long-Term Contract
Enova has entered into a development and production contract with Tomoe
Electro-Mechanical Engineering and Manufacturing, Inc. for eight
battery-electric locomotives for the Singapore Land Transport Authority for
service vehicles for the Singapore Mass Rapid Transit Circle Line system for
maintenance, repair, shunting and recovery of passenger trains. Completion of
the contract will take approximately 15-18 months and is valued at approximately
$3,100,000. We are recording revenues for this long-term, fixed price contract
on the basis of the percentage-of-completion method. The contract contains
several deliverables over its life and therefore we will divide these
deliverables into separate units of accounting based on relative fair values.
Revenue recognition criteria will be assessed separately for each separate unit
of accounting. As of June 30, 2005, we recorded revenues of $398,000 related to
the development portion of this contract.
NOTE 4 - Shareholders' Equity/ (Deficit)
On June 3, 2005, Enova entered into a stock purchase and warrant agreement to
issue 123,456, post-split, shares of our common stock through a private
placement offering at $4.05, per share for a total cash purchase of $500,000.
The funds were received and the shares were issued in June 2005. The warrant
agreement grants the right for the investor to purchase 24,961, post-split,
8
shares of our common stock at a price of $5.40 per share on or before June 2,
2006. These investors represented that they were accredited investors. We relied
on Rule 506 of Regulation D and Section 4(2) of the Securities Act of 1933, as
amended, for the exemption from registration of the sale of such shares.
During the three months ended June 30, 2005, we recorded 8,556 shares,
post-split, of restricted common stock as common stock subscribed to the Board
of Directors at an average price of $4.28 per share for full and telephonic
board meetings and committee meetings during the second quarter of 2005.
NOTE 5 - Related Party Transactions
During the first six months of 2005, we purchased from HHI approximately $74,000
in components, materials and services for manufacture of our drive systems and
power management systems. These purchases were made on terms and conditions
equal to or better than our standard commercial terms with other vendors. At
quarter ended June 30, 2005, our outstanding payables balance due HHI was
approximately $76,000.
NOTE 6 - Subsequent Events
On July 19, 2005, we entered into an agreement with a placement agent relating
to the sale of up to 5,350,000 new shares of its common stock. Pursuant to the
agreement, the placement agent has sold all such shares of common stock at a
price of $3.78 per share to certain eligible investors located outside the
United States. The approximate gross proceeds from the sale are $20,000,000,
before fees to Investec Investment Bank and other costs associated with the
listing and placement of approximately $2,000,000. We received approximately
$18,000,000 of net proceeds from the offering.
We listed our common stock for trading on the AIM Market of the London Stock
Exchange on July 25, 2005.
The sale of common stock described above is being conducted pursuant to the
requirements of Regulation S under the Securities Act of 1933. Among other
things, each investor purchasing shares of the Registrant's common stock in the
offering has represented that he or she is not a "U.S. Person" as defined in
Rule 902 of Regulation S. In addition, neither the Registrant nor the placement
agent has conducted any selling effort directed at the United States in
connection with the offering. All shares of common stock to be issued in the
offering will be endorsed with a restrictive legend indicating that the shares
are being issued pursuant to Regulation S under the Securities Act and will be
deemed to be "restricted securities." As a result, the purchasers of such shares
will not be able to resell the shares in the United States without registration
under the Securities Act or an applicable exemption from the registration
requirements of the Securities Act.
Additionally, on July 20, 2005 (the "Effective Date"), we filed an Amendment to
our Amended and Restated Articles of Incorporation, effecting a reverse 1-for-45
split of our common stock. The number of authorized shares were unchanged. At
the close of business on the Effective Date, each share of the our Common Stock
issued and outstanding immediately prior to the Effective Date was automatically
and without any action on the part of the holder thereof reclassified as and
changed, pursuant to a reverse stock split (the "Reverse Stock Split"), into a
fraction thereof of 1/45th of a share of our outstanding Common Stock, subject
to the treatment of fractional share interests as described below. No
certificates or scrip representing fractional share interests in the new common
stock were issued, and no such fractional share interest will entitle the holder
thereof to vote, or to any rights of a shareholder of the Company. In lieu of
any fractional shares to which a holder of Common Stock would otherwise be
entitled, we paid cash equal to (a) the average of the high-bid and low-asked
per share prices of the Common Stock as reported on the NASDAQ electronic
"Bulletin Board" on the Effective Date multiplied by (b) the number of shares of
Common Stock held by such holder that would otherwise have been exchanged for
such fractional share interest.
As such, the number of issued and outstanding shares of common stock as of June
30, 2005 has been retroactively adjusted to 9,378,422 from 422,028,840 to
reflect the effects of the reverse-split. The number of shares of common stock
authorized remains at 750,000,000. These are reflected in the financial
statements as of June 30, 2005.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
The following information should be read in conjunction with the interim
financial statements and the notes thereto in Part I, Item I of this Quarterly
Report and with Management's Discussion and Analysis of Financial Condition and
Results of Operations contained in the Company's Annual report on Form 10-K for
the year ended December 31, 2004. The matters addressed in this Management's
Discussion and Analysis of Financial Condition and Results of Operations, with
the exception of the historical information presented contains certain
forward-looking statements involving risks and uncertainties. Our actual results
could differ materially from those anticipated in these forward-looking
statements as a result of certain factors, including the risks discussed in this
Item 2 and specifically discussed in this report under the heading "Certain
Factors That May Affect Future Results" following this Management's Discussion
and Analysis section, and elsewhere in this report.
In the ordinary course of business, the Company has made a number of estimates
and assumptions relating to the reporting of results of operations and financial
condition in the preparation of its financial statements in conformity with
accounting principles generally accepted in the United States of America. Actual
results could differ significantly from those estimates under different
assumptions and conditions. The Company believes that the following discussion
addresses the Company's most critical accounting policies, which are those that
are most important to the portrayal of the Company's financial condition and
results. The Company constantly re-evaluates these significant factors and makes
adjustments where facts and circumstances dictate. Historically, actual results
have not significantly deviated from those determined using the necessary
estimates inherent in the preparation of financial statements. Estimates and
assumptions include, but are not limited to, customer receivables, inventories,
equity investments, fixed asset lives, contingencies and litigation. The Company
has also chosen certain accounting policies when options were available,
including:
o Inventories are priced at the lower of cost or market using standard
costs, which approximate actual costs on a first-in, first-out (FIFO)
basis. We maintain a perpetual inventory system and continuously record
the quantity on-hand and standard cost for each product, including
purchased components, subassemblies and finished goods. We maintain the
integrity of perpetual inventory records through periodic physical
counts of quantities on hand. Finished goods are reported as
inventories until the point of transfer to the customer. Generally,
title transfer is documented in the terms of sale.
Standard costs are generally re-assessed at least annually and reflect
achievable acquisition costs, generally the most recent vendor contract
prices for purchased parts, currently obtainable assembly and test
labor, and overhead for internally manufactured products. Manufacturing
labor and overhead costs are attributed to individual product standard
costs at a level planned to absorb spending at average utilization
volumes.
We maintain an allowance against inventory for the potential future
obsolescence or excess inventory that is based on our estimate of
future sales. A substantial decrease in expected demand for our
products, or decreases in our selling prices could lead to excess or
overvalued inventories and could require us to substantially increase
our allowance for excess inventory. If future customer demand or market
conditions are less favorable than our projections, additional
inventory write-downs may be required, and would be reflected in cost
of revenues in the period the revision is made.
o Stock Based Compensation - we periodically issue common stock or stock
options to employees and non-employees for services rendered. For
10
common stock issuances, the cost of these services is recorded based
upon the fair value of our common stock on the date of issuance. SFAS
No. 123, "Accounting for Stock-Based Compensation," establishes and
encourages the use of the fair value based method of accounting for
stock-based compensation arrangements under which compensation cost is
determined using the fair value of stock-based compensation determined
as of the date of grant and is recognized over the periods in which the
related services are rendered. The statement also permits companies to
elect to continue using the current implicit value accounting method
specified in Accounting Principles Board ("APB") Opinion No. 25,
"Accounting for Stock Issued to Employees," to account for stock-based
compensation. We have elected to use the intrinsic value based method
and has disclosed the pro forma effect of using the fair value based
method to account for its stock-based compensation. For issuances of
stock options to employees and directors we measure compensation costs
using the intrinsic value method, or APB Opinion No. 25. Stock options
granted to non-employees are accounted for under the fair value method.
The fair value of stock options granted is calculated using the Black
Scholes option pricing model based on the weighted average assumptions.
o Allowance for Doubtful Accounts - we maintain allowances for doubtful
accounts for estimated losses resulting from the inability of its
customers to make required payments. A considerable amount of judgment
is required in assessing the ultimate realization of accounts
receivable including the current credit-worthiness of each customer. If
the financial condition of the Company's customers were to deteriorate,
resulting in an impairment of their ability to make payments,
additional allowances may be required.
o Contract Services Revenue and Cost Recognition - The Company is
required to make judgments based on historical experience and future
expectations, as to the reliability of shipments made to its customers.
These judgments are required to assess the propriety of the recognition
of revenue based on Staff Accounting Bulletin ("SAB") No. 101 and 104,
"Revenue Recognition," and related guidance. The Company makes these
assessments based on the following factors: i) customer-specific
information, ii) return policies, and iii) historical experience for
issues not yet identified. Under FAS Concepts No. 5, revenues are not
recognized until earned.
The Company manufactures proprietary products and other products based
on design specifications provided by its customers. Revenue from sales
of products are generally recognized at the time title to the goods and
the benefits and risks of ownership passes to the customer which is
typically when products are shipped based on the terms of the customer
purchase agreement. Revenue relating to long-term fixed price contracts
is recognized using the percentage of completion method. Under the
percentage of completion method, contract revenues and related costs
are recognized based on the percentage that costs incurred to date bear
to total estimated costs. Changes in job performance, estimated
profitability and final contract settlements may result in revisions to
cost and revenue, and are recognized in the period in which the
revisions are determined. Contract costs include all direct materials,
subcontract and labor costs and other indirect costs. General and
administrative costs are charged to expense as incurred. At the time a
loss on a contract becomes known, the entire amount of the estimated
loss is accrued. The aggregate of costs incurred and estimated earnings
recognized on uncompleted contracts in excess of related billings is
shown as a current asset, and billings on uncompleted contracts in
excess of costs incurred and estimated earnings is shown as a current
liability.
These accounting policies were applied consistently for all periods presented.
Our operating results would be affected if other alternatives were used.
Information about the impact on our operating results is included in the
footnotes to our financial statements.
Recently Issued Accounting Standard
In March 2005, the FASB issued FIN 47, "Accounting for Conditional Asset
Retirement Obligations - an Interpretation of FASB Statement No. 143, Accounting
for Asset Retirement Obligations." This interpretation addresses the timing of
11
liability recognition for legal obligations associated with the retirement of a
tangible long-lived asset when the timing and/or method of settlement of the
obligation are conditional on a future event. The interpretation requires an
entity to recognize a liability for the fair value of a conditional asset
retirement obligation when incurred if the liability's fair value can be
reasonably estimated. The adoption of this interpretation did not have any
impact on our financial statements.
In May 2005, the FASB issued Statement of Accounting Standards (SFAS) No. 154,
"Accounting Changes and Error Corrections" an amendment to Accounting Principles
Bulletin (APB) Opinion No. 20, "Accounting Changes", and SFAS No. 3, "Reporting
Accounting Changes in Interim Financial Statements" though SFAS No. 154 carries
forward the guidance in APB No. 20 and SFAS No. 3 with respect to accounting for
changes in estimates, changes in reporting entity, and the correction of errors.
SFAS No. 154 establishes new standards on accounting for changes in accounting
principles, whereby all such changes must be accounted for by retrospective
application to the financial statements of prior periods unless it is
impracticable to do so. SFAS No. 154 is effective for accounting changes and
error corrections made in fiscal years beginning after December 15, 2005, with
early adoption permitted for changes and corrections made in years beginning
after May 2005. The adoption of this interpretation did not have any impact on
our financial statements.
GENERAL
Enova Systems, Inc., a California Corporation ("Enova" or the "Company"), was
incorporated on July 30, 1976. The Company's fiscal year ends December 31.
Enova believes it is a leader in the development and production of proprietary,
commercial digital power management systems for transportation vehicles and
stationary power generation systems. Power management systems control and
monitor electric power in an automotive or commercial application such as an
automobile or a stand-alone power generator. Drive systems are comprised of an
electric motor, an electronics control unit and a gear unit which power an
electric vehicle. Hybrid systems, which are similar to pure electric drive
systems, contain an internal combustion engine in addition to the electric
motor, eliminating external recharging of the battery system. A hydrogen fuel
cell based system is similar to a hybrid system, except that instead of an
internal combustion engine, a fuel cell is utilized as the power source. A fuel
cell is a system which combines hydrogen and oxygen in a chemical process to
produce electricity. Stationary power systems utilize similar components to
those which are in a mobile drive system in addition to other elements. These
stationary systems are effective as power-assist or back-up systems, alternative
power, for residential, commercial and industrial applications.
A fundamental element of Enova's strategy is to develop and produce advanced
proprietary software, firmware and hardware for applications in these
alternative power markets. Our focus is digital power conversion, power
management, and system integration, for two broad market applications - vehicle
power generation and stationary power generation.
Specifically, we develop; design and produce drive systems and related
components for electric, hybrid-electric, fuel cell and microturbine-powered
vehicles. We also develop, design and produce power management and power
conversion components for stationary distributed power generation systems. These
stationary applications can employ hydrogen fuel cells, microturbines, or
advanced batteries for power storage and generation. Additionally, we perform
research and development to augment and support others' and our own related
product development efforts.
Our product development strategy is to design and introduce to market
successively advanced products, each based on our core technical competencies.
In each of our product / market segments, we provide products and services to
leverage our core competencies in digital power management, power conversion and
system integration. We believe that the underlying technical requirements shared
among the market segments will allow us to more quickly transition from one
emerging market to the next, with the goal of capturing early market share.
12
Enova's primary market focus centers on both series and parallel heavy-duty
drive systems for multiple vehicle and marine applications. We believe
series-hybrid and parallel hybrid heavy-duty drive system sales offer Enova the
greatest return on investment in both the short and long term. Additionally,
Enova management believes that this area will see significant growth over the
next several years. As we penetrate more market areas, we are continually
refining and optimizing both our market strategy and our product line to
maintain our leading edge in power management and conversion systems for mobile
applications.
Management's strategy is to provide a dual path approach in offering both a
series and parallel hybrid drive systems solution. We have developed or are
developing a variety of heavy-duty drive system solutions including our series
hybrid drive system featuring our diesel generator set; a post-transmission
parallel hybrid system and two variations of a pre-transmission parallel hybrid
drive system. Many of these systems are currently being utilized in our
customer's trucks and buses such as the Mack R-11 refueler vehicle which
utilizes our post-transmission parallel hybrid and WrightBus of the United
Kingdom's 10m bus which utilizes our series hybrid drive system.
Additionally, we continue to pursue privately and governmental funded
development programs. These programs allow us to increase our revenue base, form
new alliances with major OEMs and participate in the latest trends in
alternative fuel technologies. Research and development revenues in the second
quarter of 2005 are a result of engineering services for the Hyundai Motor
Company for their fuel cell bus, Ford Motor Company for their fuel cell vehicle,
Tomoe's hybrid train programs and various Hawaii Center for Advanced
Transportation Technologies (HCATT) programs.
In the quarter ended June 30, 2005, we continued with our development efforts
with both new and existing customers. Enova, teaming with Concurrent
Technologies Corporation (CTC), continues to supply product and assist in the
integration of a fuel cell hybrid drive system for a MB4 tow tractor for the
U.S. Air Force. Additionally, we are nearing completion of a parallel hybrid
drive system study for HCATT in conjunction with the U.S. Air Force. We continue
to receive greater recognition from both governmental and private industry with
regards to both commercial and military application of our hybrid drive systems
and fuel cell power management technologies. Although we believe that current
negotiations with several parties may result in development and production
contracts during 2005 and beyond, there are no assurances that such additional
agreements will be realized.
During the quarter ended June 30, 2005, we continued to develop and produce
electric and hybrid electric drive systems and components for FAW China, Wright
Bus and Eneco of the United Kingdom, EcoPower Technology (EPT) of Italy,
Tsinghua University of China, MTrans of Malaysia, Tomoe Electro-Mechanical
Engineering and Manufacturing, Inc. of Japan and several other domestic and
international vehicle and bus manufacturers.
Our various electric and hybrid-electric drive systems, power management and
power conversion systems are being used in applications, including Class 8
trucks, train locomotives, transit buses and industrial vehicles as well as in
non-transportation applications such as fuel-cell management and power
management systems, including the EDO minesweeper. We have furthered our
development and production of systems for both mobile and stationary fuel cell
powered systems with major companies such as Ford and Hydrogenics, a fuel cell
developer in Canada.
Heavy-Duty Drive Systems - Buses, Trucks, Vans and Other Industrial Vehicle
--------------------------------------------------------------------------------
Applications
------------
Enova's primary market focus centers on both series and parallel heavy-duty
drive systems for multiple vehicle and marine applications. We believe
series-hybrid and parallel hybrid heavy-duty drive system sales offer Enova the
greatest return on investment in both the short and long term. Although this
market sector has developed more slowly than anticipated, management believes
that this area will see significant growth over the next several years. As the
Company penetrates more market areas, we are continually refining and optimizing
both our market strategy and our product line to enhance our power management
and conversion systems for mobile applications.
13
In the second quarter of 2005, we continued to market our latest hybrid, the
HybridPower Series Hybrid, to customers in Europe and Asia. Enova's new diesel
generator set, the power component within the hybrid drive system, delivers 60
kilowatts volts of continuous power, enabling it to integrate seamlessly with
Enova's 240kW or 120kW drive motors and other digital power management
components. The series hybrid genset consists of a 60kW electric motor, a motor
controller and a diesel engine meeting stringent Euro 3 or Euro 4 emission
specifications. The genset is distinctively designed to allow end users to
choose the engine best suited for their commercial needs, permitting a wide
variety of engine choices.
During the second quarter of 2005, we delivered two 120kW and 240kW HybridPower
drive systems to Tsinghua University in China for its fuel cell hybrid bus
development program. Our pre-transmission parallel hybrid drive system program
with FAW for their buses continued during the second quarter of 2005. The first
vehicle was successfully integrated and tested, and FAW has commenced
integration of the second and third buses. We anticipate an order for an
additional three systems in the second half of 2005. Management believes that
these development and initial production programs will result in additional
production contracts during 2005 and beyond; however at this time; there are no
assurances that such additional contracts will be consummated.
Our eight drive system contract with Tomoe for Singapore Land Transport
Authority's eight battery-electric locomotives continues on target. Over the
last several years, Enova successfully integrated its HybridPowerTM drive
systems into Tomoe's heavy-duty Isuzu dump truck application, three passenger
trams and a mine tunnel crawler. It is anticipated that the hybrid drive train
components will begin being delivered in late 2005 at Tomoe's Japan-based
facilities. Enova anticipates the total contract to exceed US$3 million over the
life of the contract which is anticipated to run through the second quarter of
2006. This latest market penetration in Asia enhances not only Enova's alliances
with both Tomoe and HHI, but also advances Enova's hybrid-electric technologies
in high voltage power management components. As part of this contract, Enova
will develop a high voltage charging system to enable the locomotive to receive
a direct battery charge from the high voltage rail. Tomoe and Enova continue to
develop other commercial and industrial applications for our drive systems,
including potential light rail applications. For the quarter ended June 30, 2005
we billed approximately $210,000 for these various systems. Although we
anticipate additional orders for these systems in 2005 and beyond, there are no
assurances that such additional orders will be forthcoming.
WrightBus, one of the largest low-floor bus manufacturers in the United Kingdom,
continues to purchase our diesel genset-powered, series hybrid drive systems for
their medium and large bus applications. We delivered three 120kW drive systems
during the 2nd quarter of 2005 for a total of $132,000 to be delivered. In late
2004, we entered into an exclusive three-year agreement with WrightBus for the
sale of certain Enova products for specific vehicles in the United Kingdom.
WrightBus has notified us of potential additional orders for 2005 as well as
requirements for 2006 through 2007. At this time, however, there are no
assurances that such additional orders will be forthcoming.
We have begun delivery of the sixteen 120kW electric drive systems to Eneco of
the United Kingdom, a vehicle integrator which utilizes Enova's HybridPower
120kW drive systems in its hybrid bus applications. These production system
deliveries will continue into the 3rd and 4th quarters of 2005. Eneco has
notified us of its plans to order additional 120kw systems in the 3rd and 4th
quarter 2005 for its bus programs. At this time, however, there are no
assurances that such additional orders will be forthcoming.
In Italy, our relationship with EPT continues to build as they order additional
hybrid electric HybridPowerTM 120kw drive systems for their bus customers in
Turin, Genoa, Brescia, Ferrara and Vicenza. We delivered five drive systems and
various other power management components to EPT in the 2nd quarter for a total
of $138,000. EPT has notified Enova of its requirements for additional drive
systems in 2005; however, there are no assurances that such additional orders
will be forthcoming.
14
Additionally, we are in discussions with other bus manufacturers and industrial,
commercial and military vehicle manufacturers regarding the purchase of our
heavy-duty, high performance, parallel and series hybrid drive systems in 2005.
There are no assurances, however, that these discussions will result in any
sales of the HybridPower parallel or series hybrid drive systems.
Light-Duty Drive Systems - Automobiles and Delivery vehicles
------------------------------------------------------------
Our 90kW controller, motor and gear unit is utilized in light duty vehicles such
as midsize automobiles and delivery vehicles. The topology of this system is
being adapted to also be utilized as a parallel hybrid motor and controller
system. We are beginning to receive more interest in our light-duty systems from
both European and Asian customers.
Our 90kW motor controller is utilized in the parallel hybrid drive system
designed for FAW. In conjunction with the 90kW motor, FAW and Enova are
evaluating this latest usage of our hybrid technologies. As noted earlier, we
anticipate additional demand for these systems. At this time, however, there are
no assurances that such additional orders will be forthcoming.
We continue to cross-sell our systems to new and current customers in the light
and medium duty vehicle markets, both domestically and globally.
Fuel Cell Technologies
----------------------
Due to the success of the 20kW High Voltage Energy Converter (HVEC) development
program with Ford Motor Company for their fuel cell vehicle, Ford has entered
into another development contract with Enova for a 30kW converter. We delivered
two of our new 30kW HVEC systems to Ford in early July for use in their fuel
cell vehicle development programs. The 20kW HVEC is a key component in Ford's
Focus Fuel Cell Vehicle (FCV) which utilizes the Ballard fuel cell system. It
converts high voltage power from the fuel cell into a lower voltage for use by
the drive system and electronic accessories. There is a potential for additional
production orders for HVEC units from Ford in 2005 and beyond; however, at this
time, there are no assurances that such additional orders will be forthcoming.
Furthermore, we are applying the technology and components derived from this
program to other applications. The HVEC is a critical component of our Fuel Cell
bus programs and other fuel cell powered systems such as the Hyundai fuel cell
vehicle. Both of these projects are further detailed in the research and
development programs section set forth below.
Our latest projects with both CTC and HCATT for a fuel cell powered MB-4 tow
tractor and a step-van, respectively, both utilize our HVEC units to control and
adapt power between the fuel cells, the batteries and the power electronics of
the drive system. In heavy-duty mobile applications such as these, Enova has
developed firmware to run our HVEC units in parallel for greater power capacity.
Enova's fuel cell enabling components are part of the proposed fleets of fuel
cell vehicles being utilized by both Ford Motor Company - the Ford Focus FCV-
and Hyundai Motor Company - the Hyundai Tucson fuel cell hybrid electric vehicle
- in response to the U.S. Department of Energy's solicitation, entitled
"Controlled Hydrogen Fleet and Infrastructure Demonstration and Validation
Project." This government-funded project, which commenced in late 2004, will
last over five years evaluating the economic and performance feasibility of fuel
cell vehicles and infrastructure across the U.S.
The Company will continue to explore new applications for this versatile
technology in both mobile and stationary systems.
Research and Development Programs
---------------------------------
We continue to pursue government and commercially sponsored development programs
for both ground and marine heavy-duty drive system applications.
15
Our program with Mack Truck, Inc., Powertrain division - a unit of The Volvo
Group, Sweden, for the development and manufacture of a motor controller,
electric motor and battery management systems for a new parallel hybrid drive
system continues on schedule. The new parallel hybrid vehicle program is part of
the Air Force's efforts to improve efficiency, reduce fuel and maintenance
costs, provide re-generative brake energy and reduce emissions. The refueler
fleet consists of approximately 300 vehicles and, upon successful completion and
evaluation of the refueler vehicle, there is the potential for additional
upgrades to the parallel hybrid drive system. As part of the program, Mack
Trucks will also evaluate the applicability of the drive system to commercial
vehicles commencing with its Class 8 Refuse Hauler. Mack Truck currently
produces approximately 3,000 refuse vehicles per annum for major customers such
as Waste Management. This development program is anticipated to be completed in
mid 2005, followed by an evaluation period of approximately three to nine
months.
We received additional orders for our fuel cell power management and conversion
components for Hyundai Motor Company's (HMC) latest fuel cell hybrid electric
vehicle, the Tucson, which was unveiled at the Geneva Auto Show in March 2004.
During the second quarter of 2005, Enova received an order for 5 additional
systems for delivery in the 3rd quarter 2005. HMC has notified Enova of its
intent to order up to 35 more motors and controllers for additional vehicles for
2005 and 2006. Although we believe there is potential for such production in
2005, there can be no assurances at this time that such orders will be realized.
Our HCATT fuel cell powered step-van continues on schedule to be completed in
the third quarter of 2005, ending with an evaluation phase. This vehicle is
almost identical to the Purolator step-van and utilizes the same fuel cell
powered drive systems and components. We are experiencing a notable increase in
interest from both government and military organizations for our products and
integration services. The first of these being the project with CTC for the fuel
cell powered MB-4 tow tractor. For the quarter ended June 30, 2005, we billed
approximately $85,000 for all of our HCATT programs. Additionally, during the
first quarter of 2005, we commenced a parallel hybrid study project with HCATT
which may lead to a contract for the development of a pre-transmission parallel
hybrid step-van for the U.S. Air Force in the second half of 2005. . Although we
believe there is potential for production of this type of drive system and other
development programs in 2005, there can be no assurances at this time that such
contracts will be realized.
We intend to establish new development programs with the Hawaii Center for
Advanced Transportation Technologies in mobile and marine applications as well
as other state and federal government agencies as funding becomes available.
LIQUIDITY AND CAPITAL RESOURCES
We have experienced cash flow shortages due to operating losses primarily
attributable to research, development, marketing and other costs associated with
our strategic plan as an international developer and supplier of electric
propulsion and power management systems and components. Cash flows from
operations have not been sufficient to meet our obligations. Therefore, we have
had to raise funds through several financing transactions. At least until we
reach breakeven volume in sales and develop and/or acquire the capability to
manufacture and sell our products profitably, we will need to continue to rely
on cash from external financing sources.
In the second quarter of 2005, Enova entered into a stock purchase and warrant
agreement to issue 123,456 post-split, shares of our common stock through a
private placement offering at $4.05, per share for a total cash purchase of
$500,000. The funds were received and the shares were issued in June 2005. The
warrant agreement grants the right for the investor to purchase 24,961,
post-split, shares of our common stock at a price of $5.40 per share on or
before June 2, 2006. These investors represented that they were accredited
investors. We relied on Rule 506 of Regulation D and Section 4(2) of the
Securities Act of 1933, as amended, for the exemption from registration of the
sale of such shares.
16
On July 19, 2005, we entered into an agreement with a placement agent relating
to the sale of up to 5,350,000 new shares of its common stock. Pursuant to the
agreement, the placement agent has sold all such shares of common stock at a
price of $3.78 per share to certain eligible investors located outside the
United States. The approximate gross proceeds from the sale are $20,000,000,
before fees to Investec Investment Bank and other costs associated with the
listing and placement of approximately $2,000,000. We received approximately
$18,000,000 of net proceeds from the offering. The sale of this common stock was
conducted pursuant to the requirements of Regulation S under the Securities Act
of 1933. Among other things, each investor purchasing shares of the Registrant's
common stock in the offering has represented that he or she is not a "U.S.
Person" as defined in Rule 902 of Regulation S. In addition, neither the
Registrant nor the placement agent has conducted any selling effort directed at
the United States in connection with the offering. All shares of common stock to
be issued in the offering will be endorsed with a restrictive legend indicating
that the shares are being issued pursuant to Regulation S under the Securities
Act and will be deemed to be "restricted securities." As a result, the
purchasers of such shares will not be able to resell the shares in the United
States without registration under the Securities Act or an applicable exemption
from the registration requirements of the Securities Act.
Our operations during the quarter ended June 30, 2005 were financed by
development contracts and product sales, as well as from working capital
reserves.
During the six months ended June 30, 2005, our operations required $1,158,000
more in cash than was generated. Enova continues to increase marketing and
development spending as well as administrative expenses necessary for expansion
to meet customer demand. Accounts receivable increased by $204,000 from
$522,000, or approximately 39% from the balance at December 31, 2004 (net of
write-offs). The increase results from additional product sales in the second
quarter as well as continued progress on our development contracts with Tomoe
and HMC. We are realizing an increase in sales activity for our drive systems,
components and development services which commenced in the fourth quarter of
2004 and we anticipate that we will increase receivables during the next several
quarters. Inventory decreased by $147,000 from $1,036,000 or 14% from December
31, 2004 balances. The decrease was due to the fulfillment of product orders
received in the first quarter of 2005.
Prepaid expenses increased by net $141,000 at June 30, 2005 from the December
31, 2004 balance of $304,000 or 37% due to the renewal of our various insurance
policies and deposits placed for several inventory purchases.
Fixed assets increased by $51,000 or 3%, before depreciation, for the quarter
ended June 30, 2005 from the prior year balance of $1,754,000 due to the
purchase of both computer and production equipment.
Investments decreased by $66,000 for the six months ended June 30, 2005 from
$1,768,000 at December 31, 2004, which reflects our pro-rata share of losses
attributable to our forty percent investment interest in the Hyundai-Enova
Innovative Technology Center (ITC). For the six months ended June 30, 2005, the
ITC generated a net loss of approximately $165,000, resulting in a charge to
Enova of $66,000 utilizing the equity method of accounting for our interest in
the ITC.
Other assets decreased by $54,000 over the six months ended June 30, 2005 from
$296,000 at December 31, 2004 as we continued to amortize the asset relating to
the Ford Value Participation Agreement and our other intellectual property
assets. Intellectual property assets, including patents and trademarks remained
unchanged at $92,000 at June 30, 2005.
Accounts payable increased over the six months ended June 30, 2005 by $252,000
to $317,000 from $66,000 at December 31, 2004. The increase in accounts payable
is due to additional purchases of materials and goods for customers. These
payables are routinely incurred and paid during the ordinary course of business.
17
Deferred revenue decreased from $392,000 to $84,000 in the six months ended June
30, 2005 as we recognized an additional $308,000 in revenues for the six months
ended June 30, 2005 on the Tomoe Singapore project based on the percentage of
completion method of revenue recognition. The deferred revenues for the current
portion of this contract have been fully recognized and we will commence billing
as we progress on the development and production phases of that contract in 2005
and 2006. Other accrued expenses, including accrued payroll, increased by a net
of $11,000 for the six months ended June 30, 2005 from the balance of $207,000
at December 31, 2004, from a combination of factors including increases in
insurance contracts payable associated with our liability insurance policies and
quarter-end payroll accruals. During the quarter ended June 30, 2005, we also
paid off our Line of Credit for a total reduction of $229,000 from the December
31, 2004 balance.
Accrued interest increased by $150,000 for the quarter ended June 30, 2005, an
increase of 11% from the balance of $1,378,000 at December 31, 2004. The
increase was due to interest on the Note due the Credit Managers Association of
California for $3.2 million per the terms of the Note as well as the Schulz note
payable as discussed in Note 2 of the financial statements.
The future unavailability or inadequacy of financing to meet future needs could
force us to delay, modify, suspend or cease some or all aspects of our planned
operations.
RESULTS OF OPERATIONS
Net revenues for the three and six month periods ending June 30, 2005 were
$1,322,000 and $2,014,000, respectively, as compared with $718,000 and
$1,826,000 for the corresponding periods in 2004, an increase of 84% and 10%
respectively. Net production revenues for the quarter ended June 30, 2005
increased to $817,000 from $456,000 for the same period in 2004. Net R&D
revenues for the quarter ended June 30, 2005 increased to $505,000 from $262,000
for the quarter ended June 30, 2004. The increase in production revenues is
primarily the result of delivery of drive systems to our customers as forecasted
in prior quarters. Our sources of revenue for the second quarter of 2005 came
predominantly from product sales rather than development contracts. Product
sales as a percentage of total revenues were 62% for the three months ended June
30, 2005, and 65% of total revenues for the six months ended therein, with sales
of our HybridPower 120kW drive systems accounting for a majority of our product
sales. We believe this trend will continue to accelerate for the foreseeable
future as more current and prospective customers purchase additional drive
systems for their production vehicles. We will continue to seek out and contract
for new development programs with both our current partners such as WrightBus,
Eneco, EPT, FAW, Tomoe, Hyundai and our other U.S., Asian and European alliance
partners, as well as with new alliances with other vehicle manufacturers and
energy companies to enhance our technology and our product offerings. Research
and development revenues for the second quarter of 2005 are a result of
development programs and engineering services for the Tomoe LTA train, the HMC
fuel cell bus and various HCATT programs.
Cost of revenues consists of component and material costs, direct labor costs,
integration costs and overhead related to manufacturing our products. Product
development costs incurred in the performance of engineering development
contracts for the U.S. Government and private companies are charged to cost of
sales for this contract revenue. Cost of revenues for the quarter ended June 30,
2005 increased $505,000 to $1,024,000 from $519,000 for the same period in 2004.
For the six months ending June 30, 2005, there was an increase in cost of
revenues from $1,177,000 to $1,594,000 for the same six-month period in 2004.
These increases are primarily attributable to the increase in sales for the
three and six months, as well as additional support costs for some of our new
product lines. We anticipate there may be additional increases in cost of sales
for products in 2005 due to foreign exchange rate fluctuations of the U.S.
dollar versus those currencies of our primary manufacturer. We anticipate this
to be offset by a reduction in costs associated with manufacturing these
products due to increasing purchases, thereby improving our gross margins.
Internal research, development and engineering expenses remained constant for
the three months ended June 30, 2005 at $178,000 as compared with $181,000 in
the same period in 2004. For the six months ended June 30, 2005, such expenses
18
increased to $395,000 from $309,000 in 2004. As the market for heavy-duty hybrid
vehicles continues to evolve and grow, we have increased allocating engineering
resources to the development and enhancement of our new parallel hybrid drive
systems, our series hybrid system, upgrading proprietary control software,
higher power DC-DC converters and advancing our digital inverters and other
power management firmware.
Selling, general and administrative expenses increased from $453,000 to
$550,000, or 21%, for the three months ended June 30, 2005 from the previous
year's comparable period. For the six months ended June 30, 2005, the increase
was from $935,000 to $1,158,000 or a 24% increase. The increases are
attributable to additional marketing, engineering and technical staff employed
in the first half of 2005 as well as increased expense due to stricter
regulatory oversight in conjunction with the Sarbanes-Oxley Act of 2002 and our
efforts to attract additional capital funding. Management continues to implement
cost reduction strategies in 2005 in its efforts to achieve profitability,
although management cannot assure that profitability will be achieved.
Net interest and other income/expense remained relatively constant at
approximately $72,000 for the second quarter of 2005, down slightly from the
same period in 2004. For the six months ended June 30, 2005, net interest and
other income/expense was $141,000 compared to $124,000 for the same period in
2004.
We incurred a loss from continuing operations of $528,000 in the second quarter
of 2005 compared to a loss of $602,000 in the second quarter of 2004, which
represents a 5% reduction in loss. For the six months ending June 30, 2005, the
loss increased from $763,000 to $1,340,000 or a 75% increase. The increase was
attributable to several factors including higher comparative costs of revenue
due to the type of products sold in the first half of 2005 as compared to 2004,
higher support costs in the second quarter of 2005, increased internal
development efforts and higher general operating costs due to factors noted
above. By increasing sales revenues while maintaining cost management strategies
currently in effect, we believe we will be able to reduce our annual loss from
operations as compared with prior years' results; however, management cannot
assure that these results will be achieved.
CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS
This Form 10-Q contains forward-looking statements concerning our existing and
future products, markets, expenses, revenues, liquidity, performance and cash
needs as well as our plans and strategies. Forward-looking statements may be
identified by the use of terminology such as "may," "anticipate," "estimate,"
"plans," "expects," "believes," "will," "potential" and by other comparable
terminology or the negative of any of the foregoing. These forward-looking
statements involve risks and uncertainties and are based on current management's
expectations and we are not obligated to update this information. Many factors
could cause actual results and events to differ significantly from the results
anticipated by us and described in these forward looking statements including,
but not limited to, the following risk factors.
Net Operating Losses. We experienced recurring losses from operations and had an
accumulated deficit of $101,798,000 at June 30, 2005. There is no assurance,
however, that any net operating losses will be available to us in the future as
an offset against future profits for income tax purposes.
Continued Losses. For the three months ended June 30, 2005 and 2004, we had net
losses of $528,000 and $602,000 respectively on sales of $1,322,000 and
$718,000, respectively. For the six months ended June 30, 2005 and 2004, we had
net losses of $1,340,000 and $763,000 respectively on sales of $2,014,000 and
$1,826,000, respectively.
Our independent auditors' opinion on our audited financial statements includes a
going concern qualification. Our independent auditors have included an
explanatory paragraph in their audit report issued in connection with our
financial statements for the year ended December 31, 2004 which states that our
recurring operating losses raise substantial doubt about our ability to continue
as a going concern. Our ability to continue as a going concern is dependent on
its success at obtaining additional capital sufficient to meet its obligations
on a timely basis, and to ultimately attain profitability.
19
In July 2005, we raised approximately $20,000,000 with net proceeds to the
Company of approximately $18,000,000 in conjunction with a placement of
5,350,000 shares of common stock on the London Stock Exchanges AIM Market as
detailed in Note 6 of our financial statements included in the Form 10-Q. We
believe we now have sufficient funds to continue operations for the next
thirteen months.
Nature of Industry. The mobile and stationary power markets, including electric
vehicle and hybrid electric vehicles, continue to be subject to rapid
technological change. Most of the major domestic and foreign vehicle
manufacturers and vehicle component manufacturers: (1) have already produced
electric and hybrid vehicles, and/or (2) have developed improved electric
storage, propulsion and control systems, and/or (3) are now entering or have
entered into production, while continuing to improve technology or incorporate
newer technology. In addition, the stationary power market is still in its
infancy. A number of established energy companies are developing new
technologies. Cost-effective methods to reduce price per kilowatt have yet to be
established and the stationary power market is not yet viable.
Our current products are designed for use with, and are dependent upon, existing
technology. As technologies change, and subject to our limited available
resources, we plan to upgrade or adapt our products in order to continue to
provide products with the latest technology. We cannot assure you, however, that
we will be able to avoid technological obsolescence, that the market for our
products will not ultimately be dominated by technologies other than ours, or
that we will be able to adapt to changes in or create "leading-edge" technology.
In addition, further proprietary technological development by others could
prohibit us from using our own technology.
Our industry is affected by political and legislative changes. In recent years
there has been significant public pressure to enact legislation in the United
States and abroad to reduce or eliminate automobile pollution. Although states
such as California have enacted such legislation, we cannot assure you that
there will not be further legislation enacted changing current requirements or
that current legislation or state mandates will not be repealed or amended, or
that a different form of zero emission or low emission vehicle will not be
invented, developed and produced, and achieve greater market acceptance than
electric or hybrid electric vehicles. Extensions, modifications or reductions of
current federal and state legislation, mandates and potential tax incentives
could also adversely affect our business prospects if implemented.
Changed legislative climate. Because vehicles powered by internal combustion
engines cause pollution, there has been significant public pressure in Europe
and Asia, and enacted or pending legislation in the United States at the federal
level and in certain states, to promote or mandate the use of vehicles with no
tailpipe emissions ("zero emission vehicles") or reduced tailpipe emissions
("low emission vehicles"). Legislation requiring or promoting zero or low
emission vehicles is necessary to create a significant market for electric
vehicles. The California Air Resources Board (CARB) is continuing to modify its
regulations regarding its mandatory limits for zero emission and low emission
vehicles. Furthermore, several car manufacturers have challenged these mandates
in court and have obtained injunctions to delay these mandates.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
None.
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of disclosure controls and procedures.
In accordance with Rule 13a-15(b) of the Securities Exchange Act of 1934 (the
"Exchange Act"), an evaluation was carried out by the Company's President, Chief
Executive Officer and its acting Chief Financial Officer, of the effectiveness
of the design and operation of the Company's disclosure controls and procedures
20
(as defined in Rule 13a-14(c) and 15d-14(c) under the Exchange Act) as of the
end of the quarter ended June 30, 2005. Based upon that evaluation of these
disclosure controls and procedures, the President, Chief Executive Officer and
acting Chief Financial Officer concluded that the disclosure controls and
procedures were effective as of the end of the quarter ended June 30, 2005 to
ensure that material information relating to the Company was made known to him
particularly during the period in which this quarterly report on Form 10-Q was
being prepared.
Changes in internal controls over financial reporting.
There was not any change in the Company's internal control over financial
reporting that occurred during the quarter ended June 30, 2005 that has
materially affected, or is reasonably likely to materially affect, the Company's
internal control over financial reporting.
21
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
We may from time to time become a party to various legal proceedings arising in
the ordinary course of business. As of July 12, 2005, the Company was not
involved in any legal proceedings.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
California law prohibits the payment of dividends unless the Company has
sufficient retained earnings or meets certain asset to liability ratios.
On June 3, 2005, Enova entered into a stock purchase and warrant agreement to
issue 123,456, post-split, shares of our common stock through a private
placement offering at $4.05, per share for a total cash purchase of $500,000.
The funds were received and the shares were issued in June 2005. The warrant
agreement grants the right for the investor to purchase 24,961, post-split,
shares of our common stock at a price of $5.40 per share on or before June 2,
2006. These investors represented that they were accredited investors. We relied
on Rule 506 of Regulation D and Section 4(2) of the Securities Act of 1933, as
amended, for the exemption from registration of the sale of such shares.
During the three months ended June 30, 2005, the Company has issued or accrued
common stock of Enova to the non-executive board directors in accordance with
the September 1999 Board of Directors compensation package for outside
directors. During the three months ended June 30, 2005, we recorded 8,556,
post-split shares of restricted common stock as common stock subscribed to the
Board of Directors at an average price of $4.28 per share for full and
telephonic board meetings and committee meetings during the second quarter of
2005. We relied on Rule 506 of Regulation D and Section 4(2) of the Securities
Act of 1933, as amended, for the exemption from registration of the sale of such
shares. As of June 30, 2005, 93,258 shares, post-split, had been issued under
the above compensation plan for Directors.
Item 3. Defaults upon Senior Securities: None.
Item 4. Submission of Matters to a Vote of Securities Holders: None.
Item 5. Other Information:
On July 14, 2005, the Company entered into indemnification agreements with each
of its directors (each an "Indemnitee"). The agreements govern each Indemnitee's
right to indemnification in accordance with the Company's Articles of
Incorporation and applicable law. Pursuant to the agreements, the Company will
maintain Director and Officer Insurance for each Indemnitee. In addition, the
Company will indemnify the Indemnitee against expenses incurred in connection
with any threatened, pending or completed action, suit or other proceeding to
which the Indemnitee is a party by reason of the fact that the Indemnitee is or
was an agent of the Company. The Company is obligated to advance all expenses
incurred by the Indemnitee in connection with a qualifying proceeding within 20
days following a written request by the Indemnitee. The Indemnitee is obligated
to repay such amounts advanced if it is ultimately determined, pursuant to the
terms of the agreement, that the Indemnitee is not entitled to indemnification.
22
Item 6. Exhibits:
10.24* Form of Stock Purchase Agreement dated June 3, 2005 between Registrant
and Eruca Limited.
10.25* Form of Warrant Agreement dated June 3, 2005 between Registrant and
Eruca Limited.
10.26* Form of Director's Indemnification Agreement dated July 14, 2005
between Registrant and each of its directors as of July 14, 2005.
31.1* Certification of Chief Executive Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act Of 2002
31.2* Certification of Chief Financial Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
32* Certification Pursuant to 18 U.S.C. Section 1350
----------------------
* - filed herewith
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SIGNATURE
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.
Date: August 16, 2005
ENOVA SYSTEMS, INC.
(Registrant)
/s/ Larry B. Lombard
-------------------------------
By: Larry B. Lombard, Chief Financial Officer
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