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 SEPTEMBER 30, 2006 or [_] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 FOR THE TRANSITION PERIOD FROM ________ TO _________ COMMISSION FILE NUMBER 1-9125 AMERICAN TECHNICAL CERAMICS CORP. (Exact Name of Company as Specified in Its Charter) DELAWARE 11-2113382 (State or Other Jurisdiction of (I.R.S. Employer Identification No.) Incorporation or Organization) 1 NORDEN LANE, HUNTINGTON STATION, NY 11746 (Address of Principal Executive Offices) (Zip Code) (631) 622-4700 (Telephone Number, Including Area Code) Indicate by check mark whether the Company (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 period that the Company 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 Company is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. Large accelerated filer [_] Accelerated filer [_] Non-accelerated filer [X] Indicate by check mark whether the Company is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [_] No [X] As of November 6, 2006, the Company had outstanding 8,726,023 shares of Common Stock, par value $0.01 per share. PART 1 - FINANCIAL INFORMATION ITEM 1. Financial Statements AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (In thousands, except per share data) SEPTEMBER 30, JUNE 30, 2006 2006 ------------- -------- (unaudited) ASSETS Current assets Cash (including cash equivalents of $2 and $2, respectively) $ 6,591 $ 6,230 Investments 2,121 2,094 Accounts receivable (net of allowance for doubtful accounts of $332 and $401, respectively) 12,401 12,719 Inventories 36,342 33,255 Deferred income taxes, net 3,457 3,472 Prepaid and other current assets 979 1,035 ------- ------- TOTAL CURRENT ASSETS 61,891 58,805 ------- ------- Property, plant and equipment (net of accumulated depreciation and amortization of $54,402 and $52,827, respectively) 31,573 31,375 Other assets 343 363 ------- ------- TOTAL ASSETS $93,807 $90,543 ======= ======= LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities Current portion of long-term debt (including related party debt of $498 and $485, respectively) $ 1,985 $ 1,957 Accounts payable 3,363 3,005 Accrued expenses 5,949 6,192 Income taxes payable 1,607 1,002 ------- ------- TOTAL CURRENT LIABILITIES 12,904 12,156 ------- ------- Long-term debt, net of current portion (including related party debt of $1,845 and $1,974, respectively) 6,450 7,229 Deferred income taxes 3,092 3,091 ------- ------- TOTAL LIABILITIES 22,446 22,476 ------- ------- Commitments and contingencies Stockholders' equity Common Stock -- $0.01 par value; authorized 20,000 shares; issued 9,124 and 9,105 shares, outstanding 8,710 and 8,690 shares, respectively 91 91 Capital in excess of par value 15,187 15,000 Retained earnings 57,242 54,102 Accumulated other comprehensive income: Unrealized loss on investments available-for-sale, net -- (1) ------- ------- Cumulative foreign currency translation adjustment 237 271 ------- ------- 237 270 ------- ------- Less: Treasury stock, at cost (414 and 414 shares, respectively) 1,396 1,396 ------- ------- TOTAL STOCKHOLDERS' EQUITY 71,361 68,067 ------- ------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $93,807 $90,543 ======= ======= See accompanying notes to unaudited consolidated financial statements. 2 AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS (In thousands, except per share data) For the Three Months Ended September 30, -------------------------- 2006 2005 ------- ------- Net sales $23,057 $17,502 Cost of sales 13,162 13,627 ------- ------- Gross profit 9,895 3,875 ------- ------- Selling, general and administrative expenses 4,528 4,170 Research and development expenses 524 602 Other (18) (10) ------- ------- Operating expenses 5,034 4,762 ------- ------- Income/(loss) from operations 4,861 (887) ------- ------- Other (income) expense: Interest expense 187 140 Interest income (25) (13) ------- ------- 162 127 ------- ------- Income/(loss) before provision for income taxes 4,699 (1,014) Provision/(benefit from) for income taxes 1,559 (323) ------- ------- Net income/(loss) $ 3,140 $ (691) ======= ======= Basic net income/(loss) per common share $ 0.36 $ (0.08) ======= ======= Diluted net income/(loss) per common share $ 0.35 $ (0.08) ======= ======= Basic weighted average common shares outstanding 8,697 8,516 ======= ======= Diluted weighted average common shares outstanding 8,975 8,516 ======= ======= See accompanying notes to unaudited consolidated financial statements. 3 AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands) For the Three Months Ended September 30, ---------------------------------------- 2006 2005 -------- -------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income/(loss) $ 3,140 $ (691) Adjustments to reconcile net income/(loss) to net cash provided by operating activities: Depreciation and amortization 1,721 1,544 (Loss)/gain on disposal of fixed assets 40 (14) Deferred income taxes 16 (136) Stock-based compensation expense 64 114 Excess tax benefits from stock based compensation arrangements (38) (72) Provision for doubtful accounts and sales returns (69) 90 Investment interest accretion, net (24) (8) Changes in operating assets and liabilities: Accounts receivable 345 1,630 Inventories (3,115) 361 Other assets 48 (314) Accounts payable and accrued expenses 116 (911) Income taxes payable 645 72 -------- -------- Net cash provided by operating activities 2,889 1,665 -------- -------- CASH FLOWS FROM INVESTING ACTIVITIES: Capital expenditures (1,942) (3,196) Proceeds from sale of fixed assets 2 18 -------- -------- Net cash used in investing activities (1,940) (3,178) -------- -------- CASH FLOWS FROM FINANCING ACTIVITIES: Repayment of debt (725) (268) Proceeds from the exercise of stock options 85 116 Excess tax benefits from stock based compensation arrangements 38 72 Proceeds from the issuance of long term debt -- 1,548 -------- -------- Net cash (used in)/provided by financing activities (602) 1,468 -------- -------- Effect of exchange rate changes on cash 14 (25) -------- -------- Net increase/(decrease) in cash and cash equivalents 361 (70) CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 6,230 4,927 -------- -------- CASH AND CASH EQUIVALENTS, END OF PERIOD $ 6,591 $ 4,857 ======== ======== Supplemental cash flow information: Interest paid $ 110 $ 148 Taxes paid $ 838 $ 33 See accompanying notes to unaudited consolidated financial statements. 4 AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except per share and percentage data) (1) BASIS OF PRESENTATION: The accompanying unaudited interim consolidated financial statements of American Technical Ceramics Corp. and subsidiaries (the "Company") reflect all adjustments (consisting of normal recurring accruals) which are, in the opinion of management, necessary for a fair presentation of its consolidated financial position as of September 30, 2006, and the results of its operations for the three month periods ended September 30, 2006 and 2005. These consolidated financial statements should be read in conjunction with the summary of significant accounting policies and notes to the consolidated financial statements included in the Company's Annual Report on Form 10-K for the fiscal year ended June 30, 2006. Results for the three month period ended September 30, 2006 are not necessarily indicative of results which could be expected for the entire year. Certain reclassifications have been made to prior year amounts to conform to the current year presentation. (2) STOCK-BASED COMPENSATION: On April 1, 1997, the Board of Directors approved the American Technical Ceramics Corp. 1997 Stock Option Plan (the "1997 Option Plan") pursuant to which the Company may grant options to purchase up to 800 shares of the Company's common stock. On April 11, 2000, the Board of Directors approved the American Technical Ceramics Corp. 2000 Incentive Stock Plan (the "2000 Plan", and collectively with the 1997 Option Plan, the "Plans") pursuant to which the Company may grant options or stock awards covering up to 1,200 shares of the Company's common stock. Options granted under the Plans may be either incentive or non-qualified stock options. The term of each incentive stock option shall not exceed ten years from the date of grant (five years for grants to employees who own 10% or more of the voting power of the Company's common stock), and options may vest in accordance with a vesting schedule established by the plan administrator (traditionally 25% per year during the first four years of their term). Unless terminated earlier by the Board, the 1997 Option Plan will terminate on March 31, 2007. Unless terminated earlier by the Board, the 2000 Plan will terminate on April 10, 2010. Shares issued upon the exercise of options are generally issued from the Company's authorized and unissued shares. Disposition of shares acquired pursuant to the exercise of incentive stock options under both Plans may not be made by the optionees within two years following the date that the option is granted, nor within one year after the exercise of the option, without the written consent of the Company. The Company records its stock-based compensation at fair value in accordance with Financial Accounting Standards No. 123 (revised 2004). There were no stock options granted during the three months ended September 30, 2006. The weighted average grant-date fair value per share of stock options granted during the three months ended September 30, 2005 was $8.33 as determined by the Black-Scholes option pricing model (assuming a risk-free interest rate of 3.98%, expected life of five years, expected volatility of 73.7%, and no dividends). The total intrinsic value of options exercised during the periods ended September 30, 2006 and 2005 was $161 and $213, respectively. 5 AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except per share and percentage data) Expected volatility is calculated using historical volatility. The expected term (life) of options granted represents the period of time that options granted are expected to be outstanding. In determining expected life, the Company uses historical data to estimate option exercise and employee departure behavior. Groups of employees that have similar historical behavior are considered separately for valuation purposes. The risk free interest rate is based on the US Treasury Yield curve in effect at the time of grant for the expected life of the option. Stock option activity for the three months ended September 30, 2006 is as follows: Weighted Weighted Average Average Shares Subject Exercise Remaining Aggregate to Options Price Per Share Contractual Term Intrinsic Value -------------- --------------- ---------------- --------------- Outstanding, beginning of period 863 $8.83 Granted -- -- Canceled -- -- Expired -- -- Exercised (20) 4.38 Outstanding, end of period 843 $8.93 4.6 $3,501 --- --- Exercisable, end of period 747 $8.63 4.0 $3,352 === === A summary of the status of the Company's nonvested shares at September 30, 2006 and changes during the three months then ended is presented below: Weighted Average Shares Subject Grant-date to Options Fair Value Per Share -------------- --------------------- Nonvested, beginning of period 120 $6.88 Granted -- -- Vested (24) 5.60 Forfeited -- -- --- Nonvested, end of period 96 $7.20 === As of September 30, 2006, there was $635 of total unrecognized compensation costs related to nonvested options granted under the Plans. That cost is expected to be recognized over a weighted-average period of 3.0 years. The total fair value of shares vested during the period ended September 30, 2006 was $134. Compensation cost recognized for amounts previously capitalized in inventory and fixed assets for the three months ended September 30, 2006 was $11. Cash received from the exercise of options for the three months ended September 30, 2006 and 2005 was $85 and $116, respectively. The related tax benefit recognized was $38 and $72 for the three months ended September 30, 2006 and 2005, respectively. The total compensation cost related to options was $64 and $93 for the three months ended September 30, 2006 and 2005, respectively. 6 AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except per share and percentage data) At September 30, 2006, an aggregate of 168 shares were available for option grants or stock awards under the Plans. Other Stock-Based Compensation During the three months ended September 30, 2006 and 2005, the Company awarded an aggregate of nil and 7 shares of stock awards, respectively. These awards resulted in compensation cost of nil and $30, respectively (including nil and $9 of payments made to offset tax liabilities associated with these awards), measured by the market value of the shares on their respective grant dates. (3) SUPPLEMENTAL CASH FLOW INFORMATION: During the three months ended September 30, 2006, the Company recognized a $38 reduction of income taxes payable related to disqualifying dispositions upon the exercise of incentive stock options. During the three months ended September 30, 2005, the Company (i) granted deferred compensation stock awards with an aggregate value of $85 with respect to which expense was recognized ratably throughout fiscal year 2006, (ii) granted stock options with respect to which compensation expense of $333 will be recognized evenly over the service period, and (iii) recognized a $72 reduction of income taxes payable related to disqualifying dispositions upon the exercise of incentive stock options. (4) INVENTORIES: Inventories included in the accompanying consolidated financial statements consist of the following: September June 30, 30, 2006 2006 --------- -------- Raw materials $17,407 $17,095 Work-in-process 9,222 8,605 Finished goods 9,713 7,555 ------- ------- $36,342 $33,255 ======= ======= 7 AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except per share and percentage data) (5) EARNINGS PER SHARE: The following represents a reconciliation of the numerators and denominators of the basic and diluted earnings per share ("EPS") computation: For the Three Months Ended September 30, --------------------------------------------------------------------------------- 2006 2005 --------------------------------------- --------------------------------------- Net Income Shares Per-Share Net Income Shares Per-Share (Numerator) (Denominator) Amount (Numerator) (Denominator) Amount Basic EPS $3,140 8,697 $ 0.36 $(691) 8,516 $(0.08) ====== ====== Effect of dilutive securities: Stock options -- 278 (0.01) -- -- ------ ----- ------ ----- ----- ------ Diluted EPS $3,140 8,975 $ 0.35 $(691) 8,516 $(0.08) ====== ===== ====== ===== ===== ====== Options covering 143 shares have been omitted from the calculation of dilutive EPS for the three months ended September 30, 2006 because their inclusion would have been antidilutive. (6) COMPREHENSIVE INCOME: The Company's comprehensive income is as follows: For the Three Months Ended September 30, -------------------- 2006 2005 ------ ----- Net income/(loss) $3,140 $(691) ------ ----- Other comprehensive income: Foreign currency translation adjustments (34) 6 Unrealized gains on investments, net of tax 1 -- ------ ----- Other comprehensive income (33) 6 ------ ----- Comprehensive income/(loss) $3,107 $(685) ====== ===== (7) INDEBTEDNESS: Long-term debt consists of the following: September 30, June 30, 2006 2006 ------------ -------- Notes payable to banks $6,092 $6,727 Obligations under capital leases 2,343 2,459 ------ ------ 8,435 9,186 Less: current portion 1,985 1,957 ------ ------ Long-term debt $6,450 $7,229 ====== ====== 8 AMERICAN TECHNICAL CERAMICS CORP. AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (In thousands, except per share and percentage data) In April 2004, the Company entered into a $4,000 credit facility with General Electric Capital Corporation ("GECC") for the purchase of equipment. In May 2005, the credit facility was increased to $6,000. Borrowings under the line bear interest, at the Company's option, at either a fixed rate of 3.47% above the five year Treasury Bond yield at the time of election or a floating rate of 3.65% above LIBOR. Borrowings under the line are secured by the equipment purchased thereunder. Each separate borrowing under the line will be a fully amortizing term loan with a maturity of five years from the date the funds are drawn down. The line of credit will expire on March 24, 2007. GECC has the option to securitize these loans with a third party. Loans securitized with a third party increase the available line of credit to the Company. As of September 30, 2006, the Company had $4,782 of borrowings outstanding under this facility at fixed interest rates ranging from 7.15% and 7.93%. In December 2004, the Company entered into a credit facility with Commerce Bank, N.A. Under the terms of this facility, the Company may request advances from time to time up to an aggregate of $5,000. Any advance made bears interest at the Prime Rate as reported in the Wall Street Journal. Borrowings under the facility are secured by a lien on the Company's accounts receivable and inventory. Borrowings under the line expire on November 30, 2006. The facility is subject to certain financial covenants, including minimum tangible net worth and liability percentage ratios. As of September 30, 2006, the Company had no outstanding borrowings under this credit facility. In September 2005, the Company's wholly-owned subsidiary in Sweden obtained a series of five term loans aggregating 12,000 Swedish Krona ("SEK") (approximately $1,500) from Svenska Handelsbanken, AB ("Handelsbanken"). The loans are unsecured and bear interest at fixed rates ranging from 3.56% to 4.59%. The five loans are each for a principal amount of 2,400 SEK and are fully amortizing. The loans mature in one to five years with the first having matured on September 30, 2006 and one maturing on each succeeding September 30th through 2010. In connection with, and as an inducement to Handelsbanken to make the loans, the Company entered into a Guaranty and Agreement with Handelsbanken whereby the Company has agreed to guarantee the payment of all its Swedish subsidiary's obligations under the loans. At September 30, 2006, the Company had $1,310 of borrowings outstanding under these loans. The Company leases an administrative office, manufacturing and research and development complex located in Jacksonville, Florida (the "Jacksonville Facility") from a partnership controlled by the Company's President, Chief Executive Officer and principal stockholder under a capital lease. At September 30, 2006, the Jacksonville Facility had an aggregate cost of $5,104 and a net book value of $1,492. The lease is for a period of 30 years, was capitalized using an interest rate of 10.5% and expires on September 30, 2010. The lease currently provides for base rent of approximately $780 per annum. The lease further provides for annual increases in base rent for years beginning after May 1, 1999, based on the increase in the Consumer Price Index since May 1, 1998 applied to base rent. The lease also provides for increases to the base rent in connection with any new construction at the Jacksonville Facility. Under the lease, upon any new construction being placed into use, the base rent is subject to increase to the fair market rental of the Jacksonville Facility, including the new construction. 9 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (In thousands, except per share and percentage data) The following discussion and analysis should be read in conjunction with the consolidated financial statements, related notes and other information included in this Quarterly Report on Form 10-Q. Statements in this Quarterly Report on Form 10-Q that are not historical fact may constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. All such forward-looking statements are subject to risks and uncertainties, including, but not limited to, market and economic conditions, the impact of competitive products, product demand and market acceptance risks, changes in product mix, costs and availability of raw materials, fluctuations in operating results, delays in development of highly complex products, risks associated with international sales and sales to the U.S. military, risk of customer contract or sales order cancellations and other risks detailed from time to time in the Company's filings with the Securities and Exchange Commission, including, without limitation, those contained under the caption "Item 1 BUSINESS - CAUTIONARY STATEMENTS REGARDING FORWARD - LOOKING STATEMENTS" in the Company's Annual Report on Form 10-K. These risks could cause the Company's actual results for future periods to differ materially from those expressed in any forward-looking statements made by, or on behalf of, the Company. Any forward-looking statement represents the Company's expectations or forecasts only as of the date it was made and should not be relied upon as representing its expectations or forecasts as of any subsequent date. The Company undertakes no obligation to correct or update any forward-looking statement, whether as a result of new information, future events or otherwise, even if its expectations or forecasts change. Overview The trend of year-to-year comparative sales and bookings increases continued during the quarter ended September 30, 2006. Sales and bookings for the three months ended September 30, 2006 increased approximately 32% and 9%, respectively, over the comparable period of fiscal year 2006. Sales improvements were experienced across all major product lines, primarily as a result of growth in the wireless communication and medical markets. Net income for the three months ended September 30, 2006 increased significantly over the comparable period in the prior fiscal year due to increased sales volume and higher than normal precious metal recovery. During the first quarter of the prior year, the Company incurred a loss primarily due to expenses incurred and difficulties encountered in converting its component manufacturing and sales functions to its Enterprise Resource Planning ("ERP") system. The Company encountered difficulty processing and shipping orders during this conversion. In order to maintain excellent customer service, the Company decided to revert back to its legacy computer system for these functions. 10 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (In thousands, except per share and percentage data) RESULTS OF OPERATIONS KEY COMPARATIVE PERFORMANCE INDICATORS Three Months Ended --------------------------------------- September 30, 2006 September 30, 2005 ------------------ ------------------ Net Sales $23,057 $17,502 Bookings $19,285 $17,626 Gross Margin $ 9,895 $ 3,875 Gross Margin (% of sales) 42.9% 22.1% Operating Expenses $ 5,034 $ 4,762 Operating Expenses (% of sales) 21.8% 27.2% SIGNIFICANT HIGHLIGHTS Sales for the three months ended September 30, 2006 increased 31.7% over the comparable period in the prior fiscal year. Bookings for the three months ended September 30, 2006 increased 9.4% over the comparable period in the prior fiscal year. Gross margin as a percentage of sales increased to 42.9% during the three months ended September 30, 2006, compared to 22.1% during the comparable period in the prior fiscal year. Operating expenses as a percentage of sales decreased to 21.8% during the three months ended September 30, 2006, compared to 27.2% during the comparable period in the prior fiscal year. Three Months Ended September 30, 2006 Compared with Three Months Ended September 30, 2005 Net sales for the three months ended September 30, 2006 were $23,057, an increase of 31.7% from the $17,502 recorded for the three months ended September 30, 2005. The increase in sales is due to improved bookings from the wireless communications and medical markets, as well as market penetration and growth in sales of the Company's newer product lines. Revenues were impacted during the first quarter of fiscal year 2006 as a result of the attempted conversion by the Company of its component manufacturing and sales functions to its ERP system discussed above. During this time, the Company was not able to ship product at normal levels. Bookings have improved from the levels experienced in the comparable period of last fiscal year but below those levels attained in recent quarters. Total bookings for the three months ended September 30, 2006 were $19,285 compared to $17,626 in the comparable period of the prior fiscal year, representing an increase of approximately 9%. Growth has come primarily from the wireless communications and medical markets. Bookings grew at a slower rate than sales due to the typical seasonality the Company experiences during the summer vacation months. 11 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (In thousands, except per share and percentage data) Gross margins were 43% of net sales for the three months ended September 30, 2006, compared to 22% in the comparable period of the prior fiscal year. Gross margins were favorably impacted by the increased sales volume and increased levels of precious metal recovery during the three months ended September 30, 2006. The increase in precious metal recovery was primarily due to an increased quantity of material processed during the quarter as a result of higher production levels, scrap from product and process development and qualification work. In addition, gross margin in the comparable period of the prior fiscal year was negatively impacted by the attempted conversion of certain functions to a different computer system and increases in fixed costs that the Company undertook during the year. Selling, general and administrative expenses totaled $4,528, or 20% of net sales, for the three months ended September 30, 2006, compared to $4,170, or 24% of net sales, in the comparable period of the prior fiscal year. The increase in selling, general and administrative expenses in absolute terms compared to the prior fiscal year is attributable to increased commission expense due to higher sales levels and increased bonus expense due to profitable operations, partially offset by decreased training costs related to the implementation of the ERP system and decreased bad debt expense. The Company incurred approximately $150 of selling, general and administrative expenses related to the ERP system implementation in the three months ended September 30, 2005. Research and development expenses were $524 for the three months ended September 30, 2006, a decrease of 13% from the comparable period in the prior fiscal year. The decrease was due to decreased supply expense due to the timing of various projects' stage of completion. The Company continues to focus on the development of new products and processes related to its core product lines. Interest expense was $187 for the three months ended September 30, 2006, an increase of 34% from the comparable period in the prior fiscal year. The increase was primarily due to an increase in the Company's average outstanding bank debt during the last twelve months. The Company recognized income tax expense for the three months ended September 30, 2006 as compared to an income tax benefit for the comparable period in the prior fiscal year due to the income incurred in the current fiscal year compared to losses in the prior fiscal year. As a result of the foregoing, net income for the three months ended September 30, 2006 was $3,140, or diluted net income per common share of $0.35, compared with a net loss of $691, or diluted net loss per common share of $0.08, for the comparable period in the prior fiscal year. 12 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (In thousands, except per share and percentage data) LIQUIDITY AND CAPITAL RESOURCES September 30, June 30, 2006 2006 ------------- -------- Cash and Investments $ 8,712 $ 8,324 Working Capital $48,987 $46,649 Quarter Ended: Operating Cash Flow $ 2,889 $(1,809) Capital Expenditures $ 1,942 $ 1,200 Depreciation and Amortization $ 1,721 $ 1,680 Current Ratio 4.8:1 4.8:1 Quick Ratio 1.6:1 1.7:1 The Company's financial position at September 30, 2006 remains strong as evidenced by working capital of $48,987. The Company's current and quick ratios at September 30, 2006 also remain strong. Cash, cash equivalents and investments increased by $388 from June 30, 2006 as a result of positive operating cash flows, partially offset by capital expenditures and repayments of long-term debt. Accounts receivable decreased $318 from June 30, 2006 due to a decrease in sales volume in the three months ended September 30, 2006 compared to the three months ended June 30, 2006. Inventories increased by $3,087 from June 30, 2006 primarily to support forecasted increases in demand. Other current assets decreased $56 from June 30, 2006. Accounts Payable increased $358 as a result of raw material and equipment purchases late in the quarter ended September 30, 2006. Accrued expenses decreased by $243 from June 30, 2006 due to the payments of various accrued expenses at June 30, 2006 during the quarter ended September 30, 2006. Income Tax Payable increased $605 due to year-to-date taxable income, partly offset by estimated tax payments. In April 2004, the Company entered into a $4,000 credit facility with General Electric Capital Corporation ("GECC") for the purchase of equipment. In May 2005, the credit facility was increased to $6,000. Borrowings under the line bear interest, at the Company's option, at either a fixed rate of 3.47% above the five year Treasury Bond yield at the time of election or a floating rate of 3.65% above LIBOR. Borrowings under the line are secured by the equipment purchased thereunder. Each separate borrowing under the line will be a fully amortizing term loan with a maturity of five years from the date the funds are drawn down. The line of credit will expire on March 24, 2007. GECC has the option to securitize these loans with a third party. Loans securitized with a third party increase the available line of credit to the Company. As of September 30, 2006, the Company had $4,782 of borrowings outstanding under this facility at fixed interest rates ranging from 7.15% and 7.93%. At September 30, 2006, the Company had $6,000 available to borrow under this credit facility. 13 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (In thousands, except per share and percentage data) In December 2004, the Company entered into a credit facility with Commerce Bank, N.A. Under the terms of this facility, the Company may request advances from time to time up to an aggregate of $5,000. Any advance made bears interest at the Prime Rate as reported in the Wall Street Journal. Borrowings under the facility are secured by a lien on the Company's accounts receivable and inventory. Borrowings under the line expire on November 30, 2006. The facility is subject to certain financial covenants, including minimum tangible net worth and liability percentage ratios. As of September 30, 2006, the Company had no outstanding borrowings under this credit facility. In September 2005, the Company's wholly-owned subsidiary in Sweden obtained a series of five term loans aggregating 12,000 Swedish Krona ("SEK") (approximately $1,500) from Svenska Handelsbanken, AB ("Handelsbanken"). The loans are unsecured and bear interest at fixed rates ranging from 3.56% to 4.59%. The five loans are each for a principal amount of 2,400 SEK and are fully amortizing. The loans mature in one to five years with the first having matured on September 30, 2006 and one other maturing on each succeeding September 30th through 2010. In connection with, and as an inducement to Handelsbanken to make the loans, the Company entered into a Guaranty and Agreement with Handelsbanken whereby the Company has agreed to guarantee the payment of all its Swedish subsidiary's obligations under the loans. At September 30, 2006, the Company had $1,310 of borrowings outstanding under these loans. The Company leases an administrative office, manufacturing and research and development complex located in Jacksonville, Florida (the "Jacksonville Facility") from a partnership controlled by the Company's President, Chief Executive Officer and principal stockholder under a capital lease. At September 30, 2006, the Jacksonville Facility had an aggregate cost of $5,104 and a net book value of $1,492. The lease is for a period of 30 years, was capitalized using an interest rate of 10.5% and expires on September 30, 2010. The lease currently provides for base rent of approximately $780 per annum. The lease further provides for annual increases in base rent for years beginning after May 1, 1999, based on the increase in the Consumer Price Index since May 1, 1998 applied to base rent. The lease also provides for increases to the base rent in connection with any new construction at the Jacksonville Facility. Under the lease, upon any new construction being placed into use, the base rent is subject to increase to the fair market rental of the Jacksonville Facility, including the new construction. Capital expenditures for the three months ended September 30, 2006 totaled $1,942, including expenditures for machinery and equipment and leasehold improvements. The Company intends to use cash on hand, cash generated through operations and the line of credit with GECC to finance budgeted capital expenditures of approximately $5,000 for the remainder of fiscal year 2007, primarily for equipment acquisitions. 14 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (In thousands, except per share and percentage data) Aggregate contractual obligations, including interest, as of September 30, 2006, mature as follows: Payments Due by Period ----------------------------------------------- Less than 1 1- 3 3- 5 After 5 Contractual Obligations Total Year Years years years ----------------------------- ------- --------- ------ ------ ------- Bank Debt $ 6,974 $1,865 $3,669 $1,440 $-- Capital Lease Obligations 3,120 780 1,560 780 -- Operating Leases 557 505 52 -- -- Purchase Obligations 5,475 5,475 -- -- -- ------- ------ ------ ------ --- Total Contractual Obligations $16,126 $8,625 $5,281 $2,220 $-- ======= ====== ====== ====== === The Company routinely enters into binding and non-binding purchase obligations in the ordinary course of business, primarily covering anticipated purchases of inventory and equipment. The terms of these commitments generally do not extend beyond one year. CRITICAL ACCOUNTING POLICIES The Securities and Exchange Commission issued disclosure guidance for "critical accounting policies." The SEC defines "critical accounting policies" as those that require the application of management's most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain and may change in subsequent periods. The Company's significant accounting policies are described in Note 1 to its consolidated financial statements contained in its Annual Report on Form 10-K for the fiscal year ended June 30, 2006. The Company believes that the following accounting policies require the application of management's most difficult, subjective or complex judgments: Allowances for Doubtful Accounts Receivable The Company performs ongoing credit evaluations of its customers and adjusts credit limits based upon payment history and a customer's current creditworthiness, as determined by its review of the customer's current credit information. The Company continuously monitors collections and payments from its customers and maintains an allowance for estimated credit losses based upon its historical experience and any specific customer collection issues that the Company has identified. While such credit losses have historically been within the Company's expectations and the allowances established, the Company cannot guarantee that it will continue to experience the same credit loss rates that it has in the past. Should the financial position of its customers deteriorate resulting in an impairment of their ability to pay amounts due, the Company's revised estimate of such losses and any actual losses in excess of previous estimates may negatively impact its operating results. 15 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (In thousands, except per share and percentage data) Sales Returns and Allowances In the ordinary course of business, the Company accepts returns of products sold for various reasons and grants sales allowances to customers. While the Company engages in extensive product quality control programs and processes, its level of sales returns is affected by, among other things, the quality of its manufacturing processes. The Company maintains an allowance for sales returns and allowances based upon historical returns and allowances granted. While such returns and allowances have historically been within the Company's expectations, actual return and allowance rates in the future may differ from current estimates, which could negatively impact its operating results. Inventory Valuation The Company values inventory at the lower of aggregate cost (first-in, first-out) or market. When the cost of inventory is determined by management to be in excess of its market value, such inventory is written down to its estimated net realizable value. This requires the Company to make estimates and assumptions about several factors (e.g., future sales quantities and selling prices, and percentage complete and failure rates for work in process) based upon historical experience and its projections for future periods. Changes in factors such as the level of order bookings, the product mix of order bookings and the Company's manufacturing processes could have a material impact on the Company's assessment of the net realizable value of inventory in the future. Valuation of Deferred Tax Assets The Company regularly evaluates its ability to recover the reported amount of its deferred income taxes considering several factors, including its estimate of the likelihood of the Company generating sufficient taxable income in future years during the period over which temporary differences reverse. Presently, the Company believes that it is more likely than not that it will realize the benefits of its deferred tax assets based primarily on its history of and projections for taxable income in the future. In the event that actual results differ from its estimates or the Company adjusts these estimates in future periods, the Company may need to establish a valuation allowance against a portion or all of its deferred tax assets which could materially impact its financial position or results of operations in future periods. Valuation of Long-lived Assets The Company assesses the recoverability of long-lived assets whenever the Company determines that events or changes in circumstances indicate that the carrying amount may not be recoverable. Its assessment is primarily based upon its estimate of future cash flows associated with these assets. The Company believes that the carrying amount of its long-lived assets is recoverable. However, should its operating results deteriorate, or anticipated new product launches not occur or not attain the commercial acceptance that the Company anticipates, the Company may determine that some portion of its long-lived assets are impaired. Such determination could result in non-cash charges to income that could materially affect its financial position or results of operations for that period. 16 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED) (In thousands, except per share and percentage data) Accounting Standards Issued Not Yet Adopted In July 2006, the Financial Accounting Standard Board ("FASB") issued FASB Interpretation No. 48, "Accounting for Uncertainty in Income Taxes - an Interpretation of FASB Statement No. 109" ("FIN 48"). to address the noncomparability in reporting tax assets and liabilities resulting from a lack of specific guidance in FASB Statement of Financial Accounting Standards ("SFAS") No. 109 ("SFAS No. 109"), "Accounting for Income Taxes," on the uncertainty in income taxes recognized in an enterprise's financial statements. Specifically, FIN No. 48 prescribes (a) a consistent recognition threshold, and (b) a measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return, and provides related guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. FIN No. 48 will apply to fiscal years beginning after December 15, 2006. The Company is currently assessing the impact of the adoption of FIN No. 48 on its financial position and consolidated results of operations. In September 2006, the Securities and Exchange Commission Staff issued Staff Accounting Bulletin No. 108, "Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements" ("SAB No. 108"), which addresses how the effects of prior-year uncorrected misstatements should be considered when quantifying misstatements in current-year financial statements. SAB No. 108 will require registrants to quantify misstatements using both the balance sheet and income-statement approaches and to evaluate whether either approach results in quantifying an error that is material in light of relevant quantitative and qualitative factors. When the effect of initial adoption is determined to be material, SAB No. 108 allows registrants to record that effect as a cumulative effect adjustment to beginning-of-year retained earnings. The requirements are effective for annual financial statements covering the first fiscal year ending after November 15, 2006. The Company is in the process of assessing the effect of SAB No. 108 on its consolidated financial statements. 17 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company's market risk exposure at September 30, 2006 is consistent with the types of market risk and amount of exposures, including foreign currency exchange rate, commodity price, security price and interest rate risks, presented in its Annual Report on Form 10-K for the fiscal year ended June 30, 2006. ITEM 4. CONTROLS AND PROCEDURES Evaluation of Disclosure Controls and Procedures In response to the requirements of the Sarbanes-Oxley Act of 2002, as of the end of the period covered by this Quarterly Report on Form 10-Q (the "Evaluation Date"), the Company's President and Chief Executive Officer and Vice President - Finance carried out an evaluation of the effectiveness of the Company's "disclosure controls and procedures" (as defined in the Securities Exchange Act of 1934 Rules 13a-15(e) and 15d-15(e)). Based on that evaluation, these officers concluded that, as of the Evaluation Date, the Company's disclosure controls and procedures were adequate and effective to ensure that material information relating to the Company and the Company's consolidated subsidiaries was made known to them by others within those entities, particularly during the period in which this report was being prepared. Changes in Internal Controls Except as noted below, there were no changes in the Company's internal controls over financial reporting identified in connection with the evaluation of such internal controls that occurred during the Company's last fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company's internal controls over financial reporting. During the last quarter of the prior fiscal year, management discovered a significant deficiency in the Company's internal control over financial reporting in that the Company has not adequately documented and implemented certain controls over certain change management and customer management procedures. In addition, certain financial computer program application controls and access controls relating to information security were not adequately implemented. Specifically, back-up and recovery processes were not adequately documented, and testing of recovery procedures was not implemented. The Company has drafted, and is in the process of implementing, remedial procedures to address these matters. 18 PART II - OTHER INFORMATION ITEMS 1. THROUGH 5. Not Applicable ITEM 6. Exhibits EXHIBIT NO. DESCRIPTION ----------- ----------- 10.11(i) - Letter Agreement, dated September 25, 2006, between the Company and Richard Monsorno. 31.1 - Section 302 Certification of Principal Executive Officer. 31.2 - Section 302 Certification of Principal Accounting Officer. 32.1 - Section 906 Certification of Principal Executive Officer. 32.2 - Section 906 Certification of Principal Accounting Officer. 19 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Company in the capacities and on the dates indicated. AMERICAN TECHNICAL CERAMICS CORP. (Company) DATE: November 10, 2006 BY: /S/ VICTOR INSETTA ------------------------------- Victor Insetta President and Director (Principal Executive Officer) DATE: November 10, 2006 BY: /S/ ANDREW R. PERZ ------------------------------ Andrew R. Perz Vice President, Finance (Principal Accounting Officer) 20