Filed with the SEC from Feb 21 to Feb 27:
A group including Monarch Activist Partners wants the communications transmission company to "amicably resolve" Discovery Equity Partners' request to appoint two nominees to its board. In mid-February, Discovery said it wanted to nominate candidates for election to the board at the 2008 annual meeting. Monarch said the nominees, Daniel Donoghue and Michael Murphy, would support the exploration of strategic alternatives. Monarch said that if the "process is open and fair, the board and shareholders can only gain by appointing Discovery's nominees." The Monarch group holds less than a 5% stake in Radyne.
History of Business
Radyne Corporation (â€śCompanyâ€ť) was formed in 1980 as a corporation under the laws of the state of New York. In 1995, a new management team moved the Company to Arizona. The Company reincorporated in Delaware in July 2000. The Company completed the following acquisitions of complementary business lines: ComStream Corp of San Diego, CA in 1998, Armer Communications of Chandler, AZ in 2000, the assets of Tiernan Communications of San Diego, CA in 2001 and Xicom Technology, Inc. of Santa Clara, CA in May 2005.
The Company designs, manufactures, sells, integrates and installs products, systems and software used for the transmission and reception of data and video over satellite, troposcatter, microwave and cable communication networks. The Companyâ€™s products are used in applications for telephone (land line and mobile), data, video and audio broadcast communications, private and corporate data networks, Internet applications, and digital television for cable and network broadcast. Through its Tiernan subsidiary, the Company is a supplier of HDTV and SDTV encoding and transmission equipment. The Xicom subsidiary is a producer of high power amplifiers for communications applications. The Company is headquartered in Phoenix, Arizona, has sales and manufacturing facilities in Phoenix, Arizona and San Diego and Santa Clara, California, and sales or service centers in; Boca Raton, Florida; Singapore; China; Indonesia; the Netherlands; and the United Kingdom. We serve customers in over 90 countries, including customers in the television broadcast industry, international telecommunications companies, Internet service providers, private communications networks, network and cable television, and the United States government.
Our products have or will be utilized in major communication systems worldwide, including the following:
Satellite modems and high power amplifiers used as the backbone for major U.S. Department of Defense and Homeland Security communications systems.
Satellite modems, high power Ka band amplifiers and HD encoders for expanded direct to home (DTH) distribution of HDTV from satellite.
HDTV encoders and decoders for a major American television network for use during their coverage of the 2008 Olympics in Beijing and the National Basketball Association.
Satellite backhaul systems for GSM mobile phone providers in India and China.
Tri-band satellite amplifiers for a major U.S. satellite communications integrator that are used in a mobile satellite program for the U.S. military.
DMD20 satellite modem, frequency converters, and redundancy switches for a large expansion project by leading telecom providers in the Asia Pacific region.
Major expansion of U.S. government satellite monitoring network.
DataPath, a premier U.S. government supplier, with DMD20s to use in its DKET and TRACKX products.
Solid-State Block Upconverters for major U.S. satellite communication integrators.
Satellite products for disaster recovery projects, including, for example, the Hurricane Katrina recovery effort.
Financial Information about Segments
The Company has been organized into two operating segments: 1) Satellite Electronics and Broadcast Equipment, which provides Radyne and Tiernan brand products to satellite, microwave, television, and cable communications customers; and 2) Amplifiers , which provides Xicom Traveling Wave Tube Amplifiers (TWTAs), Klystron Power Amplifiers (KPAs) and Solid State Power Amplifiers (SSPAs) used in broadcast and broadband satcom applications including IP-over-Satellite markets. Each segment is organized and managed separately to make key decisions such as sales/marketing and product development. Please refer to note 13 â€“ Segment Reporting in the consolidated financial statements for additional segment reporting information and financial data.
Description of Business
Satellite technology is a key element in the worldwide infrastructure of communications systems. Satellites enable communications service where there is no suitable alternative available to provide a redundant backup solution for terrestrial based infrastructure (like fiber-optic cables and microwave networks) or to supplement existing inadequate service. Unlike the cost of land-based networks, such as microwave and fiber cable, the cost to provide services via satellite does not increase with the distance between sending and receiving stations. Satellite networks can be rapidly installed, upgraded, and reconfigured as compared with land-based networks, which require rights-of-way and are expensive and time consuming to install and upgrade.
Satellite communication systems consist of two key segments: satellites (the â€śspace segmentâ€ť); and ground-based transmission/reception systems (the â€śground segmentâ€ť). The space segment consists of a single satellite or a constellation of satellites in earth orbit, which typically provide continuous communications coverage over a wide geographic area. These satellites typically contain multiple transponders, each of which is capable of simultaneously receiving and transmitting one or more signals to or from multiple users. The satellite ground segment, the segment of the industry within which the Company operates, consists principally of one or more earth stations. An earth station is an integrated system consisting of antennae, radio signal transmitting and receiving equipment, amplifiers, satellite modems, frequency converters, redundancy switches and voice, data, and/or video network interface equipment. Earth stations provide a communications link from the content originator (such as a broadcast studio or Internet service provider) to the end user either directly or through land-based networks.
The ground segment consists of multiple applications in which the Company operates. The three principal categories of satellite communication applications are fixed satellite services, mobile satellite services, and direct broadcast services.
Fixed Satellite. Fixed satellite services provide point-to-point and point-to-multipoint satellite communication of voice, data, and video between fixed ground-based earth stations. The introduction of high-power satellites has created new opportunities within the fixed satellite services segment by enabling the use of smaller, less costly earth stations for applications such as corporate data networks, Intranet access, and rural telephony.
Mobile Satellite. Mobile satellite services operate between fixed earth stations and mobile earth stations, or terminals. These services provide mobile voice and data transmission capability on land, sea, and air. New mobile satellite services are being developed to bring more extensive coverage and circuit reliability for mobile telephone and data services to underserved populations throughout the world. Further, there is increased demand for â€śliveâ€ť origination of broadcast television programming, such as live coverage of news, sports or cultural events that employ mobile satellite services for transmission from the venue to television studios.
Direct Broadcast. Direct broadcast services provide a direct transmission link from high-power satellites to customers over a wide geographic area. This includes direct-to-home television and radio services, distribution of television and radio programming to local affiliates direct broadcast data services, and Internet access.
Industry Growth and Market Opportunity
We believe that demand for satellite system ground-based equipment has been and will continue to be driven by:
Worldwide Demand for Communications Services. Factors contributing to the demand for communications services include worldwide economic development and the increasing globalization of commerce. Businesses have a need for higher bandwidth services to communicate with their customers and employees around the world and are increasingly reliant upon Internet and multimedia applications. We expect demand for these kinds of higher bandwidth services to continue to grow in both developed and developing countries.
Deregulation and Privatization. Many developing countries that had previously not committed significant resources to or placed a high priority on developing and upgrading their communications systems are now doing so, primarily through deregulation and privatization. A significant number of these countries lack the resources, or have large geographic areas or terrain that make it difficult, to install extensive land-based networks on a cost-effective basis. This provides an opportunity for satellite communications services systems to meet the growing demand for communications services in these countries.
Cost-Effectiveness of Satellite Communications. The relative cost-effectiveness of satellite communications services is a major factor driving the growth of satellite communications services in areas with rapidly growing telecommunications infrastructures. Large geographic areas, where significant distances separate population concentrations, require a technology whose cost and speed of implementation is relatively insensitive to distance. Unlike the cost of land-based networks, the cost to provide services via satellite does not increase with the distance between sending and receiving stations.
Technological Advances. Technological advances continue to increase the capacity of a single satellite and reduce the overall cost of a system and the service it delivers. This increases the number of potential end-users for the services and expands the available market. We believe that recent technological developments such as complex bandwidth efficient modulation schemes, turbo error correcting codes, bandwidth on demand, digital television compression technology, and signal processing methods will continue to stimulate the demand for the use of satellite communication services.
Government and Military. Satellites allow the military to have instant secure communications when deploying rapidly to troubled parts of the world and further support the infrastructure necessary for military tactical deployments. The U.S. government provides a significant market opportunity for satellite equipment manufacturers as government policies encourage the use of commercial â€śoff-the-shelfâ€ť components whenever feasible. This provides us with the opportunity to configure our standard products for a sizable customer that is likely to provide consistent business.
Because of current concerns with international terrorism, the militaries of many countries have increased requirements for communications as their forces are spread around the world in such places as Afghanistan and Iraq. The U.S. governmentâ€™s needs, such as maintaining communications with embassies, and the U.S. militaryâ€™s worldwide command and control requirements, continue to drive more demand for satellite communications.
Television Video Distribution . Compressed HDTV digital video is a technology that has the potential to provide significant new market growth. The development of digital compression technology preserves the quality of TV signals and allows the transmission of television signals via satellite, point-to-point or fiber in a smaller bandwidth than is currently possible through alternative technologies, the most prevalent of which is over-the-air analog signals which use much larger frequency spectums than digital systems require. This advance in communications technology is enabling a wider application of satellite solutions for television and video broadcast services. The increased compression allows broadcasters to increase their channel offering within a smaller, allocated spectrum. New HDTV content provides opportunities for additional network and local programming choices along with related revenue opportunities. Satellites provide television broadcasters with an efficient and economical method to distribute their programming to cable service providers and direct broadcast satellite operators. Direct Broadcast Services, in turn, use satellites to distribute digital television programming. Compressed video encoding and decoding make satellites available for less demanding video transmissions, including business teleconferencing, private business networks, and telemedicine. The economics of compressed video allow the use of satellite transmission for long-distance teaching applications. Digital cinema distribution is a viable alternative to the physical distribution of feature length films and special media events.
Radio Broadcasts. Satellites are an ideal transmission medium for broadcast services, as a single satellite has the ability to communicate with ground locations spread across up to one-third of the surface of the earth. Radio network operators, financial news providers, merchandise retailers, and others use satellite systems to provide financial data and other audio transmissions for a variety of applications, such as local radio programming, news wire services and supermarket in-store radio. In addition, direct radio broadcasters use satellites to broadcast multiple channels of programming directly to consumers.
Private Networks. As businesses and other organizations expand into regions of the world where the telecommunications infrastructure is inadequate for land-based networks, the need for alternative communications connections among multiple facilities becomes evident. A private network is a dedicated communications and/or data transmission network. Such a network may link employees of a multiple-location business with co-workers located throughout the world. Users can consolidate multiple applications over a single satellite network and receive the same quality of service at a lower over-all cost. We believe the satellite communications industry is poised to gain a foothold in this market by offering reliable high-speed connectivity. Satellite systems can bypass the complexity of land-based networks, multiple carriers, and varying price and billing schedules.
Internet Communications. The Internet has evolved into a global medium, allowing millions of individuals throughout the world to communicate, share information, and engage in electronic commerce. Growth in this sector is expected to be driven by the large and growing number of personal computers installed in homes and offices, the declining prices of personal computers, improvements in network infrastructure, the availability of faster and cheaper Internet access, and the increasing familiarity with and acceptance of the Internet by businesses and consumers. Internet usage also is expected to continue to grow rapidly due to unique characteristics that differentiate it from traditional media, such as real-time access to interactive content, real-time communication capabilities, and the absence of geographic or temporal limitations.
We expect satellite communications to continue to offer a cost-effective augmentation capability for Internet service providers, particularly in markets where land-based networks are unlikely to be either cost-effective or abundant, such as rural areas.
Satellite Electronics and Broadcast Equipment
The Company supplies satellite modems, converters, and switches and HDTV broadcast products and standard/digital encoders and decoders thru its Radyne and Tiernan brands. The two principal product groups are listed below:
Modemsâ€”Satellite modems transform user information, such as data, video or audio, into a signal that can be further processed for transmission via satellite. We produce several varieties of satellite modems, which operate at different speeds using a variety of modulation techniques. Featured products include: the DMD20 â€“ Universal Satellite Modem, the DMD2050 â€“ MIL-STD Compliant Universal Satellite Modem, and the DMD20LBST â€“ L-Band Satellite Modem and ODU Driver.
Frequency Converters/Transceiversâ€”E ach satellite is configured to receive or transmit a particular radio wave pattern, otherwise called a frequency band, which is typically different from the frequency of the satellite modem. Frequency converters are used to alter the input/output of a satellite modem into a wave pattern that can be interpreted by the particular satellite being used in the satellite system to relay communication signals. The Company currently markets a variety of converters used to transmit and receive signals over satellites in the commercial satellite frequency ranges of C-Band, Ka-Band, and Ku-Band. We also produce a redundancy control unit, which will switch a satellite system to stand-by equipment in the event of a malfunction in a satellite modem or converter. Such redundancy is a critical element for many of our customers, such as rural or international telephony networks, that strive to provide uninterrupted satellite communications services to their customers. Featured products include: SFC-1450 Ku-Band up-converter and SFC-1275 Ku-Band down-converter.
Earth Stationsâ€”Our earth stations typically consist of several components, including a satellite modem, a frequency converter, a transceiver, a transmitter, redundancy switches and an antenna. Earth stations serve as an essential link in transmitting signals to and receiving signals from satellites. Our earth stations enable users to program power levels and operating parameters in order to compensate for low signal levels, extreme weather conditions, and other variables. We design and manufacture our earth stations using components that we manufacture as well as components that we obtain from other manufacturers. Featured products include: the DMD20LB/ST â€“ Satellite Earth Station.
Troposcatter â€“ In 2005, the Company introduced a new troposcatter product or â€śover-the-horizonâ€ť modem in partnership with General Dynamics C4 Systems. The TM-20 modem has the ability to transmit and receive radio waves over the curvature of the Earth by reflecting signals off irregularities in the troposphere which is approximately 10Km above the Earthâ€™s surface. The TM-20â€™s patented software is a major advance in troposcatter technology and will be marketed to the U.S. military, which currently employs troposcatter systems throughout the world, and to commercial interests.
Standard and High Definition TV Encoders/Decoders â€“ TV encoders convert analog signals to digital format and compress the signal to fit over available bandwidth. Decoders are used to convert the compressed signal back into a form that can be viewed and edited. Encoders are used in satellite, cable and terrestrial applications. Many U.S. broadcasters rely on encoders to provide news/live event gathering and direct to home service. The Company offers a complete product line of SDTV and HDTV encoders for professional applications. Both models feature MPEG-2 video encoding capability and audio compression. The HDTV encoder features a monitor screen on its faceplate which enables the technician to monitor actual unit performance in real time. Featured products include: the HE4000 â€“ High and Standard Definition Encoder, the SE4000 â€“ DVB MPEG-2 Contribution Encoder, the HD4000 â€“ High Definition Contribution Decoder, and the TDR4022 â€“ DVB Professional Integrated Receiver/Decoder.
In early 2007, the Tiernan Division introduced a new standard definition encoder employing advance video codec, also known as MPEG-4. This encoder, known as the AVC-4000, is the first product in a new family of products that employ this technology which allows for further compression of video signals to levels that allow more efficient use of available bandwidth when compared with MPEG-2 alternatives.
High-Speed and DVB Modemsâ€”Modulators and demodulators are similar to modems as they transform a signal for transmission to a satellite and then, at the receiving station, convert the signal back into a form usable as part of the broadcast data stream. Featured products include: the DM240 â€“ Digital Video Broadcast Modulator and the DD240â€” Digital Video Broadcast Demodulator.
Cable and Microwaveâ€”Our cable modulators are used primarily in the distribution of digital video for use by cable television distributors and in HDTV. The design of our cable modulators allows for the transmission of digital video on terrestrial, broadband cable and enables system operators to manage and control available bandwidth. Our microwave modems are used with point-to-point microwave radios and usually feature high-speed and multidata-rate capabilities that provide a complete point-to-multipoint communication link that facilitates microwave link upgrades. For example, television stations use our microwave modems to transmit audio and video over a microwave link to and from digital newsgathering trucks. Featured products include: the MM200â€”Terrestrial Microwave Modem and the QAM256 â€“ Digital Video Modulator.
Satellite electronics and broadcast equipment products accounted for 54% of consolidated revenue for the year ended 2006.
The Company provides a variety of high powered amplifiers thru the Amplifier segment under the Xicom brand.
Satellite amplifiers boost the strength of a signal prior to transmission to satellites which are often more than 21,000 miles from the surface of the earth. Xicomâ€™s Solid State Power Amplifiers (â€śSSPAâ€ť), Traveling Wave Tube Amplifiers (â€śTWTAâ€ť), and Klystron Tube Amplifiers (â€śKTAâ€ť) are used in commercial and military satellite communications terminals throughout the world. These High Power Amplifiers (â€śHPAâ€ť) provide power levels vital to satellite communications in fixed, satellite news gathering (â€śSNGâ€ť), flyaway, mobile, shipboard, and airborne platforms. Applications include mobile SNG television trucks, fixed satellite ground stations and mobile platforms such as helicopters and ships. Featured products include antenna and rack-mount SSPAs, single-band (C-, X-, Ku-, Ka-, and DBS), and multi-band TWTAs.
Amplifiers accounted for 46% of consolidated revenue for the year ended 2006.
We face significant competition in the satellite communications field. The major competitors include companies such as Comtech EFData Corp., Paradise Datacom, Tandberg Television, and Scopus in the Satellite Electronics and Broadcast Equipment segment. In the Amplifier segment, CPI (Communications & Power Industries) and Miteq Inc. are the principal competitors. The Company maintains a sizable market share in each of these segments and anticipates further penetration with subsequent acquisition and organic growth.
We compete by deploying a direct sales effort in domestic and international markets and emphasizing our product features, quality and service. We believe that the quality, performance, and capabilities of our products, our ability to customize certain network functions, and the relatively lower overall cost of our products as compared to the cost of the competing products generally offered by our major competitors represent major factors in our ability to compete. However, our major competitors have the resources to develop products with features and functions that are competitive with or superior to our products. Competition from current competitors or future entrants in the markets in which we compete could cause us to lose orders or customers or could force us to lower the prices we charge for our products.
We believe we are well positioned to capitalize on the demand for satellite ground segment systems and that our future success in this market will be based upon our ability to leverage our competitive advantages, which include the following:
An experienced management group, which has extensive technological and engineering expertise and excellent customer relationships. The members of our management team average over 20 years experience in the satellite communications industry.
A broad line of well-known, well-respected, off-the-shelf, state-of-the-art equipment that enables us to meet our customersâ€™ requirements.
Ongoing new product development and product introductions that address changing customer needs.
Our ability to custom design products for our customersâ€™ special applications and to provide a one-stop shopping option to our customers.
Equipment that meets or exceeds all applicable military and government standards, including the first satellite modem to obtain Defense Information Systems Administration (â€śDISAâ€ť) certification, the DMD-20.
The ability to meet the complex satellite ground communications systems requirements of our customers in diverse political, economic, and regulatory environments in various locations around the world.
Our worldwide sales and service organization with the expertise to successfully conduct business internationally through sales and service offices staffed by our employees in most of our major markets throughout the world, including Beijing, Singapore, London, Jakarta, and Amsterdam.
The ability to offer a full line of satellite ground equipment with the mix of the Companyâ€™s different product lines.
Our primary business goals are to expand market share in our ground-based satellite systems business and improve profitability. We expect to achieve these goals through the following strategies:
Target Providers of Fixed, Mobile, and Direct Broadcast Communications Services in Developing Markets. We plan to target developing markets that we believe will account for a significant portion of the demand for satellite-based systems. These markets typically lack terrestrial infrastructure adequate to support demand for domestic and international communications services. We believe that we offer a cost effective alternative to land based networks. We plan to target providers of mobile and rural telephony services and Internet service providers in developing markets because we believe they will rely extensively upon satellite communication solutions. In developed countries, we plan to target emerging satellite communications service providers such as those offering direct broadcast applications.
Pursue Military, Homeland Defense and Other US Government Markets. Continued demand for technological solutions to national defense, homeland security and other government security requirements represents a key opportunity for our products. We plan to extend development of existing and new products in all of our lines of business to serve these needs.
Capitalize On Our Existing Technology Leadership. We believe that the global satellite communications services and equipment market and the digital television market present a number of attractive opportunities to apply our advanced technologies and capabilities. We plan to develop new products and enhance existing products by leveraging our technology to capture a share of these growth opportunities.
Develop New Products to Exploit New Market Opportunities. We plan to use our international sales force and our research and development capabilities to identify new market opportunities and develop new products to exploit these opportunities. We intend to develop new products to penetrate and increase our presence in the markets for digital television, Internet communications, mobile and rural telephony for developing markets, high-speed satellite communications, government data equipment, cable television distribution, and private networks for businesses and governments.
Provide High-Margin Customized Products to Niche Markets. We design our products so we can adapt them to differing specifications with minimal engineering. We plan to design and produce customized products for niche markets, particularly military and government markets, which require customized technology.
Continual Emphasis on Operational Efficiency and Financial Performance. We have historically maintained a strong emphasis on operation efficiency and financial performance. We believe that continued focus on our operational efficiencies is essential to future financial success while continuing to grow our business. As part of this continued emphasis, we plan to devote significant time and resources to key components of our business, such as our manufacturing processes, design systems and customer relationships.
Pursue Strategic Acquisitions. We intend to pursue strategic acquisitions of competitive or complementary companies in order to gain market share, increase our revenues, expand our product lines, improve our sales force and increase our profitability.
Research and Development
We conduct an active and ongoing research and development program that focuses on advancing technology, developing improved design and manufacturing processes, and improving the overall quality of the products we provide. Our goal is to provide our customers with new solutions that address their needs. Our research and development personnel concentrate on technology for the satellite and microwave communications, telecommunications, and cable television industries. Our future growth depends on increasing the market share of our new products, adapting our existing products/technologies to new applications, and introducing new communications products that will find market acceptance and benefit from our established international distribution channels. Accordingly, we are actively applying our communications technology expertise to improving the performance of our existing products and developing new products to serve existing and new markets.
We work closely with our customers and potential customers to assess their needs in order to facilitate our design and development of new products. We believe that this approach minimizes our development risk and improves the potential for market acceptance of our product introductions. Additionally, we use information obtained from our customers and our technological expertise to develop custom-designed products for our customersâ€™ special applications.
We intend to use a significant portion of our cash flows from operations to fund our research into products for improved satellite communications, over-the-horizon (troposcatter) communications, new amplifier products, audio and HDTV encoders, and other new telecommunications products. We also plan to focus our research and development activities on digital audio, video, and data products. However, there is no assurance that we will continue to have access to sufficient capital to fund the necessary research and development or that such efforts, even if adequately funded, will ultimately prove successful. Refer to Item 7.â€”Managementâ€™s Discussion and Analysis of Financial Condition and Results of Operations for research and development expense over a two year period.
Sales and Marketing
We sell our products through an international direct sales force with sales and/or service offices in the United States (Phoenix, Arizona; San Diego and Santa Clara California; and Boca Raton, Florida, Singapore, China, Indonesia, the United Kingdom, and the Netherlands. Our direct sales force consists of 36 individuals supported by systems and applications engineers. We focus direct sales activities on expanding our international sales by identifying emerging markets and establishing new customer accounts. Additionally, we directly target certain major accounts that may provide entry into new markets or lead to subsequent distribution arrangements. International representatives, agents and systems integrators sell our products, supported by our sales and marketing personnel.
We supplement our direct sales force through the use of distributors and local agents who help develop sales leads and provide ongoing support. Typically, a member of our direct sales staff then assists in completing the sale. Generally, our distributors do not carry inventory of our products.
We participate in approximately 15 trade shows each year. We also generate new sales leads through advertising in trade magazines, direct mail, and our website. For further information on our products please visit www.radn.com .
We maintain a warranty department that also includes customer service and support staff that support customers and agents and provide installation supervision, if needed. In certain instances, we use third-party companies to install and maintain our products at customer sites.
Refer to Item 7.â€”Managementâ€™s Discussion and Analysis of Financial Condition and Results of Operations for selling, general and administrative expense over a two year period.
Our customers generally include national and international telecommunications providers (including radio and television stations), digital television users (including broadcast and cable networks), Internet service providers, financial information providers, systems integrators, and other corporate entities and the U.S. government.
In addition to the above sales, we believe that a substantial portion of our domestic sales are for products which ultimately are installed in foreign countries. We believe that foreign sales will continue to make up a major portion of our total sales in subsequent periods. We consider our ability to continue to sell our products in developing markets to be important to our future growth. We may not, however, succeed in our efforts to cultivate such markets due to political or other factors. Besides the USA, there is no other country that represents more than 10% of consolidated revenue for 2006. See note 11 â€“ Significant Customers and Foreign and Domestic Sales for significant customers with 10% or more of segment sales.
We assemble and test certain products at our Phoenix, Arizona and San Diego and Santa Clara, California facilities using subsystems and circuit boards acquired from subcontractors. We obtain the remainder of our products, completely assembled and tested, from subcontractors. Although we believe that we maintain adequate stock to minimize the procurement lead-time for certain components, our products use a number of specialized components or subassemblies produced by a limited number of suppliers. In the event that such suppliers were unable or unwilling to fulfill our requirements, we could experience interruptions in production while we develop alternative procurement sources. We maintain an inventory of certain chips, components and subassemblies to limit the exposure for such an interruption; and we believe that there are a number of alternative suppliers capable of providing replacements for the types of chips, customized components and subassemblies used in production. However, there can be no assurance that this inventory is sufficient or that alternative suppliers can be secured quickly enough to prevent a significant interruption of our business.
For both segments, the Company maintains an adequate supply of inventory based upon a master production schedule that is reviewed by management on a regular basis. Although there is not a firm forecast, the Company takes into account current market trends and historical data to supply their product.
As of December 31, 2006, the Company had backlog (orders to be shipped in future periods) of $9.1 million in the Satellite Electronics and Broadcast Equipment segment and $16.6 million for the Amplifier segment before eliminations.
The Companyâ€™s Phoenix, San Diego, and Santa Clara facilities have been awarded ISO 9001 certification, the international quality control standard for research and development, marketing, sales, manufacturing, and distribution processes. Subsequently, we have continued to improve our processes and methods of operations, consistent with our goals and the certification requirements. This certification assists in increasing the acceptance of our products. As of December 31, 2006, the Companyâ€™s ISO 9001 certifications remained in effect.
We rely on our proprietary technology and intellectual property to maintain our competitive position. We protect a significant portion of our proprietary technology as trade secrets by relying on confidentiality agreements with our employees and certain suppliers. We also control access to and distribution of confidential information concerning our proprietary information.
We also have patents, which protect certain of our proprietary technology. We have been cautious in seeking to obtain patent protection for our products, since patents often provide only narrow protection that may not prevent competitors from developing products that function in a manner similar to those covered by our patents. In addition, some of the foreign countries in which we sell our products do not provide the same level of protection to intellectual property as the laws of the United States. We will continue to seek patent protection for our proprietary technology in those cases where we think it can be obtained and will provide us with a competitive advantage.
We also license proprietary technology from third parties under license agreements. Some of these agreements include royalty payments based on the number of units sold. These agreements allow us to produce sufficient numbers of units to assure availability of all of our products as required by market demands.
As of December 31, 2006, we had 343 full-time employees, including 4 executive officers, 177 manufacturing and operations personnel, 79 research and development personnel, and 83 selling, general and administration personnel. These figures include employees who are based outside the United States. Our employees are not represented by a labor union. We believe that our relationships with our employees are satisfactory and in good standing.
DR. C.J. WAYLAN has been a Director since February 2000, and currently serves as Chairman of the Board of Directors and as Chairman of the Governance and Nominating and Compensation Committees. Dr. Waylan is also a member of the Audit Committee. He is currently an advisor to several telecommunications and satellite companies. From 1997 to 2006 he served as President and Chief Executive Officer of CCI International, NV. Prior to retiring from GTE Corporation in 1996, Dr. Waylan served as President of GTE Spacenet and Executive Vice President in the GTE wireless group, which included GTE Mobilnet. Dr. Waylan served in the US Navy for twenty years in a number of space and communications-related positions. He has a Bachelors degree from the University of Kansas, and a Master of Electrical Engineering and Ph.D. from the Naval Postgraduate School. He currently serves on the Board of Directors of Globecomm Systems, Inc.
DENNIS W. ELLIOTT has been a Director since October 1998, and is Chairman of the Audit Committee. He is also a member of the Compensation and the Governance and Nominating Committees of the Board of Directors. He is the President of Elliott Communications Co., a technology/marketing/fina nce consulting concern involved in advising companies on strategy and developing operating ventures in telecommunications, data networking, digital television/HDTV, and multimedia. He has also held executive positions at Pacific Telecom, Inc., RCA American Communications (now SES Americom) and RCA Global Communications. He was the principal financial officer at Pacific Telecom and RCA American Communications. Mr. Elliott holds an M.B.A. from Harvard University, an M.S.E.E. from Stanford University, and a B.S.E.E. from the University of Iowa.
ROBERT C. FITTING has been a Director since March 1995. He served as our President from February 1995 until March 28, 2000, and as our Chief Executive Officer from October 1998 until his retirement in August 2006. His professional career began at Bell Laboratories in 1962 where he spent six years developing innovative communication technologies. Mr. Fitting then joined the Motorola Government Electronics Division where he was an engineering manager. He published more than a dozen technical papers and was awarded a number of patents. He left Motorola in 1978 to build a new company under an agreement with Comtech Telecommunications named Comtech Data Corporation, subsequently known as Fairchild Data Corporation. Mr. Fitting was the General Manager and President of Comtech Data Corporation from 1978 to 1984. He left Comtech to start EFData Corporation. As co-founder, CEO and President of EFData Corporation, Mr. Fitting built the company into a worldwide market leader in satellite communications equipment. While at EFData, Mr. Fitting won the â€śArizona Entrepreneur of the Yearâ€ť award in the manufacturing/high technology category. He retired from EFData in 1994. In 1995, he took over the management of the Company. Mr. Fitting has a Master of Electrical Engineering degree from New York University and a Bachelors degree with distinction from Penn State University.
WILLIAM KEIPER has been a director since September 2006. He is currently the Chief Executive Officer of Hypercom Corporation. Mr. Keiper has over 30 years of business experience, more than 18 of which have been in the management of software, technology and IT product distribution and service organizations. He was Chairman and Chief Executive Officer of Arrange Technology LLC, a software development services outsourcing company, from 2002 to 2005. From 1997 to 2002, he served as a principal in mergers and acquisitions firms serving middle market software and IT services companies. He was Chief Executive Officer of Artisoft, Inc., a then $100 million public networking and communications software company, from 1993 to 1997, and its Chairman from 1995 to 1997. He held several executive positions, including President and Chief Operating Officer, of MicroAge, Inc., an indirect sales-based IT products distribution and services company, from 1986 to 1993, where he was a key executive in helping to profitably drive more than a billion dollar revenue increase over the course of his tenure with the company. He is a former Chairman of the Arizona Technology Association, and was a nominee for Ernst & Young Entrepreneur of the Year. In addition to Hypercom Corporation, he currently serves on the Board of Directors of Hypercom Corporation, Smith Micro Software, Inc. and Zones, Inc. He formerly served on the Boards of JDA Software Group, Inc., and Artisoft Inc. Mr. Keiper has a Bachelor of Science degree in business (finance major) from Eastern Illinois University, a Juris Doctorate degree from Arizona State University, and a Masters degree in International Management from the Thunderbird American Graduate School of International Management.
YIP LOI LEE has been a Director since August 1996, and is a member of the Governance and Nominating Committee. He was Regional Director (America) of Singapore Technologies Pte Ltd from March 1994 until December 1998, and was President of its affiliate, Metheus Corporation, from May 1990 to January 1997. Prior to that time, he held a number of managerial positions with such corporations as Singapore Technologies Pte Ltd, Jurong Industries Ltd, and Morgan Guaranty Trust, and government positions with the Singapore Ministries of Education, Defense, Culture and Home Affairs. Mr. Lee is currently president and Director of WhiteRock2 Management (USA) Inc. He is also a Director of WhiteRock Investments III Ltd, and WhiteRock2 Management Ltd. Mr. Lee holds a Bachelor of Science Degree with honors from the University of Singapore and completed the Advanced Management Program at Harvard Business School, and the commercial banking management program at J.P. Morgan.
DR. JAMES J. SPILKER, JR. has been a Director since August 2005. He is also a member of the Audit and Compensation Committees. Dr. Spilker is co-founder and Executive Chairman of AOSense Corporation, which develops cooled atom technology for precision inertial navigation. He is Professor (Consulting) in the Electrical Engineering and Aeronautics/Astronautics Departments and Co-Founder of the Center for Position, Navigation, and Time at Stanford University. He also was a co-founder and currently serves on the Board of Directors of Rosum Corporation, which designs and markets a location tracking solution. He has been a member of the Board of Advisors of the USC Communications Sciences Institute and Stanford University School of Engineering. He is a member of the National Academy of Engineering, a Life Fellow of IEEE, Fellow of the Institute of Navigation, and Member of the Silicon Valley Hall of Fame. He is the author of Digital Communications by Satellite and a co-author of Global Positioning System; Theory and Application, and Evolution of Modern Communications Security. Dr. Spilker received his Bachelors, Masters, and Ph.D. in Electrical Engineering from Stanford University and completed Executive Management at UCLA Management School.
MYRON WAGNER has been a director since September 2006. Mr. Wagner joined the Company in January 2006 as President and Chief Operating Officer and subsequently was elected Chief Executive Officer in August 2006. Prior to joining the Company, Mr. Wagner was the Vice President and Director of Engineering at General Dynamics C4 Systems, Space and National Systems Division, where he was responsible for all engineering activities of approximately 1100 engineering personnel. Prior to joining General Dynamics in 2004, Mr. Wagner was employed at Motorola Inc, where he held positions of Vice President and Director of the Instant Communications Strategic Business Unit, Vice President and Director of Engineering for a cellular interworking gateway development, President of the Spectrapoint Wireless Division, and Vice President and Director of Engineering for the Teledesic and Celestri projects. Mr. Wagner previously held the position of Vice President of Engineering for the Motorola Government and Space Technologies Group, as well as numerous engineering management and design positions. Mr. Wagner holds an MSEE Degree from Stanford University, and a BSEE degree with honors from the University of Utah.
our policy has been to pay no cash compensation to Directors who are our employees for their service as Directors. Non-employee Directors are paid $30,000 annually for their service. The Board Chairman will receive an additional $20,000, the Audit Committee Chairman will receive an additional $6,500, and the Compensation Committee Chairman will receive an additional $3,500 annually. Members of the Audit Committee will receive an additional $6,000, members of the Compensation Committee will receive an additional $3,500, and members of the Governance and Nominating Committee will receive an additional $2,500, all annually. On September 21, 2006, the Board granted each of Messrs Elliott, Fitting, Keiper, Lee, Spilker, and Waylan options to purchase 10,000 shares of our common stock at $12.40 per share. These options will expire on September 21, 2016. During fiscal year 2006, no other options were granted to the Directors. In 2007, the Board deemed it desirable and in the best interest of the Company to form various special committees and independent committees of the Board. Each non-employee Director who is a member of a special committee or independent committee will receive an additional $2,500 annually. The Company reimburses the Directors for all reasonable expenses incurred for meetings held during the year, including travel.
MANAGEMENT DISCUSSION FROM LATEST 10K
The Company designs, manufactures, sells, integrates and installs products, systems and software used for the transmission and reception of data and video over satellite, troposcatter, microwave and cable communication networks. The Companyâ€™s products are used in applications for telephone (land line and mobile), data, video and audio broadcast communications, private and corporate data networks, Internet applications, and digital television for cable and network broadcast. Through its Tiernan subsidiary, the Company is a supplier of HDTV and SDTV encoding and transmission equipment. The Xicom subsidiary is a producer of high power amplifiers for communications applications. The Company is headquartered in Phoenix, Arizona, has sales and manufacturing facilities in Phoenix, Arizona and San Diego and Santa Clara, California, and sales or service centers in Boca Raton, Florida; Singapore; China; Indonesia; the Netherlands; and the United Kingdom.
We sell our products through our direct sales offices and local agents and distributors. We serve customers in over 90 countries, including customers in the television broadcast industry, international telecommunications companies, Internet service providers, private communications networks, network and cable television and the U.S. government.
During 2006 our sales set a record at $134.2 million. The increase in sales was due, in part, to the strong results in our amplifier segment during 2006. Xicom sales for the year were $62.1 million and the satellite electronics and broadcast equipment business generated $72.2 million. The consolidated business also set a new record for earnings from operations at $16.9 million.
For 2007, we will continue to pursue customers around the world where we believe we are well positioned to offer cost effective technology solutions that are competitive with other products in the marketplace. Our approach remains to focus our efforts on well defined hardware markets where we can rapidly develop and market communications products. We are committed to offering reliable products that compare well with those of our competition in order to achieve our goal of growing sales while maintaining strong gross margins. We continue to manage our operations with tight cost control while investing in new product research and development where we believe we can achieve returns either through new product sales or reduced cost of manufacture.
In addition, we continue to evaluate opportunities to acquire new technologies or other businesses that complement our existing product lines and have a clear path to providing accretive returns.
Critical Accounting Policies and Estimates
The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires the Companyâ€™s management to make a number of estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements. These estimates and assumptions also affect the reported amounts of revenues and expenses during the reporting period. On an ongoing basis, we evaluate our estimates, including those related to bad debts, inventories, income taxes, warranty obligations, and contingencies based upon historical results, anticipated future events, and various other assumptions, factors, and circumstances. We believe that our estimates and assumptions are reasonable in the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions and conditions.
Management believes the Companyâ€™s most critical accounting policies and estimates used in the preparation of its consolidated financial statements relate to:
Revenue Recognition. Revenues from product sales are recognized upon the actual shipment of product and transfer of the risk of ownership from us, or our contract manufacturers, to our customers in accordance with SEC Staff Bulletins No. 104 Revenue Recognition and No. 101, Revenue Recognition in Financial Statements, as amended. We do not sell through distributors and we do not use consignment resellers as a method of selling our products. Revenue from services principally
consists of sales related to services for installation and integration of satellite earth stations and video and microwave hub stations and are recognized at the time the services are performed. We consider products and services as separate units of accounting under EITF 00-21, Revenue Arrangements with Multiple Deliverables . Revenue is allocated to the separate units of accounting based on their relative fair values. Sales related to government agencies or subcontractors with â€śCost Plus Fixed Feeâ€ť arrangements are accounted for using the â€śPercentage of Cost to Completeâ€ť method in accordance with ARB 43, Restatement and Revision of Accounting Research Bulletins â€“ Chapter 11 Government Contracts .
Stock Compensation. On January 1, 2006, the Company adopted Statement of Financial Accounting Standard No. 123 (revised 2004) (â€śSFAS 123(R)â€ť), Share-Based Payment , and SEC Staff Accounting Bulletin No. 107 (SAB 107), Share-Based Payment , which requires the measurement and recognition of all share-based compensation under the fair value method. The Company implemented SFAS 123(R) using the modified prospective transition method, which does not result in the restatement of previously issued financial statements.
For those periods prior to December 31, 2005 the Company accounted for stock option grants in accordance with Accounting Principles Board Opinion No. 25 (APB 25), Accounting for Stock Issued to Employees , and related interpretations for fiscal year 2005 and prior years, and, accordingly, recognized no compensation expense for the stock option grants, until December 2005, when we accelerated the vesting of all unvested options.
Valuation of Receivables . We maintain an allowance for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. Bad debt reserves are recorded based upon historic default averages as well as through the creation of reserves established for specific customers deemed marginal in their ability to pay based upon factors known at that time. In general, if the financial condition of a customer deteriorates, resulting in an impairment of that customerâ€™s ability to make payments, additional allowances may be required.
Valuation and Impairment of Intangible Assets. In assessing our goodwill and other intangible assets for impairment in accordance with Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets , (â€śSFAS 142â€ť) we are required to make significant assumptions about the future cash flows, overall performance, identity and allocation and valuation of the assets, including goodwill and other intangibles of our reporting units. Market prices are not readily available for certain businesses, unique physical assets, and most intangible assets to be evaluated in goodwill impairment tests. Therefore, we estimate fair values using estimating techniques and assumptions that are matters of judgment. During 2005, as a result of the Xicom acquisition, we recorded goodwill of approximately $30.0 million on our balance sheet. During 2006, we applied the provisions of SFAS 142 and determined that there was no impairment.
Warranty Liability. We provide limited warranties on certain of our products and systems for periods generally not exceeding two years. Estimated warranty costs for potential product liability and warranty claims based on our claim experience are accrued as cost of sales at the time revenue is recognized. While we engage in extensive product quality programs and processes, including actively monitoring and evaluating the quality of our vendors, our warranty liability is affected by product failure rates and material usage and service delivery costs incurred in correcting product failures. Should actual product failure rates, material usage or service delivery costs differ from the Companyâ€™s present estimates, additional warranty liabilities may be required.
Valuation of Inventories. Inventories, consisting of satellite electronics and broadcast equipment as well as amplifiers, are valued at standard costs which approximates lower of cost or market using the first-in, first-out (â€śFIFOâ€ť) method. Our inventories include high-technology components and systems sold into rapidly changing and competitive markets; accordingly, our inventories are subject to technological obsolescence. We evaluate inventories for excess, obsolescence or other factors that may render inventories unmarketable at normal margins. Write-downs are recorded so that inventories reflect the approximate net realizable value. Assumptions about future demand, market conditions and decisions to discontinue certain product lines can impact the decision to write down inventories. If assumptions about future demand change or actual market conditions are less favorable than those projected by management, additional inventory write-downs may be required. If market conditions were to improve, we would not reverse previously recorded downward adjustments. We monitor the subsequent sale of impaired inventory and the amounts subsequently sold are immaterial to our gross margin. In any case, actual amounts could be different from those estimated.
Accounting for Income Taxes . Managementâ€™s judgment is required in determining the provision for income taxes, deferred tax assets and liabilities and the valuation allowance recorded against net deferred tax assets. We consider the technical merits of positions taken in our income tax return filing in estimating tax benefits to be recorded. In determining the need for a valuation allowance we consider historic levels of income, expectations and risk associated with estimates of future taxable income and ongoing prudent and feasible tax planning strategies. Accounting rules require that income tax estimates assume that current income tax rules will remain in effect and only after rule changes become enacted can adjustments be made to the estimates used. These, and other factors, may result in large swings in estimates from period to period.
Results of Operations
Net sales generally consist of sales of products, net of returns and allowances, and revenues from long term contracts. Those related to government agencies or subcontractors with â€śCost Plus Fixed Feeâ€ť arrangements are accounted for using the â€śPercentage of Cost to Completeâ€ť method in accordance with ARB 43.
During 2006, consolidated net sales grew 30% which was largely the result of the sales growth and the full year inclusion of Xicom. Xicom was acquired in May of 2005, and the Companyâ€™s consolidated results for that year included seven months of sales from Xicom. Nonetheless, on a pro forma basis, Xicom sales grew at a 30% annual rate during 2006 while net sales for the Companyâ€™s satellite electronics and broadcast equipment segment grew 2%. Forecasting sales growth rates is difficult; however, the Company believes that its historic range of 8% to 12% sales growth is a reasonable forecast for 2007. While Xicom sales growth may slow from their high rates during 2006, sales in the satellite electronics and broadcast equipment business may increase due to new product introductions, such as the DMD 1050 modem card, and other sales initiatives. There can be no assurance that sales will grow in either of the Companyâ€™s segments however.
Cost of sales:
Cost of sales generally consists of costs associated with components, outsourced manufacturing and in-house labor associated with assembly, testing, packaging, shipping, and quality assurance, depreciation of equipment, and indirect manufacturing costs. In addition, any expense related to adjusting the value of excess or obsolete inventory to reflect current market values (when lower than original cost) is included in cost of sales. Gross profit is the difference between net sales and cost of sales. Gross margin is gross profit stated as a percentage of net sales. The following table summarizes the year-over-year comparison of our cost of sales, gross profit and gross margin for the periods indicated:
During 2006, gross margins decreased as a result of the inclusion of a full year of Xicom. Xicom amplifiers historically have had lower margins than the satellite electronics and broadcast equipment segment. In addition, gross margins for satellite electronics and broadcast products declined as a result of competitive pressure, particularly for large satellite modem orders in Asia, and as a result of one time expenses associated with the introduction of new video and audio encoders and decoders. Cost of Sales was further increased and Gross margins reduced by the adoption of FAS123 (R) which resulted in equity compensation expense was $266,000 during 2006. The Company expects gross margins to stabilize near the levels for 2006 over the foreseeable future as a result of reduction in production expenses for encoders and decoders coupled with improved gross margins for amplifier sales.
During 2005, overall gross margins decreased due to acquisition of Xicom. Margins from our pre-acquisition satellite electronics and broadcast equipment segment also decreased slightly as a result of increased competitive pressure and larger orders with quantity pricing. Cost of Sales was further increased (and gross margin further reduced) due to write-down and write-off expenses resulting from periodic review of inventory values in our satellite electronics and broadcast equipment segment. These expenses were approximately $1.2 million in 2005 compared to approximately $574,000 in 2004. This increase in excess and obsolescence expense was primarily the result of discontinuance of older products that were replaced with newer and updated models.
Selling, General, and Administrative Costs (â€śSG&Aâ€ť):
Sales and marketing expenses consist of salaries, commissions for marketing and support personnel, and travel. Executive and administrative expenses consist primarily of salaries and other personnel-related expenses of our finance, human resources, information systems, and other administrative personnel, as well as facilities, professional fees, depreciation and amortization and related expenses. The following table summarizes the year-over-year comparison of our selling, general and administrative expenses for the periods indicated:
SG&A increased primarily with the inclusion of Xicom, which accounted for a $3.7 million increase over the previous year. Corporate expenses were responsible for the remainder of the change over the period which included additional equity compensation expense of $1.4 million (as a result of the adoption of SFAS-123(R)), accounting and compliance costs of $698,000, management incentives of $305,000, additional headcount as a result of the CEO transition of $134,000, and acquisition activities of $130,000. The acquisition activities during the year were reflective of increased emphasis in merger and acquisition and related due diligence activities during the year. The increase in equity compensation and management incentives was a result of CEO transition costs. The Company does not expect the same level of equity compensation and transition cost during 2007. SG&A as a percent of sales remained at 21% as compared with 2005.
MANAGEMENT DISCUSSION FOR LATEST QUARTER
Net sales during the recently completed quarter and nine-month period increased when compared to the equivalent periods of 2006. Increases in amplifier sales ($4.8 million in the quarter and $6.7 million in the nine-months to date) and the addition of AeroAstro ($2.3 million for the two-months ending September 30, 2007) were offset by decreases in sales in the Satellite Electronics and Broadcast Equipments segment ($835,000 in the quarter and $4.5 million in the nine-months to date) (all before eliminations). Growth of Xicom amplifiers resulted from market acceptance of new millimeter-wave (Ka- and Q-band) amplifiers while the Satellite Electronics and Broadcast Equipment segment experienced declines in sales in conventional single channel (SCPC) modems. The declines in modem sales reflect general market trends towards newer shared bandwidth alternatives.
During the third quarter, the Company introduced its new Skywire tm line of shared bandwidth modems. Earlier this year, the Company reorganized its Broadcast Equipment sales force to place greater emphasis on international sales. In addition, the Company announced changes to management in the Satellite Electronics business to place greater emphasis on being responsive to customer needs. As a result, we expect to offset some of the decline in SCPC satellite product sales with new sales in shared bandwidth products and broadcast equipment during the remainder of 2007 with continued growth expected in 2008.
Based on current backlog and bookings coupled with typical historic patterns, management anticipates that sales will experience a seasonal increase during the fourth quarter. Nonetheless, future sales growth in the Satellite Electronics and Broadcast Equipment segment is dependent on the Companyâ€™s ongoing ability to develop and sell new products such as Skywire tm and its ability to yield improved performance from recently expanded sales activities described above. Although the Companyâ€™s Amplifier segment continues to experience strong market acceptance, competitor reaction to these successes may blunt further sales increases. As a result of these factors taken together and the addition of AeroAstro, the Company believes that there will be a sequential increase in sales for last quarter of 2007. However, there can be no assurance that this increase will materialize.
Cost of Sales, Gross Profit and Gross Margin. Cost of sales generally consists of component costs, outsourced manufacturing and in-house labor associated with assembly, testing, packaging, shipping, and quality assurance, depreciation of equipment, and indirect manufacturing costs. In addition, the expense related to adjusting the value of excess or obsolete inventory to reflect current market values (when lower than original cost) is included in cost of sales. Gross profit is the difference between net sales and cost of sales. Gross margin is gross profit stated as a percentage of net sales.
The decreased consolidated gross margin for the three- and nine-months periods of 2007 compared with those of 2006 is the result of an increase in the proportion of sales of the Amplifier segment coupled with declines in gross margins in the Satellite Electronics and Broadcast Equipment segment. Although Amplifier segment margins have continued to increase during the recent quarter, Amplifier segment margins are lower than the Satellite Electronics and Broadcast Equipment segment margins. Amplifier margins have increased due to increased sales of high-margin solid-state amplifiers, improvements in product reliability leading to reduced warranty expenses and improvements in manufacturing productivity. In addition, the recently acquired Microsatellite segment (AeroAstro) has gross margins that are dilutive to the Company average.
Management believes that gross margins in the Satellite Electronics and Broadcast Equipment segment will remain at historic levels. However, continued strength of Amplifier segment sales may have the effect of further eroding consolidated margins while competitor response in the Amplifier business may preclude any further improvement in Amplifier segment margins.
Selling, General and Administrative (â€śSG&Aâ€ť). Sales and marketing expenses consist primarily of salaries, commissions for marketing and support personnel, and travel. Executives and administrative expenses consist primarily of salaries and other personnel-related expenses of our executive, finance, human resources, information systems, and other administrative personnel, as well as facilities, professional fees, benefits, liability and D&O insurance premiums, depreciation and amortization and related expenses.
During the three- and nine-month periods ended September 30, 2007, SG&A declined compared to the prior yearâ€™s equivalent periods. For the three- and nine-month periods declines in executive compensation resulting from recruiting and transitioning a new CEO in 2006 ($1.5 million) and declines in management incentive accruals and commissions ($576,000) were offset by costs associated with recruiting and hiring additional sales representatives ($682,000), the addition of AeroAstro ($809,000) and other SG&A ($322,000).
For the remainder of 2007, management believes SG&A expenditures will be flat and continue at rates equivalent to the first nine- months of the year adjusted for the addition of AeroAstro.
Increases in R&D expense for the three- and nine-month periods of 2007 occurred evenly between the Satellite Electronics and Broadcast Equipment segment and the Amplifier segment. The added R&D expense in Satellite Electronics and Broadcast Equipment segment stemmed from the continued development of new products including Skywire tm described above. In the Amplifier segment, the increased R&D expense occurred from personnel expense related to four new engineers, utilized to perform research activities on several new products at the segment. The increased expenditures were in line with planned goals and budgeted forecasts aimed at expanding the segment product lines and, ultimately, both sales and margins. The Company will continue to invest in new product development and upgrades to existing products to accomplish its strategic goals. We expect that R&D expense, as a percentage of sales, should continue at the historic rates.
Income Taxes. Income tax expense consists of changes in deferred taxes and amounts recognized as payable to the federal government, states and foreign countries in which the Company does business.
Because of the factors described above, during the third quarter earnings before taxes increased, which had the effect of increasing income taxes for the quarter. The Companyâ€™s effective tax rate decreased from 32.5% to 28.9% for the third quarter of 2006 and 2007, respectively. The decrease resulted from the tax effects of a decline in our forecasted equity compensation expense and the reapportionment of state income taxes resulting from the acquisition of AeroAstro.
For the first nine-months of 2007 compared to the equivalent period of 2006, the Companyâ€™s effective tax rate declined from 35.1% to 34.0% as a result of the equity compensation and state apportionment factors described above. The decline in the effective tax rate coupled with a decrease in earnings before taxes during the first nine-months of 2007 compared to 2006 resulted in a decrease in income tax expense.
Management believes that, assuming the Company achieves current forecasts, the current nine-months to date effective tax rate is indicative of the tax rate for the remainder of the year.