-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, NCWh2zlbiazqSUWFJ1fsNA25mdWWEJrgCEX4fmRWSp1KEmiICXG4pnIJbsAavcNG xuAm6X5te4ifpS069QSFGg== 0001019056-05-000216.txt : 20050214 0001019056-05-000216.hdr.sgml : 20050214 20050214162030 ACCESSION NUMBER: 0001019056-05-000216 CONFORMED SUBMISSION TYPE: 10QSB PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 20041231 FILED AS OF DATE: 20050214 DATE AS OF CHANGE: 20050214 FILER: COMPANY DATA: COMPANY CONFORMED NAME: GENERAL DATACOMM INDUSTRIES INC CENTRAL INDEX KEY: 0000040518 STANDARD INDUSTRIAL CLASSIFICATION: TELEPHONE & TELEGRAPH APPARATUS [3661] IRS NUMBER: 060853856 STATE OF INCORPORATION: DE FISCAL YEAR END: 0930 FILING VALUES: FORM TYPE: 10QSB SEC ACT: 1934 Act SEC FILE NUMBER: 001-08086 FILM NUMBER: 05610646 BUSINESS ADDRESS: STREET 1: ROUTE 63 CITY: MIDDLEBURY STATE: CT ZIP: 06762 BUSINESS PHONE: 2035741118 MAIL ADDRESS: STREET 1: P O BOX 1299 CITY: MIDDLEBURY STATE: CT ZIP: 06762-1299 10QSB 1 general_10q.txt FORM 10-QSB UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-QSB (Mark One) [X] Quarterly report under Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended December 31, 2004 ----------------- [ ] Transition report under Section 13 or 15(d) of the Exchange Act For the transition period from __________ to __________ Commission file number 1-8086 ------ General DataComm Industries, Inc. - -------------------------------------------------------------------------------- (Exact Name of Small Business Issuer as Specified in its Charter) Delaware 06-0853856 - -------------------------------------------------------------------------------- (State of Other Jurisdiction of I.R.S. employer Incorporation or Organization) Identification No.) 6 Rubber Avenue, Naugatuck, CT 06770 - -------------------------------------------------------------------------------- (Address of Principal Executive Officers) 203-729-0271 - -------------------------------------------------------------------------------- (Issuer's Telephone Number, Including Area Code) - -------------------------------------------------------------------------------- (Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report) Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90- days. Yes [X] No [ ] APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE PRECEDING FIVE YEARS Check whether the registrant filed all documents and reports required to be filed by Section 12,13 or 15(d) of the Exchange Act after the distribution of securities under a plan confirmed by a court. Yes [X] No [ ] APPLICABLE ONLY TO CORPORATE ISSUER State the number of shares outstanding of each of the issuer's classes of common equity, as of January 31, 2005: 3,303,872 shares of Common Stock 664,978 shares of Class B Stock Transitional Small Business Disclosure Format (check one): Yes [ ] No [X] GENERAL DATACOMM INDUSTRIES, INC. INDEX TO QUARTERLY REPORT ON FORM 10-QSB PART I FINANCIAL INFORMATION Page - ------ ---- Item 1. Financial Statements (unaudited): Condensed Consolidated Balance Sheets as of December 31, 2004 and September 30, 2004......................3 Condensed Consolidated Statements of Operations for the Three Months Ended December 31, 2004 and 2003.............4 Condensed Consolidated Statements of Cash Flows for the Three Months Ended December 31, 2004 and 2003.............5 Notes to the Condensed Consolidated Financial Statements.......6 Item 2. Management's Discussion and Analysis or Plan of Operation.......12 Item 3. Controls and Procedures ........................................27 PART II OTHER INFORMATION Item 1. Legal Proceedings...............................................28 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.....28 Item 3. Defaults Upon Senior Securities.................................28 Item 4. Submission of Matters of a Vote of Security Holders.............28 Item 5. Other Information...............................................28 Item 6. Exhibits........................................................28 2 PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS General DataComm Industries, Inc. Condensed Consolidated Balance Sheets (in thousands except shares) December 31, September 30, 2004 2004* (Unaudited) - ------------------------------------------------------------------------------- Assets: Current assets: Cash and cash equivalents $ 721 $ 586 Accounts receivable, less allowance for doubtful accounts of $656 at December 31, 2004 and $586 at September 30, 2004 2,431 2,147 Inventories 3,464 4,110 Other current assets 90 216 - ------------------------------------------------------------------------------- Total current assets 6,706 7,059 - ------------------------------------------------------------------------------- Property, plant and equipment, net 4,152 4,205 =============================================================================== Total Assets $ 10,858 $ 11,264 =============================================================================== Liabilities and Stockholders' Deficit: Current liabilities: Current portion of long-term debt ($1,600 owed to related parties) $ 36,246 $ 37,281 Accounts payable 1,605 1,662 Accrued payroll and payroll-related costs 368 271 Other current liabilities 9,621 8,783 - ------------------------------------------------------------------------------- Total current liabilities 47,840 47,997 - ------------------------------------------------------------------------------- Long-term debt, less current portion -- -- Other liabilities 960 1,301 =============================================================================== Total Liabilities 48,800 49,298 =============================================================================== Commitments and contingencies -- -- Stockholders' deficit: Preferred stock, par value $1.00 per share, 2,000,000 shares authorized, none oustanding -- -- 9% Preferred stock, par value $1.00 per share, 800,000 shares authorized, 787,900 shares issued and outstanding outstanding; $27.7 million liquidation preference at December 31, 2004 788 788 Class B common stock, par value $.01 per share, 5,000,000 shares authorized; 664,978 shares issued and outstanding 7 7 Common stock, par value $.01 per share, 25,000,000 shares authorized; 3,305,833 shares issued 33 33 Capital in excess of par value 198,433 198,433 Accumulated deficit (237,058) (237,150) Common stock held in treasury, at cost; 1,961 shares (145) (145) =============================================================================== Total Stockholders' Deficit (37,942) (38,034) =============================================================================== Total Liabilities and Stockholders' Deficit 10,858 $ 11,264 =============================================================================== * Derived from the Company's audited consolidated balance sheet at September 30, 2004. The accompanying notes are an integral part of these condensed consolidated financial statements. 3 Three Months Ended December 31, ----------------------- 2004 2003 - ------------------------------------------------------------------------------- Revenues $ 3,867 $ 5,101 Cost of revenues 1,581 2,179 - ------------------------------------------------------------------------------- Gross margin 2,286 2,922 Operating expenses: Selling, general and administrative 1,256 1,909 Research and product development 546 767 - ------------------------------------------------------------------------------- 1,802 2,676 Operating income 484 246 Other income (expense): Interest expense (872) (904) Gain on sale of minority interest 300 -- Other, net 41 96 - ------------------------------------------------------------------------------- (531) (808) Loss before reorganization items and income taxes (47) (562) - ------------------------------------------------------------------------------- Reorganization items: Claims reductions 145 -- - ------------------------------------------------------------------------------- Income (loss) before income taxes 98 (562) Income tax provision 6 5 - ------------------------------------------------------------------------------- Net income (loss) 92 (567) Less: dividends applicable to preferred stock (443) (451) - ------------------------------------------------------------------------------- Net loss applicable to common and Class B stock $ (351) (1,018) =============================================================================== Basic and diluted loss per share $ (0.09) $ (0.26) - ------------------------------------------------------------------------------- Weighted average number of common and Class B shares outstanding, basic and diluted: 3,968,850 3,958,541 =============================================================================== The accompanying notes are an integral part of these condensed consolidated financial statements. 4
General DataComm Industries, Inc. Condensed Consolidated Statements of Cash Flows (Unaudited) (In thousands) Three Months Ended December 31, ---------------------------- 2004 2003 - --------------------------------------------------------------------------------------------------------------------- Cash flows from operating activities: Net income (loss) $ 92 $ (567) Adjustments to reconcile net income (loss) to net cash provided (used) by operating activities: Depreciation and amortization 68 45 Gain on claim reductions (145) -- Changes in: Accounts receivable (295) (594) Inventories 646 78 Accounts payable (57) (50) Accrued payroll and payroll-related costs 97 (175) Other net current liabilities 964 532 Other net long-term assets (196) 39 - --------------------------------------------------------------------------------------------------------------------- Net cash provided (used) by operating activities 1,174 (692) ===================================================================================================================== Cash flows from investing activities: Acquisition of property, plant and equipment, net -- (15) Note receivable collections 11 111 - --------------------------------------------------------------------------------------------------------------------- Net cash provided by investing activities 11 96 ===================================================================================================================== Cash flows from financing activities: Proceeds from notes payable to related parties -- 600 Principal payments on term obligation (1,050) (1,054) - --------------------------------------------------------------------------------------------------------------------- Net cash used by financing activities (1,050) (454) ===================================================================================================================== Net increase (decrease) in cash and cash equivalents 135 (1,050) Cash and cash equivalents, beginning of period 586 2,438 - --------------------------------------------------------------------------------------------------------------------- Cash and cash equivalents, end of period $ 721 $ 1.388 ===================================================================================================================== Supplemental disclosures of cash flow information: Cash paid during the period for: Interest $ 235 $ 257 Income taxes $ 3 $ 16 Reorganization items $ 17 $ 253 =====================================================================================================================
The accompanying notes are an integral part of these condensed consolidated financial statements. 5 GENERAL DATACOMM INDUSTRIES, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) Note 1 - Basis of Presentation and Liquidity The accompanying unaudited interim condensed consolidated financial statements of General DataComm Industries, Inc. (the "Company" or "GDC") have been prepared on a going concern basis, in accordance with generally accepted accounting principles for interim financial information, the instructions to Form 10-QSB and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for year end financial statements. In the opinion of management, these statements include all adjustments, consisting of normal and recurring adjustments, considered necessary for a fair presentation of the results for the periods presented. The results of operations for the periods presented are not necessarily indicative of results which may be achieved for the entire fiscal year ending September 30, 2005. The unaudited interim condensed consolidated financial statements should be read in conjunction with the financial statements and notes thereto contained in the Company's annual report on Form 10-K for the fiscal year ended September 30, 2004 as filed with the Securities and Exchange Commission. On November 2, 2001, General DataComm Industries, Inc. and its domestic subsidiaries ("the Debtors") filed a voluntary petition for relief under Chapter 11 of the Bankruptcy Code in the United States Bankruptcy Court for the District of Delaware. The Company continued in possession of its properties and the management of its business as debtors in possession. Leading up to its Chapter 11 Bankruptcy filing on November 2, 2001, the Company had experienced financial losses and resulting covenant defaults on its secured loans. In addition, the Company had sold three divisions comprising a significant portion of its business, in an effort to improve its debt and liquidity position. However, because of a general economic downturn and a depressed demand for high-technology products and businesses, the Company was unable to realize a level of immediate proceeds in order to satisfy its secured lenders and provide adequate liquidity to fund continuing operations. Therefore, the Company sought protection from its creditors with its bankruptcy filing. During the fiscal year ended September 30, 2002, and in the aftermath of the sales of its business units, the Company consolidated its remaining operations into its owned facility in Naugatuck, Connecticut and downsized its staff and operating assets to more properly reflect its reduced operating requirements. The Company emerged from Chapter 11 effective on September 15, 2003 pursuant to a court-approved plan of reorganization. Under the plan of emergence, the Company intends to pay all creditors 100% of their allowed claims based upon a five year business plan. However, the Company cannot assure its investors that it will be able to obtain new customers or to generate the increase in revenues required to meet its business plan objectives. The Company has virtually no current ability to borrow additional funds. It must, therefore, fund operations from cash balances and cash generated from operating activities. The Company has significant short term obligations including payment of accrued professional fees (approximately $1 million at December 31, 2004) and monthly payments of principal and interest (currently such monthly principal and interest totals approximately $340,000) under its senior loan agreement. In fiscal 2004 the Company borrowed $1.6 million from related parties in order to meet its current payment obligations (see Note 4). Furthermore, the Company has significant future outstanding obligations as shown 6 in the accompanying condensed consolidated balance sheet at December 31, 2004. In order to meet these and other future payments the Company must achieve revenue growth while at the same time limiting investments in inventories and capital assets. The Company's failure to make required payments under the new loan agreement would constitute an event of default. In addition, the Company is required to maintain a minimum level of EBITDA (earnings before interest, taxes depreciation and amortization) each quarter to avoid an event of default (see Note 4) and was required to obtain a waiver in fiscal 2004 in order to avoid an event of default. The Company's quarterly operating results are subject to fluctuation due to a number of factors resulting in more variability and less predictability in the Company's quarter-to-quarter sales and operating results. Such factors include (but are not limited to): dependence on a small number of customers, short delivery times, dependence on subcontract manufacturers, low order backlog, ability to timely develop new products and market acceptance of new products. The Company did not meet the EBITDA financial covenant for the period ended September 30, 2004 and received a waiver for such period. While the Company's calculations for the period ended December 31, 2004 show that the Company was in compliance with the financial covenant, future compliance will require improved earnings. There can be no assurance that the Company will be able to avoid an event of default on the loan agreement. If there is such a default, the senior secured lenders may accelerate payment of the outstanding debt ($12.8 million at December 31, 2004) and exercise their security interests, which likely would require the Company to again file for bankruptcy protection. An acceleration by the senior secured lenders would also result in a default and acceleration by the debentures holders ($21.9 million of principal outstanding at December 31, 2004). Based on the covenant violation for the quarter ended September 30, 2004 and the uncertainty that the Company can comply with the EBITDA covenant during the quarterly periods during fiscal 2005, the Company's long-term debt has been classified as current liabilities in the accompanying consolidated balance sheets at both December 31 and September 30, 2004. At December 31, 2004, the Company had a stockholders' deficit of approximately $37.9 million. In addition, the Company's principal source of liquidity includes cash and cash equivalents of approximately $0.7 million and it had a working capital deficit of approximately $41.1 million. The large negative working capital reflects the classification of all long-term secured debt as current liabilities. Because operating results can fluctuate significantly due to decreases in customer demand or decreases in the acceptance of future products, the Company, during fiscal 2004, has not been, and may not be in the future able to generate positive cash flow from operations. Should the need arise, it may become necessary to borrow additional funds or otherwise raise additional capital. However, since the Company does not have any source of additional funds or capital in place, any such requirement could have a material adverse effect on the Company. The potential liquidity and cash flow risks described above raise substantial doubt about the Company's ability to continue as a going concern. The Company's independent auditors have expressed uncertainty about the Company's ability to continue as a going concern in their opinion on the Company's fiscal 2004 financial statements. Management has responded to such risks as part of an ongoing strategy, by restructuring the sales force, increasing factory shutdown time, containing expenses, reducing employee salaries and wages and reducing the size of the employee workforce. In addition, in fiscal 2004 the Company obtained $1.6 million from loans from related parties primarily for replacement of senior indebtedness being repaid with the proceeds. (see Note 4). The Company also is actively marketing for sale or lease its headquarters land and building and pursuing other asset recoveries, the proceeds of which would be used to reduce secured debt and related interest. 7
While the Company is aggressively pursuing opportunities and corrective actions, there can be no assurance that the Company will be successful in its efforts to generate sufficient cash from operations or obtain additional funding sources. The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern and do not include any adjustments that may result from the outcome of these uncertainties. Note 2 - Earnings (Loss) Per Share Basic earnings (loss) per share is computed by dividing net income available to common stockholders by the weighted average number of common and Class B shares outstanding during the period. Diluted earnings per share gives effect to all potential dilutive common shares outstanding during the period. In computing diluted earnings per share, the average price of the Company's common stock for the period is used in determining the number of shares assumed to be purchased from exercise of stock options. Dividends applicable to preferred stock represent accumulating dividends that are not declared or accrued. The following table sets forth the computation of basic and diluted earnings (loss) applicable to common and Class B stock for the three months ended December 31, 2004 and 2003 (in thousands, except shares and per share data): Three Months Ended December 31, -------------------------- 2004 2003 - ---------------------------------------------------------------------------------- Net income (loss) $ 92 $ (567) Less: dividends applicable to preferred stock (443) (451) - ---------------------------------------------------------------------------------- Net loss applicable to common and Class B stock $ (351) $ (1,018) ================================================================================== Weighted average number of common and Class B shares outstanding, basic and diluted: 3,968,850 3,958,541 - ---------------------------------------------------------------------------------- Basic and diluted (loss) per common and Class B share $ (0.09) $ (0.26) ================================================================================== Number of shares subject to option excluded from computation of diluted earnings per share because their effect is anti-dilutive 276,500 283,210 ==================================================================================
Other outstanding securities not included in the computation of earnings (loss) per share include convertible notes payable and warrants issued to related parties and convertible preferred stock, the impact of which is dilutive on reported loss per share, and contingent warrants granted to secured lenders which are issuable only in the event of a default or of certain payment terms not being met and the impact of which is also dilutive to reported loss per share (for further discussion of these items, see Notes 7, 9 and 12 in Item 8 of the Company's annual report on Form 10-K for the fiscal year ended September 30, 2004 as filed with the Securities and Exchange Commission and Note 4 below).
3. Inventories Inventories consist of (in thousands): December 31, September 30, 2004 2004 - ---------------------------------------------------------------------------------- Raw materials $ 903 $ 1,124 Work-in-process 1,328 1,323 Finished goods 1,233 1,665 - ---------------------------------------------------------------------------------- $ 3,464 $ 4,110 ==================================================================================
8 Inventories are stated at the lower of cost or market using a first-in, first out method. Reserves in the amount of $2,517,000 and $2,563,000 were recorded at December 31, 2004 and September 30, 2004, respectively, for excess and obsolete inventories. 4. Long-Term Debt Long-term debt consists of (in thousands): December 31, September 30, 2004 2004 - --------------------------------------------------------------------------- Term Obligation $ 10,348 $ 11,398 PIK Obligation 2,500 2,500 Notes Payable to Related Parties, net of debt discount of $106 at December 31, 2004 and $121 at September 30, 2004 1,494 1,479 Debentures 21,904 21,904 - --------------------------------------------------------------------------- 36,246 37,281 Less current portion 36,246 37,281 - --------------------------------------------------------------------------- $ 0 $ 0 - --------------------------------------------------------------------------- For the quarter ended September 30, 2004, the Company would have been in default of the financial covenant in its loan agreement with its senior secured lenders had it not obtained a waiver. Since the waiver does not extend to future financial covenant calculations, which are performed quarterly, the senior secured debt (the Term Obligation and PIK Obligation) and the Debentures and notes payable to related parties which contain cross default provisions are classified as current liabilities on the accompanying balance sheets at December 31 and September 30, 2004 (see Note 1). Interest on the PIK Obligation and Debentures is not required to be paid currently. Such accrued interest amounted to $3,279,000 and $2,692,000, at December 31 and September 30, 2004, respectively, and is classified as a current liability along with the corresponding debt. Long-term debt matures in amounts totaling $3,926,000 in fiscal 2005, $4,163,000 in fiscal 2006, $3,348,000 in fiscal 2007, and $24,809,000 in fiscal 2008, assuming that there is no acceleration in the future due to an event of default. In conjunction with the issuance of a note payable to a related party on September 30, 2004, the Company issued a warrant, the value of which was recorded as debt discount. See "Notes Payable to Related Parties" below. Term Obligation, PIK Obligation and Debentures Under the terms of the loan and security agreement which became effective September 15, 2003, minimum principal payments under the Term Obligation are $250,000 per month, and were adjusted to $287,444 beginning January 1, 2005 to amortize the remaining principal balance over 36 months. Interest is payable monthly at the annual rate of 7.25% through December 31, 2003, and thereafter at the greater of (i) 7.25% and (ii) the prime rate plus 2.5% (the prime rate was 5.25% on December 31, 2004). In addition, proceeds from the potential sales of non-core assets and certain other proceeds must be used to reduce the term obligation. The Company also entered into a loan in the original principal amount of $5 million, subject to adjustment, due December 31, 2007 (the "PIK Obligation"). Interest accrues at the same rates as the Term Obligation. Principal in the amount of $2.5 million and accrued interest thereon were forgiven under terms of the Agreement which expired on December 31, 2004. The amount owing under the PIK obligation, if any, may be adjusted by the Bankruptcy Court. 9 Debentures with principal and interest due in fiscal 2008 were or will be issued to unsecured creditors as part of the Company's Plan of Reorganization. For further details of the loan and security agreement and a description of the Term Obligation, PIK Obligation and Debentures, see Note 4, "Reorganization Plan and Emergence from Chapter 11" included in Item 8 of the Company's annual report on Form 10-K for the year ended September 30, 2004 as filed with the Securities and Exchange Commission. Notes Payable to Related Parties Pursuant to authorization by the Board of Directors and amendments to the loan agreement with the Company's senior lenders, the Company has borrowed an aggregate of $1,600,000 in a series of loans during the period December 30, 2003 through September 30, 2004 from Howard S. Modlin, Chairman of the Board, who has loaned an aggregate of $1,050,000 and John L. Segall, a Director, who has loaned an aggregate of $550,000. The loans were made primarily for replacement of senior indebtedness being repaid with the proceeds. The loans are each for two years and bear interest accruing from the date of issue, at the rate of 10% per annum, payable monthly commencing three full months after the date of the loan. The notes are secured by all of the assets of the Company subordinate to the first lien of the Company's senior lenders who hold the Term and PIK obligations, and are convertible into common stock at the option of the holder. The conversion price of the notes was in excess of the quoted market price of the Company's common stock on the dates the loans were made. The first such loans aggregate $600,000 and were made on December 30, 2003 with a conversion price of $2.12 per share, and were made equally by Messrs. Modlin and Segall, or $300,000 each. The second such loans aggregated $250,000 and were made on March 1, 2004 with a conversion price of $.8625 per share and were made equally by them, or $125,000 each. The third such loans were made on March 31, 2004 with a conversion price of $.5625 per share and were made equally by them, or $125,000 each. The fourth such loan was made on June 30, 2004 by Mr. Modlin for $250,000 and is convertible at $.42 per share. The fifth such loan was made on September 30, 2004 by Mr. Modlin for $250,000 with half due on September 30, 2005 and the balance due on September 30, 2006, and, in connection with the loan, the Company issued to Mr. Modlin a five year warrant to purchase 761,614 shares of common stock for $.32825 per share. Any shares issued on conversion or exercise of the warrant will not be registered and must be held for investment without a view to distribution. The conversion prices of the notes were in excess of the quoted market price of the Company's common stock on the dates the loans were made. The warrant was valued at $121,000 utilizing the Black-Scholes method and resulted in the related loan being recorded at a corresponding discount. Note 5. Accounting for Stock-Based Compensation As permitted under Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"), the Company has elected to continue to measure costs for its employee stock compensation plans by using the accounting methods prescribed by Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees", which allows that no compensation cost be recognized provided the exercise price of options granted is equal to or greater than fair market value of the Company's stock at date of grant. Proforma results, representative of financial results which would have been reported by the Company if it had adopted the fair value based method of accounting for stock-based compensation under SFAS No. 123, are summarized below (amounts in thousands, except per share data): 10 Three Months Ended December 31, ------------------------------- 2004 2003 - --------------------------------------------------------------------------- Net income (loss), as reported $ 92 $ (567) Deduct: total stock-based employee compensation expense determined underfair value based method for all awards (9) (18) - --------------------------------------------------------------------------- Proforma net income (loss) 83 (585) Dividends applicable to preferred stock (443) (451) - --------------------------------------------------------------------------- Proforma net income (loss) applicable to common and Class B stock $ (360) $ (1,036) =========================================================================== Proforma earnings (loss) per share (basic and diluted) $ (0.09) $ (0.26) =========================================================================== The Black-Scholes method was used to compute the proforma amounts presented above. No material stock options or other stock-based employee compensation awards were granted to employees in the three month periods ended December 31, 2004 and 2003. Note 6. Gain on Sale of Minority Interest. On November 30, 2004, the Corporation sold its 25% minority interest in Grupo GDC de Mexico, S.A. de C.V., for $300,000. The proceeds were applied to the Company's outstanding loans with its senior lenders. In addition, the Company entered into a twelve-month trademark license agreement with the former Mexican subsidiary for an aggregate license fee of $150,000, to be amortized in equal monthly installments. Note 7. Subsequent Events On January 26, 2005, the Board of Directors adopted a new 2005 Stock and Bonus Plan ("Plan") covering 1,200,000 shares of Common Stock, and the Stock Option Committee authorized certain options pursuant to the new Plan. The Plan is similar to the 2003 Stock and Bonus Plan. No shares of Class B are authorized under the Plan. Pursuant to the Plan, the Committee granted to Howard S. Modlin, Chief Executive Officer, a stock option to purchase 551,121 shares at $.61 per share and granted to each of Lee Paschall, Aletta Richards and John L. Segall, Directors, stock options to purchase 30,000 shares at $.55 per share, of the Corporation's Common Stock. The Committee also granted an aggregate of 212,050 options to 75 employees to purchase the Corporation's Common stock at an option price of $.55 per share, including 30,000 options to each of George Best, Vice President, Sales and Marketing, William G. Henry, Vice President, Finance and Administration and Principal Finance Officer, and George Gray, Vice President, Operations and Chief Technology Officer. The options vest in increments of 20% one, two, three, four and five years after grant and expire ten years after grant. The shares issuable under such options are not registered under the Securities Act of 1933 and must be held for investment unless so registered or an exemption from registration exists. The Corporation plans to register the shares before the first options are exercisable. 11 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION Notice Concerning Forward-Looking Statements THE FOLLOWING DISCUSSION AND ANALYSIS OF THE COMPANY'S FINANCIAL CONDITION AND THE RESULTS OF OPERATIONS SHOULD BE READ IN CONJUNCTION WITH THE FINANCIAL STATEMENTS AND RELATED NOTES APPEARING ELSEWHERE IN THIS QUARTERLY REPORT ON FORM 10-QSB AND IN THE COMPANY'S ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED SEPTEMBER 30, 2004 AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION. THIS REPORT ON FORM 10-QSB CONTAINS FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED. FOR THIS PURPOSE, STATEMENTS CONTAINED HEREIN THAT ARE NOT STATEMENTS OF HISTORICAL FACT MAY BE DEEMED TO BE FORWARD-LOOKING STATEMENTS. WITHOUT LIMITING THE FOREGOING, THE WORDS "BELIEVES", "ANTICIPATES", "PLANS", "EXPECTS" AND SIMILAR EXPRESSIONS ARE INTENDED TO IDENTIFY FORWARD-LOOKING STATEMENTS. THESE FORWARD-LOOKING STATEMENTS INVOLVE RISKS AND UNCERTAINTIES AND ARE NOT GUARANTEES OF FUTURE PERFORMANCE. ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THOSE INDICATED IN SUCH FORWARD-LOOKING STATEMENTS AS A RESULT OF CERTAIN FACTORS INCLUDING, BUT NOT LIMITED TO, THOSE SET FORTH UNDER THE HEADING "RISK FACTORS" BELOW. UNLESS REQUIRED BY LAW, THE COMPANY UNDERTAKES NO OBLIGATION TO UPDATE ANY FORWARD-LOOKING STATEMENTS OR REASONS WHY ACTUAL RESULTS MAY DIFFER. Overview The Company has incurred net losses since 1994 and as of September 30, 2004, the most recent fiscal year end, had an accumulated deficit of $237.2 million. The significant amount of the Company's operating losses resulted from costs incurred prior to 2002 in developing and marketing Asynchronous Transfer Mode ("ATM") technology in the former Broadband Systems Division ("BSD"). After implementing a number of restructuring and cost reduction programs in an attempt to better align operating cost structure with revenues, in 2001 three of the Company's business units were actively marketed for sale with the objective of reducing outstanding debt and providing additional liquidity. Between June and August 2001, three of the Company's four operating divisions representing a significant portion of the assets of the Company, including BSD, were sold. However, due to the impact of a general economic downturn and a decline in the telecommunication industry in particular, the Company did not realize sufficient proceeds from the sales to satisfy its secured debtors. Revenues of divisions sold constituted 59% of consolidated revenue in fiscal 2001. By the end of fiscal 2001 the number of employees declined to 210 employees from 1,019 at the beginning of the year. Further cost-saving reductions were subsequently implemented which reduced headcount to 76 employees at December 31, 2004. 12 On November 2, 2001 General DataComm Industries, Inc. and its domestic subsidiaries filed a voluntary petition for relief under chapter 11 of the Bankruptcy Code in the United States Bankruptcy Court for the District of Delaware. The Company continued in possession of its properties and the management of its business as debtors in possession pursuant to the Bankruptcy Code. During the year ended September 30, 2002, and in the aftermath of the sales of three of its business units, the Company consolidated its remaining operations into its owned facility in Naugatuck, Connecticut, and downsized its staff and operating assets to more properly reflect current operating requirements for its one remaining business unit. Pursuant to a reorganization plan approved by the Bankruptcy Court, the Company emerged from Bankruptcy on September 15, 2003. RESULTS OF OPERATIONS Revenues Three Months Ended December 31, ------------------------------- (in thousands) 2004 2003 --------- --------- Revenues $ 3,867 $ 5,101 Revenues for the three months ended December 31, 2004 decreased 24% to $3,867,000 from $5,101,000 reported for the three months ended December 31, 2003. This decrease is attributable to lower unit sales to large telecommunication carrier channel distributors, which primarily affected sales to Thomas Technologies and Sunbelt Telecommunications, offset by an increase in sales to Qwest Communications. However, net sales increased 50% sequentially from the quarter ended September 30, 2004 and reflects an increase in sales of the Company's newer IP products to carriers. A decline in demand for the Company's products began in fiscal 2001 due to economic and industry-wide factors affecting the telecommunications industry, including financial constraints affecting customers and over-capacity in our customers' markets. The Company anticipates that the current reduced capital spending levels by its customers will continue to affect sales until there is an overall recovery in the telecommunications market, which, although there is some evidence of improvement, may not change significantly in 2005. Accordingly, the ability to forecast future revenue trends in the current environment is difficult. Gross Margin Three Months Ended December 31, ------------------------------- (in thousands) 2004 2003 --------- --------- Gross margin $ 2,286 $ 2,922 Percentage of revenues 59.1% 57.3% Gross margin, as a percentage of sales, in the three months ended December 31, 2004 was 59.1% as compared to 57.3% in the three months ended December 31, 2003. The 1.8% increase in gross profit margin in the three months ended December 31, 13 2004 was attributable to the sale of older inventories that had previously been written off based on the Company's accounting policy on determining obsolescence, which added 4.4%, offset in part by plant cost inefficiencies associated with lower sales volumes and other effects amounting to a reduction of 2.6%. In future periods, the Company's gross margin will vary depending upon a number of factors, including the mix of products sold, the cost of products manufactured at subcontract facilities, the channels of distribution, the price of products sold, discounting practices, price competition, increases in material costs and changes in other components of cost of sales. As and to the extent the Company introduces new products, it is possible that such products may have lower gross profit margins than other established products in higher volume production. Accordingly, gross margin as a percentage of sales may vary. Selling, General and Administrative Three Months Ended December 31, ------------------------------- (in thousands) 2004 2003 --------- --------- Selling, general and administrative $ 1,256 $ 1,909 Percentage of revenues 32.5% 37.4% The Company's selling, general and administrative ("SG&A") expenses decreased to $1,256,000, or 32.5% of sales in the three months ended December 31, 2004 from $1,909,000, or 37.4% of sales in the three months ended December 31, 2003. The reduction in spending in the quarter of $653,000, or 34%, was due to lower payroll and payroll-related costs ($420,000) resulting from a reduced number of employees, Company mandated salary and work week reductions and lower sales commissions due to lower sales levels; lower post-bankruptcy liability insurance costs ($55,000); reduced sales force travel expenses ($91,000); and other reductions in operating expenses due to cost reduction efforts ($87,000). Research and Product Development Three Months Ended December 31, ------------------------------- (in thousands) 2004 2003 --------- --------- Research and product development $ 546 $ 767 Percentage of revenues 14.1% 15.0% Research and product development ("R&D") expenses decreased to $546,000 in the three months ended December 31, 2004 as compared to $767,000 in the three months ended December 31, 2003, due to lower labor costs resulting from a 20% salary reduction and a reduced number of engineers. Other Income (Expense) Interest expense decreased to $872,000 in the three months ended December 31, 2004 from $904,000 in the three months ended December 31, 2003, due to principal payments made on the Company's term obligation offset by higher interest rates on notes payable to related parties and higher variable interest on the term obligation. 14 Additional items included in other income (expense) for the three months ended December 31, 2004 and 2003 totaled $341,000 and $96,000, respectively. The 2004 quarterly amount includes $300,000 profit on sale of a 25% minority interest in a Mexican company (see Note 6). The 2003 quarterly amounts included $70,000 in income from the sale of excess furniture and equipment. Reorganization Items Reorganization items in the three months ended December 31, 2004 include $145,000 in reduced claims from unsecured creditors in the Company's bankruptcy case due to challenges raised by the Company. Provision for Income Taxes No federal income tax provisions or tax benefits were provided in the three months ended December 31, 2004 and 2003 due to the valuation allowance provided against the net change in deferred tax assets. The Company established a full valuation allowance against its net deferred tax assets due to the uncertainty of realization of benefits of the net operating loss carryforwards from prior years. The Company has federal tax credit and net operating loss carryforwards of approximately $12.0 million and $206.1 million, respectively, as of September 30, 2004. Income tax provisions for the three months ended December 31, 2004 and 2003 reflect minimum state taxes. Liquidity and Capital Resources December 31, September 30, (in thousands) 2004 2004 -------- -------- Cash and cash equivalents $ 721 $ 586 Working capital (deficit) (41,134) (40,938) Total assets 10,858 11,264 Long-term debt, including current portion 36,246 37,281 Total liabilities (excluding redeemable preferred stock) 48,800 49,298 Three Months Ended December 31, ------------------------------- 2004 2004 -------- -------- Net cash provided (used) by: Operating activities 1,174 (692) Investing activities 11 96 Financing activities (1,050) (454) 15 Note: Significant risk factors exist due to the Company's limited financial resources and dependence on achieving future positive cash flows in order to satisfy its obligations and avoid a default under its loan and debenture obligations. See "Risk Factors" below for further discussion. Cash Flows Net cash provided by operating activities totaled $1,174,000 in the three months ended December 31, 2004 compared to net cash used in operating activities of $692,000 in the three months ended December 31, 2003. The net income in the 2004 quarter was $92,000. Non-cash items included in this net income were expenses for depreciation of $68,000 and gains on claim reductions of $145,000. An increase in accounts receivable due to a 50% increase in sales from the September 2004 quarter resulted in a use of cash of $295,000. Inventories were lower by $646,000 as the Company was able to achieve shipments of on-hand inventories to satisfy customer orders and generate a source of cash through reduced purchasing. Unpaid interest which accrued on the Company's debt increased $632,000. Other sources of cash totaled a net amount of $76,000. The net loss in the 2003 quarter was $567,000. In addition to the net loss, other items contributing to the $692,000 of net cash used in operating activities were an increase in accounts receivable of $594,000 and a reduction in accrued payroll and payroll related costs of $175,000 and other net uses of $3,000, offset by an increase in accrued interest of $647,000. Cash provided by investing activities was $11,000 from collection of a note receivable in the quarter ended December 31, 2004, compared to cash provided of $96,000, from collection of a note receivable of $111,000 offset by acquisition of equipment of $15,000, in the quarter ended December 31, 2003. Cash used by financing activities of $1,050,000 for the quarter ended December 31, 2004 represented principal payments on the Company's term obligation. Net cash used by financing activities for the quarter ended December 31, 2003 represented principal payments of $1,054,000 on the Company's term obligation offset by proceeds of $600,000 received from notes payable to related parties. Liquidity The Company has virtually no current ability to borrow additional funds. It must, therefore, fund operations from cash balances and cash generated from operating activities. The Company has significant short-term obligations including payment of professional fees and monthly payments of principal and interest (currently such principal and interest totals approximately $340,000 each month) under its senior loan agreement. Furthermore, the Company has significant outstanding obligations to pay total long-term debt of approximately $48.8 million, along with interest thereon. The Company's failure to make required payments under the senior loan agreement would constitute an event of default. In addition, the Company is required to meet a financial covenant to avoid an event of default (see Note 4 to Notes to Financial Statements included in Item 2 to this Form 10-QSB"). Although the Company was not in default of the financial covenant as of September 30, 2004, it was necessary for the Company to obtain a waiver of compliance with such covenant in order to avoid a default as the Company did not meet the financial covenant requirement. Since emerging from bankruptcy, the Company has incurred a loss before reorganization items and income taxes in excess of $3,000,000. Furthermore, the ability of the Company to meet cash flow and loan covenant requirements is directly affected by the factors described below "Risk Factors". There can be no assurance that the Company will be able to avoid a default on the senior loan agreement. If there is such a default, the senior secured lenders may accelerate payment of the outstanding debt ($12.8 million at December 31, 2004) and foreclose on their security interests which likely would require the Company to again file for bankruptcy protection. 16 The Company emerged from Chapter 11 bankruptcy on September 15, 2003. Under the plan of emergence, the Company plans to pay all creditors 100% of their allowed claims based upon a five year business plan. The ability to meet the objectives of this business plan is directly affected by the factors described below in the "Risk Factors" section. The Company cannot assure investors that it will be able to obtain new customers or to generate the increased revenues required to meet its business plan objectives. In addition, in order to execute the business plan, the Company may need to seek additional funding through public or private equity offerings, debt financings or commercial partners. Since the Company has virtually no current ability to borrow additional funds, it cannot assure investors that it will obtain funding on acceptable terms, if at all. If the Company is unable to generate sufficient revenues or access capital on acceptable terms, it may be required to (a) obtain funds on unfavorable terms that may require the Company to relinquish rights to certain of our technologies or that would significantly dilute our stockholders and/or (b) significantly scale back current operations. Either of these two possibilities would have a material adverse effect on the Company's business, financial condition and results of operations. Since filing for Chapter 11 bankruptcy protection on November 2, 2001, operations have been funded primarily through cash generated from operations and loans from related parties. Proceeds realized from sales and liquidations of non-core assets were required to be used to pay down the secured debt. At December 31, 2004 the Company's principal source of liquidity included cash and cash equivalents of $721,000 compared to $586,000 at September 30, 2004. At December 31, 2004, the Company's working capital was a deficit of approximately $41.1 million, compared to a deficit of approximately $40.9 million at September 30, 2004. Negative working capital reflects the classification of all long-term secured debt as a current liability as a result of non-compliance with a financial covenant. See Note 4, the section on "Loan Agreement" of Notes to Condensed Consolidated Financial Statements included in Item 2 in this Form 10-QSB. The Company has significant unpaid professional fees (approximately $1.0 million) at December 31, 2004 that are expected to be paid in fiscal 2005. In order to meet these and other future payments, the Company must achieve revenue growth while at the same time limiting investments in inventories and capital assets. As a result of the potential liquidity and cash flow risks described above, the Company's independent auditors expressed uncertainty about the Company's ability to continue as a going concern in their opinion on the Company's fiscal 2004 financial statements. Management has responded to such risks as part of an ongoing strategy by restructuring its sales force, increasing factory shutdown time, containing expenses and reducing the size of the employee workforce. In addition, in fiscal 2004 the Company obtained $1.6 million from loans from related parties to be used for working capital and general purposes (see Note 7 of the Notes to Condensed Consolidated Financial Statements included in Item 2 of this Form 10-QSB). The Company also is actively marketing for sale its land and building and pursuing other asset recoveries, the proceeds of which would be used to reduce secured debt and related interest. 17 Critical Accounting Policies The Company's financial statements and accompanying notes are prepared in accordance with generally accepted accounting principles in the United States of America. Preparing financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses. Management bases its estimates and judgements on historical experience and on various other factors that are believed to be reasonable under the circumstances. Due to the inherent uncertainty involved in making estimates, actual results reported in future periods might be based upon amounts that differ from those estimates. The following represent what the Company believes are among the critical accounting policies most affected by significant management estimates and judgements. Revenue Recognition. The Company recognizes a sale when the product is shipped and the following four criteria are met upon shipment: (1) persuasive evidence of an arrangement exists; (2) title and risk of loss transfers to the customer; (3) the selling price is fixed or determinable; and (4) collectibility is reasonably assured. A reserve for future product returns is established at the time of the sale based on historical return rates and return policies including stock rotation for sales to distributors that stock the Company's products. Service revenue is either recognized when the service is performed or, in the case of maintenance contracts, on a straight-line basis over the term of the contract. Warranty Reserves - The Company offers warranties of various lengths to our customers depending on the specific product and the terms of our customer purchase agreements. Standard warranties require the Company to repair or replace defective product returned during the warranty period at no cost to the customer. An estimate for warranty related costs is recorded based on actual historical return rates and repair costs at the time of sale. On an on-going basis, management reviews these estimates against actual expenses and makes adjustments when necessary. While warranty costs have historically been within expectations of the provision established, there is no guarantee that the Company will continue to experience the same warranty return rates or repair costs as in the past. A significant increase in product return rates or the costs to repair our products would have a material adverse impact on the Company's operating results. Impairment of Long-Lived Assets. The Company assesses the impairment of long-lived assets whenever events or changes in circumstances indicate that the carrying value may not be recoverable under the guidance prescribed by SFAS No. 144. The Company's long-lived assets consist of real estate, property and equipment. At December 31, 2004 and September 30, 2004, real estate represents the only significant remaining long-lived asset that has not been fully written down for impairment. Inventories. The Company values inventory at the lower of cost or market. Cost is computed using standard cost, which approximates actual cost on a first-in, first-out basis. Agreements with certain customers provide for return rights. The Company is able to reasonably estimate these returns and they are accrued for at the time of shipment. Inventory quantities on hand are reviewed on a quarterly basis and a provision for excess and obsolete inventory is recorded based primarily on product demand for the preceding twelve months. Historical product demand may prove to be an inaccurate indicator of future demand in which case the Company may increase or decrease the provision required for excess and obsolete inventory in future periods. The Company has possession of inventory, from a former division that was sold in 2001, which has been written off for financial reporting purposes. If the Company is able to sell inventory in the future that has been previously written down or off, such sales will result in higher than normal gross margin. Allowance for Doubtful Accounts. The Company estimates losses resulting from the inability of its customers to make payments for amounts billed. The collectability of outstanding invoices is continually assessed. Assumptions are 18 made regarding the customer's ability and intent to pay, and are based on historical trends, general economic conditions and current customer data. Should our actual experience with respect to collections differ from these assessments, there could be adjustments to our allowance for doubtful accounts. Deferred Tax Assets. The Company has provided a full valuation allowance related to its deferred tax assets. In the future, if sufficient evidence of the Company's ability to generate sufficient future taxable income in certain tax jurisdictions becomes apparent, the Company will be required to reduce its valuation allowances, resulting in income tax benefits in the Company's consolidated statement of operations. Management evaluates the realizability of the deferred tax assets and assesses the need for the valuation allowance each year. Recent Accounting Pronouncements In December 2003, the FASB revised Interpretation No. 46, Consolidation of Variable Interest Entities. This interpretation of Accounting Research Bulletin No. 51 Consolidated Financial Statements, addresses consolidation of variable interest entities. FIN 46 requires certain variable interest entities to be consolidated by the primary beneficiary if the entity does not effectively disperse risks among the parties involved. The provisions are effective no later than the end of the first reporting period that ends after March 15, 2004. The Company has no variable interest entities and accordingly the adoption of this Interpretation did not have a material impact on the Company's financial position or results of operations. In April 2003, the FASB issued SFAS 149, Amendment of Statement 133 on Derivative Instruments and Hedging Activities, which amends SFAS 133 for certain decisions made by the FASB Derivatives Implementation Group. In particular, SFAS 149 (1) clarifies under what circumstances a contract with an initial net investment meets the characteristic of a derivative, (2) clarifies when a derivative contains a financing component, (3) amends the definition of underlying to conform it to language used in FASB interpretation number (FIN) 45, and (4) amends certain other existing pronouncements. SFAS 149 is effective for contracts entered into or modified after June 30, 2003, and for hedging relationships designated after June 30, 2003. In addition, most provisions of SFAS 149 are to be applied prospectively. The Company has no derivative contracts and accordingly the adoption of SFAS 149 does not currently have a material impact on the Company's financial position or results of operations. In May 2003, the Financial Accounting Standards Board ("FASB") issued SFAS 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity. SFAS 150 improves the accounting for certain financial instruments that, under previous guidance, issuers could account for as equity. SFAS 150 requires that those instruments be classified as liabilities in statements of financial position. SFAS 150 is effective for interim periods beginning after June 15, 2003. In its October 2003 meeting, the FASB Board decided to defer the effective date of certain provisions of SFAS 150. SFAS No. 150 does not currently impact the Company's financial statements. FASB Statement 123 (Revision 2004), "Share-Based Payment," was issued in December 2004 and is effective for reporting periods beginning after December 15, 2005. The new statement requires all share-based payments to employees to be recognized in the financial statements based on their fair values. The Company currently accounts for its share-based payments to employees under the intrinsic value method of accounting set forth in Accounting Principles Board Opinion No. 25, `Accounting for Stock Issued to Employees." Additionally, the Company complies with the stock-based employer compensation disclosure requirements of SFAS No. 148, "Accounting for Stock-Based Compensation - Transition and Disclosure, an amendment of FASB Statement No. 123." The Company plans to adopt the new statement in its financial statements for the quarter and year ending September 2005. 19 RISK FACTORS THIS QUARTERLY REPORT ON FORM 10-QSB CONTAINS FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED. FOR THIS PURPOSE, STATEMENTS CONTAINED HEREIN THAT ARE NOT STATEMENTS OF HISTORICAL FACT MAY BE DEEMED TO BE FORWARD-LOOKING STATEMENTS. WITHOUT LIMITING THE FOREGOING, THE WORDS "BELIEVES", "ANTICIPATES", "PLANS", "EXPECTS" AND SIMILAR EXPRESSIONS ARE INTENDED TO IDENTIFY FORWARD-LOOKING STATEMENTS. THESE FORWARD-LOOKING STATEMENTS INVOLVE RISKS AND UNCERTAINTIES AND ARE NOT GUARANTEES OF FUTURE PERFORMANCE. ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THOSE INDICATED IN SUCH FORWARD-LOOKING STATEMENTS AS A RESULT OF CERTAIN FACTORS INCLUDING, BUT NOT LIMITED TO, THOSE SET FORTH UNDER THIS HEADING. GDC Limited Operating History Since Emerging from Bankruptcy. The Company emerged from Bankruptcy on September 15, 2003. The Company had voluntarily filed for protection under Chapter 11 of the US Bankruptcy Code on November 2, 2001, after incurring seven consecutive years of losses and selling three of its four operating divisions in 2001. Accordingly, an investor in our common stock must evaluate the risks, uncertainties, and difficulties frequently encountered by a Company emerging from Chapter 11 and that operates in rapidly evolving markets such as the telecommunications equipment industry. Due to the Company's limited and negative operating history and poor performance since emergence, the Company may not successfully implement any of its strategies or successfully address these risks and uncertainties. As described by the following factors, past financial performance should not be considered to be a reliable indicator of future performance, and investors should not use historical trends to anticipate results or trends in future periods. Limited Financial Resources and Risk of Default. The Company has virtually no current ability to borrow additional funds. It must, therefore, substantially fund operations from cash balances and cash generated from operating activities. The Company has significant short term obligations including payment of professional fees and monthly payments of principal and interest (currently such principal and interest totals approximately $340,000 per month) under its new loan agreement. Furthermore, the Company has significant outstanding obligations and commitments approximating $49.6 million (see Item 7 of the Company's Annual Report on Form 10-K for the year ended September 30, 2004 as filed with the Securities and Exchange Commission, in the section on "Liquidity" for additional discussion of this Risk Factor and the Company's contractual cash obligations as of September 30, 2004). The Company's failure to make required payments under the senior loan agreement would constitute an event of default. In addition, the Company is required to meet a financial covenant to avoid an event of default (see Notes 1 and 4 to Notes to Financial Statements included in Item 8 of the Company's annual report on Form 10-K). Although the Company was not in default of the financial covenant as of September 30, 2004, it was necessary to obtain a waiver of compliance with such covenant in order to avoid a default as the Company did not meet the financial covenant requirement. In fiscal 2004, which period covers most results since emerging from bankruptcy, the Company incurred operating losses of $175,000 and a loss before reorganization items and income taxes of $3,491,000. Furthermore, the ability of the Company to meet cash flow and loan covenant requirements is directly affected by the factors described in the "Risk Factors" section. 20 There can be no assurance that the Company will be able to avoid a default on the new loan agreement. If there is such a default, the senior secured lenders may accelerate payment of the outstanding debt ($12.8 million at December 31, 2004) and foreclose on their security interests which likely would require the Company to again file for bankruptcy protection. In addition, at December 31, 2004, the Company's new loan agreement provides the lenders with warrants to (i) purchase up to 51% (currently 35%) of the Company's common stock at $.01 per share in the event of default, currently 35% based on repayment of debt and (ii) purchase 10% of the Company's Common stock if the debt owing to them is not fully paid by December 31, 2004. Such debt was not fully paid by December 31, 2004. Both such warrants and any common stock issued thereunder will be cancelled if the lender's outstanding debt is fully paid by December 31, 2007. Dependence on Legacy and Recently Introduced Products and New Product Development. The Company's future results of operations are dependent on market acceptance of existing and future applications for the Company's current products and new products in development. The majority of sales continue to be provided by the Company's legacy products, primarily our DSU/CSU, V.34 lines which represented approximately 80% of net sales in fiscal 2004. The Company anticipates that net sales from legacy products will decline over the next several years and net sales of new products will increase at the same time, with significant quarterly fluctuations possible, and without assurance that sales of new products will increase at the same time. Market acceptance of the Company's recently introduced and future product lines is dependent on a number of factors, not all of which are in the Company's control, including the continued growth in the use of bandwidth intensive applications, continued deployment of new telecommunication services, market acceptance of multiservice access devices, the availability and price of competing products and technologies, and the success of the Company's sales and marketing efforts. Failure of the Company's products to achieve market acceptance would have a material adverse effect on the Company's business, financial condition and results of operations. Failure to introduce new products in a timely manner in order to replace sales of legacy products could cause customers to purchase products from competitors and have a material adverse effect on the Company's business, financial condition and results of operations. New products under development may require additional development work, enhancement and testing or further refinement before the Company can make them commercially available. The Company has in the past experienced delays in the introduction of new products, product applications and enhancements due to a variety of internal factors, such as reallocation of priorities, financial constraints, difficulty in hiring sufficient qualified personnel, and unforeseen technical obstacles, as well as changes in customer requirements. Such delays have deferred the receipt of revenue from the products involved. If the Company's products have performance, reliability or quality shortcomings, then the Company may experience reduced orders, higher manufacturing costs, delays in collecting accounts receivable, and additional warranty and service expenses. Customer Concentration. Our historical customers have consisted primarily of RBOCs, long distance service providers, wireless service providers, and Resellers who sell to these customers. The market for the services provided by the majority of these service providers has been influenced largely by the passage and interpretation of the Telecommunications Act of 1996 (the "1996 Act"). Service providers require substantial capital for the development, construction, and expansion of their networks and the introduction of their services. The ability of service providers to fund such expenditures often depends on their ability to budget or obtain sufficient capital resources. Over the past several years, resources made available by these customers for capital acquisitions have declined, particularly due to recent negative market conditions in the United States. If the Company's current or potential service 21 provider customers cannot successfully raise the necessary funds, or if they experience any other adverse effects with respect to their operating results or profitability, their capital spending programs may be adversely impacted which could materially adversely affect the Company's business, financial condition and results of operations. A small number of customers have historically accounted for a majority of the Company's sales (see Item 1. Business - Sales and Marketing). Sales to the Company's top five customers accounted for 56% and 61% of sales in fiscal 2004 and 2003, respectively. There can be no assurance that the Company's current customers will continue to place orders with the Company, that orders by existing customers will continue at the levels of previous periods, or that the Company will be able to obtain orders from new customers. GDC expects the economic climate and conditions in the telecommunication equipment industry to remain unpredictable in fiscal 2005, and possibly beyond. The loss of one or more of our service provider customers, such as occurred during the past three years through industry consolidation or otherwise, could have a material adverse effect on our sales and operating results. A bankruptcy filing by one or more of the Company's major customers could materially adversely affect the Company's business, financial condition and results of operations. Dependence on Key Personnel. The Company's future success will depend to a large extent on the continued contributions of its executive officers and key management, sales, and technical personnel. Each of the Company's executive officers, and key management, sales and technical personnel would be difficult to replace. The Company does not have employment contracts with its key employees. The Company implemented significant cost and staff reductions in recent years, which may make it more difficult to attract and retain key personnel. The loss of the services of one or more of the Company's executive officers or key personnel, or the inability to attract qualified personnel, could delay product development cycles or otherwise could have a material adverse effect on the Company's business, financial condition and results of operations. Dependence on Key Suppliers and Component Availability. The Company generally relies upon several contract manufacturers to assemble finished and semi-finished goods. The Company's products use certain components, such as microprocessors, memory chips and pre-formed enclosures that are acquired or available from one or a limited number of sources. Component parts that are incorporated into board assemblies are sourced directly by the Company from suppliers. The Company has generally been able to procure adequate supplies of these components in a timely manner from existing sources. While most components are standard items, certain application-specific integrated circuit chips used in many of the Company's products are customized to the Company's specifications. None of the suppliers of components operate under contract. Additionally, availability of some standard components may be affected by market shortages and allocations. The Company's inability to obtain a sufficient quantity of components when required, or to develop alternative sources due to lack of availability or degradation of quality, at acceptable prices and within a reasonable time, could result in delays or reductions in product shipments which could materially affect the Company's operating results in any given period. In addition, as referenced above the Company relies heavily on outsourcing subcontractors for production. The inability of such subcontractors to deliver products in a timely fashion or in accordance with the Company's quality standards could materially adversely affect the Company's operating results and business. The Company uses internal forecasts to manage its general finished goods and components requirements. Lead times for materials and components may vary significantly, and depend on factors such as specific supplier performance, contract terms, and general market demand for components. If orders vary from forecasts, the Company may experience excess or inadequate inventory of certain materials and components, and suppliers may demand longer lead times and higher prices. From time to time, the Company has experienced shortages and allocations of certain components, resulting in delays in fulfillment of customer orders. 23 Such shortages and allocations may occur in the future, and could have a material adverse effect on the Company's business, financial condition and results of operations. Fluctuations in Quarterly Operating Results. The Company's sales are subject to quarterly and annual fluctuations due to a number of factors resulting in more variability and less predictability in the Company's quarter-to-quarter sales and operating results. As a small number of customers have historically accounted for a majority of the Company's sales, order volatility by any of these major customers has had and may have an impact on the Company in the prior, current and future fiscal years. Most of the Company's sales require short delivery times. The Company's ability to affect and judge the timing of individual customer orders is limited. Large fluctuations in sales from quarter-to-quarter could be due to a wide variety of factors, such as delay, cancellation or acceleration of customer projects, and other factors discussed below. The Company's sales for a given quarter may depend to a significant degree upon planned product shipments to a single customer, often related to specific equipment or service deployment projects. The Company has experienced both acceleration and slowdown in orders related to such projects, causing changes in the sales level of a given quarter relative to both the preceding and subsequent quarters. Delays or lost sales can be caused by other factors beyond the Company's control, including late deliveries by the third party subcontractors the Company is using to outsource its manufacturing operations and by vendors of components used in a customer's products, slower than anticipated growth in demand for the Company's products for specific projects or delays in implementation of projects by customers and delays in obtaining regulatory approvals for new services and products. Delays and lost sales have occurred in the past and may occur in the future. The Company believes that sales in the past have been adversely impacted by merger and restructuring activities by some of its top customers. These and similar delays or lost sales could materially adversely affect the Company's business, financial condition and results of operations. See "Customer Concentration" and "Dependence on Key Suppliers and Component Availability". The Company's backlog at the beginning of each quarter typically is not sufficient to achieve expected sales for that quarter. To achieve its sales objectives, the Company is dependent upon obtaining orders in a quarter for shipment in that quarter. Furthermore, the Company's agreements with certain of its customers typically provide that they may change delivery schedules and cancel orders within specified timeframes, typically up to 30 days prior to the scheduled shipment date, without significant penalty. Some of the Company's customers have in the past built, and may in the future build, significant inventory in order to facilitate more rapid deployment of anticipated major projects or for other reasons. Decisions by such customers to reduce their inventory levels could lead to reductions in purchases from the Company in certain periods. These reductions, in turn, could cause fluctuations in the Company's operating results and could have an adverse effect on the Company's business, financial condition and results of operations in the periods in which the inventory is reduced. Operating results may also fluctuate due to a variety of factors, including market acceptance of the Company's new InnovX line of products, delays in new product introductions by the Company, market acceptance of new products and feature enhancements introduced by the Company, changes in the mix of products and or customers, the gain or loss of a significant customer, competitive price pressures, changes in expenses related to operations, research and development and marketing associated with existing and new products, and the general condition of the economy. All of the above factors are difficult for the Company to forecast, and these or other factors can materially and adversely affect the Company's business, financial condition and results of operations for one quarter or a series of quarters. The Company's expense levels are based in part on its expectations regarding future sales and are fixed in the short term to a certain extent. Therefore, the Company may be unable to adjust spending in a timely manner to 23 compensate for any unexpected shortfall in sales. Any significant decline in demand relative to the Company's expectations or any material delay of customer orders could have a material adverse effect on the Company's business, financial condition, and results of operations. There can be no assurance that the Company will be able to sustain profitability on a quarterly or annual basis. In addition, the Company has had, and in some future quarter may have operating results below the expectations of public market analysts and investors. In such event, the price of the Company's Common Stock would likely be materially and adversely affected. See "Potential Volatility of Stock Price". Competition. The market for telecommunications network access equipment addressed by the Company's products can be characterized as highly competitive, with intensive equipment price pressure. This market is subject to rapid technological change, wide-ranging regulatory requirements, the entrance of low cost manufacturers and the presence of formidable competitors that have greater name recognition and financial resources. Certain technology such as the V.34 and DSU/CSU portion of the SpectraComm and InnovX lines are not considered new and the market has experienced decline in recent years. Industry consolidation could lead to competition with fewer, but stronger competitors. In addition, advanced termination products are emerging, which represent both new market opportunities, as well as a threat to the Company's current products. Furthermore, basic line termination functions are increasingly being integrated by competitors, such as Cisco, Lucent Technologies, Inc. and Nortel Networks, into other equipment such as routers and switches. To the extent that current or potential competitors can expand their current offerings to include products that have functionality similar to the Company's products and planned products, the Company's business, financial condition and results of operations could be materially adversely affected. Many of the Company's current and potential competitors have substantially greater technical, financial, manufacturing and marketing resources than the Company. In addition, many of the Company's competitors have long-established relationships with network service providers. There can be no assurance that the Company will have the financial resources, technical expertise, manufacturing, marketing, distribution and support capabilities to compete successfully in the future. Rapid Technological Change. The network access and telecommunications equipment markets are characterized by rapidly changing technologies and frequent new product introductions. The rapid development of new technologies increases the risk that current or new competitors could develop products that would reduce the competitiveness of the Company's products. The Company's success will depend to a substantial degree upon its ability to respond to changes in technology and customer requirements. This will require the timely selection, development and marketing of new products and enhancements on a cost-effective basis. The development of new, technologically advanced products is a complex and uncertain process, requiring high levels of innovation. The Company may need to supplement its internal expertise and resources with specialized expertise or intellectual property from third parties to develop new products. Furthermore, the communications industry is characterized by the need to design products that meet industry standards for safety, emissions and network interconnection. With new and emerging technologies and service offerings from network service providers, such standards are often changing or unavailable. As a result, there is a potential for product development delays due to the need for compliance with new or modified standards. The introduction of new and enhanced products also requires that the Company manage transitions from older products in order to minimize disruptions in customer orders, avoid excess inventory of old products and ensure that adequate supplies of new products can be delivered to meet customer orders. There can be no assurance that the Company will be successful in developing, introducing or managing the transition to new or enhanced products, or that any such products will be responsive to technological changes or will gain market acceptance. The Company's business 24 financial condition and results of operations would be materially adversely affected if the Company were to be unsuccessful, or to incur significant delays in developing and introducing such new products or enhancements. See "Dependence on Legacy and Recently Introduced Products and New Product Development". Compliance with Regulations and Evolving Industry Standards. The market for the Company's products is characterized by the need to meet a significant number of communications regulations and standards, some of which are evolving as new technologies are deployed. In the United States, the Company's products must comply with various regulations defined by the Federal Communications Commission and standards established by Underwriters Laboratories and Bell Communications Research and new products introduced in the SpectraComm line will need to be NEBS Certified. As standards continue to evolve, the Company will be required to modify its products or develop and support new versions of its products. The failure of the Company's products to comply, or delays in compliance, with the various existing and evolving industry standards, could delay introduction of the Company's products, which could have a material adverse effect on the Company's business, financial condition and results of operations. GDC May Require Additional Funding to Sustain Operations. The Company emerged from Chapter 11 bankruptcy on September 15, 2003. Under the plan of emergence, the Company plans to pay all creditors 100% of their allowed claims based upon a five year business plan. The ability to meet the objectives of this business plan is directly affected by the factors described in this section "Risk Factors". The Company cannot assure investors that it will be able to obtain new customers or to generate the increased revenues required to meet our business plan objectives. In addition, in order to execute the business plan, the Company may need to seek additional funding through public or private equity offerings, debt financings or commercial partners. The Company cannot assure investors that it will obtain funding on acceptable terms, if at all. If the Company is unable to generate sufficient revenues or access capital on acceptable terms, it may be required to (a) obtain funds on unfavorable terms that may require the Company to relinquish rights to certain of our technologies or that would significantly dilute our stockholders and/or (b) significantly scale back current operations. Either of these two possibilities would have a material adverse effect on the Company's business, financial condition and results of operations. Risks Associated With Entry into International Markets. The Company to date has had minimal direct sales to customers outside of North America since 2001. The Company has little recent experience in international markets with the exception of a few direct customers and resellers/integrators. The Company intends to expand sales of its products outside of North America and to enter certain international markets, which will require significant management attention and financial resources. Conducting business outside of North America is subject to certain risks, including longer payment cycles, unexpected changes in regulatory requirements and tariffs, difficulties in supporting foreign customers, greater difficulty in accounts receivable collection and potentially adverse tax consequences. To the extent any Company sales are denominated in foreign currency, the Company's sales and results of operations may also be directly affected by fluctuations in foreign currency exchange rates. In order to sell its products internationally, the Company must meet standards established by telecommunications authorities in various countries, as well as recommendations of the Consultative Committee on International Telegraph and Telephony. A delay in obtaining, or the failure to obtain, certification of its products in countries outside the United States could delay or preclude the Company's marketing and sales efforts in such countries, which could have a material adverse effect on the Company's business, financial condition and results of operations. Risk of Third Party Claims of Infringement. The network access and telecommunications equipment industries are characterized by the existence of a large number of patents and frequent litigation based on allegations of patent infringement. From time to time, third parties may assert exclusive patent, copyright, trademark and other intellectual property rights to technologies that are important to the Company. The Company has not conducted a formal patent 25 search relating to the technology used in its products, due in part to the high cost and limited benefits of a formal search. In addition, since patent applications in the United States are not publicly disclosed until the related patent is issued and foreign patent applications generally are not publicly disclosed for at least a portion of the time that they are pending, applications may have been filed which, if issued as patents, could relate to the Company's products. Software comprises a substantial portion of the technology in the Company's products. The scope of protection accorded to patents covering software-related inventions is evolving and is subject to a degree of uncertainty which may increase the risk and cost to the Company if the Company discovers third party patents related to its software products or if such patents are asserted against the Company in the future. The Company may receive communications from third parties asserting that the Company's products infringe or may infringe the proprietary rights of third parties. In its distribution agreements, the Company typically agrees to indemnify its customers for any expenses or liabilities resulting from claimed infringements of patents, trademarks or copyrights of third parties. In the event of litigation to determine the validity of any third-party claims, such litigation, whether or not determined in favor of the Company, could result in significant expense to the Company and divert the efforts of the Company's technical and management personnel from productive tasks. In the event of an adverse ruling in such litigation, the Company might be required to discontinue the use and sale of infringing products, expend significant resources to develop non-infringing technology or obtain licenses from third parties. There can be no assurance that licenses from third parties would be available on acceptable terms, if at all. In the event of a successful claim against the Company and the failure of the Company to develop or license a substitute technology, the Company's business, financial condition, and results of operations could be materially adversely affected. Limited Protection of Intellectual Property. The Company relies upon a combination of patent, trade secret, copyright, and trademark laws and contractual restrictions to establish and protect proprietary rights in its products and technologies. The Company has been issued certain U.S. and Canadian patents with respect to certain products. There can be no assurance that third parties have not or will not develop equivalent technologies or products without infringing the Company's patents or that a court having jurisdiction over a dispute involving such patents would hold the Company's patents valid, enforceable and infringed. The Company also typically enters into confidentiality and invention assignment agreements with its employees and independent contractors, and non-disclosure agreements with its suppliers, distributors and appropriate customers so as to limit access to and disclosure of its proprietary information. There can be no assurance that these statutory and contractual arrangements will deter misappropriation of the Company's technologies or discourage independent third-party development of similar technologies. In the event such arrangements are insufficient, the Company's business, financial condition and results of operations could be materially adversely affected. The laws of certain foreign countries in which the Company's products are or may be developed, manufactured or sold may not protect the Company's products or intellectual property rights to the same extent as do the laws of the United States and thus, make the possibility of misappropriation of the Company's technology and products more likely. Potential Volatility of Stock Price. The trading price of the Company's Common Stock may be subject to wide fluctuations in response to quarter-to-quarter variations in operating results, announcements of technological innovations or new products by the Company or its competitors, developments with respect to patents or proprietary rights, general conditions in the telecommunication network access and equipment industries, changes in earnings estimates by analysts, or other events or factors. In addition, the stock market has experienced extreme price and volume fluctuations, which have particularly affected the market prices of many technology companies and which 26 have often been unrelated to the operating performance of such companies. Company-specific factors or broad market fluctuations may materially adversely affect the market price of the Company's Common Stock. The Company has experienced significant fluctuations in its stock price and share trading volume in the past and may continue to do so. The Company is Controlled by a Small Number of Stockholders and Certain Creditors. In particular, Mr. Modlin, Chairman of the Board and Chief Executive Officer, and President of Weisman Celler Spett & Modlin, P.C., legal counsel for the Company, owns approximately 69% of the Company's outstanding shares of Class B stock. Furthermore, Mr. Modlin is also executor of the estate of Mr. Charles P. Johnson, the former Chairman of the Board and Chief Executive Officer, and such estate owns approximately 27% of the outstanding shares of Class B stock. Class B stock under certain circumstances has 10 votes per share in the election of Directors. The Board of Directors is to consist of no less than three and no more than thirteen directors, one of which was designated by the Creditors Committee (and thereafter may be designate by the Trustee). The holders of the 9% Preferred Stock are presently entitled to designate two directors until all arrears on the dividends on such 9% Preferred Stock are paid in full. In addition, until the Company's primary secured loan obligations are paid in full, the primary secured lender, Ableco Finance LLC ("Ableco") is entitled to designate three directors and, upon default in its loan, its affiliate shall have the right under the two warrants it holds, to (i) acquire from 5% (currently 35%) to 51% of the outstanding Common Stock depending on the amount of the outstanding secured debt at such time, and (ii) acquire 10% of the outstanding Common Stock on a diluted basis. If Ableco's loan is not repaid in full by September 15, 2006, the Trustee may designate two more directors, and in the event of a payment default under the Debentures which is not cured within 60 days after written notice, the Trustee shall be entitled to select a majority of the Board of Directors. Accordingly, in the absence of a default under Ableco's loan, or a payment default under the Debentures, Mr. Modlin may be able to elect all members of the Board of Directors not designated by the holders of the 9% Preferred Stock, Ableco and the Trustee and determine the outcome of certain corporate actions requiring stockholder approval, such as mergers and acquisitions of the Company. This level of ownership by such persons and entities could have the effect of making it more difficult for a third party to acquire, or of discouraging a third party from attempting to acquire, control of the Company. Such provisions could limit the price that certain investors might be willing to pay in the future for shares of the Company's Common Stock, thereby making it less likely that a stockholder will receive a premium in any sale of shares. To date, the holders of the 9% Preferred Stock and Ableco have not designated any directors. ITEM 3. CONTROLS AND PROCEDURES For the period covered by this report, the Company carried out an evaluation, under the supervision and with the participation of the Company's management, including the Company's President and Chief Executive Officer, and Vice President and Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures pursuant to Exchange Act Rule 13a-15. Based upon that evaluation, the Company's President and Chief Executive Officer, and Vice President and Chief Financial Officer, have concluded that the Company's disclosure controls and procedures are effective to ensure the information required to be disclosed in reports filed or submitted under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms. There have been no significant changes in the Company's internal controls over financial reporting that occurred during the period covered by this Quarterly Report on Form 10-QSB that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting. 27 PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS Not applicable ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS Not applicable ITEM 3. DEFAULTS UPON SENIOR SECURITIES Payment of dividends on the 9% Cumulative Convertible Exchangeable Preferred Stock were suspended June 30, 2000. Such dividend arrearages total $7,977,487.50 as of December 31, 2004. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not applicable ITEM 5. OTHER INFORMATION Reference is made to Note 7. Subsequent Events for description of new 2005 Stock and Bonus Plan. ITEM 6. EXHIBITS (a) Exhibits Index: Exhibit Number Description of Exhibit - -------------- ---------------------- 10.1 2005 Stock and Bonus Plan 31.1 Certification of Chief Executive Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) under the Securities Exchange Act of 1934. 31.2 Certification of Chief Financial Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) under the Securities Exchange Act of 1934 32.1 Certification of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 28 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. GENERAL DATACOMM INDUSTRIES INC. February 14, 2005 /s/ WILLIAM G. HENRY -------------------------------------------- William G. Henry Vice President, Finance and Administration Chief Financial Officer 29 EX-10.1 2 ex10_1.txt EXHIBIT 10.1 Exhibit 10.1 ------------ GENERAL DATACOMM INDUSTRIES 2005 STOCK AND BONUS PLAN SECTION 1. GENERAL PURPOSE OF THE PLAN; DEFINITIONS The name of the plan is the General DataComm Industries, Inc. 2005 Stock and Bonus Plan (the "PLAN"). The purpose of the Plan is to encourage and enable the officers, directors and employees of General DataComm Industries, Inc. (the "COMPANY") and its Subsidiaries upon whose judgment, initiative and efforts the Company largely depends for the successful conduct of its business, to either acquire a proprietary interest in the Company or otherwise being additionally compensated for their efforts on behalf of the Company. It is anticipated that providing such persons with a direct stake in the Company's welfare or otherwise being additionally compensated, will assure a closer identification of their interests with those of the Company and its stockholders thereby stimulating their efforts on the Company's behalf and strengthening their desire to remain with the Company. The following terms shall be defined as set forth below: "ACT" means the Securities Exchange Act of 1934, as amended. "AWARD" or "AWARDS", except where referring to a particular category of grant under the Plan, shall include Incentive Stock Options, Non-Qualified Stock Options, Conditioned Stock Awards and Unrestricted Stock Awards. "BOARD" means the Board of Directors of the Company. "CAUSE" means personal dishonesty with respect to the Company, willful misconduct, breach of fiduciary duty involving personal profit, intentional failure to perform stated duties, willful violation of any law, rule or regulation (other than traffic violations or similar offenses) or final cease and desist order. "CHANGE OF CONTROL" shall have the meaning set forth in Section 13. "CODE" means the Internal Revenue Code of 1986, as amended, and any successor Code, and related rules, regulations and interpretations. "COMMON STOCK" means the Common Stock, $.01 par value, of the Company, subject to adjustments pursuant to Section 3. "COMMITTEE" shall have the meaning set forth in Section 2. "CONDITIONED STOCK AWARD" means an Award granted pursuant to Section 6. "DISABILITY" means disability as set forth in Section 22(e) (3) of the Code. "EFFECTIVE DATE" shall have the meaning set forth in Section 15. "ELIGIBLE PERSON" shall have the meaning set forth in Section 4. "FAIR MARKET VALUE" on any given date means the closing price per share of the Stock on the trading day immediately preceding such date as reported by the NASDAQ Stock Market or another nationally recognized stock exchange, or, if 30 the Stock is not listed on such an exchange, the fair market value of the Stock as determined by the Committee. "INCENTIVE STOCK OPTION" means any Stock Option designated and qualified as an "incentive stock option" as defined in Section 422 of the Code. "NON-QUALIFIED STOCK OPTION" means any Stock Option that is not an Incentive Stock Option. "NORMAL RETIREMENT" means retirement from active employment with the Company and its Subsidiaries in accordance with the retirement policies of the Company and its Subsidiaries then in effect. "OPTION" or "STOCK OPTION" means any option to purchase shares of Stock granted pursuant to Section 5. "PLAN OF REORGANIZATION" means the plan of reorganization of the Company in its Chapter 11 proceedings in the United States Bankruptcy Court for the District of Delaware. "STOCK" means the Common Stock of the Company. "SUBSIDIARY" means a subsidiary as defined in Section 424 of the Code. "UNRESTRICTED STOCK AWARD" means an Award granted pursuant to Section 7. SECTION 2. ADMINISTRATION OF PLAN; COMMITTEE AUTHORITY TO SELECT PARTICIPANTS AND DETERMINE AWARDS. (a) COMMITTEE. The Plan shall be administered by a committee of the Board (the "Committee") consisting of all members of the Stock Option Committee of the Company. Except as specifically reserved to the Board under the terms of the Plan, the Committee shall have full and final authority to operate, manage and administer the Plan on behalf of the Company. Action by the Committee shall require the affirmative vote of a majority of all members thereof. (b) POWERS OF COMMITTEE. The Committee shall have the power and authority to grant Awards consistent with the terms of the Plan, including the power and authority: (i) to select the officers, directors and other employees of the Company and its Subsidiaries to whom Awards may from time to time be granted; (ii) to determine the time or times of grant, and the extent, if any, of Incentive Stock Options, Non-Qualified Stock Options, Conditioned Stock and Unrestricted Stock Awards, or any combination of the foregoing, granted to any one or more participants; (iii) to determine the number of shares to be covered by any Award; (iv) to determine and modify the terms and conditions, including restrictions, not inconsistent with the terms of the Plan, of any Award, which terms and conditions may differ among individual Awards and participants, and to approve the form of written instruments evidencing the Awards; PROVIDED, HOWEVER, that no such action shall adversely affect rights under any outstanding Award without the participant's consent; and PROVIDED 31 FURTHER that the Committee shall have no authority to change the exercise or purchase price of any Award after the initial grant of the Award; (v) to accelerate the exercisability or vesting of all or any portion of any Award; (vi) subject to the provisions of Section 5(a) (ii), to extend the period in which any outstanding Stock Option may be exercised, provided, however, that such modification of an Incentive Stock Option may cause the option to fail to satisfy the incentive stock option requirements of the Code and may not be effected without the consent of the holder; (vii) to determine whether, and under what circumstances Stock and other amounts payable with respect to an Award shall be deferred either automatically or at the election of the participant and whether and to what extent the Company shall pay or credit amounts equal to interest (at rates determined by the Committee) or dividends or deemed dividends on such deferrals; and (viii) to adopt, alter and repeal such rules, guidelines and practices for administration of the Plan and for its own acts and proceedings as it shall deem advisable; to interpret the terms and provisions of the Plan and any Award (including related written instruments); to make all determinations it deems advisable in the administration of the Plan; to decide all disputes arising in connection with the Plan; and to otherwise supervise the administration of the Plan. All decisions and interpretations of the Committee shall be binding on all persons, including the Company and Plan participants. SECTION 3. SHARES ISSUABLE UNDER THE PLAN; MERGERS; SUBSTITUTION. (a) SHARES ISSUABLE. The maximum number of shares of Stock with respect to which Awards may be granted under the Plan shall be one million two hundred thousand (1,200,000) shares of Common Stock. For purposes of this limitation, the shares of Stock underlying any Awards which are forfeited, canceled, reacquired by the Company or otherwise terminated (other than by exercise) shall be added back to the shares of Stock with respect to which Awards may be granted under the Plan so long as the participants to whom such Awards had been previously granted retained no benefits of ownership of the underlying shares of Stock to which the Award related. Likewise, if any Option is exercised by the delivery of a number of shares of Stock, either actually or by attestation, to the Company as full or partial payment in connection with the exercise of an Option under this or any prior plan of the Company, only the number of shares of Stock issued net of the shares of Stock delivered shall be deemed issued for purposes of determining the maximum number of shares of Stock available for issuance under the Plan. Subject to such overall limitation, any type or types of Award may be granted with respect to shares, including Incentive Stock Options. Shares issued under the Plan may be authorized but unissued shares or shares reacquired by the Company. (b) STOCK DIVIDENDS, MERGERS, ETC. In the event that the Company effects a stock dividend or distribution in excess of 5% in the aggregate in any one fiscal year, or stock split, reverse stock split, combination, or similar change in capitalization affecting the Stock, the Committee shall make appropriate adjustments in (i) the number and kind of shares of stock or securities with respect to which Awards may thereafter be granted (including without limitation the limitations set forth in Section 3(a) above), (ii) the number and kind of shares remaining subject to Outstanding Awards, and (iii) the option or purchase price in respect of such shares. No Award adjustment shall be made for stock dividends, stock distributions or splits which are not in excess of 5% in any one fiscal year in the aggregate (even though the cumulative total of such stock dividends, distributions or splits over the life of Award may be in excess of 5% in the aggregate), cash dividends or the issuance to stockholders of the Company of rights to subscribe for additional Stock or other 32 securities. In the event of any merger, consolidation, dissolution or liquidation of the Company, the Committee in its sole discretion may, as to any outstanding Awards, make such substitution or adjustment in the aggregate number of shares reserved for issuance under the Plan and in the number and purchase price (if any) of shares subject to such Awards as it may determine and as may be permitted by the terms of such transaction, or accelerate, amend or terminate such Awards upon such terms and conditions as it shall provide (which, in the case of the termination of the vested portion of any Award, shall require payment or other consideration which the Committee deems equitable in the circumstances), subject, however, to the other provisions of the Plan and provided no such change in the Plan or Award adversely affects the rights of the holder of such Award without the holder's consent. (c) SUBSTITUTE AWARDS. The Committee may grant Awards under the Plan in substitution for stock and stock based awards held by employees of another corporation who concurrently become employees of the Company or a Subsidiary as the result of a merger or consolidation of the employing corporation with the Company or a Subsidiary or the acquisition by the Company or a Subsidiary of property or stock of the employing corporation (collectively, "MERGER"). The Committee may direct that the substitute awards be granted on such terms and conditions as the Committee considers appropriate in the circumstances. SECTION 4. ELIGIBILITY. Awards may be granted only to directors, officers or employees of the Company or its Subsidiaries ("ELIGIBLE PERSONS"). SECTION 5. STOCK OPTIONS. Any Stock Option granted under the Plan shall be in such form as the Committee may from time to time approve. Stock Options granted under the Plan may be either Incentive Stock Options or Non-Qualified Stock Options. To the extent that any option does not qualify as an Incentive Stock Option, it shall constitute a Non-Qualified Stock Option. No Incentive Stock Option shall be granted under the Plan after the tenth anniversary of the Effective Date. (a) GRANT OF STOCK OPTIONS. The Committee in its discretion may determine the effective date of Stock Options, PROVIDED, HOWEVER, that grants of Incentive Stock Options shall be made only to persons who are, on the effective date of the grant, employees of the Company or any Subsidiary. Stock Options granted pursuant to this Section 5(a) shall be subject to the following terms and conditions and the terms and conditions of Sections 11 and 12 and shall contain such additional terms and conditions, not inconsistent with the terms of the Plan, as the Committee shall deem desirable. (i) EXERCISE PRICE. The exercise price per share for the Stock covered by a Stock Option granted pursuant to this Section 5(a) shall be determined by the Committee at the time of grant but shall be not less than one hundred percent (100%) of the Fair Market Value on the date of grant. If an employee owns or is deemed to own (by reason of the attribution rules applicable under Section 424(d) of the Code) more than ten percent (10%) of the combined voting power of all classes of stock of the Company or any Subsidiary or parent corporation and an Incentive Stock Option is granted to such employee, the option price shall be not less than one hundred ten percent (110%) of the Fair Market Value on the grant date. 33 (ii) OPTION TERM. The term of each Stock Option shall be fixed by the Committee but no Stock Option shall be exercisable more than ten (10) years after the date the option is granted. If an employee owns or is deemed to own (by reason of the attribution rules of Section 424(d) of the Code) more than ten percent (10%) of the combined voting power of all classes of stock of the Company or any Subsidiary or parent corporation and an Incentive Stock Option is granted to such employee, the term of such option shall be no more than five (5) years from the date of grant. (iii) EXERCISABILITY; RIGHTS OF A STOCKHOLDER. Stock Options shall become vested and exercisable at such time or times, whether or not in installments, as shall be determined by the Committee at or after the grant date. The Committee may at any time accelerate the exercisability of all or any portion of any Stock Option. An optionee shall have the rights of a stockholder only as to shares acquired upon the exercise of a Stock Option and not as to unexercised Stock Options. (iv) METHOD OF EXERCISE. Stock Options may be exercised in whole or in part, by delivering written notice of exercise to the Company, specifying the number of shares to be purchased. Payment of the purchase price may be made by one or more of the following methods: (A) In cash, by certified or bank check or other instrument acceptable to the Committee; (B) If permitted by the Committee, in its discretion, in the form of "mature" shares of Stock (as defined in the Financial Accounting Standards Board's Emerging Issues Task Force Issue 84-18 ("Issue 84-18")) that are not then subject to restrictions under any Company plan. Such surrendered shares shall be valued at Fair Market Value on the exercise date; or (C) If permitted by the Committee, in its discretion, by the optionee delivering to the Company a properly executed exercise notice together with irrevocable instructions to a broker to promptly deliver to the Company cash or a check payable and acceptable to the Company to pay the purchase price; PROVIDED that in the event the optionee chooses to pay the purchase price as so provided, the optionee and the broker shall comply with such procedures and enter into such agreements of indemnity and other agreements as the Committee shall prescribe as a condition of such payment procedure. The Company need not act upon such exercise notice until the Company receives full payment of the exercise price; or (D) If permitted by the Committee, in its discretion, by reducing the number of option shares otherwise issuable to the optionee upon exercise of the option by a number of shares of Stock having a Fair Market Value equal to such aggregate exercise price (it being understood that this alternative will be available only if the optionee holds sufficient "mature" shares as defined in Issue 84-18); (E) By any other means (including, without limitation, by delivery of a promissory note of the optionee payable on such terms as are specified by the Committee) which the Committee determines are consistent with the purpose of the Plan and with applicable laws and regulations. The delivery of certificates representing shares of Stock to be purchased pursuant to the exercise of a Stock Option will be contingent upon receipt from the Optionee (or a purchaser acting in his stead in accordance with the provisions of the Stock Option) by the Company of the full purchase price for such shares and the fulfillment of any other requirements contained in the Stock Option or applicable provisions of laws. 34 (v) NON-TRANSFERABILITY OF OPTIONS. Except as otherwise may be provided in this Section 5(a)(v) or in an option agreement governing an Option granted under the Plan, no Stock Option shall be transferable other than by will or by the laws of descent and distribution, and all Stock Options shall be exercisable, during the optionee's lifetime, only by the optionee. The Committee may, however, in its sole discretion, permit transferability or assignment of a Non-Qualified Stock Option if such transfer or assignment is, in its sole determination, for valid estate planning purposes and such transfer or assignment is permitted under the Code and Rule 16b-3 under the Exchange Act. For purposes of this Section 5(a)(v), a transfer for valid estate planning purposes includes, but is not limited to: (a) a transfer to a revocable inter-vivos trust as to which the participant is both the settlor and trustee, (b) a transfer for no consideration to: (i) any member of the participant's Immediate Family, (ii) any trust solely for the benefit of members of the participant's Immediate Family, (iii) any partnership whose only partners are members of the participant's Immediate Family, or (iv) any limited liability corporation or corporate entity whose only members or equity owners are members of the Participant's Immediate Family. For purposes of this Section 5(a)(v), "IMMEDIATE FAMILY" includes, but is not necessarily limited to, a Participant's parents, spouse, children, grandchildren and great-grandchildren. Nothing contained in this Section 5(a)(v) shall be construed to require the Committee to give its approval to any transfer or assignment of any Non-Qualified Stock Option or portion thereof, and approval to transfer or assign any Non-Qualified Stock Option or portion thereof does not mean that such approval will be given with respect to any other Non-Qualified Stock Option or portion thereof. The transferee or assignee of any Non-Qualified Stock Option shall be subject to all of the terms and conditions applicable to such Non-Qualified Stock Option immediately prior to the transfer or assignment and shall be subject to any conditions prescribed by the Committee with respect to such Non-Qualified Stock Option. (vi) ANNUAL LIMIT ON INCENTIVE STOCK OPTIONS. To the extent required for "incentive stock option" treatment under Section 422 of the Code, the aggregate Fair Market Value (determined as of the time of grant) of the Stock with respect to which incentive stock options granted under this Plan and any other plan of the Company or its Subsidiaries become exercisable for the first time by an optionee during any calendar year shall not exceed $100,000. Notwithstanding the foregoing, to the extent that the aggregate Fair Market Value (determined as of the time of grant) of the Stock with respect to which Incentive Stock Options granted under this Plan and any other plan of the Company or its Subsidiaries become exercisable for the first time by an optionee during any calendar year exceeds $100,000 said excess shall be treated as a Non-Qualified Stock Option. (vii) FORM OF SETTLEMENT. Shares of Stock issued upon exercise of a Stock Option shall be free of all restrictions under the Plan, except as otherwise provided in this Plan. (b) RELOAD OPTIONS. At the discretion of the Committee, Options granted under Section 5(a) may include a so-called "reload" feature pursuant to which an optionee exercising an option (the "ORIGINAL OPTION") by the delivery of a number of shares of Stock in accordance with Section 5(a)(iv)(B) hereof would automatically be granted an additional Option (with an exercise price equal to the Fair Market Value of the Stock on the date the additional Option is granted and with the same expiration date as the original Option being exercised, and with such other terms as the Committee may provide) to purchase that number of shares of Stock equal to the number delivered to exercise the Original Option; provided, however, that the grant of such additional Option shall be subject to the availability of shares of Stock under the Plan at the time of the exercise of the Original Option. 35 SECTION 6. CONDITIONED STOCK AWARDS. (a) NATURE OF CONDITIONED STOCK AWARD. The Committee in its discretion may grant Conditioned Stock Awards to any Eligible Person. A Conditioned Stock Award is an Award entitling the recipient to acquire, at no cost or for a purchase price determined by the Committee, shares of Stock subject to such restrictions and conditions as the Committee may determine at the time of grant ("CONDITIONED STOCK"). Conditions may be based on continuing employment and/or achievement of pre-established performance goals and objectives. In addition, a Conditioned Stock Award may be granted to an employee by the Committee in lieu of a cash bonus due to such employee pursuant to any other plan of the Company. (b) ACCEPTANCE OF AWARD. A participant who is granted a Conditioned Stock Award shall have no rights with respect to such Award unless the participant shall have accepted the Award within sixty (60) days (or such shorter date as the Committee may specify) following the award date by making payment to the Company, if required, by certified or bank check or other instrument or form of payment acceptable to the Committee in an amount equal to the specified purchase price, if any, of the shares covered by the Award and by executing and delivering to the Company a written instrument that sets forth the terms and conditions of the Conditioned Stock in such form as the Committee shall determine. (c) RIGHTS AS A SHAREHOLDER. Upon complying with Section 6(b) above, a participant shall have all the rights of a stockholder with respect to the Conditioned Stock, including voting and dividend rights, subject to non-transferability restrictions and Company repurchase or forfeiture rights described in this Section 6 and subject to such other conditions contained in the written instrument evidencing the Conditioned Award. Unless the Committee shall otherwise determine, certificates evidencing shares of Conditioned Stock shall remain in the possession of the Company until such shares are vested as provided in Section 6(e) below. (d) RESTRICTIONS. Shares of Conditioned Stock may not be sold, assigned, transferred, pledged or otherwise encumbered or disposed of except as specifically provided herein. In the event of termination of employment by (or termination of services with) the Company and its Subsidiaries for any reason (including death, Disability, Normal Retirement and for Cause), the Company shall have the right, at the discretion of the Committee, to repurchase shares of Conditioned Stock with respect to which conditions have not lapsed at their purchase price, or to require forfeiture of such shares to the Company if acquired at no cost, from the participant or the participant's legal representative. The Company must exercise such right of repurchase or forfeiture within ninety (90) days following such termination of employment or service (unless otherwise specified, in the written instrument evidencing the Conditioned Award). (e) VESTING OF CONDITIONED STOCK. The Committee at the time of grant shall specify the date or dates and/or the attainment of pre-established performance goals, objectives and other conditions on which the non-transferability of the Conditioned Stock and the Company's right of repurchase or forfeiture shall lapse. Subsequent to such date or dates and/or the attainment of such preestablished performance goals, objectives and other conditions, the shares on which all restrictions have lapsed shall no longer be Conditioned Stock and shall be deemed "vested." The Committee at any time may accelerate such date or dates and otherwise waive or, subject to Section 12, amend any conditions of the Award. (f) WAIVER, DEFERRAL AND REINVESTMENT OF DIVIDENDS. The written instrument evidencing the Conditioned Stock Award may require or permit the immediate payment, waiver, deferral or investment of dividends paid on the Restricted Stock. 36 SECTION 7. UNRESTRICTED STOCK AWARDS. (a) GRANT OR SALE OF UNRESTRICTED STOCK. The Committee in its discretion may grant or sell to any Eligible Person shares of Stock free of any restrictions under the Plan ("UNRESTRICTED STOCK") which in the case of a grant shall be without the payment of a purchase price and, in the case of a sale, at a purchase price determined by the Committee. Shares of Unrestricted Stock may be granted or sold as described in the preceding sentence in respect of past services or other valid consideration. (b) RESTRICTIONS ON TRANSFERS. The right to receive unrestricted Stock may not be sold, assigned, transferred, pledged or otherwise encumbered, other than by will or the laws of descent and distribution. SECTION 8. VESTING TERMINATION AND RESCISSION OF STOCK OPTIONS. Unless otherwise provided in the applicable agreement pursuant to which the Award was granted, (a) STOCK OPTIONS: (i) TERMINATION BY DEATH. If any participant's employment or directorship with the Company and its Subsidiaries terminates by reason of death, any Stock Option owned by such participant whether or not exercisable or vested at the date of death, shall be automatically fully exercisable and vested as at the time of death and may thereafter be exercised to the fullest extent, notwithstanding any vesting limitations in the Option at the date of death, by the legal representative or legatee of the participant, until the expiration of the stated term of the Stock Option. (ii) TERMINATION BY REASON OF DISABILITY OR NORMAL RETIREMENT. (A) Any Stock Option held by a participant whose employment or directorship with the Company and its Subsidiaries has terminated by reason of Disability whether or not exercisable or vested at the date of termination, shall be automatically fully exercisable and vested as at the date of termination and may thereafter be exercised, to the fullest extent notwithstanding any vesting limitations in the Option at the time of such termination by the participant or, in the event of the participant's death subsequent to such termination, by the legal representative or legatees of the participant, until the expiration of the stated term of the Option. (B) Any Stock Option held by a participant whose employment or directorship with the Company and its Subsidiaries has terminated by reason of Normal Retirement may thereafter be exercised, to the extent it was exercisable at the time of such termination, for a period of three (3) months from the date of such termination of employment or directorship or until the expiration of the stated term of the Option, if earlier. (C) The Committee shall have sole authority and discretion to determine whether a participant's employment or directorship has been terminated by reason of Disability or Normal Retirement. (D) Except as otherwise provided by the Committee at the time of grant, the death of a participant during a period provided in this Section 8(a)(ii) for the exercise of a Stock Option shall extend such period to the expiration of the stated term of the Option. 37 (iii) TERMINATION VOLUNTARILY OR FOR CAUSE. If any participant's employment or directorship with the Company and its Subsidiaries has been terminated by the optionee voluntarily (other than by reason of Normal Retirement) or by the Company or any of its Subsidiaries for Cause, any Stock Option held by such participant shall immediately terminate at the end of the last day of the optionee's employment or directorship and shall thereafter be of no further force and effect. The Committee shall have sole authority and discretion to determine whether a participant's employment or directorship has been terminated by the optionee voluntarily or by the Company or any of its Subsidiaries for Cause. (iv) TERMINATION WITHOUT CAUSE. Unless otherwise determined by the Committee, if a participant's employment or directorship with the Company and its subsidiaries is terminated by the Company or any of its Subsidiaries without cause, any Stock Option held by such participant may thereafter be exercised, to the extent it was exercisable on the date of termination of employment or directorship, for three (3) months from the last day of the optionee's employment or directorship (or such longer period as the Committee shall specify at any time, it being understood that any Incentive Options that are not exercised by such terminated optionee within three (3) months after such termination shall thereafter become Nonqualified Options) or until the expiration of the stated term of the Option, if earlier. (v) COVENANT NOT TO COMPETE AND CANCELLATION AND RESCISSION OF OPTIONS. As a condition for acceptance of Stock Options, participants shall agree that during the one (1) year period following their termination of employment for any reason (excluding any such termination by the Company without cause) the participant shall not, directly or indirectly, work for or render any services to any person, firm or business located within a 150 mile radius of the Company's office in Naugatuck, Connecticut (or participant's principal location with the Company as determined by the Committee) which offers products and/or services competitive to the products and/or services of participant. Upon termination, in order to ascertain if future employment would be deemed to be in non-compliance with this covenant, a participant should notify the Company as to participant's future employer and make a request for approval to retain participant's rights with respect to Stock Options on the basis of demonstrating that participant is not entering into a competitive situation. If a non-competitive situation is demonstrated to the Company's satisfaction, then such approval shall not be unreasonably withheld. In the event participant fails to comply with or otherwise breaches this covenant in any way, during the one year period following any such termination, the Company may notify participant in writing of the rescission of any options exercised by participant during such one year period following such termination or within nine (9) months prior to any such termination of participant's employment. Within ten (10) days after receiving such a notice from the Company, the participant shall pay to the Company in cash, the aggregate amount of any gain resulting from the exercise by participant of such rescinded options and the subsequent sales of the shares received on the exercise or, if no such sale of said shares has occurred, upon the Company's demand, return the shares received on the exercise of such rescinded options against the refund by the Company of the exercise price therefor. (b) OTHER AWARDS. All Awards other than Stock Options granted under the Plan shall contain such terms and conditions with respect to its termination as the Committee, in its discretion, may from time to time determine. 38 SECTION 9. TAX WITHHOLDING. (a) PAYMENT BY PARTICIPANT. Each participant shall, no later than theDate as of which the value of an Award or of any Stock or other amounts received thereunder first becomes includable in the gross income of the participant for Federal income tax purposes, pay to the Company, or make arrangements satisfactory to the Committee regarding payment of any Federal, state or local taxes of any kind required by law to be withheld with respect to such income. The Company and its Subsidiaries shall, to the extent permitted by law, have the right to deduct any such taxes from any payment of any kind otherwise due to the participant. (b) PAYMENT IN SHARES. A participant may elect, with the consent of theCommittee, in its discretion, to have such tax-withholding obligation satisfied, in whole or in part, by authorizing the Company to withhold from shares of Stock to be issued pursuant to an Award a number of shares with an aggregate Fair Market Value (as of the date the withholding is effected) that would satisfy the withholding amount due with respect to such Award. If shares are withheld from an Award in order to satisfy said withholding tax or payroll tax requirements, only the number of Shares with an aggregate Fair Market Value equal to the minimum withholding amount due shall be so withheld. SECTION 10. TRANSFER, LEAVE OF ABSENCE, ETC. For purposes of the Plan, the following events shall not be deemed a termination of employment: (a) a transfer to the employment of the Company from a Subsidiary or from the Company to a Subsidiary, or from one Subsidiary to another; (b) an approved leave of absence for military service or sickness, or for any other purpose approved by the Company, if the employee's right to re-employment is guaranteed either by a statute or by contract or under the policy pursuant to which the leave of absence was granted or if the Committee otherwise so provides in writing. SECTION 11. AMENDMENTS AND TERMINATION. The Board may at any time amend or discontinue the Plan and the Committee may at any time amend or cancel any outstanding Award (or provide substitute Awards at the same or reduced exercise or purchase price or with no exercise or purchase price, but such price, if any, must satisfy the requirements which would apply to the substitute or amended Award if it were then initially granted under this Plan) for the purpose of satisfying changes in law or for any other lawful purpose, but no such action shall adversely affect rights under any outstanding Award without the holder's consent. However, no such amendment, unless approved by the stockholders of the Company, shall be effective if it would cause the Plan to fail to satisfy the incentive stock option requirements of the Code if the Plan is approved by stockholders within one (1) year from adoption by the Board of Directors, or cause transactions under the Plan to fail to satisfy the requirements of Rule 16b-3 or any successor rule under the Act as in effect on the date of such amendment. 39 SECTION 12. STATUS OF PLAN. With respect to the portion of any Award which has not been exercised and any payments in cash, Stock or other consideration not received by a participant, a participant shall have no rights greater than those of a general creditor of the Company unless the Committee shall otherwise expressly determine in connection with any Award or Awards. In its sole discretion, the Committee may authorize the creation of trusts or other arrangements to meet the Company's obligations to deliver Stock or make payments with respect to Awards hereunder, provided that the existence of such trusts or other arrangements is consistent with the provision of the foregoing sentence. SECTION 13. CHANGE OF CONTROL PROVISIONS. (a) In the event of a Change of Control while unexercised Stock Options, Conditional Stock Awards, or Stock Awards remain outstanding under the Plan, then (i) the time for exercise of all unexercised and unexpired Awards shall be automatically accelerated, effective as of the effective time of the Change of Control (or such earlier date as may be specified by the Committee), and (ii) after the effective time of such Change of Control, unexercised Stock Options, Conditional Stock Awards, or Stock Awards, shall remain outstanding and shall be exercisable for shares of Stock (or consideration based upon the Fair Market Value of Stock) or cash, or if applicable, for shares of such securities, cash or property (or consideration based upon shares of such securities, cash or property) as the holders of shares of Stock received in connection with such Change of Control. (b) "CHANGE OF CONTROL" shall mean the occurrence of any one of the following events: (i) persons who, as of January 26, 2005, constituted the Company's Board (the "INCUMBENT BOARD") cease for any reason, including without limitation as a result of a tender offer, proxy contest, merger or similar transaction, to constitute at least a majority of the Board, provided that any person becoming a director of the Company subsequent to January 26, 2005 whose election was approved by, or who was nominated either with the approval of, at least a majority of the directors then comprising the Incumbent Board or who was elected in accordance with rights provided to Abelco Finance LLC and the Indenture Trustee for the Debentures under the Company's Plan of Reorganization, shall, for purposes of this Plan, be considered a member of the Incumbent Board, including those persons initially elected as directors as provided in the Plan of Reorganization; or (ii) the stockholders of the Company approve a merger or consolidation of the Company with any other corporation or other entity, other than a merger or consolidation which would result in the voting securities of the Company outstanding immediately prior thereto continuing to represent (either by remaining outstanding or by being converted into voting securities of the surviving entity) more than sixty-five percent (65%) of the combined voting power of the voting securities of the Company of such surviving entity outstanding immediately after such merger or consolidation; or (iii) the stockholders of the Company approve a plan of complete liquidation of the Company or an agreement for the sale or disposition by the Company of all or substantially all of the Company's assets. SECTION 14. GENERAL PROVISIONS. (a) NO DISTRIBUTION; COMPLIANCE WITH LEGAL REQUIREMENTS. The Committee may require each person acquiring shares pursuant to an Award to represent to and agree with the Company in writing that such person is acquiring the shares without a view to distribution thereof. 40 No shares of Stock shall be issued pursuant to an Award until all applicable securities laws and other legal and stock exchange requirements have been satisfied. The Committee may require the placing of such stop orders and restrictive legends on certificates for Stock and Awards as it deems appropriate. (b) DELIVERY OF STOCK CERTIFICATES. Delivery of stock certificates to participants under this Plan shall be deemed effected for all purposes when the Company or a stock transfer agent of the Company shall have delivered such certificates in the United States mail, addressed to the participant, at the participant's last known address on file with the Company. (c) OTHER COMPENSATION ARRANGEMENTS; NO EMPLOYMENT RIGHTS. Nothing contained in this Plan shall prevent the Board from adopting other or additional compensation arrangements, including trusts, subject to stockholder approval if such approval is required; and such arrangements may be either generally applicable or applicable only in specific cases. The adoption of the Plan or any Award under the Plan does not confer upon any employee any right to continued employment with the Company or any Subsidiary. (d) DELEGATION BY COMMITTEE. The Committee may delegate to the Chief Executive Officer of the Company the authority to make decisions relating to the grant or exercise of Options or other Awards (other than to himself), including without limitation the authority to permit the holder of an award to deliver Stock in payment of the exercise price and the authority to permit a holder of an Award to satisfy a tax withholding obligation by authorizing the Company to withhold shares from the shares of Stock to be issued pursuant to an Award. SECTION 15. EFFECTIVE DATE OF PLAN. The Effective Date of the adoption of this Plan shall be January 26, 2005. SECTION 16. GOVERNING LAW. This Plan shall be governed by, and construed and enforced in accordance with, the substantive laws of the State of Delaware without regard to its principles of conflicts of laws. 41 EX-31.1 3 ex31_1.txt EXHIBIT 31.1 Exhibit 31.1 ------------ CERTIFICATION I, Howard S. Modlin, Chairman of the Board, President and Chief Executive Officer of General DataComm Industries, Inc. (the "Company") certify that: 1. I have reviewed this Report on Form 10-QSB (the "Report") of the Company for the quarter ended December 31, 2004. 2. Based on my knowledge, this Report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this Report; 3. Based on my knowledge, the financial statements, and other financial information included in this Report, fairly present in all material respects the financial condition, results of operations and cash flows of the Company as of, and for, the periods presented in this Report; 4. The Company's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15 (e) and 15d-15(e)) for the Company and have; a) designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the Company, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this Report is being prepared; b) evaluated the effectiveness of the Company's disclosure controls and procedures and presented in this Report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this Report based on such evaluation; and c) disclosed in this Report any change in the Company's internal control over financial reporting that occurred during the Company's most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting. 5. The Company's other certifying officers and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the Company's auditors and the audit committee of the Company's board of directors: a) all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the Company's ability to record, process, summarize and report financial information; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the Company's internal control over financial reporting. /s/ HOWARD S. MODLIN ----------------------------------------- Date: February 14, 2005 Howard S. Modlin Chairman of the Board, President and Chief Executive Officer 42 EX-31.2 4 ex31_2.txt EXHIBIT 31.2 Exhibit 31.2 ------------ CERTIFICATION I, William G. Henry, Vice President, Finance and Administration and Chief Financial Officer of General DataComm Industries, Inc. (the "Company") certify that: 1. I have reviewed this Report on Form 10-QSB (the "Report") of the Company for the quarter ended December 31, 2004. 2. Based on my knowledge, this Report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this Report; 3. Based on my knowledge, the financial statements, and other financial information included in this Report, fairly present in all material respects the financial condition, results of operations and cash flows of the Company as of, and for, the periods presented in this Report; 4. The Company's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15 (e) and 15d-15(e)) for the Company and have; a) designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the Company, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this Report is being prepared; b) evaluated the effectiveness of the Company's disclosure controls and procedures and presented in this Report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this Report based on such evaluation; and c) disclosed in this Report any change in the Company's internal control over financial reporting that occurred during the Company's most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting. 5. The Company's other certifying officers and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the Company's auditors and the audit committee of the Company's board of directors: a) all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the Company's ability to record, process, summarize and report financial information; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the Company's internal control over financial reporting. /s/ WILLIAM G. HENRY ------------------------------------------ Date: February 14, 2005 William G. Henry Vice President, Finance and Administration Chief Financial Officer 43 EX-32.1 5 ex32_1.txt EXHIBIT 32.1 Exhibit 32.1 ------------ CERTIFICATION OF CHIEF EXECUTIVE OFFICER AND CHIEF FINANCIAL OFFICER PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (subsections (a) and (b) of section 1350, chapter 63 of title 18, United States Code), I, Howard S. Modlin, Chairman of the Board, President and Chief Executive Officer, and I, William G. Henry, Vice President, Finance and Administration and Chief Financial Officer, each of General DataComm Industries, Inc. (the "Company"), do each hereby certify, to the best of my knowledge that: (1) The Company's Quarterly Report on Form 10-QSB for the period ended December 31, 2004 being filed with the Securities and Exchange Commission (the "Report") fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and (2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. This Certification accompanies this Form 10-QSB as an exhibit, but shall not be deemed as having been filed for purposes of Section 18 of the Securities Exchange Act of 1934 or as a separate disclosure document of the Company or the certifying officer. /s/ HOWARD S. MODLIN ------------------------------------------ Date: February 14, 2005 Howard S. Modlin, Chairman of the Board, President and Chief Executive Officer /s/ WILLIAM G. HENRY ------------------------------------------ William G. Henry Vice President, Finance and Administration and Chief Financial Officer 44 -----END PRIVACY-ENHANCED MESSAGE-----