10-Q 1 form10-q_15215.txt FORM 10-Q DATED APRIL 30, 2007 ================================================================================ FORM 10-Q SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 Quarterly Report Under Section 13 or 15(d) of the Securities Exchange Act of 1934 For the Quarter Ended April 30, 2007 Commission File Number 0-26230 WESTERN POWER & EQUIPMENT CORP. (Exact name of registrant as specified in its charter) DELAWARE 91-1688446 -------- ---------- (State or other jurisdiction of (I.R.S. Employer I.D. number) incorporation or organization) 6407-B N.E. 117th Avenue, Vancouver, WA 98662 --------------------------------------- ----- (Address of principal executive offices) (Zip Code) Registrant's telephone no.: 360-253-2346 ------------ Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities and Exchange Act of 1934 during the preceding 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 [_] Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of June 12, 2007. Title of Class Number of shares Common Stock Outstanding (par value $.001 per share) 11,230,000 ================================================================================ WESTERN POWER & EQUIPMENT CORP. & SUBSIDIARY INDEX PART I. FINANCIAL INFORMATION Page Number ------ Item 1. Financial Statements Condensed Consolidated Balance Sheets April 30, 2007 (Unaudited) and July 31, 2006............. 3 Condensed Consolidated Statements of Operations (Unaudited) Three months ended April 30, 2007 and April 30, 2006 .... 4 Condensed Consolidated Statements of Operations (Unaudited) Nine months ended April 30, 2007 and April 30, 2006 ..... 5 Condensed Consolidated Statements of Cash Flows (Unaudited) Nine months ended April 30, 2007 and April 30, 2006...... 6 Notes to Condensed Consolidated Financial Statements (Unaudited)................................................ 7-15 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations...... 16-24 Item 3. Quantitative and Qualitative Disclosures about Market Risk........................................ 25 Item 4. Controls and Procedures............................ 25 PART II. OTHER INFORMATION Item 1. Legal Proceedings.................................. 26 Item 1A. Risk Factors....................................... 26 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds........................................ 26 Item 3. Defaults Upon Senior Securities.................... 26 Item 4. Submission of Matters to a Vote of Security Holders............................................ 26 Item 5. Other Information.................................. 26 Item 6. Exhibits........................................... 26 SIGNATURES.............................................................. 27 2 ITEM 1. FINANCIAL STATEMENTS WESTERN POWER & EQUIPMENT CORP. & SUBSIDIARY CONDENSED CONSOLIDATED BALANCE SHEETS (Dollars in thousands)
April 30, July 31, 2007 2006 ---------- ---------- (Unaudited) ASSETS ------ Current assets: Cash and cash equivalents ...................................................... $ 632 $ 1,072 Accounts receivable, less allowance for doubtful accounts of $ 933 and $ 864 .................................................. 5,876 9,078 Inventories - net .............................................................. 36,252 42,483 Deferred tax asset ............................................................. 622 669 Prepaid expenses ............................................................... 205 141 ---------- ---------- Total current assets .................................................... 43,587 53,443 ---------- ---------- Fixed assets: Property, plant and equipment (net) ............................................ 5,850 5,230 Rental equipment fleet (net) ................................................... 5,787 3,423 ---------- ---------- Total fixed assets ...................................................... 11,637 8,653 ---------- ---------- Other assets Security Deposits .............................................................. 441 379 Deferred taxes ................................................................. -- 831 Deferred debt issuance costs ................................................... 865 1,297 ---------- ---------- Total other assets ......................................................... 1,306 2,507 ---------- ---------- Total assets ........................................................................ $ 56,530 $ 64,603 LIABILITIES & STOCKHOLDERS' EQUITY ---------------------------------- Current liabilities: Borrowings under floor plan financing .......................................... $ 23,362 22,627 Convertible debt, net of discount of $ 1,905 and $ 1,046 ....................... 18,759 6,176 Notes payable-related parties, net of discount of $ 13 and $ 28 ................ 287 472 Notes payable .................................................................. 753 629 Accounts payable ............................................................... 11,101 9,937 Accrued payroll and vacation ................................................... 1,166 1,404 Other accrued liabilities ...................................................... 2,195 1,567 Capital lease obligation ....................................................... 63 56 ---------- ---------- Total current liabilities .................................................. 57,686 42,868 ---------- ---------- Long-term liabilities Notes Payable .................................................................. 1,428 1,573 Convertible debt, net of discount of $ 0 and $ 1,951 ........................... -- 14,047 Deferred lease income .......................................................... 214 236 Capital lease obligation ....................................................... 718 755 ---------- ---------- Total long-term liabilities ................................................... 2,360 16,611 ---------- ---------- Total liabilities ................................................................... 60,046 59,479 ---------- ---------- Stockholders' equity: Preferred stock-10,000,000 shares authorized; none issued and outstanding .................................................. -- -- Common stock-$.001 par value; 50,000,000 shares authorized; 11,360,300 and 11,860,300 issued and 11,230,000 and 11,730,000 outstanding as of April 30, 2007 and July 31, 2006, respectively ............. 11 12 Additional paid-in capital ..................................................... 23,432 24,072 Deferred compensation .......................................................... -- (642) Accumulated deficit ............................................................ (26,115) (17,474) Less common stock in treasury, at cost (130,300 shares) ............................................................. (844) (844) ---------- ---------- Total stockholders' equity (deficiency) .................................... (3,516) 5,124 ---------- ---------- Total liabilities and stockholders' equity .......................................... $ 56,530 $ 64,603 ========== ==========
The accompanying notes are an integral part of these condensed consolidated financial statements. 3 WESTERN POWER & EQUIPMENT CORP. & SUBSIDIARY CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) (Dollars in thousands, except per share amounts)
Three Months Ended April 30, 2007 2006 ---------- ---------- Net revenues ........................................................................ $ 28,944 $ 29,877 Cost of revenues (includes depreciation of $839 and $826, respectively) ..................................................... 27,711 27,005 ---------- ---------- Gross profit ........................................................................ 1,233 2,872 Selling, general and administrative expenses ........................................ 2,684 2,779 ---------- ---------- Operating (loss) income ............................................................. (1,451) 93 Other expense: Interest expense ............................................................... (1,757) (1,352) Gain on settlement of penalty .................................................. 1,967 -- Other expense .................................................................. 113 (87) ---------- ---------- Loss before income tax provision .................................................... (1,128) (1,346) Income tax provision ................................................................ 892 18 ---------- ---------- Loss from continuing operations ..................................................... (2,020) (1,364) Income (loss) from discontinued operations .......................................... -- (76) Gain on disposal of discontinued operations ......................................... -- 251 ---------- ---------- Total income from discontinued operations ........................................... -- 175 ---------- ---------- Net loss ............................................................................ $ (2,020) $ (1,189) ========== ========== Basic and diluted loss per common share Continuing operations .......................................................... $ (0.18) $ (0.12) ---------- ---------- Discontinued operations ........................................................ -- -- Gain on disposal of discontinued operations .................................... -- 0.01 ---------- ---------- Earnings per share of discontinued operations .................................. -- 0.01 ---------- ---------- Net loss per share ............................................................. $ (0.18) $ (0.11) ========== ========== Weighted average outstanding common shares for basic and diluted net loss per common share ............................................. 11,230 10,970 ========== ==========
The accompanying notes are an integral part of these condensed consolidated financial statements. 4 WESTERN POWER & EQUIPMENT CORP. & SUBSIDIARY CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) (Dollars in thousands, except per share amounts)
Nine Months Ended April 30, 2007 2006 ---------- ---------- Net revenues ........................................................................ $ 87,261 $ 90,796 Cost of revenues (includes depreciation of $3,477 and $3,614, respectively) ................................................. 80,686 80,929 ---------- ---------- Gross profit ........................................................................ 6,575 9,867 Selling, general and administrative expenses ........................................ 8,095 8,259 ---------- ---------- Operating (loss) income ............................................................ (1,520) 1,608 Other expense: Interest expense ............................................................... (4,302) (4,283) Convertible debt penalty (net) ................................................. (1,933) -- Other expense .................................................................. 132 (55) ---------- ---------- Loss before income tax provision .................................................... (7,623) (2,730) Income tax provision ................................................................ 924 52 ---------- ---------- Loss from continuing operations ..................................................... (8,547) (2,782) Income (loss) from discontinued operations .......................................... (94) 375 Gain on disposal of discontinued operations ......................................... -- 251 ---------- ---------- Total income (loss) from discontinued operations .................................... (94) 626 ---------- ---------- Net loss ............................................................................ $ (8,641) $ (2,156) ========== ========== Basic and diluted loss per common share Continuing operations .......................................................... $ (0.76) $ (0.27) ---------- ---------- Discontinued operations ........................................................ (0.01) 0.04 Gain on disposal of discontinued operations .................................... 0.00 0.02 ---------- ---------- Earnings per share of discontinued operations .................................. (0.01) 0.06 ---------- ---------- Net loss per share ............................................................. $ (0.77) $ (0.21) ========== ========== Weighted average outstanding common shares for basic and diluted net loss per common share .............................................. 11,230 10,438 ========== ==========
The accompanying notes are an integral part of these condensed consolidated financial statements. 5 WESTERN POWER & EQUIPMENT CORP. & SUBSIDIARY CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (Dollars in thousands)
Nine Months Ended April 30, 2007 2006 ---------- ---------- Cash flows from operating activities: Net loss ....................................................................... $ (8,641) $ (2,156) Adjustments to reconcile net loss from operations to net cash provided by operating activities: Depreciation ................................................................... 3,979 4,258 Bad debts ...................................................................... 117 77 Amortization of debt discount .................................................. 1,106 787 Gain on sale of fixed assets and rental equipment .............................. (257) (624) Deferred income taxes .......................................................... 878 -- Amortization of debt issuance costs ............................................ 432 341 Convertible debt penalty (net) ................................................. 1,933 -- Stock based compensation ....................................................... -- 18 Changes in assets and liabilities: Accounts receivable ........................................................ 3,084 2,225 Inventories ................................................................ 88 6,475 Prepaid expenses and other assets .......................................... (126) 286 Accounts payable and accrued expenses ...................................... 1,193 (1,225) Accrued payroll and vacation ............................................... (237) 61 Other accrued liabilities .................................................. 597 195 Deferred lease income ...................................................... (21) (22) ---------- ---------- Net cash provided by operating activities ........................................... 4,125 10,696 ---------- ---------- Cash flows from investing activities: Purchase of property, plant and equipment ...................................... (961) (1,629) Purchases of rental equipment .................................................. (2,184) -- Proceeds on sale of fixed assets ............................................... 86 37 Proceeds on sale of rental equipment ........................................... 2,497 2,668 ---------- ---------- Net cash (used in) provided by investing activities ................................. (562) 1,076 ---------- ---------- Cash flows from financing activities: Principal payments on capital leases ........................................... (29) (30) Payments on short-term borrowings .............................................. (341) -- Issuance of common stock ....................................................... -- 1,710 Short-term debt borrowings ..................................................... 141 -- Inventory floor plan financing ................................................. 737 (8,112) Bridge loan payments ........................................................... -- (1,333) Long term debt borrowings ...................................................... 736 1,896 Long term debt payments ........................................................ (758) (415) Payments on convertible debt ................................................... (4,489) (5,669) ---------- ---------- Net cash used in financing activities ............................................... (4,003) (11,953) ---------- ---------- Decrease in cash and cash equivalents ............................................... (440) (181) Cash and cash equivalents at beginning of period .................................... 1,072 855 ---------- ---------- Cash and cash equivalents at end of period .......................................... $ 632 $ 674 ========== ========== Supplemental disclosures: Interest paid ....................................................................... $ 2,285 $ 3,136 Income taxes paid ................................................................... -- -- In connection with consulting service agreements entered into in June 2005, warrants were issued in lieu of cash payment ........................................ $ 69 Return of common stock pursuant to cancellation of consulting agreement ............. $ 642 --
The accompanying notes are an integral part of these condensed consolidated financial statements. 6 WESTERN POWER & EQUIPMENT CORP. & SUBSIDIARY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 1. BASIS OF PRESENTATION The accompanying condensed consolidated financial statements include the accounts of Western Power & Equipment Corp and its wholly owned subsidiary, Arizona Pacific Materials, LLC, collectively ("The Company"). All intercompany transactions have been eliminated. The accompanying condensed consolidated financial statements are unaudited and in the opinion of management contain all the adjustments (consisting of those of a normal recurring nature) considered necessary to present fairly the condensed consolidated balance sheet and the condensed consolidated results of operations and cash flows for the periods presented in conformity with accounting principles generally accepted in the United States of America applicable to interim periods. The results of operations for the three and nine month periods ended April 30, 2007 are not necessarily indicative of results that may be expected for any other interim periods or for the full year. This report should be read in conjunction with our consolidated financial statements included in the Annual Report on Form 10-K for the fiscal year ended July 31, 2006 filed with the Securities and Exchange Commission. The accounting policies used in preparing these unaudited condensed consolidated financial statements are consistent with those described in the July 31, 2006 consolidated financial statements. Cost of revenues includes the cost of products sold; the cost of services provided in connection with product support; depreciation related to the rental equipment; in-bound freight expenses; inventory reserves for obsolescence; and certain allocated general and administrative expenses directly related to the generation of revenues. Selling, general and administrative expenses include payroll and benefit costs; occupancy costs; depreciation of property, plant and equipment; outside service fees; and other costs. Interest expense includes the interest related to all debt instruments, the amortization of debt discount related to warrants and the amortization of capitalized debt issuance costs in association with convertible debt issued in June of 2005. See Note 7 for additional information. Certain amounts in the fiscal year 2006 financial statements have been reclassified to conform with the fiscal year 2007 presentation. These reclassifications had no impact on net income or cash flows as previously reported other than to separately report discontinued operations. Liquidity The Company has incurred a net loss from continuing operations of $ 8,547 for the nine-month period ended April 30, 2007 compared to a loss of $ 2,782 for the comparable period in 2006. During the 2007 period, the Company experienced a slightly weaker market and changes in product mix both of which contributed to lower sales and weaker margins. The Company generated cash flows from operations of $4,125 for the nine-month period ended April 30, 2007 as compared to $ 10,696 for the 2006 comparative period. A significant amount of resources continue to be used to fund losses of the mining operations as well as to make the required payments associated with the convertible debt. The loss for the nine-month period ending April 30, 2007 also includes a charge for a late payment penalty of $3,866, regarding a technical default of the convertible debt, as prescribed under the convertible debt agreement (20% of the convertible debt balance on the date of the default). The Company has negotiated an agreement with the convertible debt holders to have 50% of the penalty paid in cash and the remaining 50% of the penalty satisfied by the transfer of a 10% ownership interest in our subsidiary, Arizona Pacific Materials, LLC, which resulted in a gain of $1,933 and a net penalty of $1,933. With the technical default, the convertible debt became due immediately. The Company negotiated and signed an agreement that revised the due date to December 31, 2007. The convertible debt holders are also requiring several additional large principal payments prior to December 31, 2007. Management is currently in discussions to refinance the debt but there is no assurance it will succeed in these refinancing efforts. If management is not successful in obtaining alternative financing, the Company may have to sell off certain assets or the Company's operations may not be able to continue. The previously described conditions raise substantial doubt about the Company's ability to continue as a going concern. 7 2. ACCOUNTING POLICIES AND NEW ACCOUNTING PRONOUNCEMENTS The Company's accounting policies are set forth in Note 1 to the consolidated financial statements as filed in Form 10-K for the year ended July 31, 2006. In March 2006, the FASB issued SFAS No. 156, "Accounting for Servicing of Financial Assets" ("SFAS 156"), which amends SFAS 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities," with respect to the accounting for separately recognized servicing assets and servicing liabilities. SFAS 156 permits the choice of the amortization method or the fair value measurement method, with changes in fair value recorded in income, for the subsequent measurement for each class of separately recognized servicing assets and servicing liabilities. The statement is effective for years beginning after September 15, 2006, with earlier adoption permitted. The Company does not expect SFAS 156 to have a material impact on the Company's consolidated financial position or results of operations. In July 2006, the Financial Accounting Standards Board (FASB) released FASB Interpretation No. 48, "Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109" (FIN 48). FIN 48 clarifies the accounting and reporting for uncertainties in income tax law. FIN 48 prescribes a comprehensive model for the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to be taken in income tax returns. FIN 48 shall be effective for fiscal years beginning after December 15, 2006. Earlier adoption is permitted as of the beginning of an enterprise's fiscal year, provided the enterprise has not yet issued financial statements, including financial statements for any interim period for that fiscal year. The cumulative effects, if any, of applying FIN 48 will be recorded as an adjustment to retained earnings as of the beginning of the period of adoption. The Company does not expect FIN 48 to have a material impact on the Company's consolidated financial position or results of operations. In September 2006, the FASB issued SFAS No. 157, "Accounting for Fair Value Measurements". SFAS No. 157 defines fair value, and establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosure about fair value measurements. SFAS No. 157 is effective for the Company for financial statements issued subsequent to November 15, 2007. The adoption of this pronouncement is not expected to have any material impact on the Company's consolidated financial position and results of operations. In September 2006, the FASB issued SFAS No. 158, "Employees' Accounting for Defined Benefit Pension and Other Postretirement Plans" (SFAS 158"). SFAS 158 requires an employer to recognize the over-funded status of a defined benefit postretirement plan (other than a multiemployer plan) as an asset or liability in its statement of financial position and to recognize changes in that funded status in the year in which the changes occur through comprehensive income of a business entity or changes in unrestricted net assets of a not-for-profit organization. SFAS 158 also requires an employer to measure the funded status of a plan as of the date of its year-end statement of financial position, with limited exceptions. SFAS 158 is effective for the Company for financial statements issued subsequent to December 15, 2006. The adoption of this pronouncement did not have a material impact on the Company's consolidated financial position, results of operations or cash flows. In September 2006, the staff of the Securities and Exchange Commission issued Staff Accounting Bulletin No. 108 ("SAB 108"), which provides interpretive guidance on how the effects of the carryover or reversal of prior year misstatements should be considered in quantifying a current year misstatement. SAB 108 becomes effective for the first fiscal year ending after November 15, 2006. The adoption of SAB 108 is not expected to have a material impact on the Company's consolidated financial position, results of operations or cash flows. In December 2006, the FASB approved FASB Staff Position (FSP) No. EITF 00-19-2, "Accounting for Registration Payment Arrangements" ("FSP EITF 00-19-2"), which specifies that the contingent obligation to make future payments or otherwise transfer consideration under a registration payment arrangement, whether issued as a separate agreement or included as a provision of a financial instrument or other agreement, should be separately recognized and measured in accordance with SFAS No. 5, "Accounting for Contingencies". FSP EITF 00-19-2 also requires additional disclosure regarding the nature of any registration payment arrangements, alternative settlement methods, the maximum potential amount of consideration and the current carrying amount of the liability, if any. The guidance in FSP EITF 00-19-2 amends FASB Statements No. 133, "Accounting for Derivative Instruments and Hedging Activities", and No. 150, "Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity", and FASB Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others", to include scope exceptions for registration payment arrangements. 8 FSP EITF 00-19-2 is effective immediately for registration payment arrangements and the financial instruments subject to those arrangements that are entered into or modified subsequent to the issuance date (December 21, 2006) of this FSP, or for financial statements issued for fiscal years beginning after December 15, 2006, and interim periods within those fiscal years, for registration payment arrangements entered into prior to the issuance date of this FSP. The adoption of this pronouncement is not expected to have an impact on the Company's consolidated financial position, results of operations or cash flows. In February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for Financial Assets and Financial Liabilities" ("SFAS 159"). SFAS 159 provides companies with an option to report selected financial assets and liabilities at fair value. The objective of SFAS 159 is to reduce both complexity in accounting for financial instruments and the volatility in earnings caused by measuring related assets and liabilities differently. Generally accepted accounting principles have required different measurement attributes for different assets and liabilities that can create artificial volatility in earnings. The FASB has indicated it believes that SFAS 159 helps to mitigate this type of accounting-induced volatility by enabling companies to report related assets and liabilities at fair value, which would likely reduce the need for companies to comply with detailed rules for hedge accounting. SFAS 159 also establishes presentation and disclosure requirements designed to facilitate comparisons between companies that choose different measurement attributes for similar types of assets and liabilities. SFAS 159 does not eliminate disclosure requirements included in other accounting standards, including requirements for disclosures about fair value measurements included in SFAS 157 and SFAS No. 107, "Disclosures about Fair Value of Financial Instruments." SFAS 159 is effective for the Company as of the beginning of fiscal year 2009. The Company has not yet determined the impact SFAS 159 may have on its consolidated financial position, results of operations, or cash flows. 3. EARNINGS OR LOSS PER SHARE Basic net income or loss per share of common stock is computed based on the weighted average number of common shares outstanding during the period. The Company computes earnings per share in accordance with SFAS No. 128, "Earnings Per Share." SFAS No. 128 requires dual presentation of basic and diluted earnings per share. Basic loss per common share is computed by dividing net loss by the weighted average number of common shares outstanding during the period. Diluted loss per common share is computed by dividing net loss by the weighted average number of common shares outstanding, plus the issuance of common shares, if dilutive, resulting from the exercise of outstanding stock options, warrants and convertible debt. These potentially dilutive securities were not included in the calculation of loss per common share for the three and nine months ended April 30, 2007 and 2006 because the Company incurred a loss during such periods and thus their inclusion would have been anti-dilutive. Accordingly, basic and diluted loss per common share are the same for all periods presented. Potentially dilutive securities consisted of outstanding stock options, warrants and convertible debt to acquire 24,233,386 shares as of April 30, 2007. As of April 30, 2006, potentially dilutive securities consisted of outstanding stock options and warrants to acquire 27,553,386 shares. 4. STOCK BASED COMPENSATION In December 2004, the Financial Accounting Standards Board ("FASB") issued SFAS No. 123 (revised 2004), "Share-Based Payment", SFAS 123R. SFAS 123R requires the compensation cost relating to stock-based payment transactions to be recognized in financial statements. That cost will be measured based on the fair value of the equity or liability instruments issued on the grant date of such instruments, and will be recognized over the period during which an individual is required to provide service in exchange for the award (typically the vesting period). SFAS 123R covers a wide range of stock-based compensation arrangements including stock options, restricted stock plans, performance-based awards, stock appreciation rights, and employee stock purchase plans. SFAS 123R replaces SFAS 123 and supersedes APB Opinion 25. The Company has adopted SFAS 123R as of August 1, 2005. As of July 31, 2006 and April 30, 2007, all options were fully vested and during the year ended July 31, 2006 and the nine months ended April 30, 2007, the Company did not grant any options to employees to purchase common stock. Accordingly, no additional compensation charge was recorded and therefore there was no impact on the consolidated financial statements. 9 5. INVENTORIES Inventories consist of the following (`000's): April 30, July 31, 2007 2006 ------- ------- Equipment (net of reserves of $3,441 and $3,429, respectively): New $27,750 $30,939 Used 3,339 4,724 Mining products 674 825 Parts (net of reserves of $855 and $734, respectively) 4,489 5,995 ------- ------- $36,252 $42,483 ======= ======= Mining products is comprised substantially of processed cinder aggregate in a finished state ready for resale. Inventory costs of the mining products are comprised of direct costs of production and overhead charges including mining and other plant administrative expenses. Inventory of mining products is valued at the lower of cost or market, with cost stated on a last-in, first-out (LIFO) basis. Mining product reserves for obsolescence or slow moving inventory are recorded when such conditions are identified. As of April 30, 2007, the LIFO reserve was $ 132 and as of July 31, 2006 the LIFO reserve was $ 371. 6. FIXED ASSETS Fixed assets consist of the following (`000's): April 30, July 31, 2007 2006 ------- ------- Operating property, plant and equipment: Land $ 1,277 $ 1,277 Buildings 1,205 1,152 Machinery and equipment 5,888 4,751 Office furniture and fixtures 1,767 1,779 Computer hardware and software 1,069 1,068 Vehicles 1,369 1,399 Leasehold improvements 1,088 1,082 ------- ------- 13,663 12,508 Less: accumulated depreciation (7,813) (7,278) ------- ------- Property, plant, and equipment (net) $ 5,850 $ 5,230 ======= ======= Rental equipment fleet $ 6,853 $ 4,757 Less: accumulated depreciation (1,066) (1,334) ------- ------- Rental equipment (net) $ 5,787 $ 3,423 ======= ======= Depreciation and amortization on the property, plant, and equipment are computed using the straight-line method over the estimated useful lives of the assets, ranging from 5 to 20 years. Depreciation on the rental fleet is calculated using the straight-line method over the estimated useful lives, ranging from 3 to 7 years after considering salvage values. As of April 30, 2007 and July 31, 2006, fixed assets (net) includes property under capital leases in the amount of $ 420 and $ 456, respectively. 7. DEBT OBLIGATIONS Floor Planning -------------- The Company has inventory floor plan financing arrangements with Case Credit Corporation, an affiliate of Case (for Case inventory) and with other finance companies and equipment manufacturers. The terms of these agreements generally include a one-month to twelve-month interest free term followed by a term during which interest is charged. Principal payments are generally due at the earlier of sale of the equipment or twelve to forty-eight months 10 from the invoice date. The maximum amount of the credit facility is $ 24.5 million and the interest rate is prime plus 2% (currently 10.25%). All floor plan debt is classified as current since the inventory to which it relates is generally sold within twelve months of the invoice date. Convertible Debt In June 2005, the Company closed a new $ 30 million convertible debt facility (convertible into common shares of the Company at $ 2.00 per share) payable over the next five years, with a variable interest rate of LIBOR plus 6%. The Company allocated the proceeds to the debt and the warrants in accordance with EITF 98-5 and EITF 00-27. The lenders were also granted warrants to purchase approximately 8.1 million common shares of the Company at $ 1.75 per share. The value of these warrants is $ 2,920 and was recorded as debt discount to be amortized over the life of the related debt. The lenders also had the right to lend an additional $ 7.5 million to the Company (within 18 months of the date of the original debt, which has expired as of 01/31/07) under the same terms as the existing five year convertible debt with warrants to purchase 1,312,500 shares of common stock to be issued with this additional debt. The value of these rights is $ 441 and was also recorded a debt discount to be amortized over 18 months. In March 2006, the convertible debt agreement was modified whereby the conversion price was reduced from $ 2.00 per share to $ 1.75 per share related to certain conditions associated with selling the Company's Spokane and Clarkston locations. The value of this conversion price change was calculated to be $ 680 (based on a Black-Scholes model determined by an independent appraiser) and was recorded as debt discount to be amortized over the remaining life of the related debt. In connection with the convertible debt and the bridge loan (see below), the Company paid a $ 1,600 finders fee and 300,000 warrants to purchase common shares were issued, valued at $ 70. The finders fee and the warrants are recorded as debt issuance costs and are being amortized over the life of the related convertible debt. The convertible debt agreement contains a provision whereby the holders of such debt obligations (after 36 months from the original issue date) may require the Company to redeem up to 50% of the outstanding principal balance of the debenture. The financial instruments discussed above were accounted for in accordance with EITF 98-5 and EITF 00-27, "Application of Issue No. 98-5 ("Accounting for Convertible Securities with Beneficial Conversion Features or Contingently Adjustable Conversion Ratios") to Certain Convertible Instruments". The Company also considered EITF Issue No. 05-4 "The Effect of a Liquidated Damages Clause on a Freestanding Financial Instrument Subject to EITF Issue No. 00-19, `Accounting for Derivative Financial Instruments Indexed to, and Potentially Settled in, a Company's Own Stock" ("EITF No. 05-4") which addresses financial instruments, such as stock purchase warrants, that are accounted for under EITF 00-19 that may be issued at the same time and in contemplation of a registration rights agreement that includes a liquidated damages clause. In June 2005, the Company entered into a private placement agreement for convertible debentures, a registration rights agreement and warrants in connection with the private placement (see Note 7). Based on the interpretive guidance in EITF Issue No. 05-4, since the registration rights agreement includes provisions for liquidated damages, the Company determined that the registration rights is a derivative liability and accounted for such liability under View C of this guidance. However due to the registration statement becoming effective in January 2006 and other relevant factors, the value of the registration rights was deemed to be de minimus and therefore no liability was recorded in the consolidated financial statements. The Company began making monthly principal payments in December 2005. The balance of the unpaid principal on the convertible notes (net of discount) as of April 30, 2007 is $18,759 (net of discount of $ 1,905), all of which is short term. The amounts amortized to interest expense during the nine months ended April 30, 2007 and April 30, 2006 were $ 1,092 and $ 787, respectively. Western used $23.0 million of the loan proceeds to repay and terminate its credit facility and forbearance agreement with GE Commercial Distribution Finance Corporation and $2.5 million to pay off the purchase note of Arizona Pacific Materials. In January 2007 the Company was in technical default of the convertible debt agreement because of a late payment, which, under the terms of the agreement, would result in a penalty of 20% of the loan balance at the time of the default. The Company has recorded an expense of $3,866 in the second quarter of 2007 for this penalty. The Company has negotiated an agreement with the convertible debt holders to have 50% of the penalty paid in cash and the remaining 50% of the penalty satisfied by a transfer of a 10% ownership interest in the 11 Company's subsidiary, Arizona Pacific Materials, LLC in lieu of a cash settlement. This resulted in a gain of $ 1,967 and a net penalty of $1,933. The carrying amount of the subsidiary's common stock sold was removed from the parent company's investment in subsidiary's common stock account and the difference between the carrying amount and current value of the consideration is recorded as a gain. With the technical default, the convertible debt becomes due immediately due. The Company has negotiated a revised due date of December 31, 2007. The convertible debt holders are also requiring several additional large principal payments prior to December 31, 2007. Management is currently in discussions to refinance the debt but there is no assurance it will succeed in these refinancing efforts. If management is not successful in obtaining alternative financing, the Company may have to sell off certain assets and the business may suffer. Notes Payable ------------- Notes payable consists of the following: (000's) April 30, July 31, Description 2007 2006 ------- ------- Note Payable to Investor dated March 30, 2001 due on demand and non-interest bearing 50 50 Note payable to West Coast Bank dated March 15, 2005 in the amount of $795, due in monthly installments of $16 beginning May 15, 2005, expiring April 2010 including interest at 6.50% per annum secured by specific equipment in inventory 510 621 Note payable to CIT Financial dated beginning August 15, 2005 in the amount of $2,632, due in monthly installments of $45 beginning December 2005, expiring November 2010, including interest ranging from 8.25% to 9.5% per annum secured by specific equipment in inventory 1,595 1,495 Notes payable to GMAC dated November 15, 2003 in the amount of $66 with payments of $1 per month including interest at 7.2% per annum, expiring January 2009 26 36 ------- ------- Total $ 2,181 $ 2,202 Less current portion (753) (629) ------- ------- Total Long-Term Notes Payable $ 1,428 $ 1,573 ======= ======= Future minimum payments under these noncancelable notes payable as of April 30, 2007, are as follows: Notes Convertible Twelve months ending April 30, Payable Debt Total -------------------------------------- -------- ----------- --------- 2008 $ 753 $20,664 $21,417 2009 704 -- 704 2010 593 -- 593 2011 75 -- 75 2012 32 -- 32 Thereafter 24 -- 24 ------ ------- ------- Total annual payments 2,181 20,664 22,845 Less debt discount -- (1,905) (1,905) ------ ------- ------- Minimum payments (net of discount) 2,181 18,759 20,940 Less current portion (753) (18,759) (19,512) ------ ------- ------- Long-term portion $1,428 $ -- $ 1,428 ====== ======= ======= 12 8. COMMITMENTS AND CONTINGENCIES Leases ------ The Company leases certain facilities under noncancelable lease agreements. Certain of the Company's building leases have been accounted for as capital leases. Other facility lease agreements have terms ranging from month-to-month to nine years and are accounted for as operating leases. Certain of the facility lease agreements provide for options to renew and generally require the Company to pay property taxes, insurance, and maintenance and repair costs. Total rent expense under all operating leases aggregated $ 1,324 and $ 1,001 for the nine months ended April 30, 2007 and 2006, respectively. Future minimum lease payments under all noncancelable leases as of April 30, 2007, are as follows (`000's): Capital Operating Twelve months ending April 30, leases leases 2008 135 1,431 2009 135 1,290 2010 135 1,171 2011 135 882 2012 135 483 Thereafter 473 1,418 ------- ------- Total annual lease payments $ 1,148 $ 6,675 Less amount representing interest at a rate of 6.5% (367) ------- Present value of minimum lease payments 781 Less current portion (63) ------- Long-term portion $ 718 ======= Purchase Commitments The Company issued purchase orders to Case Corporation for equipment purchases. Upon acceptance by Case, these purchases become noncancelable by the Company. As of April 30, 2007, such purchase commitments totaled $ 9,968. Litigation Incident to the Company's business activities, it may at times be a party to legal proceedings, lawsuits and claims. Such matters are subject to uncertainties whose outcomes are not predictable with assurance. Management believes, at this time, there are no ongoing matters which will have a material adverse effect on the Company's consolidated financial statements. 9. PRODUCT INFORMATION Revenue and gross profit from continuing operations by product categories are summarized as follows (`000's): Business product category Three Months Ended Nine Months Ended Net Revenues April 30, April 30, 2007 2006 2007 2006 ------- ------- ------- ------- Equipment Sales $20,031 $21,998 $60,603 $65,041 Equipment Rental 1,722 1,099 4,795 5,625 Mining Sales 563 422 1,863 1,020 Product Support 6,628 6,358 20,000 19,110 ------- ------- ------- ------- Total $28,944 $29,877 $87,261 $90,796 ======= ======= ======= ======= 13 Business product category Three Months Ended Nine Months Ended Gross Profit April 30, April 30 2007 2006 2007 2006 ------- ------- ------- ------- Equipment Sales $ (522) $ 1,455 $ 1,708 $ 4,446 Equipment Rental 123 225 703 1,439 Mining Sales 55 (15) (273) 179 Product Support 1,577 1,207 4,437 3,803 ------- ------- ------- ------- Total $ 1,233 $ 2,872 $ 6,575 $ 9,867 ======= ======= ======= ======= 10. SEGMENT INFORMATION Summarized financial information concerning the Company's reportable segments is shown in the following tables (`000's).
Western Power & Arizona Pacific Equipment Corp Materials, LLC Total For the Three Months Ended April 30, 2007 Net revenues $ 28,381 $ 563 $ 28,944 ======== ======== ======== Loss from continuing operations $ (1,351) $ (669) $ (2,020) ======== ======== ======== Net loss $ (1,351) $ (669) $ (2,020) ======== ======== ======== Capital expenditures $ 1,772 $ 116 $ 1,888 ======== ======== ======== For the Three Months Ended April 30, 2006 Net revenues $ 29,422 $ 455 $ 29,877 ======== ======== ======== Operating loss from continuing operations $ (902) $ (462) $ (1,364) ======== ======== ======== Net loss $ (578) $ (611) $ (1,189) ======== ======== ======== Capital expenditures $ 27 $ 73 $ 100 ======== ======== ======== For the Nine Months Ended April 30, 2007 Net revenues $ 85,352 $ 1,909 $ 87,261 ======== ======== ======== Loss from continuing operations $ (6,194) $ (2,353) $ (8,547) ======== ======== ======== Net loss $ (6,288) $ (2,353) $ (8,641) ======== ======== ======== Capital expenditures $ 2,324 $ 821 $ 3,145 ======== ======== ======== Total identifiable assets at April 30, 2007 $ 50,617 $ 5,913 $ 56,530 ======== ======== ======== For the Nine Months Ended April 30, 2006 Net revenues $ 89,603 $ 1,193 $ 90,796 ======== ======== ======== Operating loss from continuing operations $ (1,330) $ (1,452) $ (2,782) ======== ======== ======== Net loss $ (719) $ (1,437) $ (2,156) ======== ======== ======== Capital expenditures $ 1,196 $ 433 $ 1,629 ======== ======== ======== Total identifiable assets at April 30, 2006 $ 52,082 $ 5,329 $ 57,411 ======== ======== ========
11. CONCENTRATION OF CREDIT RISK Approximately 49% and 52% of the Company's net sales for the nine month periods ended April 30, 2007 and April 30, 2006, respectively, resulted from sales, rental, and servicing of products manufactured by Case. 14 12. DISCONTINUED OPERATIONS The accompanying financial statements for all periods presented have been presented to reflect the accounting of discontinued operations for certain branch locations sold or closed in fiscal year 2006 and the nine-month period ending April 30, 2007. The Company classifies closed or sold branch locations in discontinued operations when the operations and cash flows of the location have been eliminated from ongoing operations and when the Company will not have any significant continuing involvement in the operation of the branch after disposal. For purposes of reporting the operations of branch locations meeting the criteria of discontinued operations, the Company reports net revenue, gross profit and related selling, general and administrative expenses that are specifically identifiable to those branch locations as discontinued operations. Assets to be sold shall be classified as held for sale in the period in which all of the criteria as outlined in SFAS No. 144 `Accounting for the Impairment or Disposal of Long Lived Assets" have been met. In accordance with these provisions, management must have committed to a definitive plan of disposal and the sale must be deemed probable to occur. The Company sold its Spokane and Clarkston, Washington locations in March 2006 for a total sales price of $ 2,871. Included in the sale was inventory with a cost of $ 2,455. The Company also sold fixed assets with an original cost of $ 662 (net book value of $ 150) resulting in a gain of $ 251. In November 2006, the Company closed its Flagstaff, Arizona location, a location of its subsidiary, APM and transferred the fixed assets to its Phoenix, Arizona mining facility. The following table presents selected financial data for the discontinued operations of the Company's business (in thousands of dollars):
------------------------------------------------------------------------------------------------------------------------------------ Three Months Ended Three Months Ended Nine Months Ended Nine Months Ended April 30, 2007 April 30, 2006 April 30, 2007 April 30, 2006 ------------------------------------------------- -------------------- -------------------- --------------------------------------- Revenue from discontinued operations $ -- $ 2,947 $ 46 $ 8,525 ------------------------------------------------- -------------------- -------------------- ------------------- ------------------- Gross Profit (loss) from discontinued operations $ -- $ (20) $ (41) $ 710 ------------------------------------------------- -------------------- -------------------- ------------------- ------------------- SG & A from discontinued operations $ -- $ 56 $ 53 $ 335 ------------------------------------------------- -------------------- -------------------- ------------------- ------------------- Income (loss) from discontinued operations $ -- $ (76) $ (94) $ 375 ------------------------------------------------- -------------------- -------------------- ------------------- ------------------- Gain on disposal $ -- $ 251 $ -- $ 251 ------------------------------------------------------------------------------------------------------------------------------------
13. EQUITY TRANSACTIONS In June 2006, the Company issued 500,000 restricted common shares in connection with a consulting agreement. The fair value of the consulting services is $ 700 and was recorded as deferred compensation and was being amortized over the 12-month agreement period beginning in June of 2006. In September 2006, the agreement was cancelled and the shares of common stock were surrendered to the Company and the unamortized deferred compensation was reversed. The shares have been cancelled. 14. SUBSEQUENT EVENTS In May 2007, the Board of Directors approved the sale of the Company's Anchorage and Fairbanks, Alaska operations for $ 12 million. The carrying amount of such assets as of the date of the sale was $ 11.3 million consisting of equipment and parts inventories and fixed assets. The Company recorded a gain on the sale of $ 690. 15. INCOME TAXES The Company periodically evaluates the realization of its deferred tax assets. Accordingly, during the quarter ended April 30, 2007 the Company increased its valuation allowance related to such assets by $ 878 based on the expected future realization to such tax benefits. 15 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND LIQUIDITY AND CAPITAL RESOURCES Management's Discussion and Analysis of Results of Operations and Liquidity and Capital Resources (MD&A) is designed to provide a reader of the financial statements with a narrative on our financial condition, results of operations, liquidity, critical accounting policies and the future impact of accounting standards that have been issued but are not yet effective. Our MD&A is presented in six sections: Overview, Results of Operations, Liquidity and Capital Resources, Off-Balance Sheet Arrangements, New Accounting Pronouncements and General Economic Conditions. We believe it is useful to read our MD&A in conjunction with our Annual Report on Form 10-K for the fiscal year ended July 31, 2006. Amounts are stated in `thousands of dollars' unless otherwise stated. Section 27A of the Securities Act of 1933, as amended, and Section 21E if the Securities Act of 1934, as amended (Exchange Act), provide a "safe harbor" for forward-looking statements to encourage companies to provide prospective information about their companies. With the exception of historical information, the matters discussed in this Quarterly Report on Form 10-Q are forward-looking statements and may be identified by the use of words such as "believe", "expect", "anticipate", plan, "estimate", "intend" and "potential". The following discussion and analysis should be read in conjunction with the Condensed Consolidated Financial Statements and Notes thereto appearing elsewhere in this Form 10-Q. Information included herein relating to projected growth and future results and events constitutes forward-looking statements. Actual results in future periods may differ materially from the forward-looking statements due to a number of risks and uncertainties, including but not limited to fluctuations in the construction, agricultural, and industrial sectors; the success of our restructuring and cost reduction plans; the success of our equipment rental business; rental industry conditions and competitors; competitive pricing; our relationship with its suppliers; relations with our employees; our ability to manage its operating costs; the continued availability of financing; our ability to refinance/restructure our existing debt; governmental regulations and environmental matters; risks associated with regional, national, and world economies; and consummation of the merger and asset purchase transactions. Any forward-looking statements should be considered in light of these factors. OVERVIEW Western Power & Equipment Corp., a Delaware corporation, (the "Company", "us", "we" or "our"), is engaged in the sale, rental, and servicing of light, medium-sized, and heavy construction, agricultural, and industrial equipment, parts, and related products which are manufactured by Case Corporation ("Case") and certain other manufacturers and operates a mining company in Arizona. We believe, based upon the number of locations owned and operated, that we are one of the largest independent dealers of Case construction equipment in the United States. Products sold, rented, and serviced include backhoes, excavators, crawler dozers, skid steer loaders, forklifts, compactors, log loaders, trenchers, street sweepers, sewer vacuums, and mobile highway signs. We maintain two distinct segments which include Western Power & Equipment Corp., the equipment dealership and Arizona Pacific Materials, LLC, a mining operation. We operate out of facilities located in the states of Washington, Oregon, Nevada, California and Alaska for our equipment dealership. Our revenue sources are generated from equipment (new and used) sales, parts sales, equipment service and equipment rental. The equipment is distributed to contractors, governmental agencies, and other customers, primarily for use in the construction of residential and commercial buildings, roads, levees, dams, underground power projects, forestry projects, municipal construction and other projects. Certain matters discussed herein contain forward-looking statements that are subject to risks and uncertainties that could cause results to differ materially from those projected. Due to the seasonal nature of our business, interim results are not necessarily indicative of results for the entire year. Our revenue and earnings are typically greater in the first and fourth quarters of the year, which include early spring through late fall seasons. Our strategy had focused on acquiring additional existing distributorships and rental operations, opening new locations as market conditions warrant, and increasing sales at its existing locations. In such connection, we had sought to operate additional Case or other equipment retail distributorships, and sell, lease, and service additional lines of construction equipment and related products not manufactured by Case. For the past few years, we have 16 concentrated on consolidating or closing certain of our stores to improve operating efficiency and profitability. Arizona Pacific Materials, LLC, a wholly owned subsidiary purchased in September 2004, operates a surface mine producing cinder and basalt aggregate to supply material for block manufactures, concrete and asphalt suppliers and landscape contractors, in the Phoenix, Arizona building/construction market. In November 2006, we closed our Flagstaff location. The assets of the branch were transferred to our remaining mining location in Phoenix, Arizona. We have focused on developing the mining operation over the past year to primarily provide basalt in the Phoenix area housing development construction market. Over the past few years there has been significant increases in construction in the Phoenix area, especially in Pinal County, where the mining operation is located. Although the level of construction starts in the Phoenix area has slowed in the last year, the Company believes the area is still one of the top growth areas in the United States. Close proximity to the construction sites provides basalt and cinder to the contractors at a lower cost, as freight costs are minimized. Based upon a 2004 third party expert survey, our Phoenix location had approximately 39,000,000 tons of proven reserves and an additional 38,000,000 tons of indicated reserves of high grade basalt available to be processed to meet the future demands of the Phoenix market. RESULTS OF OPERATIONS Consolidated results The following table presents unaudited selected financial data for our consolidated business activities (in thousands of dollars):
------------------------------------------------------------------------------------------------------------------------------------ Consolidated - continuing Three Months Ended Three Months Ended Increase Nine Months Ended Nine Months Ended Increase operations (in 000's) April 30, 2007 April 30, 2006 (Decrease) April 30, 2007 April 30, 2006 (Decrease) -------------------------- -------------------- -------------------- ----------- ------------------- ------------------- ----------- Revenue $ 28,944 $ 29,877 $ (933) $ 87,261 $ 90,796 $ (3,535) -------------------------- -------------------- -------------------- ----------- ------------------- ------------------- ----------- Gross profit $ 1,233 $ 2,872 $ (1,639) $ 6,575 $ 9,867 $ (3,292) -------------------------- -------------------- -------------------- ----------- ------------------- ------------------- ----------- SG&A $ 2,684 $ 2,779 $ (95) $ 8,095 $ 8,259 $ (164) -------------------------- -------------------- -------------------- ----------- ------------------- ------------------- ----------- Operating income (loss) $ (1,451) $ 93 $ (1,544) $ (1,520) $ 1,608 $ (3,128) -------------------------- -------------------- -------------------- ----------- ------------------- ------------------- ----------- Loss from continuing operations $ (2,020) $ (1,364) $ (656) $ (8,547) $ (2,782) $ (5,765) -------------------------- -------------------- -------------------- ----------- ------------------- ------------------- ----------- -------------------------- -------------------- -------------------- ----------- ------------------- ------------------- ----------- EBITDA (1) $ 1,612 $ 1,139 $ 473 $ 570 $ 6,435 $ (5,865) ------------------------------------------------------------------------------------------------------------------------------------
(1) EBITDA (earnings before interest, taxes, depreciation and amortization) is calculated as net income(loss) (including discontinued operations) plus interest, taxes, depreciation and amortization. The Three and Nine Months ended April 30, 2007 compared to the Three and Nine ----------------------------------------------------------------------------- Months ended April 30, 2006. ---------------------------- REVENUES Revenues from continuing operations for the three-month period ended April 30, 2007 decreased by $ 933 or 3.1% over the comparative three-month period ended April 30, 2006. For the three-month period ended April 30, 2007 equipment sales and rentals decreased by $1,283 while product support and mining sales increased by $ 457. Sales in most of our locations have declined in the third quarter as compared to the prior year's third quarter. We still maintain our market share indicating a general decline in the overall economy impacting the construction equipment industry. Sales were strong in our Washington locations in the third quarter, increasing by $ 1,724 over the prior year's comparative quarter. Sales in our Sparks, Nevada location decreased by $ 1,041 compared to the prior year's third quarter as residential construction has diminished substantially over the past year. The Sparks location also had an unusually high level of sales in fiscal year 2006. Sales in our Alaska locations declined by $ 1,024 compared to the prior year third quarter. Subsequent to April 30, 2007, this branch was sold (see Subsequent Event Footnote # 14). Governmental sales, which can change dramatically based upon budget cycles, comprise a significant amount of the sales in our Alaska locations. Mining sales from our subsidiary in Phoenix, Arizona increased $ 141 or 33.5% over the prior year's comparative three-month period as a result of increased basalt production and sales of crushed aggregates for road, housing and related construction, specifically in the fast growing area southeast of Phoenix. Our subsidiary is also experiencing more demand for rip rap (larger sized rock used in support for topography stabilizing and ballast). 17 Revenues from continuing operations for the nine-month period ended April 30, 2007 decreased by $ 3,535 or 3.9% over the comparative nine-month period ended April 30, 2006. For the nine-month period ended April 30, 2007, equipment sales and rental decreased by $ 5,087 while product support and mining sales increased by $ 1,778. Although sales have declined, we are maintaining our market share which indicates a general decline in the construction equipment market. The decrease are in all our locations except Washington, which has increased by 1,421 over the prior year comparative nine-month period. Sales in our Sparks, Nevada location decreased by $3,052 compared to the prior year's nine-month period. Our Sparks location had an unusually high level of sales in fiscal year 2006 compounded by a significant decrease in residential housing construction during the current fiscal year. Sales in our Buena Park, California and Anchorage, Alaska locations decreased by $ 2,661 over the prior year's comparative nine-month period. The Buena Park location has a large sweeper market, primarily to city governments, and Anchorage maintains a significant sales relationship with the State of Alaska. These city and state governments are subject to budget cycles thus causing swings in sales levels. Mining sales from our subsidiary in Phoenix, Arizona increased $ 843 or 82.6% over the prior year's comparative nine-month period as a result of increased basalt production and sales of crushed aggregates for road, housing and related construction, specifically in the fast growing area southeast of Phoenix. One of our customers erected an asphalt plant at our mining location in Phoenix, Arizona during fiscal year 2006 and utilizes our basalt in their production process. Production in the asphalt plant has now reached full capacity. Our subsidiary is also experiencing more demand for rip rap, which is a larger sized rock used in support for hillsides. GROSS MARGIN The Company's gross profit margin of 4.2% for the three-month period ended April 30, 2007 was lower than the prior year's comparative period margin of 9.6%. During the quarter, the Company made several large, used equipment sales at sales prices below cost through auctions. These auction sales consisted of severely aged equipment that the Company is no longer the manufacturers' representative for and resulted in a loss of $ 1,510, primarily related to pavers. In addition, gross margin was adversely affected by the expenses related to the production growth and equipment investment in APM, our mining subsidiary. Production capacity has increased at the mining facility which we believe will assist in obtaining improved production costs of the products produced. We now have two processing plants, one for basalt and one for cinder, which enables us to process multiple products more efficiently. The Company's gross profit margin of 7.5% for the nine-month period ended April 30, 2007 was lower than the prior year's comparative period margin of 10.8%. During the quarter, the Company made several large, used equipment sales at sales prices below cost through auctions. These auction sales consisted of severely aged equipment that the Company is no longer the manufacturers' representative for and resulted in a loss of $ 1,510, primarily related to pavers. In addition, our sales mix changed from that of the prior year's nine-month period as loader backhoes, which typically maintain higher margins, represented the largest decline in sales, decreasing by $ 5,910 over the comparative nine-month period ended April 30, 2006. Both of these factors caused overall margins to decrease. In addition, margins were adversely affected by the production growth and equipment investment in APM, our mining subsidiary. Production capacity has been increased at the mining facility, which we believe will assist in obtaining improved production costs of the products produced. SELLING, GENERAL AND ADMINISTRATIVE EXPENSES For the three-month period ended April 30, 2007, selling, general, and administrative ("SG&A") expenses from continuing operations were only slightly lower by $ 95 compared to the prior year's comparative third quarter. The majority of these expenses, such as rent, depreciation and salaries, are fixed in nature and are not impacted by the level of sales. For the nine-month period ended April 30, 2007, selling, general, and administrative ("SG&A") expenses from continuing operations decreased $ 164 from the prior year's comparative nine-month period. The slight decrease in SG&A from the prior year's comparative period reflects the impact of the increased business activities and production levels at our mining subsidiary, APM., offset by decreases in corporate overhead expenses as we have sold several branches. INCOME FROM CONTINUING OPERATIONS Loss from continuing operations for the three months ended April 30, 2007 increased by $ 656 compared to the three months ended April 30, 2006, reflecting the decrease in margin percentages in equipment sales and increased costs 18 related to continued ramping up of production activities of our mining operation in the third quarter of fiscal year 2007. The acquisition of additional processing equipment, we believe, will substantially increase our production capacity in the future. We anticipate that current demand for our mining products will allow us to sell as much as we can produce. We now have two processing plants, one for basalt and one for cinder, which prevents us from having to shut down production to set up production to process different products. The Company also recorded a valuation reserve, related to its deferred tax asset, of $ 878 during the three-month period ending April 30, 2007. Loss from continuing operations for the nine months ended April 30, 2007 increased by $ 5,765 compared to the nine months ended April 30, 2006, again reflecting the decreased margins in equipment sales and the increased costs related to continued ramping up of production activities of our mining operation in fiscal year 2007 as discussed in the previous paragraph. INTEREST EXPENSE Interest expense for the three months ended April 30, 2007 of $ 1,757 was up from $ 1,352 in the prior year comparative period. This increase from the prior year's comparative period is the result of accelerated amortization of debt discount and deferred debt issuance costs related to a negotiated earlier payment schedule on the convertible debt. We amortized $ 568 of debt discount (related to warrants issued with the convertible debt transaction in June 2005) and $ 247 in debt issuance costs were amortized during the three months ended April 30, 2007 while during the three months ended April 30, 2006, these amounts were $ 242 and $ 91, respectively. Interest expense for the nine months ended April 30, 2007 of $ 4,302 was up from $ 4,283 in the prior year comparative period. The convertible debt balance as of April 30, 2007 (net of discount) was $18,759 compared to $ 21,122 (net of discount) as of April 30, 2006. Although the Company has been making payments on the convertible debt, the decrease in interest costs was offset by the accelerated amortization of debt discount and deferred debt issuance costs as a result of a negotiated accelerated payment schedule on the convertible debt. During the nine-month period ending April 30, 2007, the Company amortized $1,092 in debt discount and $ 432 in deferred debt issuance costs as compared to $ 787 and 341, respectively, for the comparative nine-month period ending April 30, 2006. NET LOSS We had a net loss from continuing operations for the quarter ended April 30, 2007 of $ 2,020 compared with a net loss of $ 1,364 for the prior year's comparative quarter. Included in the current quarter's net loss is a $1,510 loss on used equipment sold at auction, as described above. The additional increase in the net loss is a result of lower margins on equipment sales and additional administrative and production costs at our mining operation as discussed above. The loss, related to the used equipment, was offset in the quarter ending April 30, 2007 by the gain resulting from the transfer of a 10% ownership interest in the Company's subsidiary, Arizona Pacific Materials, LLC to satisfy 50% of the penalty related a technical default of the convertible agreement. The Company also recorded a valuation reserve, related to its deferred tax asset, of $878 during the three-month period ending April 30, 2007. We had a net loss from continuing operations for the nine months ended April 30, 2007 of $ 8,547 compared with a net loss of $ 2,782 for the prior year's comparative period. In January 2007, the Company was in technical default of the convertible debt agreement because of a late payment, which, under the terms of the agreement, would result in a penalty of 20% of the loan balance at the time of the default. The Company recorded an expense of $3,866 in the second quarter of 2007 for this penalty. The Company has negotiated an agreement with the convertible debt holders to have 50% of the penalty paid in cash and the remaining 50% of the penalty satisfied by a transfer of a 10% ownership interest in the Company's subsidiary, Arizona Pacific Materials, LLC, which resulted in a gain of $1,933 and a net penalty of $1,933. The new agreement also required an accelerated payment schedule which resulted in an accelerated amortization of the related debt discount and debt issuance costs. During the nine-month period ending April 30, 2007, the Company amortized $1,092 in debt discount and $ 432 in deferred debt issuance costs as compared to $ 787 and 341, respectively, for the comparative nine-month period ending April 30, 2006. Discontinued Operations ----------------------- The following table presents unaudited selected financial data for the discontinued operations of our business (in thousands of dollars): 19
------------------------------------------------------------------------------------------------------------------------------------ Three Months Ended Three Months Ended Nine Months Ended Nine Months Ended April 30, 2007 April 30, 2006 April 30, 2007 April 31, 2006 ------------------------------------------------- -------------------- -------------------- ------------------- ------------------- Revenue from discontinued operations $ -- $ 2,947 $ 46 $ 8,525 ------------------------------------------------- -------------------- -------------------- ------------------- ------------------- Gross Profit from discontinued operations $ -- $ (20) $ (41) $ 710 ------------------------------------------------- -------------------- -------------------- ------------------- ------------------- SG&A from discontinued Operations $ -- $ 56 $ 53 $ 335 ------------------------------------------------- -------------------- -------------------- ------------------- ------------------- Income (loss) from discontinued operations $ -- $ (76) $ (94) $ 375 ------------------------------------------------- -------------------- -------------------- ------------------- ------------------- Gain on disposal $ -- $ 251 $ -- $ 251 ------------------------------------------------------------------------------------------------------------------------------------
We classify closed or sold branch locations in discontinued operations when the operations and cash flows of the location have been eliminated from ongoing operations and when we will not have any significant continuing involvement in the operation of the branch after disposal. To determine if cash flows had been or would be eliminated from ongoing operations, we evaluate a number of qualitative and quantitative factors, including, but not limited to, proximity to remaining open branch locations and estimates of sales migration from the closed or sold branch to any branch locations remaining open. The estimated sales migration is primarily based on our continued level of involvement as a Case dealer once the branch location is sold or closed and whether there is continued active solicitation of sales in that market. For purposes of reporting the operations of branch locations meeting the criteria of discontinued operations, we report net revenue, gross profit and related selling, general and administrative expenses that are specifically identifiable to those branch locations as discontinued operations. Certain corporate level charges, such as general office expenses and interest expense are not allocated to discontinued operations because we believe that these expenses are not specific to the branch location's operations. Our strategy had focused on acquiring additional existing distributorships and rental operations, opening new locations as market conditions warrant, and increasing sales at its existing locations. In such connection, we had sought to operate additional Case or other equipment retail distributorships, and sell, lease, and service additional lines of construction equipment and related products not manufactured by Case. For the past few years, we have concentrated on consolidating or closing certain of our store locations to improve operating efficiency and profitability. The locations that have been sold or closed in the past few years represent locations that we believe were more difficult markets to maintain in comparison to other locations within our organization. We believe that focusing our efforts and capital resources on more profitable locations will result in overall long-term benefits to the Company. LIQUITY AND CAPITAL RESOURCES Primary needs for liquidity and capital resources are related to the acquisition of inventory for sale and our rental fleet. Our primary source of liquidity has been from operations. As more fully described below, our primary sources of external liquidity are equipment inventory floor plan financing arrangements provided to us by the manufacturers of the products we sell as well as the credit facility or long-term convertible debt more fully described below. Under inventory floor planning arrangements, the manufacturers of products provide interest free credit terms on new equipment purchases for periods ranging from one to twelve months, after which interest commences to accrue monthly at rates ranging from zero to two percent over the prime rate of interest. Principal payments are typically made under these agreements at scheduled intervals and/or as the equipment is rented, with the balance due at the earlier of a specified date or upon sale of the equipment. In June 2005, we closed a new $30 million convertible debt facility (convertible into common shares of the Company at $2.00 per share) payable over the next five years, with a variable interest rate of LIBOR plus 6%. In March 2006, the conversion price in the convertible debt agreement was modified from $2.00 per share to $1.75 per share as part of the approval process for selling our Spokane and Clarkston locations. The lenders also had the right to lend an additional $7.5 million to us (within 18 months of the date of the original debt, which has expired as of 01/31/07) under the same terms as the existing five year convertible debt. We began making monthly principal payments in January 2006. The balance of the unpaid principal on the convertible notes (net of discount) as of April 30, 2007 is $18,759 (net of discount of $1,905) all of which is short term. 20 In May 2007, the Board of Directors approved the sale of the Company's Anchorage and Fairbanks, Alaska operations for $ 12 million. The carrying amount of such assets as of the date of the sale was $ 11.3 million consisting of equipment and parts inventories and fixed assets. The Company recorded a gain on the sale of $ 690. The Company has incurred a loss from continuing operations of $ 8,547 for the nine-month period ended April 30, 2007 compared to a loss of $ 2,782 for the comparable period in fiscal year 2006. During the 2007 period, the Company experienced a slightly weaker market and changes in product mix both of which contributed to lower sales and weaker margins. The loss for the period also includes a net charge for a late payment penalty of $1,933, regarding a technical default of the convertible debt, as prescribed under the convertible debt agreement (20% of the convertible debt balance on the date of the default). The Company has negotiated an agreement with the convertible debt holders to have 50% of the penalty paid in cash and the remaining 50% of the penalty satisfied by a transfer of 10% ownership interest in our subsidiary, Arizona Pacific Materials, LLC. We also sold equipment at auctions to generate cash flow, resulting in a loss of $ 1,510. The Company generated cash flow from operations of $4,125 for the nine-month period ended April 30,2007 period as compared to $ 10,696 for the 2006 comparative period. A significant amount of resources continue to be used to fund losses of the mining operations as well as to make the required payments associated with the convertible debt. With the technical default, the convertible debt becomes due immediately due. The Company has negotiated a revised due date of December 31, 2007. The convertible debt holders are also requiring several additional large principal payments prior to December 31, 2007. Management is currently in discussions to refinance the debt but there is no assurance it will succeed in these refinancing efforts. If management is not successful in obtaining alternative financing, the Company may have to sell off certain assets or the Company's operations may not be able to continue. The previously described conditions raise substantial doubt about the Company's ability to continue as a going concern. CASH FLOW FROM OPERATING ACTIVITIES During the nine months ended April 30, 2007 we had positive cash flows from operating activities of $4,125. Our cash flow from operating activities consisted primarily of a reduction of accounts receivable of $3,084 and depreciation of $3,979. Accounts receivable monitoring and collections have been an increased focus of ours over the past two years with the need to make payments on convertible debt, which replaced the revolving line of credit maintained in prior years. Additional credit personnel have been added to our staff to accomplish this goal. We continue to analyze our inventory levels and projected equipment and parts future sales to minimize our investment in inventory and maximize our ability to support future sales with consideration given to manufacture delivery lead times. We also continue to analyze each branch location and its market to assess the past and future contribution each location has and will make to the overall profitability of the Company. CASH FLOW FROM INVESTING ACTIVITIES Purchases of fixed assets during the period were related mainly to the ongoing replacement of aged operating assets, particularly in our rental fleet and the need for additional equipment in our mining operation in Phoenix to improve production levels. In prior years, we had focused less on our rental fleet inventory levels (allowing inventory levels to decline). We focus on the utilization of the rental fleet and continue to sell older equipment with less utilization and replace, as needed, with newer equipment where there is demand. As interest rates rise, we will continue to analyze the need to rebuild our rental fleet as customer "buy versus rent" decisions change with economic conditions. CASH FLOW FROM FINANCING ACTIVITIES We increased our floor plan financing by $ 737 and paid $4,489 against our convertible debt balance during the nine-month period ended April 30, 2007 which also required us to obtain additional financing through long term notes payable, which increased by $736. Sales and collections of accounts receivable continue to be our major source for the payment of long-term debt. We continue to analyze liquidity and our ability to maintain a balance between inventory levels and capital resources available for inventory and varying levels of sales. The need for future capital resources relates primarily to our obligation to make monthly payments on our convertible debt as outlined in Note 7 of the consolidated financial statements. We are actively exploring avenues that will generate longer-term capital sources, including the generation of equity capital. We also continue to analyze each branch location and its market to assess the demand each location places on our financing activities and the contribution each location will make to the overall profitability of the Company as a result of these financing needs. 21 CASH AND CASH EQUIVALENTS Our cash and cash equivalents was $ 632 as of April 30, 2007. As a result of the accelerated due date of the convertible debt, the Company will be required to obtain alternate third party financing to support its current operations and to meet the accelerated convertible debt pay-off. There can be no assurance that the Company can obtain such third party financing. We are actively exploring avenues that will generate both short-term and long-term financing sources, as well as the generation of additional equity capital. OTHER As of April 30, 2007, the Company had outstanding convertible instruments, options and warrants convertible into 24,233,386 shares of common stock, which could potentially dilute earnings per share. OFF-BALANCE SHEET ARRANGEMENTS Our off-balance sheet arrangements are principally lease arrangements associated with the retail stores and the corporate office. NEW ACCOUNTING PRONOUNCEMENTS In March 2006, the FASB issued SFAS No. 156, "Accounting for Servicing of Financial Assets" ("SFAS 156"), which amends SFAS 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities," with respect to the accounting for separately recognized servicing assets and servicing liabilities. SFAS 156 permits the choice of the amortization method or the fair value measurement method, with changes in fair value recorded in income, for the subsequent measurement for each class of separately recognized servicing assets and servicing liabilities. The statement is effective for years beginning after September 15, 2006, with earlier adoption permitted. The Company does not expect SFAS 156 to have a material impact on the Company's consolidated financial position or results of operations. In July 2006, the Financial Accounting Standards Board (FASB) released FASB Interpretation No. 48, "Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109" (FIN 48). FIN 48 clarifies the accounting and reporting for uncertainties in income tax law. FIN 48 prescribes a comprehensive model for the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to be taken in income tax returns. FIN 48 shall be effective for fiscal years beginning after December 15, 2006. Earlier adoption is permitted as of the beginning of an enterprise's fiscal year, provided the enterprise has not yet issued financial statements, including financial statements for any interim period for that fiscal year. The cumulative effects, if any, of applying FIN 48 will be recorded as an adjustment to retained earnings as of the beginning of the period of adoption. The Company does not expect FIN 48 to have a material impact on the Company's consolidated financial position or results of operations. In September 2006, the FASB issued SFAS No. 157, "Accounting for Fair Value Measurements". SFAS No. 157 defines fair value, and establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosure about fair value measurements. SFAS No. 157 is effective for the Company for financial statements issued subsequent to November 15, 2007. The adoption of this pronouncement is not expected to have any material impact on the Company's consolidated financial position and results of operations. In September 2006, the FASB issued SFAS No. 158, "Employees' Accounting for Defined Benefit Pension and Other Postretirement Plans" (SFAS 158"). SFAS 158 requires an employer to recognize the over-funded status of a defined benefit postretirement plan (other than a multiemployer plan) as an asset or liability in its statement of financial position and to recognize changes in that funded status in the year in which the changes occur through comprehensive income of a business entity or changes in unrestricted net assets of a not-for-profit organization. SFAS 158 also requires an employer to measure the funded status of a plan as of the date of its year-end statement of financial position, with limited exceptions. SFAS 158 is effective for the Company for financial statements issued subsequent to December 15, 2006. The adoption of this pronouncement did not have a material impact on the Company's consolidated financial position, results of operations or cash flows. In September 2006, the staff of the Securities and Exchange Commission issued Staff Accounting Bulletin No. 108 ("SAB 108"), which provides interpretive guidance on how the effects of the carryover or reversal of prior year misstatements should be considered in quantifying a current year misstatement. SAB 108 becomes effective in fiscal 22 year 2007. The adoption of SAB 108 is not expected to have a material impact on the Company's consolidated financial position, results of operations or cash flows. In December 2006, the FASB approved FASB Staff Position (FSP) No. EITF 00-19-2, "Accounting for Registration Payment Arrangements" ("FSP EITF 00-19-2"), which specifies that the contingent obligation to make future payments or otherwise transfer consideration under a registration payment arrangement, whether issued as a separate agreement or included as a provision of a financial instrument or other agreement, should be separately recognized and measured in accordance with SFAS No. 5, "Accounting for Contingencies". FSP EITF 00-19-2 also requires additional disclosure regarding the nature of any registration payment arrangements, alternative settlement methods, the maximum potential amount of consideration and the current carrying amount of the liability, if any. The guidance in FSP EITF 00-19-2 amends FASB Statements No. 133, "Accounting for Derivative Instruments and Hedging Activities", and No. 150, "Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity", and FASB Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others", to include scope exceptions for registration payment arrangements. FSP EITF 00-19-2 is effective immediately for registration payment arrangements and the financial instruments subject to those arrangements that are entered into or modified subsequent to the issuance date (December 21, 2006) of this FSP, or for financial statements issued for fiscal years beginning after December 15, 2006, and interim periods within those fiscal years, for registration payment arrangements entered into prior to the issuance date of this FSP. The adoption of this pronouncement is not expected to have an impact on the Company's consolidated financial position, results of operations or cash flows. In February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for Financial Assets and Financial Liabilities" ("SFAS 159"). SFAS 159 provides companies with an option to report selected financial assets and liabilities at fair value. The objective of SFAS 159 is to reduce both complexity in accounting for financial instruments and the volatility in earnings caused by measuring related assets and liabilities differently. Generally accepted accounting principles have required different measurement attributes for different assets and liabilities that can create artificial volatility in earnings. The FASB has indicated it believes that SFAS 159 helps to mitigate this type of accounting-induced volatility by enabling companies to report related assets and liabilities at fair value, which would likely reduce the need for companies to comply with detailed rules for hedge accounting. SFAS 159 also establishes presentation and disclosure requirements designed to facilitate comparisons between companies that choose different measurement attributes for similar types of assets and liabilities. SFAS 159 does not eliminate disclosure requirements included in other accounting standards, including requirements for disclosures about fair value measurements included in SFAS 157 and SFAS No. 107, "Disclosures about Fair Value of Financial Instruments." SFAS 159 is effective for the Company as of the beginning of fiscal year 2009. The Company has not yet determined the impact SFAS 159 may have on its consolidated financial position, results of operations, or cash flows. GENERAL ECONOMIC CONDITIONS Controlling inventory is a key ingredient to the success of an equipment distributor because the equipment is characterized by long order cycles, high-ticket prices, and the related exposure to "flooring" interest. Our interest expense may increase if inventory is too high or interest rates rise. We manage our inventory through Company-wide information and inventory sharing systems wherein all locations have access to the Company's entire inventory. In addition, we closely monitor inventory turnover by product categories and we place equipment orders based upon targeted turn ratios. All of the products and services we provide are either capital equipment or included in capital equipment, which are used in the construction, industrial, and agricultural sectors. Accordingly, our sales are affected by inflation or increased interest rates, which tend to hold down new construction, and consequently adversely affect demand for the equipment sold and rented by us. In addition, although agricultural equipment sales are less than 2% of our total revenues, factors adversely affecting the farming and commodity markets also can adversely affect our agricultural equipment related business. Our business can also be affected by general economic conditions in its geographic markets as well as general national and global economic conditions that affect the construction, industrial, and agricultural sectors. Further erosion in North American and/or other countries' economies could adversely affect our business. 23 Although the principal products sold, rented, and serviced by us are manufactured by Case, we also sell, rent, and service equipment and sell related parts (e.g., tires, trailers, and compaction equipment) manufactured by others. Approximately 51% of our net sales for the nine months ended April 30, 2007 resulted from sales, rental, and servicing of products manufactured by companies other than Case. That compares with a figure of 48% for the nine-month period ended April 30, 2006. These other manufacturers offer various levels of supplies and marketing support along with purchase terms, which vary from cash upon delivery to interest-free, 12-month flooring. We purchase equipment and parts inventory from Case and other manufacturers. No supplier other than Case accounted for more than 10% of such inventory purchases during the nine months ended April 30, 2007. While maintaining its commitment to Case to primarily purchase Case Equipment and parts as an authorized Case dealer, we plan to expand the number of products and increase the aggregate dollar value of those products which we purchases from manufacturers other than Case in the future. The generally soft economic conditions in the equipment market, particularly in the northwest, have contributed to a decline in equipment sales in prior years. A further softening in the industry could severely affect our sales and profitability. Market specific factors could also adversely affect one or more of our target markets and/or products. 24 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK We are exposed to market risk from changes in interest rates. Market risk is the potential loss arising from adverse changes in market rates and prices such as interest rates. For fixed rate debt, interest rate changes affect the fair value of financial instruments but do not impact earnings or cash flows. Conversely for floating rate debt, interest rate changes generally do not affect the fair market value but do impact future earnings and cash flows, assuming other factors are held constant. At April 30, 2007, we had variable rate floor plan payables, notes payable, convertible debt and short-term debt of approximately $47.0 million. Holding other variables constant, the pre-tax earnings and cash flow impact for the next year resulting from a one-percentage point increase in interest rates would be approximately $0.47 million. Our policy is not to enter into derivatives or other financial instruments for trading or speculative purposes. ITEM 4. CONTROLS AND PROCEDURES We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms and that such information is accumulated and communicated to our management, including our CEO and CFO, as appropriate, to allow for timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures. As required by SEC Rule 13a-15(e) and 15d-15(e), we carried out an evaluation, under the supervision and with the participation of our management, including our CEO and CFO, of the effectiveness of the design and operation of our disclosure controls and procedures as of the end of the period covered by this report. Based on the foregoing, the CEO and CFO concluded that our disclosure controls and procedures were effective at the reasonable assurance level. There has been no change in our internal controls over financial reporting during the most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal controls over financial reporting. Changes in Internal Controls ---------------------------- There were no significant changes in our internal controls over financial reporting that occurred during the nine months ended April 30, 2007 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. Limitations on the Effectiveness of Controls -------------------------------------------- We believe that a control system, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the control system are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company have been detected. 25 PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS Incident to the Company's business activities, it may at times be a party to legal proceedings, lawsuits and claims. Such matters are subject to uncertainties whose outcomes are not predictable with assurance. Management believes, at this time, there are no ongoing matters, which will have a material adverse effect on the Company's consolidated financial statements. ITEM 1A. RISK FACTORS None. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS None. ITEM 3. DEFAULTS UPON SENIOR SECURITIES In January 2007, the Company was in technical default of the convertible debt agreement because of a late payment, which, under the terms of the agreement, would result in a penalty of 20% of the loan balance at the time of the default. The Company has negotiated an agreement with the convertible debt holders to have 50% of the penalty paid in cash and the remaining 50% of the penalty satisfied by a transfer of 10% ownership interest in our subsidiary, Arizona Pacific Materials, LLC. In January 2007, the Company recorded a $3.9 million expense for this penalty. With the technical default, the convertible debt becomes due immediately due. A revised due date of December 31, 2007 has been negotiated. The convertible debt holders are also requiring several additional large principal payments prior to December 31, 2007. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. ITEM 5. OTHER INFORMATION None. ITEM 6. EXHIBITS Exhibit 31.1, 31.2 Rule 13a-14(a)/15d-14(a) Certification Exhibit 32.1 Certification by the Chief Executive Officer Relating to a Periodic Report Containing Financial Statements.* Exhibit 32.2 Certification by the Chief Financial Officer Relating to a Periodic Report Containing Financial Statements.* * The Exhibit attached to this Form 10-Q shall not be deemed "filed" for purposes of Section 18 of the Securities Exchange Act of 1934 (the "Exchange Act") or otherwise subject to liability under that section, nor shall it be deemed incorporated by reference in any filing under the Securities Act of 1933, as amended, or the Exchange Act, except as expressly set forth by specific reference in such filing. 26 SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. WESTERN POWER & EQUIPMENT CORP. & SUBSIDIARY June 14, 2007 By: /s/ Mark J. Wright ------------------------ Mark J. Wright Vice President of Finance and Chief Financial Officer 27