**SECURITIES AND EXCHANGE COMMISSION**

 

**Washington,DC 20549**

 

**FORM 10-Q**

 

**ý****  QUARTERLYREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**Forthe quarterly period ended September 30, 2003**

 

**OR**

 

**o****  TRANSITIONREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**Forthe transition period from            to           **

 

**CommissionFile Number 1-14227**

 

| **AMERICAN  BANK NOTE HOLOGRAPHICS, INC.**                                          |
|-------------------------------------------------------------------------------------|
| (Exact name of Registrant as  specified in its charter)                             |
|                                                                                |   |   |
| **Delaware**                                                                        |   | **13-3317668** |
| (State or other jurisdiction of  incorporation  or organization)                    |   | (I.R.S. Employer  Identification No.) |
|                                                                                |
| **399 Executive Boulevard  Elmsford, New York, 10523**                              |
| (Address of principal executive offices,  including zip code)                       |
|                                                                                |
| **(914) 592-2355**                                                                  |
| (Registrant’s telephone number, including  area code)                          |
|                                                                                |
| **N/A**                                                                             |
| (Former name, former address, and former  fiscal year, if changed from last report) |

 

Indicate by check mark whether the registrant (1) has filed all reportsrequired to be filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the preceding 12 months (or for such shorter period that theRegistrant was required to file such reports) and (2) has been subject to suchfiling for the past 90 days.

 

ý  Yes  o  No

 

Indicate by check mark whether the registrant is an accelerated filer(as defined in Rule 12b-2 of the Exchange Act).

 

o  Yes  ý  No

 

The aggregate number of shares of common stock, $.01 par value,outstanding on November 7, 2003 was 18,483,720.

 

 

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**AMERICANBANK NOTE HOLOGRAPHICS, INC.**

 

**FORM10-Q**

 

**INDEX**

 

 
| PART I -  FINANCIAL INFORMATION                                                                                |
|----------------------------------------------------------------------------------------------------------------|
|                                                                                                           |
| Item 1.  Financial Statements                                                                                  |
|                                                                                                           |
| Condensed Balance Sheets as of  September 30, 2003 (Unaudited) and December 31, 2002                           |
|                                                                                                           |
| Unaudited Condensed Statements of  Operations  For the Three and Nine Months Ended September 30, 2003 and 2002 |
|                                                                                                           |
| Unaudited Condensed Statements of Cash Flows  For the Nine Months Ended September 30, 2003 and 2002            |
|                                                                                                           |
| Notes to Unaudited Condensed Financial  Statements                                                             |
|                                                                                                           |
| Item 2. Management’s Discussion and  Analysis of Financial Condition and Results of Operations            |
|                                                                                                           |
| Item 3. Quantitative and Qualitative  Disclosures About Market Risk                                            |
|                                                                                                           |
| Item 4. Controls and Procedures                                                                                |
|                                                                                                           |
| PART II - OTHER INFORMATION                                                                                    |
|                                                                                                           |
| Item 1. Legal Proceedings                                                                                      |
|                                                                                                           |
| Item 6. Exhibits and Reports on Form 8-K                                                                       |

 

2

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PART I – FINANCIALINFORMATION

 

ITEM I. FINANCIALSTATEMENTS

 

AMERICAN BANK NOTE HOLOGRAPHICS, INC.CONDENSED BALANCE SHEETS(In thousands, except share data)

 
|                                                                                                                     |   | **September  30,  2003** |       | **December  31,  2002** |       |
|--------------------------------------------------------------------------------------------------------------------------|--------|--------------------------|------------|-------------------------|------------|
|                                                                                                                     |   | **(Unaudited)**          |       | **(Note A)**            |       |
| ASSETS                                                                                                                   |   |                     | ** ** |                    | ** ** |
| Current Assets:                                                                                                          |   |                     |       |                    |       |
| Cash and cash equivalents                                                                                                |   | $                        | 10,531     |                    | $          | 8,659 |   |
| Accounts receivable, net of allowance for  doubtful accounts of $180 and $210                                            |   | 3,214                    |       | 3,661                   |       |
| Inventories                                                                                                              |   | 2,210                    |       | 2,541                   |       |
| Deferred income taxes                                                                                                    |   | 1,237                    |       | 1,347                   |       |
| Prepaid expenses                                                                                                         |   | 462                      |       | 396                     |       |
| Other                                                                                                                    |   | 274                      |       | 345                     |       |
| Total  current assets                                                                                                    |   | 17,928                   |       | 16,949                  |       |
| Machinery, equipment and leasehold  improvements, net of accumulated depreciation and amortization of $9,048 and  $8,505 |   | 2,440                    |       | 2,782                   |       |
| Other assets                                                                                                             |   | 128                      |       | 399                     |       |
|                                                                                                                     |   |                     |       |                    |       |
| Total Assets                                                                                                             |   | $                        | 20,496     |                    | $          | 20,130 |   |
|                                                                                                                     |   |                     |       |                    |       |
| LIABILITIES AND STOCKHOLDERS’ EQUITY                                                                                |   |                     |       |                    |       |
| Current Liabilities:                                                                                                     |   |                     |       |                    |       |
| Accounts payable                                                                                                         |   | $                        | 569        |                    | $          | 966 |   |
| Accrued expenses                                                                                                         |   | 1,545                    |       | 1,803                   |       |
| Customer advances                                                                                                        |   | 113                      |       | 89                      |       |
| Total current liabilities                                                                                                |   | 2,227                    |       | 2,858                   |       |
| Deferred income taxes                                                                                                    |   | 1,190                    |       | 830                     |       |
| Total liabilities                                                                                                        |   | 3,417                    |       | 3,688                   |       |
|                                                                                                                     |   |                     |       |                    |       |
| Stockholders’ Equity:                                                                                               |   |                     |       |                    |       |
| Preferred stock, authorized 5,000,000  shares; no shares issued or outstanding                                           |   | —                   |       | —                  |       |
| Common stock, par value $.01 per share,  authorized 40,000,000 shares; issued and outstanding 18,483,720 shares          |   | 185                      |       | 185                     |       |
| Additional paid-in-capital                                                                                               |   | 23,994                   |       | 23,994                  |       |
| Accumulated deficit                                                                                                      |   | (7,100                   | )          | (7,737                  | )          |
| Total Stockholders’ Equity                                                                                          |   | 17,079                   |       | 16,442                  |       |
|                                                                                                                     |   |                     |       |                    |       |
| Total Liabilities and Stockholders’ Equity                                                                          |   | $                        | 20,496     |                    | $          | 20,130 |   |

 

See Notes to Unaudited Condensed FinancialStatements.

 

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AMERICAN BANK NOTE HOLOGRAPHICS, INC.CONDENSED STATEMENTS OF OPERATIONS -UNAUDITED(In thousands, except per share data)

 

 
|                                     |   | **Three Months  Ended  September 30,** |       | **Nine  Months Ended  September 30,** |       |
|------------------------------------------|--------|----------------------------------------|------------|---------------------------------------|------------|
|                                     |   | **2003**                               |       | **2002**                              |       | **2003** |   | **2002** |   |
| Revenue:                                 |   |                                   | ** ** |                                  | ** ** |   | ** ** |   | ** ** |
| Sales                                    |   | $                                      | 4,629      |                                  | $          | 4,712 |   | $ | 13,442 |   | $ | 14,168 |   |
| Royalty income                           |   | —                                 |       | 133                                   |       | 47 |   | 463 |   |
|                                     |   | 4,629                                  |       | 4,845                                 |       | 13,489 |   | 14,631 |   |
| Costs and expenses:                      |   |                                   |       |                                  |       |   |   |   |   |
| Cost of goods sold                       |   | 2,090                                  |       | 2,032                                 |       | 6,094 |   | 6,852 |   |
| Selling and administrative               |   | 1,520                                  |       | 1,759                                 |       | 4,911 |   | 5,417 |   |
| Research and development                 |   | 339                                    |       | 243                                   |       | 903 |   | 856 |   |
| Depreciation and amortization            |   | 184                                    |       | 203                                   |       | 547 |   | 595 |   |
|                                     |   | 4,133                                  |       | 4,237                                 |       | 12,455 |   | 13,720 |   |
|                                     |   |                                   |       |                                  |       |   |   |   |   |
| Operating income                         |   | 496                                    |       | 608                                   |       | 1,034 |   | 911 |   |
|                                     |   |                                   |       |                                  |       |   |   |   |   |
| Other income:                            |   |                                   |       |                                  |       |   |   |   |   |
| Interest income                          |   | 22                                     |       | 29                                    |       | 73 |   | 76 |   |
| Patent settlement                        |   | —                                 |       | 570                                   |       | — |   | 570 |   |
|                                     |   | 22                                     |       | 599                                   |       | 73 |   | 646 |   |
|                                     |   |                                   |       |                                  |       |   |   |   |   |
| Income before provision for income taxes |   | 518                                    |       | 1,207                                 |       | 1,107 |   | 1,557 |   |
| Provision for income taxes               |   | 220                                    |       | 513                                   |       | 470 |   | 662 |   |
|                                     |   |                                   |       |                                  |       |   |   |   |   |
| Net income                               |   | $                                      | 298        |                                  | $          | 694 |   | $ | 637 |   | $ | 895 |   |
|                                     |   |                                   |       |                                  |       |   |   |   |   |
| Net income per share:                    |   |                                   |       |                                  |       |   |   |   |   |
| Basic and diluted                        |   | $                                      | 0.02       |                                  | $          | 0.04 |   | $ | 0.03 |   | $ | 0.05 |   |

 

See Notes to Unaudited Condensed FinancialStatements.

 

4

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AMERICAN BANK NOTE HOLOGRAPHICS, INC.CONDENSED STATEMENTS OF CASH FLOWS -UNAUDITED(In thousands)

 

 
|                                                                               |   | **Nine  Months Ended  September 30,** |       |
|------------------------------------------------------------------------------------|--------|---------------------------------------|------------|
|                                                                               |   | **2003**                              |       | **2002** |   |
|                                                                               |   |                                  | ** ** |   | ** ** |
| Cash flows from operating activities:                                              |   |                                  | ** ** |   | ** ** |
| Net income                                                                         |   | $                                     | 637        |   | $ | 895 |   |
| Adjustments to reconcile net income to net  cash provided by operating activities: |   |                                  |       |   |   |
| Depreciation and amortization                                                      |   | 547                                   |       | 595 |   |
| Deferred income taxes                                                              |   | 470                                   |       | 662 |   |
| Provision for doubtful accounts                                                    |   | (30                                   | )          | 25 |   |
| Changes in operating assets and  liabilities:                                      |   |                                  |       |   |   |
| Accounts receivable                                                                |   | 477                                   |       | (211 | ) |
| Inventories                                                                        |   | 331                                   |       | 1,025 |   |
| Prepaid expenses and other                                                         |   | 272                                   |       | (640 | ) |
| Accounts payable and accrued expenses                                              |   | (655                                  | )          | (875 | ) |
| Customer advances                                                                  |   | 24                                    |       | (1 | ) |
|                                                                               |   |                                  |       |   |   |
| Net cash provided by operating activities                                          |   | 2,073                                 |       | 1,475 |   |
|                                                                               |   |                                  |       |   |   |
| Cash flows from investing activities:                                              |   |                                  |       |   |   |
| Capital expenditures                                                               |   | (201                                  | )          | (306 | ) |
|                                                                               |   |                                  |       |   |   |
| Net cash used in investing activities                                              |   | (201                                  | )          | (306 | ) |
|                                                                               |   |                                  |       |   |   |
| Increase in cash and cash equivalents                                              |   | 1,872                                 |       | 1,169 |   |
| Cash and cash equivalents, beginning of  period                                    |   | 8,659                                 |       | 7,368 |   |
|                                                                               |   |                                  |       |   |   |
| Cash and cash equivalents, end of period                                           |   | $                                     | 10,531     |   | $ | 8,537 |   |
|                                                                               |   |                                  |       |   |   |
| Supplemental cash payments:                                                        |   |                                  |       |   |   |
| Taxes                                                                              |   | $                                     | 5          |   | $ | 17 |   |

 

See Notes to Unaudited Condensed FinancialStatements.

 

5

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AMERICAN BANK NOTE HOLOGRAPHICS, INC.NOTES TO UNAUDITED CONDENSEDFINANCIAL STATEMENTS

 

NOTE A - BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTINGPOLICIES

 

American Bank Note Holographics, Inc. (the “Company” or “ABNH”)originates, mass-produces, and markets secure holograms. Holograms are used forsecurity, packaging and promotional applications. The Company operates in onereportable industry segment.

 

The accompanying unaudited condensed financial statements have beenprepared in accordance with accounting principles generally accepted in theUnited States for interim financial information and with the instructions toForm 10-Q and Article 10 of Regulation S-X.  Accordingly, they do not include all of the information andfootnotes required by generally accepted accounting principles for completefinancial statements. In the opinion of management, all adjustments (consistingof normal recurring accruals) considered necessary for a fair presentation havebeen included.  Operating results forthe three and nine months ended September 30, 2003 are not necessarilyindicative of the results that may be expected for the year ending December 31,2003.

 

The balance sheet at December 31, 2002 has been derived from theaudited financial statements at that date but does not include all of theinformation and footnotes required by generally accepted accounting principlesfor complete financial statements.

 

For further information, refer to the consolidated financial statementsand footnotes thereto included in the Company’s annual report on Form 10-K forthe year ended December 31, 2002, as filed with the United States Securitiesand Exchange Commission.

 

REVENUE RECOGNITION

 

The Company recognizes revenue in accordance with the provisions of theSecurities and Exchange Commission’s (“SEC”) Staff Accounting Bulletin (“SAB”)No. 101, “Revenue Recognition.” Specifically, sales and the related cost of goods sold are generallyrecognized at the latter of the time of shipment or when title passes tocustomers. In some situations, the Company has shipped product where the saleis contingent upon the customers’ use of the product. In these situations, theCompany does not recognize sales upon product shipment, but rather when thebuyer of the product informs the Company that the product has been used.  Additionally, pursuant to terms with a certaincustomer, completed items are stored on behalf of the customer at the Company’son-site secured facility and, in that instance, sales are recognized when allof the following have occurred: the customer has ordered the goods, themanufacturing process is complete, the goods have been transferred to theon-site secured facility and are ready for shipment, the risk of ownership haspassed to the customer and the customer has been billed for the order.

 

Customer advances represent payments received from customers forproducts which have not yet been shipped. These customer advances are classified as current liabilities on theaccompanying balance sheets.

 

Shipping and handling amounts billed to customers are included in salesand amounted to $105,000 and $270,000 for the three and nine months endedSeptember 30, 2003, respectively, and $91,000 and $310,000 for the three andnine months ended September 30, 2002, respectively.  Shipping and handling costs are included in selling andadministrative expenses.

 

BASIC AND DILUTED NET INCOME PER SHARE

 

Basic net income per share is computed based on the weighted averagenumber of outstanding shares of common stock. The basic weighted average numberof shares outstanding were 18,483,720 in each of the three and nine monthsended September 30, 2003 and 2002, respectively. Diluted net income per shareis computed by dividing net income by the weighted average number of shares ofcommon stock outstanding and dilutive potential shares of common stock. For thethree and nine months ended September 30, 2003 the diluted number of weightedaverage shares outstanding was 18,608,109 and 18,509,767, respectively, whichincludes dilutive stock options of 124,389 shares and 26,047 shares,respectively. For the three and nine months ended September 30, 2002, thediluted number of weighted average shares outstanding was the same as the basicnumber of weighted average shares outstanding because the exercise price of the

 

6

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outstanding stock options and warrants was greater than the averagemarket value of the underlying common stock for the period, making themantidilutive.

 

BUSINESS INFORMATION

 

Sales to MasterCard wereapproximately 45% and 42% of sales for the three months ended September 30,2003 and 2002, respectively, and approximately 28% and 39% of sales for thenine months ended September 30, 2003 and 2002, respectively. The Companyentered into an agreement with MasterCard dated February 28, 2003, whichreplaces the agreement dated February 1, 1996, as amended.  The Company and MasterCard entered into anamendment to the agreement on September 29, 2003, in which MasterCard retainedthe Company to produce a new hologram for the Debit MasterCard and extended theagreement to February 28, 2011, subject to automatic renewal if not terminatedby either party.  The loss of all or asubstantial portion of the sales to MasterCard, however, would have a materialadverse effect on the financial position, results of operations and cash flowsof the Company. At September 30, 2003 and December 31, 2002 accounts receivablefrom this customer totaled $1.5 million and $1.6 million, respectively.

 

Sales of VISA holograms to manufacturers of VISA credit cards wereapproximately 34% and 26% of sales for the three months ended September 30,2003 and 2002, respectively, and 31% and 24% of sales for the nine months endedSeptember 30, 2003 and 2002, respectively. Sales of VISA holograms for the ninemonths ended September 30, 2003 include sales of a new VISA hologram which theCompany developed and commenced selling in this period. The loss of asubstantial portion of the sales to these customers would have a materialadverse effect on the financial position, results of operations and cash flowsof the Company. Accounts receivable from these customers approximated $1.2million and $1.5 million at September 30, 2003 and December 31, 2002,respectively.

 

The Company purchases certain key materials used in the manufacture ofits holograms and outsources certain key processes from third party suppliers,some of which are sole source relationships, with whom the Company does nothave supply contracts. Any problems that occur with respect to the delivery,quality or cost of any such materials or processes could have a materialadverse effect on the financial position, results of operations and cash flowsof the Company.

 

STOCK-BASED COMPENSATION PLANS

 

 In December 2002, the FinancialAccounting Standards Board (“FASB”) issued SFAS No. 148, “Accounting for StockBased Compensation—Transition and Disclosure—an amendment of FASB Statement No.123.”  SFAS No. 148 provides alternativemethods of transition for a voluntary change to the fair value based method ofaccounting for stock-based employee compensation from the intrinsic value-basedmethod of accounting prescribed by Accounting Principles Board (“APB”) OpinionNo. 25, “Accounting for Stock Issued to Employees.”  In addition, SFAS No. 148 amends the disclosure requirements ofSFAS No. 123, “Accounting for Stock-Based Compensation.” The Company adoptedthe disclosure requirements of SFAS No. 148 effective December 31, 2002. Asallowed by SFAS No. 123, the Company has elected to continue to apply theintrinsic value-based method of accounting prescribed in APB Opinion No. 25and, accordingly, does not recognize compensation expense for stock optiongrants made at an exercise price equal to or in excess of the fair market valueof the stock at the date of grant.

 

Had compensation cost for the Company’s outstanding stock options beendetermined based on the fair value at the grant dates for those optionsconsistent with SFAS No. 123, the Company’s net income and basic and dilutednet income per share would have differed as reflected by the pro forma amountsindicated below:

 
|                                                                                                                            |   | **Three  Months Ended  September 30,**     |   | **Nine  Months Ended  September 30,** |   |
|---------------------------------------------------------------------------------------------------------------------------------|--------|--------------------------------------------|--------|---------------------------------------|--------|
|                                                                                                                            |   | **2003**                                   |   | **2002**                              |   | **2003** |   | **2002** |   |
|                                                                                                                            |   | **(In  thousands, except per share data)** |   |
| Net income, as reported                                                                                                         |   | $                                          | 298    |                                  | $      | 694 |   | $ | 637 |   | $ | 895 |   |
| Add:   Non-cash employee compensation, as reported                                                                         |   | —                                     |   | —                                |   | — |   | — |   |
| Deduct:   Stock-based employee compensation expense determined under fair value  based method for all awards, net of taxes |   | 12                                         |   | 50                                    |   | 34 |   | 159 |   |
| Pro forma, net income                                                                                                           |   | $                                          | 286    |                                  | $      | 644 |   | $ | 603 |   | $ | 736 |   |
|                                                                                                                            |   |                                       |   |                                  |   |   |   |   |   |
| Basic and diluted net income per share, as  reported                                                                            |   | $                                          | 0.02   |                                  | $      | 0.04 |   | $ | 0.03 |   | $ | 0.05 |   |
| Basic and diluted net income per share, pro  forma                                                                              |   | $                                          | 0.02   |                                  | $      | 0.03 |   | $ | 0.03 |   | $ | 0.04 |   |

 

7

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WARRANTY COSTS

 

The Company provides forwarranty costs in amounts it estimates will be needed to cover future warrantyobligations for products sold during the year. Estimates of warranty costs are based on historical experience and areperiodically reviewed and adjusted, when necessary.  The Company’s product warranty provision is included in accruedexpenses on the accompanying balance sheets. Changes in the Company’s productwarranty provision during the nine months ended September 30, 2003 are asfollows (in thousands):

 
| Balance at January 1, 2003    |   | $    | 510    |   |
|-------------------------------|--------|------|--------|--------|
| Warranties provided           |   | 120  |   |
| Settlements made              |   | (160 | )      |
| Balance at September 30, 2003 |   | $    | 470    |   |

 

NOTE B - INVENTORIES

 

Inventories consist of the following (in thousands):

 
|                                          |   | **September  30,  2003** |   | **December  31,  2002** |   |
|-----------------------------------------------|--------|--------------------------|--------|-------------------------|--------|
|                                          |   | **(Unaudited)**          |   |                    |   |
|                                          |   |                     |   |                    |   |
| Finished goods                                |   | $                        | 920    |                    | $      | 1,226 |   |
| Finished goods on consignment with  customers |   | 299                      |   | 377                     |   |
| Work in process                               |   | 569                      |   | 455                     |   |
| Raw materials                                 |   | 422                      |   | 483                     |   |
|                                          |   | $                        | 2,210  |                    | $      | 2,541 |   |

 

NOTE C - COMMITMENTS AND CONTINGENCIES

 

The Company currently and from time to time is involved in litigation(as both plaintiff and defendant) incidental to the conduct of its business;however, the Company is not a party to any lawsuit or proceeding which, in theopinion of management of the Company, could have a material impact on theCompany’s financial position, results of operations or cash flows.

 

NOTE D – STOCK REPURCHASE PLAN

 

On March 17, 2003, the Company’s board of directors authorized therepurchase of up to $2.0 million of the Company’s outstanding common stock. TheCompany is authorized to make purchases from time-to-time, either on the openmarket or through privately negotiated transactions as conditions warrant.    Depending on market conditions and otherfactors, these purchases may be suspended or resumed at any time or fromtime-to-time without prior notice. As of October 31, 2003, there have been norepurchases of the Company’s common stock.

 

ITEM 2.MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIALCONDITION AND RESULTS OF OPERATIONS

 

The following discussion and analysis should be read in conjunctionwith the Company’s unaudited financial statements, including the notes thereto,appearing elsewhere in this report.

 

OVERVIEW

 

The Company originates, mass-produces and markets holograms. TheCompany’s holograms are used primarily for security applications such as counterfeitingprotection for credit and other transaction cards, identification cards and

 

8

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documents of value, as well as for tamper resistance and authenticationof high-value consumer and industrial products.  The Company also produces non-secure holograms for packaging andpromotional applications.  The Company’ssales of holograms for security applications generally carry higher grossmargins than sales for non-security applications.

 

Concerns regarding counterfeiting, piracy and other infractions thatcan result in lost sales, lost goodwill and product liability claims drive theuse of product authentication holograms. Companies in various industries haveutilized holograms as authentication devices to reduce potential losses. Also,concerns over counterfeiting and copying have led to the use of holograms ondocuments of value, including currency, passports, business cheques, giftcertificates, vouchers, certificates of deposit, stamps (postage and revenue),tickets and other financial instruments.

 

A significant portion of the Company’s business is derived from ordersplaced by certain credit card companies, including MasterCard and manufacturersof VISA brand credit cards. Variations in the timing of such orders can causesignificant fluctuations in the Company’s sales. Sales to MasterCard wereapproximately 45% and 42% of sales for the three months ended September 30,2003 and 2002, respectively, and 28% and 39% of sales for the nine months endedSeptember 30, 2003 and 2002, respectively. The Company entered into anagreement with MasterCard dated February 28, 2003, which replaces the agreementdated February 1, 1996, as amended. The Company and MasterCard entered into anamendment to the agreement on September 29, 2003, in which MasterCard retainedthe Company to produce a new hologram for the Debit MasterCard and extended theagreement to February 28, 2011, subject to automatic renewal if not terminatedby either party. Sales to manufacturers of VISA credit cards were approximately34% and 26% of sales for the three months ended September 30, 2003 and 2002,respectively, and 31% and 24% of sales for the nine months ended September 30,2003 and 2002, respectively. Sales of VISA holograms for the nine months endedSeptember 30, 2003 include sales of a new VISA hologram which the Companydeveloped and commenced selling in this period. The Company does not havelong-term purchase contracts with VISA and supplies holograms to approximately50 VISA authorized card manufacturers pursuant to purchase orders. Currentlythe Company is one of two companies authorized to manufacture and sell VISAbrand holograms to manufacturers of VISA brand credit cards. If eitherMasterCard or VISA were to terminate its respective relationship with theCompany or substantially reduce their orders, there would be a material adverseeffect on the Company’s business, financial condition, results of operationsand cash flows.

 

Holograms are sold under purchase orders and contracts with customers.Sales and the related cost of goods sold are generally recognized at the latterof the time of shipment or when title passes to customers. In some situations,the Company has shipped product where the sale is contingent upon thecustomers’ use of the product. In these situations, the Company does notrecognize sales upon product shipment, but rather when the buyer of the productinforms the Company that the product has been used. Additionally, pursuant toterms with a certain customer, completed items are stored on behalf of thecustomer at the Company’s on-site secured facility and, in that instance, salesare recognized when all of the following have occurred: the customer hasordered the goods, the manufacturing process is complete, the goods have beentransferred to the on-site secured facility and are ready for shipment, therisk of ownership has passed to the customer and the customer has been billedfor the order. At September 30, 2003 and December 31, 2002, accounts receivablefrom this customer totaled $1.5 million and $1.6 million, respectively.

 

The Company purchases certain key materials used in the manufacture ofits holograms and outsources certain key processes from third party suppliers,some of whom are sole source relationships, with which it does not have supplycontracts. Any problems that occur with respect to the delivery, quality orcost of any such materials or processes could have a material adverse effect onthe Company’s financial position, results of operations and cash flows.

 

Sales may fluctuate from quarter to quarter due to changes incustomers’ ordering patterns. Customers do not typically provide the Companywith precise forecasts of future order quantities. Quarterly demand forholograms may be materially influenced by customers’ promotions, inventoryreplenishment, card expiration patterns, delivery schedules and other factorswhich may be difficult for the Company to anticipate.

 

Cost of goods sold includes raw materials such as nickel, foils, filmsand adhesives; labor costs; manufacturing overhead; and hologram originationcosts (which represent costs of a unique master hologram that is made tocustomer specifications and is an integral part of the production process). Asa result, costs of goods sold are affected by product mix, manufacturingyields, costs of hologram originations and changes in the cost of raw materialsand labor.

 

Selling and administrative expenses primarily consist of salaries,benefits and commissions for the Company’s

 

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corporate, sales, marketing and administrative personnel, marketing andpromotion expenses, legal and accounting expenses, shipping and handlingexpenses and expenses associated with being a public company.

 

COMPARISON OF THREE MONTHS ENDED SEPTEMBER 30, 2003 TO THREE MONTHSENDED SEPTEMBER 30, 2002

 

Sales.  Sales decreased by $0.1million, or 1.8%, from $4.7 million for the three months ended September 30,2002 to $4.6 million for the three months ended September 30, 2003.  The decrease was due to a decrease in salesof non-credit card security holograms.

 

Royalty Income.  Royalty incomefor the three months ended September 30, 2003 decreased $0.1 million from thethree months ended September 30, 2002 due to the expiration of a patent licenseagreement.

 

Cost of Goods Sold.  Cost ofgoods sold increased by $0.1 million, from $2.0 million for the three monthsended September 30, 2002 to $2.1 million for the three months ended September30, 2003.  As a percentage of sales,cost of goods sold increased from 43.1% in the three months ended September 30,2002 to 45.1% for the same period in 2003. The increase of 2% is primarily due to a vendor reimbursement of 9% thatdid not recur in 2003 partially offset by decreases of 7% in provisions forwarranty, obsolescence and royalties.

 

Selling and Administrative. Selling and administrative expenses decreased $0.2 million from $1.7million for the three months ended September 30, 2002 to $1.5 million for thethree months ended September 30, 2003. As a percentage of sales, selling andadministrative expenses decreased from 37.3% for the three months endedSeptember 30, 2002 to 32.8% for the current period.   The decrease was primarily due to a decrease in selling salariesand benefits of $0.1 million and decreases in other selling and administrativeexpenses of $0.1 million, primarily related to professional fees, travel andshow expenses.

 

Research and Development.* *Researchand development expenses increased $96,000 from $243,000 for the three monthsended September 30, 2002 to $339,000 for the same period in 2003. The increasewas primarily due to an increase in research and development testing expenses.

 

Depreciation and Amortization. Depreciation and amortization remained relatively unchanged.

 

Interest Income.  Interestincome remained relatively unchanged.

 

COMPARISON OF NINE MONTHS ENDED SEPTEMBER 30, 2003 TO NINE MONTHS ENDEDSEPTEMBER 30, 2002

 

Sales.  Sales decreased by $0.7million, or 5.1%, from $14.2 million for the nine months ended September 30,2003 to $13.5 million for the nine months ended September 30, 2002.  The decrease was due to a decrease in salesto MasterCard of $1.9 million which was partially offset by an increase insales of identification products of $0.7 million and an increase in sales toother customers of $0.5 million.

 

Royalty Income.  Royalty incomefor the nine months ended September 30, 2003 decreased $0.4 million from thenine months ended September 30, 2002 due to the expiration of a patent licenseagreement.

 

Cost of Goods Sold.  Cost ofgoods sold decreased by $0.8 million, from $6.9 million for the nine monthsended September 30, 2002 to $6.1 million for the nine months ended September30, 2003.  As a percentage of sales,cost of goods sold decreased from 48.4% in the nine months ended September 30,2002 to 45.3% for the same period in 2003. The decrease of 3% is primarily due to decreases in provisions forwarranty, obsolescence and royalties of 4% and lower production costs of 2%offset by a vendor reimbursement of 3% that did not recur in the 2003.

 

Selling and Administrative. Selling and administrative expenses decreased $0.5 million from $5.4million for the nine months ended September 30, 2002 to $4.9 million for thenine months ended September 30, 2003. As a percentage of sales, selling andadministrative expenses decreased from 38.2% for the nine months endedSeptember 30, 2002 to 36.5% for the nine months ended September 30, 2003. Thedecrease was primarily due to decreases in selling and administrative salariesand benefits due to lower head count of $0.2 million and decreases in otherselling and

 

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administrative expenses of $0.3 million primarily related toprofessional fees, travel and show expenses.

 

Research and Development.* *Researchand development expenses increased $47,000 from $856,000 for the nine monthsended September 30, 2002 to $903,000 for the same period in 2003. The increasewas primarily due to an increase in research and development testing expenses.

 

Depreciation and Amortization. Depreciation and amortization remained relatively unchanged.

 

Interest Income.  Interestincome remained relatively unchanged.

 

LIQUIDITY AND CAPITAL RESOURCES

 

At September 30, 2003, the Company had $10.5 million in cash and cashequivalents and working capital of $15.7 million.

 

The Company’s operating activities provided cash of $2.1 million forthe nine months ended September 30, 2003, compared to $1.5 million for the ninemonths ended September 30, 2002.  Cashflows provided by net income and non cash adjustments decreased $0.6 million inthe nine months ended September 30, 2003 from the comparable period in2002.  Cash flows resulting from changesin operating assets and liabilities increased by $1.2 million in the ninemonths ended September 30, 2003 from the nine months ended September 30, 2002.

 

Investing activities for the nine months ended September 30, 2003 and2002 used cash of $201,000 and $306,000, respectively, for capital expenditures.

 

There were no financing activities for the nine month periods endedSeptember 30, 2003 and 2002.

 

The Company has long-term operating leases for offices, manufacturingfacilities and equipment, which expire through 2007.  The Company has renewal options on some locations, which providefor renewal rents based upon increases tied to the consumer price index.

 

The following table quantifies the Company’s future obligations atSeptember 30, 2003 (in thousands):

 
|                 |   | **Total** |   | **Less than  1 Year** |   | **2-3  Years** |   | **4-5  Years** |   | **More than  5 Years** |   |
|----------------------|--------|-----------|--------|-----------------------|--------|----------------|--------|----------------|--------|------------------------|--------|
| Lease obligations    |   | $         | 3,842  |                  | $      | 965            |   | $              | 1,817  |                   | $      | 1,060 |   | $ | — |   |
| Employment contracts |   | 602       |   | 363                   |   | 239            |   | —         |   | —                 |   |
|                 |   | $         | 4,444  |                  | $      | 1,328          |   | $              | 2,056  |                   | $      | 1,060 |   | $ | — |   |

 

On March 17, 2003, the Company’s board of directors authorized the repurchaseof up to $2.0 million of the Company’s outstanding common stock. The Company isauthorized to make purchases from time-to-time, either on the open market orthrough privately negotiated transactions as conditions warrant.  Depending on market conditions and otherfactors, these purchases may be suspended or resumed at any time or fromtime-to-time without prior notice. As of October 31, 2003, there have been norepurchases of the Company’s common stock.

 

SPECIAL NOTE REGARDING FORWARD - LOOKING STATEMENTS

 

Certain statements in this Form 10-Q constitute “forward-looking”statements within the meaning of the Private Securities Litigation Reform Actof 1995 (the “Reform Act”). Such “forward-looking” statements involve known andunknown risks, uncertainties and other factors which may cause the actualresults, performance or achievements of the Company, or industry results, to bematerially different from any future results, performance, or achievementsexpressed or implied by such “forward-looking” statements. Such factors aremore fully described under the caption “Business – Risk Factors” in theCompany’s Annual Report on Form 10-K for the year ended December 31, 2002,which should be considered in connection with a review of this report.

 

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ITEM 3.  QUANTITATIVE AND QUALITATIVEDISCLOSURES ABOUT MARKET RISK

 

The Company does not engage in significant activity with respect tomarket risk sensitive instruments. Accordingly, our risk with respect to marketrisk sensitive instruments is immaterial.

 

ITEM 4.CONTROLS AND PROCEDURES

 

**The Company carried out anevaluation, under the supervision and with the participation of management,including the Company’s Chief Executive Officer and Chief Financial Officer, ofthe effectiveness of the design and operation of the Company’s disclosurecontrols and procedures as of the end of the period covered by this reportpursuant to Exchange Act Rule 13a-15. Based upon that evaluation, the Chief Executive Officer and ChiefFinancial Officer concluded that the Company’s disclosure controls andprocedures were effective in timely alerting them to material informationrelating to the Company (including its consolidated subsidiaries) required tobe included in our periodic Securities and Exchange Commission filings.  There were no changes in our internalcontrol over financial reporting that occurred during the Company’s most recentfiscal quarter that have materially affected, or are reasonably likely tomaterially affect, the Company’s internal control over financial reporting.**

 

 

PART II.  OTHER INFORMATION

 

ITEM 1.  LEGAL PROCEEDINGS

 

Notapplicable.

 

ITEM 6.  EXHIBITS AND REPORTS ON FORM 8-K

 

(a)                        Exhibits

 

10.1             AmendmentNo. 1 to the Hologram Agreement, dated February 28, 2003, by and betweenMasterCard International Incorporated and American Bank Note Holographics,Inc., made as of September 29, 2003 (Portions have been omitted pursuant to arequest for confidential treatment).

 

31.1             Certificationof Kenneth H. Traub pursuant to Exchange Act Rules 13a-14 and 15d-14, asadopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

31.2             Certificationof Alan Goldstein pursuant to Exchange Act Rules 13a-14 and 15d-14, as adoptedpursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

32.1             Certificationof Kenneth H. Traub pursuant to 18 U.S.C. Section 1350, as adopted pursuant toSection 906 of the Sarbanes-Oxley Act of 2002.

 

32.2             Certificationof Alan Goldstein pursuant to 18 U.S.C. Section 1350, as adopted pursuant toSection 906 of the Sarbanes-Oxley Act of 2002.

 

(b)                       Reports on Form 8-K

 

Current report on Form8-K dated August 11, 2003, reporting the Company’s results of operations forthe quarter ended June 30, 2003.

 

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**SIGNATURES**

 

Pursuant to the requirements of the Securities Exchange Act of 1934,the Company has duly caused this report to be signed on its behalf by theundersigned, thereunto duly authorized.

 
|                               | AMERICAN BANK NOTE                    |
|------------------------------------|---------------------------------------|
|                               | HOLOGRAPHICS, INC.                    |
|                               |                                  |
|                               | By:                                   | /s/ Kenneth H. Traub |   |
|                               | Kenneth H. Traub                      |
|                               | President and Chief Executive Officer |
|                               |                                  |
|                               | By:                                   | /s/ Alan Goldstein |   |
|                               | Alan Goldstein                        |
|                               | Vice President,                       |
|                               | Chief Financial Officer and           |
|                               | Chief Accounting Officer              |
|                               |                                  |
| Date:  November 13, 2003 |                                  |

 

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