**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

 

**Washington, DC 20549**

 

**FORM 10-Q**

 

| **ý** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934** |
|------------|---------------------------------------------------------------------------------------------------------|

 

**For the quarterly period ended March 31, 2005**

 

**OR**

 

| **o** | **TRANSITION REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
|-------|---------------------------------------------------------------------------------------------------------|

 

**For the transition period from          to         **

 

**Commission File Number 1-14227**

 

**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)

 

**Not applicable**

(Former name, former address and former fiscal year, if changed sincelast report)

 

Indicate by check markwhether the registrant (1) has filed all reports required to be filed by Section 13or 15(d) of the Securities Exchange Act of 1934 during the preceding 12months (or for such shorter period that the Registrant was required to filesuch reports) and (2) has been subject to such filing for the past 90days.

 

ý  Yes o No

 

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

 

o  Yes ý No

 

The aggregate number ofshares of common stock, $.01 par value, outstanding on May 6, 2005 was 18,517,907.

 

 

----

 

**AMERICAN BANK NOTE HOLOGRAPHICS, INC.**

 

**FORM 10-Q**

 

**INDEX**

 
| PART I -  FINANCIAL INFORMATION                                                                   |   |
|--------------------------------------------------------------------------------------------------------|--------|
|                                                                                                   |   |
| Item 1. Financial  Statements                                                                          |   |
|                                                                                                   |   |
| Condensed Balance Sheets as of  March 31, 2005 (Unaudited) and December 31, 2004             |   |
|                                                                                                   |   |
| Unaudited  Condensed Statements of Operations  For the Three Months Ended March 31, 2005 and 2004 |   |
|                                                                                                   |   |
| Unaudited  Condensed Statements of Cash Flows  For the Three Months Ended March 31, 2005 and 2004 |   |
|                                                                                                   |   |
| 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 6.  Exhibits                                                                                      |   |

 

2

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PART I - FINANCIALINFORMATION

 

ITEM I. FINANCIALSTATEMENTS

 

AMERICAN BANK NOTEHOLOGRAPHICS, INC.

CONDENSED BALANCE SHEETS

(In thousands, exceptshare data)

 
| ** **                                                                                                                             | ** ** | **March 31,  2005** | ** ** | **December 31,  2004** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| ** **                                                                                                                             | ** ** | **(Unaudited)**          | ** ** | **(Note A)**                | ** ** |
| ASSETS                                                                                                                                 | ** ** | ** **               | ** ** | ** **                  | ** ** |
| Current Assets:                                                                                                                        |       |                     |       |                        |       |
| Cash and cash equivalents                                                                                                              |       | $                        | 3,850      |                        | $          | 11,357 |   |
| Short-term investments                                                                                                                 |       | 8,108                    |       | 1,989                       |       |
| Accounts receivable, net of allowance for doubtful  accounts of $190 and $180                                                          |       | 4,892                    |       | 3,889                       |       |
| Inventories                                                                                                                            |       | 4,232                    |       | 3,394                       |       |
| Deferred income taxes                                                                                                                  |       | 996                      |       | 983                         |       |
| Prepaid expenses                                                                                                                       |       | 242                      |       | 317                         |       |
| Total current assets                                                                                                                   |       | 22,320                   |       | 21,929                      |       |
| Machinery, equipment and leasehold improvements, net  of accumulated depreciation and amortization of $10,185 and $10,062              |       | 3,756                    |       | 3,172                       |       |
| Other assets                                                                                                                           |       | 106                      |       | 110                         |       |
|                                                                                                                                   |       |                     |       |                        |       |
| Total Assets                                                                                                                           |       | $                        | 26,182     |                        | $          | 25,211 |   |
|                                                                                                                                   |       |                     |       |                        |       |
| LIABILITIES AND STOCKHOLDERS’ EQUITY                                                                                              |       |                     |       |                        |       |
| Current Liabilities:                                                                                                                   |       |                     |       |                        |       |
| Accounts payable                                                                                                                       |       | $                        | 1,907      |                        | $          | 1,519 |   |
| Accrued expenses                                                                                                                       |       | 2,217                    |       | 2,065                       |       |
| Deferred revenue                                                                                                                       |       | 342                      |       | —                      |       |
| Customer advances                                                                                                                      |       | 115                      |       | 69                          |       |
| Income taxes payable                                                                                                                   |       | 499                      |       | 1,058                       |       |
| Total current liabilities                                                                                                              |       | 5,080                    |       | 4,711                       |       |
| Deferred income taxes                                                                                                                  |       | 1,174                    |       | 1,186                       |       |
|                                                                                                                                   |       |                     |       |                        |       |
| Total Liabilities                                                                                                                      |       | 6,254                    |       | 5,897                       |       |
|                                                                                                                                   |       |                     |       |                        |       |
| Commitments and contingencies                                                                                                          |       |                     |       |                        |       |
|                                                                                                                                   |       |                     |       |                        |       |
| 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 18,517,907 shares and 18,515,907  shares |       | 185                      |       | 185                         |       |
| Additional paid-in capital                                                                                                             |       | 24,062                   |       | 24,058                      |       |
| Accumulated deficit                                                                                                                    |       | (4,319                   | )          | (4,929                      | )          |
| Total Stockholders’ Equity                                                                                                        |       | 19,928                   |       | 19,314                      |       |
|                                                                                                                                   |       |                     |       |                        |       |
| Total Liabilities and Stockholders’ Equity                                                                                        |       | $                        | 26,182     |                        | $          | 25,211 |   |

 

See Notes to Unaudited Condensed Financial Statements

 

3

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AMERICAN BANK NOTEHOLOGRAPHICS, INC.

CONDENSED STATEMENTS OFOPERATIONS - UNAUDITED

(In thousands, except pershare data)

 
| ** **                               | ** ** | **Three Months Ended  March 31,** | ** ** |
|------------------------------------------|------------|----------------------------------------|------------|
| ** **                               | ** ** | **2005**                               | ** ** | **2004** | ** ** |
| Revenue:                                 | ** ** | ** **                             | ** ** | ** ** | ** ** |
| Sales                                    |       | $                                      | 6,400      |   | $ | 5,034 |   |
| Royalty income                           |       | 10                                     |       | 10 |   |
|                                     |       | 6,410                                  |       | 5,044 |   |
| Costs and expenses:                      |       |                                   |       |   |   |
| Cost of goods sold                       |       | 2,799                                  |       | 2,270 |   |
| Selling and administrative               |       | 1,918                                  |       | 1,683 |   |
| Research and development                 |       | 273                                    |       | 283 |   |
| Depreciation and amortization            |       | 351                                    |       | 160 |   |
| Facility consolidation                   |       | 107                                    |       | — |   |
|                                     |       | 5,448                                  |       | 4,396 |   |
|                                     |       |                                   |       |   |   |
| Operating income                         |       | 962                                    |       | 648 |   |
|                                     |       |                                   |       |   |   |
| Interest income                          |       | 54                                     |       | 23 |   |
|                                     |       |                                   |       |   |   |
| Income before provision for income taxes |       | 1,016                                  |       | 671 |   |
| Provision for income taxes               |       | 406                                    |       | 269 |   |
|                                     |       |                                   |       |   |   |
| Net income                               |       | $                                      | 610        |   | $ | 402 |   |
|                                     |       |                                   |       |   |   |
| Net income per share:                    |       |                                   |       |   |   |
| Basic and diluted                        |       | $                                      | 0.03       |   | $ | 0.02 |   |

 

See Notes to Unaudited Condensed Financial Statements.

 

4

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AMERICAN BANK NOTEHOLOGRAPHICS, INC.

CONDENSED STATEMENTS OFCASH FLOWS - UNAUDITED

(In thousands)

 
| ** **                                                                                   | ** ** | **Three Months Ended  March 31,** | ** ** |
|----------------------------------------------------------------------------------------------|------------|----------------------------------------|------------|
| ** **                                                                                   | ** ** | **2005**                               | ** ** | **2004** | ** ** |
| ** **                                                                                   | ** ** | ** **                             | ** ** | ** ** | ** ** |
| Cash flows from operating activities:                                                        | ** ** | ** **                             | ** ** | ** ** | ** ** |
| Net income                                                                                   |       | $                                      | 610        |   | $ | 402 |   |
| Adjustments to reconcile net income to net cash  (used in) provided by operating activities: |       |                                   |       |   |   |
| Depreciation and amortization                                                                |       | 351                                    |       | 160 |   |
| Deferred income taxes                                                                        |       | (25                                    | )          | 52 |   |
| Provision for doubtful accounts                                                              |       | 10                                     |       | — |   |
| Changes in operating assets and liabilities:                                                 |       |                                   |       |   |   |
| Accounts receivable                                                                          |       | (1,013                                 | )          | (118 | ) |
| Inventories                                                                                  |       | (838                                   | )          | 44 |   |
| Prepaid expenses and other                                                                   |       | 78                                     |       | 187 |   |
| Accounts payable and accrued expenses                                                        |       | 540                                    |       | (245 | ) |
| Deferred revenue                                                                             |       | 342                                    |       | — |   |
| Customer advances                                                                            |       | 46                                     |       | 3 |   |
| Income taxes payable                                                                         |       | (559                                   | )          | 185 |   |
|                                                                                         |       |                                   |       |   |   |
| Net cash (used in) provided by operating activities                                          |       | (458                                   | )          | 670 |   |
|                                                                                         |       |                                   |       |   |   |
| Cash flows from investing activities:                                                        |       |                                   |       |   |   |
| Increase in short-term investments                                                           |       | (6,119                                 | )          | (2,613 | ) |
| Capital expenditures                                                                         |       | (934                                   | )          | (168 | ) |
|                                                                                         |       |                                   |       |   |   |
| Net cash used in investing activities                                                        |       | (7,053                                 | )          | (2,781 | ) |
|                                                                                         |       |                                   |       |   |   |
| Cash flows from financing activities:                                                        |       |                                   |       |   |   |
| Proceeds from exercise of stock options                                                      |       | 4                                      |       | — |   |
|                                                                                         |       |                                   |       |   |   |
| Net cash provided by financing activities                                                    |       | 4                                      |       | — |   |
|                                                                                         |       |                                   |       |   |   |
| Decrease in cash and cash equivalents                                                        |       | (7,507                                 | )          | (2,111 | ) |
| Cash and cash equivalents, beginning of period                                               |       | 11,357                                 |       | 7,340 |   |
|                                                                                         |       |                                   |       |   |   |
| Cash and cash equivalents, end of period                                                     |       | $                                      | 3,850      |   | $ | 5,229 |   |
|                                                                                         |       |                                   |       |   |   |
| Supplemental cash payments:                                                                  |       |                                   |       |   |   |
| Taxes                                                                                        |       | $                                      | 990        |   | $ | 11 |   |

 

See Notes to Unaudited Condensed Financial Statements.

 

5

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AMERICAN BANK NOTEHOLOGRAPHICS, INC.

NOTES TO UNAUDITEDCONDENSED FINANCIAL STATEMENTS

 

NOTE A - BASIS OFPRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

American Bank NoteHolographics, Inc. (the “Company”) originates, mass-produces, and marketssecure holograms. Holograms are used for security, packaging and promotionalapplications. The Company operates in one reportable industry segment.

 

The accompanyingunaudited condensed financial statements have been prepared in accordance withU.S. generally accepted accounting principles for interim financial informationand with the instructions to Form 10-Q and Article 10 ofRegulation S-X.  Accordingly, they do notinclude all of the information and footnotes required by U.S. generallyaccepted accounting principles for complete financial statements. In theopinion of management, all adjustments (consisting of normal recurringaccruals) considered necessary for a fair presentation have been included.Operating results for the three months ended March 31, 2005 are notnecessarily indicative of the results that may be expected for the year ending December 31,2005.

 

The balance sheet at December 31,2004 has been derived from the audited financial statements at that date butdoes not include all of the information and footnotes required by U.S. generallyaccepted accounting principles for complete financial statements.

 

For further information,refer to the financial statements and footnotes thereto included in the Company’sannual report on Form 10-K for the year ended December 31, 2004,as filed with the United States Securities and Exchange Commission (“SEC”).

 

REVENUE RECOGNITION

 

The Company recognizesrevenue in accordance with the provisions of the SEC’s Staff AccountingBulletin (“SAB”) No. 104, “Revenue Recognition (an amendment of SAB 101, “RevenueRecognition”).”  Specifically, sales andthe related cost of goods sold are generally recognized at the latter of thetime of shipment or when title passes to customers. In some situations, theCompany has shipped product where the sale is contingent upon the customers’use of the product. In these situations, the Company does not recognize salesupon product shipment, but rather when the buyer of the product informs theCompany that the product has been used. Additionally, pursuant to terms with a certain customer, completed itemsare 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 advancesrepresent payments received from customers for products which have not yet beenshipped.  These customer advances areclassified as current liabilities on the accompanying balance sheets.

 

Shipping and handlingamounts billed to customers are included in sales and amounted to $111,000 and $108,000for the three months ended March 31, 2005 and 2004, respectively.  Shipping and handling costs are included inselling and administrative expenses.

 

BASIC AND DILUTED NETINCOME PER SHARE

 

Basic net income pershare is computed based on the weighted average number of outstanding shares ofcommon stock. The basic weighted average number of shares outstanding were 18,517,747and 18,483,720 in the three months ended March 31, 2005 and 2004,respectively. Diluted net income per share is computed by dividing net incomeby the weighted average number of shares of common stock outstanding anddilutive potential shares of common stock. For the three months ended March 31,2005 and 2004, the diluted number of weighted average shares outstanding was 19,110,139and 18,716,657, respectively, which includes dilutive stock options of 592,392shares and 232,937 shares, respectively.

 

6

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BUSINESS INFORMATION

 

Sales toMasterCard were approximately 33% and 35% of sales for the three months ended March 31,2005 and 2004, respectively. The Company has an agreement with MasterCard, asamended, in which MasterCard retained the Company to produce MasterCard hologramsthrough February 28, 2011, subject to automatic renewal if not terminatedby either party.  The loss of all or asubstantial portion of the sales to MasterCard would have a material adverseeffect on the financial position, results of operations and cash flows of theCompany. At March 31, 2005 and December 31, 2004, accounts receivablefrom this customer totaled $1.4 million and $1.1 million, respectively.

 

Sales of VISA hologramsto manufacturers of VISA credit cards were approximately 23% and 34% of salesfor the three months ended March 31, 2005 and 2004, respectively. The lossof a substantial portion of the sales to manufacturers of VISA credit cardswould have a material adverse effect on the financial position, results ofoperations and cash flows of the Company. Accounts receivable from thesecustomers totaled $1.2 million at both March 31, 2005 and December 31,2004.

 

The Company purchasescertain key materials used in the manufacture of its holograms and outsourcescertain key processes from third party suppliers, some of which are sole sourcerelationships, with whom the Company does not have supply contracts. Anyproblems that occur with respect to the delivery, quality or cost of any suchmaterials or processes could have a material adverse effect on the financialposition, results of operations and cash flows of the Company.

 

STOCK-BASED COMPENSATIONPLANS

 

As allowed by SFAS No. 123,the Company has elected to continue to apply the intrinsic value-based methodof accounting prescribed in APB Opinion No. 25 and, accordingly, does notrecognize compensation expense for stock option grants made at an exerciseprice equal to or in excess of the fair market value of the stock at the dateof grant.

 

Had compensation costsfor the Company’s outstanding stock options been determined based on the fairvalue at the grant dates for those options consistent with SFAS No. 123,the Company’s net income and basic and diluted net income per share would havediffered as reflected by the pro forma amounts indicated below:

 
| ** **                                          | ** **                                                                                                         | **Three Months Ended  March 31,**     | ** ** |
|-----------------------------------------------------|--------------------------------------------------------------------------------------------------------------------|--------------------------------------------|------------|
| ** **                                          | ** **                                                                                                         | **2005**                                   | ** ** | **2004** | ** ** |
| ** **                                          | ** **                                                                                                         | **(In thousands, except per share  data)** | ** ** |
| Net income, as reported                             |                                                                                                               | $                                          | 610        |   | $ | 402 |   |
| 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 |                                       | 41         |   | 30 |   |
| Pro forma, net income                               |                                                                                                               | $                                          | 569        |   | $ | 372 |   |
|                                                |                                                                                                               |                                       |       |   |   |
| Basic and diluted net income per share, as reported |                                                                                                               | $                                          | 0.03       |   | $ | 0.02 |   |
| Basic and diluted net income per share, pro forma   |                                                                                                               | $                                          | 0.03       |   | $ | 0.02 |   |
|                                                     |                                                                                                                    |                                            |            |  |  |  |  |  |

 

7

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WARRANTY COSTS

 

The Companyprovides for warranty costs in amounts it estimates will be needed to coverfuture warranty obligations for products sold. Estimates of warranty costs are based on historical experience and areperiodically reviewed and adjusted, when necessary.  The Company’s product warranty provision isincluded in accrued expenses in the accompanying balance sheets. Changes in theCompany’s warranty provision are as follows:

 
| ** **                     | ** ** | **Three Months Ended  March 31,** | ** ** |
|--------------------------------|------------|----------------------------------------|------------|
| ** **                     | ** ** | **2005**                               | ** ** | **2004** | ** ** |
| ** **                     | ** ** | **(In thousands)**                     | ** ** |
|                           |       |                                   |       |   |   |
| Balance at beginning of period |       | $                                      | 510        |   | $ | 510 |   |
| Warranties issued              |       | 60                                     |       | 40 |   |
| Settlements made               |       | (65                                    | )          | (26 | ) |
| Balance at March 31       |       | $                                      | 505        |   | $ | 524 |   |

 

Reclassifications –Certain prior year amounts have been reclassified to conform with the currentyear’s presentation.

 

Impact of Recently IssuedAccounting Standards — In December 2004, the Financial AccountingStandards Board issued Statement No. 123(R) (FAS 123R), Share-BasedPayment, amending FAS 123 and requiring that all share-based payments toemployees be recognized in the financial statements. Generally, the approach toaccounting for share-based payments in FAS 123R is similar to the approachdescribed in FAS 123, however, pro forma footnote disclosure will no longer bean alternative to financial statement recognition. This statement, as amended,becomes effective in the first interim or annual period beginning after December 15,2005. The Company expects to adopt the new statement effective January 1,2006, using the modified-prospective transition method described in thestatement. Under this method, the Company will be required to recognizecompensation expense over the remaining vesting period for all awards thatremain unvested as of January 1, 2006. As permitted by FAS 123, the Companycurrently accounts for share-based payments to employees using APB 25’sintrinsic value method and, as such, generally recognized no compensation costfor employee stock options. The Company believes based on the level ofshare-based payments previously granted and unvested, that the adoption of FAS123R will not have a material effect on its financial position, results ofoperations or cashflows, however, the level of future equity basedcompensation grants could have a material effect on amounts recorded in ourstatement of operations.

 

In November 2004,the Financial Accounting Standards Board issued Statement No. 151 (FAS151), Inventory costs, an amendment of ARB No. 43, Chapter 4. FAS 151clarifies that abnormal amounts of idle facility expense, freight, handlingcosts and wasted materials should be recognized as current period charges. Inaddition, FAS 151 requires that allocation of fixed production overhead toinventory be based on the normal capacity of the production facilities. FAS 151is effective for inventory costs incurred during fiscal years beginning after June 15,2005. The Company currently believes that the adoption of FAS 151 will not havea material impact on its financial statements.

 

NOTE B - INVENTORIES

 

Inventories consist ofthe following:

 
| ** **                                   | ** ** | **March 31,  2005** | ** ** | **December 31,  2004** | ** ** |
|----------------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| ** **                                   | ** ** | **(Unaudited)**          | ** ** | **(Note A)**                | ** ** |
| ** **                                   | ** ** | **(In thousands)**       | ** ** |
|                                         |       |                     |       |                        |       |
| Finished goods                               |       | $                        | 2,323      |                        | $          | 1,749 |   |
| Finished goods on consignment with customers |       | 338                      |       | 231                         |       |
| Work in process                              |       | 1,024                    |       | 1,044                       |       |
| Raw materials                                |       | 547                      |       | 370                         |       |
|                                         |       | $                        | 4,232      |                        | $          | 3,394 |   |

 

8

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NOTE C - FACILITYCONSOLIDATION

 

On December 14,2004, the Company entered into certain agreements to lease a new 134,000 squarefoot facility located in Robbinsville, New Jersey which will be the future siteof the Company’s primary operations.  TheCompany will consolidate its existing office and manufacturing facilities inElmsford, New York and Huntingdon Valley, Pennsylvania into the newfacility.  The Company also intends toexpand and supplement its manufacturing operations in connection with thisconsolidation.

 

The lease was effectiveas of December 14, 2004 and expires on May 31, 2017. Under theagreements the Company has the right to renew the lease for three consecutivefive year terms and also has an option to purchase the building after the endof the original lease term for the adjusted fair market value as defined in thelease agreement.

 

The Company currentlyexpects to incur expenses totaling approximately $4.2 million, of which $0.3 millionhas been incurred through March 31, 2005. The estimated $4.2 million includesthose expenses associated with existing leases, vacating its currentfacilities, relocating and terminating certain employees, moving equipment and otherrelated expenses which will be substantially complete by the third quarter of2005.  The expenses are classified asfacility consolidation expenses on the accompanying statements of operations.Approximately $3 million of these expenses will be paid in cash ratably throughthe fourth quarter of 2007.    Theremainder of these expenses will be paid in cash as incurred through the fourthquarter of 2005.

 

NOTE D - COMMITMENTS ANDCONTINGENCIES

 

The Company from time totime is involved in litigation (as both plaintiff and defendant) incidental tothe conduct of its business; however, the Company is not a party to any lawsuitor proceeding which, in the opinion of management of the Company, could have amaterial impact on the Company’s financial position, results of operations orcash flows.

 

ITEM 2. MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

The following discussionand analysis should be read in conjunction with the Company’s unauditedfinancial statements, including the notes thereto, appearing elsewhere in thisreport.

 

OVERVIEW

 

The Company originates,mass-produces and markets holograms. The Company’s holograms are used primarilyfor security applications such as counterfeiting protection for credit and othertransaction cards, identification cards and documents of value, as well as fortamper resistance and authentication of high-value consumer and industrialproducts.  The Company also producesnon-secure holograms for packaging and promotional applications.  The Company’s sales of holograms for securityapplications generally carry higher gross margins than sales for non-securityapplications.

 

A significant portion of the Company’s business isderived from orders placed by certain credit card companies, includingMasterCard and manufacturers of VISA brand credit cards, and variations in thetiming of such orders can cause significant fluctuations in the Company’ssales. Sales to MasterCard were approximately 33% and 35% of sales for thethree months ended March 31, 2005 and 2004, respectively. The Company hasan agreement with MasterCard, as amended, in which MasterCard retained theCompany to produce MasterCard holograms through February 28, 2011, subjectto automatic renewal if not terminated by either party.  Sales of VISA holograms to manufacturers ofVISA credit cards were approximately 23% and 34% of sales for the three monthsended March 31, 2005 and 2004, respectively. Currently we are one of twocompanies authorized to manufacture and sell VISA brand holograms tomanufacturers of VISA brand credit cards.****On March 15,2005, VISA announced its intention to phase out the Dove hologram that wesupply for the front of the VISA card, and to replace it with an integratedholographic magnetic stripe. On April 8, 2005, we entered into an agreementwith VISA, pursuant to which we will be a supplier of holographic magneticstripe to VISA-approved card manufacturers. We cannot assure you that futuresales of HoloMag to VISA’s authorized card manufacturers will be as successfulor profitable as our historical sales of the VISA Dove hologram.

 

9

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If we were to lose a substantial portion of ourbusiness with either MasterCard or VISA without replacing it with new productsales, our business, operating results and financial condition would bematerially and adversely affected. In addition, if we fail to obtainanticipated orders from these customers or if we experience delays orcancellations of orders from these customers, our business and financialperformance will be materially and adversely affected.

 

Holograms are sold underpurchase orders and contracts with customers. Sales and the related cost ofgoods sold are generally recognized at the latter of the time of shipment orwhen title passes to customers. In some situations, the Company has shippedproduct where the sale is contingent upon the customers’ use of the product. Inthese situations, the Company does not recognize sales upon product shipment,but rather when the buyer of the product informs the Company that the producthas been used. Additionally, pursuant to terms with a certain customer,completed items are stored on behalf of the customer at the Company’s on-sitesecured facility and, in that instance, sales are recognized when all of thefollowing have occurred: the customer has ordered the goods, the manufacturingprocess is complete, the goods have been transferred to the on-site securedfacility and are ready for shipment, the risk of ownership has passed to thecustomer and the customer has been billed for the order. At March 31, 2005and December 31, 2004, accounts receivable from this customer totaled $1.4million and $1.1 million, respectively.

 

The Company purchasescertain key materials used in the manufacture of its holograms and outsourcescertain key processes from third party suppliers, some of whom are sole sourcerelationships, with which it does not have supply contracts. Any problems thatoccur with respect to the delivery, quality or cost of any such materials orprocesses could have a material adverse effect on the Company’s financialposition, results of operations and cash flows.

 

Sales may fluctuate fromquarter to quarter due to changes in customers’ ordering patterns. Customers donot typically provide the Company with precise forecasts of future orderquantities. Quarterly demand for holograms may be materially influenced bycustomers’ promotions, inventory replenishment, card expiration patterns,delivery schedules and other factors which may be difficult for the Company toanticipate.

 

Cost of goods soldincludes raw materials such as nickel, foils, films and adhesives; labor costs;manufacturing overhead; and hologram origination costs (which represent costsof a unique master hologram that is made to customer specifications and is anintegral part of the production process). As a result, costs of goods sold areaffected by product mix, manufacturing yields, costs of hologram originationsand changes in the cost of raw materials and labor.

 

Selling andadministrative expenses primarily consist of salaries, benefits and commissionsfor the Company’s corporate, sales, marketing and administrative personnel,marketing and promotion expenses, legal and accounting expenses and expensesassociated with being a public company.

 

COMPARISON OF THREEMONTHS ENDED MARCH 31, 2005 TO THREE MONTHS ENDED MARCH 31, 2004

 

*Sales.*  Sales increased by $1.4 million, or 27.1%,from $5.0 million for the three months ended March 31, 2004 to $6.4million for the three months ended March 31, 2005.  The increase was primarily due to theimplementation of new customer programs in the transaction card and identitydocument markets and growth with existing customers.

 

*Cost ofGoods Sold.*  Cost ofgoods sold increased by $0.5 million, from $2.3 million for the three monthsended March 31, 2004 to $2.8 million for the three months ended March 31,2005.  As a percentage of sales, cost ofgoods sold decreased from 45.1% in the three months ended March 31, 2004to 43.7% for the same period in 2005. The decrease of 1.4% was primarily due to the increase in sales volumeof higher margined products.

 

*Sellingand Administrative.* Selling and administrative expenses increased $0.2 million from $1.7million for the three months ended March 31, 2004 to $1.9 million for thethree months ended March 31, 2005. As a percentage of sales, selling andadministrative expenses decreased from 33.4% for the three months ended March 31,2004 to 30.0% for the same period in 2005. The increase in expenses was due to an increase in selling expenses of$0.1 million primarily related to commissions and administrative expenses of$0.1 million, primarily due to professional fees.

 

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*Researchand Development. *Researchand development expenses remained relatively unchanged.

 

*Depreciationand Amortization.* Depreciation and amortization increased $0.2 million from $0.2 millionfor the three months ended March 31, 2004 to $0.4 million for the threemonths ended March 31, 2005. The increase was primarily due to theacceleration of depreciation and amortization on equipment and leaseholdimprovements to be abandoned upon the consolidation of the Company’s operationsin its new facility in Robbinsville, New Jersey.

 

*Facility Consolidation Expenses.*Facility consolidation expenses of $0.1 million pertain to expenses incurredfor the Company’s new facility in Robbinsville, New Jersey and consistprimarily of employee relocation and severance expenses.

 

*InterestIncome*.  Interestincome increased $31,000 from $23,000 for the three months ended March 31,2004 to $54,000 for the three months ended March 31, 2005. The increasewas primarily due to higher interest rates in effect during the current period.

 

LIQUIDITY AND CAPITALRESOURCES

 

At March 31, 2005,the Company had $3.9 million in cash and cash equivalents, short-terminvestments of $8.1 million and working capital of $17.2 million.

 

The Company’soperating activities used cash of $0.5 million for the three months ended March 31,2005, compared to $0.7 million of cash provided for the three months ended March 31,2004.  Cash flows provided by net incomeand adjustments to reconcile net income to net cash provided by operatingactivities were $0.9 million in the three months ended March 31, 2005.Cash flows used in changes in operating assets and liabilities were $1.4million in the three months ended March 31, 2005. For the three monthsended March 31, 2004, cash flows provided by net income and adjustments toreconcile net income to net cash provided by operating activities provided cashof $0.6 million and cash flows provided by the net changes in operating assetsand liabilities were $0.1 million.

 

Investingactivities for the three months ended March 31, 2005 and 2004 used cash of$7.1 million and $2.8 million, respectively, due to increases in short-terminvestments and capital expenditures.

 

Financing activities for the three months ended March 31,2005 provided cash of $4,000 due to the exercise of stock options. There wereno financing activities for the three months ended March 31, 2004.

 

 On December 14,2004, the Company entered into agreements to lease a 134,000 square foot modernmanufacturing and office building in Robbinsville, New Jersey, which will bethe future site of its primary operations. The Company will be doingconstruction within this facility to meet its specialized operational andsecurity requirements through approximately June 2005. The new facilityprovides substantial room for expansion as the Company will consolidate itsoperations that are currently being conducted within a 58,000 square footfacility in Elmsford, New York and a 30,000 square foot facility in HuntingdonValley, Pennsylvania into the new facility in Robbinsville, New Jersey. TheCompany will also be acquiring additional equipment and technology to beinstalled in the new facility in order to broaden its capabilities to serve itstarget customers, expand capacity and improve efficiency.

 

The base rent on the newlease for the Robbinsville, New Jersey facility is $555,000 per year,increasing by 1.9% per year, and the first seven months of the lease arerent-free. The Company currently pays a combined base rent of $933,000 per yearfor its two existing smaller facilities in Elmsford, New York and HuntingdonValley, Pennsylvania. The term of the new lease is through May 31, 2017,and at the expiration of the term, the Company has options to renew the leasefor three consecutive five year periods and an option to purchase the buildingafter the end of the original lease term for the adjusted fair market value asdefined in the lease agreement.

 

The Company currentlyanticipates investing approximately $7.4 million through 2005, of whichapproximately $1.8 million has been expended through March 31, 2005. Theestimated $7.4 million includes expenditures for facility upgrades to customizethe Robbinsville, New Jersey facility for its operational and securityrequirements as well as the acquisition of new equipment to upgrade and expandour production capabilities.

 

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The Company believes that cash flows from operationsand its cash balances will be sufficient to meet working capital needs and fundcapital expenditures, including expenditures relating to its Robbinsville, NewJersey facility, for the next twelve months.

 

The Company alsocurrently expects to incur expenses totaling approximately $4.2 million, ofwhich $0.3 million has been incurred through March 31, 2005. The estimated$4.2 million includes those expenses associated with existing leases, vacating itscurrent facilities in Elmsford, New York and Huntingdon Valley, Pennsylvania,relocating and terminating certain employees, moving equipment and otherrelated expenses which the Company expects to be substantially complete by thethird quarter of 2005.  These costs willbe presented as facility consolidation expense on the Company’s financialstatements.  Approximately $3 million ofthese expenses will be paid in cash ratably through the fourth quarter of2007.    The remainder of these expenseswill be paid in cash as incurred through the fourth quarter of 2005.

 

SPECIAL NOTE REGARDINGFORWARD - LOOKING STATEMENTS

 

Certain statements inthis Form 10-Q constitute “forward-looking” statements within themeaning of the Private Securities Litigation Reform Act of 1995 (the “ReformAct”). Such “forward-looking” statements involve known and unknown risks,uncertainties and other factors which may cause the actual results, performanceor achievements of the Company, or industry results, to be materially differentfrom any future results, performance, or achievements expressed or implied bysuch “forward-looking” statements. Such factors are more fully described underthe caption “Business – Risk Factors” in the Company’s Annual Report on Form 10-Kfor the year ended December 31, 2004, which should be considered inconnection with a review of this report.

 

ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURESABOUT MARKET RISK

 

The Company does notengage in significant activity with respect to market risk sensitiveinstruments. Accordingly, our risk with respect to market risk sensitiveinstruments is immaterial.

 

ITEM 4. CONTROLS ANDPROCEDURES

 

**The Company carried out an evaluation, under thesupervision and with the participation of management, including the Company’sChief Executive Officer and Chief Financial Officer, of the effectiveness ofthe design and operation of the Company’s disclosure controls and procedures asof the end of the period covered by this report pursuant to Exchange Act Rule 13a-15.  Based upon that evaluation, the ChiefExecutive Officer and Chief Financial Officer concluded that the Company’sdisclosure controls and procedures were effective in timely alerting them tomaterial information relating to the Company required to be included in theCompany’s periodic Securities and Exchange Commission filings.  There were no changes in the Company’sinternal control over financial reporting that occurred during the Company’smost recent fiscal quarter that would have materially affected, or arereasonably likely to materially affect, the Company’s internal control overfinancial reporting.**

 

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PART II - OTHERINFORMATION

 

ITEM 6. EXHIBITS

 

Exhibits

 

31.1             Certification ofKenneth H. Traub pursuant to Exchange Act Rules 13a-14 and 15d-14,as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

31.2             Certification of AlanGoldstein pursuant to Exchange Act Rules 13a-14 and 15d-14, asadopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

32.1             Certification ofKenneth H. Traub pursuant to 18 U.S.C. Section 1350, as adopted pursuantto Section 906 of the Sarbanes-Oxley Act of 2002.

 

32.2             Certification of AlanGoldstein pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906of the Sarbanes-Oxley Act of 2002.

 

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#### **SIGNATURES**

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the Company has dulycaused this report to be signed on its behalf by the undersigned, thereuntoduly 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:  May 16, 2004

 

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