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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION  FORM 10-K [X]
    
    ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934For the fiscal year ended June 30, 2004OR[  ]
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
           OF THE SECURITIES EXCHANGE ACT OF 1934
 COMMISSION FILE NUMBER 0-3295  KOSS CORPORATION  Delaware
    
    391168275(State or other jurisdiction of incorporation or organization)
    
    (I.R.S. Employer Identification No.)
 4129 North Port Washington Avenue, Milwaukee, Wisconsin
    
    53212(Address of principal executive offices
    
    (Zip Code)
 Registrants telephone number, including area code: (414) 964-5000 Securities registered pursuant to Section 12(b) of the Act: Title of Each Class
    
    Name of Each Exchange on Which RegisteredNONE
    
    NONE
 Securities registered pursuant to Section 12(g) of the Act: Common Stock, $0.005 par value (voting)   Indicate by check mark whether the Registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. YES [X] NO [  ] Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of registrants knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X] Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12(b)-2). YES [  ] NO [X] The aggregate market value of the voting stock held by nonaffiliates of
the registrant as of August 2, 2004 was approximately $20,356,564 (based on the
$23.00 per share closing price of the Companys common stock as reported on the
NASDAQ Stock Market on August 2, 2004). In determining who are affiliates of
the Company for purposes of this computation, it is assumed that directors,
officers, and any persons who held on
August 2, 2004 more than 5% of the issued and outstanding common stock of
the Company are affiliates of the Company. The characterization of such
directors, officers, and other persons as affiliates is for purposes of this
computation only and should not be construed as a determination or admission
for any other purpose that any of such persons are, in fact, affiliates of the
Company. On August 2, 2004, 3,769,775 shares of voting common stock were outstanding.




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TABLE OF CONTENTS  PART IItem 1. BUSINESSItem 2. PROPERTIESItem 3. LEGAL PROCEEDINGSItem 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERSPART IIItem 5. MARKET FOR REGISTRANTS COMMON EQUITY AND RELATED STOCKHOLDER MATTERSItem 6. SELECTED FINANCIAL DATAItem 7. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONSItem 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKItem 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATAItem 9. CHANGES IN AND DISAGREEMENTS WITH AUDITORS ON ACCOUNTING AND FINANCIAL DISCLOSUREItem 9A. Controls and ProceduresPART IIIItem 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANTItem 11. EXECUTIVE COMPENSATIONItem 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES.PART IVItem 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.SIGNATURESEXHIBIT INDEXNinth Amendment to License AgreementCode of EthicsList of SubsidiariesConsent of Grant Thornton LLPConsent of PricewaterhouseCoopers LLPCertification of CEO & CFO - Rule 13a-14(a)/15d-14(a)Certification of CEO & CFO - 18 U.S.C. Section 1350    Table of Contents  Documents Incorporated by Reference Part III incorporates by reference information from Koss Corporations Proxy
Statement for its 2004 Annual Meeting of Stockholders filed with the Commission
under Regulation 14A within 120 days of the end of the fiscal year covered by
this Report. 2




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PART I 
 Item 1. BUSINESS. GENERAL As used herein, the term Company means Koss Corporation and its consolidated
subsidiaries, unless the context otherwise requires. The Company was
incorporated in Delaware in 1971. The Company operates in the audio/video industry segment of the home
entertainment industry through its design, manufacture and sale of stereo
headphones and related accessory products. During the 2003 fiscal year, the
Company acquired certain assets of ADDAX Sound Company. See Part II, Item 7 
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS herein. The Company does not report its finances by segment, as the Companys principal
business line is the design, manufacture, and sale of stereo headphones and
related accessories. The percentage of total revenues related to this central
business line over the past three fiscal years was: 2004
    
    2003
    
    2002Stereophones
    
    
    100
    %
    
    
    100
    %
    
    
    97
    %
 The Companys products are sold through audio specialty stores, the Internet,
direct mail catalogs, regional department store chains, discount department
stores, military exchanges, prisons, and national retailers under the Koss
name and dual label. The Company also sells products to distributors for
resale to school systems, and directly to other manufactures for inclusion with
their own products. The Company has more than 1,600 domestic dealers and its
products are carried in approximately 16,000 domestic retail outlets.
International markets are served by domestic sales representatives and a sales
office in Switzerland which utilizes independent distributors in several
foreign countries. In May of 2003, the Company purchased the assets of ADDAX Sound, a company that
specializes in the development of communications headsets. ADDAX is
principally a design and source operation utilizing contract manufacturers in
Asia. The assets of ADDAX included inventory, receivables, tooling, furniture
and fixtures as well as patents on designs for telecommunications products. ADDAX has been renamed Bi Audio and services the public safety market through
distributors. Bi Audio develops and sells headsets and microphones for
communication via two-way radio by police, fire, and security personnel. Bi
Audio also sells a line of telephone headsets for the small office and home
office as well as for the call center industry. These products are developed
on an original equipment manufacturer (OEM) basis and are sold to other
companies for distribution at retail or direct to consumers. Bi Audio also markets headsets to be used with cellular telephones and cordless
home telephones. These products are developed on an OEM basis for sale to
other companies who redistribute the products through retail channels or direct
to consumers. The Bi Audio category of products represents less than 5% of the Companys
total revenue and is further split into products for three categories Public
Safety, Call Center, and Cellular telephone. Ninety five percent of the Companys products are stereo headphones for
listening to music. The products are not significantly differentiated by
channel or application with the exception of products sold to school systems,
which sometimes include a microphone. Sales in this channel represent less
than 5 % of the Companys revenue. There are no other product line
differentiations other than the quality of the sound produced by the stereo
headphone itself, which is highly subjective. Therefore any remaining
classification of the business 3




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would be by distribution channel. Consumers purchase more than 95% of the Koss
stereophone range of product through some form of retail channel or reseller. The Company maintains a sales office in Switzerland. The Company sells its
products to independent distributors in countries outside the United States,
(see Foreign Sales section below) including Western and Eastern Europe,
Scandinavia, The Middle East, Africa, Asia, South America, Latin America, the
Caribbean, and Mexico. The Company sells products in the Canadian market
directly to retailers, and also through a distributor who services smaller
specialty accounts. During the last three fiscal years, foreign sales of all
Koss products, including the products of Bi Audio (since its acquisition), were
as follows: 2004
    
    2003
    
    2002Percentage of Revenue
Derived from the Export of
Koss Products
    
    
    15.7
    %
    
    
    12.5
    %
    
    
    11.1
    %
 Management believes that it has sources of raw materials that are adequate for
its needs. No employment or compensation agreement exists between the Company and its
dealers. The Company has two independent manufacturers representatives for
distribution. The Company typically signs one year contracts with these
manufacturers representatives. These agreements are seldom renewed in
writing. The Company recently entered into a manufacturers representative agreement
with a firm in Detroit to work exclusively in the automotive arena. The sales
from these agreements account for approximately 8% of the Companys total
revenue in 2004. The automotive representative is paid 5% for all business in
this area until 2005, 4% until 2006, 3% until 2007, and 2% thereafter. Any remaining agreements with distributors, past or present, pertain to
geographic countries without compensation attached. The Company has the right
to terminate these agreements with foreign distributors at will. INTELLECTUAL PROPERTY John Koss has been recognized for creating the stereophone industry with the
first SP3 stereophone in 1958. The Company regularly applies for registration
of its trademarks in many countries around the world in which it does business,
and over the years the Company has had numerous trademarks registered and
patents issued in countries in North America, South America, Asia, Europe,
Africa, and Australia. The Company currently has 233 trademarks registered in
75 countries around the world and patents in 25 countries. The Company has
trademarks to protect the brand name Koss and its logotype on its products.
These trademarks are maintained throughout the countries in which the Company
sells its products. The Company also holds many design patents that protect
the unique visual appearance of some of its products. These trademarks and
patents are important to differentiate the Company from its competitors.
Certain of the Companys trademarks are of material value and importance to the
conduct of its business. The Company considers protection of its proprietary
developments important; however, the Companys business is not, in the opinion
of management, materially dependent upon any single trademark or patent. See Part II, Item 7  MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS herein for information relating to the
Companys license agreements. SEASONALITY Although retail sales of consumer electronics have been historically higher
during the holiday season, stereophones have also seen increased interest as
gift items over the years. Management of the Company is of the opinion that
its business and industry segment are no longer seasonal as evidenced by the
fact that 45% of 4




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sales occurred in the first six months of the fiscal year ended June 30, 2004,
and 55% of sales occurred in the latter six months of that fiscal year.
Management believes that the reason for this level performance of sales to
retailers is related to the fact that stereo headphones have become replacement
items for portable electronic products. Therefore upgrades and replacements
appear to have as much interest over the course of the year as gifts of
stereophones. WORKING CAPITAL AND BACKLOG The Companys working capital needs do not differ substantially from those of
its competitors in the industry and generally reflect the need to carry
significant amounts of inventory to meet delivery requirements of its
customers. From time to time, although rarely, the Company may extend payment
terms to its dealers for a special promotion. For instance, the Company has in
the past offered a 90-120 day payment period for certain customers, such as
computer retailers and office supply stores. Based on historical trends,
management does not expect these practices to have any material effect on net
sales or net income. The Companys current backlog of orders is not material
in relation to annual net sales and was not material in relation to net sales
during fiscal 2004. CUSTOMERS The Company markets a line of products used by consumers to listen to music.
The Company distributes these products through retail channels in the U.S. and
independent distributors throughout the rest of the world. The Company markets
its products to approximately 2,000 customers worldwide. During 2004, the
Companys sales to its largest single customer, Wal-Mart Stores Inc., were
approximately 19% of total gross sales. The Company is dependent upon its
ability to retain an existing base of customers to sell the Companys line of
products. Loss of customers means loss of product placement. The Company has
broad distribution across many channels including specialty stores, mass
merchants, electronics stores, and computer retailers. Since distribution is
broadly based, any loss of a customer directly translates into a reduction in
sales volume which can only be replaced by replacing a similar number of
representative retail outlets. For example, the loss of a customer
representing 10% of the Companys business would translate into a reduction in
revenues of up to 10% based upon the point through the fiscal year that the
customer was lost. Attracting a new customer during the course of a fiscal
year could have a positive impact or simply replace an account which had
previously been lost. In addition, a customer can decide to make a change in
the models that it decides to offer for sale. Such changes can take place
arbitrarily throughout the course of a year which can cause reductions in sales
revenues in proportion to the number of retail outlets that the store
represents in the market. The Company may not be able to maintain customers or
model selections and therefore experience a reduction in its sales revenue
until a model is restored to the mix or a customer is replaced by a new
customer. A reduction in sales volume would cause a reduction in
profitability. Management believes that any loss of Wal-Marts revenues would be partially
offset by a corresponding decrease, on a percentage basis, in expenses, thereby
partially reducing the impact on the Companys operating income. The five
largest customers of the Company (including Wal-Mart) accounted for
approximately 43% of total sales in 2004. COMPETITION The Company has a single focus on the headphone industry. The recent
acquisition of ADDAX, now Bi Audio, continues to emphasize the Companys
interest in all categories of headsets, headphones, and stereophones. In the
stereophone market, the Company competes directly with approximately five major
competitors, several of which are large and diversified and have greater total
assets and resources than the Company. The Company provides a single product
focus to its customers that is unique in the marketplace. The extent to which
retailers view the Company as an innovative vendor of high quality headphone
products, and a provider of positive after sales customer service, is the
extent to which the Company will be considered competitive. The Company relies
upon its unique sound, quality workmanship, brand identification, engineering
skills, and customer service to maintain its competitive position. 5




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RESEARCH AND DEVELOPMENT The amount spent on engineering and research activities relating to the
development of new products or the improvement of existing products was
$125,000 during fiscal 2004 as compared with $134,000 during fiscal 2003 and
$114,000 during fiscal 2002. These activities were conducted by both Company
personnel and outside consultants. ENVIRONMENTAL MATTERS The Company believes that it has materially complied with all currently
existing federal, state and local statutes and regulations regarding
environmental standards and occupational safety and health matters to which it
is subject. During fiscal 2004, 2003 and 2002, the amounts incurred in
complying with federal, state and local statutes and regulations pertaining to
environmental standards and occupational safety and health laws and regulations
did not materially affect the Companys earnings or financial condition. EMPLOYEES As of June 30, 2004, the Company employed 111 people. The Company also
utilizes temporary personnel to meet seasonal production demands. FOREIGN SALES International markets are serviced through manufacturers representatives or
independent distributors with product produced in the United States. The
countries are too numerous to mention here but include countries in the
following regions: Western and Eastern Europe, Scandinavia, The Middle East,
Africa, Asia, South America, Latin America, the Caribbean, and Mexico. The
Company sells products in the Canadian market directly to retailers, and also
through a distributor who services smaller specialty accounts. In the opinion of management, the Companys competitive position and risks
relating to the conduct of its business in such markets are comparable to the
domestic market. The Company does note however, that the governments of
foreign nations may elect to erect barriers to trade on imports. The creation
of such barriers would reduce the Companys revenue and profit. In addition,
any fluctuations in currency exchange rates could affect the pricing of the
Companys products and cause customers to purchase lower-priced, less
profitable products. For further information, see Part II, Item 7 and Note 11
to the consolidated financial statements accompanying this Form 10-K. The Company operates a small sales office in Switzerland to service the
international export marketplace. The Company is aware of no material risks in
maintaining this operation. Loss of this office would result in a transfer of
sales and marketing responsibility. The Company uses contract manufacturing
facilities in the Peoples Republic of China, Taiwan, and South Korea. These
independent supplier entities are distant from the Company, which means that we
are at risk of business interruptions due to natural disaster, war, disease,
and government intervention through tariffs or trade restrictions. The Company
maintains finished goods inventory in its US facility to mitigate this risk.
The approximate level of finished goods inventory is stocked at an average of
90 days demand per item. Recovery of a single facility through a replacement
of supplier in the event of a disaster or suspension of supply could take 120
days. The Company believes that it could restore production of its top twelve
selling models (which represent 75% of the Companys sales revenue) within 1
year. The Company is also at risk if the trade restrictions are introduced on
its products based upon country of origin. In addition, any increase in
tariffs and freight charges would not be acceptable to pass along to the
Companys customers and would directly impact the Companys profits. 
 Item 2. PROPERTIES. The Company leases its main plant and offices in Milwaukee, Wisconsin from its
Chairman, John C. Koss. On May 28, 2003, the lease was renewed for a period of
five years, and is being accounted for as an operating lease. 6




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The lease extension maintained the rent at a fixed rate of $380,000 per year.
At anytime during this period the Company has the option to renew the lease for
an additional five years for the period commencing July 1, 2008 and ending June
30, 2013 under the same terms and conditions. The lease is on terms no less
favorable to the Company than those that could be obtained from an independent
party. The Company is responsible for all property maintenance, insurance,
taxes, and other normal expenses related to ownership. All facilities are in good repair and, in the opinion of management, are
suitable for the Companys business purposes. 
 Item 3. LEGAL PROCEEDINGS. From time to time the Company is involved in routine litigation; however,
neither the Company nor its subsidiaries are subject to any material legal
proceedings in managements opinion. 
 Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. No matters were submitted to a vote of stockholders during the fourth quarter
of the fiscal year ended June 30, 2004. 
 PART II 
 Item 5. MARKET FOR REGISTRANTS COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. MARKET INFORMATION ON COMMON STOCK The Companys common stock is traded on The Nasdaq Stock Market under the
trading symbol KOSS. There were approximately 804 record holders of the
Companys common stock as of August 2, 2004. This number does not include
individual participants in security position listings. The quarterly high and
low sale prices of the Companys common stock for the last two fiscal years as
well as dividends paid are shown below. Per ShareQuarter Ended
    
    High
    
    Low
    
    DividendSeptember 30, 2002
    
    $
    17.51
    
    
    $
    16.00
    
    
    $
    0.130December 31, 2002
    
    $
    18.99
    
    
    $
    15.36
    
    
    $
    0.130March 31, 2003
    
    $
    21.66
    
    
    $
    17.01
    
    
    $
    0.130June 30, 2003
    
    $
    20.25
    
    
    $
    14.81
    
    
    $
    0.130September 30, 2003
    
    $
    20.50
    
    
    $
    17.50
    
    
    $
    0.130December 31, 2003
    
    $
    20.70
    
    
    $
    16.25
    
    
    $
    0.130March 31, 2004
    
    $
    26.50
    
    
    $
    19.50
    
    
    $
    0.130June 30, 2004
    
    $
    26.00
    
    
    $
    20.38
    
    
    $
    0.130
 The Companys stockholders are entitled to receive dividends as may be declared
by the Board of Directors and paid out of funds legally available therefore.
The Company began paying dividends for the quarter ended September 30, 2001 and
has paid a dividend for each quarter since, including the last fiscal quarter
ending June 30, 2004. On June 30, 2004, the Company announced its quarterly
dividend of $0.13. Although the Company anticipates it will continue to pay a
quarterly dividend, the decision to pay dividends and the amount of such
dividends are within the sole discretion of the Board of Directors, who meet
quarterly. The decision to pay dividends will depend on the Companys
operating results, financial condition, tax considerations, alternative uses
for such funds, and other factors the Board of Directors deem relevant, and
there can be no assurance that dividends will be paid in the future. See Part III, Item 12 for information relating to the Companys equity
compensation plan information. 7




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COMPANY REPURCHASES OF EQUITY SECURITIES Total # of
    
    Average
    
    Total Number of Shares
    
    Approximate Dollar ValueShares
    
    Price Paid
    
    Purchased as Part of Publicly
    
    of Shares Available underPeriod (2004)
    
    Purchased
    
    per Share
    
    Announced Plan (1)
    
    Repurchase PlanApril 1-April 30
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    2,485,546May 1-May 31
    
    
    5,000
    
    
    $
    22.10
    
    
    
    5,000
    
    
    $
    2,375,046June 1-June 30
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    2,375,046
 (1) In April of 1995, the Board of Directors approved a stock repurchase
program authorizing the Company to purchase from time to time up to $2,000,000
of its common stock for its own account. Subsequently, the Board of Directors
periodically has approved increases in the stock repurchase program. The most
recently approved increase was for additional purchases of $1,000,000, which
occurred in July of 2003, for an aggregate maximum of $38,500,000. 
 Item 6. SELECTED FINANCIAL DATA. June 30, 2004
    
    June 30, 2003
    
    June 30, 2002Net sales
    
    $
    40,493,211
    
    
    $
    33,802,634
    
    
    $
    36,571,303Income before cumulative effect of
accounting change
    
    $
    5,448,147
    
    
    $
    4,169,411
    
    
    $
    4,587,259Net income
    
    $
    5,372,272
    
    
    $
    4,169,411
    
    
    $
    4,587,259Basic earnings per common share:Before cumulative effect of
accounting change
    
    $
    1.45
    
    
    $
    1.14
    
    
    $
    1.24Accounting change
    
    $
    (0.02
    )
    
    
    
    
    
    
    Basic earnings per common share
    
    $
    1.43
    
    
    $
    1.14
    
    
    $
    1.24Diluted earnings per common share:Before cumulative effect of
accounting change
    
    $
    1.39
    
    
    $
    1.08
    
    
    $
    1.17Accounting change
    
    $
    (0.02
    )
    
    
    
    
    
    
    Diluted earnings per common
share
    
    $
    1.37
    
    
    $
    1.08
    
    
    $
    1.17Total assets
    
    $
    25,679,556
    
    
    $
    23,786,818
    
    
    $
    20,645,153Contingently redeemable
common stock
    
    
    
    
    
    $
    1,490,000
    
    
    $
    1,490,000Cash dividends per
common share
    
    $
    0.52
    
    
    $
    0.52
    
    
    $
    0.49
 See Part II, Item 7 and Consolidated Financial Statements and Notes to the
Consolidated Financial Statements for more information relating to Selected
Financial Data. 8




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Item 7. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. FINANCIAL CONDITION AND LIQUIDITY During fiscal 2004, cash provided by operations was $4,501,688. Working
capital was $16,807,234 at June 30, 2004. The net increase in working capital
of $2,580,000 at June 30, 2003 represents primarily the net effect of an
increase in cash, receivables, income taxes and accrued liabilities and
decreases in accounts payable. The increase in the Companys accounts
receivable is attributable to higher sales experienced in the last quarter. Capital expenditures for new property and equipment (including production
tooling) were $1,344,169, $627,567, and $664,139, in fiscal 2004, 2003, and
2002, respectively. Depreciation charges totaled $590,414, $569,776, and
$576,892, for the same fiscal years. Budgeted capital expenditures for fiscal
2005 are $1,611,860. The Company expects to generate sufficient funds through
operations to fund these expenditures. Stockholders investment increased to $21,089,787 at June 30, 2004 from
$16,501,202 at June 30, 2003. The increase reflects net income of $5,372,272
and the effect of the change in accounting principle related to the adoption of
Statement of Accounting Standards (SFAS) No. 150, in connection with the
stock repurchase agreement with the Chairman of the Company (for more
information, see the Recently Issued Financial Accounting Pronouncements
section below). On June 30, 2004, the Company declared a quarterly cash
dividend of $0.13 per share, $490,070 payable on July 15, 2004 to stockholders
of record on June 30, 2004, which is recorded as dividends payable. The Companys credit facility matures on November 1, 2004. This unsecured
credit facility provides for borrowings up to a maximum of $10,000,000. The
Company can use this credit facility for working capital purposes or for the
purchase of its own common stock pursuant to the Companys stock repurchase
program. Borrowings under this credit facility bear interest at the banks
prime rate, or LIBOR plus 1.75%. This credit facility includes certain
financial covenants that require the Company to maintain a minimum tangible net

worth and specified current, interest coverage, and leverage ratios. The
maximum leverage of the Company, which consists of the ratio of its total
liabilities to its tangible net worth, must not exceed 1.50 to 1.0. The
tangible net worth of the Company must not fall below $12.5 million at any
time. The fixed charge ratio of the Company, which consists of the ratio of
its earnings before interest, income taxes, depreciation, amortization, and
other non-cash charges to its total interest expense, must not be less than
2.10 to 1.0. The current ratio of the Company, which is the ratio of its
current assets to its current liabilities, must exceed 2.50 to 1.0. The
Company has been and is well within these requirements. However, if the
Company at some point in the future fails to meet the financial covenants, the
lender may accelerate the debt and allow creditors to foreclose on the assets.
The Company uses its credit facility from time to time, although there was no
utilization of this credit facility at June 30, 2004 or June 30, 2003. In April of 1995, the Board of Directors approved a stock repurchase program
authorizing the Company to purchase from time to time up to $2,000,000 of its
common stock for its own account. Subsequently, the Board of Directors
periodically has approved increases in the stock repurchase program. The most
recently approved increase was for additional purchases of $1,000,000, which
occurred in July of 2003, for an aggregate maximum of $38,500,000. The Company
intends to effect all stock purchases either on the open market or through
privately negotiated transactions, and intends to finance all stock purchases
through its own cash flow or by borrowing for such purchases. The Company will
continue to repurchase its shares from the market when the board determines the
shares to be undervalued. The Company may elect to use the purchase of these
shares to minimize the dilutive effects to its stockholders when the Companys
stock is used in acquisitions as consideration. The Company has no immediate
plans to make another acquisition at this time. For fiscal 2004, the Company purchased 50,654 shares of its common stock at an
average net price of $19.82 per share, for a total purchase price of
$1,004,068. As of the date hereof, the Companys Board of Directors has
authorized the repurchase by the Company of up to $2,077,450 in Company common
stock at the discretion of the Chief Executive Officer of the Company. 9




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From the commencement of the Companys stock repurchase program through June
30, 2004, the Company has purchased a total of 4,974,834 shares for a total
gross purchase price of $40,781,860 (representing an average gross purchase
price of $8.20 per share) and a total net purchase price of $36,422,550
(representing an average net purchase price of $7.32 per share). The
difference between the total gross purchase price and the total net purchase
price is the result of the Company purchasing from certain employees shares of
the Companys stock acquired by such employees pursuant to the Companys stock
option program. In determining the dollar amount available for additional
purchases under the stock repurchase program, the Company uses the total net
purchase price paid by the Company for all stock purchases, as authorized by
the Board of Directors. RISK FACTORS REDUCTION IN PRESENT LEVELS OF CASH FLOW COULD ADVERSELY AFFECT THE COMPANYS
BUSINESS The Companys primary source of liquidity over the past twelve months has been
operating cash flows. The Companys future cash flows from operations (on both
a short term and long term basis) are dependent upon, but not limited to:  
    
    the Companys ability to attract new customers that will
sell the Companys products and pay for them,  
    
    the Companys ability to retain the Companys existing
customers at the level of sales previously produced,  
    
    the volume of sales for these customers,  
    
    the loss of business of one or more primary customers,  
    
    changes in types of products that the customers purchase in their sales mix,  
    
    the volume of royalty income paid to the Company by its
licensees based upon the terms of each royalty agreement,
including the inability to negotiate favorable royalty
arrangements and renew current arrangements with certain existing
favorable terms,  
    
    poor or deteriorating economic conditions which would
directly impact the ability of the Companys customers to remain
in business and pay for their products on a timely basis,  
    
    managements ability to hold the line on any requests for
increases in material or labor cost increases, and  
    
    the ability to collect in full and in a timely manner,
amounts due to the Company. In addition, as noted above, the Companys cash flow is also dependent, to
some extent, upon the ability to maintain operating margins. If there were
a general downturn in economic conditions or other events that caused the
Companys customers to turn to lower-priced, lower-margin products, the
Companys cash flow and profitability could be materially and adversely
affected. FAILURE TO ATTRACT AND RETAIN CUSTOMERS TO SELL THE COMPANYS PRODUCTS COULD
ADVERSELY AFFECT SALES VOLUME AND FUTURE PROFITABILITY The Company markets a line of products used by consumers to listen to music.
The Company distributes these products through retail channels in the U.S. and
independent distributors throughout the rest of the world. The Company is
dependent upon the Companys ability to retain an existing base of customers to
sell the Companys line of products. Loss of customers means loss of product
placement. The Company has broad distribution 10




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across many channels including specialty stores, mass merchants, electronics
stores and computer retailers. Since distribution is broadly based, any loss
of a customer directly translates into a reduction in sales volume which can
only be replaced by replacing a similar number of representative retail
outlets. The inability of the Companys sales and marketing staff to obtain
new distribution outlets translates into a lack of future growth and possibly a
setback in sales volumes when loss of current customers occurs. For example,
the loss of a customer representing 10% of the Companys business would
translate into a reduction in revenues of up to 10% based upon the point
through the fiscal year that the customer was lost. Attracting a new customer
during the course of a fiscal year could have a positive impact or simply
replace an account which has been lost. In addition, a customer can decide to
make a change in the models that it decides to offer for sale. Such changes
can take place arbitrarily throughout the course of a year which can cause
reductions in sales revenues in proportion to the number of retail outlets that
the store represents in the market. The Company may not be able to maintain
customers or model selections and therefore experience a reduction in its sales
revenue until a model is restored to the mix or a customer is replaced by a new
customer. A reduction in sales volume would cause a reduction in
profitability. The Companys failure to retain existing customers, obtain new
customers or develop new product lines that customers would choose to offer to
consumers could significantly affect the Companys future profitability. The
loss of business of one or more principal customers or a change in the sales
volume from a particular customer could have a material adverse effect on the
Companys sales volume and profitability. SHIFT IN CUSTOMER SPECIFICATIONS TO LOWER PRICED ITEMS CAN REDUCE PROFIT
MARGINS NEGATIVELY IMPACTING PROFITABILITY The Company sells a line of products with a suggested retail price ranging from
less than US $10 to US $1,000. The gross margin for each of these models is
unique in terms of percentages. The price range of the products also produces
a different level of actual dollar contribution per unit. For example a
product with a gross margin contribution of 50% might yield a $5.00
contribution for one item, while another item may feature a 30% gross margin
which could yield $50.00 dollars. The Company finds the low priced portion of
the market most competitive and therefore most subject to pressure on gross
margin percentages, which tends to lower profit contributions. Retail
preference for lower priced items can reduce profit margins and contributions.
The risk is that a shift in retail customer specifications toward lower priced
items can lead to lower gross margins and lower profit contributions per unit
of sale. Due to the range of products that the Company sells, the product
sales mix can produce a variation in terms of a range of profit margins. Some
customers sell a limited range of products that yield lower profit margins than
others. Most notably, the budget priced headphone segment of the market below
$10.00 retail which is distributed through computer stores, office supply
stores, and mass market retailers tend to yield the lowest gross margins. An
increase in business with these types of accounts, when coupled with a
simultaneous reduction in sales to customers with higher gross margins will
reduce profit margins and profitability. POOR ECONOMIC CONDITIONS CAN RESTRICT OR LIMIT PRODUCT PLACEMENT, SALES AND
REPLENISHMENT WHICH COULD DECREASE PROFITS Deteriorating or weak economic conditions, or a forecast for the same, can
trigger changes in inventory stocking at retail. This may in turn lead to a
reduction in model offerings and to out of stock situations. If a retail
customer of the Company does not have adequate stocks of the Companys products
to offer for sale in a retail store, consumers may choose another competitive
model instead. Customers operating retail stores anticipate future sales
demands and inventory products accordingly. Whenever a general economic
slowdown occurs, at both the domestic or foreign level, sales volume levels and
re-orders change. These changes directly impact the Companys sales and
profitability. The Company is not in a position to determine how it will be
affected by these circumstances, how extensive the effects may be, or for how
long the Company may be impacted by these circumstances. The Companys
customers respond to changes in economic conditions and any anticipated changes
in economic conditions can therefore restrict product placement, availability,
sales, replenishment and ultimately profitability. These conditions exist
domestically and internationally. 11




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MANAGEMENT IS SUBJECT TO DECISIONS MADE OUTSIDE ITS CONTROL WHICH COULD
DIRECTLY AFFECT FUTURE PROFITABILITY Retail customers determine which products they will stock for resale. The
Company competes with other manufacturers to secure shelf space in retail
stores for the Companys products. During the course of a year changes in the
customers management personnel can ultimately lead to changes in the stock
assortment offered to consumers. These changes are often arbitrary. The sales
and marketing team cannot always overcome such decisions. In addition to
changes in personnel within the Companys customers, it is also possible that a
strategic decision can be made by a retail customer to consolidate vendors, or
to discontinue certain product categories all together. In these instances the
Companys management team may not able to overcome such decisions. The
Companys management team is also engaged in the effective procurement,
assembly, and manufacture of products. The ability to negotiate with
suppliers, maintain productivity, and hold the line on cost increases can be
subjected to pressures outside the control of management. For example,
increases in fuel costs can increase rates of freight. Increases of this
nature can seldom be avoided and the Company may not be able to pass such
increases along to its customers. The Companys managements effective control
of the manufacturing processes will have a direct impact on the Companys
future profitability. The Company regularly makes decisions that affect
production schedules, shipping schedules, employee level, and inventory levels.
The Companys ability to make effective decisions in managing these areas has
a direct effect on future profitability. ACCOUNTS RECEIVABLE AMOUNTS DUE FROM OUR CUSTOMERS CAN BE LOST AS A RESULT OF
CUSTOMER BANKRUPTCY, OPERATIONAL DIFFICULTY, OR FAILURE TO PAY NEGATIVELY
IMPACTING FUTURE PROFITABILITY The Company has significant accounts receivable or other amounts due from the
Companys customers or other parties. The accounts receivable balance at the
end of the last 4 quarters averaged approximately US $9 million. Terms of
payment for customers generally range from cash in advance to net 90 day credit
terms. These credit arrangements are negotiated at unspecified and irregular
intervals. The largest customers generate the largest receivable balances. If
a customer develops operational difficulty it is not uncommon to temporarily
suspend payment to vendors. The Company is not immune from such practice in
the retail marketplace. From time to time a customer may develop severe
operating losses which can lead to a bankruptcy. In these cases, the Company
may lose most of the outstanding balance due. Occasionally the Company has
been current with a customer at the time such an event occurs. The risk is
that losing the revenue of the customer in the future after a restructuring,
might be more onerous than losing the current outstanding accounts receivable.
In addition, many companies that will insure accounts receivables will not do
so for the Companys largest mass market customers. The best example of such a
loss was KMART Corporation. The Company lost approximately $500,000 (of which
$312,000 has been repaid during 2004) when KMART filed for re-organization.
KMART had been current with the Company at the time that KMART filed Chapter 11
bankruptcy. The Company continued to supply KMART during its post petition
re-organization and continues to supply the customer profitably today. The
risk is that the Company derives most of the Companys sales revenue and
profits from selling products to retailers for resale to consumers. The
failure of the Companys customers to pay in full amounts due to the Company
could negatively affect future profitability. COMPANY PROFITS CAN SUFFER FROM INTERRUPTIONS IN SUPPLY CHAIN The Company operates a small sales office in Switzerland to service the
International Export marketplace. The Company is aware of no material risks in
maintaining this operation. Loss of this office would result in a transfer of
sales and marketing responsibility. The Company uses contract manufacturing
facilities in Mainland China, Taiwan, and South Korea. These independent
supplier entities are distant from the Company which means that the Company is
at risk of business interruptions due to natural disaster, war, disease, and
government intervention through tariffs or trade restrictions. The Company
maintains a finished goods inventory level in the Companys US facility to
mitigate this risk. The approximate level of finished goods inventory is
stocked at an average of 90 days demand per item. Recovery of a single
facility through a replacement of supplier in the event of disaster or
suspension of supply could take approximately 120 days. The Company believes
that it 12




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could
restore production of its top twelve selling models (which represent
75% of
the Companys sales revenue) within 1 year. The Company is also at risk if
trade restrictions are introduced on the Companys products based upon country
of origin. In addition, any increase in tariffs and freight charges would not
be acceptable to pass along to the Companys customers and would directly
impact the Companys profits. FLUCTUATIONS IN CURRENCY EXCHANGE RATES COULD AFFECT PRICING OF PRODUCTS AND
CAUSE CUSTOMERS TO PURCHASE LOWER-PRICED, LESS PROFITABLE PRODUCTS The Company receives a material portion of its revenue and profits from
business in Canada and the European Union. To the extent that value of the
U.S. dollar increases relative to currencies in those jurisdictions, it
increases the cost of the Companys products in those jurisdictions, which
could create negative pressure on the demand for the Companys products. To
the extent that increased prices arising from currency fluctuations decreases
the Companys sales or moves customers to purchase lower-priced, lower profit
products, the Companys revenues, profits, and cash flows could be adversely
affected. 2004 RESULTS OF OPERATIONS COMPARED WITH 2003 Net sales for 2004 were $40,493,211 compared with $33,802,634 in 2003, an
increase of $6,690,577 or 20%. This was due to the Company experiencing growth
in segments of its domestic retail sales and Europe where shipments were up 72%
for the fiscal year. Gross profit, as a percentage of net sales, was $15,961,953 or 40% in 2004
compared with $13,848,039 or 41% in 2003. The slight decrease is due to shifts
in the Companys model mix. Selling, general, and administrative expenses for 2004 were $8,089,765 compared
with $7,737,030 in 2003, an increase of $352,735 or 5%. The increase was a
result of the Company experiencing higher selling expenses associated with
higher sales for the fiscal year. Income from operations was $7,872,188 in 2004 compared with $6,111,009 in 2003,
an increase of 28%. Interest income was $22,311 in 2004 compared with $12,711
in 2003, an increase of 76%. Interest income fluctuates in relation to cash
balances on hand throughout the year and fluctuations in interest rates earned.
Interest expense for 2004 was $960 compared with $14,572 in 2003. The
decrease in interest expense is due to the Companys lack of borrowing activity
under its unsecured line of credit during the fiscal year. On May 1, 2003, the Company acquired certain assets of ADDAX Sound Company
(ADDAX) in exchange for 19,875 shares of common stock of the Company (value
on May 1, 2003 of $317,603 based upon a market price of $15.98) plus $100 in
cash and assumed certain liabilities of ADDAX. Royalty income was $1,071,638 in 2004 compared with $755,364 in 2003, an
increase of 42%. The increase in royalty income was primarily a result of
increases in sales by licensees under certain royalty agreements. The
following three paragraphs describe generally the Companys significant royalty
agreements. The Company has a License Agreement with Jiangsu Electronics Industries Limited
(Jiangsu), a subsidiary of Orient Power Holdings Limited, by way of an
assignment of a previously existing License Agreement with Trabelco N.V.
Orient Power is based in Hong Kong and has an extensive portfolio of audio and
video products. This License Agreement covers the United States, Canada, and
Mexico, and has been renewed through December 31, 2004. Pursuant to this
License Agreement, Jiangsu has agreed to meet certain minimum royalty amounts
each year. The products covered by this License Agreement include various
consumer electronics products. Effective July 1, 1998, the Company entered into a License Agreement and an
Addendum thereto with Logitech Electronics Inc. (Logitech) of Ontario, Canada
whereby the Company licensed to Logitech the right to sell multimedia/computer
speakers under the Koss brand name. This License Agreement covers North
America and 13




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certain countries in South America and Europe, requiring royalty payments by
Logitech through June 30, 2008, subject to certain minimum annual royalty
amounts. Effective June 30, 2003, the Company entered into a License Agreement with
Sonigem Products, Inc. (Sonigem) of Ontario, Canada whereby the Company
licensed to Sonigem the right to sell video and communications products under
the Koss brand name. This License Agreement covers Canada, requiring royalty
payments by Sonigem through June 30, 2010, subject to certain minimum annual
royalty amounts. The provision for income taxes was $3,517,030 and $2,695,101 in 2004 and 2003,
respectively. The effective tax rate was 39% in 2004 and 39% in 2003 2003 RESULTS OF OPERATIONS COMPARED WITH 2002 Net sales for 2003 were $33,802,634 compared with $36,571,303 in 2002, a
decrease of $2,768,669 or 7.6%. This decline was due to soft retail business
through the first and second quarter offset by stronger retail sales in the
third quarter. The Company has no direct information relating to consumer
demand that would indicate a reason for any reductions in sales. However,
general concerns were expressed by several major retailers during this period
and as a result models were consolidated, eliminated from the sales mix, or
reduced in terms of reorder size. Gross profit, as a percentage of net sales, was $13,848,039 or 41% in 2003
compared with $14,574,484 or 40% in 2002. The increase in gross profit was due
to cost reductions in 2003. The cost reductions were attributable to a
reduction of overhead and inventory costs. Selling, general and administrative expenses for 2003 were $7,737,030 compared
with $8,011,829 in 2002, a decrease of $274,799 or 3%. The decrease was a
result of the Company experiencing lower selling expenses associated with lower
sales for the fiscal year. Income from operations was $6,111,009 in 2003 compared with $6,562,655 in 2002,
a decrease of 7%. Interest income was $12,711 in 2003 compared with $30,445 in
2002, a decrease of 58%. Interest income fluctuates in relation to cash
balances on hand throughout the year and fluctuations in interest rates earned.
Interest expense for 2003 was $14,572 compared with $100,454 in 2002. The
decrease in interest expense is due to the Companys lack of borrowing activity
under its unsecured line of credit during the fiscal year. On May 1, 2003, the Company acquired certain assets of ADDAX Sound Company
(ADDAX) in exchange for 19,875 shares of common stock of the Company (value
on May 1, 2003 of $317,603 based upon a market price of $15.98) plus $100 in
cash and assumed certain liabilities of ADDAX. Royalty income was $755,364 in 2003 compared with $964,297 in 2002, a decrease
of 22%. The decrease in royalty income was primarily a result of a reduction
of sales by licensees under certain royalty agreements. The following three
paragraphs describe generally the Companys significant royalty agreements. The Company has a License Agreement with Jiangsu Electronics Industries Limited
(Jiangsu), a subsidiary of Orient Power Holdings Limited, by way of an
assignment of a previously existing License Agreement with Trabelco N.V.
Orient Power is based in Hong Kong and has an extensive portfolio of audio and
video products. This License Agreement covers the United States, Canada, and
Mexico, and has been renewed through December 31, 2004. Pursuant to this
License Agreement, Jiangsu has agreed to meet certain minimum royalty amounts
each year. The products covered by this License Agreement include various
consumer electronics products. Effective July 1, 1998, the Company entered into a License Agreement and an
Addendum thereto with Logitech Electronics Inc. (Logitech) of Ontario, Canada
whereby the Company licensed to Logitech the right to sell multimedia/computer
speakers under the Koss brand name. This License Agreement covers North
America and 14




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certain countries in South America and Europe, requiring royalty payments by
Logitech through June 30, 2008, subject to certain minimum annual royalty
amounts. Effective June 30, 2003, the Company entered into a License Agreement with
Sonigem Products, Inc. (Sonigem) of Ontario, Canada whereby the Company
licensed to Sonigem the right to sell video and communications products under
the Koss brand name. This License Agreement covers Canada, requiring royalty
payments by Sonigem through June 30, 2010, subject to certain minimum annual
royalty amounts. The provision for income taxes was $2,695,101 and $2,869,684 in 2003 and 2002,
respectively. The effective tax rate was 39% in 2003 and 38% in 2002. OFF-BALANCE SHEET FINANCING The Company has no off-balance sheet financing arrangements. DISCLOSURE ABOUT CONTRACTUAL OBLIGATIONS The Company has the following long term lease obligations as of June 30, 2004: Obligations Due by Period (in thousands)Contractual Obligations
    
    Total
    
    Less than 1 year
    
    1-3 years
    
    3-5 years
    
    More than 5 yearsOperating Lease
    
    $
    1,566
    
    
    $
    407
    
    
    $
    1,178
    
    
    $
    1,520
    
    
    
    Obligations
 DISCLOSURE ABOUT CERTAIN TRADING ACTIVITIES THAT INCLUDE NON-EXCHANGE TRADED
CONTRACTS ACCOUNTED FOR AT FAIR VALUE The Company does not have any trading activities that include non-exchange
traded contracts accounted for at fair value. DISCLOSURE ABOUT EFFECTS OF TRANSACTIONS WITH RELATED AND CERTAIN OTHER PARTIES The Company has an agreement with its Chairman, John C. Koss, to, at the
request of the executor of the estate, repurchase Company common stock from his
estate in the event of his death. The repurchase price is 95% of the fair
market value of the common stock on the date that notice to repurchase is
provided to the Company. The total number of shares to be repurchased will be
sufficient to provide proceeds which are the lesser of $2,500,000 or the amount
of estate taxes and administrative expenses incurred by the Chairmans estate.
The Company may elect to pay the purchase price in cash or may elect to pay
cash equal to 25% of the total amount due and to execute a promissory note for
the balance, payable over four years, at the prime rate of interest. The
Company maintains a $1,150,000 life insurance policy to fund a substantial
portion of this obligation. In 1991, the Board of Directors agreed to continue the Chairmans current base
salary in the event he becomes disabled prior to age 70. After age 70, he
shall receive his current base salary for the remainder of his life, whether he
becomes disabled or not. The Chairman has turned 70. The Company has a
deferred compensation liability of $520,000 recorded as of June 30, 2004, and
$631,855 as of June 30, 2003 for this arrangement. The Company leases its main plant and offices in Milwaukee, Wisconsin from its
Chairman. On May 28, 2003, the lease was renewed for a period of five years,
and is being accounted for as an operating lease. The lease extension
maintained the rent at a fixed rate of $380,000 per year. At anytime during
this period the Company has the option to renew the lease for an additional
five years for the period commencing July 1, 2008 and ending June 30, 2013
under the same terms and conditions. The lease is on terms no less favorable
to the Company 15




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than those that could be obtained from an independent party. The Company is
responsible for all property maintenance, insurance, taxes, and other normal
expenses related to ownership. All facilities are in good repair and, in the opinion of management, are
suitable for the Companys purposes. DISCLOSURE ABOUT CRITICAL ACCOUNTING POLICIES The Companys more critical accounting policies include revenue recognition,
royalty income, and the use of estimates (which inherently involve judgment and
uncertainties) in valuing inventory and accounts receivable. Revenue Recognition The Company recognizes revenue when all of the following criteria are met:
persuasive evidence of an arrangement exists; delivery has occurred (either FOB
shipping point or delivery taken at the Companys dock); the sellers price to
the buyer is fixed and determinable (pricing is finalized through the purchase
order); and collectibility is reasonably assured. These criteria are generally
satisfied and the Company recognizes revenue upon shipment. The Company also
offers certain of its customers the right to return products that do not meet
the standards agreed with the customer. The Company continuously monitors such
product returns and while such returns have historically been minimal, the
Company cannot guarantee that they will continue to experience the same return
rates that they have in the past. Any significant increase in product quality
failure rates and the resulting credit returns could have a material adverse
impact on the Companys operating results for the period or periods in which
such returns materialize. The Company provides for certain sales incentives, which include sales rebates.
The Company records a provision for estimated incentives based upon the
incentives offered to customers on product related sales in the same period as
the related revenues are recorded. The Company also records a provision for
estimated sales returns and allowances on product related sales in the same
period as the related revenues are recorded. These estimates are based on
historical sales returns, analysis of credit memo data and other known factors.
If the historical data the Company uses to calculate these estimates does not
properly reflect future returns, adjustments may be required in future periods. Products sold are covered by a lifetime warranty. The Company accrues a
warranty reserve for estimated costs to provide warranty services. The
Companys estimate of costs to service its warranty obligations is based on
historical experience and expectation of future conditions. To the extent the
Company experiences increased warranty claim activity or increased costs
associated with servicing those claims, its warranty accrual will increase
accordingly and result in decreased gross profit. Royalty Income The Companys net income is significantly affected by the levels of royalty
income generated in any given period. Royalty income is recognized when earned
under the terms of the Companys license agreements. These agreements require
minimum annual royalty payments. The Company currently has three royalty
agreements, which expire in 2004, 2008, and 2010, respectively. The inability
of the Company to negotiate favorable royalty arrangements and renew current
agreements could have a material adverse impact on the Companys results for
the period. Based upon the favorable relationships the Company has with the
parties under these license agreements, termination, non-renewal or a
renegotiation toward more unfavorable terms under the current agreements is not
considered likely. Accounts Receivable The Company performs ongoing credit evaluations of its customers and adjusts
credit limits based upon payment history and the customers current credit
worthiness, as determined by the review of the customers current credit
information. The Company continuously monitors collections and payments from
customers and maintains a provision for estimated credit losses based upon the
Companys historical experience and any 16




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specific customer collection issues that have been identified. The Company
values accounts receivable net of an allowance for uncollectible accounts. The
allowance is calculated based upon the Companys evaluation of specific
customer accounts where the Company has information that the customer may have
an inability to meet its financial obligations (bankruptcy, etc.). In these
cases, the Company uses its judgment, based on the best available facts and
circumstances, and records a specific reserve for that customer against amounts
due to reduce the receivable to the amount that is expected to be collected.
These specific reserves are re-evaluated and adjusted as additional information
is received that impacts the amount reserved. However, the ultimate
collectibility of a receivable is dependent upon the financial condition of an
individual customer, which could change rapidly and without advance warning. Inventories The Company values its inventories at the lower of cost or market. Cost is
determined using the last-in, first-out method. Valuing inventories at the
lower of cost or market requires the use of estimates and judgment. Our
customers may cancel their orders or change purchase volumes. Any of these, or
certain additional actions, could create excess inventory levels, which would
impact the valuation of our inventories. The Company continues to use the same
techniques to value inventory as have been used in the past. Any actions taken
by our customers that could impact the value of our inventory are considered
when determining the lower of cost or market valuations. The Company regularly
reviews inventory quantities on hand and records a provision for excess and
obsolete inventory based primarily on our estimated forecast of product demand
and production requirements for the next twelve months. If the Company is not
able to achieve its expectations of the net realizable value of the inventory
at its current value, the Company would have to adjust its reserves
accordingly. RECENTLY ISSUED FINANCIAL ACCOUNTING PRONOUNCEMENTS During April 2003, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 149, Amendment of Statement 133
on Derivative Instruments and Hedging Activities, which amends and clarifies
financial accounting and reporting for certain derivative instruments. The
Company does not anticipate the adoption of this statement to have a material
impact on the Companys consolidated financial statements, as the Company is
not currently a party to derivative financial instruments included in this
standard. During May 2003, the FASB issued SFAS No. 150, Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity,
which establishes standards for the classification and measurement of certain
financial instruments with characteristics of both liabilities and equity. The
Company adopted SFAS No. 150 effective July 1, 2003. Upon adoption, the
Company recorded a derivative liability for the fair value of a written put
option of $125,000 on the balance sheet and a cumulative effect of change in
accounting principle of $75,875 (net of the tax effect equal to $49,125) on the
income statement. In addition, the contingently redeemable equity interest of
$1,490,000, as of July 1, 2003, was reclassified into equity. 
 Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. In managements opinion, the Company does not engage in any material market
risk sensitive activities and does not have any market risk sensitive
instruments, other than the Companys commercial credit facility used for
working capital purposes and stock repurchases. 
 Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. MANAGEMENTS REPORT The consolidated financial statements and related financial information
included in this report are the responsibility of management as to preparation,
presentation and reliability. Management believes that the financial
statements have been prepared in conformity with accounting principles
generally accepted in the 17




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United States of America appropriate under the circumstances and necessarily
include amounts that are based on best estimates and judgments. The Company maintains a system of internal accounting controls to provide
reasonable assurance that assets are safeguarded and that the books and records
reflect the authorized transactions of the Company. Oversight of managements financial reporting and internal accounting control
responsibilities is exercised by the Board of Directors, through an Audit
Committee that is comprised solely of non-employee directors. The Audit
Committee is also responsible for the selection and appointment of the
independent auditors and reviews the scope of their audit and their findings.
The independent auditors have direct access to the Audit Committee, without the
presence of management representatives, to discuss the scope and the results of
their audit work. The independent auditors provide an objective assessment of the degree to which
management meets its responsibility for fairness of financial reporting. They
evaluate the system of internal accounting controls in connection with their
audit and perform such tests and procedures, as they deem necessary to reach
and express an opinion on the fairness of the financial statements. Consolidated financial statements of the Company at June 30, 2004 and 2003 and
for each of the three quarters in the period ended June 30, 2004 and the notes
thereto, and the reports of independent auditors thereon are set forth on pages
24 to 37. Selected unaudited quarterly financial data is as follows: Quarter2004
    
    First
    
    Second
    
    Third
    
    FourthNet sales
    
    $
    9,164,691
    
    
    $
    9,839,572
    
    
    $
    10,547,180
    
    
    $
    10,941,768Gross profit
    
    
    3,497,645
    
    
    
    3,742,000
    
    
    
    4,247,511
    
    
    
    4,474,797Income before cumulative effect of accounting change
    
    
    1,020,504
    
    
    
    1,295,476
    
    
    
    1,157,816
    
    
    
    1,974,351Net income
    
    
    944,629
    
    
    
    1,295,476
    
    
    
    1,157,816
    
    
    
    1,974,351Basic earnings per common share:Before cumulative effect of accounting change
    
    $
    0.27
    
    
    $
    0.34
    
    
    $
    0.31
    
    
    $
    0.52Accounting change
    
    
    (0.02
    )
    
    
    
    
    
    
    
    
    
    
    Basic earnings per common share (1)
    
    
    0.25
    
    
    
    0.34
    
    
    
    0.31
    
    
    
    0.52Diluted earnings per common share:Before cumulative effect of accounting change
    
    $
    0.26
    
    
    $
    0.33
    
    
    $
    0.29
    
    
    $
    0.50Accounting change
    
    
    (0.02
    )
    
    
    
    
    
    
    
    
    
    
    Diluted earnings per common share (1)
    
    
    0.24
    
    
    
    0.33
    
    
    
    0.29
    
    
    
    0.50
 Quarter2003
    
    First
    
    Second
    
    Third
    
    FourthNet sales
    
    $
    8,954,978
    
    
    $
    7,818,848
    
    
    $
    8,264,668
    
    
    $
    8,764,140Gross profit
    
    
    3,530,757
    
    
    
    3,190,860
    
    
    
    3,514,806
    
    
    
    3,611,616Net income
    
    
    1,100,778
    
    
    
    1,046,137
    
    
    
    699,188
    
    
    
    1,323,308Earnings per common
share:Basic (1)
    
    $
    0.30
    
    
    $
    0.29
    
    
    $
    0.19
    
    
    $
    0.35Diluted (1)
    
    
    0.29
    
    
    
    0.27
    
    
    
    0.18
    
    
    
    0.34
  (1)
    
    Due to the use of weighted-average shares outstanding each quarter for
computing earnings per share, the sum of the quarterly per share amounts
may not equal the per share amount for the year. 18




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##### Table of Contents



Item 9. CHANGES IN AND DISAGREEMENTS WITH AUDITORS ON ACCOUNTING AND FINANCIAL DISCLOSURE. On March 15, 2004, the Company dismissed PricewaterhouseCoopers LLP
(PWC) as its independent public accountants and appointed Grant Thornton LLP
as its new independent public accountants. The decision to dismiss PWC and to
retain Grant Thornton LLP was made by the Companys Audit Committee. The
decision to dismiss PWC did not involve a dispute with the Company over
accounting policies or practices. During the Companys two most recent fiscal years and through March 15,
2004, there were no disagreements with PWC on any matter of accounting
principles or practices, financial statement disclosure, or auditing scope or
procedure, which disagreements if not resolved to PWCs satisfaction, would
have caused PWC to make reference to the subject matter of the disagreement in
connection with its reports on the financial statements for such years, and
there were no reportable events as defined in Item 304(a)(1)(v) of Regulation
S-K. 
 Item 9A. Controls and Procedures.  (a)
    
    Evaluation of Disclosure Controls and Procedures. The Company maintains
a system of disclosure controls and procedures that are designed to
provide reasonable assurance that information, which is required to be
timely disclosed, is accumulated and communicated to management in a
timely fashion. A control system, no matter how well conceived and
operated, can provide only reasonable, not absolute, assurance that the
objectives of the control system are met. The Company, under the
supervision and with the participation of the Companys management,
including the Companys Chief Executive Officer/Chief Financial Officer,
after evaluating the effectiveness of the Companys disclosure controls
and procedures (as defined in Rule 13a-15(e) of the Securities Exchange
Act of 1934, as amended (the Exchange Act)) as of the end of the period
covered by this report, have concluded that the Companys disclosure
controls and procedures are effective to provide reasonable assurance that
information required to be disclosed by the Company in the reports that it
files or submits under the Exchange Act is accumulated and communicated to
the Companys management, including its principal executive officer and
principal financial officer, as appropriate to allow timely decisions
regarding required disclosure and are effective to provide reasonable
assurance that such information is recorded, processed, summarized, and
reported within the time periods specified in the SECs rules and forms.During the first week of February of 2004, the Company was made aware
by our former independent accountants that the Company erroneously failed
to accurately record some repurchases of common stock from our employees.
We disclosed this error in Amendment No. 1 on Form 10-Q/A, filed on
February 17, 2004. Neither the management of the Company nor our former
accountants were aware of this error prior to the first week of February
of 2004. The Company has subsequently implemented a policy that prohibits
the Company from repurchasing any common stock of the Company that has not
been held by the employee for a period of at least 6 months in order to
avoid repetition of this error. Additionally, our management will
subscribe to technical publications in order to keep current on applicable
accounting issues and our new independent auditors will brief us on new
accounting pronouncements and releases. Our financial reporting process
with respect to preparation and review of regulatory filings will be
enhanced to include the utilization of a checklist by the preparer and
reviewer to ensure that new accounting pronouncements and regulatory
requirements are incorporated in our filings.Management also became aware that a provision in the Companys stock
repurchase agreement with its Chairman required adjustments to the
Companys financial statements upon a change of accounting principles
mandated subsequent to the date of the agreement. Our management has now
subscribed to additional publications in order to keep current on
applicable accounting issues and our new independent auditors will brief
us on new accounting pronouncements and releases to attempt to avoid any
similar errors in the future. Our financial reporting process with
respect to preparation and review 19




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##### Table of Contents



of regulatory filings have also been enhanced to include the
utilization of a checklist by the preparer and reviewer to ensure that new
accounting pronouncements and regulatory requirements are incorporated in
the filing.Management is of the view that the errors in the recording of the
repurchases of common stock from our employees and the recording of the
cumulative effect of the change in accounting principle do not constitute
a material weakness in the Companys internal control over financial
reporting identified by management. A material weakness is defined, in
the relevant accounting literature, as a reportable condition in which
the design or operation of one or more of the internal control components
does not reduce to a relatively low level the risk that misstatements
caused by errors or fraud in amounts that would be material in relation to
the financial statements being audited may occur and not be detected
within a timely period by employees in the normal course of performing
their assigned functions. Although these errors could constitute a
significant deficiency, management has considered the significance of
the errors in light of the financial statements taken as whole and
believes that the errors do not evidence or constitute a material
weakness in the Companys disclosure controls and procedures.Therefore, based on an overall evaluation of the Companys disclosure
controls and procedures, including an evaluation of any possible
significant deficiencies and the corrective actions taken by the
management in response to the discovery of the accounting errors, the
Companys management concludes that the Companys disclosure controls and
procedures are effective to provide reasonable assurance that information
required to be disclosed by the Company in the reports that it files or
submits under the Exchange Act is accumulated and communicated to
management, including the Chief Executive Officer/Chief Financial Officer,
to allow timely decisions regarding required disclosure and are effective
to provide reasonable assurance that such information is recorded,
processed, summarized, and reported within the time periods specified by
the SECs rules and forms.(b)
    
    Changes in Internal Controls. The Companys internal control over
financial reporting (as defined in Exchange Act Rule 13a-15(f)) is
designed to provide reasonable assurances regarding the reliability of
financial reporting and the preparation of financial statements for
external purposes in accordance with generally accepted accounting
principles. There were no changes in the Companys internal control over
financial reporting that occurred during the Companys most recent fiscal
quarter that have materially affected, or are reasonably likely to
materially affect, the Companys internal control over financial
reporting. However, because of the inherent limitations in all control
systems, no evaluation of controls can provide absolute assurance that all
control issues and instances of fraud, if any, within the Company have
been detected. 
 PART III 
 Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. Information relating to the directors of Koss Corporation is incorporated
herein by reference from the ELECTION OF DIRECTORS  Information As To
Nominees, ELECTION OF DIRECTORS  Beneficial Ownership of Company Securities
and the ELECTION OF DIRECTORS  Executive Officers contained in the Koss
Corporation Proxy Statement for its 2004 Annual Meeting of Stockholders (the
2004 Proxy Statement), which 2004 Proxy Statement was filed within 120 days
of the end of the fiscal year covered by this Report pursuant to General
Instruction G(3) of Form 10-K. 
 Item 11. EXECUTIVE COMPENSATION. The Companys executive officers are paid base salaries commensurate with their
responsibilities, after comparison with base salaries of executive officers of
other light assembly or manufacturing companies taken from data in an annual
national survey. 20




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##### Table of Contents



Executive officers are also eligible for annual bonuses based upon individual
performance and overall Company performance and profitability. Factors
relevant to determining such bonuses include attainment of corporate revenue
and earnings goals and the development of new accounts. The Companys Chairman
is eligible to receive a bonus calculated as a percentage of the Companys
earnings before interest and taxes. The Companys Vice President-Sales is
entitled to receive a bonus based upon increases in sales over the prior year,
and a bonus for obtaining new accounts from a predetermined list of potential
new accounts, and for adding new product lines to current accounts. The
Companys Vice President  Europe is entitled to receive a bonus based upon the
Companys sales in export markets. The Companys Vice President Bi-Audio
division is entitled to receive a bonus based upon Company sales of
communications products. The Compensation Committee annually reviews and determines the compensation of
the Chief Executive Officer. The CEOs salary is based on his experience,
responsibilities, historical salary levels for himself/herself and other
executive officers of the Company, and the salaries of Chief Executive Officers
of other light assembly or manufacturing companies. The CEOs cash bonus is strictly based upon a quantitative measure of
performance. If the CEO does not achieve profitability, the cash bonus is not
paid. The CEO is eligible to receive a bonus calculated as a fixed percentage
of the Companys earnings before interest and taxes. The CEO also participates
in the Companys Flexible Incentive Plan. Further information relating to executive compensation is incorporated herein
by reference from the ELECTION OF DIRECTORS  Executive Compensation and
Related Matters section of the 2004 Proxy Statement. 
 Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. Information relating to the security ownership of certain beneficial owners and
management is incorporated herein by reference from the ELECTION OF DIRECTORS
 Beneficial Ownership of Company Securities section of the 2004 Proxy
Statement. 
 Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. Information relating to related transactions is incorporated herein by
reference from the ELECTION OF DIRECTORS  Executive Compensation and Related
Matters and ELECTION OF DIRECTORS  Related Transactions sections of the
2004 Proxy Statement. 
 ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES. Information relating to the principle accountant fees and services is
incorporated herein by reference from the RATIFICATION OF APPOINTMENT OF
INDEPENDENT ACCOUNTANTS section of the 2004 proxy statement. 
 PART IV 
 Item 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.  a.
    
    The following documents are filed as part of this report:  1.
    
    Financial StatementsThe following consolidated financial statements of Koss
Corporation are set forth on pages 24 to 37: Reports of Independent Registered Public Accounting Firms
    
    
    24Consolidated Statements of Income for the Years Ended
June 30, 2004, 2003, and 2002
    
    
    26
 21




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##### Table of Contents



Consolidated Balance Sheets as of June 30, 2004 and 2003
    
    
    27Consolidated Statements of Cash Flows for the Years
Ended June 30, 2004, 2003, and 2002
    
    
    28Consolidated Statements of Stockholders Investment for
the Years Ended June 30, 2004, 2003, and 2002
    
    
    29Notes to Consolidated Financial Statements
    
    
    30
  2.
    
    Financial Statement SchedulesAll schedules have been omitted because the information is not
applicable or is not material or because the information required is
included in the financial statements or the notes thereto.3.
    
    Exhibits Filed  3.1
    
    Certificate of Incorporation of Koss Corporation.3.2
    
    By-Laws of Koss Corporation.4.1
    
    Certificate of Incorporation of Koss Corporation.4.2
    
    By-Laws of Koss Corporation.10.1
    
    Officer Loan Policy.10.3
    
    Supplemental Medical Care Reimbursement Plan.10.4
    
    Death Benefit Agreement with John C. Koss.10.5
    
    Stock Repurchase Agreement with John C. Koss.10.6
    
    Salary Continuation Resolution for John C. Koss.10.7
    
    1983 Incentive Stock Option Plan.10.8
    
    Assignment of Lease to John C. Koss.10.9
    
    Addendum to Lease.10.10
    
    1990 Flexible Incentive Plan.10.12
    
    Loan Agreement, effective as of February 17, 1995.10.13
    
    Amendment to Loan Agreement dated June 15, 1995,
effective as of February 17, 1995.10.14
    
    Amendment to Loan Agreement dated April 29, 1999.10.15
    
    Amendment to Loan Agreement dated December 15, 1999.10.16
    
    Amendment to Loan Agreement dated October 10, 2001.10.17
    
    License Agreement dated November 15, 1991 between
Koss Corporation and Trabelco N.V. (a subsidiary of Hagemeyer
N.V.) for North America, Central America and South America
(including Amendment to License Agreement dated November 15,
1991; Renewal Letter dated November 18, 1994; and Second
Amendment to License Agreement dated September 29, 1995). 22




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##### Table of Contents



10.18
    
    License Agreement dated September 29, 1995 between
Koss Corporation and Trabelco N.V. (a subsidiary of Hagemeyer
N.V.) for Europe (including First Amendment to License
Agreement dated December 26, 1995).10.19
    
    Third Amendment and Assignment of License
Agreement to Jiangsu Electronics Industries Limited dated March
31, 1997.10.20
    
    Fourth Amendment to License Agreement dated as of May 29, 1998.10.21
    
    Fifth Amendment to License Agreement dated March 30, 2001.10.22
    
    Sixth Amendment to License Agreement dated August 15, 2001.10.23
    
    Seventh Amendment to License Agreement dated December 28, 2001.10.24
    
    Eighth Amendment to License Agreement dated July 31, 2002.10.25
    
    License Agreement dated June 30, 1998 between Koss
Corporation and Logitech Electronics Inc. (including Addendum
to License Agreement dated June 30, 1998).10.26
    
    Consent of Directors (Supplemental Executive
Retirement Plan for Michael J. Koss dated March 7, 1997).10.27
    
    Amendment to Lease.10.28
    
    Partial Assignment, Termination and Modification of Lease.10.29
    
    Restated Lease.10.30
    
    Ninth Amendment to License Agreement with Jiangsu
Electronics Industries Limited dated June 30, 2004.14
    
    Koss Corporation Code of Ethics21
    
    List of Subsidiaries of Koss Corporation.23.1
    
    Consent of Grant Thornton LLP23.2
    
    Consent of PricewaterhouseCoopers LLP31
    
    Certification of Chief Executive Officer and Chief
Financial Officer required by Rule 13a-14(a) or 15d-14(a).32
    
    Certification of Chief Executive Officer and Chief
Financial Officer required by 18 U.S.C. Section 1350.  b.
    
    Reports on Form 8-K filed by the Company during the last quarter of the
period covered by this report:  On April 9, 2004, the Company filed a Current Report on Form 8-K to report
a press release announcing financial results for the quarter ended March
31, 2004. The matter was reported under Items 7, 9 and 12 of Form 8-K.On July 14, 2004, the Company filed a Current Report on Form 8-K to report
a press release announcing financial results for the quarter ended June
30, 2004. The matter was reported under Items 7, 9 and 12 of Form 8-K. 23




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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Board of Directors and Stockholders
KOSS CORPORATION We have audited the accompanying consolidated balance sheet of KOSS CORPORATION
and subsidiaries as of June 30, 2004, and the related consolidated statements
of income, stockholders investment, and cash flows for the year ended June 30,
2004. These financial statements are the responsibility of the Companys
management. Our responsibility is to express an opinion on these financial
statements based on our audit. The consolidated financial statements of Koss
Corporation and subsidiaries as of and for the years ended June 30, 2003 and
2002 were audited by other auditors. Those auditors expressed an unqualified
opinion on those financial statements in their report dual dated July 11, 2003
and February 13, 2004. We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audit provides a reasonable basis for our opinion. In our opinion, the consolidated financial statements present fairly, in all
material respects, the financial position of KOSS CORPORATION and subsidiaries
as of June 30, 2004, and the results of their operations and their cash flows
for the year then ended in conformity with accounting principles generally
accepted in the United States of America. As discussed in Note 1 to the financial statements, New Accounting
Pronouncements, the Company adopted Statement of Financial Accounting
Standards
No. 150 Accounting for Certain Financial Instruments with Characteristics of
both Liabilities and Equity in fiscal 2004. GRANT THORNTON LLP /s/ Grant Thornton LLP Milwaukee, Wisconsin July 9, 2004 24




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##### Table of Contents



REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Board of Directors and Stockholders of Koss Corporation In our opinion, the consolidated financial statements listed in the index
appearing under Item 15(a)(1) present fairly, in all material respects, the
financial position of Koss Corporation and its subsidiaries at June 30, 2003,
and the results of their operations and their cash flows for each of the two
years in the period ended June 30, 2003 and 2002 in conformity with accounting
principles generally accepted in the United States of America. These financial
statements are the responsibility of the Companys management; our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these statements in accordance with the
standards of the Public Company Accounting Oversight Board (United States).
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management,
and evaluating the overall financial statement presentation. We believe that
our audits provide a reasonable basis for our opinion. /s/ PricewaterhouseCoopers LLP Milwaukee, Wisconsin July 11, 2003, except as to the restatement described in Note 14 (not
presented herein), which is as of February 13, 2004 25




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KOSS CORPORATION
CONSOLIDATED STATEMENTS OF INCOME Year Ended June 30,
    
    2004
    
    2003
    
    2002Net sales
    
    $
    40,493,211
    
    
    $
    33,802,634
    
    
    $
    36,571,303Cost of goods sold
    
    
    24,531,258
    
    
    
    19,954,595
    
    
    
    21,996,819Gross profit
    
    
    15,961,953
    
    
    
    13,848,039
    
    
    
    14,574,484Selling, general, and
administrative expense
    
    
    8,089,765
    
    
    
    7,737,030
    
    
    
    8,011,829Income from operations
    
    
    7,872,188
    
    
    
    6,111,009
    
    
    
    6,562,655Other income (expense):Royalty income
    
    
    1,071,638
    
    
    
    755,364
    
    
    
    964,297Interest income
    
    
    22,311
    
    
    
    12,711
    
    
    
    30,445Interest expense
    
    
    (960
    )
    
    
    (14,572
    )
    
    
    (100,454
    )Income before income tax provision and
cumulative effect of change in
accounting principles
    
    
    8,965,177
    
    
    
    6,864,512
    
    
    
    7,456,943Provision for income taxes (Note 5)
    
    
    3,517,030
    
    
    
    2,695,101
    
    
    
    2,869,684Income before cumulative effect of
change in accounting principles
    
    
    5,448,147
    
    
    
    4,169,411
    
    
    
    4,587,259Cumulative effect of change in
accounting principles (net of tax
effect of $49,125)
    
    
    (75,875
    )
    
    
    
    
    
    
    Net income
    
    $
    5,372,272
    
    
    $
    4,169,411
    
    
    $
    4,587,259Basic earnings per common share:Before cumulative effect of
accounting change
    
    $
    1.45
    
    
    $
    1.14
    
    
    $
    1.24Accounting change
    
    
    (0.02
    )
    
    
    
    
    
    
    Basic earnings per common share
    
    
    1.43
    
    
    
    1.14
    
    
    
    1.24Diluted earnings per common share:Before cumulative effect of
accounting change
    
    $
    1.39
    
    
    $
    1.08
    
    
    $
    1.17Accounting change
    
    
    (0.02
    )
    
    
    
    
    
    
    Diluted earnings per common share
    
    
    1.37
    
    
    
    1.08
    
    
    
    1.17Dividends per common share
    
    $
    0.52
    
    
    $
    0.52
    
    
    $
    0.49
 The accompanying notes are an integral part of these consolidated financial
statements.  26




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KOSS CORPORATION
CONSOLIDATED BALANCE SHEETS As of June 30,
    
    2004
    
    2003ASSETSCurrent Assets:Cash
    
    $
    2,110,917
    
    
    $
    1,557,104Accounts receivable, less allowances of $738,995
and $975,689, respectively (Note 13)
    
    
    9,340,091
    
    
    
    8,695,553Inventories
    
    
    7,315,359
    
    
    
    7,333,772Income taxes receivable
    
    
    
    
    
    
    181,871Prepaid expenses
    
    
    659,135
    
    
    
    646,410Deferred income taxes (Note 5)
    
    
    861,236
    
    
    
    593,973Total current assets
    
    
    20,286,738
    
    
    
    19,008,683Equipment and Leasehold Improvements, at cost:Leasehold improvements
    
    
    1,163,318
    
    
    
    1,146,787Machinery, equipment, furniture, and fixtures
    
    
    4,956,821
    
    
    
    4,862,961Tools, dies, molds, and patterns
    
    
    11,013,042
    
    
    
    10,033,23917,133,181
    
    
    
    16,042,987Lessaccumulated depreciation
    
    
    14,435,868
    
    
    
    14,119,1702,697,313
    
    
    
    1,923,817Deferred Income Taxes (Note 5)
    
    
    250,260
    
    
    
    609,135Other Assets
    
    
    2,445,245
    
    
    
    2,245,183$
    25,679,556
    
    
    $
    23,786,818LIABILITIES AND STOCKHOLDERS INVESTMENTCurrent Liabilities:Accounts payable
    
    $
    1,049,406
    
    
    $
    2,793,550Accrued liabilities (Note 7)
    
    
    1,754,038
    
    
    
    1,499,043Dividends payable
    
    
    490,070
    
    
    
    488,856Income taxes payable
    
    
    185,990
    
    
    
    Total current liabilities
    
    
    3,479,504
    
    
    
    4,781,449Deferred Compensation
    
    
    985,265
    
    
    
    1,014,167Derivative Liability
    
    
    125,000
    
    
    
    Commitments and Contingencies (Note 12)Contingently Redeemable Equity Interest
    
    
    
    
    
    
    1,490,000Stockholders Investment:Common stock, $0.005 par value, authorized
8,500,000 shares; issued and outstanding
3,769,775 and 3,760,429 shares, respectively
    
    
    18,849
    
    
    
    18,802Contingently redeemable common stock
    
    
    
    
    
    
    (1,490,000
    )Retained earnings
    
    
    21,070,938
    
    
    
    17,972,400Total stockholders investment
    
    
    21,089,787
    
    
    
    16,501,202$
    25,679,556
    
    
    $
    23,786,818
 The accompanying notes are an integral part of these consolidated financial
statements. 27




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KOSS CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS Year Ended June 30,
    
    2004
    
    2003
    
    2002CASH FLOWS FROM OPERATING ACTIVITIES:Net income
    
    $
    5,372,272
    
    
    $
    4,169,411
    
    
    $
    4,587,259Adjustments to reconcile net income to net cash
provided by operating activities:Allowance for doubtful accounts
    
    
    236,694
    
    
    
    198,846
    
    
    
    552,000Depreciation and amortization
    
    
    660,805
    
    
    
    584,761
    
    
    
    576,892Deferred income taxes
    
    
    91,504
    
    
    
    24,000
    
    
    
    (329,000
    )Tax benefit of non-qualified stock options
    
    
    330,019
    
    
    
    
    
    
    
    Deferred compensation
    
    
    (28,902
    )
    
    
    (105,744
    )
    
    
    (277,791
    )Net changes in operating assets and
liabilities (Note 8)
    
    
    (2,160,704
    )
    
    
    (2,074,658
    )
    
    
    1,948,805Net cash provided by operating activities
    
    
    4,501,688
    
    
    
    2,796,616
    
    
    
    7,058,165CASH FLOWS FROM INVESTING ACTIVITIES:Acquisition of ADDAX, net of cash acquired
    
    
    
    
    
    
    8,648
    
    
    
    Acquisition of equipment and leasehold improvements
    
    
    (1,344,169
    )
    
    
    (627,567
    )
    
    
    (664,319
    )Net cash used in investing activities
    
    
    (1,344,169
    )
    
    
    (618,919
    )
    
    
    (664,319
    )CASH FLOWS FROM FINANCING ACTIVITIES:Dividends paid
    
    
    (1,959,563
    )
    
    
    (1,866,782
    )
    
    
    (1,338,424
    )Purchase of common stock
    
    
    (1,004,068
    )
    
    
    (340,000
    )
    
    
    (4,320,636
    )Exercise of stock options
    
    
    359,925
    
    
    
    533,825
    
    
    
    135,900Net cash used in financing activities
    
    
    (2,603,706
    )
    
    
    (1,672,957
    )
    
    
    (5,523,160
    )Net increase in cash
    
    
    553,813
    
    
    
    504,740
    
    
    
    870,686Cash at beginning of year
    
    
    1,557,104
    
    
    
    1,052,364
    
    
    
    181,678Cash at end of year
    
    $
    2,110,917
    
    
    $
    1,557,104
    
    
    $
    1,052,364
 The accompanying notes are an integral part of these consolidated financial statements. 28




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KOSS CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS INVESTMENT Common StockRetainedShares
    
    Amount
    
    EarningsBalance, June 30, 2001
    
    
    3,886,756
    
    
    $
    19,434
    
    
    $
    16,582,467Net income
    
    
    
    
    
    
    
    
    
    
    4,587,259Dividends declared
    
    
    
    
    
    
    
    
    
    
    (1,778,890
    )Exercise of stock options
    
    
    22,500
    
    
    
    113
    
    
    
    135,787Purchase and retirement of
treasury stock
    
    
    (238,702
    )
    
    
    (1,194
    )
    
    
    (4,319,442
    )Balance, June 30, 2002
    
    
    3,670,554
    
    
    
    18,353
    
    
    
    15,207,181Net income
    
    
    
    
    
    
    
    
    
    
    4,169,411Dividends declared
    
    
    
    
    
    
    
    
    
    
    (1,915,172
    )Common stock issued in
conjunction with the
acquisition of ADDAX
    
    
    19,875
    
    
    
    99
    
    
    
    317,504Exercise of stock options
    
    
    90,000
    
    
    
    450
    
    
    
    533,376Purchase and retirement of
treasury stock
    
    
    (20,000
    )
    
    
    (100
    )
    
    
    (339,900
    )Balance, June 30, 2003
    
    
    3,760,429
    
    
    
    18,802
    
    
    
    17,972,400Net income
    
    
    
    
    
    
    
    
    
    
    5,372,272Dividends declared
    
    
    
    
    
    
    
    
    
    
    (1,959,563
    )Exercise of stock options
    
    
    60,000
    
    
    
    300
    
    
    
    689,644Purchase and retirement of
treasury stock
    
    
    (50,654
    )
    
    
    (253
    )
    
    
    (1,003,815
    )Balance, June 30, 2004
    
    
    3,769,775
    
    
    $
    18,849
    
    
    $
    21,070,938
 The accompanying notes are an integral part of these consolidated financial statements. 29




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##### Table of Contents



KOSS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. ACCOUNTING POLICIES CONCENTRATION OF CREDIT RISKThe Company operates in the audio/video industry
segment of the home entertainment industry through its design, manufacture, and
sale of stereo headphones and related accessory products. The Companys
products are sold through audio specialty stores, the Internet, direct mail
catalogs, regional department store chains, military exchanges, and national
retailers under the Koss name and dual label. The Company has more than
1,600 domestic dealers and its products are carried in approximately 16,000
domestic retail outlets. International markets are served by domestic sales
representatives and a sales office in Switzerland, which utilizes independent
distributors in several foreign countries. The Company grants credit to its
domestic and Canadian customers. Collection is dependent on the retailing
industry economy. International customers outside of Canada are sold on a cash
against documents or letter of credit basis. Approximately 12% and 16% of the
Companys accounts receivable at June 30, 2004 and 2003, respectively, were
foreign receivables. BASIS OF CONSOLIDATIONThe consolidated financial statements include the
accounts of the Company and its subsidiaries, all of which are wholly-owned.
All significant intercompany accounts and transactions have been eliminated. REVENUE RECOGNITIONRevenue is recognized by the Company when all of the
following criteria are met: persuasive evidence of an arrangement exists;
delivery has occurred (either FOB shipping point or delivery taken at the
Companys dock); the sellers price to the buyer is fixed and determinable
(pricing is finalized through the purchase order); and collectibility is
reasonably assured. These criteria are generally satisfied upon shipment of
the Companys products. The Company may offer slotting fees, cooperative
advertising programs and sales discounts from time to time and the estimated
costs for these items are accrued for at the time revenue is recognized. These
amounts are recorded as a reduction to sales. ROYALTY INCOMEThe Company recognizes royalty income when earned under terms of
license agreements, which expire in 2004, 2008, and 2010. These agreements
require minimum annual royalty payments. Royalty income owed to the Company is
calculated by the licensee and then verified by the Company. Royalty payments
are calculated based upon predetermined percentages of net sales of the
licensed products or based upon minimum annual royalty payments, as set forth
in the Companys license agreements. Royalty income is booked monthly, on an
accrual basis. When the royalty payments are received each quarter, the
Company then reduces the accounts receivable accordingly. INVENTORIESSubstantially all of the Companys inventories are valued at the
lower of last-in, first-out (LIFO) cost or market. If the first-in, first-out
(FIFO) method of inventory accounting had been used by the Company for
inventories valued at LIFO, inventories would have been $949,207 and $1,009,586
higher than reported at June 30, 2004 and 2003, respectively. The Company did
not maintain any work-in-process inventories at June 30, 2004 and June 30,
2003. The components of inventories at June 30 are as follows: 2004
    
    2003Raw materials
    
    $
    1,630,651
    
    
    $
    2,661,131Finished goods
    
    
    5,684,708
    
    
    
    4,672,641Total
    
    $
    7,315,359
    
    
    $
    7,333,772
 DISTRIBUTION NETWORKThe Company includes inbound freight charges, purchasing
and receiving costs, inspection costs, warehousing costs, internal transfer
costs, and other costs of distribution in the cost of goods sold line item. 30




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##### Table of Contents



EQUIPMENT AND LEASEHOLD IMPROVEMENTSDepreciation is provided on a
straight-line basis over the estimated useful life of the asset as follows: Leasehold improvements
    
    10-15 yearsMachinery, equipment, furniture, and fixtures
    
    3-10 yearsTools, dies, molds, and patterns
    
    4-5 years
 RESEARCH AND DEVELOPMENTResearch and development expenditures charged to
operations amounted to approximately $125,000 in 2004, $134,000 in 2003, and
$114,000 in 2002. SHIPPING AND HANDLING FEES AND COSTSShipping and handling fees charged to
customers are included in net sales, and shipping and handling costs incurred
by the Company are included in cost of goods sold within the accompanying
consolidated statements of income. FAIR VALUE OF FINANCIAL INSTRUMENTSCash, accounts receivable, and accounts
payable recorded in the consolidated balance sheets approximate fair value
based on the short maturity of these instruments. USE OF ESTIMATESThe preparation of financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements, and the reported amounts
of revenues and expenses during the reporting period. Actual results could
differ from those estimates. NEW ACCOUNTING PRONOUNCEMENTSDuring April 2003, the Financial Accounting
Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No.
149, Amendment of Statement 133 on Derivative Instruments and Hedging
Activities, which amends and clarifies financial accounting and reporting for
certain derivative instruments. The Company does not anticipate the adoption
of this statement to have a material impact on its consolidated financial
statements, as it is not currently a party to derivative financial instruments
included in this standard. During May 2003, the FASB issued SFAS No. 150, Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity,
which establishes standards for the classification and measurement of certain
financial instruments with characteristics of both liabilities and equity. The
Company adopted SFAS No. 150 effective July 1, 2003. Upon adoption, the
Company recorded a derivative liability for the fair value of a written put
option of $125,000 on the balance sheet and a cumulative effect of change in
accounting principle of $75,875 (net of the tax effect equal to $49,125) on the
income statement. In addition, the contingently redeemable equity interest of
$1,490,000, as of July 1, 2003, was reclassified into equity. RECLASSIFICATIONSCertain amounts in the prior year financial statements have
been reclassified to conform to current year presentation. STOCK-BASED COMPENSATIONAt June 30, 2004, the Company has a stock-based
employee compensation plan, which is described more fully in Note 4. The
Company accounts for this plan under the recognition and measurement principles
of APB Opinion No. 25, Accounting for Stock Issued to Employees, and related
interpretations. All options granted under the plan had an exercise price
equal to the market value of the 31




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##### Table of Contents



underlying common stock on the date of grant.
The following table illustrates the effect on net income and earnings per share
if the Company had applied the fair value recognition provisions of FASB
Statement No. 123, Accounting for Stock-Based Compensation, to stock-based
employee compensation. Year Ended June 30,
    
    2004
    
    2003
    
    2002Net income, as reported
    
    $
    5,372,272
    
    
    $
    4,169,411
    
    
    $
    4,587,259Add: Total
stock-based employee
compensation recorded
    
    
    330,019
    
    
    
    351,764
    
    
    
    454,084Deduct: Total
stock-based employee
compensation expense
determined under fair
value based method for
all awards
    
    
    531,403
    
    
    
    447,679
    
    
    
    382,696Pro forma net income
    
    $
    5,170,888
    
    
    $
    4,073,496
    
    
    $
    4,658,647Earnings per share:Basic-as reported
    
    $
    1.43
    
    
    $
    1.14
    
    
    $
    1.24Basic-pro forma
    
    $
    1.37
    
    
    $
    1.11
    
    
    $
    1.26Diluted-as reported
    
    $
    1.37
    
    
    $
    1.08
    
    
    $
    1.17Diluted-pro forma
    
    $
    1.32
    
    
    $
    1.06
    
    
    $
    1.19
 2. EARNINGS PER COMMON AND COMMON EQUIVALENT SHARE Basic earnings per share are computed based on the weighted average number of
common shares outstanding. The weighted-average number of common shares
outstanding for the fiscal years ended June 30, 2004, 2003, and 2002, were
3,769,033, 3,671,585, and 3,700,884, respectively. When dilutive, stock
options are included in earnings per share as share equivalents using the
treasury stock method. Common stock equivalents of 158,657, 173,010, and
222,699 related to stock option grants were included in the computation of the
weighted-average number of shares outstanding for diluted earnings per share
for the fiscal years ended June 30, 2004, 2003, and 2002, respectively. 3. CREDIT FACILITY The Company amended its existing credit facility in November 2003, extending
the maturity date of the unsecured line of credit to November 1, 2004. This
credit facility provides for borrowings up to a maximum of $10,000,000. The
Company can use this credit facility for working capital purposes or for the
purchase of its own common stock pursuant to the Companys stock repurchase
program. Borrowings under this credit facility bear interest at the banks
prime rate, or LIBOR plus 1.75%. This credit facility includes certain
financial covenants, which require the Company to maintain a minimum tangible
net worth, and specified current, interest coverage, and leverage ratios.
There were no borrowings under this credit facility at June 30, 2004 or 2003. 4. STOCK OPTIONS AND STOCK PURCHASE AGREEMENTS In 1990, pursuant to the recommendation of the Board of Directors, the
stockholders ratified the creation of the Companys 1990 Flexible Incentive
Plan (the 1990 Plan). The 1990 Plan is administered by a committee of the
Board of Directors and provides for the granting of various stock-based awards
including stock options to eligible participants, primarily officers and
certain key employees. A total of 225,000 shares of common stock were
available in the first year of the Plans existence. Each year thereafter
additional shares equal to .25% of the shares outstanding as of the first day
of the applicable fiscal year were reserved for issuance pursuant to the 1990
Plan. On July 22, 1992, the Board of Directors authorized the reservation of
an additional 250,000 shares for the 1990 Plan, which was approved by the
stockholders. In 1993, the Board of Directors authorized the reservation of an
additional 300,000 shares for the 1990 Plan, which was approved by the
stockholders. In 1997, the Board of Directors authorized the reservation of an
additional 300,000 shares for the 1990 Plan, which was approved by the
stockholders. In 2001, the Board of Directors authorized the reservation of an
additional 300,000 shares for the 1990 Plan, which was also approved by the
stockholders. Options generally vest over a four year period, with a maximum
term of five to ten years. 32




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##### Table of Contents



The following table identifies options granted, exercised, cancelled, or
available for exercise pursuant to the above mentioned Plan: Range of Exercise
    
    WeightedNumber of
    
    Prices per
    
    AverageShares
    
    Share
    
    Exercise PriceShares under option
at June 30, 2001
    
    
    542,500
    
    
    $
    5.10-$18.43
    
    
    $
    9.61Granted
    
    
    150,000
    
    
    $
    16.80-$18.48
    
    
    $
    17.92Exercised
    
    
    (22,500
    )
    
    $
    5.37-$6.75
    
    
    $
    5.74Settled
    
    
    (62,500
    )
    
    $
    5.11-$6.75
    
    
    $
    5.74Shares under option
at June 30, 2002
    
    
    607,500
    
    
    $
    5.10-$18.48
    
    
    $
    12.20Granted
    
    
    180,000
    
    
    $
    15.75-$17.32
    
    
    $
    16.62Exercised
    
    
    (90,000
    )
    
    $
    5.38-$6.73
    
    
    $
    5.97Settled
    
    
    (47,500
    )
    
    $
    5.38-$6.73
    
    
    $
    5.97Shares under option
at June 30, 2003
    
    
    650,000
    
    
    $
    5.10-$18.48
    
    
    $
    14.75Granted
    
    
    250,000
    
    
    $
    22.01-$24.21
    
    
    $
    23.15Exercised
    
    
    (15,000
    )
    
    $
    5.38-$6.73
    
    
    $
    6.23Settled
    
    
    (45,000
    )
    
    $
    5.92
    
    
    $
    5.92Shares under option
at June 30, 2004
    
    
    840,000
    
    
    $
    5.10-$24.21
    
    
    $
    17.88100,000
    
    
    $
    5.10-$7.40
    
    
    $
    6.99740,000
    
    
    $
    15.75-$24.21
    
    
    $
    19.35Options exercisable
at June 30, 2004
    
    
    340,000
    
    
    $
    5.10-$18.48
    
    
    $
    14.49100,000
    
    
    $
    5.10-$7.40
    
    
    $
    6.99240,000
    
    
    $
    15.75-$18.48
    
    
    $
    17.62
 The weighted-average fair value at date of grant for options whose exercise
price exceeded the market price of the stock on the grant date during 2004,
2003, and 2002 was $4.56, $3.69 and $4.91, respectively. There were no options
granted in 2004, 2003, or 2002 for which the exercise price was less than the
market price on the date of grant. The weighted-average fair value at date of
grant for options whose exercise price was equal to the market price of the
stock on the grant date during 2004, 2003, and 2002 was $2.87, $5.94, and
$7.68, respectively. As of June 30, 2004, the weighted-average remaining
contractual life of all outstanding options approximates 5.21 years. For the pro forma information disclosed in Note 1, the fair value of each
option granted is estimated on the date of grant using the Black-Scholes
option-pricing model with the following weighted-average assumptions: 2004
    
    2003
    
    2002Expected stock price volatility
    
    
    35.00
    %
    
    
    43.40
    %
    
    
    46.96
    %Risk free interest rate
    
    
    3.69
    %
    
    
    2.84
    %
    
    
    4.61
    %Expected dividend yield
    
    
    2.27
    %
    
    
    3.30
    %
    
    
    2.87
    %Expected life of options
    
    5.21 years
    
    5.33 years
    
    5.00 years
 The Company has an agreement with its Chairman, John C. Koss, to, at the
request of the executor of the estate, repurchase Company common stock from his
estate in the event of his death. The Company does not have the right to
require the estate to sell stock to the Company. As such, this arrangement is
accounted for as a written put option with the fair value of the put option
recorded as a derivative liability. The fair value of the option at June 30,
2004 was $125,000. The repurchase price is 95% of the fair market value of the
common stock on the date that notice to repurchase is provided to the Company.
The total number of shares to be repurchased will be sufficient to provide
proceeds which are the lesser of $2,500,000 or the amount of estate taxes and
administrative expenses incurred by the Chairmans estate. The Company may
elect to pay the purchase price in cash or may elect to pay cash equal to 25%
of the total amount due and to execute a promissory note for the balance,
payable over four years, at the prime rate of interest. The Company maintains
a $1,150,000 life insurance policy to fund a substantial portion of this
obligation. 33




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##### Table of Contents



5. INCOME TAXES The Company utilizes the liability method of accounting for income taxes. The
liability method measures the expected income tax impact of future taxable
income and deductions implicit in the consolidated balance sheets. The
provision for income taxes in 2004, 2003, and 2002 consists of the following: Year Ended June 30,
    
    2004
    
    2003
    
    2002Current:Federal
    
    $
    2,888,401
    
    
    $
    2,170,101
    
    
    $
    2,621,684State
    
    
    488,000
    
    
    
    501,000
    
    
    
    577,000Deferred
    
    
    140,629
    
    
    
    24,000
    
    
    
    (329,000
    )$
    3,517,030
    
    
    $
    2,695,101
    
    
    $
    2,869,684
 The 2004, 2003 and 2002 tax provision results in an effective rate different
than the federal statutory rate due to the following: Year Ended June 30,
    
    2004
    
    2003
    
    2002Federal income tax at statutory rate
    
    $
    3,048,160
    
    
    $
    2,333,934
    
    
    $
    2,535,361State income taxes, net of federal tax
benefit
    
    
    371,531
    
    
    
    331,000
    
    
    
    381,000Other
    
    
    97,339
    
    
    
    30,167
    
    
    
    (46,677
    )Total provision for income taxes
    
    $
    3,517,030
    
    
    $
    2,695,101
    
    
    $
    2,869,684
 Temporary differences which give rise to deferred income tax assets and
liabilities at June 30 include: 2004
    
    2003Deferred Income Tax Assets:Deferred compensation
    
    $
    204,000
    
    
    $
    243,000Accrued expenses and reserves
    
    
    660,000
    
    
    
    813,000Package design and trademarks
    
    
    188,000
    
    
    
    231,000Other
    
    
    99,000
    
    
    
    2,0001,151,000
    
    
    
    1,289,000Deferred Income Tax Liabilities:Royalties receivable/deferred
    
    
    
    
    
    
    (82,000
    )Equipment and leasehold improvements
    
    
    (40,000
    )
    
    
    (4,000
    )Net deferred income tax asset
    
    $
    1,111,000
    
    
    $
    1,203,000
 6. INTANGIBLE ASSETS A summary of intangibles included in other assets in the accompanying balance
sheets as of June 30, 2004 and 2003 and their respective estimated useful lives
is as follows: Estimated useful2004
    
    2003
    
    livesPatents
    
    $
    710,291
    
    
    $
    710,291
    
    
    15 yearsCustomer lists and other
    
    
    188,811
    
    
    
    188,811
    
    
    15 years899,102
    
    
    
    899,102Less accumulated
amortization
    
    
    97,552
    
    
    
    14,985$
    801,550
    
    
    $
    884,117
 34




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##### Table of Contents



7. ACCRUED LIABILITIES Accrued liabilities at June 30 consist of the following: 2004
    
    2003Employee compensation
    
    $
    538,605
    
    
    $
    341,095Cooperative advertising and
promotion allowances
    
    
    674,713
    
    
    
    734,358Payroll taxes and other employee
benefits
    
    
    203,913
    
    
    
    171,537Other
    
    
    336,807
    
    
    
    252,053$
    1,754,038
    
    
    $
    1,499,043
 8. ADDITIONAL CASH FLOW INFORMATION The net changes in cash as a result of changes in operating assets and
liabilities consist of the following: 2004
    
    2003
    
    2002Accounts receivable
    
    $
    (881,232
    )
    
    $
    (153,589
    )
    
    $
    (676,142
    )Inventories
    
    
    18,413
    
    
    
    (854,186
    )
    
    
    2,115,798Prepaid expenses and other assets
    
    
    (302,811
    )
    
    
    (102,554
    )
    
    
    (14,671
    )Income taxes
    
    
    367,861
    
    
    
    (662,538
    )
    
    
    696,108Accounts payable
    
    
    (1,744,144
    )
    
    
    939,234
    
    
    
    (208,160
    )Accrued liabilities
    
    
    381,209
    
    
    
    (1,241,025
    )
    
    
    35,872Net change
    
    $
    (2,160,704
    )
    
    $
    (2,074,658
    )
    
    $
    1,948,805
 2004
    
    2003
    
    2002Net cash paid during the year for:Interest
    
    $
    960
    
    
    $
    14,572
    
    
    $
    100,454Income taxes
    
    $
    2,872,155
    
    
    $
    3,332,091
    
    
    $
    2,502,576
 9. EMPLOYEE BENEFIT PLANS Substantially all domestic employees are participants in the Companys Employee
Stock Ownership Plan and Trust under which an annual contribution in either
cash or common stock may be made at the discretion of the Board of Directors.
The expense recorded for such contributions approximated $-0- in 2004, $49,000
in 2003, and $74,000 in 2002. The Company maintains a retirement savings plan under Section 401(k) of the
Internal Revenue Code. This plan covers all employees of the Company who have
completed six months of service. Matching contributions can be made at the
discretion of the Board of Directors. For calendar years 2004, 2003, and 2002,
the matching contribution was 100% of employee contributions to the plan, not
to exceed 10% of the employees annual compensation. Vesting of Company
contributions occurs immediately. Company contributions were approximately
$269,000, $281,000, and $211,000 during 2004, 2003, and 2002, respectively. 10. DEFERRED COMPENSATION The Company has deferred compensation agreements with a former and current
officer. The Board of Directors has entered into an agreement to continue the Chairmans
current base salary for the remainder of his life. The Company has a deferred
compensation liability of $520,000 and $631,855 recorded as of June 30, 2004
and 2003, respectively. 35




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##### Table of Contents



The Board of Directors has approved a supplemental retirement plan with an
officer that calls for annual cash compensation following retirement from the
Company in an amount equal to 2% of base salary multiplied by the number of
years of service to the Company. The retirement payments are to be paid
monthly to the officer until his death and then to his surviving spouse monthly
until her death. The Company has a deferred compensation liability of $465,265
and $382,312 recorded as of June 30, 2004 and 2003, respectively. 11. INDUSTRY SEGMENT INFORMATION, FOREIGN SALES AND SIGNIFICANT CUSTOMERS The Company has one line of businessthe design, manufacture, and sale of
stereophones and related accessories. The Companys export sales amounted to $7,008,448 during 2004, $4,205,683
during 2003, and $4,037,739 during 2002. Sales during 2004, 2003 and 2002 to the Companys five largest customers
represented approximately 43%, 50%, and 47% of the Companys total sales,
respectively. Included in these percentages, sales to a single customer
represented approximately 19%, 20%, and 18% of the Companys total sales during
2004, 2003, and 2002, respectively. These customers generally are large,
national retailers. 12. COMMITMENTS AND CONTINGENCIES The Company leases its main plant and offices in Milwaukee, Wisconsin from its
Chairman. On May 28, 2003, the lease was renewed for a period of five years,
and is being accounted for as an operating lease. The lease extension
maintained the rent at a fixed rate of $380,000 per year. At anytime during
this period the Company has the option to renew the lease for an additional
five years for the period commencing July 1, 2008 and ending June 30, 2013
under the same terms and conditions. The lease is on terms no less favorable
to the Company than those that could be obtained from an independent party.
The Company is responsible for all property maintenance, insurance, taxes, and
other normal expenses related to ownership. Total rent expense, which includes
this lease, approximated $416,000 in 2004, $426,000 in 2003, and $421,000 in
2002. 13. SUPPLEMENTARY INFORMATION Changes in the allowance for doubtful accounts for 2004, 2003, and 2002 are
summarized as follows: Year
    
    Balance at Beginning
    
    Charges Against/
    
    
    
    
    
    Balance at End ofEnding
    
    Of Period
    
    (Credits To) Income
    
    Deductions*
    
    Period2004
    
    $
    975,689
    
    
    $
    (237,938
    )
    
    $
    1,244
    
    
    $
    738,9952003
    
    $
    801,055
    
    
    $
    198,846
    
    
    $
    (24,212
    )
    
    $
    975,6892002
    
    $
    301,252
    
    
    $
    552,000
    
    
    $
    (52,197
    )
    
    $
    801,055
 *Represents charges against the allowance, net of recoveries. Advertising costs included within selling, general, and administrative expenses
in the accompanying statements of income were $76,000 in 2004, $97,000 in 2003,
and $50,000 in 2002. Such costs are expensed as incurred. CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS This Annual Report on Form 10-K contains forward-looking statements within the
meaning of that term in the Private Securities Litigation Reform Act of 1995
(the Act) (Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Exchange Act of 1934). Additional written or oral forward-looking
statements may be made by the Company from time to time in filings with the
Securities Exchange Commission, press releases, or otherwise. Statements
contained in this Form 10-K that are not historical facts are forward-looking
statements made pursuant to the safe harbor provisions of the Act.
Forward-looking statements may include, but 36




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are not limited to, projections of revenue, income or loss and capital
expenditures, statements regarding future operations, anticipated financing
needs, compliance with financial covenants in loan agreements, plans for
acquisitions or sales of assets or businesses, plans relating to products or
services of the Company, assessments of materiality, predictions of future
events, the effects of pending and possible litigation, and assumptions
relating to the foregoing. In addition, when used in this Form 10-K, the words
anticipates, believes, or estimates, expects, intends, plans and
variations thereof and similar expressions are intended to identify
forward-looking statements. Forward-looking statements are inherently subject to risks and uncertainties,
some of which cannot be predicted or quantified based on current expectations.
Consequently, future events and actual results could differ materially from
those set forth in, contemplated by, or underlying the forward-looking
statements contained in this Form 10-K, or in other Company filings, press
releases, or otherwise. In addition to the factors discussed in this Form
10-K, other factors that could contribute to or cause such differences include,
but are not limited to, developments in any one or more of the following areas:
future fluctuations in economic conditions, the receptivity of consumers to
new consumer electronics technologies, the rate and consumer acceptance of new
product introductions, competition, pricing, the number and nature of customers
and their product orders, production by third party vendors, foreign
manufacturing, sourcing, and sales (including foreign government regulation,
trade, and importation concerns), borrowing costs, changes in tax rates,
pending or threatened litigation and investigations, and other risk factors
which may be detailed from time to time in the Companys Securities and
Exchange Commission filings. Readers are cautioned not to place undue reliance on any forward-looking
statements contained herein, which speak only as of the date hereof. The
Company undertakes no obligation to publicly release the result of any
revisions to these forward-looking statements that may be made to reflect
events or circumstances after the date hereof or to reflect the occurrence of
unexpected events. 37




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SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized. KOSS CORPORATIONBy:
    
    /s/ Michael J. Koss
    
    Dated: September 30, 2004Michael J. Koss,Vice ChairmanPresidentChief Executive OfficerChief Operating Officer andChief Financial OfficerBy:
    
    /s/ Sujata Sachdeva
    
    Dated: September 30, 2004Sujata Sachdeva,Vice President - FinancePrincipal Accounting OfficerSecretary
 Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated: /s/ John C. Koss
    
    /s/ Michael J. KossJohn C. Koss, Director
    
    Michael J. Koss, DirectorDated: September 30, 2004
    
    Dated: September 30, 2004/s/ Martin F. Stein
    
    /s/ John J. StollenwerkMartin F. Stein, Director
    
    John J. Stollenwerk, DirectorDated: September 30, 2004
    
    Dated: September 30, 2004/s/ Thomas L. Doerr
    
    /s/ Lawrence S. MattsonThomas L. Doerr, Director
    
    Lawrence S. Mattson, DirectorDated: September 30, 2004
    
    Dated: September 30, 2004
 The signatures of the above directors constitute a majority of the Board of
Directors of Koss Corporation. 38




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OFFICERS AND SENIOR MANAGEMENT John C. Koss
Chairman of the Board Michael J. Koss
Vice Chairman
President
Chief Executive Officer
Chief Operating Officer
Chief Financial Officer John C. Koss, Jr.
Vice President-Sales Sujata Sachdeva
Vice President-Finance/Secretary Jill McCurdy
Vice President-Product Development Lenore Lillie
Vice President-Operations Cheryl Mike
Vice President-Human Resources/Customer Relations Chris Gantz
Vice President - Communication Products Declan Hanley
Vice President-International Sales ANNUAL MEETING October 28, 2004  9:00a.m.
Milwaukee River Hilton Inn
4700 N. Port Washington Rd.
Milwaukee, WI 53212 INDEPENDENT AUDITORS Grant Thornton LLP
Milwaukee, Wisconsin LEGAL COUNSEL Hughes & Luce, L.L.P.
Dallas, Texas 39




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##### Table of Contents



DIRECTORS John C. Koss
Chairman of the Board
Koss Corporation Thomas L. Doerr
President
Doerr Corporation Michael J. Koss
Vice Chairman, President
C.E.O. C.O.O., C.F.O.
Koss Corporation Lawrence S. Mattson
Retired President
Oster Company Martin F. Stein
Chairman
Eyecare One Inc. John J. Stollenwerk
President
Allen-Edmonds Shoe Corporation TRANSFER AGENT Questions regarding change of address,
stock transfer, lost certificate, or
information on a particular account
should be directed in writing to: American Stock Transfer
& Trust Company
59 Maiden Lane
New York, NY 10038 W176 N9743 Rivercrest Drive
Germantown, WI 53022
Attn: Barbara Bahr
Shareholders Toll-free: 1-800-937-5449 40




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EXHIBIT INDEX The Company will furnish a copy of any exhibit described below upon request and
upon reimbursement to the Company of its reasonable expenses of furnishing such
exhibit, which shall be limited to a photocopying charge of $0.25 per page and,
if mailed to the requesting party, the cost of first-class postage. Designation
    
    
    
    Incorporationof Exhibit
    
    Exhibit Title
    
    by Reference3.1
    
    Certificate of Incorporation of Koss Corporation, as in effect on September 25, 1996
    
    
    (1
    )3.2
    
    By-Laws of Koss Corporation, as in effect on September 25, 1996
    
    
    (2
    )4.1
    
    Certificate of Incorporation of Koss Corporation, as in effect on September 25, 1996
    
    
    (1
    )4.2
    
    By-Laws of Koss Corporation, as in effect on September 25, 1996
    
    
    (2
    )10.1
    
    Officer Loan Policy
    
    
    (3
    )10.3
    
    Supplemental Medical Care Reimbursement Plan
    
    
    (4
    )10.4
    
    Death Benefit Agreement with John C. Koss
    
    
    (5
    )10.5
    
    Stock Purchase Agreement with John C. Koss
    
    
    (6
    )10.6
    
    Salary Continuation Resolution for John C . Koss
    
    
    (7
    )10.7
    
    1983 Incentive Stock Option Plan
    
    
    (8
    )10.8
    
    Assignment of Lease to John C. Koss
    
    
    (9
    )10.9
    
    Addendum to Lease
    
    
    (10
    )10.10
    
    1990 Flexible Incentive Plan
    
    
    (11
    )10.12
    
    Loan Agreement, effective as of February 17, 1995
    
    
    (12
    )10.13
    
    Amendment to Loan Agreement dated June 15, 1995, effective as of February 17, 1995
    
    
    (13
    )10.14
    
    Amendment to Loan Agreement dated April 29, 1999
    
    
    (14
    )10.15
    
    Amendment to Loan Agreement dated December 15, 1999
    
    
    (15
    )10.16
    
    Amendment to Loan Agreement dated October 10, 2001
    
    
    (16
    )10.17
    
    License Agreement dated November 15, 1991 between Koss Corporation and Trabelco N.V. (a
subsidiary of Hagemeyer N.V.) for North America, Central America and South America (including
Amendment to License Agreement dated November 15, 1991; Renewal Letter dated November 18,
1994; and Second Amendment to License Agreement dated September 29, 1995)
    
    
    (17
    )
 41




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Designation
    
    
    
    Incorporationof Exhibit
    
    Exhibit Title
    
    by Reference10.18
    
    License Agreement dated September 29, 1995 between Koss Corporation and Trabelco N.V. (a
subsidiary of Hagemeyer N.V.) for Europe (including First Amendment to License Agreement dated
December 26, 1995)
    
    
    (18
    )10.19
    
    Third Amendment and Assignment of License Agreement to Jiangsu Electronics Industries Limited
dated as of March 31, 1997
    
    
    (19
    )10.20
    
    Fourth Amendment to License Agreement dated as of May 29, 1998
    
    
    (20
    )10.21
    
    Fifth Amendment to License Agreement dated March 30, 2001
    
    
    (21
    )10.22
    
    Sixth Amendment to License Agreement dated August 15, 2001
    
    
    (22
    )10.23
    
    Seventh Amendment to License Agreement dated December 28, 2001
    
    
    (23
    )10.24
    
    Eighth Amendment to License Agreement dated July 31, 2002
    
    
    (24
    )10.25
    
    License Agreement dated
June 30, 1998 between Koss Corporation and Logitech Electronics Inc.
(including Addendum to License Agreement dated June 30, 1998)
    
    
    (25
    )10.26
    
    Consent of Directors (Supplemental Executive Retirement Plan for Michael J. Koss dated March
7, 1997)
    
    
    (26
    )10.27
    
    Amendment to Lease
    
    
    (27
    )10.28
    
    Partial Assignment, Termination and Modification of Lease
    
    
    (28
    )10.29
    
    Restated Lease
    
    
    (29
    )10.30
    
    Ninth Amendment to License Agreement with Jiangsu Electronics Industries Limited dated June
30, 2004
    
    
    (30
    )14
    
    Koss Corporation Code of Ethics
    
    
    (30
    )21
    
    List of Subsidiaries of Koss Corporation
    
    
    (30
    )23.1
    
    Consent of Grant Thornton LLP
    
    
    (30
    )23.2
    
    Consent of PricewaterhouseCoopers LLP
    
    
    (30
    )31
    
    Certification of Chief Executive Officer and Chief Financial Officer required by Rule
13a-14(a) or 15d-14(a)
    
    
    (30
    )32
    
    Certification of Chief Executive Officer and Chief Financial Officer required by 18 U.S.C.
Section 1350
    
    
    (30
    )
 (1)
    
    Incorporated by reference from Exhibit 3.1 to the Companys Annual Report on Form 10-K for the year ended June 30,
1996 (Commission File No. 0-3295)
 42




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##### Table of Contents



(2)
    
    Incorporated by reference from Exhibit 3.2 to the Companys Annual Report on Form 10-K for the year ended June 30,
1996 (Commission File No. 0-3295)(3)
    
    Incorporated by reference from Exhibit 10.1 to the Companys Annual Report on Form 10-K for the year ended June 30,
1996 (Commission File No. 0-3295)(4)
    
    Incorporated by reference from Exhibit 10.3 to the Companys Annual Report on Form 10-K for the year ended June 30,
1996 (Commission File No. 0-3295)(5)
    
    Incorporated by reference from Exhibit 10.4 to the Companys Annual Report on Form 10-K for the year ended June 30,
1996 (Commission File No. 0-3295)(6)
    
    Incorporated by reference from Exhibit 10.5 to the Companys Annual Report on Form 10-K for the year ended June 30,
1996 (Commission File No. 0-3295)(7)
    
    Incorporated by reference from Exhibit 10.6 to the Companys Annual Report on Form 10-K for the year ended June 30,
1996 (Commission File No. 0-3295)(8)
    
    Incorporated by reference from Exhibit 10.7 to the Companys Annual Report on Form 10-K for the year ended June 30,
1996 (Commission File No. 0-3295)(9)
    
    Incorporated by reference from Exhibit 10.7 to the Companys Annual Report on Form 10-K for the year ended June 30,
1988 (Commission File No. 0-3295)(10)
    
    Incorporated by reference from Exhibit 10.8 to the Companys Annual Report on Form 10-K for the year ended June 30,
1988 (Commission File No. 0-3295)(11)
    
    Incorporated by reference from Exhibit 25 to the Companys Annual Report on Form 10-K for the year ended June 30, 1990
(Commission File No. 0-3295)(12)
    
    Incorporated by reference from Exhibit 10 to the Companys Quarterly Report on Form 10-Q for the quarter ended March
31, 1995 (Commission File No. 0-3295)(13)
    
    Incorporated by reference from Exhibit 10.13 to the Companys Annual Report on Form 10-K for the year ended June 30,
1995 (Commission File No. 0-3295)(14)
    
    Incorporated by reference from Exhibit 10.14 to the Companys Annual Report on Form 10-K for the year ended June 30,
1999 (Commission File No. 0-3295)(15)
    
    Incorporated by reference from Exhibit 10.15 to the Companys Annual Report on Form 10-K for the year ended June 30,
2000 (Commission File No. 0-3295)(16)
    
    Incorporated by reference from Exhibit 10.16 to the Companys Annual Report on Form 10-K for the year ended June 30,
2002 (Commission File No. 0-3295)(17)
    
    Incorporated by reference from Exhibit 10.14 to the Companys Annual Report on Form 10-K for the year ended June 30,
1996 (Commission File No. 0-3295)(18)
    
    Incorporated by reference from Exhibit 10.15 to the Companys Annual Report on Form 10-K for the year ended June 30,
1996 (Commission File No. 0-3295)(19)
    
    Incorporated by reference from Exhibit 10.1 to the Companys Quarterly Report on Form 10-Q for the quarter ended March
31, 1997 (Commission File No. 0-3295)
 43




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##### Table of Contents



(20)
    
    Incorporated by reference from Exhibit 10.17 to the Companys Annual Report on Form 10-K for the year ended June 30,
1998 (Commission File No. 0-3295)(21)
    
    Incorporated by reference from the sole Exhibit to the Companys Quarterly Report on Form 10-Q for the quarter ended
March 31, 2001 (Commission File No. 0-3295)(22)
    
    Incorporated by reference from Exhibit 10.21 to the Companys Annual Report on Form 10-K for the year ended June 30,
2001 (Commission File No. 0-3295)(23)
    
    Incorporated by reference from Exhibit 10.23 to the Companys Quarterly Report on Form 10-Q for the quarter ended
December 31, 2001 (Commission File No. 0-3295)(24)
    
    Incorporated by reference from Exhibit 10.24 to the Companys Annual Report on Form 10-K for the year ended June 30,
2002 (Commission File No. 0-3295)(25)
    
    Incorporated by reference from Exhibit 10.18 to the Companys Annual Report on Form 10-K for the year ended June 30,
1998 (Commission File No. 0-3295)(26)
    
    Incorporated by reference from Exhibit 10.2 to the Companys Quarterly Report on Form 10-Q for the quarter ended March
31, 1997 (Commission File No. 0-3295)(27)
    
    Incorporated by reference from Exhibit 10.22 to the Companys Annual Report on Form 10-K for the year ended June 30,
2000 (Commission File No. 0-3295)(28)
    
    Incorporated by reference from Exhibit 10.25 to the Companys Annual Report on Form 10-K for the year ended June 30,
2001 (Commission File No. 0-3295)(29)
    
    Incorporated by reference from Exhibit 10.26 to the Companys Annual Report on Form 10-K for the year ended June 30,
2001 (Commission File No. 0-3295)(30)
    
    Filed herewith
 44