ESPEY MFG & ELECTRONICS CORP — Interim / Quarterly Report 2003

May 8, 2003

UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D. C. 20549 FORM 10-Q QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Quarterly Period Ended March 31, 2003 Commission File Number I-4383 ESPEY MFG. & ELECTRONICS CORP. -------------------------------------------------- (Exact name of registrant as specified in charter) NEW YORK 14-1387171 - ------------------------ -------------------------------------- (State of Incorporation) (I.R.S. Employer's Identification No.) 233 Ballston Avenue, Saratoga Springs, New York 12866 - -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code 518-584-4100 --------------------------- Number of shares outstanding of issuer's class of common stock $.33-1/3 par value as of May 5, 2003: 1,020,043. 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 [_] ESPEY MFG. & ELECTRONICS CORP. I N D E X PART I FINANCIAL INFORMATION PAGE Item 1 Financial Statements: Consolidated Balance Sheets - March 31, 2003 and June 30, 2002 1 Consolidated Statements of Income - Three and Nine Months Ended March 31, 2003 and 2002 3 Consolidated Statements of Cash Flows - Nine Months Ended March 31, 2003 and 2002 4 Notes to Consolidated Financial Statements 5 Item 2 Management's Discussion and Analysis of Financial Condition and Results of Operations. 6 Item 4 Controls and Procedures 8 PART II OTHER INFORMATION 9 SIGNATURES 9 ESPEY MFG. & ELECTRONICS CORP. Consolidated Balance Sheets March 31, 2003 and June 30, 2002 ------------------------------------ A S S E T S

See accompanying notes to the consolidated financial statements (Continued) 1 ESPEY MFG. & ELECTRONICS CORP. Consolidated Balance Sheets, Continued March 31, 2003 and June 30, 2002 ------------------------------------ LIABILITIES AND STOCKHOLDERS' EQUITY

2 See accompanying notes to the consolidated financial statements ESPEY MFG. & ELECTRONICS CORP. Consolidated Statements of Income Three and Nine Months Ended March 31, 2003 and 2002 ------------------------------------------------------

See accompanying notes to the consolidated financial statements 3 ESPEY MFG. & ELECTRONICS CORP. Consolidated Statements of Cash Flows Nine Months Ended March 31, 2003 and 2002

See accompanying notes to the consolidated financial statements 4 ESPEY MFG. & ELECTRONICS CORP. Notes to Consolidated Financial Statements ------------------- 1. In the opinion of management the accompanying unaudited consolidated financial statements contain all adjustments (consisting of only normal recurring adjustments) necessary for a fair presentation for results for such periods. The results for any interim period are not necessarily indicative of the results to be expected for the full fiscal year. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles generally accepted in the United States of America have been condensed or omitted. These financial statements should be read in conjunction with the Company's most recent audited financial statements included in its 2002 Form 10-K. 2. Other income consists principally of interest on money market accounts and dividends on equity securities. 3. For purposes of the statements of cash flows, the Company considers all liquid debt instruments with original maturities of three months or less to be cash equivalents. 4. Basic earnings per share excludes dilution and is computed by dividing income available to common stockholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution that could occur if securities or other contracts to issue Common Stock were exercised or converted into Common Stock or resulted in the issuance of Common Stock that then shared in the Income of the Company. 5. In fiscal 1989 the Company established an Employee Stock Ownership Plan (ESOP) for eligible non-union employees. The ESOP used the proceeds of a loan from the Company to purchase 316,224 shares of the Company's common stock for approximately $8.4 million and the Company contributed approximately $400,000 to the ESOP, which was used by the ESOP to purchase an additional 15,000 shares of the Company's common stock. As of March 31, 2003 there were 209,550 shares allocated to participants. 6. Total comprehensive income consists of:

1. In December 2002, the FASB issued Statement of Financial Accounting Standards No. 148 (FAS 148) "Accounting for Stock-Based Compensation - Transition and Disclosure." FAS 148 amends SFAS No. 123, "Accounting for Stock-Based Compensation." The Company has elected to apply Accounting Principles Board Opinion No. 25 "Accounting for Stock Issued to Employees," in accounting for the Plan. Under APB 25, the Company uses the intrinsic value method of accounting for stock options. The initial impact of FAS 148 on pro forma earnings per share may not be representative of the effect on income in future years because options vest over several years and additional option grants may be made each year. 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. 3 Months Ended 9 Months Ended March 31 March 31 2003 2002 2003 2002 ----------------------- ---------------------- Net income as reported $ 575,586 $ 212,644 $ 464,797 $ 498,333 Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects (9,176) (8,479) (27,216) (24,893) ---------- ---------- ---------- ----------- Pro forma net income $ 566,410 $ 204,165 $ 437,581 $ 473,440 ========== ========== ========== =========== Earnings per share: Basic-as reported $ .56 $ .20 $ .45 $ .48 ========== ========== ========== =========== Basic-pro forma $ .55 $ .20 $ .43 $ .46 ========== ========== ========== =========== Diluted-as reported $ .56 $ .20 $ .45 $ .48 ========== ========== ========== =========== Diluted-pro forma $ .55 $ .20 $ .43 $ .46 ========== ========== ========== =========== 5 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Critical Accounting Policies and Estimates We believe our most critical accounting policies include revenue recognition and cost estimation on our contracts. Revenue recognition and cost estimation A significant portion of our business is comprised of development and production contracts which are accounted for under the provisions of the American Institute of Certified Public Accountants (AICPA) Statement of Position No. 81-1, "Accounting for Performance of Construction-Type and Certain Production-Type Contracts." Generally revenue on long-term fixed-price contracts are recorded on a percentage of completion basis using units of delivery as the measurement basis for progress toward completion. Contract accounting requires judgment relative to estimating costs and making assumptions related to technical issues and delivery schedule. Contract costs include material, subcontract costs, labor and an allocation of indirect costs. The estimation of cost at completion of a contract is subject to numerous variables involving contract costs and estimates as to the length of time to complete the contract. Given the significance of the estimation processes and judgments described above, it is possible that materially different amounts of contract costs could be recorded if different assumptions were used, based on changes in circumstances, in the estimation of cost at completion. When a change in contract value or estimated cost is determined, changes are reflected in current period earnings. Results of Operations Net sales for the nine months ended March 31, 2003, (fiscal 2003) were $15,573,319 as compared to $14,401,620 for the same period in 2002, an 8% increase. Net sales for the three months ended March 31, 2003 were $5,707,503 as compared to $4,616,587 for the same period in 2002, a 24% increase. The Company's increase in sales for the three and nine month periods ended March 31, 2003, as compared to March 31, 2002, is due to an increase in power supply, transmitter, and transformer component shipments. During the first nine months of fiscal 2003 gross profits increased to $1,937,073 as compared with $1,901,170 for the first nine months of fiscal 2002. The increase in gross profit for the nine-month period ended March 31, 2003, as compared to the nine months ended March 31, 2002, was the result of an 8% increase in sales partially offset by higher cost of sales as a percentage of total sales for the period. The cost of sales increase was primarily due to higher engineering and prototype development costs. Net income for the nine months ended March 31, 2003 was $464,797 or $.45 per share compared to $498,333 or $.48 per share for the corresponding period ended March 31, 2002. The decrease in net income for the nine-month period was caused by an increase of $117,000 in selling, general and administrative expenses partially offset by the slight increase in gross profit. (See discussion below on selling, general and administrative costs) For the three months ended March 31, 2003 gross profit increased to $1,223,106 as compared to $700,016 for the same period in 2002. For the three months ended March 31, 2003 net income increased to $575,586 as compared to $212,644 for the same period in 2002. The increase in gross profit and net income for the three-month period ended March 31, 2003 as compared to the same period last year was the result of a 24% increase in sales and a favorable mix of product shipments. The favorable product mix occurred as the Company, during this three-month period, shipped more production orders, which normally have higher profit margins, than engineering design and prototype development orders. 6 Management continues to evaluate the Company's workforce to ensure that production and overall execution of the backlog orders and additional anticipated orders are successfully performed in a cost effective manner. Employment at March 31, 2003 was 192 people compared to March 31, 2002 when 189 people were employed. The backlog at March 31, 2003 was approximately $ 22.6 million a decrease of approximately $3.6 million from the prior year. Management continues to market the engineering capabilities and products of the Company. Currently, approximately $30 million in quotations are outstanding to various customers of the Company. New orders for the quarter totaled approximately $2.8 million. Selling, general and administrative expenses were $1,446,007 for the nine months ended March 31, 2003, an increase of $116,523, or 8.8%, as compared to the nine months ended March 31, 2002. Selling, general and administrative expenses were $479,353 for the three months ended March 31, 2003, an increase of $71,003, or 17.4%, compared to the three months ended March 31, 2002. The increase is primarily due to an increase in selling, energy, and insurance costs. Other income for the nine months ended March 31, 2003 decreased as compared to the nine months ended March 31, 2002 due to lower interest income for both periods associated with lower interest rates. Other income for the three months ended March 31, 2003 increased to $23,695 as compared to $12,118 for the three months ended March 31, 2002. This increase is due to a loss on disposal of fixed assets during the 2002 third quarter. The Company does not believe there is significant risk associated with its investment policy, since a majority of the investments are preferred equity securities and a money market account. Liquidity and Capital Resources As of March 31, 2003, the Company had working capital of $ 23.7 million compared to $23.0 million at March 31, 2002. The Company meets its short-term financing needs through cash from operations and when necessary, from its existing cash and cash equivalents. The table below presents the summary of cash flow for the periods indicated:

Net cash provided by operating activities fluctuates between periods primarily as a result of differences in net income, the timing of the collection of accounts receivable, purchase of inventory, level of sales and payment of accounts payable. The decrease in net cash provided by investing activities is due to the increase in additions to plant, property and equipment. The increase in net cash used in financing activities is due to increased treasury stock purchases. The Company currently believes that the cash generated from operations and when necessary, from cash and cash equivalents or advance payments from customers, will be sufficient to meet its long-term funding requirements. Management if necessary, has at its disposal an uncommitted $3,000,000 line of credit to help fund further growth. For the first nine months of fiscal 2003 capital expenditures were approximately $390,000. Since the debt of the Company's ESOP is not to an outside party the Company has eliminated from the Consolidated Statements of Income the offsetting items of interest income and interest expense relating to ESOP. 7 During the nine months ended March 31, 2003 and 2002, the Company repurchased 15,518 shares of its common stock from the Company's ESOP and through other public transactions for a total of $303,188. As of March 31, 2003, under existing Board authorization, $992,267 could be utilized to repurchase shares of company stock. As of March 31, 2003, 1,000 stock options were exercised under the Company's existing stock option plan. New Accounting Standards In December 2002, the FASB issued SFAS No. 148, Accounting for Stock Based Compensation--Transition and Disclosure, an amendment to FASB Statement No. 123. This Statement amends SFAS No. 123, Accounting for Stock-Based Compensation, to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, this Statement amends the disclosure requirements of Statement No. 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. Finally, SFAS No. 148 amends APB Opinion No. 28, Interim Financial Reporting, to require disclosure about those effects in interim financial reporting. For entities that voluntarily change to the fair value based method of accounting for stock-based employee compensation, the transition provisions are effective for fiscal years ending after December 15, 2002. For all other companies, the disclosure provisions and the amendment to APB No. 28 are effective for interim periods beginning after December 15, 2002. The Company does not intend to adopt the transition provisions of the Statement and has made all required disclosures as of March 31, 2003. CAUTIONARY STATEMENT FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 It should be noted that in this Management's Discussion and Analysis of Financial Condition and Results of Operations are "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. The terms "believe," "anticipate," "intend," "goal," "expect," and similar expressions may identify forward-looking statements. These forward-looking statements represent the Company's current expectations or beliefs concerning future events. The matters covered by these statements are subject to certain risks and uncertainties that could cause actual results to differ materially from those set forth in the forward-looking statements, including the Company's dependence on timely development, introduction and customer acceptance of new products, the impact of competition and price erosion, as well as supply and manufacturing constraints and other risks and uncertainties. The foregoing list should not be construed as exhaustive, and the Company disclaims any obligation subsequently to revise any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events. The Company wishes to caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date made. Item 4. Controls and Procedures Within the 90-day period prior to the filing date of this report, an evaluation was conducted under the supervision of and with the participation of Espey's management, including the Chief Executive Officer and the Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures. Based on that evaluation, the Chief Executive Officer and the Chief Financial Officer have concluded that our disclosure controls and procedures are effective to ensure that all material information related to the company and its consolidated subsidiary is made known to them, particularly during the period when our periodic reports are being prepared. Subsequent to the date the Chief Executive Officer and Chief Financial Officer completed their evaluation, there have been no significant changes in our internal controls, or in other factors that could significantly affect the internal controls, including any corrective actions with regard to significant deficiencies and material weaknesses. It should be noted that the design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions, regardless of how remote. 8 ESPEY MFG. & ELECTRONICS CORP. PART II: Other Information and Signatures Item 4. Submission of Matters to a Vote of Security Holders None Item 5. Other Information None Item 6. Exhibits and Reports on Form 8-K None S I G N A T U R E S Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ESPEY MFG. & ELECTRONICS CORP. /s/ Howard Pinsley -------------------------------- Howard Pinsley, President and Chief Executive Officer /s/ David O'Neil -------------------------------- David O'Neil, Treasurer and Principal Financial Officer May 7, 2003 - --------------- Date 9 Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 I, Howard Pinsley, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Espey Mfg. & Electronics Corp. 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; and 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report. 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: May 7, 2003 /s/Howard Pinsley ---------------------------------- Howard Pinsley, President and Chief Executive Officer 10 Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 I, David A. O'Neil, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Espey Mfg. & Electronics Corp. 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; and 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report. 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: May 7, 2003 /s/David A. O'Neil ---------------------------------- David A. O'Neil, Treasurer and Principal Financial Officer 11 Certification of Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 In connection with this quarterly report on Form 10-Q of Espey Mfg. & Electronics Corp. (the "Company"), I, Howard Pinsley, President and Chief Executive Officer of the Company, certify , pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: 1. The report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and 2. The information contained in this report fairly presents, in all material respects, the financial condition and results of operations of the Company Date: May 7, 2003 /s/Howard Pinsley ---------------------------------- Howard Pinsley, President and Chief Executive Officer Certification of Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 In connection with this quarterly report on Form 10-Q of Espey Mfg. & Electronics Corp. (the "Company"), I, David A. O'Neil, Treasurer and Principal Financial Officer of the Company, certify, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: 1. The report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and 2. The information contained in this report fairly presents, in all material respects, the financial condition and results of operations of the Company. Date: May 7, 2003 /s/David A. O'Neil ---------------------------------- David A. O'Neil, Treasurer and Principal Financial Officer 12