Cyalume
Cyalume Technologies Holdings, Inc. (Form: 10-Q, Received: 08/14/2009 14:46:49)
 

UNITED STATES
 SECURITIES AND EXCHANGE COMMISSION
  Washington, D.C. 20549

FORM 10-Q
(Mark One)                                   

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

For the quart erly period ended June 30 , 2009

OR

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

For the transition period from                             to

Commission File Number  000-52247


Cyalume Technologies Holdings, Inc.
(Exact name of registrant as specified in its charter)

Delaware
 
20-3200738
(State or other jurisdiction of
 incorporation or organization)
 
(I.R.S. Employer
 Identification No.)

96 Windsor Street, West Springfield, Massachusetts
 
01089
(Address of principal executive offices)
 
(Zip Code)

(413) 858-2500
(Registrant's telephone number, including area code)

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  ý     No  o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T ( § 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes  o     No  o     

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition s of "large accelerated filer" , "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act.
Large   accelerated   filer  o
 
Accelerated   filer  o
 
Non-accelerated   filer  o
  (Do   not   check   if   a   smaller
reporting   company)
 
Smaller   reporting   company  ý

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes  o     No  ý

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date: As of August 14, 2009, there were outstanding 15,345,925   shares of the registrant’s Common Stock, par value $.001 per share.
 


 
 

 

Cyalume Technologies Holdings, Inc.

FORM 10-Q

INDEX
 
PART I—FINANCIAL INFORMATION
 
   
Item 1.
Financial Statements
 
     
 
Condensed Consolidated Statements of Operations (unaudited) for the three months ended June 30, 2009 and 2008
4
     
 
Condensed Consolidated Statements of Operations (unaudited) for the six months ended June 30, 2009 and 2008
5
     
 
Condensed Consolidated Balance Sheets as of June 30, 2009 (unaudited) and December 31, 2008
6
     
 
Condensed Consolidated Statements of Changes in Stockholders' Equity and Comprehensive Loss for the six months ended June 30, 2009 (unaudited)
7
     
 
Condensed Consolidated Statements of Cash Flows (unaudited) for the six months ended June 30, 2009 and 2008
8
     
 
Notes to Condensed Consolidated Financial Statements (unaudited)
9
     
Item 2.
Management's Discussion and Analysis of Financial Condition and Results of Operations
17
     
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
20
     
Item 4.
Controls and Procedures
20
     
PART II—OTHER INFORMATION
 
   
Item 1.
Legal Proceedings
21
     
Item 1A.
Risk Factors
21
     
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
21
     
Item 3.
Defaults Upon Senior Securities
21
     
Item 4.
Submission of Matters to a Vote of Security Holders
22
     
Item 5.
Other Information
22
     
Item 6.
Exhibits
22
     
Signatures
 
23
 
 
2

 
 
PART I—FINANCIAL INFORMATION

The statements contained in this quarterly report on Form 10-Q, including under the section titled "Management's Discussion and Analysis of Financial Condition and Results of Operations" and other sections of this quarterly report, include 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, including, without limitation, statements regarding our or our management's expectations, hopes, beliefs, intentions or strategies regarding the future. The words "believe," "may," "will," "estimate," "continue," "anticipate," "intend," "expect," "plan" and similar expressions may identify forward-looking statements, but the absence of these words does not mean that a statement is not forward-looking. The forward-looking statements contained in this quarterly report are based on our current expectations and beliefs concerning future developments and their potential effects on us. There can be no assurance that future developments affecting us will be those that we have anticipated. These forward-looking statements involve a number of risks, uncertainties (some of which are beyond our control) or other assumptions that may cause actual results or performance to be materially different from those expressed or implied by these forward-looking statements. Should one or more of these risks or uncertainties materialize, or should any of our assumptions prove incorrect, actual results may vary in material respects from those projected in these forward-looking statements. We undertake no obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, except as may be required under applicable securities laws. Unless the content otherwise requires, all references to "we", "us", the Company" or “Cyalume" in this quarterly r eport on Form 10-Q refers to Cyalume Technologies Holdings, Inc.
 
 
3

 

ITEM 1.
Financial Statements

Cyalume Technologies Holdings, Inc.
Condensed Consolidated Statements of Operations
(in thousands, except shares and per share information)
(Unaudited)

               
Predecessor
 
   
For   the   Three
   
For   the   Three
   
For   the   Three
 
   
Months   Ended
   
Months   Ended
   
Months   Ended
 
   
June   30,
   
June   30,
   
June   30,
 
   
2009
   
2008
   
2008
 
Revenues
  $ 7,959     $     $ 10,737  
Cost of goods sold
    4,575             4,773  
Gross profit
    3,384             5,964  
                         
Other expenses (income):
                       
Sales and marketing
    746             862  
General and administrative
    1,377       157       1,062  
Research and development
    415             313  
Interest, net
    625       (249 )     1,177  
Interest – related party
    15       1        
Amortization of intangible assets
    739             656  
Other, net
    19             (102 )
Total other expenses (income)
    3,936       (91 )     3,968  
                         
Income (loss) before income taxes
    (552 )     91       1,996  
Provision for (benefit from) income taxes
    (57 )     84       640  
Net income (loss)
  $ (495 )   $ 7     $ 1,356  
                         
Net income (loss) per common share:
                       
Basic
  $ (.03 )   $          
Diluted
  $ (.03 )   $          
                         
Weighted average shares used to compute net income (loss) per common share:
                       
Basic
    15,333,160       9,375,000          
Diluted
    15,333,160       11,880,099          

The accompanying notes are an integral part of these condensed consolidated financial statements.

 
4

 

Cyalume Technologies Holdings, Inc.
Condensed Consolidated Statements of Operations
(in thousands, except shares and per share information)
(Unaudited)

               
Predecessor
 
   
For the Six
   
For the Six
   
For the Six
 
   
Months Ended
   
Months Ended
   
Months Ended
 
   
June 30,
   
June 30,
   
June 30,
 
   
2009
   
2008
   
2008
 
Revenues
  $ 14,583     $     $ 20,853  
Cost of goods sold
    8,436             9,790  
Gross profit
    6,147             11,063  
                         
Other expenses (income):
                       
Sales and marketing
    1,531             1,794  
General and administrative
    2,602       412       2,308  
Research and development
    808             678  
Interest, net
    1,252       (613 )     2,496  
Interest – related party
    29       3        
Amortization of intangible assets
    1,734             1,309  
Other, net
    63             (1,097 )
Total other expenses (income)
    8,019       (198 )     7,488  
                         
Income (loss) before income taxes
    (1,872 )     198       3,575  
Provision for (benefit from) income taxes
    (604 )     (20 )     1,237  
Net income (loss)
  $ (1,268 )   $ 218     $ 2,338  
                         
Net income (loss) per common share:
                       
Basic
  $ (0.08 )   $ 0.02          
Diluted
  $ (0.08 )   $ 0.02          
                         
Weighted average shares used to compute net income (loss) per common share:
                       
Basic
    14,956,448       9,375,000          
Diluted
    14,956,448       11,871,317          
 
The accompanying notes are an integral part of these condensed consolidated financial statements.

 
5

 

Cyalume Technologies Holdings, Inc.
  Condensed   Consolidated Balance Sheets
(in thousands, excep t shares and per share information)
 
   
June 30,
       
   
2009
(unaudited)
   
December 31,
2008
 
Assets
           
Current assets :
           
Cash
  $ 1,002     $ 3,952  
Accounts receivable, net of allowance for doubtful accounts of $221 and $452 at June 30, 2009 and December 31, 2008, respectively
    4,588       3,508  
Inventories, net
    10,875       11,447  
Income taxes refundable
    141       701  
Deferred income taxes
    333       317  
Prepaid expenses and other current assets
    294       195  
Total current assets
    17,233       20,120  
                 
Property, plant and equipment, net
    8,211       7,882  
Goodwill
    58,281       60,896  
Other intangible assets, net
    49,705       49,426  
Derivatives
    26        
Other noncurrent assets
    152       188  
Total assets
  $ 133,608     $ 138,512  
                 
Liabilities and Stockholders’ Equity
               
Current liabilities:
               
Lines of credit
  $ 3,300     $ 3,500  
Current portion of notes payable
    4,056       3,621  
Accounts payable
    3,687       3,230  
Accrued expenses and other current liabilities
    2,519       2,550  
Common stock subject to mandatory redemption
          1,123  
Notes payable and advance due to related parties
    64       64  
Income taxes payable
    7       5  
Total current liabilities
    13,633       14,093  
                 
Notes payable, net of current portion
    23,662       25,581  
Notes payable due to related parties, net of current portion
    1,033       1,000  
Deferred income taxes
    7,906       9,237  
Derivatives
          163  
Asset retirement obligation, net of current portion
    133       128  
Total liabilities
    46,367       50,202  
                 
Commitments and contingencies
           
                 
Stockholders' equity:
               
Preferred stock, $0.001 par value; 1,000,000 shares authorized, no shares issued or outstanding
           
Common stock, $0.001 par value; 50,000,000 authorized; 15,328,775 and 13,719,035 issued and outstanding at June 30, 2009 and December 31, 2008, respectively
    15       14  
Additional paid-in capital
    87,545       87,348  
Retained earnings (accumulated deficit)
    (39 )     1,229  
Accumulated other comprehensive loss
    (280 )     (281 )
Total stockholders’ equity
    87,241       88,310  
Total liabilities and stockholders' equity
  $ 133,608     $ 138,512  

The accompanying notes are an integral part of these condensed consolidated financial statements.

 
6

 

Cyalume Technologies Holdings, Inc.
Condensed Consolidated Statements of Changes in Stockholders' Equity and Comprehensive Loss
(in thousands, except shares)
(Unaudited)
 
   
Common Stock
   
Additional
   
Retained
Earnings
   
Accumulated
Other
   
Total
       
   
Number
of Shares
   
Amount
   
Paid-In
Capital
   
(Accumulated
Deficit)
   
Comprehensive
Loss
   
Stockholders’
Equity
   
Comprehensive
Income (Loss)
 
Balance at December 31, 2008
    13,719,035     $ 14     $ 87,348     $ 1,229     $ (281 )   $ 88,310     $  
Exercise of warrants
    5,500             27                   27        
Exercise of warrants - cashless
    1,630,143       1       (1 )                        
Common stock repurchased
    (32,903 )           (263 )                 (263 )      
Common stock awarded (not yet issued) for acquisition-related services
                225                   225        
Share-based compensation expense - warrants awarded to director
                110                   110        
Share-based compensation expense - options awarded under the 2009 Omnibus Securities and Incentive Plan
                52                   52        
Share-based compensation expense - common stock awarded to non-employee consultant
    7,000             25                   25        
Share-based compensation expense - common stock awarded (not yet issued) under the 2009 Omnibus Securities and Incentive Plan
                22                   22        
Foreign currency translation adjustments
                            (117 )     (117 )     (117 )
Unrealized gain on cash flow hedges, net of taxes of $71
                            118       118       118  
Net loss
                      (1,268 )           (1,268 )     (1,268
Comprehensive loss
                                      $ (1,267 )
Balance at June 30, 2009
    15,328,775     $ 15     $ 87,545     $ (39 )   $ (280 )   $ 87,241          

The accompanying notes are an integral part of these condensed consolidated financial statements.

 
7

 
 
Cyalume Technologies Holdings, Inc.
 Condensed Consolidated Statements of Cash Flows
(in thousands, except shares)
(Unaudited)

           
Predecessor
 
 
For the Six
 
For the Six
   
For the Six
 
 
Months Ended
 
Months Ended
   
Months Ended
 
 
June 30,
 
June 30,
   
June 30,
 
 
2009
 
2008
   
2008
 
Cash flows from operating activities:
                   
Net income (loss)
$
(1,268
)
$
218
   
$
2,338
 
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
                   
Depreciation of property, plant and equipment
 
320
   
     
428
 
Amortization
 
2,420
   
     
1,473
 
Provision for deferred income taxes
 
(869
)
 
     
620
 
Other non-cash expenses
 
503
   
     
556
 
Changes in operating assets and liabilities:
                   
Accounts receivable
 
(1,127
)
 
     
(35
)
Inventories
 
(166
)
 
     
(2,000
)
Prepaid expenses and other current assets
 
(101
)
 
55
     
208
 
Deferred acquisition costs
 
   
(177
)
   
 
Accounts payable and accrued liabilities
 
229
   
(4
)
   
(1,354
)
Income taxes payable, net
 
532
   
(20
)
   
(1,834
)
Accrued interest on notes payable to related parties
 
(2)
   
13
     
 
Net cash provided by operating activities
 
471
   
85
     
400
 
                     
Cash flows from investing activities:
                   
Payments to trust account
 
   
(180
)
   
 
Purchases of long-lived assets
 
(283
)
 
     
(779
)
Net cash used in investing activities
 
(283
)
 
(180
)
   
(779
)
                     
Cash flows from financing activities:
                   
Repayment of advances from and notes payable to related parties
 
   
(100
)
   
 
Payments for common stock subject to redemption
 
(1,123
)
 
     
 
Net repayment of line of credit
 
(200
)
 
     
 
Payments of Predecessor notes payable
 
   
     
(1,702
)
Repayment of long-term notes payable
 
(1,646
)
 
     
 
Payments to reacquire and retire common stock
 
(263
)
 
     
 
Refund of debt issue costs
 
10
   
     
 
Proceeds from exercises of warrants
 
27
   
     
 
Net cash used in financing activities
 
(3,195
)
 
(100
)
   
(1,702
)
                     
Effect of exchange rate changes on cash
 
57
   
     
108
 
Net decrease in cash
 
(2,950
)
 
(195
)
   
(1,973
)
Cash, beginning of period
 
3,952
   
570
     
5,743
 
Cash, end of period
$
1,002
 
$
375
   
$
3,770
 
 
The accompanying notes are an integral part of these condensed consolidated financial statements.

 
8

 

Cyalume Technologies Holdings, Inc.
Notes to Condensed Consolidated Financial Statements

1.
BASIS OF PRESENTATION

We have prepared the accompanying unaudited interim condensed consolidated financial statements in accordance with accounting principles generally accepted in the United States of America for interim financial information and the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, these interim condensed consolidated financial statements do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements.
 
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 period.

These accompanying unaudited interim condensed consolidated financial statements recognize the effects of all subsequent events that provide additional evidence about conditions that existed at June 30, 2009, including the estimates inherent in the process of preparing financial statements.  We have evaluated such subsequent events through August 14, 2009, which is the date the accompanying unaudited interim condensed consolidated financial statements were issued (see also Note 14). Additionally, a ll significant intercompany accounts and transactions have been eliminated in consolidation.
 
Certain amounts in prior periods have been reclassified to conform to the 2009 presentation. These reclassifications had no effect on operating results as previously reported.

We believe all adjustments (consisting of normal, recurring adjustments) considered necessary for a fair presentation have been included in these interim condensed consolidated financial statements. Operating results for the three and six-month periods presented are not necessarily indicative of the results that may be expected for any other interim period or for the full year. The consolidated balance sheet at December 31, 2008 has been derived from the audited consolidated financial statements at that date. We suggest that these unaudited interim condensed consolidated financial statements be read in conjunction with the consolidated financial statements and footnotes thereto in our Annual Report on Form 10-K/A for the year ended December 31, 2008.

2.
BACKGROUND AND DESCRIPTION OF BUSINESS

Before December 19, 2008, we conducted business under the name Vector Intersect Security Acquisition Corporation (‘‘Vector’’). Vector was a blank check development stage company, as it had no business. Its objective was to acquire through merger, capital stock exchange, asset acquisition or otherwise one or more businesses in the homeland security, national security and/or command and control industries.

On December 19, 2008, Vector acquired all of the outstanding ownership units of Cyalume Technologies, Inc (“CTI”) from GMS Acquisition Partners Holdings, LLC (“GMS”) (the “Acquisition”). GMS was the sole stockholder in CTI, which has a wholly-owned subsidiary (Cyalume Technologies, S.A.S. or “CTSAS”). At the Acquisition date, Vector changed its name to Cyalume Technologies Holdings, Inc. (“Cyalume”). In these interim condensed consolidated financial statements and footnotes, Cyalume’s operating results include the operations of the former Vector for 2008 and CTI’s operations after the Acquisition date. CTI’s operations prior to the Acquisition date are presented as Predecessor.

CTI manufactures and sells chemiluminescent products and reflective and photoluminescent materials to military, commercial and public safety markets. CTSAS is geographically located in France and represents us in certain international markets, primarily Europe and Asia.

3.
NEW ACCOUNTING PRONOUNCEMENTS

In December 2007, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standard (“SFAS”) No. 160, Noncontrolling Interests in Consolidated Financial Statements – an amendment of ARB No. 51 (“SFAS No. 160”). SFAS No. 160 is effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2008. The objective of SFAS No. 160 is to improve the relevance, comparability and transparency of the financial information that a reporting entity provides in its consolidated financial statements. The adoption of SFAS No. 160 on January 1, 2009 did not have an impact on our condensed consolidated financial statements.

 
9

 

Cyalume Technologies Holdings, Inc.
Notes to Condensed Consolidated Financial Statements

In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities – an amendment of FASB Statement No. 133 (“SFAS No. 161”). SFAS No. 161 requires enhanced disclosures about an entity’s derivative instruments and hedging activities with a view toward improving the transparency of financial reporting and is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged. SFAS No. 161 encourages, but does not require, comparative disclosures for earlier periods at initial adoption. The adoption of SFAS No. 161 on January 1, 2009 resulted in additional disclosures in our condensed consolidated financial statements.

Effective January 1, 2009, we adopted Statement of Financial Accounting Standard No. 157, Fair Value Measurements , (“SFAS No. 157”), for our nonfinancial assets and liabilities that are measured at fair value on a non-recurring basis.  Previous to January 1, 2009, SFAS No. 157 did not apply to such assets and liabilities. The adoption of SFAS No. 157 on January 1, 2009 for such assets and liabilities did not have an impact on our condensed consolidated financial statements.

In April 2009, the FASB issued FASB Staff Position No. FAS 107-1 and APB 28-1, Interim Disclosures about Fair Value of Financial Instruments (“FSP No. 107-1”). FSP No. 107-1 requires summarized disclosure in interim periods of the fair value of all financial instruments for which it is practicable to estimate that value, whether recognized or not recognized in the financial statements, as required by SFAS No. 107, Disclosures about Fair Value of Financial Instruments and   Accounting Principles Board Opinion No. 28, Interim Financial Reporting. Previous to FSP No. 107-1, such disclosures were required only for annual periods. The adoption of FSP No. 107-1 on April 1, 2009 resulted in additional disclosures in our unaudited interim condensed consolidated financial statements.

In May 2009, the FASB issued SFAS No. 165, Subsequent Events (“SFAS No. 165”). SFAS No. 165 establishes general standards of accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or are available to be issued. The adoption of SFAS No. 165 on June 30, 2009 required us to disclose the date through which we have evaluated subsequent events and whether that date is the date the financials were issued.

4.
INVENTORIES

Inventories consist of the following (all amounts in thousands) :
   
June 30,
2009
   
December 31,
2008
 
Raw materials
  $ 5,011     $ 5,822  
Work-in-process
    3,543       3,484  
Finished goods
    2,321       2,141  
    $ 10,875     $ 11,447  

5.
GOODWILL

Goodwill represents the excess of the cost of acquiring CTI over the net fair value assigned to assets acquired and liabilities assumed. Changes in the carrying amount of goodwill between December 31, 2008 and June 30, 2009 consist of the following (all amounts in thousands):

Balance on December 31, 2008
 
$
60,896
 
Additional goodwill recognized:
       
Finalization of the fair value of intangible assets
   
(2,024
)
Finalization of the fair value of property, plant & equipment
   
(372
)
Additional Acquisition costs recognized
   
435
 
Adjustments resulting from finalization of deferred taxes
   
(549
)
Changes due to foreign currency translation adjustments
   
(105
)
Balance on June 30, 2009
 
$
58,281
 
 
 
10

 

Cyalume Technologies Holdings, Inc.
Notes to Condensed Consolidated Financial Statements

6.
DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES

The derivative liabilities as of June 30, 2009 in our condensed consolidated balance sheet consist of the following (all amounts in thousands):
               
Derivative Instrument
 
Balance Sheet Location
 
Fair Value
 
Interest rate swaps
 
Derivatives (noncurrent assets)
 
$
26
 

The Predecessor did not hold any derivative instruments before the Acquisition.

Interest Rate Swaps

Simultaneous with the Acquisition, we entered into two pay-fixed, receive-variable interest rate swaps to reduce exposure to changes in cash payments caused by changes in interest rates on certain senior long-term notes payable that were also entered into on the date of the Acquisition. Both relationships are designated as cash flow hedges and meet the criteria for the shortcut method for assessing hedge effectiveness; therefore, the hedge is assumed to be 100% effective and all changes in the fair value of the interest rate swaps are recorded in consolidated accumulated other comprehensive loss. These changes in fair value must be reclassified in whole or in part from consolidated accumulated other comprehensive loss into earnings if, and when, a comparison of the swaps and the related hedged cash flows demonstrates that the shortcut method is no longer applicable. We expect these hedges to meet the criteria of the shortcut method for the duration of the hedging relationship and therefore we do not expect to reclassify any portion of these unrealized losses from consolidated accumulated other comprehensive loss to earnings in the future.

The fair values of the swaps are determined by discounting the estimated cash flows to be received and paid due to the swaps over the swaps’ contractual lives using an estimated risk-free interest rate for each swap settlement date.

Currency Forward Contracts

CTSAS’s functional currency is the Euro. Periodically, CTSAS purchases inventory from CTI, which requires payment in U.S. dollars. Beginning in 2009 and only under certain circumstances, we use currency forward contracts to mitigate CTSAS’s exposure to changes in the Euro-to-U.S.-dollar exchange rate upon CTSAS’s payment to CTI for these inventory purchases.  Such currency forward contracts typically have durations of less than six months. We report these currency forward contracts at their fair value. This relationship has not been designated as a hedge and therefore all changes in these currency forward contracts’ fair value are recorded in other loss (income) on our condensed consolidated statement of operations. The fair value of these contracts are determined by taking the difference between (a) the U.S. dollar amount due on the contract at maturity and (b) the present value of estimated cash flows developed using, among other data, expectations of future currency exchange rates over the remaining term of the contract discounted at an estimated risk-free interest rate. At June 30, 2009, we hold no such currency forward contracts.

Effect of Derivatives on Statement of Operations

The effect of derivative instruments (a) designated as cash flow hedges and (b) not designated as hedging instruments on our condensed consolidated statement of operations for the three months ended June 30, 2009 was as follows (all amounts in thousands):
 
   
Gain (Loss)
   
Gain (Loss)
   
Gain (Loss)
 
   
In AOCI (1)
   
Reclassified (2)
   
in Earnings (3)
 
Derivatives in cash flow hedging relationships:
                 
Interest rate swaps
  $ 131     $     $  
Derivatives not designated as hedging instruments:
                       
Forward currency contracts
  $     $     $ 3  

 
(1)
Amount recognized in accumulated other comprehensive loss (AOCI) (effective portion and net of taxes) during the three months ended June 30, 2009.
 
(2)
Amount of gain (loss) originally recorded in AOCI but reclassified from AOCI into earnings during the three months ended June 30, 2009.

 
11

 

Cyalume Technologies Holdings, Inc.
Notes to Condensed Consolidated Financial Statements

 
(3)
Amount of gain (loss) recognized in earnings on the derivative (ineffective portion and amount excluded from effectiveness testing) reported in other loss (income) on the condensed consolidated statement of operations for the three months ended June 30, 2009.

The effect of derivative instruments (a) designated as cash flow hedges and (b) not designated as hedging instruments on our condensed consolidated statement of operations for the six months ended June 30, 2009 was as follows (all amounts in thousands):
 
   
Gain (Loss)
   
Gain (Loss)
   
Gain (Loss)
 
   
In AOCI (1)
   
Reclassified (2)
   
in Earnings (3)
 
Derivatives in cash flow hedging relationships:
                 
Interest rate swaps
  $ 118     $     $  
Derivatives not designated as hedging instruments:
                       
Forward currency contracts
  $     $     $  

 
(1)
Amount recognized in accumulated other comprehensive loss (AOCI) (effective portion and net of taxes) during the six months ended June 30, 2009.
 
(2)
Amount of gain (loss) originally recorded in AOCI but reclassified from AOCI into earnings during the six months ended June 30, 2009.
 
(3)
Amount of gain (loss) recognized in earnings on the derivative (ineffective portion and amount excluded from effectiveness testing) reported in other loss (income) on the condensed consolidated statement of operations for the six months ended June 30, 2009.

7.
SHARE-BASED AWARDS

On March 3, 2009, our Board of Directors adopted the Cyalume Technologies Holdings, Inc. 2009 Omnibus Securities and Incentive Plan (the “Plan”). The Plan was approved during our Annual Meeting of the Stockholders on June 18, 2009. The purpose of the Plan is to benefit our stockholders by assisting us to attract, retain and provide incentives to key management employees and non-employee directors of, and non-employee consultants to, Cyalume Technologies Holdings, Inc. and its subsidiaries, and to align the interests of such employees, non-employee directors and non-employee consultants with those of our stockholders. Accordingly, the Plan provides for the granting of Distribution Equivalent Rights, Incentive Stock Options, Non-Qualified Stock Options, Performance Share Awards, Performance Unit Awards, Restricted Stock Awards, Stock Appreciation Rights, Tandem Stock Appreciation Rights, Unrestricted Stock Awards or any combination of the foregoing, as may be best suited to the circumstances of the particular employee, director or consultant as provided herein. Two million shares have been reserved under the Plan. We expect to file Form S-8 with the SEC to register the shares under the Plan.

Also on March 3, 2009, the Board of Directors authorized the following (i) 75,000 restricted shares of common stock to non-employee consultants; (ii) 133,333 restricted shares of common stock and 200,000 restricted options to our executive officers and other management; and, (iii) a total of 82,500 options to directors.  Details on these awards are as follows:

 
·
The 75,000 restricted shares to non-employee consultants (including 45,000 earned by our current Chief Executive Officer as a consultant to the Company prior to becoming an employee) are to be issued as payment for services rendered in conjunction with the Acquisition. The fair value of this award was determined to be $225,000 using the quoted market price of the common stock on March 3, 2009 of $3. This is recorded as an increase to goodwill related to the Acquisition on the accompanying condensed consolidated balance sheet as of June 30, 2009. These restricted shares will vest over a 3-year period with no provision requiring continued employment or service to the Company.

 
·
The 114,333 restricted shares to officers and other management are (i) compensation for their services in 2009, (ii) earned based on meeting board-determined performance goals and (iii) require continued employment over the 3-year vesting period . The fair value of the award was determined to be $172,000 using the quoted market price of the common stock on March 3, 2009 of $3 and applying appropriate estimated forfeiture rates.

 
·
The 9,000 common shares to our executive officers and other management are (i) compensation for their services during 2008, (ii) were earned based on meeting board-determined goals and (iii) require continued employment over the 3-year vesting period . The fair value of the award was determined to be $27,000, using the quoted market price of the common stock on March 3, 2009 of $3.

 
12

 

Cyalume Technologies Holdings, Inc.
Notes to Condensed Consolidated Financial Statements

 
·
Remaining restricted shares totaling 10,000 have been reserved for future awards.

·
The 200,000 restricted options to our Chief Executive Officer are (i) compensation for his services in 2009, (ii) earned based on meeting board-determined performance goals and (iii) require continued employment over the 3-year vesting period. The 82,500 options to directors are compensation for their services as directors that will vest immediately. The award’s fair value of $386,000 was determined using the Black-Scholes pricing model. The following assumptions were used to value the award :
 
Risk-free interest rate
   
2.93
%
Expected term
 
10 years
Expected volatility   (1)
   
34.11
%
Expected forfeitures for options to our chief executive officer
   
50
%
Expected forfeitures for options to our directors
   
0
%
Dividend yield
   
0
%

On April 24, 2009, the Board of Directors awarded to one director warrants to purchase 150,000 shares of our common stock at $3.50 per share. The warrants are for compensation for services as director that vested immediately. The award’s fair value of $110,000 was determined using the Black-Scholes pricing model. The following assumptions were used to value the award :
 
Risk-free interest rate
   
1.87
%
Expected term
 
5 years
Expected volatility   (1)
   
25.98
%
Expected forfeitures for options to our directors
   
0
%
Dividend yield
   
0
%
 
 
(1)
Because our common stock did not have a trading history that was representative of an operating company as of the date of the award, the expected volatility assumption was derived using historical data of another public company operating in our industry. We believe the volatility estimate calculated from that company is a reasonable benchmark to use in estimating the expected volatility of our common stock; however, that estimated volatility may not necessarily be representative of the volatility of the underlying securities in the future.

On May 16, 2009, the Board of Directors awarded 7,000 common shares to a non-employee consultant as payment for investor relations-related services performed. The fair value of this award was determined to be $25,000 using the quoted market price of the common stock on May 16, 2009 of $3.50 per share.

During the three and six months ended June 30, 2009, total expense recorded for all awards described above was $173,000 and $209,000, respectively.

8.
RESTRUCTURING COSTS

During six months ended June 30, 2008, the Predecessor underwent a corporate restructuring pursuant to which the CEO and two Vice-Presidents left CTI, resulting in a restructuring charge of $1.1 million.  The following table summarizes restructuring cost activity from December 31, 2008 through June 30, 2009 (all amounts in thousands):

Balance on December 31, 2008
 
$
229
 
Cash payments
   
(229
)
Balance on June 30, 2009
 
$
 

The $1.1 million of restructuring charges is included in the Predecessor’s condensed consolidated statement of operations   as an other loss for the six months ended June 3 0 , 2008.

9.
INCOME TAXES

For the six months ended June 30, 2009 and for the Predecessor’s six months ended June 30, 2008, effective tax rates of 32% and 35%, respectively, differed from the statutory rate of 34% due to state and foreign taxes. For the six months ended June 30, 2008, the effective tax rate of (10)% differed from the statutory rate of 34% due to tax-exempt interest income, state taxes and an increase in the valuation allowance on deferred income tax assets.

 
13

 

Cyalume Technologies Holdings, Inc.
Notes to Condensed Consolidated Financial Statements

For the three months ended June 30, 2009 and for the Predecessor’s three months ended June 30, 2008, effective tax rates of 10% and 32%, respectively, differed from the statutory rate of 34% due to state and foreign taxes. For the three months ended June 30, 2008, the effective tax rate of 92% differed from the statutory rate of 34% due to tax-exempt interest income, state taxes and an increase in the valuation allowance on deferred income tax assets.

10.
NET INCOME (LOSS) PER COMMON SHARE

We account for and disclose net income (loss) per common share in accordance with SFAS No. 128, Earnings per Share . Basic net income (loss) per common share is computed by dividing net income (loss) by the weighted average number of common shares outstanding. Diluted net income (loss) per common share is computed by dividing net income (loss) by the weighted average number of common shares and dilutive potential common share equivalents then outstanding. Potential common shares consist of shares issuable upon the exercise of warrants (using the treasury stock method).
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
 
2009
 
2008
 
2009
 
2008
 
Basic:
                       
Net income (loss) (in thousands)
$
(495
)
$
7
 
$
(1,268
$
218
 
Weighted average shares
 
15,333,160
   
9,375,000
   
14,956,448
   
9,375,000
 
Basic income (loss) per common share
$
(0.03
)
$
 
$
(0.08
$
0.02
 
Diluted:
                       
Net income (loss) (in thousands)
$
(495
)
$
7
 
$
(1,268
$
218
 
Weighted average shares
 
15,333,160
   
9,375,000
   
14,956,448
   
9,375,000
 
Effect of dilutive securities
 
(1)
 
2,505,099
   
(1)
 
2,496,317
 
Weighted average shares, as adjusted
 
15,333,160
   
11,880,099
   
14,956,448
   
11,871,317
 
Diluted income (loss) per common share
$
(0.03
)
$
 
$
(0.08
)
$
0.02
 

 
(1)
Since we experienced a loss during this period, common shares issuable upon exercise of convertible securities were excluded from the loss per share calculation because the effect would be antidilutive.

The following common shares issuable upon exercise of convertible securities were excluded from the calculation of diluted net income (loss) per common share because their effect was antidilutive for each of the periods presented:

   
For   The   Periods   Ended   June   30,
 
   
2009
 
2008
 
Warrants
   
4,370,256
   
 
Options
   
1,745,000
   
1,462,500
 

11.
COMMITMENTS AND CONTINGENCIES

Legal

We do not expect that the various legal proceedings we are involved in, including those discussed in the following paragraph, will have a material adverse effect on our future financial position, operating results, or cash flows.

As discussed in Note 2, we acquired CTI on December 19, 2008. As part of the Acquisition, we acquired CTI’s exposure to litigation that existed at the acquisition date. On January 23, 2006, GMS acquired all of the outstanding capital stock of Omniglow Corporation (the “Transaction”) and changed the name of the company to CTI. Prior to, or substantially simultaneously with, the Transaction, CTI sold certain assets and liabilities related to Omniglow Corporation’s novelty and retail business to certain former Omniglow Corporation stockholders and management (the “Omniglow Buyers”).  This was done because CTI sought to retain only the Omniglow Corporation assets and current liabilities associated with its government, military and safety business. During 2006, CTI and the Omniglow Buyers commenced litigation and arbitration proceedings against one another. Claims include breaches of a lease and breaches of various other agreements between CTI and the Omniglow Buyers.  The Omniglow Buyers seek compensatory damages of $1.4 million, to be trebled, and recovery of costs and legal fees. We have filed for damages of $368,000 against the Omniglow Buyers.  We continue to rigorously defend our position on these matters, as we believe the Omniglow Buyers’ claims to be without merit.

 
14

 


Cyalume Technologies Holdings, Inc.
Notes to Condensed Consolidated Financial Statements

During 2006, CTI and the former stockholders of Omniglow (“Sellers”) commenced arbitration proceedings against one another that are separate and distinct from those discussed in the previous paragraph. These arbitration proceedings included claims with respect to certain representations, warranties, contracts, covenants and other agreements in connection with the Transaction and a number of other unrelated items.  In January 2008, CTI reached settlement with the Sellers on all matters, which resulted in CTI receiving $3.0 million in cash. The terms of the settlement, which was reached to minimize the parties' risk, time and cost of further litigation, gave no explicit consideration as to whether the disputes being resolved arose in the purchase process or pursuant to subsequent events. As a result, CTI followed the guidance in SFAS No. 141, Business Combinations and SFAS No. 16, Prior Period Adjustments and reflected the settlement as a gain in 2008, rather than an adjustment to the purchase price. The net gain of $2.8 million is included in other income on the accompanying condensed consolidated financial statements of the Predecessor for the six months ended June 30, 2008.

12.
FAIR VALUE

Effective January 1, 2008, we adopted SFAS No. 157, which establishes a framework for measuring fair value and requires enhanced disclosures about fair value measurements.  SFAS No. 157 clarifies that fair value is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. SFAS No. 157 also requires disclosure about how fair value is determined for assets and liabilities and establishes a hierarchy for which these assets and liabilities must be grouped, based on significant levels of inputs as follows:

Level 1
Quoted prices for identical assets or liabilities in active markets to which we have access at the measurement date.
Level 2
Inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly.
Level 3
Unobservable inputs for the asset or liability .

The determination of where assets and liabilities fall within this hierarchy is based upon the lowest level of input that is significant to the fair value measurement. As of June 30, 2009, the only assets and liabilities required to be measured at fair value on a recurring basis were the interest rate swaps described in Note 6, all of which are measured at fair value using Level 2 inputs.  Previous to June 30, 2009, we believed our derivative instruments discussed in Note 6 (interest rate swaps and currency forward contracts) were valued with Level 3, rather than Level 2, inputs. The following table reflects their activity, including their transfer from Level 3 to Level 2, for the three and six month periods ended June 30, 2009 (all amounts in thousands):

   
Currency
Forward
Contracts
   
Interest  Rate
Swaps
 
Balance as of December 31, 2008
  $     $ (163 )
Transfers into Level 3 from Level 1 or Level 2
           
Transfers out of Level 3 into Level 1 or Level 2
           
Total gains or (losses), realized or unrealized:
               
Included in earnings
    (3 )      
Included in other comprehensive loss
          (21 )
Purchases, issuances and settlements, net
           
Balance as of March 31, 2009
    (3 )     (184 )
Transfers into Level 3 from Level 1 or Level 2
           
Transfers out of Level 3 into Level 1 or Level 2
    3       184  
Total gains or (losses), realized or unrealized:
               
Included in earnings
           
Included in other comprehensive loss
           
Purchases, issuances and settlements, net
           
Balance as of June 30, 2009
  $     $  

Fair Value of Other Financial Instruments

We have other non-derivative financial instruments, such as cash, accounts receivable, accounts payable, accrued expenses and long-term debt, whose carrying amounts approximate fair value.

 
15

 

Cyalume Technologies Holdings, Inc.
Notes to Condensed Consolidated Financial Statements

13.
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION

Cash Paid for Interest and Income Taxes (all amounts in thousands) :

 
Six   Months   Ended   June   30,
   
Predecessor
For   the   Six
Months   Ended
June   30,
 
 
2009
 
2008
   
2008
 
Interest
  $ 970     $     $ 2,227  
Income taxes
    395             1,973  

Non-Cash Investing and Financing Activities (all amounts in thousands) :

 
Six Months Ended June 30,
 
Predecessor
For the Six
Months Ended
June 30,
 
 
2009
 
2008
   
2008
 
Increase in the Acquisition date fair value of intangible assets (a reduction of goodwill)
$
2,024
 
$
 
$
 
Increase in the Acquisition date fair value of property, plant & equipment (a reduction of goodwill)
 
372
   
   
 
Accrual of costs directly related to the Acquisition (an increase to goodwill)
 
435
   
   
 
Reduction of goodwill resulting from subsequent recognition of deferred taxes
 
(549
)
 
   
 

14.
SUBSEQUENT EVENTS

In July 2009, $55,000 of the $64,000 notes payable due to related parties that existed at June 30, 2009 was repaid in full, along with all accrued interest, through the issuance of 17,150 restricted shares of our common stock. This transaction will have a negligible effect on our consolidated financial statements.
 
As of June 30, 2009, we did not meet two financial covenants that utilize non-GAAP measurements contained in our Revolving Credit and Term Loan Agreement. The Revolving Credit and Term Loan Agreement governs our notes payable, line of credit and derivative transactions with our senior lender. On August 14, 2009, we have reached an agreement subject to conditions precedent with the senior lender (which the parties believe will be satisfied) to waive covenant violations and modify terms of the Revolving Credit and Term Loan Agreement.. There have been no principal or interest payment defaults on these notes and we do not expect any such payment defaults in the future. In accordance with the waiver agreement , certain other terms of the Revolving Credit and Term Loan Agreement were changed, including :   (i) modification (some more and some less restrictive) of and addition to the required financial covenants associated with the Revolving Credit and Term Loan Agreement, (ii) shortening of the line of credit’s maturity by one year to December 31, 2010 (iii) a change in the calculation of availability of the line of credit and (iv) a 1.5% increase in the current borrowing rate .  We believe it is probable we will satisfy these future covenant requirements.
 
16

 
ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
This discussion and analysis should be read in conjunction with the consolidated financial statements and notes to the consolidated financial statements that are included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2008 (the Annual Report), as well as the consolidated financial statements (unaudited) and notes to the condensed consolidated financial statements (unaudited) and accompanying notes contained in this report. This discussion contains forward-looking statements that involve risks and uncertainties. Unless the content otherwise requires, all references to "we", "us", the Company" or “Cyalume" in this Quarterly Report on Form 10-Q refers to Cyalume Technologies Holdings, Inc.
 
Overview
 
On December 19, 2008, we purchased Cyalume Technologies, Inc. (“CTI”). Prior to the acquisition of CTI, we did not engage in any substantive commercial business. The Results of Cyalume Operations section below compares the financial results from our financial statements for the three-month and six-month periods ended June 30, 2009 to the comparable periods in 2008, which did not include the operations of CTI, and also to the operating results of CTI (the “Predecessor”) for the comparable periods in 2008.
 
Results of Cyalume Operations
 
Revenues :  For the three months ended June 30, 2009, our revenues were $8.0 million, compared to same period 2008 revenues for us of $0 and for the Predecessor of $10.7 million.  For the six months ended June 30, 2009, our revenues were $14.6 million, compared to same period 2008 revenues for us of $0 and for the Predecessor of $20.9 million. We did not engage in any substantive business operations in the first two quarters of 2008, and as such we recorded no sales during those quarters. For the three-month and six-month periods ended June 30, 2009, our sales were significantly lower than the Predecessor’s sales for the comparable periods in 2008 due to a reduction in units of both chemical light and reflective products sold to the U.S. Military and foreign militaries . We believe this reduced demand for our products was temporary as we are not aware of any material changes in the protocol for the use of our products. Beginning in May 2009, orders from the U.S. Military for chemical light products increased to more normal levels, which supports our belief that the sales reduction is temporary. As a result of the increased orders for the chemical light products, revenues for the three-month period ending June 30, 2009 were 20% higher than revenues for the first quarter, although still below revenues for the same period a year ago. We expect sales of reflective products to the U.S. Military and chemical light products to foreign militaries to increase to more normal levels towards the end of our third fiscal quarter. This is when we expect that stocking levels held by the various militaries will need to be replenished.
 
Revenues from our ammunition products of $2.9 million for the six-month period ended June 30, 2009 were approximately 97% higher than for the same period in 2008, meeting our growth expectations and partially offsetting declines in the other areas of our business.
 
Gross profit :  For the three months ended June 30, 2009, our gross profit was $3.4 million, compared to same period 2008 gross profit for us of $0 and for the Predecessor of $6.0 million.  For the six months ended June 30, 2009, our gross profit was $6.1 million, compared to same period 2008 gross profit for us of $0 and for the Predecessor of $11.1 million. We did not engage in any substantive business operations in the first two quarters of 2008, and as such we recorded no cost of sales during those quarters. For the three-month and six-month periods ended June 30, 2009, our cost of sales were significantly lower than the Predecessor’s cost of sales for the comparable periods in 2008 due to the reduction in units sold discussed above.  Our gross margin for the six-months ended June 30, 2009 was 42.2% compared to 53.1% for the Predecessor in 2008. The decline in gross margin is attributable to the decline in sales of higher-margin chemical light sticks to the U.S. Military, the cost of a workforce reduction and the amortization of $572,000 of the inventory step-up to fair market value arising from the acquisition of CTI included in cost of goods sold, combined with normal inflationary increases in costs of labor and materials. We anticipate the amortization of the remaining $ 148 ,000 step-up in the third quarter of 2009.
 
Sales and marketing expenses :  For the three months ended June 30, 2009, our sales and marketing expenses were $746,000, compared to same period 2008 sales and marketing expenses for us of $0 and for the Predecessor of $862,000. For the six months ended June 30, 2009, our   sales and marketing expenses were $1.5 million, compared to same period 2008 sales and marketing expenses for us of $0 and for the Predecessor of $1.8 million. We did not engage in any substantive business operations in the first two quarters of 2008, and as such we recorded no sales and marketing expense during those quarters. The reduction compared to the Predecessor is due to the change in commercial sales strategies to make more extensive use of distributors who have established key relations with end-users, rather than trying to sell direct to consumers , thus reducing direct selling expenses .
 
General and administrative expenses :    For the three months ended June 30, 2009, our general and administrative expenses were $1.4 million, compared to same period 2008 general and administrative expenses for us of $157,000 and for the Predecessor of $1.1 million. For the six months ended June 30, 2009, our   general and administrative expenses were $2.6 million, compared to same period 2008 general and administrative expenses for us of $412,000 and for the Predecessor of $2.3 million.  We did not engage in any substantive business operations in the first two quarters of 2008, and as such the only general and administrative expenses incurred were those related to the efforts to consummate a business acquisition and fulfilling our obligations as a publicly traded company. The business acquisition-related expenses ended in 2008 with the acquisition of CTI. Our general and administrative expenses for the three-months and six-months ended June 30, 2009 include the expenses related to being a publicly owned company. The Predecessor’s results for the comparable periods in 2008 did not include similar expenses. As a result, our general and administrative expenses for 2009 are greater than the Predecessor’s for the comparable periods.

 
17

 
 
Interest expense (income), net :  For the three months ended June 30, 2009, our interest expense was $625,000, compared to same period 2008 interest income was for us of $249,000 and interest expense for the Predecessor of $1.2 million. For the six months ended June 30, 2009, our   interest expense was $1.3 million, compared to same period 2008 interest income for us of $613,000 and interest expense for the Predecessor of $2.5 million. In 2008, we earned interest income on cash held in trust pending the completion of an acquisition. In December 2008, this cash was used to purchase CTI, and therefore, our interest income in 2009 has been minimal. Additionally, we borrowed $33.0 million in notes payable to complete the acquisition of CTI, which resulted in our recording interest expense in 2009. Interest expense has decreased compared to the Predecessor due to our having less debt and paying lower average interest rates than the Predecessor.
 
Amortization of intangible assets:  For the three months ended June 30, 2009, our amortization of intangible asset expense was $739,000, compared to same period 2008 amortization of intangible asset expense for us of $0 and for the Predecessor of $656,000. For the six months ended June 30, 2009, our   amortization of intangible asset expense was $1.7 million, compared to same period 2008 amortization of intangible asset expense for us of $0 and for the Predecessor of $1.3 million. As a result of the acquisition of CTI, we recorded significant intangible assets in December 2008. We are amortizing intangible assets into expense in 2009, after having no amortization expense in the comparable periods in 2008. The Predecessor had intangible assets as a result of a prior acquisition, and related amortization of intangible assets expense in 2008.
 
Other loss ( income ), net:  For the three months ended June 30, 2009, our other loss expense was $19,000, compared to same period 2008 other loss (income) for us of $0 and other income for the Predecessor of $102,000. For the six months ended June 30, 2009, our   other loss expense was $63,000, compared to same period 2008 other loss (income) for us of $0 and other income for the Predecessor of $1.1 million. In the first quarter of 2008 ,   the Predecessor reached a settlement with the pre-2006 owners of CTI in connection with litigation . The Predecessor received $3.0 million in cash, resulting in a net gain of $2.8 million on the settlement. Several one-time expenses partially offset this net gain. The most significant was a restructuring charge of $1.1 million. The Predecessor implemented a restructuring to facilitate its sale to us, pursuant to which the chief executive officer and two v ice- p residents left .   In addition, the Predecessor incurred approximately $0.6 million of costs related to the acquisition, primarily legal and accounting fees.
 
Provision for (benefit from) i ncome tax es:   The benefit from income taxes increased for the three - month and six-month periods ended June 30 , 2009 as compared to the same periods in 2008 due to net operating losses generated by CTI.
 
Balance Sheet
 
Assets, other than cash : Assets, other than cash, were $132.6 million at June 30, 2009 compared to $134.6 million at December 31, 2008. The decrease is partly due to the amortization of the inventory step up to fair market values recor ded at the date we acquired CTI and intangible assets amortization during the first six months of 2009 . In addition, $2.0 million was moved from goodwill into other intangible assets in the second quarter. The remaining changes in asset values are the result of normal business activities.
 
L iabilities : Liabilities were $46.4 million at June 30, 2009, compared to $50.2 million at December 31, 2008. The decrease is due to : a) common stock subject to mandatory redemption declining $1.1 million after the redemption of 139,850 shares of common stock held by stockholders who voted against the a cquisition of CTI   and which was finalized in the first quarter of 2009 , and b) payments made on notes payable. The remaining changes are the result of normal business activities.
 
Liquidity and Capital Resources
Cash on hand was $1.0 million at June 30, 2009 and $4.0 million at December 31, 2008. The decrease since December 31, 2008 resulted primarily from paying $1.1 million to complete the redemption of common stock as part of the a cquisition of CTI, $ 1.8 million in payments on the line of credit and notes payable , and $263,000 to purchase shares of our common stock from certain members of CTI management.

As a result of the lower than anticipated sales experienced this year, we did not meet two financial covenants contained in our Revolving Credit and Term Loan Agreement for the three months ended June 30, 2009. The Revolving Credit and Term Loan Agreement governs our notes payable, line of credit and derivative transactions with our senior lender. On August 14, 2009, we have reached an agreement subject to conditions precedent with the senior lender (which the parties believe will be satisfied) to waive covenant violations and modify terms of the Revolving Credit and Term Loan Agreement. There have been no principal or interest payment defaults on these notes and we do not expect any such payment defaults in the future.

In accordance with the waiver agreement, certain other terms of the Revolving Credit and Term Loan Agreement were changed, including modification (some more and some less restrictive) of and addition to the required financial covenants associated with the Revolving Credit and Term Loan Agreement, shortening of the line of credit’s maturity and a change in the calculation of availability of the line of credit.  We believe it is probable we will satisfy these future covenant requirements.

During the six months ended June 30, 2009, 1,635,643 shares of common stock were issued due to the exercise of common stock warrants. The impact on liquidity was negligible as most warrants were exercised on a cashless basis.

 
18

 
 
Forecasted principal and interest payments on bank debt for the next 12 months are $6.0 million and will be funded from operating cash flows. In 2008, we made $500,000 in bank debt payments, exclusive of the debt payments made at the acquisition of CTI. CTI made principal and interest payment s of $7.8 million in 2008 prior to being acquired by us.
 
The 2009 capital expenditures budget is expected to be funded from operating cash flows. In the second quarter we began the implementation of a new company-wide computer system to improve our operations and financial information. It is anticipated that this implementation, when completed in 2010, will cost $600,000 to complete, with $114,000 incurred in the second quarter.
 
Although we believe that we have sufficient cash from operations to continue operations for the next twelve months, we are considering financing alternatives that may take effect in the later part of 2009.

Off-Balance Sheet Arrangements

Other than immaterial operating leases, we did not have any off-balance sheet arrangements during 200 9 or 2008 .

Contractual Obligations

As a smaller reporting company, we are not required to provide information typically disclosed under this item.

Critical Accounting Policies

Use of Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting periods.  Estimates are used when accounting for certain items such as reserves for inventory, accounts receivable and deferred tax assets; assessing the carrying value of intangible assets including goodwill; determining the useful lives of property, plant and equipment and intangible assets; and in determining asset retirement obligations.  Estimates are based on historical experience, where applicable, and assumptions that we believe are reasonable under the circumstances.  Due to the inherent uncertainty involved with estimates, actual results may differ.

Revenue Recognition

Revenue from the sale of products is recognized when the earnings process is complete and the risks and rewards of ownership have transferred to the customer. Costs and related expenses to manufacture the products are recorded as costs of goods sold when the related revenue is recognized.

We have several significant contracts providing for the sale of indefinite quantities of items at fixed per unit prices, subject to adjustment for certain economic factors. Revenue under these contracts is recognized when goods ordered under the contracts are received by the customer. Whenever costs change, we review the pricing under these contracts to determine whether they require the sale of products at a loss. To date, we have no loss contracts which would require the accrual of future losses in the current financial statements.

Income Taxes

Income taxes are accounted for in accordance with SFAS No. 109, Accounting for Income Taxes .  Under this method, deferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using enacted tax rates and laws that will be in effect when the differences are expected to reverse.  Deferred tax assets are recognized when, based upon available evidence, realization of the assets is more likely than not.

We adopted the provisions of FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes – an interpretation of FASB Statement No. 109 (“FIN 48”), on January 1, 2007.  There have been no unrecognized tax benefits and there was no effect on our financial condition or results of operations as a result of adopting FIN 48. When tax returns are filed, it is highly certain that some positions taken would be sustained upon examination by the taxing authorities, while others are subject to uncertainty about the merits of the position taken or the amount of the position that would be ultimately sustained. The benefit of a tax position is recognized in the financial statements in the period during which, based on all available evidence, management believes it is more likely than not that the position will be sustained upon examination, including the resolution of appeals or litigation processes, if any. Tax positions taken are not offset or aggregated with other positions. Tax positions that meet the more-likely-than-not recognition threshold are measured as the largest amount of tax benefit that is more than 50 percent likely of being realized upon settlement with the applicable taxing authority. The portion of the benefits associated with tax positions taken that exceeds the amount measured as described above is reflected as a liability for unrecognized tax benefits in the accompanying balance sheet along with any associated interest and penalties that would be payable to the taxing authorities upon examination.

 
19

 

We classify interest on tax deficiencies as interest expense and income tax penalties as other miscellaneous expenses.  

Goodwill

We apply the provisions of SFAS No. 142, Goodwill and Other Intangible Assets , to goodwill. Goodwill is deemed to have an indefinite life and accordingly, is not subject to annual amortization.  Goodwill is subject to annual impairment reviews, and, if conditions warrant, interim reviews based upon its estimated fair value.  Impairment charges, if any, are recorded in the period in which the impairment is determined. No such charges have been recorded in the three or six month periods ended June 30, 2009 and 2008.

Intangible Assets

Intangible assets include developed technologies and patents, trademarks and trade names, customer relationships and non-compete agreements, which are amortized over their estimated useful lives (with the exception of trademarks and trade names, which are considered to have indefinite useful lives and therefore are not amortized). The carrying amounts of intangible assets are reviewed for impairment whenever events or changes in circumstances indicate that those carrying amounts may not be recoverable. Costs incurred to renew or extend the term of our intangible assets are expensed when incurred.

Inventories

Inventories are stated at the lower of cost (on a first-in first-out (“FIFO”) method) or net realizable value.  We periodically review the realizability of our inventory. Provisions are established for potential obsolescence. Determining adequate reserves for inventory obsolescence requires management’s judgment. Conditions impacting the realizability of our inventory could cause actual asset write-offs to be materially different than reported inventory reserve balances.

Foreign Operations and Currency

Accounts of our foreign subsidiary are translated using their local currency as the functional currency. Income statement accounts are converted to U.S. dollars using the average exchange rate for the period covered by the income statement. Assets and liabilities are converted to U.S. dollars using the exchange rate in effect as of the balance sheet date. Equity transactions are converted to U.S. dollars using the exchange rate in effect as of the date of the transaction. Translation gains and losses are reported as component of accumulated other comprehensive income or loss. Gains and losses resulting from transactions which are denominated in other than the functio nal currencies are reported as other income or loss in the statement of operations in the period the gain or loss occurred.

I TEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

As a smaller reporting company, we are not required to provide information typically disclosed under this item.

ITEM 4.
CONTROLS AND PROCEDURES

Evaluation of disclosure controls and procedures

Disclosure controls and procedures are designed to ensure that information required to be disclosed by us in reports filed or submitted under the Securities Exchange Act of 1934 (“Exchange Act”) is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Disclosure controls include, without limitation, controls and procedures designed to ensure that information required to be disclosed under the Exchange Act is accumulated and communicated to management, including principal executive and financial officers, as appropriate to allow timely decisions regarding required disclosure. There are inherent limitations to the effectiveness of any system of disclosure controls and procedures, including the possibility of human error and the circumvention or overriding of the controls and procedures. Accordingly, even effective disclosure controls and procedures can only provide reasonable assurance of achieving their control objectives.

Our management carried out an evaluation, under the supervision of our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures as of June 30, 2009. Based upon that evaluation, our management, including our Chief Executive Officer and Chief Financial Officer, concluded that the design and operation of our disclosure controls and procedures were effective as of June 30, 2009.

Changes in internal control over financial reporting

There was no change in our internal control over financial reporting that occurred during the three months ended June 30 , 200 9 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 
20

 


PART II – OTHER INFORMATION

ITEM  1.
LEGAL PROCEEDINGS

Cyalume is not currently a named party in any legal proceedings.

CTI is currently named a defendant in Civil Action No. 06-706 in Superior Court of the State of Massachusetts. Filing suit against CTI is Omniglow, LLC (the former novelty business of CTI which was sold on January 23, 2006). CTI sold certain assets and liabilities related to the novelty and retail business to certain former shareholders and management (the “Omniglow Buyers”).  This was done because CTI sought to retain only the Omniglow Corporation business activities associated with government, military and safety business. During 2006, CTI and the Omniglow Buyers commenced litigation and arbitration proceedings against one another. Claims include breaches of a lease and breaches of various other agreements between CTI and the Omniglow Buyers.  The Omniglow Buyers seek compensatory damages of $1.4 million, to be trebled, and recovery of costs and legal fees. CTI has filed for damages of $368,000 against the Omniglow Buyers.  CTI continues to rigorously defend our position on these matters, as we believe the Omniglow Buyers’ claims to be without merit. Court hearings were held and completed in October 2008. A decision is expected in late 2009.

ITEM 1A. 
RISK FACTORS

As a smaller reporting company, we are not required to provide information typically disclosed under this item .

ITEM 2.
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

Purchases of Equity Securities by the Company and Affiliated Purchasers
Period
 
Total   Number
of   Shares
Purchased
   
Average
Price
Paid   per
Share
   
 
Total   Number   of
Shares   Purchased   as
Part   of   Publicly
Announced   Plans   or
Programs
   
Maximum
Number   (or  
Approximate
Dollar   Value)   of
Shares   that   May
yet   be   Purchased
under   the   Plans
or   Programs
 
January 1 to January  31
    32,903   (1)   $ 7.97           $  
February 1 to February 28
                       
March 1 to March 31
                       
April 1 to April 30
                       
May 1 to May 31
                       
June 1 to June 30
                       

(1)
The shares were repurchased from members of management. These shares were a portion of the shares that certain members of CTI’s management received relating to the December 19, 2008 acquisition of CTI. Our Board of Directors voted at its January 13, 2009 meeting to honor a pre-Acquisition verbal commitment to repurchase 20% (or 32,903) of such shares to provide the holders of those shares with cash to pay personal income taxes arising from exchanging their shares of GMS Acquisition Partners for Cyalume common stock during the acquisition of CTI.

ITEM  3.
DEFAULTS UPON SENIOR SECURITIES

As of June 30, 2009, we did not meet two financial covenants that utilize non-GAAP measurements contained in our Revolving Credit and Term Loan Agreement. The Revolving Credit and Term Loan Agreement governs our notes payable, line of credit and derivative transactions with our senior lender. On August 14, 2009, we have reached an agreement subject to conditions precedent with the senior lender (which the parties believe will be satisfied) to waive covenant violations and modify terms of the Revolving Credit and Term Loan Agreement. There have been no principal or interest payment defaults on these notes and we do not expect any such payment defaults in the future.

In accordance with the waiver agreement, certain other terms of the Revolving Credit and Term Loan Agreement were changed, including modification (some more and some less restrictive) of and addition to the required financial covenants associated with the Revolving Credit and Term Loan Agreement, shortening of the line of credit’s maturity and a change in the calculation of availability of the line of credit.  We believe it is probable we will satisfy these future covenant requirements.
 
21

 

ITEM 4.
SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

We held our annual meeting of stockholders on June 18, 2009 at 345 Park Avenue, New York City, NY 10154. Our stockholders voted on the following three proposals.

Proposal 1: Election of Directors

The eleven directors standing for election (Winston Churchill, Yaron Eitan, Archie Clemins, Doren Cohen, Jason Epstein, Daniel Gaspar, Joseph Gorman, General (Ret.) Jack Keane, Frank Kline, Thomas Rebar, and Yair Shamir) were each re-elected to serve until the 2010 annual meeting of stockholders. Each nominee received 11,798,361 shares voting in favor and 17,600 shares voting against.

Proposal 2: Approval and Ratification of the Cyalume Technologies Holdings, Inc. 2009 Omnibus Securities and Incentive Plan (the “Plan” )

The Plan was approved and ratified with 9,134,661 shares voting in favor, 600 shares voting against and 1,400 shares abstaining.

Proposal 3: Ratification of Independent Auditors

Stockholders ratified the appointment of CCR LLP as our independent auditor. There were 11,780,978 shares voting in favor, 16,200 shares voting against and 18,788 shares abstained.

ITEM 5.
OTHER INFORMATION

The Board of Directors approved a written charter for its nominating committee on March 3, 2009. There were no changes to the procedures by which security holders may recommend nominees to our Board of Directors.

There is no information to report under this item in lieu of reporting that information on Form 8-K.

ITEM 6. 
EXHIBITS

Exhibit Number
 
Description
10.1
 
Employment agreement of Derek Dunaway, Chief Executive Officer , Cyalume Technologies, Inc. (1)
10.2
 
Employment agreement of Michael Bielonko, Chief Financial Officer , Cyalume Technologies, Inc. (1)
10.3
 
Employment agreement of Thomas McCarthy , Government Sales Vice President, Cyalume Technologies, Inc. (1)
10.4
 
Employment agreement of Tomas Ogas, Operations Vice President, Cyalume Technologies, Inc. (1)
31.1
*
Certification of Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2
*
Certification of Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1
*
Certification of Principal Executive Officer and Principal Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

*
Filed herewith.
(1)
Incorporated by reference to the Current Report on Form 8-K dated May 14, 2009 and filed with the Commission June 4, 2009 .
 
 
22

 

SIGNATURES
 
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.

   
Cyalume Technologies Holdings, Inc.

Date: August 14, 2009
 
By:
/s/  DEREK DUNAWAY
       
     
Derek Dunaway, Chief Executive Officer
     
 (Principal Executive Officer)

Date: August 14, 2009
 
By:
/s/  MICHAEL BIELONKO
       
     
Michael Bielonko, Chief Financial Officer
     
 (Principal Financial Officer)
 
 
23

 
 
Exhibit 31.1

CERTIFICATION

I, Derek Dunaway, certify that:

1.
I have reviewed this Quarterly Report on Form 10-Q of Cyalume Technologies Holdings, Inc.;

2.
Based on my knowledge, this 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 report;

3
Based on my knowledge, the financial statements, and other financial information included in this 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 report;

4.
The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

(a)
Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, 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 report is being prepared;

(b)
Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

(c)
Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

(d)
Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and

5.
The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions):

(a)
All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and

(b)
Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.

   
Date: August 14, 2009
/s/  DEREK DUNAWAY      
   
 
Derek Dunaway, Chief Executive Officer
 
 
 

 

Exhibit 31.2
CERTIFICATION
I, Michael Bielonko, certify that:

1.
I have reviewed this Quarterly Report on Form 10-Q of Cyalume Technologies Holdings, Inc.;

2.
Based on my knowledge, this 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 report;

3.
Based on my knowledge, the financial statements, and other financial information included in this 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 report;

4.
The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

(a)
Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, 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 report is being prepared;

(b)
Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

(c)
Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

(d)
Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and

5.
The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions):

(a)
All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and

(b)
Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.

   
Date: August 14, 2009
/s/  MICHAEL BIELONKO      
   
 
Michael Bielonko, Chief Financial Officer

 
 

 

Exhibit 32.1
 
CERTIFICATION
 
Each of the undersigned officers of Cyalume Technologies Holdings, Inc. (the "Company") hereby certifies that, to his knowledge, the Company's Quarterly Report on Form 10-Q to which this certification is attached (the "Report"), as filed with the Securities and Exchange Commission on the date hereof, fully complies with the requirements of Section 13(a) or 15(d), as applicable, of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), and that the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.
 
     
   
/s/  DEREK DUNAWAY      
Date: August 14, 2009
 
Derek Dunaway, Chief Executive Officer
   
(the Principal Executive Officer)

Date: August 14, 2009
 
/s/  MICHAEL BIELONKO
   
Michael Bielonko, Chief Financial Officer
   
(the Principal Financial Officer)

This certification is being furnished and not filed, and shall not be incorporated into any document for any purpose, under the Securities Exchange Act of 1934 or the Securities Act of 1933.