SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
(Mark One)
|X| QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934 FOR THE QUARTERLY PERIOD ENDED
June 30, 1999
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|_| 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: 0-23279
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Celerity Systems, Inc.
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(Exact name of Registrant as specified in its Charter)
Delaware 52-2050585
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(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
1400 Centerpoint Boulevard
Knoxville, Tennessee 37932
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(Address of principal executive offices)
(423) 539-5300
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(Registrant's telephone number)
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(Former Name, Former Address and Former Fiscal Year, if changed since
last Report)
Check whether the registrant (1) has filed all reports required to be filed by
Section 13 or 15 (d) of the Exchange Act during the past 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 |_|
As of August 18, 1999, 4,763,412 shares of the issuer's common stock were
outstanding.
Transitional Small Business Disclosure Format (check one): Yes |_| No |X|
<PAGE>
CELERITY SYSTEMS, INC.
FORM 10-QSB
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1999
INDEX
Page
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PART I FINANCIAL INFORMATION
Item 1. Financial Statements...................................................3
Condensed Balance Sheets as of June 30, 1999 (unaudited) and
December 31, 1998......................................................3
Condensed Statements of Operations (unaudited) for the three
months ended June 30, 1999 and 1998 and the six months ended
June 30, 1999 and 1998.................................................4
Condensed Statement of Stockholders' Equity as of June 30, 1999
(unaudited) and January 1, 1999........................................5
Condensed Statements of Cash Flows (unaudited) for the six months
ended June 30, 1999 and 1998...........................................6
Notes to Unaudited Financial Statements................................7
Item 2. Management's Discussion and Analysis or Plan of Operation..............9
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K......................................20
Signatures............................................................21
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PART I
FINANCIAL INFORMATION
Item 1. Financial Statements
Celerity Systems, Inc.
Condensed Balance Sheets
Unaudited
<TABLE>
<CAPTION>
June 30,
December 31, 1999
1998 (Unaudited)
ASSETS
<S> <C> <C>
Cash and cash equivalents $ 18,273 $ 35,053
Accounts receivable, less allowance for
doubtful accounts of $436,472 in 1998 and 1999 280,315 269,235
Notes receivable -- 50,000
Inventory 1,206,611 1,216,587
Prepaid expenses 63,150 54,737
------------ ------------
Total current assets 1,568,349 1,625,612
Property and equipment, net 1,697,367 1,332,519
Loan costs, net -- 67,803
------------ ------------
Total assets $ 3,265,716 $ 3,025,934
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable $ 821,814 $ 846,249
Accrued wages and related taxes 626,389 1,113,102
Accrued liabilities 172,140 169,445
Short-term notes payable -- 137,553
Current maturities of long-term debt and leases payable 271,937 111,854
------------ ------------
Total current liabilities 1,892,280 2,378,203
Long-term debt and capital lease obligations,
less current maturities 397,955 1,106,297
------------ ------------
Total liabilities 2,290,235 3,484,500
Common stock, $.001 par value, 15,000,000 shares
authorized; 4,748,847 issued and 4,411,483
outstanding, and 4,777,647 issued and
4,440,283 outstanding at December 31, 1998
and June 30, 1999, respectively 4,749 4,778
Additional paid-in capital 22,626,174 22,895,280
Treasury stock, at cost (227,500) (227,500)
Accumulated deficit (21,427,942) (23,131,124)
------------ ------------
Total stockholders' equity 975,481 (458,566)
------------ ------------
Total liabilities and stockholders' equity $ 3,265,716 $ 3,025,934
============ ============
</TABLE>
The accompanying notes are an integral part of these unaudited condensed
financial statements.
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<PAGE>
CELERITY SYSTEMS, INC.
Condensed Statements of Operations
Unaudited
<TABLE>
<CAPTION>
Three months ended Six months ended
June 30, June 30,
-----------------------------------------------------
1998 1999 1998 1999
<S> <C> <C> <C> <C>
Revenues -- 1,358 722,786 81,156
Cost of revenues 91,830 -- 796,964 19,647
Gross margin (91,830) 1,358 (74,178) 61,509
Operating expenses 1,807,479 534,845 3,464,456 1,596,189
Loss from operations (1,899,309) (533,487) (3,538,634) (1,534,680)
Interest expense -- (123,293) (13) (287,909)
Interest income 42,241 115 84,763 477
Other income -- 46,330 -- 46,330
Net loss from continuing operations (1,857,068) (610,335) (3,453,884) (1,775,782)
Discontinued operations (Note 3) :
Income (loss) from operations of
discontinued CD-ROM segment 118,160 12,518 (113,559) 72,600
Loss on disposal (15,358) -- (15,358) --
Net loss (1,754,266) (597,817) (3,582,801) (1,703,182)
Basic and diluted loss per common share
(Note 2) :
Loss from continuing operations (0.45) (0.14) (0.84) (0.41)
Discontinued operations 0.02 0.01 (0.03) 0.02
Loss per common share (0.43) (0.13) (0.87) (0.39)
</TABLE>
The accompanying notes are an integral part of these unaudited condensed
financial statements.
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CELERITY SYSTEMS, INC.
Condensed Statement of Stockholders' Equity
Unaudited
<TABLE>
<CAPTION>
Additional
Common Paid-In Treasury Accumulated
Stock Capital Stock Deficit
<S> <C> <C> <C> <C>
Balances, January 1, 1999 $ 4,749 $ 22,626,174 $ (227,500) $(21,427,942)
Exercise of employee stock options 29 2,851 -- --
Issuance of covertible debentures at a
discount from fair market value -- 229,650 -- --
Issuance of warrants to purchase
common stock -- 36,605 -- --
Net loss -- -- -- (1,703,182)
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Balances, June 30, 1999 $ 4,778 $ 22,895,280 $ (227,500) $(23,131,124)
======================================================
</TABLE>
The accompanying notes are an integral part of these unaudited condensed
financial statements.
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<PAGE>
CELERITY SYSTEMS, INC.
Condensed Statements of Cash Flows
Unaudited
<TABLE>
<CAPTION>
Six months ended
June 30,
---------------------------
(unaudited)
1998 1999
<S> <C> <C>
Cash flows from operating activities:
Net loss $(3,582,801) $(1,703,182)
Adjustments to reconcile net loss to
net cash used in operating activities:
Depreciation and amortization 219,396 617,206
Loss on disposal of fixed assets 29,623 --
Warranty reserve (2,913) --
Changes in current assets and liabilities:
Accounts receivable 397,681 11,080
Prepaid expenses 11,812 8,413
Inventory (401,326) (9,976)
Costs in excess of billings on
uncompleted contracts 20,963 --
Accounts payable (571,720) 24,435
Accrued payroll and payroll taxes -- 486,713
Accrued expenses (51,206) (2,695)
----------- -----------
Net cash used by operating activities $(3,930,491) (568,006)
Cash flows from investing activities:
Purchases of property and equipment (871,648) --
Proceeds from maturities of short-term instruments 1,220,394 --
Issuance of short-term note receivable -- (50,000)
----------- -----------
Net cash provided (used) by 348,746 (50,000)
investing activities
Cash flows from financing activities:
Principal payments on capital leases -- (18,622)
Proceeds from issuance of long-term debt -- 600,000
Proceeds from issuance of short-term notes payable -- 137,553
Loan costs -- (87,025)
Net proceeds from issuance of common stock 3,440 2,880
----------- -----------
Net cash provided (used) by
financing activities 3,440 634,786
Net decrease in cash and cash equivalents (3,578,305) 16,780
Cash and cash equivalents, beginning of period 4,592,975 18,273
----------- -----------
Cash and cash equivalents, end of period $ 1,014,670 35,053
=========== ===========
</TABLE>
The accompanying notes are an integral part of these unaudited condensed
financial statements.
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CELERITY SYSTEMS, INC.
Notes to Unaudited Condensed Financial Statements
1. Presentation of Unaudited Interim Financial Statements
Information in the accompanying interim condensed financial statements and
notes to the financial statements for the interim periods as of and for
the six months ended June 30, 1998 and 1999, is unaudited. The
accompanying interim unaudited financial statements have been prepared by
the Company in accordance with generally accepted accounting principles
and Regulation S-B. Accordingly, they do not include all the information
and footnotes required by generally accepted accounting principles for
complete financial statements. In the opinion of management, all
adjustments (consisting of normal recurring accruals) considered necessary
for a fair presentation have been included. Operating results for the six
month period ended June 30, 1999, are not necessarily indicative of the
results that may be expected for the year ending December 31, 1999. The
condensed financial statements should be read in conjunction with the
financial statements and notes thereto included in the audited financial
statements of the Company as of and for the period ended December 31,
1998.
2. Loss Per Share
Basic and diluted loss per share were computed by dividing the net loss by
the weighted average common shares outstanding during each period.
Potential common equivalent shares are not included in the computation of
per share amounts in the periods because the Company reported a loss and
inclusion of equivalents would be anti-dilutive. Following is a
reconciliation of the numerators and denominators of the basic and diluted
earnings per share:
<TABLE>
<CAPTION>
Three Months Ended June 30, Six Months Ended June, 30,
--------------------------- --------------------------
1998 1999 1998 1999
<S> <C> <C> <C> <C>
Loss
Basic and diluted:
Loss available to common stockholders $(1,754,266) $ (597,817) $(3,582,801) $(1,703,182)
Shares
Basic and diluted:
Weighted-average common shares outstanding $ 4,136,110 $ 4,440,283 $ 4,126,588 $ 4,395,137
</TABLE>
3. Discontinued Operations
In February 1998, the Company decided to scale back its CD-ROM segment to
a maintenance mode of operations. The Company developed a formal plan of
disposal which became effective in May 1998. The Company is actively
seeking a buyer for the segment which had revenues of $279,899 and
$173,380 for the six months ended June 30, 1998 and 1999, respectively.
The Company believes the most valuable assets for sale are the segment's
customer list and product source code which have no recorded value.
Inventory of $24,811 is available for sale and the Company continues to
sell the inventory as existing customers
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request such merchandise. Management cannot determine which assets will
remain at the time of disposal. Management believes that the recorded
value of furniture, equipment and inventory relating to the CD-ROM segment
will be fully recovered and no write-down for impairment is necessary.
There can be no assurance that the Company will realize any proceeds from
the disposition of the segment.
4. Convertible Debentures
The Company issued $600,000 aggregate principal amount of 9% convertible
debentures in the first quarter of 1999. The debentures have a term of two
years and are convertible into the Company's common stock at a price equal
to the lessor of (i) 75% of the average closing bid price of the common
stock for the five days immediately preceding the date of conversion, or
(ii) four times the five-day average closing bid price for the five days
immediately preceding the date of closing. The Company may redeem the
debentures at a redemption price that ranges from 115% to 125% of the
principal amount, plus accrued interest. The debentures are subject to
mandatory conversion upon maturity.
Under the terms of the debenture agreement, the Company became liable
during the second quarter of 1999 for certain penalties in favor of the
debenture holders. Such penalties, as well as acrrued interest,
effectively increase the number of shares to be received by the debenture
holders in the event of conversion.
5. The Company and FutureTrak International, Inc. ("FutureTrak"), a Florida
corporation, signed a letter of intent dated as of April 26, 1999,
regarding a merger of FutureTrak into the Company or a subsidiary of the
Company. FutureTrak is engaged in delivering integrated
entertainment/information products and services. On August 10, 1999, the
Company and FutureTrak announced the execution of the definitive merger
agreement. Although the Company intends to consummate the merger, no
assurance can be given that the merger will be consummated.
6. Bridge Loan
The Company executed a short-term loan agreement in June 1999. Of the
total loan amount of $100,000, the Company loaned $50,000 to FutureTrak.
The loan amount plus interest of $20,000 will be due 90 days from
consummation and is collateralized by shares of FutureTrak.
7. Subsequent Events
The Company and Futuretrak consummated a joint financing arrangement in
the amount of $1,000,000 on July 2, 1999. Of the total loan amount, the
proceeds to the Company amounted to $500,000, less fees. The loan amount
plus interest of $200,000 is due within 121 days and is collateralized by
shares of FutureTrak.
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THIS QUARTERLY REPORT ON FORM 10-QSB CONTAINS FORWARD LOOKING STATEMENTS THAT
INVOLVE CERTAIN RISKS AND UNCERTAINTIES. THE COMPANY'S ACTUAL RESULTS COULD
DIFFER MATERIALLY FROM THE RESULTS DISCUSSED IN THE FORWARD LOOKING STATEMENTS.
Item 2. Management's Discussion and Analysis or Plan of Operations
The following discussion should be read in conjunction with the financial
statements and notes thereto and other financial information appearing elsewhere
in this Form10-QSB. Statements in this Management's Discussion and Analysis or
Plan of Operations and elsewhere in this Form 10-QSB that are not statements of
historical or current fact constitute "forward-looking statements." Such
forward-looking statements involve known and unknown risks, uncertainties, and
other factors including those set forth herein and in the Company's Annual
Report on Form 10-KSB under the caption "Risk Factors" that could cause the
actual results of the Company to be materially different from the historical
results or from any future results expressed or implied by such forward-looking
statements. Such risks include, without limitation, the Company's history of
losses and accumulated deficit, and need for additional financing; risks
applicable to foreign sales, the lack of assurance of the Company's
technological success, competition and others. In addition to statements which
explicitly describe such risks and uncertainties, prospective investors are
urged to consider statements labeled with the terms "believes," "belief,"
"expects," "intends," "anticipates," or "plans" to be uncertain and
forward-looking.
Overview
Prior to 1998, the Company's major activity was selling digital video
servers in the interactive video services market, with all sales having been
made in Korea, Israel, Taiwan, and China. However, since early 1998, the Company
has focussed its sales efforts in North America, and has developed and sold the
first production units of a new digital set top box, the T 6000. The Company has
continued to focus most of its development and production efforts during the six
months ended June 30, 1999 on enhancement of the T 6000 digital set top box to
add capabilities and reduce cost, in addition to integrating the T 6000 digital
set top box with the networks and products of other companies to facilitate
sales. The Company produced its initial trial run of the T 6000 digital set top
box in October 1998, and now has a third generation unit ready for production in
the third quarter of 1999. Originally, production of the next round of units was
expected for the second quarter of 1999, but lack of funding has delayed this
production run. The T 6000 digital set top boxes are currently manufactured by
Taylor-White, LLC, of Greeneville, Tennessee. The Company sold 13 of these trial
run boxes to Northern Telecom (Nortel) in September 1998 and 11 to Optelecom
during the first quarter of 1999. In addition to the set top boxes, Nortel also
purchased a CTL 7000 digital video server, which is installed in Ottawa, Canada.
In February 1999, the Company received a purchase order from Hopkinsville
Electric Service ("HES") which included one CTL 9000 digital video server and up
to 1,000 T 6000 digital set top boxes and associated hardware and software. The
software included 1,000 licenses for energy management software developed for
the Company by Battelle Laboratories under a
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joint marketing arrangement, which was executed in January 1999. This software
allows the T 6000 digital set top box to remotely read the electric meter and to
set and control electric appliances throughout the home, potentially allowing
savings on electric bills for subscribers with such units in their homes. HES
has purchased 25 T 6000 digital set top boxes and associated hardware and
software, which was scheduled to ship in the second quarter of 1999, along with
the CTL 9000 digital video server. However, HES's network is not yet ready, and
there are further refinements being made to the Battelle software; at this
point, that order is expected to ship late in the third quarter or early in the
fourth quarter of 1999. The remainder of the units are expected to ship within
six months of that date. The value of this purchase order in total is
approximately $1,024,000. This is the first deployment of the Company's systems
for an electric utility company, one of the Company's planned major market
opportunities.
Management has continued to focus, during 1999, on attempting to obtain
the necessary capital to maintain the Company's operations. Toward that end, the
Company continued efforts to arrange financing, including possible strategic
investment or opportunities to sell some or all of the Company's assets and
business, while continuing to pursue sales opportunities. As part of this
effort, the Company, on April 27, 1999, entered into a Letter of Intent to merge
with FutureTrak International, Inc., a technology firm based in Pompano Beach,
Florida, which specializes in the multi-dwelling unit ("MDU") marketplace and
also on mobile television for boats and recreational vehicles. On August 10,
1999, the companies announced the execution of a definitive merger agreement
which contemplates the merger of FutureTrak into a wholly-owned subsidiary of
the Company in a transaction in which the holders of FutureTrak capital stock
would receive, subject to adjustment, one share of the Company's common stock
for each outstanding share of FutureTrak common stock. As of the date of this
Form 10-QSB, the holders of FutureTrak capital stock would be entitled to
receive in the aggregate 9,546,193 shares of the Company's common stock.
Consummation of the merger is subject to a number of conditions, including
stockholder approval, and there can be no assurance that the merger will be
consummated on such terms or a at all. The goal of the companies is to complete
the merger by the end of 1999. The companies believe that by merging their
activities and focusing primarily on the MDU industry, they can achieve more
rapid success than they would achieve individually. Furthermore, large scale
deployment of the T 6000 digital set top box and the CTL 9000 digital video
server in the MDU industry could reduce costs of these devices, through
economies of scale, to a degree that might allow them to penetrate other
markets.
The Company continues to pursue, in conjunction with FutureTrak, funding
for the companies' activities. The Company has need of short term, mezzanine and
long term financing, since the cost of wiring and equipping these MDUs and
producing the necessary set top boxes and servers is quite significant.
If the merger is consummated, the Company intends, through its
relationship with FutureTrak and potentially with other MDU companies, to
position its current products, the T 6000 digital set top box and the CTL 9000
and later version digital video servers, in MDU properties including apartments,
condominiums, townhomes, gated communities, and dormitories. The T 6000 digital
set top box currently allows for cable television, high speed (more than 1
Megabit per second) Internet, home security monitoring, healthcare monitoring,
security monitoring and, through an embedded web browser, the ability to be on
the Internet
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without the need for a separate personal computer. The Company plans to
incorporate satellite technology into the set top box to allow reception and
processing of signals from DirecTV(TM) and potentially other satellite
programming providers. It is the companies' belief that this family of services
will be very attractive to MDU dwellers. The companies have collaborated to
acquire a DirecTV(TM) system operator license and are working with a number of
companies to determine the best ways to promote the companies' efforts in the
MDU marketplace. The companies have also met with several other firms with the
objective of finding MDU properties in which to install and operate the
companies' services. However, to date, no MDU properties have been wired or
installed and the companies' do not currently derive any revenue from the MDU
marketplace. There can be no guarantee that the companies will derive such
revenues, or that they will be profitable, or that the companies will obtain
sufficient financing to wire and operate such properties now or in the future.
The Company has narrowed its sales efforts to those which, the Company
believes, have the best chance of closing in the near term. The Company's sales
efforts are now being supervised by its President, although he is now receiving
some sales support from the sales staff at FutureTrak. The Company continues to
encounter a longer and more complex sales cycle and realize fewer sales than
previously anticipated. Although the T 6000 digital set top box has been in
production, the Company continues to add and improve functionality, and is
likely to be required to do so for most deployments. Because of the Company's
long term sales cycle and the pending merger, the period to period comparisons
set forth below may not be meaningful and may not necessarily be indicative of
the results that may be expected for future periods.
In February 1998, following the unsuccessful conclusion of the Company's
efforts to retain a qualified General Manager for its CD-ROM segment, the
Company decided to scale back the segment to a maintenance mode of operations.
The decision was also based on the continued decline in the segment's revenues,
and the Company's need to focus its efforts and resources on the interactive
video segment. The Company then developed a formal plan of disposal which became
effective in May 1998, and the Company now accounts for the CD-ROM segment as a
discontinued operation. The Company continues to seek potential purchasers of
this division. In order to facilitate purchase of the division, the Company has
markedly reduced the proposed price for the sale of one or both of the products,
WorkWare and Mediator, within the CD-ROM business unit. The Company anticipates
selling one or both segments during the third quarter of 1999. The segment had a
net income from operations of approximately $12,500 for the three months ended
June 30, 1999, and $72,600 for the six months ended June 30, 1999. The CD-ROM
segment generated a net income from operations of approximately $118,000 for the
three months ended June 30, 1998 and a loss on disposal of the segment of
approximately $15,000 for the same period. The segment had a net loss from
operations of approximately $114,000 for the six months ended June 30,1998.
There can be no assurance that the Company will realize any proceeds from the
disposition of the segment. Due to the discontinued status of the segment, the
remainder of management's discussion of the Company's financial results does not
include the CD-ROM segment.
The Company has indefinitely postponed any continued research and
development efforts related to CTL 8500 digital baseband server, aimed at the
analog hospitality and cable markets, and the CTL 10000 aimed at larger system
deployments. The Company has continued limited
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development of its CTL 7000 and CTL 9000 digital video servers and software to
continue to add functionality and reduce cost. The Company has also entered into
arrangements with other digital server manufacturers such that they would offer
the Company's T 6000 digital set top box as part of end-to-end systems.
Although the Company has completed the short term contracts entered into
with the Guang Dong Public Telecommunications Authority ("GPTA") and the Beijing
Telecom Authority ("BTA"), final amounts due under these agreements from the
prime contractor, ViaGate Technologies, of approximately $224,000 have not yet
been paid. The Company has continued to work with ViaGate to get these final
monies paid to the Company, and expected payment in the second quarter of 1999.
However, this has not been the case, and ViaGate has not given any firm
indication as to when such monies would be paid. The Company has stopped all
support of the four units in China, pending resolution of this matter, and has
begun discussions with an international collections company with a view toward
collecting these amounts from ViaGate and/or GPTA and BTA. It is expected that,
should such collection be necessary, the Company would collect only about fifty
cents on each dollar outstanding.
The Company has also cooperated with Bescom, the prime contractor on the
Korea Telecom project in their efforts, through arbitration in Korea, to collect
the final ten per cent due under that contract. This arbitration effort, which
is expected to be resolved in late 1999, could result in payments to the Company
of up to $429,000, which amounts have been previously written off.
There are inherent risks associated with foreign sales, including the
difficulty of enforcing agreements against foreign based customers, political
and economic instability, shipping delays, foreign taxes, and export
restrictions. In addition, the Company has experienced difficulties with respect
to certain of its foreign deployments. The Company had one interactive video
customer that represented 56% of the Company's revenues in 1998, and two
interactive video customers that represented 100% of the Company's revenues
during the first half of 1999. Export sales represented 56% of the Company's
sales for 1998, 37% for the first quarter of 1999 and 0% for the second quarter
of 1999, respectively.
Results of Operations
Three Months Ended June 30, 1999 Compared to Three Months Ended June 30, 1998
Revenues.
The Company had revenues of approximately $1,400 for the quarter ended
June 30, 1999, as compared to no revenues for the same period in 1998. The lack
of revenues for the second quarter of 1998 was due to the Company previously
recognizing all of the revenue associated with its projects that had been in
progress prior to 1998 and the long sales cycle related to the Company's
products. The low revenues for the second quarter of 1999 were due to the lack
of interactive video sales, the discontinuance of the Company's CD-ROM division,
and constrained marketing activities due to the Company's cash situation. Sales
of interactive video services in the second quarter of 1999 were to Optelecom.
Costs of Revenues.
The Company had no costs of revenues in the second quarter of 1999, as
opposed to approximately $92,000 in 1998. The Company had a gross margin of
approximately $1,400 in
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the second quarter of 1999, as compared to a negative gross margin of
approximately $92,000 for the same period in 1998. Costs of revenues in 1998
were related to completion of the BTA project and the initial tooling, and
readying for production, of the T 6000 digital set top box.
The decrease in costs of revenues was primarily due to the fact that the
Company had small revenues during the second quarter of 1999, as opposed to the
second quarter of 1998, in which it had more activities underway related to the
BTA project.
Operating Expenses.
Operating expenses for the three months ending June 30, 1999 were
approximately $546,000 as compared to approximatley $1,800,000 for the same
period in 1998. Operating expenses for the second quarter of 1999 were
significantly lower than 1998 due to the Company's efforts to conserve cash and
to minimize operating costs. The majority of operating expenses in the second
quarter of 1998 were due to the Company's efforts to achieve better performance
and prepare for their anticipated future growth. These expenses included
operating wage expenses and associated payroll taxes and other employee benefits
due to the hiring of additional personnel early in 1998. Another component of
the increase in operating expense was an increase in facility rental expense
during 1998, associated with the Company's move to a new facility. In 1998, the
Company also incurred expenses from marketing efforts. Expenses incurred for the
use of contractors, consultants, and recruiting efforts also were high in 1998
due to the Company's increased needs for quality personnel. During the same
period in 1999, the Company attempted to minimize such expenses and tried to
conserve available funds. The Company is currently occupying a portion of its
former premises on a month to month basis at a reduced rental. Pursuant to an
agreement between the Company and its landlord, the Company acknowledged breach
of its lease due to its failure to pay the required rental amount. The Company
and the landlord are still in negotiations to finalize new rental terms. The
landlord may pursue remedies against the Company in respect to this breach.
Interest Expense and Income.
There was no interest expense in the second quarter of 1998, as compared
to approximately $123,000 in the second quarter of 1999. Interest income in the
second quarter of 1998 was approximately $42,000 primarily due to the interest
on funds earned in the Company's initial public offering ("IPO"). The Company
had no similar deposits on hand in 1999, so interest income was only
approximately $100 for the same period in 1999.
Net Loss.
As a result of the above factors, net loss from continued operations for
the quarter ended June 30, 1999 was approximatley $544,000 as compared to
approximately $1,900,000 for the same period in 1998.
Six Months Ended June 30, 1999 Compared to the Six Months Ended June 30, 1998
Revenues.
Revenues for the six months ended June 30, 1999 were approximately $81,000
as compared to $723,000 for the same period in 1998. The revenue for the 1998
period was due to the Company's completion of its BTA project in China. The
Company achieved substantial completion of the project at the end of March 1998.
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Costs of Revenues.
Costs of revenues for the six months ended June 30, 1999 were
approximately $20,000 as compared to approximatley $797,000 for the same period
in 1998. The Company's gross margin was approximately $62,000 for the six months
ended June 30, 1999 as compared to a negative gross margin of approximately
$74,000 for the same period ended in 1998.
The decrease in costs of revenues was primarily due to the fact that a
significant portion of the sales generated during 1999 were for services that
had little or no associated costs. The majority of the costs of revenues for the
six months ended June 30, 1998 was due to the completion of the Company's BTA
project and the recognition of the related costs on the project of approximately
$594,000, which had been capitalized over the life of the project. The remainder
of the costs for 1998 was related to the Company's efforts to conclude projects
for which revenue had previously been recognized.
Operating Expenses.
Operating expenses for the six months ended June 30, 1999 were
approximately $1,600,000 as compared to $3,464,000 for the same period in 1998.
As mentioned previously, operating expenses were significantly greater in all
areas during 1998 due to the Company's efforts to achieve better performance and
prepare for anticipated future growth.
Interest Expense and Income.
Interest expense in the first six months of 1998 was $13, as compared to
approximately $288,000 in the first six months of 1999. Interest income in the
first six months of 1998 was approximately $84,800 primarily due to the interest
on funds earned in the Company's IPO. The Company had no similar deposits on
hand in 1999, so interest income was only approximately $500 for same period in
1999.
Net Loss.
As a result of the above factors, net loss for the six months ended June
30, 1999 was approximately $1,703,000 as compared to a net loss of approximately
$3,583,000 for the same period in 1998.
Liquidity and Capital Resources
The primary source of financing for the Company since its inception has
been through the issuance of common and preferred stock and debt and related
accrued interest.
In November 1997, the Company consummated the IPO in which 2,000,000 in
Common Stock were sold at a purchase price of $7.50 per share. The Company
realized net proceeds of approximately $12,386,800 from the IPO, of which
approximately $5,446,000 was used to pay its outstanding debt and related
accrued interest.
In August 1998, the Company's President loaned the Company $55,000 on a
short term basis for working capital needs. In September 1998, one of the
Company's directors loaned the Company an additional $100,000 for working
capital uses. In October 1998, the Company
14
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amended its 401(k) plan to allow participants in the plan to invest in the
Company's common stock. The Company's President allocated the entirety of his
investments into the Company's common stock in the approximate amount of
$136,000 and the plan purchased 155,028 shares on his behalf. Some additional
employees purchased substantially smaller amounts through their 401(k) plan
under this program. The Company has used these proceeds for working capital. In
October and November 1998, the Company received aggregate proceeds of $450,000
from a private placement. Such proceeds included cancellation of $150,000 of
indebtedness from the director and the President of the Company (see above).
Each investor in the private placement received a seven per cent promissory note
with a principal amount equal to the amount of the investment for the term of
one, two, or three years. Principal and interest are payable by the Company at
maturity. In addition, each investor received the right to a royalty payment of
$0.50 per $100,000 invested (pro rated for lesser investments), for each T 6000
digital set top box sold during the period of three to five years following the
closing. The $450,000 received represents the entire amount received in the
private placement. Investors in the private placement included certain directors
and officers of the Company, as well as outside investors. The Company also
raised $600,000 between January 1999 and March 1999 in a private placement. The
funds from the private placements were used for general operating expenses of
the Company. The Company had cash balances on hand as of June 30, 1999 of
approximately $35,000. The Company's cash position continues to be extremely
limited. In efforts control cash outflow, the Company's Officers have elected to
defer portions of their salaries since August of 1998 and until such time as the
financial position of the Company will allow those deferrals to be repaid. The
Company's President has not taken any salary since the July 1998 pay period, and
the Company is in arrears in paying compensation to its employees. The Company
has lost employees either voluntarily or involuntarily in the second half of
1998 and in the first half of 1999 due to its financial position and has
significantly scaled back its operations.
In June 1999, the Company received a loan from FutureTrak International,
Inc. of $25,000, which was half of an amount obtained by a loan to FutureTrak by
Ryan Capital Management Corp. The proceeds of that loan were used for on-going
operating expenses. The loan amount of $50,000 and interest in the amount of
$10,000 is to be repaid on or before September 20, 1999 or such time that a
$2,500,000 bridge is funded.
Also in June 1999, the Company entered into a short-term loan agreement in
the amount of $100,000. Of this amount, $50,000 was loaned to FutureTrak. The
loan amount of $100,000 and interest in the amount of $20,000 will be due on
September 18, 1999. This loan is collateralized by shares of FutureTrak.
On July 2, 1999, the Company and FutureTrak consummated a joint financing
arrangement with a private investor of which the proceeds to the Company were
$500,000. Of that amount, $50,000 was reserved to pay the Company's portion of a
placement fee. The total loan amount of $1,000,000 and interest amounting to
$200,000 are due for repayment on October 25, 1999 and are collaterized by
shares of FutureTrak. It was anticipated at the time these financings were done
that bridge financing would be available to repay these amounts, of which there
can be no assurance.
On June 23, 1999, FutureTrak entered into a two-year investment banking
agreement with Sands Brothers & Co., Ltd. of New York, under which Sands
Brothers would, among other
15
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things, advise the companies on capital raising activities. Thus far, no funds
have been realized through Sands Brothers under this agreement. In consideration
for its financial advisory services, Sands Brothers has received a fee of
$50,000, paid equally by the Company and FutureTrak, and will receive an
additional $50,000 from the first $500,000 bridge financing which they raise.
There can be no assurance that any proceeds will be raised by Sands Brothers on
favorable terms or at all.
The Company is looking at several other options in terms of improving its
cash situation. The Company is continuing its efforts, along with FutureTrak, to
arrange financing. The Company is also investigating possible strategic
investment or opportunities to sell some or all of the Company's assets and
business, while continuing to pursue sales opportunities. The Company has
granted a security interest in its property to its landlord and has granted a
security interest in its personal property to one of its legal counsel. Such
security interest may hinder the Company's efforts to obtain additional
financing. The Company also continues to seek buyers for the CD-ROM division,
either the Mediator or WorkWare segments, or both. As described above, the
Company is taking additional steps to collect accounts receivable which have
been reserved in 1996 and 1997, including $429,000 from Korea Telecom/Bescom,
and $224,000 from ViaGate Technologies/GPTA/BTA. There can be no assurance that
the Company will be able to obtain any such required additional funds from any
source on a timely basis, on favorable terms, or at all. The lack of sales or a
significant financial commitment raise a substantial doubt about the Company's
ability to continue as a going concern or to resume a full-scale level of
operations.
Since its inception on January 1993, and through June 30, 1999, the
Company has an accumulated deficit of approximately $22,895,000. The Company
expects to incur operating losses for an indefinite future period. The Company
is also continuing to pursue its sales efforts and endeavoring to offer
attractive pricing to close sales in a timely manner. Since January 1, 1999, the
Company has received new interactive services and new CD-ROM orders from
Hopkinsville Electric Service, Optelecom, and the United States Navy,
respectively. There can be no assurance, however, as to the receipt or timing of
revenues from operations, including, in particular, revenues from products
currently under development.
As of June 30, 1999, the Company had a negative net working capital of
approximately $753,000. The Company had no significant capital spending or
purchase commitments at June 30, 1999, other than certain facility leases and
inventory component purchase commitments required in the ordinary course of its
business.
The Company has no existing lines of credit.
Year 2000 Issues
Background
16
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Some computers, software, and other equipment include programming code in
which the calendar year date is abbreviated to only two digits. As a result of
this design decision, some of these systems could fail to operate or produce
correct results if "00" is interpreted to mean 1900 rather than 2000. These
problems are widely expected to increase in frequency and severity as the year
2000 approaches, and are commonly referred to as the "millenium bug" or "year
2000 problem."
Assessment
The year 2000 problem could affect computers, software, and other
equipment used, operated, or maintained by the Company. Accordingly, the Company
is reviewing its internal computer programs and systems to ensure that the
programs and systems will accurately process date data (including, but not
limited to, calculating, comparing and sequencing dates) in connection with the
year change from December 31, 1999 to January 1, 2000, for the "year 2000
ready." The Company presently believes that its computer systems will be year
2000 ready in a timely manner. All the estimated costs of these efforts are not
expected to be material to the Company's financial position or any year's
results of operations, there can be no assurance to this effect.
Software Sold to Consumers
The Company believes that it has substantially identified and resolved all
potential year 2000 problems with any of the software products which it develops
and markets. However, management also believes that it is not possible to
determine with complete certainty that all year 2000 problems affecting the
software products have been identified or corrected due to the complexity of
these products, the fact that they incorporate third party software, and the
fact that these products interact with third party vendor products, and operate
on computer systems which are not under the Company's control.
Internal Infrastructure
The Company has begun to identify the major computers, software
applications, and related equipment, used in connection with its internal
operations that must be modified, upgraded, or replaced, to minimize the
possibility of a material disruption to its business. The Company has identified
major systems which, if affected by the year 2000 problem, might adversely
affect the Company's operations, and expects to have these systems updated or
modified by the middle of 1999.
Systems Other Than Information Technology Systems
In addition to computers or related systems, the operation of office and
facilities equipment, such as fax machines, photocopiers, telephone switches,
security systems, and other common devices may be affected by the year 2000
problem; however, the Company does not believe that the year 2000 problem will
have a significant on its office and facilities equipment.
17
<PAGE>
The Company estimates the total cost to the Company of completing any
required modifications, upgrades, or replacements of the internal systems will
not have a material adverse affect on the Company's business or results of
operations. This estimate will be revised, if required, should additional
information become available.
Suppliers
The Company has initiated communications with third party suppliers of the
major computers, software, and other equipment used, operated, or maintained by
the Company, to identify and, to the extent possible, to resolve issues
involving the year 2000 problem. However, the Company is limited or has no
control over the actions of these third party suppliers. Thus, while the Company
expects that it will be able to resolve any significant year 2000 problems with
these systems, there can be no assurance that these suppliers will resolve any
or all year 2000 problems before the occurrence of a material disruption to the
business of the Company, or any of its customers. Any failure of these third
parties to resolve year 2000 problems in a timely manner could have a material
adverse impact on the Company's business, financial condition, and results of
operations.
Most Likely Consequences of Year 2000 Problems
The Company expects to identify and resolve all year 2000 problems that
could materially adversely affect its business operations in a timely manner.
However, management believes that it is not possible to determine with complete
certainty that all year 2000 problems affecting the Company have been identified
or corrected. The number of devices that could be affected and the interactions
among these devices are too numerous to identify specifically. In addition, one
cannot accurately predict how many year 2000 problem-related failures will
occur, or the severity, duration, or financial consequences of such failures. As
a result, management expects that the Company could encounter a number of
operational inefficiencies and inconveniences that may divert management's time
and attention, as well as financial and human resources from its ordinary
business activities. It may also encounter a number of serious system failures
that may require significant efforts by the Company or its clients to prevent or
alleviate material business disruptions.
Contingency Plans
The Company is currently developing contingency plans to be implemented as
part of its efforts to identify and correct year 2000 problems affecting its
internal systems. The Company expects to complete its contingency plans by the
middle of 1999. Depending on the systems affected, these plans could include
accelerated replacement of affected equipment or software, short to medium term
use of back-up equipment and software, increased work hours for company
personnel, or use of contract personnel, to correct, on an accelerated schedule,
any year 2000 problems that arise, or to provide manual work-arounds for
information systems and similar approaches. If the Company is required to
implement any of these contingency plans, it could have a material adverse
affect on the Company's financial condition and the results of operation.
Based on the activities described above, the Company does not believe that
the year 2000 problem will have a material adverse affect on the Company's
business or results of operation.
18
<PAGE>
However, the Company's ability to achieve year 2000 readiness, and the level of
incremental cost associated therewith, could be adversely impacted by, among
other things, the availability and cost of programming and testing resources,
vendors' ability to modify proprietary software, and unanticipated problems
identified in the on-going readiness review.
19
<PAGE>
PART II
OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits
Exhibit 11 Statement re: computation of per share earnings (included
in Note 2 of the "Notes to Unaudited Financial Statements")
Exhibit 27 Financial Data Schedule
(b) Reports on Form 8-K
One report on Form 8-K was filed on May 7, 1999 (Item 5. Other Events).
20
<PAGE>
SIGNATURE
In accordance with the requirements of the Securities Exchange Act of
1934, the registrant caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
Dated: August 19, 1999
CELERITY SYSTEMS, INC.
By: /s/ Kenneth D. VanMeter
----------------------------------------
Kenneth D. Van Meter
President and Chief Executive Officer
and Chairman of the Board
(Principal Executive Officer)
(Principal Financial Officer)
21
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