U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934.
For the fiscal year ended December 31, 1997
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from __________ to ___________
Commission File Number: 0-21361
ENSEC INTERNATIONAL, INC.
-------------------------
(Name of small business issuer in its charter)
Florida 65-0654330
------- ----------
(State or other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
1 World Trade Center, Suite 3357, New York, NY 10048
----------------------------------------------------
(Address of principal executive offices) (zip code)
(212) 524-0600
--------------
Registrant's telephone number, including area code
1 World Trade Center, Suite 3357, New York, NY 10048
----------------------------------------------------
(Former name, former address and former fiscal year, if changed
since last report)
Securities registered under Section 12(b) of the Exchange Act:
None.
Securities registered under Section 12(g) of the Exchange Act:
Common Stock, $.01 par value per share
--------------------------------------
(Title of Class)
Redeemable Warrants to Purchase Common Stock, $.01 par value per share
----------------------------------------------------------------------
(Title of Class)
<PAGE>
Check whether the issuer (1) 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 ___
Check if there is no disclosure of delinquent filers in response to
Item 405 of Regulation S-B contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. [X]
The issuer's revenues for the fiscal year ended December 31, 1997 were
$6,197,891.
As of April 7,1998, the aggregate market value of the registrant's
Common Stock held by non-affiliates computed by reference to the closing price
of such stock as of such date was $1,036,500.
As of April 7,1998, there were 6,016,250 shares of Common Stock issued
and outstanding.
<PAGE>
PART I
Item 1. DESCRIPTION OF BUSINESS
-----------------------
General
The Company, until recently, through its operating companies Ensec
Inc., a U.S. subsidiary incorporated in Florida, and Ensec EngenharIa e Sistemas
de Seguranca, S.A. (Ensec, S.A.), a Brazilian subsidiary, designs, develops,
assembles, sells, installs and services security systems for large commercial or
governmental facilities, ranging from single function installations to high-end
integrated security systems. The Company's high-end integrated systems are based
on its proprietary software and related hardware which permit multiple devices
or systems to be combined into a unified system covering multiple sites. Since
its inception, the Company has installed approximately 400 systems. nearly all
of which have been in Brazil, for large corporations (such as Bosch,
Caterpillar, Eastman Kodak, General Motors, IBM, Microsoft and Texaco) and
government agencies (such as the Brazilian Bureau of Mint & Engraving and the
Central Bank of Brazil)
The Company is a Florida corporation which was formed in April 1996 as
a holding company for Ensec Inc., a Florida corporation ("Ensec Inc."), and
Ensec Engenharia e Sistemas de Seguranca, SA. ("Ensec, S.A."), a Brazilian
corporation. Ensec, S.A. was founded in 1983 by Charles N. Finkel, the Company's
President and Chief Executive Officer. In 1991, Ensec, S.A. established its U.S.
operations with the formation of Ensec Inc.
In 1995, the Company completed the development of its second-generation
system, the EnWorks(R) product family, consisting of state-of-the-art,
real-time, integrated security systems. The Company spent four years and over $5
million in the development of the flagship product in the EnWorks(R) family: the
En2000(TM) system. The Company's high-end integrated security systems are based
on distributive intelligence architecture and proprietary software that permit
the integration of various security devices or systems into a unified system
operating through the use of graphical user interfaces. Distributive
intelligence architecture allows individual components of an integrated security
system to process information independently so that such components may continue
to operate even when the central processor or another component in the system
malfunctions or is rendered inoperative. In addition, an integrated security
system that uses distributive intelligence architecture can operate more
efficiently because individual components are able to complete independent tasks
simultaneously.
The Company began marketing its En2000(TM) system in 1995 at which time
the Company was selected by the Port Authority of New York and New Jersey
1
<PAGE>
through a competitive bid process to provide the new integrated access control
system for the parking facilities located in the World Trade Center. Other
significant customer contracts awarded to the Company's U.S. operations for its
En2000(TM) System include the EDS headquarters in Texas and its other facilities
located in Sacramento, California and Middlesex, United Kingdom; A.D.T.
Securities Systems, Inc. ("ADT") headquarters in Boca Raton, Florida and its
facility in Denver, Colorado and Lockheed Martin facility in Orlando, Florida.
While the Company believes that the security system market presents
many opportunities for the sale of its ENWork family of products in the U.S., it
has experienced tremendous difficulty overcoming the cost of market entry
primarily as a result of insufficient capital required for the sales and
marketing efforts that create customer knowledge, sales opportunities and
product acceptability.
During 1997 in response to changing market conditions in Brazil, Ensec
S.A. expanded its security product lines by becoming a systems integrator of
security products. The sales, service and maintenance revenue generated by these
products account for 68.3% of total Brazilian sales during 1997. It is
anticipated that these products will continue to be a significant portion of
total sales. In response to poor cash flow and lack of significant backlog of
sales, on February 28, 1998 the Company elected to close its Boca Raton office,
terminate substantially all of its U.S. employees, cease the manufacture sale,
installation and service of its EnWork family of products and elected to license
products in the United States. As of March 16, 1998, the Company has entered
into licensing agreements with Lockheed Martin & Integrated Security Resources,
Inc. As a result of those changes the Company expects that revenues will
decrease significantly in the U.S. and consequently Ensec S.A. will represent a
majority of the consolidated operations.
The Company's business strategy is based on two objectives which the
Company believes will allow it to better serve each of its geographic markets:
In Brazil, in addition to selling the ENWorks family of products the
Company also sells a broad range of security products and services such as data
security, time and attendance and CCTV. These products are being marketed to the
existing customer base, the general market and the Brazilian market through
Ensec S.A.'s established direct sales force and indirect sales channels. The
Company anticipates that the sale, service and maintenance of the third party
products has and will continue to account for a majority if the Company's total
sales. The Company's sales growth from distribution revenue of the third party
security products will also increase revenue by obtaining the maintenance
contracts related to such sales. The Company has experienced a high renewal rate
of maintenance contracts. Sales of one particular type of product may in any
given quarterly period account for a majority of sales and decrease in
significance thereafter.
In the United States, Ensec, Inc. seeks to license its product to
strategic partners, who, with the direct sales force and established customer
base are financially capable of absorbing the risks of selling the ENWorks
family of products. Ensec, Inc. also seeks to enter into procurement contracts
with U.S. companies who wish to do business in the security industry in Brazil.
2
<PAGE>
Integrated Security Systems
Integrated security systems perform functions such as access control,
facilities management and alarm monitoring through combined subsystems and
components such as card readers, closed circuit television ("CCTV"), paging
devices, intercoms and identification badges. An integrated security system
generally includes a central command and control feature that uses a single user
interface and shares data among subsystems to form a system that performs in a
uniform and cohesive fashion. Systems integration allows various subsystems to
communicate with each other so that one system, rather than many subsystems,
controls a company's or a location's security. The Company believes that, by
integrating disparate subsystems into a single system, functions are enhanced by
establishing uniform responses to certain conditions. The Company believes that
integrated systems involve fewer steps to process data, therefore requiring less
response time to perform functions.
In an integrated security system, a central computer is necessary to
integrate components and subsystems. The degrees of systems integration can
vary, ranging from subsystems interconnected through electrical wiring to
subsystems that communicate with each other via separate databases and that are
monitored through a central processor and finally to the most advanced
integrations which share the same database. For example, an integrated system
can be as simple as connecting a CCTV system to an alarm system for a small bank
branch or casino room. An integrated system can also be extremely advanced,
being built around a common database and combining identification cards and
graphical screen monitoring of access control with monitored alarms and HVAC
(heating, ventilation and air conditioning)/lighting management systems for
large corporate or government sites.
The primary function of an integrated security system is typically
access control. Conventional access control systems involve mechanical devices
allowing access, such as magnetic stripe card readers on turnstiles or proximity
card readers on doors. These mechanisms were often connected to a CCTV system,
but were not usually integrated with a larger premises control system. Today,
such mechanical access control systems are still being installed, but the
Company believes that the future growth in access control will come from
PC-based systems which are integrated with other building systems. Access
control is becoming increasingly important in the protection of electronic data.
Gaining access to a data stream, whether it be a corporate computer network or a
financial institution's ATM network, involves various forms of identification
and certification. These include traditional forms such as a simple personal
identification number ("PIN") or cards with magnetic stripes, but are
increasingly becoming more sophisticated, such as token cards (which allow
remote access to PlN-specific systems), remote detection cards such as ID badges
that emit radio frequencies and identification equipment based on fingerprint or
eye identification.
3
<PAGE>
While the initial purchase and installation of an integrated security
system often will cost more than a simple, stand alone alarm monitoring, access
control, CCTV or security guard system, the Company believes that integrated
systems justify their cost because they can result in reduced capital
expenditures and maintenance costs (due to the elimination of redundant
components or circuitry that would result from multiple stand-alone systems)
over time while improving performance. Staffing costs are also generally reduced
by integrated systems because operators monitor multiple functions, the
complexity of several systems has been simplified into one graphical user
interface and, as a result of the simpler nature of the system, fewer personnel
are required to operate the system. However, in Brazil because the Company has
knowledge of the business and because of the size and maturity of the Brazilian
economy and its social structure, there are a small number of larger
organizations requiring real time integrated security systems and a large number
of smaller organizations requiring security products. Consequently, there is a
limited market for the ENWorks family of products and a large market for
security system related products.
Products and Services
The Company has established four distinct yet related sources of
revenue: Systems Integration, Product Procurement, Service and Licensing. As of
March 31, 1998, the Company has a current backlog of orders for systems sales,
installations and service aggregating in excess of $4.3 million which the
Company anticipates will be filled over the next 12 months. Substantially all of
the backlog is related to Ensec S.A. Backlog consists of contracts or purchase
orders with delivery dates scheduled within the next 12 months. The Company
currently expects to ship its entire current backlog within the next 12 months.
Variations in the magnitude and duration of contracts received by the Company
and customer delivery requirements may result in substantial fluctuations in
backlog from period to period. Since customers may cancel or reschedule
deliveries, backlog may not be a meaningful indicator of future financial
results.
Distribution: In response to the requirements of the Brazilian market
and as a complement to its existing products, Ensec S.A. has entered into
several systems integration agreements, for different types of security related
products detailed as follows:
Physical Security - Closed Circuit Television; Video Remote
Surveillance.
Data Security - consists of software that can be used in a
network environment or on a stand-alone PC. The Company has entered into
strategic alliances with Platinum, Cyberguard and PC Security in order to offer
integrated solutions in the Data Security area.
4
<PAGE>
Time, Attendance and Human Resource Management - computerized
payroll benefit and employee tracking system.
Proprietary Products: The Company created and markets a variety of
stand-alone and integrated products in its EnWorks(R) family of products, as
follows:
En2000(TM) Integrated Security System
Integrated security system providing on-line (i.e., real-time)
access control/ alarm monitoring and the integration and/or
secondary monitoring (i.e., monitoring-only without
operational capability) of multiple subsystems. This system
and the En1000(TM) system described below consist of a central
processing unit running proprietary software that is connected
to a number of devices through distributive intelligence
architecture.
En1000(TM) Integrated Security System
Integrated security system providing on-line access
control/alarm monitoring with a more limited number of readers
and limited integration or secondary monitoring of additional
application subsystems.
Scape Security System
Offline access control system consisting of software and DC500
terminals.
DC500 Terminal
Stand alone access control/data collector.
The EnWorks(R) family of products is designed to permit upgrades and
improvements allowing lesser-featured systems such as the Scape system to be
expanded to provide the features of the most sophisticated system offered, the
En2000(TM) system. The En2000(TM) system was designed to be expandable from its
current function (i.e., an integrated security system) to meet the new and
changing applications needs of the customer. The foundation for this approach
was established with the selection of the object-oriented design methodology, a
real time operating system, the standard PC computing platform, and the
graphical user interface. The Company offers a number of components to expand or
enhance the En2000(TM) system including a networked access control/data
collector, a networked alarm monitoring unit, multi-site communications
capabilities and expanded databases.
Procurement: The Company has been able to take advantage of its
established network of customers and international vendors and in December 1997,
entered into a $1.1 million contract with Grenobloise d'Electronique et
d'Automatismes ("GEA") to provide installation and maintenance services for a
toll collection system for certain roads in Brazil. The Company has outstanding
bids totalling approximately $2.0 million for two more toll collection systems
installation and maintenance services. However, there can be no assurance that
the Company will receive contracts for these bids.
5
<PAGE>
Service: An important part of any systems sale is the ability of the
systems provider to train, service and maintain the system. The Company has
developed a service organization to provide project management, systems design,
training, technical documentation, site surveys and audits, installation and
maintenance services.
Licensing: In the U.S., the Company has entered into licensing
agreements with Lockheed Martin and Integrated Security Resources who are
committed to providing support for and paying royalties on the sale of software
and hardware.
Since the Company's installed base of systems is concentrated primarily
in Brazil, service revenues and related personnel resources are also primarily
based in Brazil, where the Company provides nationwide installation, project
management and maintenance services through trained technicians located
throughout Brazil. These services are provided pursuant to contracts which
typically have a duration of five years or more. The Company currently has 45
maintenance and service contracts covering 78 installations in Brazil. The
Company has the right to provide, if contracted for by the customer, maintenance
under its distribution agreements. To date all products sold under distribution
agreements are under warranty. The Company anticipates that a majority of the
customers will enter into maintenance contracts at the warranty expiration.
However, there is no assurance that the Company will be retained by the
customer.
Intellectual Property
The Company's ability to compete successfully depends, in part, on its
ability to protect the proprietary technology contained in its products. The
Company relies on a combination of patent, trade secret, copyright and trademark
laws, together with non disclosure agreements, to establish and protect
proprietary rights in its EnWorks(R) products. The Company generally enters into
confidentiality and/or license agreements with its employees, distributors,
customers and suppliers, and limits access to and distribution of its
proprietary information. These measures afford limited protection, and there can
be no assurance that the steps taken by the Company to protect these proprietary
rights will be adequate to prevent misappropriation of its technology or the
independent development by others of similar technology. In addition, the laws
of Brazil, where the Company maintains its patents and copyrights and has
pending patent applications, do not protect the Company's proprietary rights to
the same extent as do the laws of the United States. The Company intends to seek
copyright protection under United States law with respect to some of its
technology. While the Company believes that it would be impractical and not
cost-effective for anyone to attempt to copy complex software such as that used
in the EnWorks(R) products, unauthorized parties, nevertheless, might attempt to
copy aspects of the Company's products or to obtain and use information that the
Company regards as proprietary. The cost of enforcement by the Company of its
information rights could be significant, regardless of the outcome of such
enforcement proceedings.
6
<PAGE>
Sales and Marketing
The Company's sales strategy is focused on the following:
o In the U.S., the Ensec, Inc. seeks to license its product to
strategic partners, who, with the direct sales force and
established customer base are financially capable of absorbing the
risks of selling the ENWorks family of products. The To enter into
selected distribution alliances for related security products that
the Company can sell through its existing sales force and maintain
using its current maintenance employees. Ensec, Inc. also seeks to
enter into royalty contracts with U.S. companies who wish to do
business in the security industry in Brazil.
o In Brazil, to enter into selected distribution alliances for
related security products that the Company can sell through its
existing sales force and maintain using its current maintenance
employees.
Competition
In Brazil, the Company competes with Sensormatic, Casi-Rusco and
Northern Computers Corporation, among others. In North America, significant
competitors include Software House/Sensormatic, Casi-Rusco, Matrix, Cardkey,
Diebold, Johnson Controls, Honeywell, Infographic, MDI and The Pittston Brinks
Group. Some of these competitors have greater name recognition, more extensive
engineering, manufacturing, marketing and distribution capabilities and greater
financial, technological and personnel resources than the Company. The Company
may also face competition from potential new entrants into the Company's segment
of the security systems industry, many of which have substantially greater
resources than the Company. It is possible, for example, that existing or
potential competitors of the Company could introduce less expensive and/or
improved products. However, the Company believes that competition is based
primarily on product performance and features and, to a lesser extent, on the
basis of price. Other critical competitive factors include product reliability
and flexibility of use with a user's other systems. There can be no assurance
that the Company will be able to compete successfully in the future against
existing or potential competitors or successfully adapt to changes in the market
for the Company's products. An increase in competition could have a material
adverse effect on the Company's business and results of operations. In the U.S.
the ability of the licensor's of the Company's product to compete will determine
the success of Ensec, Inc. The current licensor's are believed to have
established infrastructures necessary to compete in an industry which is
believed to be highly competitive and fragmented.
Employees
As of December 31, 1997, the Company employed 47 individuals, of which
approximately 32 were employed in Brazil and 15 were employed in the U.S.
7
<PAGE>
However, on February 28, 1998, the Company closed its offices in Boca Raton and
terminated all but 4 employees in the U.S. None of the Company's employees in
the U.S. are represented by unions or were covered by any collective bargaining
agreement. All of the Company's employees in Brazil, or approximately 88.9% of
all employees, are covered by a collective bargaining agreement. The collective
bargaining agreement expires on November 1, 1998 and is subject to annual
renewal. In the event that representatives of management and employees are
unable to agree on the terms of a new collective bargaining agreement, a court
may ultimately determine such terms by rendering a binding judicial decision
which would serve as the renewal agreement.
In addition to the collective bargaining agreement, Brazilian labor
laws are applicable to all of the Company's employees in Brazil. The
requirements of the collective bargaining agreement and the Brazilian labor laws
principally address the length of the work day, minimum daily wages for
professional workers, contributions to a retirement fund, insurance for
work-related accidents, procedures for dismissing employees, determination of
severance pay and other conditions of employment.
As part of the Company's relocation of its executive and research and
development activities to the U.S. and the downsizing of its operations in
Brazil to limit its activities to sales and service of less complex security
systems, the Company reduced its workforce in Brazil by approximately one-half
during fiscal 1996. Under the terms of the collective bargaining agreement and
Brazilian law, such reduction caused the Company to incur approximately $.2
million of severance and related expenses during such period, most of which was
recognized in the third and fourth quarters of 1996. The Company anticipates
further reductions of approximately 20% in Brazil during the first quarter of
1997, as compared to the end of fiscal year 1996.
The Company believes that its future success will depend in large part
upon its ability to continue to attract, retain, train and motivate highly
skilled and dedicated employees. The Company has not experienced a work
stoppage, and the Company believes that its employee relations are good.
Forward-Looking Statements
The foregoing Description of Business contains various "forward-looking
statements" within the meaning of Section 27A of the Securities Act of 1933, as
amended (the "Securities Act") and Section 21E of the Securities Exchange Act of
1934, as amended (the "Exchange Act"). For a discussion of important factors
that could cause the actual results to differ materially from those contained in
such forward-looking statements, see "Management's Discussion and Analysis of
Financial Condition and Results of Operations-Forward-Looking Statements."
8
<PAGE>
Item 2. DESCRIPTION OF PROPERTY
-----------------------
The Company was headquartered in Boca Raton, Florida up until February
28, 1998, at which time the Company elected to closed its Boca Raton office and
reduced the number of employees in the U.S. to 4. Currently, the Company is
headquartered in New York, New York. As of December 31, 1997 the Company leased
approximately 9,300 square feet of office space at two locations: a central
operations office in Boca Raton, Florida, and a marketing and sales office in
New York City, New York. In January 1997, the Company reopened a Dallas, Texas
sales office that was previously closed in 1995, and entered into an executive
suite lease. However, as of April 1997 this office was closed down.
The Company's Brazilian operations are headquartered in a Company-owned
building located in Cotia, a suburb of Sao Paulo. The building was constructed
in 1990 and is comprised of approximately 140,000 square feet of office and
warehouse space. In addition to the Cotia-based headquarters, the Company
maintains a number of service facilities located throughout Brazil. These
offices, many of which are provided by customers of the Company, are used
principally by the Company's service technicians.
As of December 31, 1997, the Brazilian property is encumbered by a $2.9
million term mortgage held by a Brazilian bank. This mortgage currently bears
interest at a rate of approximately 12% per annum, plus an inflation adjustment
which was approximately 7.74% in 1997. Interest on the mortgage is payable
monthly. Principal shall be amortized and shall be payable over a period of 41
months commencing on December 15, 1998. The Company's management believes that
it currently maintains adequate insurance coverage on this property.
The Company is actively seeking to sell its Brazilian facility.
However, the Company believes that the current competitive conditions in the
Brazilian real estate market may limit the potential sale of its property in
Brazil and that the Company may experience some difficulty in selling the
property at a price which it deems to be fair. The Company anticipates that it
will likely complete the sale of this property by the end of the 1997 fiscal
year. The Company has leased 50% of its Brazilian property to De La Rue Sistemas
Ltda. for a term of 60 months from August 8, 1997 at $22,500.00 per month.
The Company believes that its facilities are adequate to meet the
Company's current business requirements, and that suitable additional space will
be available as needed to accommodate further physical expansion of its U.S.
operations and for additional sales and support offices in the U.S.
Item 3. LEGAL PROCEEDINGS
-----------------
In April 1997, the Company was notified of its infringement of U.S.
Patent No. RE 35,336. The Company has reviewed the claim, and has proposed a
9
<PAGE>
settlement. On September 18, 1997 the Claimant rejected the Company's offer,
reaffirmed its infringement claim, asserted a new claim of infringement of U.S.
Patent No. 4,218,690 and reaffirmed the proposal set forth below. The Claimant's
latest proposal, which expired on November 17, 1997, provided the Company with a
non-exclusive, worldwide license, with the maximum cost of the license being a
$75,000 initial payment with a royalty payment equal to 5% on all future
qualifying sales through February 1998. The Company had requested, and was
granted an extension until December 31, 1997 to respond. As of the date hereof,
no further discussions have taken place between the Claimant and the Company.
However, if the Company is unable to settle these claims or if the Company is
found to infringe on the Claimant's patents, the Company's financial condition
would be materially adversely affected. While these are the only infringement
claims known to the Company, future claims may be brought against the Company.
In addition, the cost of defending or settling them could be significant and
have a material adverse affect on the Company. There can be no assurance as to
the outcome of the infringement claims and what affect such outcome will have on
the Company.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
---------------------------------------------------
No matters were submitted to a vote of the Company's security holders
during the fourth quarter of fiscal year 1997.
PART II
Item 5. MARKET FOR THE ISSUER'S COMMON EQUITY AND RELATED
-------------------------------------------------
SHAREHOLDER MATTERS
-------------------
Description of Market for Securities
As of December 31, 1998 the Company's Common Stock and redeemable
common stock purchase warrants have been publicly traded on the Nasdaq SmallCap
Market (the "Nasdaq-SCM") under the trading symbols "ENSC" and "ENSCW",
respectively. The Company received a letter from the Listing Qualifications
department of The Nasdaq Stock Market, Inc. regarding the continued listing of
the Company's common stock on The Nasdaq SmallCap Market. Based upon a review by
the staff, the Company's common stock has failed to maintain Nasdaq listing
requirements for 30 consecutive trade dates. The Company has until June 30, 1998
in which to regain compliance with the minimum bid price of at least $1.00. The
Company must maintain minimum listing requirements for 10 consecutive trading
days in order to comply with such listing requirements. The following table sets
forth the high and low per share and per warrant closing prices for the
Company's securities traded on the Nasdaq-SCM for each quarter in which such
securities were traded since September 25, 1996, as reported by The Nasdaq Stock
Market, Inc.
10
<PAGE>
Closing Price
-------------
High Low
------ ------
1996
Common Stock:
Third Quarter 7.00 6.00
Fourth Quarter 7.125 6.00
Redeemable Warrants:
Third Quarter 1.375 .875
Fourth Quarter 2.375 1.1875
1997
Common Stock:
First Quarter 6.24 4.56
Second Quarter 5.16 1.60
Third Quarter 2.24 .26
Fourth Quarter 1.40 .18
Redeemable Warrants:
First Quarter 2.00 .60
Second Quarter 1.04 .24
Third Quarter .32 .08
Fourth Quarter .16 .02
These quotations reflect inter-dealer prices without retail mark-up,
mark-down or commissions and may not represent actual transactions.
The continued inclusion of the Company's securities on the Nasdaq-SCM
is subject to certain specified financial tests and market-related criteria. The
Company's failure to satisfy such maintenance criteria in the future may prevent
the Company's securities from continuing to be quoted on the Nasdaq SmallCap
Market and may have a material adverse effect on the trading market for the
Company's securities. No assurance can be given that a trading market will be
maintained for the Company's securities.
As of April 7, 1998, the Company's Common Stock was held of record by
approximately 84 persons.
11
<PAGE>
Dividends
The Company has not declared or paid any dividends on its Common Stock
since inception. The Company currently anticipates that it will retain any
future earnings for use in its business and does not anticipate paying any such
dividends in the foreseeable future. The payment of any future dividend will be
at the discretion of the Company's Board of Directors and will depend, among
other things, upon the Company's future earnings, operations, capital
requirements and financial condition, general business conditions and
contractual restrictions on payment of dividends, if any.
Item 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
-----------------------------------------------------------
AND RESULTS OF OPERATIONS
-------------------------
Amounts presented herein have generally been rounded to the nearest
hundred thousand dollars and the related dollar and percentage fluctuations are
calculated based on such rounding.
This Management's Discussion and Analysis of Financial Condition and
Results of Operations contains certain statements which are forward-looking and
the accuracy of which are based upon certain uncertainties in the Company's
future operations and results. For a discussion of important factors that could
cause the actual results to differ materially from those contained in such
forward-looking statements, see "Forward-Looking Statements" below.
Results of Operations
Comparison of the Year Ended December 31, 1997 to the Year Ended December 31,
1996
Sales. Total sales for the year ended December 31, 1997 decreased $1.6
million, or 20.5% to $6.2 million from $7.8 in the comparable 1996 period. This
decrease primarily occurred in the Company's Brazilian operations where its
fiscal 1997 sales were $4.2 million as compared to $5.4 million in the year
earlier period. The decrease occurred because of an unusual concentration of
sales in the first quarter of 1996 which did not reoccur in the comparable 1997
period and the delay in the delivery of certain equipment in the forth quarter
of 1997. In the United States, the Company's poor financial condition and
inability to resolve its long term cash flow requirements has resulted in loss
of customer confidence and a corresponding reduction in sales and ultimately the
closing of its operations in Boca Raton, Florida in February 1998.
Cost of Goods Sold. Cost of goods sold decreased $.7 million or 14.9%
to $4.0 million for the year ended December 31, 1997 from $4.7 million in the
year earlier period. The decrease in cost of goods sold primarily results from
the decrease in sales. The gross profit and gross profit percentages for the
years ended December 31,1997 and 1996 were $2.2 million and 35.4% and $3.1
12
<PAGE>
million and 39.3%, respectively. The small decrease in gross profit is
attributable to a decrease in the gross profit on sales in Brazil. The gross
profit % for 1998 is expected to decrease as a result of the reduction of
activity in the U.S. which had higher gross margins.
Selling, General and Administrative. Selling, general and
administrative expenses in 1997 decreased $1.7 million or 28.8% to $4.2 million
from $5.9 million in 1996. During the last quarter of 1997 the Company began to
reduce the number of its US personnel and curtail or eliminate certain operating
services resulting in $.3 reduction of costs as compared to the 1996 period.
During 1996 the Company's Brazilian operations incurred payroll and related
costs in connection with the downsizing that did not reoccur in 1997 period. In
addition in the forth quarter of 1996 the Company recognized $.9 million of bad
debts in connection with certain Brazilian accounts receivable which did not
reoccur in the 1997 period.
Research and Development Expenses. Research and development expenses
for the year ended 1997 decreased $.4 million or 33.3% from $1.2 million for the
year ended 1996 to $.8 million for the year later period. During the 1996 period
the Company incurred $1.6 million of total costs associated with its research
and development activities, of which $.4 million was capitalized in connection
with the completion of the development of the EnWorks family of products, and
$1.2 million was recognized as research and development expense. In 1997 the
Company incurred $.9 million of costs of which $.8 million reflected the
Company's continuing efforts to develop new features whose costs have been
expensed in the period incurred and $.1 million which was recognized as cost of
goods sold in connection with the development of customized features and
capabilities for specific customers. The overall decrease in research and
development costs results from the decrease in number of departmental employees
from 18 in 1996 to an average of 8 in 1997. During the first quarter of 1998 the
Company eliminated research and development efforts and has contracted with
outside sources in both U.S. and Brazil to support its installations.
Public company expenses. The Company's initial public offering was
completed on September 25, 1996 and at which time the Company's common stock
began to be quoted on the NASDAQ Small Cap Market and the Company was required
to file certain reports and statements under the Securities act of 1933, as
amended, and the Securities Act of 1934 as amended. As a result of the Company's
obligations as both a publicly-traded company and a reporting company, the
Company began to incur expenses for directors and officers liability insurance,
public and investor relations fees, printing costs, legal and other professional
fees and other similar public company expenses. During the last quarter of 1996
the Company's public company expenses were approximately $85,000 verses $260,226
for all of 1997. Throughout 1997 the company has decreased the amount of it
incurs quarterly for public company expenses as a result of reducing its
directors and officers insurance costs, limiting its public and investor
relations effort and reducing its professional fees.
13
<PAGE>
Other income and expenses. Interest expense decreased $2.4 million or
71.4% to $1.1 million for the year ended December 31,1997 from $3.5 million for
the year earlier period. This decrease is the result of the repayment of the
certain Brazilian short-term notes payable in September 1996 which bore interest
at 5% to 6% per month and repayment of $2.5 million bridge financing in
September 1996 whose amortization of debt discount and financing costs were in
excess of $.8 million. These notes were repaid from the proceeds of the
Company's initial public offering.
Commission income amounted to $.6 million for 1997. In connection with
the sale of the currency sorting and equipment division in December 1995, the
Company is entitled to receive commissions for a period of five years from the
date of such sale up to a maximum of $2,000,000. During 1996 no commissions were
earned. The Company anticipates that it will continue to earn commissions during
1998-2000.
In 1992 certain social taxes were judged unconstitutional in Brazil. As
a result of such ruling the Company's Brazilian subsidiary sought and was
awarded in September 1997 after exhausting the full appeal process a refund of
such social taxes. The award will be increased for the monetary correction as
defined under Brazilian law. With respect to such award the Company has
recognized $726,575 as other income for the year ended December 31, 1997. The
company expects to realize this asset during 1998.
As a result of closing the Boca Raton office, the Company incurred a
$244,000 charge associated with the disposition of certain furniture, fixtures
and leasehold improvements. Furthermore, the Company recognized a write-down of
approximately $3.3 million in accordance with FASB 121 "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of",
such write-down was principally attributed to the uncertainty surrounding the
continuation of the Company as a going concern and principally the ability to
recover such capitalize software costs.
Income Tax Benefit Income tax benefit was $.3 million for the year
ended 1996 and $0 for the comparable year later period. This decrease was
attributable to a decrease in the Company's net deferred tax liability that was
available to offset against foreign net operating losses which were generated in
fiscal 1996 and 1997.
The Company recognizes the need to insure that its operations will not
be adversely impacted by Year 2000 software failures due to processing errors
potentially arising from calculations using the year 2000. In 1997, the Company
began implementing upgrades to existing system applications as well as the
addition of new system applications. To date, the En2000 is Year 2000 compliant
and the Company anticipates by the end of this fiscal year that all of the
Company's applications will be Year 2000 compliant.
Liquidity and Capital Resources
14
<PAGE>
Net cash used in operating activities for the year ended December 31,
1997 amounted to $1.7 million which resulted primarily from the Company's net
loss from operations. Net cash used in investing activities for the year ended
December 31, 1997 amounted to $.3 million which resulted from the purchase of
equipment and leasehold improvements in the U.S and the installation of new
computer equipment in Brazil.
The Company currently does not have any line of credit or other
short-term credit facilities established with U.S. banks and limited short-term
credited facilities established with Brazilian banks. The Company obtained its
long-term debt financing from two Brazilian banks. These loans bear interest at
a rate of 12% per annum, plus an inflation adjustment, which is expected to be
7%-9% for 1998. In January 1998, the Company completed a restructuring of $2.9
million of $3.8 million of these long-term loans. The revised terms of the loan
extend the commencement of the principal amortization to December 1998 and the
amortization period from 35 to 41 months. The interest rate charged on the
outstanding loan balance remains unchanged. The Company is attempting to sell
its Brazilian facility and it intends to liquidate the $2.9 million loan with
the net proceeds from the sale. During November 1997 the Company successfully
renegotiated the terms of its $.9 million long term debt obligation. The loan
commenced being amortized in various amounts in November 1997 with interest at
12% plus an inflation adjustment. The loan also continues to be guaranteed by
the chief executive officer of the Company and is further guaranteed by certain
of the Ensec S.A. maintenance contracts, the lease for 50% of the facility and
the commission contract between Ensec S.A. and the former minority shareholder
of Ensec S.A.
Working capital at December 31, 1997 decreased $3.0 million, or 167%,
to $(1.2) million at December 31, 1997 from $1.8 million at December 31, 1996.
This decrease was substantially attributable to the Company's net loss exclusive
of depreciation and amortization, plus the increase in the current portion of
long-term debt.
The Company received a going concern qualification from its outside
independent auditors on its fiscal 1997 audited financial statements. Management
believes the Company's ability to continue as a going concern is dependent upon
securing adequate financing to fund its operations until the time the Company is
able to generate sufficient revenues to be self-sustaining. There can be no
assurance the Company will be successful in achieving these goals.
The Company is actively seeking sources of capital to permit the
Company to continue its operations in the U.S. and Brazil. It has been unable
to secure a closing of any financing and there can be no assurance and financing
will be completed. Should the Company become unable to obtain additional
financing, it would be required to reduce or eliminate its U.S. operations and
would result in additional financial difficulties in Brazil. The Company does
not presently meet listing requirements for the Nasdaq SmallCap Market and has
been notified by Nasdaq Listing Qualifications that the Company has until June
30, 1998 to comply with the listing standards or the Company will be subject to
delisting. There is no assurance that the Company will be able to maintain its
listing on Nasdaq SmallCap Market and should the Company's securities be
delisted, the Company's ability to raise additional financing may be adversely
affected.
The Company has no commitments for capital expenditures as of December
31, 1997.
15
<PAGE>
In April 1997 the Company was notified of its infringement of U.S.
patent No. RE 35,336. The Company reviewed the claim and proposed a settlement
which was rejected by the Claimant. The Claimant reassert its claim and asserted
a new claim of infringement of U.S. Patent No. 4,126,375 and reaffirmed its of
$75,0000 initial payment with a royalty equal to on all future qualifying sales
through February 1998. The Company has not responded to this proposal which
expired on December 31, 1997. The Company will continue its discussions with the
Claimant and believes that it can resolve this matter under terms that are
acceptable to both parties.
Foreign Currency Exchange Rates and Translation Gains and Losses
The Company's functional currency is the U.S. dollar. The Company has a
substantial portion of its operations located in Brazil. Therefore, a
substantial portion of its sales are collected in Brazilian reais (plural of
real, the Brazilian currency) and a substantial portion of the Company's
expenses are incurred in Brazilian rests, in each case rather than U.S. dollars.
Although it is impossible to predict future exchange rate fluctuations between
the U.S. dollar and other currencies, it can be anticipated that, to the extent
the U.S. dollar strengthens or weakens against the Brazilian real or other
currencies, a substantial portion of the Company's reported net sales, cost of
goods sold and operating expenses will be commensurably lower or higher than
they would have been with a stable foreign currency relationship. The Company
and its subsidiaries translate into their functional currency on a monthly basis
based on a combination of the then current and historical exchange rates for the
currency in which their assets and liabilities are valued. Gains or losses
arising from these monthly translations are reflected as translation income or
expense. As a result of these monthly translations, the Company recognized a
gain of $.5 million for the year ended December 31, 1996 and a of $.3 million
for the year ended December 31,1997.
Prior to 1995, Brazil experienced a highly inflationary economy.
Accordingly, under the required temporal method of currency translation, both
current and historical exchange rates are used depending upon the nature of the
asset or liability being translated. Translation gains and losses result from
fluctuations in the assets or liabilities being translated at current rates as
well as from fluctuations in the dollar/real exchange rate itself. The Company
experienced translation gains in 1996 as a result of the dollar weakening
against the real.
Although in 1994, the inflation rate in Brazil was approximately 900%,
in 1995, 1996 and 1997 inflation rates decreased to 22%, 10% and 7.74%,
respectively. For 1998, the Company believes that inflation in Brazil will
continue to remain at or about the 1997 rate.
16
<PAGE>
Forward-Looking Statements
The foregoing Management's Discussion and Analysis of Financial
Condition and Results of Operations contains various "forward-looking
statements" within the meaning of Section 27A of the Securities Act and Section
21 E of the Exchange Act, which represent the Company's expectations or beliefs
concerning future events, including without limitation the following: changes in
the Company's sales, costs, expenses and other financial information; changes or
adjustments in the Company's marketing and business strategies; the scope,
nature and effects of the Company's downsizing plan, including without
limitation the reduction of the Company's workforce and the potential sale of
the Company's Brazilian headquarters; the possibility of fluctuations in the
Brazilian economy, interest rates and currency and the effects thereof, if any,
on the Company; the Company's ability to secure additional credit facilities or
other future sources of financing in the U.S. and Brazil, as well as other
sources, if necessary for the Company to do so; and the sufficiency of the
Company's cash provided by operating, investing and financing activities for the
Company's future liquidity and capital resource needs.
The Company cautions that these statements are further qualified by
important factors that could cause actual results to differ materially from
those contained in the forward-looking statements, including without limitation
the following: general economic conditions; specific economic conditions
relating to the production of integrated security systems (including software);
the economic, social and political conditions in Brazil; the demand for the
Company's products; the size and timing of future orders and new contracts;
specific feature requests by customers; production delays or manufacturing
inefficiencies; management decisions to commence or discontinue product lines;
the Company's ability to design and introduce new products on a cost-effective
and timely basis; the amount and timing of research and development
expenditures; the maintenance of present and the availability of future
strategic alliances and joint marketing or servicing agreements; the
introduction of new products and product enhancements by the Company or its
competitors; the budgeting cycle of customers; changes in the proportion of
revenues attributable to license fees and maintenance and support services;
changes in the level of operating expenses; and the present and future level of
competition in the industry. As a result of these and other important factors,
the results actually achieved may differ materially from expected results
included in these statements.
Item 7. FINANCIAL STATEMENTS
--------------------
The Company's Consolidated Financial Statements which are required to
be included in this Item 7 are set forth in a separate section of this Report
and commence on Page F-1 immediately following Page 29 of this Report.
17
<PAGE>
Item 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
------------------------------------------------
ACCOUNTING AND FINANCIAL DISCLOSURE
-----------------------------------
Not applicable.
PART III
Item 9. DIRECTORS AND EXECUTIVE OFFICERS, PROMOTERS AND
-----------------------------------------------
CONTROL PERSONS, COMPLIANCE WITH SECTION 16(a) OF THE
-----------------------------------------------------
EXCHANGE ACT
------------
Directors and Executive Officers
The directors and executive officers of the Company, and certain
officers of its subsidiaries, their ages, and positions with the Company, Ensec
Inc. and Ensec, S.A. are forth below:
<TABLE>
<CAPTION>
Name Age Position
---- --- --------
<S> <C> <C>
Charles N. Finkel 48 Chairman of the Board (Class III Director), Chief
Executive Officer and President of the Company;
Chairman of the Board and Chief Executive Officer
of Ensec, S.A. and Ensec Inc.
Flavio R. da Silva 49 Vice President-Brazil and Class II Director of the
Company; President, Chief Operating Officer and
Director of Ensec, S.A.
Raymond E. List 53 Class II Director of the Company.
Nilton Pechin 51 Chief Financial Officer of the Company.
</TABLE>
Charles N. Finkel founded Ensec, S.A. in 1983 and has been Chairman of
the Board, Chief Executive Officer, President and a Class III director of the
Company since its inception in April 1996. Mr. Finkel has 18 years of experience
in the security industry commencing with Engesa, S.A., an armaments company
based in Sao Paulo, Brazil, where Mr. Finkel was director of export sales. In
1983, Mr. Finkel left Engesa to found Ensec, S.A. Mr. Finkel received a degree
in civil engineering from Armando Alvares Peteado, Brazil, and a Masters degree
in Marketing from Getulio Vargas, Brazil.
Flavio R. da Silva joined the Company in December 1995 and has served
as a Class II director of the Company since April 1996. Prior to joining the
Company in 1995, Mr. da Silva held management positions, from 1971 to 1989, for
Brasilit S.A., a
18
<PAGE>
manufacturer of building products, and from 1990 to 1995, for Fortilit S.A. and
predecessor companies, a manufacturer of PVC products. Mr. da Silva received
Bachelor of Science and Masters degrees in Business Administration from
Mackenzie University, Brazil, and a Ph.D. in Engineering from the University of
Sao Paulo, Brazil.
Raymond E. List joined the Company's Board of Directors as a Class II
director in October 1996. Mr. List is a Managing General Partner in Fairfax
Partners, a venture capital partnership with investments in health care,
software and environmental companies. From 1988 to 1994, Mr. List served as
President and Chairman of ICF Kaiser Engineers, Inc., a worldwide engineering
and construction company. Mr. List received a Bachelor of Civil Engineering
degree from Union College in Schenectady, New York, a Masters degree in
Engineering from Manhattan College, Bronx, New York and a Masters degree in
Business Administration from Harvard University in Cambridge, Massachusetts.
Nilton Mario Pechin joined the Company on April 1, 1998. Prior to
joining the Company, Mr. Pechin held several management positions, from 1968 to
1986 for General Motors, car industry and auto parts, and from 1986 to 1991, for
Doria Atherino, a stock exchange broker. Mr. Pechin received his post high
degree in Financial Administration from Fundacao Getulio Vargas F.G.U. and
Bachelor of Science degree in Business Administration from St. Marcos
University, San Paulo Brazil.
Election of Directors
The Board of Directors is currently comprised of 3 members. Pursuant to
the Company's Articles, the Board of Directors is divided into three classes, as
nearly equal in number as possible, designated Class I, Class II and Class III.
The term of the initial Class I directors terminates on the date of the 2000
annual meeting of shareholders; the term of the initial Class II directors
terminates on the date of the 1998 annual meeting of shareholders and the term
of the initial Class III directors terminates on the date of the 1999 annual
meeting of shareholders. At each annual meeting of shareholders, successors to
the class of directors whose term expires at that annual meeting shall be
elected for a three-year term. Mr. da Silva and Mr. List are currently a Class
II director and Mr. Finkel is currently a Class III director. There are no
family relationships among any of the directors of the Company.
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Securities Exchange Act of 1934, as amended,
requires the Company's directors, executive officers and any persons who
beneficially own ten percent or more of the Company's Common Stock to file with
the Securities and Exchange Commission (the "Commission") initial reports of
beneficial ownership and reports of changes in beneficial ownership of Common
Stock. Such persons are required
19
<PAGE>
by regulations of the Commission to furnish the Company with copies of all
Section 16(a) forms they file.
Based solely upon (i) a review of Forms 3 and 4 and amendments thereto
furnished to the Company during fiscal year 1997 and Form 5 and amendments
thereto furnished to the Company with respect to fiscal year 1997, and (ii)
written representations from such reporting persons that no Form 5 filings were
required with respect to such fiscal year, the Company believes that each filing
required to be made pursuant to Section 16(a) was made by each such reporting
person on a timely basis.
Item 10. EXECUTIVE COMPENSATION
----------------------
Compensation of Executive Officers
The following table sets forth as of December 31, 1997, all
compensation paid during the Company's last three fiscal years to the Company's
Chief Executive Officer and to executive officers whose total annual
compensation exceeded $100,000 during the last fiscal year.
<TABLE>
<CAPTION>
Summary Compensation Table
Long Term
Compensation
Awards
Annual Compensation(1) ------------
------------------------------------------------------------- Number of
Securities
Name and Principal Other Annual Underlying All Other
Position Year Salary Bonus Compensation(2) Options(3) Compensation
------------------ ---- ------ ----- --------------- ---------- ------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Charles N. Finkel, 1997 $ 240,000 $ -0- $ 10,000 -0- $ -0-
Chief Executive Officer 1996 $ 216,112 $ -0- $ 10,246 25,000 $ 35,642(4)
of the Company, Ensec, 1995 $ 116,500 $ -0- $ -0- -0- $ 107,200(5)
S.A. and Ensec Inc.
Flavio R. da Silva, 1997 $ 136,017 $ 31,750(6) $ 12,300 -0- $ -0-
Vice President-Brazil of 1996 $ 124,331 $ -0- $ 17,542 50,000 $ -0-
the Company and 1995 $ 9,112 $ -0- $ -0- -0- $ -0-
President and Chief
Operating Officer of
Ensec, S.A.
</TABLE>
(1) In accordance with the rules of the Commission, the compensation
described in this table does not include medical group life insurance
or other benefits received by the named executive officers which are
available generally to all salaried employees of the Company, and
certain perquisites and other personal benefits, securities or property
received by the executives which do not exceed the lesser of $50,000 or
10% of any such named executive officer's salary and bonus disclosed in
this table.
20
<PAGE>
(2) In accordance with their employment agreements, the Company paid to
Messrs. Finkel and da Silva a monthly automobile allowance and paid to
Mr. da Silva the amount of his medical premiums which exceed those
provided under Ensec, S.A.'s employee benefit plan. Additionally, the
amounts in this column include the value of additional
employment-related benefits which accrued to Messrs. Finkel and da
Silva during fiscal 1996 under Brazilian law.
(3) The value of these options are detailed in the "Option Grants in Last
Fiscal Year" table below. All options were granted under the Company's
1996 Stock Option Plan (the "Plan").
(4) Represents the following compensation for expenses paid by the Company
on behalf of the named executive officer in fiscal year 1996: (i)
$1,786 in property maintenance expenses; (ii) $3,575 in car expenses;
(iii) $5,381 in meal expenses; (iv) $14,283 in travel expenses; (v)
$5,700 in entertainment expenses; and (vi) $4,917 in miscellaneous
expenses.
(5) Represents the following compensation for expenses paid by the Company
on behalf of the named executive officer in fiscal year 1995: (i)
$9,648 in property maintenance expenses; (ii) $17,152 in car expenses;
(iii) $18,224 in meal expenses; (iv) $26,800 in travel expenses; (v)
$24,656 in entertainment expenses; and (vi) $10,720 in miscellaneous
expenses.
(6) Represents a bonus earned but unpaid to Mr. da Silva which was accrued
by the Company.
The following table sets forth information regarding options to
purchase the Company's Common Stock granted by the Company during the last
fiscal year to the executives named in the Summary Compensation Table.
Option Grants In Last Fiscal Year
<TABLE>
<CAPTION>
Number of
Securities % of Total
Underlying Options Granted Per Share
Options to Employees In Exercise Expiration
Name Granted(1) Fiscal Year(2) Price Date
---- ---------- --------------- --------- ----------
<S> <C> <C> <C> <C>
Charles N. Finkel -0- --- --- ---
Flavio R. da Silva 40,000 29% $1.5625 July 24, 2007
</TABLE>
(1) The options shall vest in one-third equal installments over a two-year
period. The first vesting occurred on July 24, 1997 and subsequent
vestings shall occur on July 24, 1998 and July 24, 1999, provided that
the named executive officer is still employed by the Company as of each
such date. The option agreements provide for accelerated vesting in the
event the executive is terminated by the Company other than for cause,
or in connection with certain changes in control of the Company.
(2) Options to purchase a total of 355,000 shares were granted to employees
of the Company in fiscal year 1996 under the Plan. This aggregate
amount does not include options to purchase in the aggregate 30,000
shares of Common Stock granted under the Plan in October 1996 to
certain nonemployed directors of the Company and an option to purchase
15,000 shares of Common Stock (not under the Plan) which was granted in
October 1996 to an outside consultant.
21
<PAGE>
During 1997, no options were exercised by any of the two named
executive officers. The following table sets forth information with respect to
such executive officers concerning unexercised options held as of December 31,
1997.
Aggregated Option Exercises in Last Fiscal Year and F-End Option Values
<TABLE>
<CAPTION>
Number of Securities Value of Unexercised
Underlying Unexercised In-the-Money
Options at F-End(1) Options at F-End(2)
---------------------- --------------------
Not Not
Name Exercisable Exercisable Exercisable Exercisable
---- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Charles N. Finkel(3).................. -0- -0- $ -- $ --
Flavio R. da Silva.................... 46,667 43,333 $ -0- $ -0-
</TABLE>
(1) These options have an exercise price of between $1.5625 and $2.00 per
share and are exercisable during the period from 1997 to 2007.
(2) These values represent potential gains on both exercisable and
unexercisable options based on the closing price of the underlying
Common Stock as of December 31, 1997 less the exercise price of the
options.
(3) On July 24, 1997, Charles Finkel elected to cancel his 25,000 options.
Compensation of Directors
In fiscal year 1997, the Company did not pay a director's fee or other
similar compensation to any director of the Company for their service as such.
The Company does not intend to compensate non-employee directors for serving as
directors of the Company, except to reimburse them for their reasonable expenses
incurred in connection with such service and to issue grants of Director Awards
(as defined below) under the Plan. See "-- 1996 Stock Option Plan." Directors
who are also employees of the Company do not receive additional compensation for
serving as a director.
Employment Agreements
The Company or its subsidiaries are parties to substantially similar
employment agreements with Messrs. Finkel, and da Silva, pursuant to which each
of these individuals serve as an executive officer of the Company, Ensec, S.A.
and/or Ensec Inc. Each of the employment agreements is for an initial three year
term, which commenced in May or June 1996 and will automatically renew for
successive three-year terms unless either party provides written notice to the
other party least 90 days prior to renewal.
Pursuant to the employment agreements, Messrs. Finkel, and da Silva,
received an annual base salary for fiscal year 1997 of $240,000, and $136,017,
respectively, which may be increased from time to time by the Board of
Directors. The employment agreements for Messr. da Silva provide for annual cash
bonuses equal to 25% of the annual base salary then in effect for such
individuals in the event that certain subsidiary budgets are attained by the end
of each fiscal year; however, Mr. da Silva was awarded a $31,750 bonus in 1997
which has not been paid to date. The other executive officers will be eligible
for annual cash bonuses as determined in the discretion of the Board of
Directors of the Company based upon their attainment of individual performance
targets and the financial performance of the Company or its subsidiaries.
22
<PAGE>
The agreements provide that upon the termination of employment by the
Company, other than for Cause (as defined in the agreements), the Company shall
pay an amount equal to the aggregate present value of the product of (x) the
average aggregate annual compensation subject to U.S. income tax and paid to Mr.
Finkel by the Company during the five calendar years preceding the taxable year
in which the date of termination occurs, multiplied by (y) 2.99. The agreements
provide for noncompetition, nonsolicitation and nondisclosure covenants.
The agreements also provide for each executive officer to receive a
grant of options under the Plan which will vest in one-third equal installments
over a two-year period. The first two vestings occurred as of September 30, 1996
and 1997, and the final vesting will occur on September 30, 1998. The options
granted to Mr. da Silva are incentive stock options (as defined in Section 422
of the Internal Revenue Code of 1986, as amended (the "Code")) and provide for
an exercise price of $2.00 per share, subject to adjustment in accordance with
the terms of the Plan. In order for the options to vest, the executive officer
must be employed by the Company or any of its subsidiaries as of the date of
vesting. According to the terms of the Plan and each executive officer's option
agreement, the vesting of options will be accelerated and the all of the options
will become immediately exercisable in the event the executive officer is
terminated by the Company other than for Cause (as defined in such executive
officer's employment agreement), or in the event of certain changes in control
of the Company.
1996 Stock Option Plan
The Company has adopted the Plan, pursuant to which stock options (both
Nonqualified Stock Options and Incentive Stock Options, as defined in the Plan),
stock appreciation rights, restricted stock, performance share awards and
phantom stock unit awards may be granted to directors and certain key employees
(the "Participants"). The Plan provides for the automatic grant to directors who
are not employees of the Company (each, a "Director Award") or its subsidiaries,
at such time as an individual becomes a director of the Company, of Nonqualified
Stock Options to purchase 15,000 shares of Common Stock at an exercise price per
share equal to the greater of $2.00 or the fair market value of the shares on
the date of grant. A Director Award vests in equal increments of 5,000 shares
per year, commencing upon the date of the Company's annual meeting of
shareholders for the election of directors next following the date that such
individual became a director and continuing with each such successive annual
meeting provided such person remains a director of the Company as of such date.
The Plan also provides for the acceleration of the vesting schedule of Director
Awards in certain circumstances.
With respect to the grant of awards under the Plan to persons other
than nonemployed directors, the committee which is responsible for administering
the Plan (the "Committee") will determine persons eligible to be granted stock
options, stock appreciation rights, performance share awards and restricted
stock, the amount of stock or rights to be optioned or granted to each such
person, and the terms and conditions of any such option, grant or award. An
Incentive Stock Option is intended to qualify as an incentive stock option
within the meaning of Section 422 of the Code. Any Incentive Stock Option
granted under the Plan will have an exercise price of not less than 100% of the
fair market value of the shares on the date on which such option is granted.
With respect to an Incentive Stock Option granted to a Participant who owns more
than 10% of the total combined voting stock of the Company or any parent or
subsidiary of the Company, the exercise price for such option must be at least
110% of the fair market value of the shares subject to the option on the date
the option is granted. A Nonqualified Stock Option granted under the Plan (i.e.,
an option to purchase Common Stock that does not meet the Code's requirements
for Incentive Stock Options) must have an exercise price of at least the par
value of the stock.
Stock appreciation rights may be granted in conjunction with the grant
of an Incentive or Nonqualified Stock Option under the Plan or independently of
any such option. A stock appreciation right
23
<PAGE>
granted in conjunction with a stock option may be an alternative right, in which
event, the exercise of the stock option terminates the stock appreciation right
to the extent of the shares purchased upon exercise of the stock option and,
correspondingly, the exercise of the stock appreciation right terminates the
stock option to the extent of the shares with respect to which such right is
exercised. A stock appreciation right, may not, however, be granted in
conjunction with an Incentive Stock Option under circumstances in which the
exercise of the stock appreciation right affects the right to exercise the
Incentive Stock Option or vice versa, unless certain terms and conditions are
met.
Subject to the terms of the Plan, the Committee may award shares of
restricted stock to the Participants. Generally, a restricted stock award will
not require the payment of any option price by the Participant but will call for
the transfer of shares to the Participant subject to forfeiture, without payment
of any consideration by the Company, if the Participant's employment terminates
during a "restricted" period (which must be at least six months) specified in
the award of the restricted stock.
Performance shares may be awarded to participants based upon the degree
to which certain objective performance goals, as established by the Committee,
are attained. The amount earned with respect to an award of performance shares
will usually be payable in stock based upon the fair market value of such stock
upon the valuation date. The Committee, may, however, vary the composition of a
performance share award at its discretion.
The Company may also issue phantom stock unit awards to Participants
upon terms and conditions established by the Committee from time to time. A
phantom stock unit entitles the holder of such unit to a hypothetical equivalent
of one share of stock granted in connection with a Plan award or deferred
performance share award. Phantom stock unit awards are nontransferable and will
be subject to forfeiture if employment of the Participant is terminated before
such awards become vesting in accordance with their terms.
There are 450,000 shares of Common Stock authorized for possible
issuance under the Plan. As of December 31, 1997, options to purchase 251,667 of
such reserved shares have been granted to executive officers and non-employee
directors of the Company.
Item 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
--------------------------------------------------------------
Beneficial Ownership of Common Stock
The following table sets forth information with respect to the shares
of Common Stock beneficially owned as of April 7, 1998 by (i) those persons who
were beneficial owners of more than 5% of the Company's outstanding shares of
Common Stock (as obtained from reports regarding such ownership filed by such
persons with the Securities and Exchange Commission), (ii) each of the Company's
directors and certain of its executive officers, and (iii) all directors and
executive officers of the Company as a group.
<TABLE>
<CAPTION>
Name and Address Amount and Nature
of Beneficial Owner(1) of Beneficial Owner Percent of Class
- ---------------------- ------------------- ----------------
<S> <C> <C> <C>
Charles N. Finkel(2) 3,425,000 56.93%
Flavio R. da Silva(3) 63,334 1.0%
Raymond E. List(4) 15,000 *
All directors and executive
officers as a group (3 persons) 3,503,334(2-5) 58.23%
</TABLE>
- --------------------------------
* Less than one (1%) percent
24
<PAGE>
(1) Unless otherwise indicated, the address of each shareholder is 751
Park of Commerce Drive, Suite 104, Boca Raton, Florida 33487. Unless
otherwise indicated, the Company believes that all persons named in the
table have sole voting and investment power with respect to all shares
of Common Stock beneficially owned by them. A person is deemed to be
the beneficial owner of securities that can be acquired by such person
within 60 days of April 7, 1998 upon the exercise of options and
warrants or the conversion of convertible securities and the table
above reflects shares of Common Stock which may be acquired upon the
exercise of options granted under the Plan that have already vested or
will vest within 60 days of April 7, 1998.
(2) Includes 3,425,000 shares that are indirectly owned by Mr. Finkel
through wholly-owned entities.
(3) Consists of 63,334 of the Option Shares. Does not include 26,666
option shares which are not currently exercisable within 60 days.
(4) Consists of 15,000 Option Shares which may be acquired upon the
exercise of options granted as Director Awards under the Plan. Does not
include 15,000 option shares which are not currently exercisable within
60 days.
(5) Includes 25,000 of the Option Shares which may be acquired by an
executive officer of the Company not named in the table set forth
above. Does not include 20,000 caption shares which are not currently
exercisable within 60 days.
Item 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
----------------------------------------------
In July 1996, Charles N. Finkel, the Company's President and Chief
Executive Officer, deposited $400,000 in a Brazilian bank to secure the
guarantee of a $400,000 loan from such bank to the Company. In addition, Mr.
Finkel loaned $100,000 to the Company, which loan bore interest at a rate of 5%
per annum. In August 1996, the Company borrowed $500,000 from an individual,
through Mr. Finkel, which debt was due September 30, 1996, and bore interest at
a rate of approximately 5% per month. Repayment of this indebtedness was
personally guaranteed by Mr. Finkel. Such loans were repaid in full in September
and October 1996, at which time the $400,000 deposited by Mr. Finkel was
released by the bank.
All related party transactions were on terms no less favorable than
those with unaffiliated third parties. All future transactions will be on terms
no less favorable than the Company could obtain based upon negotiations with
unaffiliated third parties in armslength transactions.
Item 13. EXHIBITS AND REPORTS ON FORM 8-K
--------------------------------
<TABLE>
<CAPTION>
Exhibit Index
<S> <C>
3.1 Articles of Incorporation of the Company, as amended (1)
3.2 Bylaws of the Company (1)
4.1 Form of Common Stock Certificate (1)
4.2 Form of Redeemable Warrant Certificate (1)
10.1 1996 Stock Option Plan, as amended (1)
10.2 Strategic Alliance Agreement between Lockheed Martin IMS and Ensec Inc. (1)
10.3 Card Access Systems Agreement between Ensec Inc. and Electronic Data Systems
Corporation, as amended to the date hereof (1)
10.4 Software Value Added Reseller Agreement between Ensec Inc. and ICL Enterprises (1)
10.5 Agreement between Ensec Inc. and The Port Authority of New York and New Jersey (1)
25
<PAGE>
10.6 Agreement for Purchase and Sale of the Bank Automation Division of Ensec, S.A. between
De La Rue Investimentos Uda. and Ensec S.A. (1)
10.7 Form of Employment Agreement representing Employment Agreements
between the Company and each of Charles N. Finkel, and Flavio R.
da Silva .
10.8 ADT Original Equipment Manufacturer Agreement between Ensec Inc. and ADT (2)
10.9 Letter of Intent to acquire all of the outstanding capital stock Integrated Security Resources,
Inc. dated November 13, 1997 (3)
11.1 Statement Regarding Computation of Per Share Earnings
21.1 Subsidiaries of the Registrant (1)
23.1 Consent of Grant Thornton LLP (4)
27.1 Financial Data Schedule (4)
</TABLE>
- ----------------------
(1) Filed as an exhibit to Amendment No. 3 to the Company's
Registration Statement on Form SB-2 (File No. 333-06223), as filed with
and declared effective by the Commission on September 25, 1996.
(2) Filed as an exhibit by amendment to the Company's Quarterly Report on
Form 10-QSB, dated as of September 30, 1996, as filed with the
Commission on November 13, 1996 (File No. 0-21361).
(3) Filed as an exhibit to the Company's Quarterly Report on Form 10-QSB,
dated as of September 30, 1997, as filed with Commission on November
19, 1997 (File No. 0-21361)
(4) Filed as an exhibit hereto.
Reports on Form 8-K
The Company did not file any reports on Form 8-K during the fourth
quarter of the fiscal year ended December 31, 1997.
26
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Securities Exchange Act
of 1934, as amended, the registrant caused this report to be signed on its
behalf by the undersigned, "hereunto duly authorized.
ENSEC INTERNATIONAL. INC.
(Registrant)
Date: April 17, 1998 By: /s/ Charles N. Finkel
----------------------
Charles N. Finkel
President and Chief
Executive Officer
Date: April 17, 1998 By: /s/ Nilton Pelchin
-------------------
Nilton Pechin
Principal Financial and
Accounting Officer
In accordance with the Securities Exchange Act of 1934, as amended,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
Date: April 17, 1998 By: /s/ Charles N. Finkel
----------------------
Charles N. Finkel
Director, President and Chief
Executive Officer
(Principal Executive Officer)
Date: April 17, 1998 By: /s/ Raymond E. List
--------------------
Raymond E. List
Director
Date: April 17, 1998 By: /s/ Flavio R. da Silva
-----------------------
Flavio R. da Silva
Director
27
<PAGE>
CONSOLIDATED FINANCIAL STATEMENTS
AND REPORT OF INDEPENDENT
CERTIFIED PUBLIC ACCOUNTANTS
ENSEC INTERNATIONAL, INC.
AND SUBSIDIARIES
December 31, 1997 and 1996
<PAGE>
C O N T E N T S
Page
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS 1
CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS 2
CONSOLIDATED STATEMENTS OF OPERATIONS 3
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY 4
CONSOLIDATED STATEMENTS OF CASH FLOWS 5 - 6
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 7 - 25
<PAGE>
REPORT OF INDEPENDENT CERTIFIED
PUBLIC ACCOUNTANTS
Board of Directors
Ensec International, Inc.
We have audited the accompanying consolidated balance sheets of Ensec
International, Inc. and Subsidiaries (the "Company") as of December 31, 1997 and
1996. and the related consolidated statements of operations, stockholders'
equity and cash flows for the years then ended. These financial statements are
the responsibility of the Company's Management. Our responsibility is to express
an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Ensec
International, Inc. as of December 31, 1997 and 1996 and the consolidated
results of their operations and their consolidated cash flows for the years then
ended in conformity with generally accepted accounting principles.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As shown in the financial
statements, the Company incurred a consolidated net loss of $5,869,866 during
the year ended December 31, 1997, and, as of that date, the Company's
consolidated current liabilities exceeded its consolidated current assets by
$1,163,556. These factors, among others, as discussed in Note Q to the financial
statements, raise substantial doubt about the Company's ability to continue as a
going concern. Management's plans in regard to these matters are also described
in Note Q. The financial statements do not include any adjustments that might
result from the outcome of this uncertainty.
/s/ Grant Thornton, LLP
Fort Lauderdale, Florida
April 8, 1998
<PAGE>
Ensec International, Inc. and Subsidiaries
CONSOLIDATED BALANCE SHEETS
December 31,
<TABLE>
<CAPTION>
ASSETS
1997 1996
---------------- ---------------
<S> <C> <C>
Current assets
Cash and cash equivalents $ 211,803 $ 2,257,103
Accounts receivable (less allowance for doubtful
accounts of $9,000 and $258,000 in 1997 and
1996, respectively) 1,054,355 1,395,137
Social taxes and other receivables 399,040 -
Inventory 497,545 736,425
Prepaid expenses and other current assets 119,779 317,384
---------------- ---------------
Total current assets 2,282,522 4,706,049
Property and equipment, net 2,047,967 2,333,742
Other assets
Capitalized software costs, net - 3,545,000
Refundable income taxes - 196,000
Other assets 669,473 77,711
---------------- ---------------
Total assets $ 4,999,962 $ 10,858,502
================ ===============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Accounts payable $ 707,585 $ 619,907
Accrued and other liabilities 1,344,779 1,401,563
Current portion of long-term debt 1,393,714 861,000
---------------- ---------------
Total current liabilities 3,446,078 2,882,470
---------------- ---------------
Long-term debt, less current portion 2,411,492 2,962,000
Commitments and contingencies - -
Stockholders' equity (deficit)
Preferred stock, authorized 3,000,000 shares at
$.01 par value; issued and outstanding, 0 shares
at December 31, 1997 and 1996 - -
Common stock authorized 20,000,000 shares at
$.01 par value; issued and outstanding, 5,656,250
shares at December 31, 1997 and 1996 56,563 56,563
Additional paid-in capital 13,719,708 13,721,482
Accumulated deficit (14,633,879) (8,764,013)
---------------- ---------------
Total stockholders' equity (deficit) (857,608) 5,014,032
---------------- ---------------
Total liabilities and stockholders' equity $ 4,999,962 $ 10,858,502
================ ===============
</TABLE>
The accompanying notes are an integral part of these statements.
2
<PAGE>
Ensec International, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF OPERATIONS
Years Ended December 31,
<TABLE>
<CAPTION>
1997 1996
---------------- ---------------
<S> <C> <C>
Sales $ 6,197,891 $ 7,807,915
Cost of goods sold 3,978,053 4,737,674
---------------- ---------------
Gross profit 2,219,838 3,070,241
Selling, general and administrative expenses 4,188,413 5,916,953
Research and development expenses 791,237 1,162,168
Public company expenses 260,226 85,000
Commission income (596,594) -
Write-down of long-lived assets 3,575,789 -
Translation loss (gain) (259,317) (450,000)
---------------- ---------------
(Loss) from operations (5,739,916) (3,643,880)
Other (income) expenses
Interest income (52,927) (125,308)
Interest expense 1,083,769 3,542,107
Tax recovery (726,575) -
Other, net (174,317) 140,161
---------------- ---------------
129,950 3,556,960
---------------- ---------------
Loss from continuing operations
before income taxes (5,869,866) (7,200,840)
Income tax (benefit) - (319,000)
---------------- ---------------
Net loss $ (5,869,866) $ (6,881,840)
================ ===============
Net (loss) per common share $ (1.04) $ (1.63)
================ ===============
</TABLE>
The accompanying notes are an integral part of these statements.
3
<PAGE>
Ensec International, Inc. and Subsidiaries
CONSOLIDATED STATEMENT OF STOCKHOLDERS' DEFICIT
Years Ended December 31, 1997 and 1996
<TABLE>
<CAPTION>
Retained
Additional Earnings
Common Stock Paid-In (Accumulated
Shares Amount Capital Deficit) Total
------ ------ ---------- ------------- -----
<S> <C> <C> <C> <C> <C>
Balance at
January 1, 1996 3,500,000 $ 35,000 $ 3,434,501 $ (1,882,173) $ 1,587,328
Warrants issued in
connection with senior
subordinate notes, net - - 642,704 - 642,704
Net proceeds from
issuance of common
stock and warrants 1,925,000 19,250 9,623,465 - 9,642,715
Exercise of warrants 231,250 2,313 20,812 - 23,125
Net loss - - - (6,881,840) (6,881,840)
----------- ----------- ------------- ---------------- ---------------
Balance at
December 31, 1996 5,656,250 56,563 13,721,482 (8,764,013) 5,014,032
Offering costs - - (1,774) - (1,774)
Net loss - - - (5,869,866) (5,869,866)
----------- ----------- ------------- ---------------- ---------------
Balance at
December 31, 1997 5,656,250 $ 56,563 $ 13,719,708 $ (14,633,879) $ (857,608)
=========== =========== ============= ================ ===============
</TABLE>
The accompanying notes are an integral part of this statement.
4
<PAGE>
Ensec International , Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31,
<TABLE>
<CAPTION>
1997 1996
---------------- -----------------
<S> <C> <C>
Cash flows from operating activities:
Net (loss) $ (5,869,866) $ (6,881,840)
Adjustments to reconcile net loss to net
cash used in operating activities:
Depreciation and amortization expense 535,932 953,234
Provision for deferred taxes - (319,000)
Increase in allowance for doubtful accounts
and write-off of accounts receivable 890,000
Write-down of long-lived assets 3,575,789 -
Amortization of debt discount - 725,000
Changes in assets and liabilities:
(Increase) in short-term investments - 922,775
Decrease (increase) in accounts receivable 340,782 (485,320)
(Increase) in social taxes and other
receivables (399,040) -
Decrease in inventory 238,880 120,457
Decrease (increase) in prepaid and other
current assets 197,605 (27,384)
Decrease in net assets of discontinued
operations - 230,000
(Increase) in other assets and
refundable income taxes (395,762) (9,311)
Increase (decrease) in accounts payable 87,678 (534,307)
(Decrease) increase in accrued and other
liabilities (56,784) 466,563
---------------- ---------------
Net cash (used in) operating activities (1,744,786) (3,949,133)
Cash flows from investing activities:
Computer software costs - (372,400)
Purchase of fixed assets (280,946) (147,662)
---------------- ---------------
Net cash (used in) investing
activities (280,946) (520,062)
(continued)
</TABLE>
5
<PAGE>
Ensec International , Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS - CONTINUED
Years Ended December 31,
<TABLE>
<CAPTION>
1997 1996
---------------- ----------------
<S> <C> <C>
Cash flows from financing activities:
Net borrowings (repayments) under credit line
agreements $ - $ (268,774)
Dividends paid - (300,647)
Proceeds of issuance of senior subordinated notes - 2,500,000
Principal payments on long-term debt and senior
subordinated notes - (3,077,000)
Net proceeds from issuance of common stock
and warrants - 9,642,715
Exercise of warrants - 23,125
Cost of warrants issued in connection with senior
subordinated notes - (82,296)
Offering costs (1,774) -
Net repayments under loan agreements (17,794) (2,120,000)
---------------- ---------------
Net cash (used in) provided by financing
activities (19,568) 6,317,123
---------------- ---------------
Net (decrease) increase in cash and cash equivalents (2,045,300) 1,847,928
Translation gain on cash and cash equivalents - 170,144
Cash and cash equivalent at beginning of year 2,257,103 239,031
---------------- ---------------
Cash and cash equivalents at end of year $ 211,803 $ 2,257,103
================ ===============
Supplemental disclosure of cash flow information: Cash paid during the period
for:
Interest $ 769,065 $ 3,395,107
================ ===============
Income taxes $ 11,129 $ -
================ ===============
</TABLE>
The accompanying notes are an integral part of these statements.
6
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1997 and 1996
NOTE A - SUMMARY OF ACCOUNTING POLICIES
Ensec International, Inc. and Subsidiaries (the "Company") designs,
assembles, sells and maintains integrated security systems. Ensec
International, Inc. has two wholly-owned subsidiaries, Ensec Engenharia a
Sistemas de Seguranca S.A. ("Ensec S.A."), a Brazilian corporation, and
Ensec Inc., a Florida corporation. All intercompany transactions have been
eliminated in consolidation.
A summary of the significant accounting policies applied in the preparation
of the accompanying financial statements follows.
Cash and Cash Equivalents
-------------------------
The Company considers all highly liquid investments purchased with an
original maturity of three months or less to be cash equivalents.
Inventories
-----------
Inventories are stated at the lower of cost or market based on first-in,
first-out basis. Inventories are comprised of the following:
<TABLE>
<CAPTION>
1997 1996
------------- ----------------
<S> <C> <C>
Parts and supplies $ 497,545 $ 360,012
Inventory applicable to contracts in progress,
net of billings of $0 and $2,592,490
in 1997 and 1996, respectively - 376,413
------------- ----------------
$ 497,545 $ 736,425
============= ================
</TABLE>
Depreciation
------------
Depreciation is provided for in amounts sufficient to relate the cost of
depreciable assets to operations over their estimated service lives. The
straight-line method of depreciation is followed for financial reporting
purposes. The useful lives are as follows:
Equipment 5 to 10 Years
Furniture and fixtures 5 to 10 Years
Building and improvements 40 Years
(continued)
7
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE A - SUMMARY OF ACCOUNTING POLICIES - Continued
Income Taxes
------------
Deferred taxes have been provide on temporary differences in reporting
certain transactions for financial accounting and tax purposes. Under the
liability method, deferred tax assets and liabilities are determined based
on the difference between the financial statement and tax bases of assets
and liabilities as measured by the current enacted tax rates which will be
in effect when these differences reverse.
Use of Estimates
----------------
In preparing the Company's financial statements, management is required 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 financial statements, and the reported amounts of revenues and
expenses during the reported period. Actual results could differ from those
estimates.
The Company's estimates of the percentage of completion on contracts are
based on management's best estimate of total costs to be incurred. However,
the actual results may be different from management's estimates.
Fair Value of Financial Instruments
-----------------------------------
The financial statements include various estimated fair value information
at December 31, 1997 and 1996, as required by Statement of Financial
Accounting Standards 107, "Disclosure about Fair Value of Financial
Instruments." Such information, which pertains to the company's financial
instruments, is based on the requirements set forth in that statement and
does not purport to represent the aggregate net fair value to the Company.
The following methods and assumptions were used to estimate the fair value
of each class of financial instruments for which it is practicable to
estimate that value:
Cash, Cash Equivalents and Short-Term Investments: The carry amount
approximates fair value because of the short-term maturity of those
instruments.
Receivables and Payables: The carry amounts approximate fair value because
of the short-term maturity of those instruments.
(continued)
8
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE A - SUMMARY OF ACCOUNTING POLICIES - Continued
Fair Value of Financial Instruments - Continued
-----------------------------------
Debt, Lines of Credit and Notes Payable: The carry amounts of debt, lines
of credit and notes payable approximate fair value to the length of the
maturities, the interest rates being tied to market indices and/or due to
the interest rates not being significantly different from the current
market rates available to the Company.
All of the Company's financial instruments are held for purposes other than
trading.
Revenue Recognition
-------------------
Revenue is recognized upon delivery and acceptance for normal products
sales, which are those systems which do not require significant software
customization and are completed within relatively short time-frames.
Revenue from those turnkey systems that require significant customization
are recognized as contract revenues under the percentage of completion
method. Earned revenue is based on the percentage that incurred cost to
date bear to total estimated revisions in total cost estimates during the
progress of work is reflected in the year in which these changes became
known. Earned revenue reflects the original contract price adjusted for
agreed upon claim and change order revenue, if any. Progress billings in
amounts receivable under maintenance contracts is recognized over term of
the related agreements.
Research and Development
------------------------
Research and development cost in connection wit the development of the
Company's computerized security systems software are expensed as incurred
until technological feasibility has been established at which time these
costs are capitalized.
Capitalized Software Costs
--------------------------
The Company capitalized costs incurred for intentionally developed software
to be sold, leased, or otherwise marketed where economic and technological
feasibility has been established. Capitalized software costs are amortized
over the estimated economic useful life of the software product (7 Years).
Capitalized software costs amounted to $0 and $4,491,000 at December 31,
1997 and 1996, respectively. accumulated amortization at December 31, 1997
and 1996, amounted to $0 and $946,000, respectively. Costs of product
enhancements are capitalized and amortized over the remaining life of the
product.
(continued)
9
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE A - SUMMARY OF ACCOUNTING POLICIES - Continued
Impairment of Assets
--------------------
The Company closed its Boca Raton office on February 28, 1998. In
connection with this closing the Company disposed of its furniture and
equipment by either transferring it to its New York Office or Brazilian
Subsidiary. (All of the Company's leasehold improvements were abandoned on
February 28, 1998). As a result of closing of this office the Company has
incurred an impairment in the value of its furniture and fixtures,
equipment and leasehold improvements of $266,884. The leasehold
improvements had no value once abandoned. This abandonment was recognized
as of December 31, 1997. The Company continues to occupy its World Trade
Center office in New York. This office is an executive office of less than
1,000 sq. ft. with three offices and reception area.
The Company periodically assesses the reliability of the capitalized
software costs. This assessment includes calculations of the estimated
future gross profits to be realized from product sales as well as
consideration of changes in hardware and software technology. Due to the
uncertainty of the Company continuing as a going concern, the Company
recognized an impairment loss of $3,308,905 on its capitalized software
costs for the year ended December 31, 1997.
Foreign Currency Translation
----------------------------
Ensec S.A. operates in a highly inflationary country (Brazil). As a result,
the U.S. dollar is considered the functional currency and a combination of
current and historical rates is used in translating assets and liabilities.
The related exchange adjustments are included in operations.
The adjustments to reflect the effects of inflation, which are required by
generally accepted accounting principles in Brazil, have been eliminated in
these translated financial statements to conform them with generally
accepted accounting principles in the United States.
Concentration of Credit
-----------------------
The Company's sales are concentrated in the United States and Brazil.
Approximately 68% and 70% of the Company's sales in 1997 and 1996,
respectively, are in Brazil, of which one customer represents 13% and 18%
in 1997 and 1996, respectively.
(continued)
10
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE A - SUMMARY OF ACCOUNTING POLICIES - Continued
Stock Options
-------------
Options granted under the Company's 1996 Stock Option Plan (the "Plan") are
accounted for under APB 25, "Accounting for Stock Issued to Employees," and
related interpretations. In November 1995, the Financial Accounting
Standards Board issued Statement 123, "Accounting for Stock-Based
Compensation, " which requires additional proforma disclosures for
companies that will continue to account for employee stock options under
intrinsic value method specified in APB 25.
The Company has elected to continue to apply APB 25 and has disclosed the
required information of SFAS No. 123 in Note P. Stock options granted to
non-employees are accounted for in accordance with SFAS No. 123.
Earnings Per Share
------------------
The Company adopted Financial Accounting Standards No. 128 (FAS 128),
"Earnings Per Share" in 1997. FAS 128 requires dual presentation of basic
and diluted earnings per share on the face of the income statement as well
as the restatement of prior periods presented.
Basic net earnings per share equals net earnings divided by the weighted
average shares outstanding during the year. Diluted net earnings per share
are not presented because they are anti-dilutive in 1997 and 1996, due to
the losses incurred in those years. The weighted average number of shares
of common stock and common stock equivalent shares used for computing net
loss per share was 5,656,250 and 4,223,408 in 1997 and 1996, respectively.
The computations are as follows:
Basic
Weighted
Average Basic
Net (Loss) Shares EPS
--------- ----------- -----
1997 $ (5,869,866) 5,656,250 $ (1.04)
1996 $ (6,881,840) 4,223,408 $ (1.63)
(continued)
11
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE A - SUMMARY OF ACCOUNTING POLICIES - Continued
Recent Accounting Pronouncements
--------------------------------
In June 1997, the FASB issued Statement of Financial Accounting Standard
No. 130 (SFAS 130). "Reporting Comprehensive Income," and No. 131 (SFAS
131), "Disclosures About Segments of an Enterprise and Related
Information." These statements are effective for fiscal years commencing
after December 15, 1997. The Company will be required to comply with the
provisions of these statements in 1998. The Company has not assessed the
effect that these new standards will have on its consolidated financial
statements and/or disclosures.
Reclassifications
-----------------
Certain reclassifications have been made to conform to the 1997
presentation.
NOTE B - RISKS AND UNCERTAINTIES
The Company will generate an increasing portion of its revenue from the
sale and service of En2000 integrated security system product. These
products are exposed to the risk that new technology could be introduced
resulting in significantly lowered demand for its products.
A significant amount of the Company's operations are based in Brazil. The
Brazilian market in which the Company operates is characterized by volatile
and frequently unfavorable economic, political and social conditions. High
inflation and, with it, high interest rates are common. Inflation has
declined but continues to be high in Brazil. In 1997 and 1996, the per
annum inflation rates were approximately 8% and 10%, respectively, in
Brazil (compared to over 22% and 900% in 1995 and 1994 respectively).
Historically, Brazil has also experienced significant currency
fluctuations. In view of the foregoing, the Company's business, earnings,
asset values and prospects may be materially adversely affected by
developments with respect to inflation, interest rates, currency
fluctuations, government policies, price and wage controls, exchange
control regulations, taxation, expropriation, social instability, and other
political, economic or diplomatic developments in or affecting Brazil.
Although the Company has been able to operate successfully in Brazil for
over 14 years, it has no control over such conditions and developments, and
can provide no assurance that such conditions and developments will not
adversely affect the Company's operations.
12
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE C - ORGANIZATION OF HOLDING COMPANY
On April 2, 1996, Ensec International, Inc. was formed as a holding company
and acquired Ensec S.A. and Ensec Inc. in a stock for stock transaction.
These acquisitions have been accounted for as an exchange between entities
under common control in a manner similar to a pooling of interest.
Accordingly, the consolidated statements include the operations of both
companies for 1996 and 1995.
NOTE D - PREPAID EXPENSES AND OTHER CURRENT ASSETS
Prepaid expenses and other current assets consists of the following:
1997 1996
------------- ---------------
Prepaid insurance $ 8,174 $ 106,194
Advances to suppliers 43,741 68,000
Advances to employees 21,934 -
Taxes on equipment rented 32,384 -
Compulsory deposits - 66,000
Other receivables 422 23,312
Other 13,124 53,878
------------- ---------------
$ 119,779 $ 317,384
============= ===============
NOTE E - PROPERTY AND EQUIPMENT
Property and equipment consists of the following:
1997 1996
------------- ------------
Land $ 279,000 $ 279,000
Building 1,337,000 1,337,000
Leasehold improvements - 16,875
Machinery and equipment 2,276,732 2,454,705
Furniture and fixtures 141,431 265,670
------------- ------------
4,034,163 4,353,250
Less accumulated depreciation (1,986,196) (2,019,508)
------------- ------------
$ 2,047,967 $ 2,333,742
============= ============
13
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE F - ACCRUED EXPENSES
Accrued expenses consists of the following:
1997 1996
------------ ---------------
Salaries and related taxes $ 349,740 $ 524,292
Taxes other than income taxes 350,051 160,000
Advances from customers 138,877 280,000
Accrued interest - 64,000
Other Accruals 506,111 373,058
------------ ---------------
$ 1,344,779 $ 1,401,563
============ ===============
NOTE G - NOTES PAYABLE
In July and August 1996, the Company borrowed $100,000 on an unsecured
basis from its Chief Executive Officer and borrowed $400,000 from a
financial institution collaterized by $400,000 pledged by the Chief
Executive Officer. These loans bore interest at 7% per annum and
approximately 5% per month respectively. In August 1996, the Company
borrowed an additional $500,000 from a Brazilian individual, which bore
interest at a rate of approximately 5% per month. These loans were repaid
from the proceeds of the Offering discussed in Note K.
NOTE H - LONG-TERM DEBT
Long-term debt at December 31, 1997 and 1996, consisted of the following:
<TABLE>
<CAPTION>
1997 1996
---------- ---------
<S> <C> <C> <C>
Note payable to bank; principal and interest
payable monthly; guaranteed by the Chief Executive
Officer of the Company; maturing on February 15,
1999 $ 1,015,871 $ 1,057,000
Note payable; interest is payable monthly; bank principle is payable to
as described below; collaterized by a mortgage on certain real and
personal property; maturing on April 15, 2002 2,772,917 2,766,000
Other 16,418 -
--------------- ---------------
3,805,206 3,823,000
(continued)
</TABLE>
14
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE H - LONG-TERM DEBT - Continued
1997 1996
-------- --------
Less current portion of long-term debt $ (1,393,714) $ (861,000)
--------------- ------------
$ 2,411,492 $ 2,962,000
=============== ============
The notes bear interest at 12% plus an inflation adjustment (approximately
8% and 10% in 1997 and 1996, respectively).
During January 1997, the Company completed the restructuring of the
mortgage loan. The revised terms of the loan extend the commencement of the
principal amortization to March 15, 1998 and the amortization period from
35 to 50 months. The interest rate charged on the outstanding loan balance
remains unchanged.
Subsequent to December 31, 1997, the Company completed a second
restructuring of the mortgage loan. The revised terms of the loan extend
the commencement of the principal amortization to December 15, 1998 and the
amortization period from 50 to 41 months. The interest rate charged on the
outstanding loan balance remains unchanged.
NOTE I - COMMITMENTS AND CONTINGENCIES
Leases
The Company leases certain offices and equipment pursuant to non-cancelable
operating leases which expire in various years through 2001. The following
is a schedule of future minimum lease payments as of December 31, 1997.
1998 $ 319,392
1999 307,044
2000 270,000
2001 270,000
2002 157,500
---------------
$ 1,323,936
===============
Rent expense was approximately $118,280 and $79,460 in 1997 and 1996,
respectively.
(continued)
15
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE I - COMMITMENTS AND CONTINGENCIES - Continued
Litigation
----------
In April 1997, the Company was notified of its infringement of U.S. Patent
No. RE 35,336. The Company has reviewed the claim, and has proposed a
settlement. On September 18, 1997 the Claimant rejected the Company's
offer, reaffirmed its infringement claim, asserted a new claim of
infringement of U.S. Patent No. 4,126,375 and reaffirmed the proposal set
forth below. The Claimant's latest proposal, which expired on November 17,
1997, provided the Company with a nonexclusive, worldwide license, with the
maximum cost of the license being a $75,000 initial payment with a royalty
payment equal to 5% on all future qualifying sales through February 1998.
The Company had requested and was granted an extension until December 31,
1997 to respond. As of the date hereof, no further discussions have taken
place between the Claimant and the Company. However, if the Company is
unable to settle these claims or if the Company is found to infringe on the
Claimant's patents, the Company's financial condition would be materially
adversely affected and the value of the Collateral could be significantly
impaired. While these are the only infringement claims known to the
Company, future claims may be brought against the Company and the value of
the collateral could be significantly impaired. In addition, the cost of
defending or settling them could be significant and have a material adverse
affect on the Company.
The Company is also engaged in various other lawsuits, as defendant,
involving alleged employment law claims. The Company has established
reserves, which in its opinion, will be sufficient to satisfy its
obligations with respect to such lawsuits.
Employment Agreements
---------------------
The Company has entered into employment agreements with certain of its
officers for a period of three years commencing May or June 1996. The
agreements provide the employees with severance benefits from 1 or 11/2
times total cash compensation earned in the 12 months preceding the date of
termination in the event the agreements are terminated under certain
conditions except for the agreement with the Company's President and Chief
Executive Officer, which provides for a severance payment 2.99 times the
average annual compensation paid by the Company or its subsidiaries and
included in such executive's gross income for federal tax purposes for the
five years prior to the year termination. The agreements also provide for
each officer a grant of options under the Company's 1996 Stock Option Plan
(the "Plan") which will vest in one-third equal installments over a two
year period. The first third vested upon consummation of the initial public
offering described in Note K.
16
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE J - INCOME TAXES
Income tax expense (benefit) consists of the following:
1997 1996
-------------- --------------
Current
Federal $ - $ -
Foreign - -
-------------- --------------
- -
Deferred
Federal - -
Foreign - (319,000)
-------------- ---------------
$ - $ (319,000)
============== ===============
Deferred income taxes and benefits are provided for significant income and
expense items recognized in different years for tax and financial reporting
purposes. Temporary differences which gives rise to significant deferred
tax assets or liabilities follow:
<TABLE>
<CAPTION>
1997 1996
------------ -------------
<S> <C> <C>
Contributions $ 1,204 $ 1,088
Bad debts 3,339 -
Amortization of organization cost 29 -
Net operating loss - Federal 2,834,084 1,884,664
Net operating loss - Foreign 2,673,000 2,580,000
Depreciation 92,310 -
------------ ------------
5,603,966 4,465,752
Less valuation allowance
Federal 2,930,966 724,725
Foreign 2,673,000 2,580,000
------------ -------------
Computerized software costs - (1,148,000)
Amortization of organization costs - (2,312)
Depreciation - (10,715)
------------ -------------
Net deferred tax liability $ - $ -
============ =============
(continued)
</TABLE>
17
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE J - INCOME TAXES
The change in the valuation allowance amounted to $2,299,241 and $2,074,904
in 1997 and 1996, respectively. The tax benefits are less than the
Company's statutory tax rate due to net operating losses incurred without
any corresponding tax benefits.
At December 31, 1997, the Company has net operating loss ("NOL") carry
forwards for income tax purposes as follow:
<TABLE>
<CAPTION>
1997 1996
---------------- ----------
<S> <C> <C>
Federal $ 7,531,447 $ 5,543,128
Foreign corporate taxes $ 8,312,000 $ 8,022,000
Foreign social contribution taxes $ 8,045,000 $ 7,755,000
</TABLE>
The federal tax NOL begins to expire in 2006. The foreign NOL's have no
expiration date and therefore can be carried forward indefinitely. Due to
historical losses, valuation allowances have been established for the tax
benefits attributed to the Federal and Foreign tax NOL's which cannot be
offset against the deferred tax liabilities.
NOTE K - PUBLIC OFFERING OF COMMON STOCK
Pursuant to its initial public offering the Company completed the sale of
1,900,000 shares of Common Stock and redeemable warrants to purchase
2,185,000 shares of Common Stock on September 30, 1996. On November 19,
1996, the Company sold an additional 25,000 shares of Common stock pursuant
to the exercise of an over allotment option by the underwriter. The Common
stock was sold at $6.00 per share and the redeemable warrants at $.10 per
warrant. Each redeemable warrant entitles the holder thereof to purchase
one share of Common stock at an exercise price of $7.00 per share, subject
to adjustment in certain events, at any time on or after September 25, 1997
and expiring four year from that date. The redeemable warrants may be
redeemed by the Company commencing on September 25, 1997 at a price $.10
per warrant subject to certain prior notification requirements and provided
that the closing bid price of the Common stock has been at least 150% of
the then current exercise price of the warrants for a period of 20
consecutive trading days ending on the third day prior to the date on which
the Company gives notice of the redemption.
(continued)
18
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE K - PUBLIC OFFERING OF COMMON STOCK - Continued
The net proceeds received by the Company from the initial public offering
were $9,642,715, inclusive of $2,125,795 of offering costs (including
commissions and discounts).
In conjunction with the initial public offering, $231,250 warrants issued
in connection with the senior subordinate notes (the "Bridge Warrants")
were automatically exercised at a price of $.10 per Bridge Warrant.
NOTE L - SENIOR SUBORDINATED NOTES
In May 1996, the Company completed a $2,500,000 bridge financing whereby it
issued 100 units at $25,000 each. Each unit consisted of :(i) a senior
subordinate promissory note in the principal amount of $25,000 bearing
interest, payable semi-annually, at the rate of 10% per annum, which were
due and payable on the earliest of (a) the closing of an initial public
offering of the Company's Common stock, or (b) 12 months from the date of
the initial sale of the unit; and (ii) of $ .10 per share. In September
1996, warrants to purchase 18,750 shares of Common Stock which were issued
at the bridge financing were relinquished by the holders thereof.
The bridge warrants were detachable warrants and were accounted for
separately from the senior subordinate notes as an addition to paid-in
capital. The value assigned to the Bridge Warrants was based on their fair
value at the time of issuance and amounted to $725,000. Costs associated
with the issuance of the bridge financing allocated to the Bridge Warrants
amounted to $82,296 and has been charged against paid-in capital.
The value assigned to the senior subordinate notes of $1,775,000 created a
discount of $725,000 since the amount owed was $2,500,000. This discount
was being amortized on the interest method over a 12 month period. The
Company incurred $201,482 of costs associated with the issuance of the
bridge financing allocated to the senior subordinated notes which were
capitalized and were amortized as interest expense over the life of such
notes.
The senior subordinated notes were repaid, together with the accrued
interest thereon, on September 30, 1996 with a portion of the proceeds from
the initial public offering. The unamortized discount on the notes and the
capitalized issuance in connection therewith fully amortize upon repayment
thereof.
19
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE M - STOCK OPTION PLAN
In June 1996, the Company adopted the Plan, pursuant to which stock option
(both Nonqualified Stock Options and Incentive Stock Options, as defined in
the Plan), stock appreciation rights and restricted stock may be granted to
directors, key employees and consultants (the "Participants"). The Plan
provides for the automatic grant to directors ("Directors Awards") who are
not employees of the Company or its subsidiaries, at such time as an
individual becomes a director of the Company, of Nonqualified Stock Options
to purchase 15,000 shares of Common stock at an exercise per share equal to
the greater of $3.00 or the fair market value of the shares on the date of
the grant.
The options of a Director Award vest in increments of 5,000 shares per
year, commencing on the date of the Company's annual meeting of the
shareholders for election of directors next following the date such
individual became a director and continuing wit each such successive annual
meeting provided such person remains a director of the Company as of such
date. The Plan also provides for the acceleration of the vesting schedule
in certain circumstances.
Stock appreciation rights may be granted in conjunction with the grant of
an Incentive or Nonqualified Stock Option under the Plan or independently
of any such stock option. A stock appreciation right granted in conjunction
with a stock option may be an alternative right. In which event, the
exercise of stock option terminates the stock appreciation right to the
extent of the stock appreciation right terminates the stock option to the
extent of the shares re to which such right is exercised. A stock
appreciation right may not, however, be granted in conjunction with an
Incentive stock Option under certain circumstances in which the exercise of
the stock appreciation right affects the right to exercise the Incentive
Stock Option or vice versa, unless certain terms and conditions are met.
Subject to the terms of the Plan, the Company may award shares of
restricted stock to the participants. Generally, a restricted stock award
will not require payment of any option price by the Participant but will
call for the transfer of share to the Participant subject to forfeiture,
without payment of any consideration by the Company, if the Participant's
employment terminates during a "restricted" period (which must be at least
six months) specified in the award of the restricted stock.
There are 450,000 shares authorized for possible issuance under he Plan, of
which Incentive Stock Options to purchase 355,000 shares were granted in
May and June 1996 with an exercise price of $3.00 per share. In 1997, the
Board of Directors approved the reduction of the exercise price of these
options from $3.00 to $2.00.
During October 1996, Nonqualified Stock Options to purchase 15,000 shares
of Common Stock at $6.34 per share were issued to two directors. Options to
purchase 15,000 share not associated with the Plan were also granted in
October 1996 to a consultant. The consultant's options vest and have the
same exercise price as the options granted to the two directors.
20
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE N - SEGMENT INFORMATION
The Company's operations include the design, development, assembly, sales
and maintenance of integrated security systems. Based on geographic
location, the predominant business segments are in Brazil and the United
States. Net sales, operating loss (before interest and income taxes) and
identifiable assets by geographic area were as follows:
<TABLE>
<CAPTION>
1997 United States Brazil Consolidated
---- ----------------- ----------------- ------------------
<S> <C> <C> <C>
Net sales $ 1,950,186 $ 4,247,705 $ 6,197,891
================= ================= ==================
Operating loss $ (5,545,633) $ (194,283) $ (5,739,916)
================= ================= ==================
Identifiable assets $ 516,237 $ 4,483,725 $ 4,999,962
================= ================= ==================
1996 United States Brazil Consolidated
---- ----------------- ------------------ -----------------
Net sales $ 2,362,915 $ 5,445,000 $ 7,807,915
================= ================= ==================
Operating loss $ (1,028,880) $ (2,615,000) $ (3,643,880)
================= ================= ==================
Identifiable assets $ 3,914,502 $ 6,944,000 $ 10,858,502
================= ================= ==================
</TABLE>
NOTE O - ACCOUNTING FOR STOCK-BASED COMPENSATION
As discussed in Notes A and M, the Company's Plan is accounted for under
APB Opinion 25 and related Interpretations. Since all options are granted
under the Plan were at fair market value, no compensation cost has been
recognized for the Plan.. Had compensation cost for the Plan been
determined based on the fair value of the options at the grant dates
consistent with the method of SFAS No. 123, "Accounting for Stock-Based
Compensation," the Company's net loss and loss per share would have been
increased to the proforma amounts indicated below.
(continued)
21
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE O - ACCOUNTING FOR STOCK-BASED COMPENSATION - Continued
<TABLE>
<CAPTION>
1997 1996
---------------- ------------
<S> <C> <C>
Net loss As reported $ (3,560,961) $ (6,881,840)
Proforma $ (3,616,885) $ (7,068,109)
Loss per share As reported $ (.63) $ (1.63)
Profroma $ (.64) $ (1.67)
</TABLE>
The fair value of each option granted is estimated on the date of grant
using the Black-Scholes options-pricing model with the following
weighted-average assumptions used for grants in 1997 and 1996,
respectively: expected volatility of 150.79 and 40 percent, risk-free
interest rate of 6.37 and 6.36 percent and expected life of 5 years.
A summary of the status of the Plan as of December 31, 1997 and 1996 and
changes during the year ending on that date is presented below:
<TABLE>
<CAPTION>
1997 1996
------------------------------- -------------------------------
Weighted Weighted
Average Average
Exercise Exercise
Shares Price Shares Price
-------------- -------------- ------------ ---------------
<S> <C> <C> <C> <C> <C>
Outstanding at beginning
of year 385,000 $ 3.26 - -
Granted 125,000 $ 1.56 385,000 $ 3.26
Exercised - - - -
Forfeited 356,667 $ 3.00 - -
Outstanding at end of year 153,333 $ 2.50 385,000 $ 3.26
Options exercisable at year end 51,111 118,333 $ 3.26
Weighted-average fair value of
options granted during the year $ 1.44 $ 1.47
</TABLE>
The following information applies to options outstanding at December 31,
1997:
<TABLE>
<CAPTION>
<S> <C> <C>
Number outstanding 123,333 30,000
Range of exercise prices $0 to 3.00 $3.01 to 6.34
Weighted-average exercise price 3.00 6.34
Weighted-average remaining
contractual life 9.56 9.00
</TABLE>
22
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE P - EMPLOYEE BENEFIT PLAN
On January 1, 1997, Ensec Inc. adopted a 401(K) profit sharing plan (the
"401(K) Plan"). The 401(K) Plan is a defined contribution plan covering all
eligible employees of Ensec Inc. To become a participant, an employee must
be at least 21 years of age and must complete one year of service without
intervening break in service. An employee may become a participant in the
401(K) Plan on the first day of the month following the completion of
his/her age and service requirements. Ensec Inc. at its discretion, has
elected to make a contribution to the 401(K) Plan equal to 25% of the
participants elected deferral and has the option to make additional
contributions to be allocated based on the ratio of the participant's
salary to the total salary of all the participant's in the 401(K) Plan. The
participant's will vest in their allocation of Ensec Inc.'s contribution on
a pro rata basis over the first four years of service (as defined) with
Ensec Inc. after which they will be fully vested in all of Ensec Inc.'s
contributions.
NOTE Q - GOING-CONCERN
The accompanying consolidated financial statements have been prepared in
conformity with generally accepted accounting principles, which contemplate
continuation of the Company as a going concern. However, the Company has
sustained substantial losses from operations since the date of inception,
and such losses have continued through the year ended December 31, 1997. In
addition, the Company has used more cash than capital raised and provided
through its operations which resulted in the working capital deficit
$1,163,556 as of December 31, 1997.
In view of the matters described in the preceding paragraph, recoverability
of a major portion of the recorded asset amounts shown in the accompanying
balance sheet is dependent upon continued operations of the Company, which
in turn is dependent upon the Company's ability to raise funds to continue
to fund its operations. The Company plans to re-focus its efforts as
described in the following paragraphs:
Ensec Inc., the U.S. subsidiary of Ensec International, Inc. will focus on
the selling of En 2000 software and hardware to independent value added
resellers ("VAR"). The Company expects to execute two VAR contracts
shortly.
The Company is negotiating with several other VARs and negotiating with
another Company for software license fees and a royalty program as well.
The Company will make all the necessary efforts to attract other VARs.
(continued)
23
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE Q - GOING-CONCERN - Continued
Ensec Inc. will also be dedicated to a procurement activity looking for
technologies products and services to be sold by Ensec S.A., the Brazilian
subsidiary. The sales commissions will be negotiated to be paid in the U.S.
and the service and maintenance of such products will be done in Brazil by
Ensec S.A. The Company will also look for the same procurement strategy for
other South American Countries.
Ensec S.A. will continue to be a major system integrator in Brazil with a
specialized niche market on the security industry looking to be a supplier
of our integration security system platform En 2000 as well as other line
of products from other manufacturers. The Company today is selling data
security systems from the following suppliers: PC Security, Platinum
Technology and Cyberguard. Ensec S.A. is also selling toll collection
systems from GEA; machine readable passport systems from AIT Corporation
from Canada; Time and Attendance Systems from Kronos a Massachusetts
Corporation; and as CCTV and Video Surveillance from major international
suppliers.
The Company is looking for a strategic partner that would have interest to
be in the Brazilian and South America security systems integration market
and which could infuse additional capital into Ensec International, Inc.
The financial statements do not include any adjustments relating to the
recoverability and classification of recorded asset amounts or amounts and
classification of liabilities that might be necessary should the Company be
unable to continue in existence.
NOTE R - RECOVERY OF SOCIAL TAXES
In 1992 certain social taxes were judged unconstitutional in Brazil. As a
result of such ruling the Company's Brazilian subsidiary sought and was
awarded in September 1997 after exhausting the full appeal process a refund
of such social taxes. The ultimate amount of the refund will be increased
for monetary correction as defined under Brazilian law. With respect to
such award the Company has recognized $726,575 as other income in the
Statement of Operations and a receivable as of December 31, 1997. The
Company expects to receive approximately $88,000 of this receivable by
September 1998 and the balance by November 1998.
24
<PAGE>
Ensec International, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
December 31, 1997 and 1996
NOTE S - LEASE OF THE BRAZILIAN FACILITY
On August 1, 1997 the Company's Brazilian subsidiary leased 50% of the
Brazilian facility. The initial lease term is for ten years with a
noncancellable term for the first five years. The monthly rental charge for
the first year is approximately $26,000. Subsequent annual rental charges
will be adjusted for changes in purchasing power of the reals and at the
request of either the lessor or lessee for changes in the rental market
values of the property. In addition to the monthly rental charge the lease
also provides that the lessee pay for its share of maintenance, taxes, and
other operating expenses and requires the last six months of rent to be
paid in advance.
NOTE T - SUBSEQUENT EVENTS
On February 9, 1998, the Directors of the Company consented to issue common
stock shares in connection with certain consulting agreements. The
agreements were entered into with two separate consultants to provide
financial consulting services for compensation of 165,000 shares of common
stock and 165,000 three-year common stock purchase warrants to purchase
shares of common stock at $1.20 per share. The warrants are not exercisable
until April 1, 1998 and have piggyback registration rights.
On February 9, 1998, the Directors of the Company also consented to issue
30,000 shares of common stock as payment in connection with legal services
rendered during the year ended December 31, 1997.
25
SOFTWARE LICENSE AGREEMENT
This Agreement is effective this 16th day of March, 1998, by and
between ENSEC, INC. (hereinafter "ENSEC"), with a place of business located at
One World Trade Center, New York and Lockheed Martin IMS Corporation
(hereinafter "LMIMS"), with a place of business located at 12506 Lake Underhill
Road, Orlando, Florida 32825.
WHEREAS, LMIMS desires to license certain application software owned by
ENSEC, and to purchase certain hardware designed by ENSEC and manufactured by
Comtec Systems, Inc. ("Comtec"), directly from Comtec; and
WHEREAS, ENSEC desires to license certain application software to
LMIMS, and to permit LMIMS to purchase certain hardware designed by ENSEC and
manufactured by Comtec, directly from Comtec;
NOW THEREFORE, in consideration of the mutual promises contained
herein, the parties agree as follows:
1. The System. ENSEC agrees to license to LMIMS an integrated security
and facilities management system ("ENWORKS(TM) System") as outlined and
described in the ENWORKS(TM) System product literature annexed hereto as Exhibit
#1, its contents expressly incorporated herein.
2. Grant. ENSEC hereby grants to LMIMS and LMIMS hereby accepts from
ENSEC a nonexclusive, irrevocable, paid-up license to use the ENWORKS(TM) System
("Software").
ENSEC shall provide to LMIMS all source code for the entire ENWORKSTM
System provided hereunder.
ENSEC grants LMIMS a nonexclusive, irrevocable, paid-up license to use,
reproduce and prepare derivative works of its source code for the Software,
subject to the confidentiality provisions of this Agreement.
ENSEC grants LMIMS a royalty-bearing, nonexclusive, irrevocable and
perpetual license to make, use, sell, offer for sale, reproduce, distribute,
prepare derivative works, disclose and import object code for the Software.
ENSEC grants to LMIMS a royalty-free, nonexclusive, irrevocable license
to make, use, sell, offer for sale, reproduce, distribute, prepare derivative
works, disclose and import documentation for the Software.
1
<PAGE>
2.1 LMIMS may use the Software and documentation only for the
following purposes:
(1) to develop modifications or enhancements to
the Software application;
(2) to demonstrate the Software application to
potential Sublicensees; and
(3) to provide training to employees and
Sublicensees solely in conjunction with the
Software application.
2.2 LMIMS may make up to five (5) copies of the Software for
demonstration and training purposes, and an additional copy of the Software for
archival or backup purposes. No other copies shall be made without ENSEC's prior
written consent. All titles, trademarks, and copyright and restricted rights
notices shall be reproduced in such copies. Title to the Software shall at all
times remain with ENSEC.
3. Sublicensing. ENSEC hereby grants to LMIMS a nonexclusive and
irrevocable license to market and Sublicense the Software to Sublicensees
worldwide, excluding Brazil solely through a written Sublicense agreement.
3.1 In consideration for the rights granted hereunder and
delivery of the Software and supporting documentation from ENSEC to LMIMS:
(1) LMIMS agrees to pay ENSEC 15% of the Current
Retail Value Price of ENSEC Software version
3.2;
(2) LMIMS agrees to pay ENSEC a 15% fee on the
manufacturing cost of the hardware; and
(3) LMIMS agrees to provide copies of the
hardware Purchase Orders to ENSEC for fee
verification.
(4) LMIMS will provide ENSEC with monthly
reports of ENSEC related proposals and
licenses.
3.2 ENSEC shall be provided with a copy of any modifications
or enhancements to the Software application. ENSEC shall pay LMIMS a fee of 15%
of the current selling price of said modifications or enhancements licensed to
any of ENSEC's distributors, clients or other licensees.
2
<PAGE>
4. Reporting Requirements. LMIMS shall provide ENSEC with a sales
projection and sales report of the commercial activities of the licensed
Software and hardware. This information will be provided to ENSEC every month.
5. Term. This Agreement shall remain in full force and effect for a
term of five (5) years, with one (1) five (5) year renewal.
6. Termination. LMIMS may terminate this Agreement upon thirty (30)
days written notice to ENSEC.
7. Maintenance Support. LMIMS, at its option, may elect to have ENSEC
provide maintenance support for the Software.
8. Warranty. ENSEC warrants, for the term of this Agreement, that the
Software supplied hereunder will meet its published functional specifications.
Should Software fail to meet specifications, or be otherwise defective, ENSEC
shall promptly correct errors or nonconformities.
9. Rights and Indemnification. ENSEC warrants that it possesses all
rights and interests necessary to enter into this Agreement, and shall indemnify
and hold harmless LMIMS, its agents and employees, from any loss, damage or
liability for infringement of any patent right, trademark, copyright or other
intellectual property right wit respect to the use of the Software delivered
hereunder; provided that LMIMS permits ENSEC to defend, compromise or otherwise
settle said claim or infringement and gives ENSEC all available information,
assistance, and authority to enable ENSEC to do so.
ENSEC shall indemnify, defend and hold LMIMS harmless from and against
all claims losses damages, and costs arising from ENSEC's breach of the
warranties contained in this Agreement. This indemnification shall survive
termination of this or any other agreement between the Parties hereto, unless
otherwise amended by both Parties. LMIMS shall indemnify, defend and hold ENSEC
harmless from and against all claims, losses, damages and costs arising from
LMIMS breach of its promises and covenants in this Agreement. This
indemnification shall survive termination of this or any other agreement between
the Parties hereto, unless otherwise amended by both Parties.
10. Third-Party Software. ENSEC does not claim an ownership right or
interest in any Third-Party Software incorporated into the Software. ENSEC
warrants that, to the best of its knowledge, any such Third-Party Software that
may have been incorporated into the Software is fully enumerated and described
in Exhibit #2 of this Agreement, and that if to the best of ENSEC's knowledge,
no such Third-Party Software is included in the Software, ENSEC shall so certify
in Exhibit #2.
11. Warranty of 21st Century Compliant Software. ENSEC warrants that it
will deliver, in conjunction with its regular Software maintenance, as an Update
at no
3
<PAGE>
extra cost to LMIMS, 21st century compliant software. "21st Century Compliant
Software" shall be defined as software that (i) correctly processes date fields
and internal date field dependent logic to accurately process and utilize dates
beyond December 31, 1999; and (ii) stores and represents dates in a manner which
enables LMIMS to easily identify or use the century portion of any date herds
without any special processing. ENSEC hereby indemnifies LMIMS for any loss,
cost, or liability incurred by LMIMS arising from a failure to provide such
Update as required in this Agreement.
12. Bankruptcy. Should ENSEC commence proceedings for bankruptcy under
Chapter 11 of the U.S. Code, 11 U.S.C., and should ENSEC's bankruptcy trustee
reject the license Agreement pertaining to the ENWORKS(TM) System (pursuant to
11 U.S.C. ss. 365(n)(1)), then LMIMS as licensee of the ENWORKS(TM) System, may
elect to retain its rights to use the Software under this Agreement as they
existed before the bankruptcy case commenced, pursuant to 11 U.S.C. ss.
365(n)(1)(B), for the duration of this license Agreement.
13. Modifications. LMIMS shall be free to modify Software. If LMIMS
chooses to modify Software, ENSEC's warranty obligation shall not apply to the
portion of the Software that is modified.
14. Documentation. ENSEC shall supply documentation necessary for LMIMS
to use the Software effectively. Documentation may include, but shall not be
limited to, functions specifications, user manuals, flow diagrams and file
descriptions.
15. Equipment. ENSEC shall permit LMIMS to purchase the hardware listed
in Exhibit #3 attached hereto (the Equipment") directly from Comtec. LMIMS shall
be invoiced for said Equipment by Comtec and payment shall be made directly to
Comtec, pursuant to terms and conditions established between LMIMS and Comtec.
In the event that Comtec is no longer able or willing to manufacture
the equipment pursuant to the designs provided by ENSEC, LMIMS shall have the
option to purchase the equipment from an alternate manufacturer.
16. Patent Indemnity. ENSEC shall defend or settle any suit or
proceeding brought against LMIMS based on a claim that any unit of Equipment, or
part thereof, constitutes an infringement of any existing U.S. patent right,
copyright, trade secret or other proprietary right provided ENSEC is notified
promptly in writing and is given complete authority and information required for
the defense, and ENSEC shall pay all damages and costs awarded therein against
LMIMS, but shall not be responsible for any cost, expense or compromise incurred
or made by LMIMS without ENSEC's prior written consent.
4
<PAGE>
17. Release For Past Infringement. ENSEC releases LMIMS and its
customers, direct and indirect, from all liability for past infringement of
ENSEC's Software or hardware/equipment designs.
18. Confidential Information. By virtue of this Agreement, the parties
may have access to information that is confidential to one another
("Confidential Information"). Confidential Information shall be limited to the
computer software and information related thereto all other information clearly
marked as confidential, and other items as agreed by the parties in writing.
19. Nondisclosure. During the term of this Agreement, and for a period
of three years from the expiration or termination of this Agreement, LMIMS and
ENSEC each agree to hold in strictest confidence any information and material
that is related to either Party's business or is designated as proprietary and
confidential, herein or otherwise, by either Party in connection with the
transaction contemplated by this Agreement. Each Party agrees not to make use of
such designated information and material other than for the performance of the
Agreement. Proprietary and Confidential Information includes information related
to research, development, system design or operation, pricing, trade secrets,
customer lists, salaries or business affairs of the Parties to this Agreement.
20. Enforceability. If any provision of this Agreement shall be held to
be invalid, illegal or unenforceable, the validity, legality and enforceability
of the remaining provisions shall in no way be affected or impaired thereby.
21. Force Majeure. The Parties hereto shall not be responsible for any
failures or delay in the performance of any obligations hereunder caused by Acts
of God, flood, fire, strike, war or public enemy or other similar causes
reasonably beyond a Party's control.
22. Notices and Requests. All notices and requests in connection with
this Agreement shall be given or made upon the respective Parties in writing and
by depositing in the U.S. mails, postage prepaid, certified, certified or
registered, return receipt requested, addressed, to the Parties as follows:
(a) If to LMIMS:
Mr. Chuck Thomas
Director, Electronic Security Systems
Lockheed Martin IMS Corp.
12506 Lake Underhill Road
Mailpoint 817
Orlando, FL 32825
5
<PAGE>
With a copy to:
General Counsel
Lockheed Martin IMS Corp.
Glenpointe Centre East
300 Frank W. Burr. Blvd.
Teaneck, NJ 07666
Phone: (201)996-7000
Fax: (201) 836-4466
(b) If to ENSEC:
Mr. Charles Finkel
President
ENSEC, Inc.
One World Trade Center
33rd Floor
New York, NY 10048
or to such other address as a Party so designates to receive the notice or
request by written notice. All notices and requests shall be deemed as given as
of the day of receipt by the respective Party.
23. Governing Law. This Agreement and performance hereunder shall be
governed by and construed in accordance with the laws of the State of New
Jersey.
24. Waiver. The failure of either Party to exercise in any respect any
right provided for herein shall not be deemed a waiver of any right hereunder.
25. Assignment. This Agreement and the rights and duties hereunder
shall not be assigned by the Parties hereto except upon written consent of the
other.
26. Entire Agreement. The terms and conditions of this Agreement shall
constitute the complete and exclusive statement of understanding between the
Parties which supersedes all previous agreements, written or oral, and all
communications between the Parties relating to the subject matter of this
Agreement. This Agreement may not be modified or altered except by a written
instrument duly executed by both Parties.
Both Parties have caused this Agreement to be signed by their duly
authorized officers on the date(s) set forth below with an Effective Date of
March 16th, 1998.
6
<PAGE>
FOR ENSEC, INC.
By: /s/ Charles Finkel
------------------------------------
Charles Finkel, President
Dated: March 16, 1998
FOR LOCKHEED MARTIN IMS CORPORATION:
By: /s/ Chapman Cox
------------------------------------
Chapman Cox, Senior Vice President
and Managing Director
Criminal Justice Services
Dated: March 10, 1998
2
<PAGE>
EXHIBIT #1
ENWORKStm System Product Literature
<PAGE>
Exhibit #2
Third-Party Software Assurance
As provided by paragraph 8 of this agreement, this Exhibit contains a
true and complete listing of all Third-Party Software incorporated in whole or
in part into the software or any portioN of the software provided to LMIMS by
ENSEC under this Agreement. Third-Party Software is any software in which ENSEC
has no title to or ownership of, or software in which ENSEC has no property
rights.
ENSEC provides the following assurances regarding such Third-Party
Software:
ENWORKStm SYSTEM
QNX Software (Company Brochure Is Attached)
CONSENT OF GRANT THORNTON LLP
We have issued our report dated April 8, 1998, accompanying the
consolidated financial statements included in the Annual Report of Ensec
International, Inc. on Form 10-KSB for the year ended December 31, 1997. We
hereby consent to the incorporation by reference of said report in the
Registration Statement of Ensec International, Inc. on Form S-8 (File No.
333-20149, effective January 22, 1997).
/s/ Grant Thornton, LLP
- -----------------------
Grant Thornton, LLP
Fort Lauderdale, Florida
April 21, 1998
