- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K/A
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1998
Commission File Number 1-13427
STRATESEC INCORPORATED
(Formerly Securacom, Incorporated)
(Exact name of registrant as specified in its charter)
Delaware 22-2817302
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
105 Carpenter Drive, Suite C
Sterling, Virginia 20164
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (703) 709-8686
Securities registered pursuant to Section 12(b) of the Act:
Title of Class Name of Exchange
Common Stock, $.01 par value American Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days. YES X . NO .
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [x]
The aggregate market value of the registrant's Common Stock held by
non-affiliates of the registrant as of March 10, 1999 (computed by reference to
the closing price of such stock on the American Stock Exchange) was $5,832,767.
As of March 10, 1999, there were 5,878,522 shares of the registrant's
Common Stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
DOCUMENT WHERE INCORPORATED
Portions of the Registrant's definitive Proxy Statement
regarding the 1999 Annual Meeting of Stockholders Part III
- --------------------------------------------------------------------------------
<PAGE>
Item 8. Financal Statements
The financial statements of the Company, together with the report
thereon of Grant Thornton LLP dated March 3, 1999 are presented in their
entirety so as to include the Statement of Stockholders' Equity (Deficiency) for
the Years Ended December 31, 1996, 1997 and 1998, which was inadvertently not
included in the Company's Form 10-K as originally filed.
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K.
(a) (1) List of Financial Statements. The following is a list of the
financial statements included at the end of this Report on Form 10-K/A beginning
on page F-1:
Report of Independent Certified Public Accountants
Balance Sheets as of December 31, 1997 and 1998
Statements of Operations for the Years Ended December 31, 1996, 1997
and 1998
Statement of Stockholders' Equity (Deficiency)for the Years Ended
December 31, 1996, 1997 and 1998
Statements of Cash Flows for the Years Ended December 31, 1996, 1997
and 1998
Notes to Financial Statements
(2) List of Financial Statement Schedules.
Schedule II - Valuation and Qualifying Accounts
All other schedules have been omitted because they are not
applicable or not required, or the required information is
provided in the financial statements or notes thereto.
(b) Reports on Form 8-K.
None
(c) List of Exhibits. The following is a list of exhibits furnished.
Copies of exhibits will be furnished upon written request of any stockholder at
a charge of $.25 per page plus postage.
Exhibit
Number Exhibit
3.1 Form of Restated Certificate of Incorporation(1)
3.2 Form of Bylaws(1)
4 Form of Rights Agreement(1)
10.1 Stock Option Plan(1)
10.2 Employment Agreement with Ronald C. Thomas(1)
10.4 Consulting Agreement with Wirt D. Walker, III(1)
11 Computation of Net Income (Loss) Per Share(2)
23.1 Consent of Grant Thornton LLP
27 Financial Data Schedule(2)
(1) Filed as an exhibit of the same number to the Company's registration
statement on Form S-1 (File No. 333-26439) and incorporated by reference.
(2) Filed as an exhibit of the same number to the Company's annual report on
Form 10-K
2
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
STRATESEC INCORPORATED
By: /s/BARRY W. MCDANIEL
Barry W. McDaniel
President and Chief Operating Officer
Pursuant to the requirements of the Securities Act of 1933, this
registration statement has been signed by the following persons in the
capacities and on the dates indicated.
<TABLE>
<CAPTION>
Signature Title Date
<S> <C> <C>
/S/ BARRY W. MCDANIEL
- --------------------------------------
Barry W. McDaniel President, Chief Operating April , 1999
Officer
(Principal Executive Officer)
/S/ WIRT D. WALKER, III Chairman and Director April , 1999
- --------------------------------------
Wirt D. Walker, III
/S/ MISHAL YOUSEF SOUD AL SABAH
- ---------------------------------------
Mishal Yousef Soud Al Sabah Director April , 1999
/S/ MARVIN BUSH Director April , 1999
- --------------------------------------
Marvin Bush
/S/ ROBERT B. SMITH, JR. Director April , 1999
- --------------------------------------
Robert B. Smith, Jr.
/s/ JAMES A. ABRAHAMSON Director April , 1999
- --------------------------------------
James A. Abrahamson
/s/ CHARLES W. ARCHER Director April , 1999
- ---------------------------------------
Charles W. Archer
</TABLE>
3
<PAGE>
Stratesec, Incorporated
Contents
- --------------------------------------------------------------------------------
Report of Independent Certified Public Accountants 3
Financial Statements
Balance Sheets 4
Statements of Operations 5
Statements of Shareholders' Equity (Deficit) 6
Statements of Cash Flows 7-8
Notes to Financial Statements 9-20
Supplemental Information
Schedule II--Valuation and Qualifying Accounts 22
<PAGE>
Report of Independent Certified Public Accountants
Board of Directors and Shareholders
Stratesec, Incorporated
We have audited the accompanying balance sheets of Stratesec, Incorporated
(formerly known as Securacom, Incorporated), as of December 31, 1997 and 1998,
and the related statements of operations, shareholders' equity (deficit), and
cash flows for the three years in the period ended December 31, 1998. 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 financial position of Stratesec, Incorporated, as of
December 31, 1997 and 1998, and the results of its operations and its cash flows
for the three years in the period ended December 31, 1998, in conformity with
generally accepted accounting principles.
We have also audited Schedule II of Stratesec, Incorporated, for the years ended
December 31, 1996, 1997 and 1998. In our opinion, this schedule presents fairly,
in all material respects, the information required to be set forth therein.
GRANT THORNTON LLP
Vienna, Virginia
March 3, 1999
<PAGE>
Stratesec, Incorporated
Balance Sheets
<TABLE>
<CAPTION>
December 31, 1997 1998
<S> <C> <C>
Assets
Current Assets
Cash and cash equivalents $ 998,312 $ 442,582
Cash--restricted 2,063,539 1,900,000
Accounts receivable, net of allowance for doubtful
accounts of $49,000 in 1997 and $303,000 in 1998 3,330,542 1,297,176
Costs and estimated earnings in excess of billings on
uncompleted contracts 2,108,134 1,440,485
Inventory, net of allowance in 1998 of $184,000 598,415 57,058
Prepaid expenses 140,870 171,404
----------------- -----------------
Total Current Assets 9,239,812 5,308,705
Property and Equipment, net 740,156 460,932
Other Assets 128,414 58,099
----------------- -----------------
$ 10,108,382 $ 5,827,736
================= =================
Liabilities and Shareholders' Equity
Current Liabilities
Current maturities of capital lease obligations $ 51,100 $ 68,672
Accounts payable 1,997,014 1,455,840
Billings in excess of costs and estimated earnings
on uncompleted contracts 69,734 102,132
Accrued expenses and other 2,938,789 1,008,955
Notes payable - 1,802,404
----------------- -----------------
Total Current Liabilities 5,056,637 4,438,003
Long-Term Liabilities
Capital lease obligations, less current maturities 196,285 167,430
Commitments and Contingencies - -
Shareholders' Equity
Common stock, $.01 par value per share;
authorized 20,000,000 shares; issued
and outstanding, 6,103,522 shares in
1997 and issued 6,103,522 and
5,973,522 outstanding shares in 1998 61,035 61,035
Treasury stock; 130,000 shares - (181,851)
Additional paid-in capital 21,072,430 21,143,824
Accumulated deficit (16,278,005) (19,800,705)
----------------- -----------------
4,855,460 1,222,303
----------------- -----------------
$ 10,108,382 $ 5,827,736
================= =================
</TABLE>
The accompanying notes are an integral part of these statements.
<PAGE>
Stratesec, Incorporated
Statements of Operations
<TABLE>
<CAPTION>
Year ended December 31, 1996 1997 1998
------------------ ----------------- -----------------
<S> <C> <C> <C>
Earned Revenue $ 5,824,448 $ 12,132,924 $ 6,624,523
Cost of Earned Revenue 4,416,386 9,806,681 4,792,838
Provision for Contract Adjustment - - 2,491,156
------------------ ----------------- -----------------
Gross Profit (Loss) 1,408,062 2,326,243 (659,471)
Selling, General and Administrative
Expenses 3,700,698 3,755,965 4,426,339
Provision (Recovery) for Legal Judgment - 2,200,000 (1,655,000)
------------------ ----------------- -----------------
Operating Loss (2,292,636) (3,629,722) (3,430,810)
Loss on Sale of Equipment - - (45,000)
Interest and Financing Fees (241,716) (514,891) (180,184)
Interest and Other Income 21,519 88,873 133,294
------------------ ----------------- -----------------
Net Loss $ (2,512,833) $ (4,055,740) $ (3,522,700)
================== ================= =================
Basic and Diluted Net Loss Per Share $ (.58) $ (.85) (.58)
================== ================= =================
Weighted-Average Shares Outstanding 4,306,000 4,792,000 6,068,000
================== ================= =================
</TABLE>
The accompanying notes are an integral part of these statements.
<PAGE>
Stratesec, Incorporated
Statement of Shareholders' Equity (Deficit)
Years ended December 31, 1996, 1997 and 1998
<TABLE>
<CAPTION>
Total
Additional Shareholders'
Common Stock Treasury Stock Paid-in Accumulated Equity
Shares Amount Shares Amount Capital Deficit (Deficit)
--------- --------- --------- --------- ------------- ------------- ------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at January 1, 1996 3,953,683 $ 39,536 - $ - $ 10,224,002 $ (9,709,432) $ 554,106
Net Loss - - - - - (2,512,833) (2,512,833)
Exercise of Warrants 480,457 4,805 - - 247,195 - 252,000
Issuance of Warrants - - - - 111,000 - 111,000
--------- --------- --------- --------- ------------- ------------- ------------
Balance at December 31, 1996 4,434,140 44,341 - - 10,582,197 (12,222,265) (1,595,727)
Net Loss - - - - - (4,055,740) (4,055,740)
Proceeds from Issuance of Common Stock 1,400,000 14,000 - - 10,533,455 - 10,547,455
Common Stock Issuance Costs - - - - (811,910) - (811,910)
Exercise of Warrants 269,382 2,694 - - 706,688 - 709,382
Issuance of Warrants - - - - 62,000 - 62,000
--------- --------- --------- --------- ------------- ------------- ------------
Balance at December 31, 1997 6,103,522 61,035 - - 21,072,430 (16,278,005) 4,855,460
Net Loss - - - - - (3,522,700) (3,522,700)
Purchase of Treasury Stock - - (130,000) (181,851) - - (181,851)
Issuance of Warrants - - - - 71,394 - 71,394
--------- --------- --------- --------- ------------- ------------- ------------
Balance at December 31, 1998 6,103,522 $ 61,035 (130,000) $ (181,851) $ 21,143,824 $(19,800,705) $ 1,222,303
========= ========= ========= ========= ============== ============= ============
</TABLE>
<PAGE>
Stratesec, Incorporated
Statements of Cash Flows
<TABLE>
<CAPTION>
Year ended December 31, 1996 1997 1998
<S> <C> <C> <C>
Cash Flows from Operating Activities
Net loss $ (2,512,833) $ (4,055,740) $ (3,522,700)
---------------- ------------------ ------------------
Adjustments to reconcile net loss
to net cash used in operating activities
Provision (recovery) for legal judgment - 2,200,000 (1,655,000)
Provision for bad debts and obsolete
inventory - 6,000 437,038
Depreciation and amortization 91,859 143,298 135,957
Loss on sale of equipment - - 44,746
Noncash compensation 28,000 - -
Amortization of debt discount 5,000 171,000 23,798
Changes in assets and liabilities
(Increase) decrease in restricted cash - (2,063,539) 163,539
(Increase) decrease in accounts receivable (622,283) (1,559,086) 1,779,955
(Increase) decrease in cost and
estimated earnings in excess of
billings on uncompleted contracts (368,169) (959,574) 667,649
(Increase) decrease in inventory - (598,415) 357,728
Increase in prepaid expenses and other (20,931) (19,933) (30,534)
(Increase) decrease in other assets (1,915) 67,389 70,315
Increase (decrease) in accounts payable 1,921,291 (742,257) (541,174)
(Decrease) increase in billings in excess
of costs and estimated earnings on
uncompleted contracts (338,875) (33,450) 32,398
Increase (decrease) in accrued expenses
and other 212,999 97,283 (274,833)
---------------- ------------------ ------------------
Total Adjustments 906,976 (3,291,284) 1,211,582
---------------- ------------------ ------------------
Net Cash Used in Operating Activities (1,605,857) (7,347,024) (2,311,118)
---------------- ------------------ ------------------
Cash Flows from Investing Activities
Sale of equipment - - 240,000
Acquisition of plant and equipment (396,460) (24,787) (92,087)
---------------- ------------------ ------------------
Net Cash (Used in) Provided by
Investing Activities (396,460) (24,787) 147,913
---------------- ------------------ ------------------
Cash Flows from Financing Activities
Proceeds from notes payable and warrants 2,050,000 700,000 1,850,000
Purchase of treasury stock - - (181,851)
Principal payments on notes payable
to shareholder (200,000) (3,350,000) -
Principal payments of capital lease obligations (17,686) (34,144) (60,674)
Proceeds from issuance of common stock
and exercise of warrants 224,000 11,256,837 -
Common stock issuance costs - (811,910) -
---------------- ------------------ ------------------
Net Cash Provided by Financing Activities 2,056,314 7,760,783 1,607,475
---------------- ------------------ ------------------
</TABLE>
<PAGE>
Stratesec, Incorporated
Statements of Cash Flows--Continued
<TABLE>
<CAPTION>
Year ended December 31, 1996 1997 1998
<S> <C> <C> <C>
Net Increase (Decrease) in Cash and
Cash Equivalents 53,997 388,972 (555,730)
Cash and Cash Equivalents at
Beginning of Year 555,345 609,342 998,312
---------------- ------------------ ------------------
Cash and Cash Equivalents at End of Year 609,342 $ 998,314 $ 442,582
================ ================== ==================
Supplemental Disclosures of Cash Flow Information:
Cash Paid During the Year For--
Interest $ 165,000 $ 385,000 $ 70,000
Income taxes 7,000 30,000 -
</TABLE>
During 1997 and 1998, the Company acquired equipment totaling approximately
$144,000 and $50,000, respectively, through capital lease transactions.
The accompanying notes are an integral part of these statements.
<PAGE>
Stratesec, Incorporated
Notes to Financial Statements
- --------------------------------------------------------------------------------
December 31, 1997 and 1998
- --------------------------------------------------------------------------------
NOTE A--BUSINESS AND SUMMARY OF ACCOUNTING POLICIES
Stratesec, Incorporated (the Company), formerly known as Securacom,
Incorporated, is a provider of comprehensive security solutions for large
commercial and government facilities worldwide. At December 31, 1996, the
Company was approximately 91 percent owned by KuwAm Corporation: two private
investment partnerships of which KuwAm serves as general partner, Special
Situations Investment Holdings, Ltd., and Special Situations Investment
Holdings L.P. II; and certain individual limited partners of the investment
partnerships (the KuwAm Group). On October 1, 1997, the Company completed an
initial public offering and sold 1,400,000 shares of common stock and the
KuwAm Group sold 808,000 shares of stock. At December 31, 1997 and 1998, the
KuwAm Group owns approximately 53 percent and 31 percent of the Company,
respectively.
A summary of the significant accounting policies applied in the preparation
of the accompanying financial statements follows:
Revenue Recognition
The Company derives its revenue principally from long-term contracts which
are generally on a fixed-price basis. Earnings are recognized on the basis
of the Company's estimates of the percentage of completion of individual
contracts, whereby total estimated income is earned based upon the
proportion that costs incurred bear to the Company's estimate of total
contract costs.
The percentage of completion of individual contracts includes management's
best estimates of the amounts expected to be realized on the contracts. It
is at least reasonably possible that the amounts the Company will ultimately
realize could differ materially in the near term from the amounts estimated
in arriving at the earned revenue and costs and earnings in excess of
billings on uncompleted contracts.
Contract costs include all direct material, direct labor and subcontract
costs. Provisions for estimated losses on uncompleted contracts are made in
the period in which such losses are determined. Changes in job performance,
job conditions and estimated profitability, including those arising from
contract revisions and final contract settlements may result in revisions to
costs and income and are recognized in the period in which the revisions are
determined.
The asset "costs and estimated earnings in excess of billings on uncompleted
contracts" represents revenue recognized in excess of amounts billed to
clients. The liability "billings in excess of costs and estimated earnings
on uncompleted contracts" represents billings in excess of revenue
recognized.
Cash and Cash Equivalents
The Company considers all highly liquid debt instruments purchased with a
maturity of three months or less to be cash equivalents.
Inventory
Inventory consisting of equipment held for sale is stated at the lower of
cost or market, with cost being determined by the first-in, first-out
method.
<PAGE>
Stratesec, Incorporated
Notes to Financial Statements--Continued
- --------------------------------------------------------------------------------
December 31, 1997 and 1998
- --------------------------------------------------------------------------------
NOTE A--BUSINESS AND SUMMARY OF ACCOUNTING POLICIES--Continued
Plant and Equipment
Plant and equipment are stated at cost. Depreciation is provided using the
straight-line method based on the estimated useful lives of the related
assets. Leasehold improvements are amortized over the shorter of the
economic life of the improvements or the lease term.
Income Taxes
The Company accounts for income taxes in accordance with Statement of
Financial Accounting Standards (SFAS) No. 109, "Accounting for Income
Taxes." SFAS No. 109 requires recognition of deferred tax assets and
liabilities for the expected future tax consequences of events that have
been included in the financial statements or tax returns. Under this method,
deferred tax assets and liabilities are determined based on the temporary
differences between the financial statement and tax bases of assets and
liabilities using enacted tax rates in effect for the year in which the
differences are expected to reverse.
Use of Estimates
In preparing financial statements in conformity with generally accepted
accounting principles, management is required to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
the disclosure of contingent assets and liabilities at the date of the
financial statements as well as the reported amounts of revenue and expenses
during the reporting period. Actual results could differ from those
estimates. In addition, the Company estimates an allowance for doubtful
accounts based on the creditworthiness of its clients, as well as general
economic conditions. Consequently, an adverse change in those factors could
affect the Company's estimate.
Concentrations of Credit Risk and Fair Value of Financial Instruments
The Company's financial instruments that are exposed to concentrations of
credit risk consist primarily of cash, money market funds and trade accounts
receivable. The Company places its cash and money market funds with high
credit quality institutions. In general, such investments exceed the FDIC
insurance limit.
The Company provides credit to its clients in the normal course of business.
The Company routinely assesses the financial strength of its clients and, as
a consequence, believes its trade accounts receivable exposure is limited.
The carrying value of financial instruments potentially subject to valuation
risk (principally consisting of cash, accounts receivable and accounts
payable) approximates fair market value.
<PAGE>
Stratesec, Incorporated
Notes to Financial Statements--Continued
- --------------------------------------------------------------------------------
December 31, 1997 and 1998
- --------------------------------------------------------------------------------
NOTE A--BUSINESS AND SUMMARY OF ACCOUNTING POLICIES--Continued
Loss Per Share
The Company has adopted SFAS No. 128, "Earnings Per Share" (EPS), which
requires public companies to present basic earnings per share and, if
applicable, diluted earnings per share. Basic EPS is based on the
weighted-average number of common shares outstanding without consideration
of common stock equivalents. Diluted earnings per share is based on the
weighted-average number of common and common equivalent shares outstanding.
When dilutive, the calculation takes into account the shares that may be
issued upon exercise of stock options and warrants, reduced by the shares
that may be repurchased with the funds received from the exercise, based on
the average price during the year.
Stock options and warrants have not been included in the calculation of
diluted earnings per share as their inclusion would be antidilutive.
- --------------------------------------------------------------------------------
NOTE B--OPERATIONS
As shown in the accompanying financial statements, the Company has incurred
recurring operating losses and has an accumulated deficit of $19,800,705 at
December 31, 1998. In such circumstances, the Company's continued existence
is dependent upon its ability to generate profitable operations and, if
necessary, secure financing to fund future operations. Management is
addressing these matters by cutting overhead expenses and reorganizing the
Company's management structure. The Company anticipates that existing cash
and cash equivalents generated from 1999 operations will be sufficient to
meet its working capital needs. The Company has, in the past, been able to
secure additional financing to meet its operating requirements, although
there can be no assurance that it will be able to continue doing so.
- --------------------------------------------------------------------------------
NOTE C--COSTS AND ESTIMATED EARNINGS ON UNCOMPLETED CONTRACTS
Costs and estimated earnings on uncompleted contracts are as follows at
December 31:
1997 1998
------------- -------------
Costs incurred on contracts $ 14,229,410 $ 18,988,832
Estimated earnings 3,473,560 5,289,572
------------- -------------
17,702,970 24,278,404
Less billings to date 15,664,570 22,940,051
------------- -------------
$ 2,038,400 $ 1,338,353
============= =============
<PAGE>
Stratesec, Incorporated
Notes to Financial Statements--Continued
- --------------------------------------------------------------------------------
December 31, 1997 and 1998
- --------------------------------------------------------------------------------
NOTE C--COSTS AND ESTIMATED EARNINGS ON UNCOMPLETED CONTRACTS
--Continued
In addition, included in accounts receivable at December 31, 1997 and 1998,
were retainages of approximately $648,000 and $45,000, respectively, which
are anticipated to be collected within one year. Included in accounts
payable at December 31, 1997 and 1998, were retainages of approximately
$111,000 and $-0-, respectively.
During the third quarter of 1998, the Company negotiated a final settlement
on a major contract. As a result of the adjustments, revenue and gross
margin for 1998 were reduced by $2,491,000.
During the fourth quarter of 1997, the Company revised its estimate of cost
to complete on several contracts. As a result of the adjustments, revenue
and gross margin for 1997 were reduced by $1,248,000.
In February 1996, the Company negotiated a final settlement on a major
contract with the Tennessee Valley Authority. As a result, the Company wrote
off approximately $238,000 of amounts owed to a subcontractor and reduced
cost of earned revenues.
- --------------------------------------------------------------------------------
NOTE D--PROPERTY AND EQUIPMENT
Property and equipment are summarized as follows at December 31:
<TABLE>
<CAPTION>
1997 1998 Useful Life
------------------ ----------------- -------------
<S> <C> <C> <C>
Cars $ - $ 27,492 3 years
Computer equipment 249,158 277,263 5 years
Equipment and fixtures 508,034 565,128 10 years
Aircraft 335,000 - 10 years
Leasehold improvements 68,739 68,739 5 years
Computer software - 28,787 3 years
------------------ -----------------
1,160,931 967,409
Less: Accumulated depreciation
and amortization 420,775 506,477
------------------ -----------------
$ 740,156 $ 460,932
================== =================
</TABLE>
<PAGE>
Stratesec, Incorporated
Notes to Financial Statements--Continued
- --------------------------------------------------------------------------------
December 31, 1997 and 1998
- --------------------------------------------------------------------------------
NOTE E--NOTES PAYABLE
During the years ended December 31, 1996 and 1997, the Company issued
subordinated debentures to the KuwAm Group totaling $3,250,000, with 478,580
of warrants to purchase common stock of the Company at $7.00 per share. The
debentures bore interest at 10 percent and were repaid in full from the
proceeds of the initial public offering. The value of the warrants of
$176,000 was determined based upon an appraisal of the securities by an
independent firm and was recorded as additional paid-in capital. All 478,580
warrants are outstanding at December 31, 1998.
During April 1998, the Company's board of directors approved issuance of up
to $2 million in convertible subordinated debentures in an effort to provide
additional working capital. As of December 31, 1998, the Company had sold
$1,850,000 of these debentures to related parties with 185,000 warrants
attached to purchase common stock of the Company at $2.50 per share. The
debentures bear interest at 10 percent semiannually. The value of the
warrants was $71,393 at issuance and was determined by the Company, using
the Black-Scholes valuation model and was recorded as additional paid-in
capital. All 185,000 warrants are outstanding at December 31, 1998. In
addition, the debentures are convertible into the Company stock at $8.50 per
share.
Interest expense on the notes amounted to approximately $125,000, $413,000
and $136,000 (including $5,000, $171,000 and $24,000 of amortization of debt
discount) for the years ended December 31, 1996, 1997 and 1998,
respectively. During February 1999, the Company paid $920,000 of the
outstanding $1,850,000 debt at December 31, 1998.
- --------------------------------------------------------------------------------
NOTE F--ACCRUED EXPENSES
Accrued expenses and other are summarized as follows for the year ended
December 31:
1997 1998
------------ ------------
Legal judgment $ 2,200,000 $ 262,290
Payroll 273,877 78,419
Employee expense reimbursements 62,607 -
Professional fees 45,745 34,796
Deferred rent obligation 56,515 54,504
Sales tax 54,618 90,221
Interest and foreign tax 140,423 227,656
Other 105,004 261,069
------------ ------------
$ 2,938,789 $ 1,008,955
============ ============
<PAGE>
Stratesec, Incorporated
Notes to Financial Statements--Continued
- --------------------------------------------------------------------------------
December 31, 1997 and 1998
- --------------------------------------------------------------------------------
NOTE G--OBLIGATIONS UNDER CAPITAL LEASE AGREEMENTS
The Company has entered into various capital lease agreements for equipment
with a cost of approximately $293,000 and $342,000 at December 31, 1997 and
1998, respectively. The leases expire at various times through 2002. The
related future minimum lease payments, as of December 31, 1998, are as
follows:
Year ending December 31,
1999 $ 103,325
2000 106,048
2001 70,399
2002 25,813
2003 -
-------------
305,585
Amount representing interest (69,483)
-------------
$ 236,102
=============
The net book value of assets held under capitalized leases at December 31,
1998, was $209,505.
- --------------------------------------------------------------------------------
NOTE H--RELATED PARTY TRANSACTIONS
The Company had agreements (the Agreements) with KuwAm Corporation (KuwAm)
whereby the Company paid a fee of 5 percent of the capital raised from the
private sale of common stock and subordinated debentures under the
Agreements. The Company incurred approximately $103,000, $35,000 and $-0- of
investment banking fees under the Agreements during 1996, 1997 and 1998,
respectively, which have been recorded as a reduction of proceeds from sales
of equity securities and interest and financing fees for sales of
subordinated debentures.
The Company issued subordinated debentures in the amount of $1,850,000 with
185,000 warrants attached and incurred related interest to the KuwAm
Corporation and other related parties of $180,992 as of December 31, 1998.
During 1998, the Company sold its aircraft, which had a book value of
$335,000 and accumulated depreciation of approximately $50,000, to a related
party for $240,000 in cash. The Company recorded a loss of approximately
$45,000 on the sale.
During 1997, of the total $3,350,000 proceeds received from the issuance of
notes payable, the Company invested $700,000 in a limited partnership
interest of Special Situations Investment Holdings, Ltd. (SSIH) recorded at
cost which was deemed to be equivalent to fair market value. At the
conclusion of the initial public offering, SSIH redeemed the limited
partnership interest at $700,000 plus interest.
<PAGE>
Stratesec, Incorporated
Notes to Financial Statements--Continued
- --------------------------------------------------------------------------------
December 31, 1997 and 1998
- --------------------------------------------------------------------------------
NOTE I--INITIAL PUBLIC OFFERING
On October 1, 1997, the Company completed an initial public offering of
1,400,000 shares of its common stock, par value $.01 per share (common
stock), at an initial offering price of $8.50 per share. In addition, the
majority shareholder sold 808,000 shares at $8.50 per share. The net
proceeds from the offering to the Company were approximately $9,735,000. On
October 7, 1997, the Company issued to the underwriter, at a purchase price
of $0.001 per warrant, warrants to purchase up to an aggregate of 140,000
shares of common stock at an exercise price of $13.18 per share, all of
which are outstanding at December 31, 1998.
- --------------------------------------------------------------------------------
NOTE J--EMPLOYEE STOCK WARRANTS AND OPTIONS
In 1997, the board of directors approved the adoption of the 1997 Stock
Option Plan. The 1997 Stock Option Plan provides for the grant of
nonqualified options to purchase up to 500,000 shares of the Company's
common stock. Options may be granted to employees, officers, directors and
consultants of the Company for the purchase of common stock of the Company
at a price not less than the fair market value of the common stock on the
date of the grant. In December 1997, 15,000 options were issued to a new
director at $8.625 per share. In February 1998, the Company issued to
employees and directors an additional 180,000 options at $2.375 per share.
In June and September 1998, 145,000 and 20,000 additional options,
respectively, were issued to employees and directors at $1.50 per share.
During 1996, the Company granted nonqualified options to purchase shares of
the Company's stock. The options were granted on a discretionary basis. In
January 1996, 50,000 options were granted, and in June 1996, 75,000 options
were granted. All 1996 options expire in 1999.
The Company has elected to follow Accounting Principles Board (APB) Opinion
No. 25, "Accounting for Stock Issued to Employees," and related
interpretations in measuring compensation expense for its stock warrants and
options. Under APB No. 25, because the exercise price of the Company's
employee stock warrants and options is not less than the fair market value
of the underlying stock on the date of grant, no compensation expense is
recognized. However, SFAS No. 123, "Accounting for Stock-Based
Compensation," requires presentation of pro forma net income and earnings
per share as if the Company had accounted for its employee stock warrants
and options, granted subsequent to December 31, 1994, under the fair value
method of that statement. For purposes of pro forma disclosure, the
estimated fair value of the warrants and options is amortized to expense
over the vesting period. Under the fair value method, the Company's net loss
in 1998 would have increased by $109,000 or $.01 per share on a basic and
diluted basis. Under the fair value method, the Company's net loss in 1997
would have increased by $60,000 or $.01 per share on a basic and diluted
basis. Under the fair value method, in 1996, the Company's net loss would
not have had a material change.
The weighted-average fair value of the individual warrants and options
granted during 1996, 1997 and 1998 is estimated as $.04, $1.13 and $.29,
respectively, on the date of grant. The fair values were determined using a
Black-Scholes option-pricing model with the following assumptions:
<PAGE>
Stratesec, Incorporated
Notes to Financial Statements--Continued
- --------------------------------------------------------------------------------
December 31, 1997 and 1998
- --------------------------------------------------------------------------------
NOTE J--EMPLOYEE STOCK WARRANTS AND OPTIONS--Continued
<TABLE>
<CAPTION>
1996 1997 1998
<S> <C> <C> <C>
Dividend yield - - -
Volatility 50% 50% 50%
Risk-free interest rate 6.06 6.18 5.5
Forfeiture rate - - -
Expected life 3 years 3 years 3 years
</TABLE>
Stock warrant and option activity during 1996-1998 is summarized below:
<TABLE>
<CAPTION>
Shares of Common Weighted-
Stock Attributable Average Exercise
to Warrants Price of Warrants
and Options and Options
<S> <C> <C>
Unexercised at January 1, 1996 1,012,375 $ 2.36
Granted 400,797 6.58
Exercised 480,457 .53
Expired 48,333 5.41
-------------- ------------
Unexercised at December 31, 1996 884,382 5.10
Granted 200,000 7.12
Exercised 269,382 2.63
Expired 100,000 6.50
-------------- ------------
Unexercised at December 31, 1997 715,000 6.39
Granted 505,000 2.06
Exercised - -
Expired 610,000 4.82
-------------- ------------
Unexercised at December 31, 1998 610,000 4.87
============== ============
</TABLE>
<PAGE>
Stratesec, Incorporated
Notes to Financial Statements--Continued
- --------------------------------------------------------------------------------
December 31, 1997 and 1998
- --------------------------------------------------------------------------------
NOTE J--EMPLOYEE STOCK WARRANTS AND OPTIONS--Continued
The following table summarizes information concerning outstanding and
exercisable warrants and options at December 31, 1998:
<TABLE>
<CAPTION>
Weighted-Average
Remaining Warrants and
Number Contractual Options
Exercise Price Outstanding Life (Years) Exercisable
<S> <C> <C> <C>
$ 7.00 250,000 .75 125,000
8.625 15,000 2.05 5,000
2.375 180,000 2.19 -
1.50 165,000 2.56 -
</TABLE>
During the year ended December 31, 1996, the president of the Company
exercised warrants for the purchase of 53,320 shares of common stock at an
exercise price of $.53 per share. Since no amount was paid upon exercise of
the warrants, the Company recorded compensation expense of $28,000.
- --------------------------------------------------------------------------------
NOTE K--INCOME TAXES
Deferred tax attributes resulting from differences between financial
accounting amounts and tax bases of assets and liabilities at December 31,
1997 and 1998, follow:
<TABLE>
<CAPTION>
1997 1998
----------------- -----------------
<S> <C> <C>
Current assets and liabilities
Allowance for doubtful accounts $ 19,000 $ 121,000
Accrued vacation pay and other 49,000 53,000
Provision for legal judgment 880,000 218,000
Inventory allowance - 74,000
----------------- -----------------
948,000 466,000
Valuation allowance (948,000) (466,000)
----------------- -----------------
Net current deferred tax asset (liability) $ - $ -
----------------- -----------------
Noncurrent assets and liabilities
Depreciation $ (71,000) $ (88,000)
Net operating loss carryforward 5,499,000 7,484,000
----------------- -----------------
5,428,000 7,396,000
Valuation allowance (5,428,000) (7,396,000)
----------------- -----------------
Noncurrent deferred tax asset (liability) $ - $ -
================= =================
</TABLE>
<PAGE>
Stratesec, Incorporated
Notes to Financial Statements--Continued
- --------------------------------------------------------------------------------
December 31, 1997 and 1998
- --------------------------------------------------------------------------------
NOTE K--INCOME TAXES--Continued
The valuation allowance has been established for those loss carryforwards
and temporary differences which are not presently considered likely to be
realized.
The provision for income taxes differs from the effective tax rate used in
the financial statements as a result of current year net operating losses,
the benefit of which has not been recognized in the current year.
As of December 31, 1998, the Company has net operating loss carryforwards
of approximately $18,700,000, which expire in 2002 through 2018.
In 1992, a major stockholder of the Company significantly increased his
ownership of the Company. As a result of a complex set of rules limiting the
utilization of net operating loss carryforwards in tax years following a
corporate ownership change (enacted in the Tax Reform Act of 1986), the
ability of the Company to utilize net operating losses of approximately $3.5
million may be limited.
Also, the shares issued in connection with the Company's initial public
offering are expected to create an ownership change. However, based on the
expected value of the Company immediately before such ownership change and
the resulting limitation as defined, the Company expects to be able to
utilize its net operating losses of approximately $8.7 million incurred
after August 1992 through the date of the initial public offering. Losses
incurred after the initial public offering may be limited by future
ownership changes.
- --------------------------------------------------------------------------------
NOTE L--EMPLOYEE BENEFIT ARRANGEMENTS
The Company established a contributory employee savings plan under Section
401(k) of the Internal Revenue Code. The Company contributes amounts to
individual participant accounts based on specific provisions of the plan.
The cost to the Company for the employer match under the plan was
approximately $13,000, $17,000 and $16,000 for the years ended December 31,
1996, 1997 and 1998, respectively.
- --------------------------------------------------------------------------------
NOTE M--COMMITMENTS AND CONTINGENCIES
Leases
The Company conducts all its operations from leased facilities consisting of
its corporate headquarters and branch office locations. All facility leases
are classified as operating leases with terms ranging from one to five
years.
<PAGE>
Stratesec, Incorporated
Notes to Financial Statements--Continued
- --------------------------------------------------------------------------------
December 31, 1997 and 1998
- --------------------------------------------------------------------------------
NOTE M--COMMITMENTS AND CONTINGENCIES--Continued
The following is a schedule by years of approximate future minimum rental
payments required under operating leases that have initial or remaining
noncancelable lease terms in excess of one year as of December 31, 1998:
Year ending December 31,
1999 $ 226,000
2000 159,000
2001 118,000
2002 88,000
2003 12,000
--------------
$ 603,000
==============
Rent expense for the years ended December 31, 1996, 1997 and 1998 was
approximately $286,000, $248,000 and $345,000, respectively.
Employment and Consulting Agreements
In 1998, the Company entered into employment agreements with its executive
vice president which provides for annual base salaries of $150,000. The
agreements provide for an additional payment equal to three times the annual
base salary if the executive is terminated due to a change in control as
defined in the agreement. The Company also entered into a consulting
agreement with its chairman (who is also managing partner of KuwAm
Corporation) which provides for an annual consulting fee of $145,000 through
March 31, 2002. As of February 1998, the annual base salaries under these
agreements were reduced by 10 percent.
- --------------------------------------------------------------------------------
NOTE N--SUBSEQUENT EVENT
In January 1999, the Company received a favorable judgment in its appeal
regarding litigation arising from its trademark case in 1997. This
subsequent event resulted in the reversal of its accrued expenses of
$1,655,000, net of $245,000 in previously awarded attorney fees which have
been remanded to the state court. The Company had restricted cash of
$1,900,000 related to this judgment at December 31, 1998, which was released
in February 1999.
Subsequent to year-end, the Company purchased 95,000 shares of common stock
worth approximately $200,000.
<PAGE>
Stratesec, Incorporated
Notes to Financial Statements--Continued
- --------------------------------------------------------------------------------
December 31, 1997 and 1998
- --------------------------------------------------------------------------------
NOTE O--SIGNIFICANT CLIENTS
During the year ended December 31, 1996, contracts with four clients
accounted for approximately 22 percent, 14 percent and 11 percent of
earned revenue. For the year ended December 31, 1997, two clients
accounted for approximately 55 percent and 20 percent of earned revenue.
During the year ended December 31, 1998, contracts with three clients
accounted for approximately 35 percent, 20 percent and 9 percent of earned
revenue.
<PAGE>
STRATESEC Incorporated
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
Column A Column B Column C Column D Column E
-------- --------- -------- ---------- ---------
Additions
(1) (2)
Charged to
Balance at Charged to other Balance at
beginning costs and accounts - Deductions - end of
Description of period expenses describe describe period
<S> <C> <C> <C> <C> <C>
Year ended December 31, 1998
Allowance for doubtful accounts $ 49,000 $253,000 - $ - $ 302,000
======== ====== =======
Inventory Researve $ - $183,000 - $ - $ 183,000
======== ====== =======
Year ended December 31, 1997
Allowance for doubtful accounts $ 42,000 $43,000 - $(36,000) (A) $ 49,000
======== ====== ======= ========
Year ended December 31, 1996
Allowance for doubtful accounts $120,000 $(78,000) (A) $ 42,000
======= ======= ========
</TABLE>
- ----------
(A) Uncollectible accounts written off.
CONSENT OF INDEPENDENT CERTIFIED
PUBLIC ACCOUNTANTS
We have issued our report dated March 3, 1999, accompanying the consolidated
financial statements and schedule included in the Annual Report of Stratesec,
Incorporated on Form 10-K/A for the year ended December 31, 1998. We hereby
consent to the incorporation by reference of the aforementioned report in the
registration statement on Form S-8.
GRANT THORNTON LLP
Vienna, Virginia
March 3, 1999
