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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
__________________________________________________
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended March 31, 1999
__________________________________________________
CUMETRIX DATA SYSTEMS CORP.
(Exact name of Registrant as specified in its charter)
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<S> <C> <C>
California 5045 95-4574138
(State or other jurisdiction of (Primary Standard (I.R.S. Employer
incorporation or organization) Industrial Classification Identification No.)
Code Number)
</TABLE>
__________________________________________________
John L. Davidson, President and Chief Executive Officer
957 Lawson Street, Industry, California 91748
(626) 965-6899
(Address of Registrant's Principal Executive Offices)
Securities registered pursuant to Section 12(b) of the Act:
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Title of each class Name of each exchange on which registered
Common Stock, No Par Value [Boston Stock Exchange]
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Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.01 par value
(Title of class)
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 No X
--- ---
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 Common Stock held by non-affiliates of the
Registrant on August 30, 1999 was $6,919,007 based on a $2.30 average of the
high and low sales prices for the Common Stock on such date. For the purpose of
this computation, all executive officers and directors have been deemed to be
affiliates. Such determination should not be deemed to be an admission that
such executive officers and directors are, in fact, affiliates of the
Registrant.
As of October 6, 1999, the Company had 7,392,500 shares of Common Stock
outstanding.
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CUMETRIX DATA SYSTEMS CORP.
1999 FORM 10-K ANNUAL REPORT
TABLE OF CONTENTS
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Part I
Page
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Item 1. Business 3
Item 2. Properties 8
Item 3. Legal Proceedings 8
Item 4. Submission of Matters to a Vote of Security Holders 8
Part II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters 8
Item 6. Selected Financial Data 10
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations 12
Item 7A. Quantitative and Qualitative Disclosures about Market Risks 27
Item 8. Financial Statements and Supplementary Data F-1-F-21
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure 28
Part III
Item 10. Directors and Executive Officers of the Registrant 28
Item 11. Executive Compensation 30
Item 12. Security Ownership of Certain Beneficial Owners and Management 32
Item 13. Certain Relationships and Related Transactions 33
Part IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K 34
Signatures 36
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ITEM 1. BUSINESS.
Cumetrix Data Systems Corp. (the "Company") is a direct marketer and
distributor of computer systems and hardware components, and a provider of
computer configuration and assembly services, to consumers, value added
resellers ("VAR"), and end-users in the government, education and small
office/home office marketplace. The Company markets its products through three
primary channels: an online store, suredeals.com, an internal telemarketing
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sales force, and strategic relationships with other Internet marketing companies
and key components suppliers.
Computer Products Distribution
The Company's principal business during fiscal 1999, providing
substantially all of the Company's revenues for the year, was the procurement
and wholesale distribution of a broad range of Computer Products. These
products include components such as high capacity storage devices, CD-ROMs and
CD Recorders, network adapters, hubs, modems and ZIP drives, as well as memory,
CPUs, and other items for personal computers.
The Company reduced its dependence on the Computer Products business at the
end of fiscal 1999 as a result of competitive and market conditions and the
resulting inability to operate the business with gross margins sufficient to
avoid recurring losses. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations."
The Company also holds a 29% equity interest in Online Transaction
Technologies, Inc. ("OTT"), an e-commerce software development company focused
on business to business auction software solutions.
The Company was incorporated in California on April 2, 1996 under the name
Data Net International, Inc. On January 6, 1998, the Company changed its name
to Cumetrix Data Systems Corp. The Company's executive offices are located at
957 Lawson Street, Industry, California 91748. Its telephone number is 626-965-
6899, and its facsimile number is 626-965-8159.
Computer Sales
During fiscal 1999, the Company had more than 700 active customers. No
customer accounted for more than 10% of net sales.
The Company previously marketed its wholesale Computer Products exclusively
via a direct sales staff, using telemarketing techniques to identify, qualify
and close business. In the middle of fiscal 1998, the Company began to develop
a channel program to sell its Computer Products through OEMs, SIs, and ISVs.
The Company's representatives compete for sales on the basis of product
knowledge, product selection targeted to the Company's customer base and
competitive pricing. Commencing in the fourth quarter, with the Company's shift
to Internet computer and component sales, the Company's sales staff has been
assigned new functions and responsibilities. As of March 31, 1999, the Company
employed 13 sales representatives. This sales staff now operates primarily as
an Internet based marketing force focused on generating VAR and reseller leads
for the Company's e-commerce site, suredeals.com, as well as sales of additional
-------------
configuration and upgrade services to our web site's end-user and retail
customers.
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Internet Computer Sales
Since April, 1999, the Company's principal business focus has been the
electronic sale and marketing of computer systems and components through a
direct business to business and business to consumer model. The Company
currently offers approximately 450 personal computer products from over 50
manufacturers, including hardware, peripherals, accessories, networking products
and software. The Company selects the products that it sells based upon their
technology and effectiveness, market demand, product features, quality, price,
margins and warranties.
The Company markets its products and services through: its Internet Web
site, suredeals.com, other Internet marketing partners such as Onsale, Inc., and
-------------
its outside sales representatives and telemarketing sales representatives.
Through its e-commerce site, the company provides its customers product
information and pricing, and enables its customers to place electronic orders
for a range of computers and computer related products as well as perform online
PC configuration and customization tasks. The Company is in the final stages of
opening an e-commerce auction site, sureauctions.com, which is scheduled to be
----------------
launched and, upon completion of beta testing, the Company expects the site to
be fully operational in the third quarter of fiscal 2000.
The goal of suredeals.com is to provide a broad array of fully configured
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personal computers and related products to consumers and businesses. The
Company will attempt to leverage its knowledge of the computer industry and the
Internet, and its ability to deliver competitive levels of customer service.
The Company has focused primarily on sales of upgrades and additional
configuration services as a way to enhance its relatively low margins on entry
level systems sales. This strategy gives the Company the ability to offer low
cost and convenient custom configuration services to both end user and corporate
markets.
The Company offers a limited 30-day money back guarantee for most unopened
products and selected opened products, although some products are subject to
restocking fees. Substantially all of the products marketed by the Company are
warranted by the manufacturer. The Company generally accepts returns directly
from the customer and then either credits the customer's account or ships the
customer a similar product from the Company's inventory. The Company typically
offers a one-year limited parts and labor warranty on all computer systems it
markets through its various sales channels and Internet marketing partners. The
Company offers longer warranty terms at an additional cost.
Automated Custom Configuration and Assembly -- The ACSA Solution
The Company has completed steps in the planning of a fully automated
systems integration and configuration process, referred to as the Automated
Custom System Assembly Solution (the "ACSA Solution"), incorporating licensed
proprietary software. Currently, the Company is evaluating the suitability of
the process under current and anticipated market conditions, as well as
implementation steps designed to efficiently use the process in the context of
its core businesses. The Company's ACSA Center is intended, assuming full
implementation, to replace a manual process with an automated assembly line, and
enable the Company's customers to outsource their procurement, warehousing,
assembly, staging and shipping processes. By implementing manufacturing
processes, like the ACSA Center concept, which are designed to automate the
assembly of custom systems, the Company intends to position
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itself as a low cost, high value provider of outsourcing services to the systems
distribution and end user markets.
The Company has experienced delays in its implementation of the ACSA
Solution. The Company has substantially completed construction of the first
ACSA Solution production line ("ACSA Center") located at the Company's facility,
but it has not commenced use of the licensed custom configuration software or
implemented the ACSA Solution. The Company does not expect the ACSA Center to
be operational at its premises in Industry, California prior to March 31, 2000
and a launch schedule is dependent on the results of the Company's evaluation
described above. As a result of these delays, and subject to the evaluation
conclusions, the Company will likely incur additional costs and devote
additional time to effect the implementation of the ACSA Solution. Due to these
increased anticipated costs (and other factors discussed elsewhere), the Company
has written off its investment in capitalized software related to ACSA as of
March 31, 1999. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations."
Internet Computer Marketing Sales and Customers
On April 25 1999, the Company launched suredeals.com, it's commercial
-------------
Internet web site. On the same date, the Company began accepting electronic
orders. Product descriptions and prices are provided on-line, with full,
updated information for over 450 items and on screen images available for over
400 items. The Company offers, and continuously updates, selected product
offerings and other special buys.
The Company's marketing and advertising programs include advertising on
national radio and web sites as well as placement of evaluation systems for
review by leading magazines and websites designed to increase brand awareness
within the industry. The Company recently launched a national advertising
campaign aimed at boosting public-awareness of its web site suredeals.com
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through banner and e-mail advertising on other trade sites such as PCworld.com.
The Company also launched a national radio advertising campaign with the number
one nationally syndicated radio program targeted to computer savvy buyers.
Vendor Relationships and Procurement
During fiscal 1999, the Company had relationships with manufacturers and
distributors around the world as suppliers of its Computer Products business.
The Company was a reseller of selected product lines and single components from
major manufacturers, including Western Digital Corporation, Adaptec Inc.,
Fujitsu Computer Products of America, Samsung Electronics Co. Ltd., Quantum
Corporation, Maxtor Corporation, Matrox Electronics Systems, Ltd., Goldstar L.G.
Electronics, Intel Corporation, Toshiba Corporation and Pioneer Electronics
Corp. In the distribution channel, major suppliers included DSS Technology
Distribution Partners, Inc. ("DSS"), Maxtor Corporation, Canara Technologies,
Alpha Computers, Tech Data, Merisel Incorporated and Toshiba Corporation. For
the years ending March 31, 1999 and 1998, DSS, a distributor of hard drives to
the Company, accounted for 55% and 64%, respectively, of the Company's
purchases. As a result of the Company's substantial exit from the Computer
Products business, the Company's vendor mix has changed significantly and
purchases from DSS are not expected to be significant in future periods.
The Company's Internet Computer and Computer Products Sales business
procures products from major manufacturers, including Advanced Micro Devices,
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Inc. ("AMD"), Intel Corp., Diamond Multimedia, Inc., Teac, Inc., Adaptec and
others. The Company believes that its relationships with its vendors are
satisfactory and does not believe that the loss of its relationship with any
other of its vendors would materially adversely affect its business. See
"Cautionary Statements and Risk Factors-Dependence Upon Relationships with
Vendors".
Inventory Management
The Company's vendor relationships enable it to receive generally prompt
and consistent deliveries. The Company attempts to maintain a limited inventory,
and as a result avoid certain costs associated with the traditional distribution
model, including capital costs associated with the warehousing of products,
obsolescence costs, inventory finance costs, the costs of computer inventory and
tracking systems, and the costs associated with the need to employ personnel for
stocking and shipping duties. On March 23, 1998, the Company moved into a
facility of approximately 21,900 square feet of office and warehouse space. In
the year ended March 31, 1999, the Company shipped approximately $62,900,000 of
Computer Products, turning inventory at rate of approximately 29 times. The
Company has negotiated RMA terms with its vendors generally permitting rapid
replacement of parts returned by customers. Rapid replacement of such parts
assists the Company in reducing inventory costs (by increasing the speed of
inventory turns) and assists the company to improve customer satisfaction.
During the last three months of fiscal 1999, market volatility increased,
causing inventories to depreciate more rapidly than in prior periods. Based on
the incorrect assumption that prices for major inventory categories such as hard
drives and CPUs would recover, the Company did not react in a timely manner to
these market conditions. As a consequence, the Company increased inventory
reserves by $516,000 in the fourth quarter of fiscal 1999.
Competition
Internet retailing and electronic commerce in general is a rapidly evolving
and intensely competitive environment. There are few barriers to entry and
current or new competitors can launch new sites quickly and inexpensively. In
addition, the computer products industry as a whole is intensely competitive.
Our current competitors include: mass merchants and traditional retailers such
as CompUSA, mail-order retailers such as CDW, Micro Warehouse, Insight and
Creative Computers, Internet-only computer retailers such as Buy.com, and
manufacturers that sell directly over the Internet or by telephone such as Dell
and Gateway, as well as many other computer manufacturers.
The primary competition for the ACSA Centers will most likely be large
computer manufacturers such as IBM Corp., Dell Computers and Compaq Computer,
Inc. which provide custom configuration and automated software configuration for
standardized systems. Also, large distributors such as Ingram Micro Inc.,
Vanstar Corp., Tech Data and CompuCom Systems, Inc. in the systems integration
and network services market; network software and equipment providers such as
Cisco Systems Inc. that sell networking hardware and offer automated software
configuration to ensure compatibility between networks and hardware; and the
internal departments within the target markets currently performing hardware
and/or software configuration; and consulting and integration companies which
offer manual software configuration services.
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There are also retail chains such as CompUSA that offer configuration and
distribution services. CASI and/or Datatec may directly enter into the Company's
integration and configuration markets using the software the Company has
licensed from CASI. While no operating division or subsidiary of Datatec is
currently competing in the Company's markets, there can be no assurance that
Datatec will not decide to directly compete with the Company in the future.
Further, the terms of CASI's license allow CASI to license the software used in
the ACSA Solution and the ACSA Centers to new or existing direct competitors of
the Company.
Many of the Company's competitors have longer operating histories, larger
customer bases, greater brand recognition, and significantly greater financial,
marketing and other resources. The Company believes that the principal
competitive factors in its market include: brand recognition, customer service,
selection, convenience and price. Many of the Company's competitors have
adopted aggressive pricing policies in order to gain market share and build
brand recognition. In addition, as use of the Internet and other online
services increases, the Company believes that competition may increase as online
retailers are acquired by, receive investments from, or enter into other
commercial relationships with, large, well-established and well-financed
companies. Such increased competition may result in reduced operating margins,
loss of market share and a diminished brand franchise. This could have a
material adverse effect on the Company's business, prospects, financial
condition and results of operations.
Government Regulation
The Company's business is or will be subject to a number of regulations
relating to the Internet and auctioneering. Several states have laws that
regulate auctions and auction companies within their jurisdiction. The burdens
of complying with auctioneering laws in other states could materially increase
the Company's cost of doing business. Similarly, other states may construe
their existing laws governing issues such as property ownership, sales tax,
libel and personal privacy to apply to Internet companies servicing consumers
within their boundaries. Resolution of whether or how such laws will be applied
is uncertain.
Tax treatment of the Internet and electronic commerce is currently
unsettled. A number of proposals have been made at the federal, state and local
level and by certain foreign governments that would impose taxes on the sale of
goods and services and certain other Internet activities. Recently, the
Internet Tax Information Act was signed into law, placing a three-year
moratorium on new state and local taxes on Internet commerce. The Company's
business may be harmed by the passage of laws in the future imposing taxes or
other burdensome regulations on Internet commerce.
Due to the increasing popularity and use of the Internet, it is possible
that a number of laws and regulations may be adopted with respect to the
Internet generally, covering issues such as user privacy, pricing, and
characteristics and quality of products and services. Similarly, the growth and
development of the market for Internet commerce may prompt calls for more
stringent consumer protection laws that may impose additional burdens on those
companies conducting business over the Internet. The adoption of any additional
laws or regulations may decrease the growth of commerce over the Internet,
increase the Company's cost of doing business or otherwise have a harmful effect
on the Company's business.
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Because the Company's products are available over the Internet in multiple
states and foreign countries, and because the Company sells to numerous
consumers resident in such states and foreign countries, such jurisdictions may
claim that the Company is required to qualify to do business as a foreign
corporation in each such state and foreign country. The Company is qualified to
do business in California only, and failure to qualify as a foreign corporation
in a jurisdiction where the Company is required to do so could subject the
Company to taxes and penalties.
Employees
As of March 31, 1999, the Company had 41 full time employees. At that
time, the Company employed 13 sales, 3 purchasing, 2 technical support and
assembly, 12 administrative and finance, 4 customer service, 2 internet service
and 10 warehousing and delivery related personnel. The Company does not have
any unionized employees and believes its relationship with its employees is
satisfactory. During the course of its investigation into certain improprieties
and record-keeping irregularities (See "Management Discussion and Analysis of
Financial Condition and Results of Operations"), the Company identified certain
employees who may be subject to disciplinary action, including termination.
Taking this disciplinary action may result in disruption to operations and may
adversely affect the results of operations.
The Company believes its future success will depend in large part on the
Company's ability to recruit and retain qualified employees, particularly those
highly skilled design, process and test engineers involved in the manufacture of
existing systems and the development of new systems and processes. The
competition for such personnel is intense. There can be no assurances that the
Company will be successful in retaining or recruiting key personnel.
ITEM 2. PROPERTIES.
The Company's corporate headquarters is located in a leased facility in
Industry, California comprised of approximately 21,900 square feet of office and
warehouse space.
ITEM 3. LEGAL PROCEEDINGS.
Although the Company is engaged in certain routine legal proceedings, the
Company is not aware of any legal proceedings or claims that it believes will
have a material adverse effect on the Company or its financial condition or
results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The Common Stock commenced trading on April 8, 1998 on the Nasdaq SmallCap
Market ("Nasdaq") under the symbol "CDSC" and the Boston Stock Exchange under
the symbol "CDS". Prior to that time, there was no public market for the
Company's Common Stock. The following table sets forth, for the period
indicated, the high and low closing prices per share of the Common Stock as
reported by Nasdaq.
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PRICE RANGE
HIGH LOW
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Year Ended March 31, 1999
Quarter ended June 30, 1998
(from April 8, to June 30, 1998) 6.91 6.00
Quarter ended September 30, 1998 6.94 4.25
Quarter ended December 31, 1998 5.63 3.88
Quarter ended March 31, 1999 7.63 3.56
</TABLE>
The Company's stock was delisted from Nasdaq and the Boston Stock Exchange
for failure to meet their standards--primarily due to the Company's failure to
keep current its reports to the Securities Exchange Commission pursuant to the
Securities Exchange Act of 1934.
Delisting could materially adversely affect the trading market for the
Common Stock and the Company's access to the capital markets. It will be
necessary for the Company to re-apply for initial listing once it determines
that it can meet the initial listing requirements. At the date of the filing of
this report, the Company could not qualify for initial listing on Nasdaq. The
Company may never be able to meet the requirements for initial listing on
Nasdaq.
The closing sale price of the Common Stock on August 30, 1999 was $2.25 per
share (see "Cautionary Statements and Risk Factors - Delisting"). Because the
Common Stock is delisted from trading on Nasdaq and the Boston Stock Exchange
and the trading price is less than $5.00 per share, trading in it is subject to
the requirements of Rule 15g-9 promulgated under the Securities Exchange Act of
1934. Under this rule, broker/dealers who recommend these low-priced securities
to persons other than established customers and accredited investors must
satisfy special sales practice requirements, including a requirement that they
make an individualized written suitability determination for the purchaser and
receive the purchaser's written consent prior to the transaction. The
Securities Enforcement Remedies and Penny Stock Reform Act of 1990 also requires
additional disclosure in connection with any trades involving a stock defined as
a "penny stock" (generally any equity security not traded on an exchange or
quoted on Nasdaq that has a market price of less than $5.00 per share, subject
to certain exceptions), including the delivery, prior to any penny stock
transaction, of a disclosure schedule explaining the penny stock market and the
risks associated with the penny stock market. These requirements would likely
severely limit the market liquidity of our Common Stock and the ability of our
shareholders to dispose of their shares, particularly in a declining market.
Dividends
The Company has not paid any cash dividends with respect to the Common
Stock. The Company presently intends to retain future earnings to finance its
development and expansion and therefore does not anticipate the payment of any
cash dividends in the foreseeable future. Payment of future dividends, if any,
will depend upon future earnings and capital requirements of the Company and
other factors which the Board of Directors considers appropriate.
Use of Proceeds
The Company's Registration Statement on Form S-1 (File No. 333-43151)
relating to the offer and sale (the "Offering") of an aggregate of 2,350,000
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shares-(the "Firm Shares") of Common Stock, without par value (the "Common
Stock"), of the Company was declared effective by the Securities and Exchange
Commission (the "Commission") on April 7, 1998. The managing underwriter for the
offering was Joseph Stevens & Company, Inc. (the "Managing Underwriter").
The Offering commenced on April 8, 1998 and the sale of 2,350,000 shares
closed on April 14, 1998, with the sale of an additional 352,500 shares (the
"Option Shares" and, together with the Firm Shares, the "Shares") closing on
April 23, 1998 (which were sold by the Company upon the exercise of the over-
allotment option granted to the underwriters). All the Shares were sold in the
Offering at an aggregate price of $5.00 per share, for aggregate proceeds of
$13,512,500. After deducting underwriting discounts and commissions of $0.4625
per share, and other issuance costs, the Company received net proceeds of
approximately $11,200,000. On April 14, 1998, the Company also received $0.001
per warrant, for an aggregate of $23.50, in consideration of unregistered 5-year
warrants to purchase 235,000 shares of Common Stock at an initial exercise price
of 165% of the Offering price, exercisable one year after the effective date of
the Registration Statement, granted to the Managing Underwriter in connection
with the Offering.
As of March 31, 1999, the Company had used the Offering proceeds as
follows: (i) payments on notes payable of $1,200,000; (ii) purchases of fixed
assets of $496,000; (iii) repurchase of stock from shareholder for $300,000; and
(iv) investment in OTT of $1,000,000. The remaining proceeds of $8,204,000 are
available to fund working capital.
ITEM 6. SELECTED FINANCIAL DATA.
The following table sets forth selected financial and operating data of the
Company for the periods indicated. The following selected statement of
operations data for the years ended March 31, 1999 and 1998 and for the period
from April 2, 1996 (inception) to March 31, 1997, and the balance sheet data as
of March 31, 1999 and 1998 are derived from the financial statements and the
notes thereto included elsewhere herein audited by Arthur Andersen LLP,
independent public accountants, as set forth in their report also included
elsewhere herein. The balance sheet data at March 31, 1997 are derived from
audited financial statements not included in this Form 10-K. The following
information should be read in conjunction with "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and the Financial
Statements of the Company and notes thereto included elsewhere in this report.
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Year ended Year ended Period from
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March 31, March 31, April 2, 1996
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1999 1998 (Inception)
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to March 31,
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1997
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Statements of Operations Data:
Net sales:
Nonaffiliates $ 62,633,340 $ 70,154,439 $ 25,407,403
Affiliate(1) - 1,391,300 532,800
Other (2) 1,180,010 949,735 -
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63,813,350 72,495,474 25,940,203
Cost of products:
Nonaffiliates 61,763,312 67,422,362 24,615,411
Affiliate(1) - 1,314,408 523,590
Other (2) 1,148,321 731,727 -
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62,911,633 69,468,497 25,139,001
Gross profit:
Nonaffiliates 870,028 2,732,077 791,992
Affiliate(1) - 76,892 9,210
Other (2) 31,689 218,008 -
------------ ------------ ------------
901,717 3,026,977 801,202
Selling, general and
administrative expenses 3,292,569 1,542,294 751,133
Write-off of capitalized purchased
software 1,100,000 - -
------------ ------------ ------------
Income (loss) from operations (3,490,852) 1,484,683 50,069
Interest income (514,345) (68,158) -
Interest expense 4,652 239,791 9,334
Loss on Equity investment 122,000 - -
Other (income) expense, net (1,365) 10,160 5,871
------------ ------------ ------------
Income (loss) before provision for income
taxes (3,101,794) 1,302,890 34,864
Provision (benefit) for income taxes (102,228) 579,738 9,500
------------ ------------ ------------
Net income (loss) $ (2,999,566) $ 723,152 $ 25,364
============ ============ ============
Basic and diluted earnings (loss) per
share $ (0.41) $ 0.16 $ 0.01
------------ ------------ ------------
Weighted average number of common
shares outstanding
-Basic (3) 7,364,828 4,544,759 3,310,573
-Diluted (3) 7,364,828 4,639,041 3,310,573
</TABLE>
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<TABLE>
<CAPTION>
As of March 31,
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1999 1998 1997
---- ---- ----
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Balance Sheet Data:
Working capital $ 8,420,382 $ 97,504 $ 154,160
Total assets 14,323,787 12,185,185 1,855,241
Total liabilities 4,511,423 10,394,080 1,579,877
Retained earnings
(deficit) (2,251,050) 748,516 25,364
Shareholders' equity 9,812,364 1,791,105 275,364
</TABLE>
(1) Relates to sales at fair market value made to Samax Technology Inc., a
company controlled by the mother of Mr. Max Toghraie. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
(2) Relates to unauthorized sales to customers which management believes are on
terms more favorable than given to other customers. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
(3) See Note 2 of Notes to Financial Statements for an explanation of the
method used to determine the number of shares used in computing basic and
diluted earnings (loss) per share.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
This discussion summarizes the significant factors affecting the operating
results, financial condition and liquidity/cash flows of the Company and should
be read in conjunction with "Selected Financial Data" and the financial
statements and the notes thereto, each of which is included elsewhere in this
Form 10-K. Except for the historical information contained herein, the matters
discussed in this Management's Discussion and Analysis of Financial Condition
and Results of Operations are forward looking statements that involve risks and
uncertainties and are based upon judgments concerning various factors that are
beyond the Company's control. Actual results could differ materially from those
projected in the forward looking statements as a result of, among other factors,
the factors set forth under the caption "Cautionary Statements and Risk Factors"
below.
Overview
The Company was founded in April 1996, and until December of 1996 operated
entirely as a distributor and value added reseller of computer equipment and
related hardware components and software (the "Computer Products Business"). In
December of 1996, the Company entered the system configuration business.
The Company substantially reduced its dependence on its Computer Products
Business at the end of fiscal 1999 as a result of the inability of the Company
to operate the business with gross margins sufficient to avoid recurring losses.
The industry has come to be characterized by aggressive
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price cutting which intensified in the first quarter of fiscal 1999 as a result
of industry wide pricing pressures resulting from excess supplies from major
manufacturers and reduced overall demand in the personal computer industry. The
Company did not fully anticipate the severity of this issue or react adequately.
As a result of these pricing pressures, the Company's margins were pressured and
the Company attempted to shift to higher margin wholesale computer product
sales. The Company was unable to be competitive in this area, and business and
operating results were adversely affected.
The Company has also been attempting to implement its ACSA automated custom
software configuration assembly line solution. In this regard, the Company has
invested in fixed assets comprising an assembly line and related computer
equipment. The Company has also entered into a perpetual non-exclusive
licensing agreement with Computer Aided Software Integration, Inc. ("CASI") to
license CASI's Configurator software for use in the development and
commercialization of the Company's ACSA Solution. The Company paid CASI a
onetime license fee of $1.1 million. The payments under the CASI Note were
initially capitalized. However, the Company has not, as of the date of this
filing, implemented the configurator software or made any significant use of the
automated assembly lines installed at the Company's ACSA Center. The Company
has experienced substantial delays in its implementation of the ACSA solution
and although the Company has completed construction of the first ACSA solution
production line ("ACSA Center") located at the Company's facility, the Company
has not commenced use of the licensed custom configuration software or
implemented the ACSA Solution. The Company's initial ACSA strategy included
plans to implement the ACSA Solution through joint ventures, through multiple
ACSA Centers installed at assembly sites and through the resale of licenses for
the ACSA Solution software. The resolution of the Company's dispute with CASI
does not include rights to the Company for the resale of licenses for the ACSA
Solution software. Due in part to lengthy delays in implementing ACSA Services,
competing software configuration technologies have had an opportunity to gain
market acceptance and achieve a level of public recognition that may make it
more difficult for the Company to effectively market and sell ACSA services. The
Company does not expect the ACSA Center to be operational at its premises in
Industry, California prior to March 31, 2000 and a launch schedule is dependent
on the results of the Company's evaluation described above. As a result of
these delays, and subject to the evaluation conclusions, the Company will likely
incur additional costs and devote additional time to effect the implementation
of the ACSA Solution. Due to these increased anticipated costs (and other
factors discussed elsewhere), the Company has written off its investment in
capitalized software related to ACSA as of March 31, 1999, and the Company may
not generate any revenues from the ACSA Solution.
Results of Investigation
On July 13, 1999 the Company announced the preliminary results of an
internal investigation into certain improprieties and record-keeping
irregularities. In connection with this investigation, James Ung, the President
of the Company and a director, and Mei Yang, the Secretary and Treasurer of the
Company and a director, have been relieved from all executive officer and
employment responsibilities held by them. The Company intends not to nominate
Mr. Ung and Ms. Yang for election as directors at the Company's next annual
meeting.
13
<PAGE>
Additionally, the Audit Committee of the Company's Board of Directors
directed counsel to retain a special investigative unit of the Company's outside
auditors, Arthur Andersen LLP, to assist it in the investigation.
As a result of the investigation, the Company was not able to timely file
its Annual Report on Form 10-K. The Company has contacted the staff of the
Securities and Exchange Commission to provide complete details of the
preliminary results of the internal investigation.
Subject to its review of final conclusions of the investigation, the
Company will take appropriate actions to mitigate any damages to the Company
resulting from events giving rise to the investigation.
The record-keeping irregularities and other improprieties reported in the
conclusions of the investigation resulted in a reduction of reported revenues
and cost of products during the second and third quarters of fiscal 1999 of
$166,000 and $240,000, respectively, from previously reported revenues of
$19,418,109 and $16,251,491, respectively. Other record-keeping errors also
resulted in a reduction of reported net income during the second and third
quarters of $14,873 and $109,776 respectively, from previously reported net
income (loss) of $86,493 and ($110,006), respectively. As a result, the Company
has restated the financial statements set forth it in its Quarterly Reports on
Form 10-Q for the applicable periods.
Results of Operations
This discussion summarizes the significant factors affecting the operating
results, financial condition and liquidity/cash flows of the Company for the
years ended March 31, 1999, 1998 and 1997. The Company has a limited history of
operations.
Year ended March 31, 1999 and 1998
Net Sales. Net sales for the year ended March 31, 1999 were $63,813,350
compared to $72,495,474 for the year ended March 31, 1998. This decrease of
$8,682,124 in net sales is attributable to continued industry oversupply,
resulting pricing pressures, the Company's unwillingness to compete for lower
margin business and a significant decrease in sales during the fourth quarter as
the Company discontinued its emphasis as a distributor of hard drives.
Cost of Products. Cost of products decreased $6,556,864 from $69,468,497 to
$62,911,633 for the year ended March 31, 1998 and 1999 respectively. This
decrease is mainly attributable to the decrease in net sales and was offset by
increases in inventory reserves of approximately $516,000 recorded during the
fourth quarter. In connection with the fraud investigation, the Company has also
accrued a liability of $150,000 for the unauthorized sales of software.
Gross Profit. Gross profit for the year ended March 31, 1999 was $901,717
compared to $3,026,977 for the year ended March 31, 1998. Gross profit as a
percentage of net sales was 1.4% for the year ended March 31, 1999 compared to
4.2% for the year ended March 31, 1998. This represents a 67% decrease in gross
profit ratios, and is mainly attributable to industry oversupply, the resulting
pricing pressures facing the industry as a whole and additional inventory
reserves required to reduce inventory levels to net realizable values based upon
the continuing drop in prices of acquired product in the fourth quarter and
subsequent to year end along with the impact of the reserve for unauthorized
sales of software.
14
<PAGE>
Selling, General and Administrative Expenses. Selling, general and
administrative expenses for year ended March 31, 1999 were $3,292,569 compared
to $1,542,294 for the year ended March 31, 1998.
The major components of selling, general and administrative expenses for
the periods include the following:
<TABLE>
<CAPTION>
March 31, March 31,
1999 1998
----------------- -----------------
<S> <C> <C>
Payroll (including commissions) $ 1,488,000 $ 987,443
Write-off of related party receivable - 100,000
Rent 74,000 35,000
Insurance 84,000 24,000
Advertising 145,000 3,000
Legal, accounting and other 490,000 58,000
Credit and collection (including bad debt expense) 433,000 154,000
Internet Development & Support 65,000 -
Depreciation & amortization 89,800 9,000
Other (under 5%) 423,769 171,851
----------- -----------
Total $ 3,292,569 $ 1,542,294
=========== ===========
</TABLE>
The increase of $1,750,275 in selling, general and administrative expenses is
attributable to increased staff and overhead to support the marketing activity
of the Company. In addition, the Company hired additional personnel in all areas
to facilitate growth of the Company's infrastructure and expansion. SG&A costs
in the period included rent in a larger facility, D&O insurance costs, legal and
accounting costs and other costs related to being a public company. The Company
also recorded reserves related to litigation described elsewhere herein (see
Item 3, legal proceedings). In addition, in accordance with FAS No. 123,
included in SG&A is a non-cash charge of $117,000 for options given to outside
advertising consultants.
Write-Off of Capitalized Purchased Software
The Company has been attempting to implement its ACSA automated custom
software configuration assembly line solution. In this regard, the Company has
invested in fixed assets comprising an assembly line and related computer
equipment. The Company has also entered into a perpetual non-exclusive
licensing agreement with Computer Aided Software Integration, Inc. ("CASI") to
license CASI's Configurator software for use in the development and
commercialization of the Company's ACSA Solution. The Company paid CASI a
onetime license fee of $1.1 million. The payments under the CASI Note were
initially capitalized. However, the Company has not, as of the date of this
filing, implemented the configurator software or made any significant use of the
automated assembly lines installed at the Company's ACSA Center. The Company
has experienced substantial delays in its implementation of the ACSA solution
and although the Company has completed construction of the first ACSA solution
production line ("ACSA Center") located at the Company's facility, the Company
has not commenced use of the licensed custom configuration software or
implemented the ACSA Solution. Also, due to lengthy delays in implementing ACSA
Services, competing software configuration technologies have had an opportunity
to gain market acceptance and achieve a level of public
15
<PAGE>
recognition that may make it more difficult for the Company to effectively
market and sell ACSA services. The Company does not expect the ACSA Center to be
operational at its premises in Industry, California prior to March 31, 2000 and
a launch schedule is dependent on the results of the Company's evaluation
described above. As a result of these delays, and subject to the evaluation
conclusions, the Company will likely incur additional costs and devote
additional time to effect the implementation of the ACSA Solution. Due to these
increased anticipated costs (and other factors discussed elsewhere), the Company
has written off its investment in capitalized software related to ACSA as of
March 31, 1999, and the Company may not generate any revenues from the ACSA
Solution.
Interest Income
Interest income of $514,345 for the year ended March 31, 1999 is primarily
due to interest income earned on the investment of proceeds from the Initial
Public Offering.
Interest Expense
Interest expense for the year ended March 31, 1999 was $4,652 compared to
$239,791 for the year ended March 31, 1998. This decrease was due to the
amortization of deferred financing costs related to the Bridge Financing raised
in November and December of 1997, which was repaid in April 1998 from the
Initial Public Offering proceeds.
Loss on Equity Investment
Loss on equity investment for the year ended March 31, 1999 was $122,000
which relates to our investment in Online Transaction Technologies. The
Company's investment provided substantially all of OTT's working capital.
Net Loss
Net loss for the year ended March 31, 1999 was $2,999,566 compared to net
income of $723,152 for the year ended March 31, 1998. The decrease of $3,722,718
is mainly attributable to the decrease in gross profit, the write-off of
capitalized purchase software costs, the loss on equity investment, and higher
selling, general and administrative expenses, offset by interest income.
Year ended March 31, 1998 and 1997.
Net Sales. Net sales for the year ended March 31, 1998 were $72,495,474
compared to $25,940,203 for the Company's first year of operations from April 2,
1996 (inception) through March 31, 1997. This increase of $46,555,271 in net
sales was attributable to the growth of the Company's sales force from 4 to 9
individuals at the end of 1997 and 1998, respectively, and an increase in the
Company's available combined purchasing credit (including its vendor credit and
the Finova Line), from $1.3 million to $16.5 million (as a 90 day average
available credit for the respective periods) which allowed the Company to
increase its ability to purchase product to fulfill more sales orders. During
the same period, the Company also began marketing its integration and
configuration services, which accounted for $1.6 million of net sales in fiscal
1998.
Cost of Products. Cost of products increased $44,329,496 from $25,139,001
to $69,468,497 for the year ended March 31, 1997 and 1998, respectively. This
16
<PAGE>
increase is mainly attributable to the increase in net sales. Cost of products
represented 96.9% and 95.8% of net sales for the years ended March 31, 1997 and
1998, respectively. The decrease in cost of products as a percentage of net
sales is primarily due to economies of scale and management's focus on a sales
mix which favors products with higher profit margins and computer system
integration sales.
Gross Profit. Gross profit for the year ended March 31, 1998 was $3,026,977
compared to $801,202 in the year ended March 31, 1997. Gross profit as a
percentage of net sales were 4.2% for the year ended March 31, 1998 compared to
3.1% for the year ended March 31, 1997. This represents a 36% increase in gross
profit ratios, and is mainly attributable to strong product demand, the ability
of the Company to purchase inventory at favorable prices, management's focus on
a sales mix which favored products with higher profit margins and computer
system integration sales, a more efficient shipping process implemented in the
first quarter, tighter control and management of labor costs and implementation
of operational objectives requiring management to focus on increasing
efficiency.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses for year ended March 31, 1998 were $1,542,294 compared
to $751,133 for the year ended March 31, 1997, the Company's first year of
operations.
The major components of selling, general and administrative expenses for
the periods include the following:
<TABLE>
<CAPTION>
March 31, March 31,
1998 1997
--------- ---------
<S> <C> <C>
Payroll $ 757,748 $ 323,649
Commissions 229,695 77,411
Write-off of related party receivable 100,000 -
Bad debt 91,310 50,329
Other (under 5%) 363,541 299,744
----------- ---------
Total $ 1,542,294 $ 751,133
=========== =========
</TABLE>
The increase of $791,161 in selling, general and administrative expenses is
attributable to the Receivable Write-Off of $100,000 incurred in the first
quarter and to increased staff and overhead to support the higher levels of
sales and marketing activity. The Company also increased the salaries of
executive officers during this period to levels the Company believes to be
commensurate with current market levels. In addition, the Company hired
additional personnel in finance and administration to facilitate growth of the
Company's infrastructure and revenue expansion. Selling, general and
administrative expenses (excluding the Receivable Write-Off of $100,000) as a
percentage of net sales decreased by 31% from 2.9% for year ended March 31, 1997
to 2.0% for year ended March 31, 1998. This decrease is a result of economies of
scale achieved through significant increases in sales volume as well as
employment of various operational controls and organizational efficiencies.
Interest Expense
Interest expense for the year ended March 31, 1998 was $239,791 compared to
$9,334 for the year ended March 31, 1997. This increase was due to the
17
<PAGE>
amortization of deferred financing costs related to the Bridge Financing raised
in November and December of 1997 and repaid in April 1998.
Interest Income
Interest Income of $68,158 for the year ended March 31, 1998 is primarily due
to income earned on proceeds from the Bridge Financing.
Net Income
Net income for the year ended March 31, 1998 was $723,152 compared to $25,364
for the year ended March 31, 1997. The increase of $697,788 is mainly
attributable to the increase in net sales of $46,555,271 and economies of scale.
Liquidity and Capital Resources
The Company has historically met its working capital and capital expenditure
requirements through a combination of cash flows from operations, bank
financing, vendor credit lines, the sale of equity and the Bridge Financing.
On April 8, 1998, the Company's initial public offering (the "Initial Public
Offering") of 2,702,500 shares of Common Stock at $5 per share including
overallotment of 352,500 shares provided net proceeds (after deducting issuance
costs) of $11,200,000.
In the third quarter of fiscal year 1998, the Company completed a financing
(the "Bridge Financing") consisting of the sale of 20 units which generated
gross proceeds of $1 million (net proceeds of approximately $678,000). Each unit
was comprised of: (i) an unsecured promissory note of the Company in the
principal amount of $20,000 (ii) 15,000 shares of Common Stock of the Company,
and (iii) 5,000 warrants of the Company, each to purchase one share of Common
Stock of the Company, at an initial exercise price of $3.00 per share, subject
to adjustment, during the 36-month period commencing one year from the date the
Bridge Warrants were issued. The Company repaid $250,000 of the principal amount
of the CASI Note and $50,000 of the Datatec Note out of the proceeds of the
Bridge Financing. The Company paid the remainder of its indebtedness under the
CASI note and the Datatec Note from proceeds of the Initial Public Offering.
In June 1997, the Company obtained credit for inventory purchases through
Finova Capital Corporation ("Finova"). In September 1998, the Company entered
into a new credit facility with Finova, which consists of a $20 million flooring
line of credit, secured by certain inventory and equipment, as well as an
additional $5 million revolving line of credit secured by accounts receivables
and inventory. Unless the Company fails to pay Finova within the agreed upon
period, all finance costs associated with this line are charged by Finova to the
Company's vendors. At March 31, 1999, the Company's Finova line was $20 million
and the Company had a payable to Finova Capital Corporation of approximately
$1,285,659 included in accounts payable. The Company has not provided audited
year end financial statements to Finova by June 29, 1999, and thus is not in
compliance with their agreement. Finova has waived this covenant until October
31, 1999.
Net cash used by operating activities during the year ended March 31, 1999
was primarily attributable to a loss from operations and decreases in accounts
payable and income taxes payable. Net cash provided by financing
18
<PAGE>
activities for the year ended March 31, 1999 was due primarily to proceeds from
the Company's Initial Public Offering, offset by payments on notes and deferred
offering costs, and the repurchase of stock from a shareholder. Net cash used in
investing activities was due to purchases of fixed assets, investment in a time
deposit, and the investment in OTT.
The Company believes that current funds and cash generated from operations
will be sufficient to meet its anticipated cash needs for working capital and
capital expenditures for at least the next year. The Company is dependent on the
availability of accounts receivable financing on reasonable terms and at levels
that are high relative to its equity base in order to maintain and increase its
sales. No assurance can be given that additional financing will be available or
that, if available, it can be obtained on terms favorable to the Company and its
stockholders.
General
The Company has undertaken a Year 2000 Project (the "Project"). The Project
addresses the issue of whether computer programs and imbedded computer chips
will be able to distinguish between the years 1900 and 2000.
Project
To be Year 2000 Compliant, IT and non-IT systems must (a) consistently handle
data information before, during and after January 1, 2000, including accepting
date input, providing date output, and performing calculations on dates or
portions of dates, (b) function accurately and without interruption before,
during and after January 1, 2000, without any change in operations associated
with the turn of the century, and (c) store and provide output of date
information in a manner that is not ambiguous as to the century. The Company
has completed the implementation of a new accounting system that is Year 2000
Compliant.
The Company continues to assess the computer systems of customers, vendors and
other outside parties with whom the Company does business. The Company began
this assessment during the third quarter of fiscal 1999. This assessment to
date has not revealed significant potential problems requiring the Company to
incur substantial costs.
Risks Associated with the Year 2000 Problem
The failure to correct a material Year 2000 problem could result in an
interruption in, or a failure of, certain normal business activities or
operations. Such failure could materially and adversely affect the Company's
results of operations, liquidity and financial condition. Due to the general
uncertainty inherent in the Year 2000 problem, resulting in part from the
uncertainty of the Year 2000 Compliance of third party suppliers and customers,
the Company is unable to determine at this time whether the consequences of any
Year 2000 non-compliance will have a material impact on the Company's results of
operations, liquidity or financial condition. The Project has significantly
reduced the Company's level of uncertainty about the Year 2000 problem and, in
particular, about the Year 2000 Compliance and readiness of its material
suppliers, customers and other third parties. The Company believes that, with
the implementation of the new accounting system and completion of the Project as
scheduled, the possibility of significant interruptions of normal operations has
been reduced. The Project will not,
19
<PAGE>
however, evaluate the effect of the Year 2000 problem on the computer products
industry, the software configuration industry or related industries within which
the Company does business, or the domestic or global economy. Any industry-wide
or economy-wide effects of the Year 2000 problem may have a material adverse
effect on the Company's results of operations, liquidity or financial condition.
Readers should understand that completion of the Project is conditioned
upon numerous assumptions of future events, including the availability of
certain resources, third-party modification plans and other factors. However,
there can be no guarantee that the Project objectives will be achieved, or that
there will not be a delay in, or increased costs associated with, the
implementation of the Company's Year 2000 Project. A delay in specific factors
that might cause differences between the estimates and actual results include,
but are not limited to, the availability and cost of personnel trained in these
areas, the ability of locating and correcting all relevant computer code, timely
responses to and corrections by third parties and suppliers, the ability to
implement interfaces between the new systems and the systems not being replaced,
and similar uncertainties. Due to the general uncertainty inherent in the Year
2000 problem, resulting in part from the uncertainty of the Year 2000 readiness
of third parties and the inter-connection of national and international
businesses, the Company cannot ensure that its ability to timely and cost
effectively resolve problems associated with the Year 2000 issue that may affect
its operations and business, or expose it to third party liability.
The Company's telephone system is not Year 2000 Compliant. The Company is in
the process of installing a new phone system that is Year 2000 Compliant in the
current quarter and does not believe the costs associated with this purchase
will be more than $15,000.
Inflation
The Company does not believe that inflation has had a material effect on its
results of operations. There can be no assurance, however, that the Company's
business will not be affected by inflation in the future.
CAUTIONARY STATEMENTS AND RISK FACTORS
Delisting
The Company's stock has been delisted from Nasdaq and the Boston Stock
Exchange for failure to meet their standards--primarily due to the Company's
failure to keep current its reports to the Securities Exchange Commission,
pursuant to the Securities Exchange Act of 1934.
Delisting could materially adversely affect the trading market for the
Common Stock and the Company's access to the capital markets. It will be
necessary for the Company to re-apply for initial listing once it determines
that it can meet the initial listing requirements. The Company currently cannot
qualify for initial listing with Nasdaq, and it may never meet those
qualifications.
The closing sale price of our Common Stock on August 30, 1999 was $2.25 per
share. Because the Common Stock is delisted from trading on Nasdaq and the
Boston Stock Exchange and the trading price is less than $5.00 per share,
trading in it is subject to the requirements of Rule 15g-9 promulgated under
20
<PAGE>
the Securities Exchange Act of 1934. Under this rule, broker/dealers who
recommend these low-priced securities to persons other than established
customers and accredited investors must satisfy special sales practice
requirements, including a requirement that they make an individualized written
suitability determination for the purchaser and receive the purchaser's written
consent prior to the transaction. The Securities Enforcement Remedies and Penny
Stock Reform Act of 1990 also requires additional disclosure in connection with
any trades involving a stock defined as a "penny stock" (generally any equity
security not traded on an exchange or quoted on Nasdaq that has a market price
of less than $5.00 per share, subject to certain exceptions), including the
delivery, prior to any penny stock transaction, of a disclosure schedule
explaining the penny stock market and the risks associated with the penny stock
market. These requirements would likely severely limit the market liquidity of
our Common Stock and the ability of our shareholders to dispose of their shares,
particularly in a declining market.
We face significant litigation risks resulting from our internal investigation.
In connection with the Audit Committee's investigation into certain
improprieties and record-keeping irregularities, James Ung, our President, a
Director and a significant shareholder, and Mei Yang, our Secretary, a Director
and a significant shareholder, were relieved of all executive officer and
employment responsibilities. During the course of the investigation, our Audit
Committee uncovered evidence of the unauthorized resale of certain software.
Mr. Ung and Ms. Yang each were party to employment agreements with the
Company. A termination of James Ung without "cause" (as defined in the
employment agreement), would require the payment to Mr. Ung of an amount equal
to 6 months of his then current base salary. Ms. Yang was not entitled to any
payments upon a termination without cause. Based on the information uncovered
during the investigation, we elected to treat Mr. Ung's and Ms. Yang's relief of
their executive officer and employment responsibilities as terminations for
"cause" (as defined in the employment agreements). Mr. Ung and Ms. Yang may
allege breach of their employment agreements or other injury resulting from
alleged wrongful termination of employment, libel, slander, or other alleged
wrongful or tortious acts.
In addition, due to our unauthorized resale of certain software, we face a
risk of litigation alleging damages, including punitive damages, resulting from
these unauthorized sales.
James Ung and Mei Yang continue to serve on the Board of Directors and are
significant shareholders.
We face significant risks resulting from our recent changes in high-level
management personnel and anticipated director changes.
The Board of Directors has indicated that it does not intend to nominate
James Ung or Mei Yang to serve as directors at our 1999 Annual Meeting of
Shareholders. We may be unable to locate qualified individuals to accept the
nomination of director or, if nominated, our shareholders may not elect such
individuals. The management and Board of Director changes may cause significant
disruption to our operations and relationships with vendors and customers.
These disruptions could have a material adverse affect on the Company's
business.
21
<PAGE>
We operated at a loss during the year ended March 31, 1999, and we anticipate
continuing to operate at a loss for the foreseeable future.
For the year ended March 31, 1999, our net loss was $2,999,566 compared to
net income of $723,152 for the year ended March 31, 1998. Further, due to the
significant development and marketing costs we have and will incur in the
implementation of our internet strategy, we foresee operating at a loss for the
foreseeable future. If, other than in the short run, we continue to operate at
a loss and are unable to finance our operations through additional sales of our
securities, we risk our ability to continue as a going concern.
We have only limited experience with Internet and e-commerce operations.
We have only been selling products via our suredeals.com website since
-------------
April 1999 and have not yet provided products via sureauctions.com, our auctions
----------------
website. While we have attempted to consult with experienced Internet
professionals in the development of these websites, we have only limited
knowledge and experience with Internet and e-commerce operations. We can give
no assurance that our Internet strategy will achieve market acceptance, or that
our Internet websites will ever achieve profitability.
We face intense competition in the Internet e-commerce industry.
We face intense competition in the Internet e-commerce industry from other
e-commerce businesses, many of whom have significantly greater access to
capital, significantly greater name or brand recognition in the market, and
greater experience in the Internet e-commerce industry. In the computer
products e-commerce business, these competitors include Valueamerica, Buy.com,
Onsale, Dell, Gateway, etc. We can give no assurance that we will be able to
compete successfully against these or other Internet e-commerce competitors.
Further, due to the relatively low cost of developing and implementing an e-
commerce website, we are likely to encounter competition from additional
companies other than those set forth above.
We have only a limited operating history.
We commenced operations in April 1996. Therefore, there is only limited
financial information in existence upon which an investment decision may be
based. Although we were profitable as of March 31, 1998, we did not achieve
profitability for our fiscal year 1999. The Company's ability to regain
profitability will depend in part upon its ability to compete successfully in
the Internet e-commerce industry. Our likelihood of success in competing in the
Internet e-commerce industry must be considered in light of our inexperience in
the industry and the relative strength of our competitors. Our likelihood of
success in implementing our ACSA Centers must be considered in light of the
difficulties and risks inherent in a new business. Revenues may not increase
significantly in the future and the Company may never achieve profitable
operations from its Internet e-commerce business or its ACSA Center business.
The Company may never be profitable again.
Our future operating results may fluctuate and are unpredictable. If we fail to
meet the expectations of public market analysts and investors, the market price
of our common stock may decline significantly.
Our limited operating history and the recent change in the focus of our
business make it difficult to forecast accurately our revenues, operating
22
<PAGE>
expenses and operating results. As a result, we may be unable to adjust our
spending in a timely manner to compensate for any unexpected revenue shortfall.
We may also be unable to increase our spending and expand our operations in a
timely manner to meet customer demand should it exceed our expectations.
Our future operating results may fluctuate significantly due to a variety of
factors, many of which are outside of our control. These factors include, but
are not limited to:
. our ability to retain existing customers, attract new customers and maintain
customer satisfaction;
. the introduction of new or enhanced Web pages, services and products; price
competition or higher wholesale prices; our ability to manage inventory
levels;
. decreases in the number of visitors to our Web sites or our inability to
convert visitors to our Web sites into customers;
. the termination of existing, or failure to develop new, strategic marketing
relationships through which we receive exposure to traffic on third-party Web
sites; increases in the cost of online or offline advertising;
. our ability to attract new personnel in a timely and effective manner or
retain existing personnel; unexpected increases in shipping costs or delivery
times; government regulations related to use of the Internet for commerce;
. our ability to maintain, upgrade and develop our Web sites, transaction
processing systems or network infrastructure; technical difficulties, system
downtime or Internet brownouts;
. the amount and timing of operating costs and capital expenditures relating to
expansion of our business, operations and infrastructure;
. and the timing of promotions and sales programs.
As a result of the factors listed above, our quarterly or annual results of
operations in future periods may not meet the expectations of securities
analysts or investors. This could result in a decline in the value of our
common stock.
We face risks related to a shift in our business strategy.
As described in the section entitled "Business," above, we have shifted
away from the computer products distribution business to an Internet e-commerce
and system configuration businesses, and we intend to focus our marketing and
development efforts into the Internet e-commerce and systems configuration
businesses in the future. However, if we are not successful in our efforts to
generate significant revenues from our Internet e-commerce and system
configuration businesses, our revenues will decrease significantly. There can
be no assurance that we will be successful in our efforts to generate
significant revenues from our Internet e-commerce and system configuration
businesses.
We are dependent upon key personnel.
23
<PAGE>
On September 8, 1999, the Board of Directors of the Company elected John L.
Davidson as its President and Chief Executive Officer. Although we have
recently reassigned Max Toghraie, formerly our Chief Executive Officer, and Jeff
Toghraie, formerly our Chief Operating Officer to the positions of Executive
Vice President and Vice President Marketing, respectively we continue to be
dependent upon each for their services. Our success to date has been in part
dependent upon their efforts and abilities, and the loss of their services for
any reason could have a material adverse effect. In addition, while we have
historically employed executives and employees with knowledge and experience in
the computer products distribution industry, we are attempting to employ
executives and employees with significant knowledge and abilities in the
Internet e-commerce and system configuration industries. Our future success
will be strongly influenced by our ability to continue to recruit, train and
retain a skilled work force. While we believe that we would be able to locate
suitable replacements for our executives or other personnel if their services
were lost to us, there can be no assurance that we would be able to do so on
terms acceptable to us. We maintain a key-man life insurance policy on the life
of Max Toghraie with benefits of $1,000,000, payable to us in the event of his
death. We do not believe that any benefits received under this policy would be
sufficient to compensate us for the loss of Max Toghraie's services should a
suitable replacement not be employed. We do not maintain a key-man life
insurance policy on the life of Jeff Toghraie.
We may be required to seek additional financing to fund continued operations.
Our Internet e-commerce business is capital intensive, because we are
required to finance the purchase of Computer Products in order to fill sales
orders. In order to obtain necessary capital, we rely primarily on unsecured
vendor credit lines and a line of credit provided by Finova Capital Corporation.
Our line of credit with Finova is collateralized by accounts receivable and
inventory. We are currently in breach of one of our financial covenants to
Finova. As a result, the amount of credit available to us may be adversely
affected by factors such as delays in collection or deterioration in the quality
of our accounts receivable, economic trends in the Internet e-commerce or
computer industries, interest rate fluctuations and the lending or credit
policies of the Company's lenders and vendors. Many of these factors are beyond
our control.
Further, we must obtain Finova's written permission prior to arranging
other financing, and Finova may require certain acknowledgments. There can be
no assurance that Finova will permit additional financing or that other lenders
will provide the acknowledgments and undertakings Finova may require. Any
decrease or material limitation on the amount of capital available to us under
our financing arrangements or vendor credit lines will limit our ability to fill
existing sales orders or expand our sales levels and, therefore, could have a
material adverse effect on the Company's financial position, operating results,
and cash flows. In addition, while we do not have significant exposure to
interest rate fluctuations under our current financing, any significant
increases in interest rates will increase the cost of possible future financing
which could have a material adverse effect on our financial position, operating
results, and cash flows.
We face risks of product returns.
As is typical of Internet e-commerce retailers, we incur expenses as a
result of the return of products by customers. Further, we may continue to
24
<PAGE>
incur expenses from the return of products sold through our computer products
distribution business. Returns may result from defective goods, inadequate
performance relative to customer expectations, shipping errors and other causes,
many of which are outside our control.
We face risks related to our attempts to implement ACSA, which has been faced
with numerous delays.
Our ability to successfully implement, market and introduce the ACSA
Solution services on a timely basis will be a significant factor in our ability
to improve our operating margins and remain competitive. Our ability to market
the ACSA Solution successfully will depend on our ability to convince potential
customers of the benefits of the ACSA Solution. While we have completed the
physical construction of an ACSA Center at our offices in Industry, California,
no ACSA Center is currently operational and we currently have no sales revenue
attributable to ACSA. Although we have had general discussions with a number of
potential customers, there can be no assurance that these discussions will lead
to significant sales of the ACSA Solution, or that the market will accept the
ACSA Solution. There can be no assurance we will successfully implement, market
and sell ACSA Solution services. If we fail to anticipate or respond in a cost-
effective and timely manner to market trends or customer requirements, or
further delay significantly the introduction of ACSA services, our business,
operating results and financial condition could suffer.
The success of ACSA is partially dependent upon the assistance and cooperation
of a third party vendor.
Under our license agreement with Computer-Aided Software Integration, Inc.
("CASI"), CASI retains the source code of the Configurator software required to
operate the automated software configuration functions of ACSA, and retains all
rights to modify and enhance the Configurator software. CASI has agreed to
provide us with all enhancements and upgrades to the Configurator software used
internally or distributed by CASI to its customers, and to develop additional
enhancements requested by us at our expense. If CASI fails to promptly and
adequately perform its obligations under its license agreement with us, our
ability to exploit fully the ACSA Solution would likely suffer. Because we have
no capability to develop internally any enhancements or upgrades to the
software, if CASI fails or delays to fulfill our anticipated needs for
enhancement and upgrading of the Configurator software, it will be significantly
more difficult for us to market ACSA services and to become and remain
competitive in the software configuration market.
We have only a limited ability to market our products.
Our operating results will depend to a large extent on our ability to
successfully market our Internet e-commerce and auction websites and our ACSA
services to personal computer manufacturers and multi-user system buyers. We
currently have limited marketing capability. While we intend to market
aggressively our Internet e-commerce and auction websites and our ACSA services,
there can be no assurance that our marketing efforts will be successful.
We face risks from rapidly changing technology.
25
<PAGE>
The market for ACSA technology is characterized by rapidly changing
technology and frequent new product introductions. Even if ACSA gains initial
market acceptance, our long term success will depend, among other things, upon
our ability to enhance ACSA services and to develop and introduce new products
and services that keep pace with technological developments.
Further, due to our lengthy delays in implementing ACSA services, competing
software configuration technologies have had an opportunity to gain market
acceptance and achieve a level of public recognition that may make it more
difficult for us to effectively market and sell ACSA services. There can be no
assurance that we will be able to identify, develop, manufacture, market or
support new products or offer new services successfully, that such new products
or services will gain market acceptance, or that we will be able to respond
effectively to technological changes or product announcements by competitors.
If we fail to anticipate or respond adequately to technological developments and
customer requirements or delay significantly product development or
introductions, we could lose market share and revenues.
We face risks arising from seasonality.
A significant portion of our business is expected to be derived from the
consumer market, which is characterized by seasonality. Sales tend to be higher
in the back-to-school period and pre-holiday period. As a result, sales tend to
be lower in other periods, particularly in the summer months. Because our
expenses are to a large extent fixed, this results in generally weaker operating
results in the summer months.
We face risks arising from industry cyclicality.
The personal computer industry has been affected historically by general
economic downturns, which have had an adverse economic effect upon resellers and
manufacturers of personal computers such as the Company. In addition, the life
cycle of existing personal computer products and the timing of new product
development and introduction can affect demand for personal computers. Any
downturns in the personal computer component distribution industry, or the
personal computer industry in general, could adversely affect our business and
results of operations.
We do not anticipate declaring dividends in the foreseeable future.
We have never declared or paid dividends on our Common Stock and we do not
intend for the foreseeable future to declare or pay any cash dividends.
Instead, we intend to retain earnings, if any, for the future operation and
expansion of our business.
Disclosure regarding forward-looking statements.
This Report contains statements that constitute "forward-looking
statements" within the meaning of Section 21E of the Securities Exchange Act of
1934 and Section 27A of the Securities Act of 1933. The words "expect,"
"estimate," "anticipate," "predict," "believe," and similar expressions and
variations thereof are intended to identify forward-looking statements. Such
statements appear in a number of places in this filing and include statements
regarding the intent, belief or current expectations of the Company, its
Directors or Officers with respect to, among other things (a) trends effecting
the financial condition of results of operations of the Company and (b) the
business and growth strategies of the Company. The shareholders of the
26
<PAGE>
Company are cautioned not to put undue reliance on such forward-looking
statements. Such forward-looking statements are not guarantees of future
performance and involve risks and uncertainties. Actual results may differ
materially from those projected in this Filing, for the reasons, among others,
discussed in "Future Operating Results" below and under the caption,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and "Risk Factors" in the Company's Annual Report on Form 10-K for
Fiscal 1999, filed with the Securities and Exchange Commission. The Company
undertakes no obligation to publicly revise these forward-looking statements to
reflect events or circumstances that arise after the date hereof. Readers should
carefully review the risk factors referred to above and the other documents the
Company files from time to time with the Securities and Exchange Commission,
including the Company's Annual Report on Form 10-K for the fiscal year 1999, the
quarterly filings on Form 10-Q filed by the Company during the remainder of
fiscal 2000, and any current filings on Form 8-K filed by the Company.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
Not applicable.
27
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
CUMETRIX DATA SYSTEMS CORP
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
<S> <C>
Report of Independent Public Accountants..................................................................... F-2
Balance Sheets as of March 31, 1999 and March 31, 1998....................................................... F-3
Statements of Operations for the years ended March 31, 1999 and 1998, and the period from April 2,
1996 (inception) to March 31, 1997.......................................................................... F-4
Statements of Shareholders' Equity for the years ended March 31, 1999 and 1998, and the period from
April 2, 1996 (inception) to March 31, 1997................................................................. F-5
Statements of Cash Flows for the years ended March 31, 1999 and 1998, and the period from April 2,
1996 (inception) to March 31, 1997.......................................................................... F-6
Notes to the Financial Statements............................................................................ F-7
</TABLE>
F-1
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Cumetrix Data Systems Corp.:
We have audited the accompanying balance sheets of Cumetrix Data Systems
Corp. (a California corporation, formerly "Data Net International, Inc.") as of
March 31, 1999 and 1998, and the related statements of operations, shareholders'
equity and cash flows for the years ended March 31, 1999 and 1998 and the period
from April 2, 1996 (inception) to March 31, 1997. 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 Cumetrix Data Systems Corp.
as of March 31, 1999 and 1998, and the results of its operations and its cash
flows for the years ended March 31, 1999 and 1998, and the period from April 2,
1996 (inception) to March 31, 1997 in conformity with generally accepted
accounting principles.
ARTHUR ANDERSEN LLP
Los Angeles, California
August 31, 1999
F-2
<PAGE>
CUMETRIX DATA SYSTEMS CORP.
BALANCE SHEETS
<TABLE>
<CAPTION>
ASSETS March 31, 1999 March 31, 1998
----------------- -----------------
CURRENT ASSETS:
<S> <C> <C>
Cash and cash equivalents.................................................. $ 6,743,198 $ 4,415,690
Time Deposits.............................................................. 1,500,000 -
Trade receivables, net of allowance for doubtful accounts of
$280,000 and $57,000 at March 31, 1999 and 1998, respectively............. 1,864,685 3,885,803
Receivables from unauthorized parties...................................... 87,000 -
Inventories................................................................ 2,320,127 2,001,597
Income taxes receivable.................................................... 262,430 -
Deferred taxes............................................................. - 133,647
Prepaid expenses........................................................... 149,555 45,983
------------ -------------
Total current assets.................................................... 12,926,995 10,482,720
FIXED ASSETS, net 504,363 87,538
OTHER ASSETS:
Deferred offering costs.................................................... - 514,927
Capitalized purchased software costs....................................... - 1,100,000
Investment in affiliate.................................................... 878,000 -
Other...................................................................... 14,429 -
------------ -------------
Total Assets............................................................ $14,323,787 $12,185,185
============ =============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable........................................................... $ 3,945,595 $ 7,822,652
Accrued expenses........................................................... 114,964 126,917
Accrued legal and other.................................................... 442,000 -
Accrued offering costs..................................................... - 514,927
Income taxes payable....................................................... - 717,013
Current portion of long-term debt.......................................... 4,054 1,203,707
------------ -------------
Total current liabilities............................................... 4,506,613 10,385,216
LONG-TERM DEBT, net of current portion........................................ 4,810 8,864
COMMITMENTS AND CONTINGENCIES
SHAREHOLDERS' EQUITY:
Preferred stock, no par value: Authorized, 2,000,000 shares; issued
and outstanding, none....................................................... - -
Common stock, no par value: Authorized, 20,000,000 shares; issued and
outstanding, 7,392,500 and 4,750,000 at March 31, 1999 and 1998,
respectively................................................................ 12,063,414 1,042,589
Retained earnings (deficit).................................................. (2,251,050) 748,516
------------ -------------
Total shareholders' equity.............................................. 9,812,364 1,791,105
------------ -------------
Total liabilities and shareholders' equity.............................. $14,323,787 $12,185,185
============ =============
</TABLE>
The accompanying notes are an integral part of these balance sheets.
F-3
<PAGE>
CUMETRIX DATA SYSTEMS CORP.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
For the Period
From April 2,
For the Year For the Year 1996
Ended March 31, Ended March (Inception) to
1999 31, 1998 March 31, 1997
------------------- ------------------ ------------------
<S> <C> <C> <C>
NET SALES.................................................. $63,813,350 $72,495,474 $25,940,203
COST OF PRODUCTS........................................... 62,911,633 69,468,497 25,139,001
------------------- ------------------ ------------------
Gross profit............................................ 901,717 3,026,977 801,202
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES............... 3,292,569 1,542,294 751,133
WRITE-OFF OF CAPITALIZED PURCHASED SOFTWARE................ 1,100,000 - -
------------------- ------------------ ------------------
Income(loss)from operations............................. (3,490,852) 1,484,683 50,069
INTEREST INCOME............................................ (514,345) (68,158)
INTEREST EXPENSE........................................... 4,652 239,791 9,334
LOSS ON EQUITY INVESTMENT.................................. 122,000 - -
OTHER (INCOME) EXPENSE, NET................................ (1,365) 10,160 5,871
------------------- ------------------ ------------------
Income(loss)before provision for income taxes........... (3,101,794) 1,302,890 34,864
PROVISION (BENEFIT)FOR INCOME TAXES........................ (102,228) 579,738 9,500
------------------- ------------------ ------------------
NET INCOME(LOSS)........................................... $(2,999,566) $ 723,152 $ 25,364
=================== ================== ==================
BASIC AND DILUTED (LOSS)EARNINGS PER SHARE................. $ (0.41) $ 0.16 $ 0.01
=================== ================== ==================
</TABLE>
The accompanying notes are an integral part of these statements.
F-4
<PAGE>
CUMETRIX DATA SYSTEMS CORP.
STATEMENTS OF SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
Common Stock Retained
------------------------------------------ Earnings
Shares Amount (Deficit) Total
--------------- ---------------- -------------- -----------
<S> <C> <C> <C> <C>
Balance, April 2, 1996 (inception) - $ - $ - $ -
Sale of common stock....................... 4,384,236 250,000 - 250,000
Net income................................. - - 25,364 25,364
---------- ------------ --------- ----------
Balance, March 31, 1997...................... 4,384,236 250,000 25,364 275,364
Sale of common stock, net of
offering expenses of $233,641............. 365,764 717,589 - 717,589
Issuance of warrants in connection with
private placement, net of offering
expenses of $21,287....................... - 38,047 - 38,047
Issuance of warrants in exchange........... -
for services.............................. 36,953 - 36,953
Net income................................. - - 723,152 723,152
---------- ------------ ----------- ----------
Balance, March 31, 1998...................... 4,750,000 1,042,589 748,516 1,791,105
Sale of common stock, net of
offering expenses of $2,309,028........... 2,702,500 11,203,472 - 11,203,472
Repurchase of common stock................. (60,000) (300,000) - (300,000)
Issuance of warrants and options
in exchange for services.................. - 117,353 - 117,353
Net loss................................... - - (2,999,566) (2,999,566)
---------- ------------ ------------ -----------
Balance, March 31, 1999...................... 7,392,500 $ 12,063,414 $ (2,251,050) $ 9,812,364
========== ============ ============ ===========
</TABLE>
The accompanying notes are an integral part of these statements.
F-5
<PAGE>
CUMETRIX DATA SYSTEMS CORP.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
For the
Period From
April 2,
For the 1996
Year Ended For the Year (Inception)
March 31, Ended March 31, to March
1999 1998 31, 1997
-------------- --------------- -----------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss).................................................. $(2,999,566) $ 723,152 $ 25,364
Adjustments to reconcile net income (loss) to
net cash and cash equivalents provided by
(used in) operating activities:
Depreciation and amortization................................ 89,800 8,934 6,634
Amortization of deferred financing costs..................... -- 214,405 --
Provision for doubtful accounts.............................. 345,598 91,310 50,329
Loss on equity investment in affiliate....................... 122,000 -- --
Write-off of capitalized purchase software................... 1,100,000 -- --
Loss on receivable from director............................. -- 100,000 --
Issuance of warrants and options for
services.................................................. 117,353 36,953 --
Changes in assets and liabilities:
Trade receivables............................................ 1,675,520 (3,124,023) (903,419)
Receivables from unauthorized parties........................ (87,000) -- --
Inventories.................................................. (393,530) (1,670,038) (331,559)
Deferred taxes............................................... 133,647 (121,647) (12,000)
Income tax receivable........................................ (262,430) -- --
Prepaid expenses............................................. (103,572) (11,684) (5,318)
Other assets................................................. (14,429) (28,981) (1,500)
Accounts payable............................................. (3,877,057) 6,367,513 1,455,139
Accrued expenses............................................. 430,047 39,643 87,274
Income taxes payable......................................... (717,013) 695,513 21,500
----------- ---------- ----------
Net cash provided by (used in) operating
activities............................................. (4,440,632) 3,321,050 392,444
----------- ---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of fixed assets.................................... (431,625) (62,694) (38,912)
Investment in time deposits.................................. (1,500,000) -- --
Investment in affiliate...................................... (1,000,000) -- --
Purchase of investment guaranteed by director................ -- -- (100,000)
Receivables from related parties............................. -- 39,700 (39,700)
----------- ---------- ----------
Net cash used in investing activities..................... (2,931,625) (22,994) (178,612)
----------- ---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from bank borrowings................................. -- -- 18,820
Payments on bank borrowings................................... -- -- (2,856)
Proceeds from notes, net...................................... -- 185,595 --
Payments on notes............................................. (1,203,707) (303,393) --
Proceeds from stock and warrant issuances, net................ 11,203,472 755,636 250,000
Repurchase of common stock.................................... (300,000) -- --
----------- ---------- ----------
Net cash provided by financing activities................. 9,699,765 637,838 265,964
----------- ---------- ----------
NET INCREASE IN CASH AND CASH EQUIVALENTS............................. 2,327,508 3,935,894 479,796
CASH AND CASH EQUIVALENTS, beginning of period........................ 4,415,690 479,796 --
----------- ---------- ----------
CASH AND CASH EQUIVALENTS, end of period.............................. $ 6,743,198 $4,415,690 $ 479,796
=========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these statements.
F-6
<PAGE>
CUMETRIX DATA SYSTEMS CORP.
NOTES TO FINANCIAL STATEMENTS
MARCH 31, 1999
1. Line of Business
Cumetrix Data Systems Corp., (the Company), was incorporated on April 2,
1996 in the state of California. The Company has two separately managed
segments; Computer Products which distributes computer peripherals, components
and accessories, and Computer System Assembly, which assembles computer systems.
The Company currently sells a majority of its products to distributors, systems
integrators, and retail stores. Since April 1999, the Company's principal
business has been the electronic sales and marketing of computer systems and
components through a direct business to business and business to consumer model.
The Company markets its products and services through its internet website,
suredeals.com, other internet marketing partners such as Onsale, Inc. and its
outside sales representatives and telemarketing sales representatives.
2. Summary of Significant Accounting Policies and Risk Factors
a. Cash and cash equivalents and time deposits
Cash includes currency on hand and deposit accounts to which funds may be
deposited or withdrawn at any time without prior notice or penalty. The Company
considers all highly liquid investments with original maturities of three months
or less to be cash equivalents. The carrying value of cash equivalents
approximates fair value. At times, cash balances in the Company's accounts may
exceed federally insured limits.
At March 31, 1999, the Company had time deposits of $1.5 million with an
original maturity of one year and are not considered cash equivalents.
b. Trade Receivables
Trade receivables represent unsecured balances due from its customers with
the Company at risk to the extent such amounts become uncollectible. The
Company performs credit evaluations of each of its customers and maintains
allowances for potential credit losses. Such losses have generally been within
management's expectations (See Note 5).
c. Inventories
Inventories consist primarily of purchased finished goods and are stated at
the lower of cost or market; cost is determined using the first-in, first-out
method of accounting.
F-7
<PAGE>
d. Fixed Assets
Depreciation is provided on the straight-line method over the estimated
useful lives of the assets. Estimated useful lives are as follows:
Furniture and fixtures 7 years
Machinery and equipment 3-5 years
Software 2 years
Leasehold improvements 5 years
Vehicles 5 years
The Company's fixed assets are recorded at cost. Ordinary maintenance and
repairs are charged to operations as incurred. When assets are sold or otherwise
disposed of, the recorded cost and related accumulated depreciation or
amortization are removed from the accounts and any resulting gain or loss is
recognized.
e. Deferred Offering Costs
Costs associated with offerings of Company common shares were initially
capitalized and then netted with the proceeds received from the sale of the
common shares when the offering was completed. At March 31, 1998 offering costs
of $514,927 incurred in connection with the Company's initial public offering
were capitalized.
f. Deferred Financing Costs
Debt issuance costs are initially capitalized as deferred financing costs
and amortized over the terms of the notes using the effective interest rate
method.
g. Capitalized Purchased Software Costs
Capitalized purchased software costs represented the license fee paid to
Computer-Aided Software Integration, Inc. (CASI) for certain configuration
software (see Note 10).
h. Statement of Cash Flows
The Company prepares its statement of cash flows using the indirect method
as defined under Statement of Financial Accounting Standards No. 95 (SFAS No.
95). In July 1997, the Company licensed software for $1,100,000 by issuing a
note and obtaining a loan from a related party (see Note 5). In fiscal 1999, the
Company transferred approximately $75,000 of inventory items to fixed assets. In
fiscal 1998, the Company issued warrants in exchange for professional services
in connection with the private placement. The costs associated with these
warrants of $36,953 was calculated using the Black-Scholes model and was
allocated to debt ($10,696), common stock ($24,065), and warrants ($2,192), in
accordance with Accounting Principles Board Opinion No. 14 (See Note 8).
Supplemental disclosures of cash flow information are as follows:
<TABLE>
<CAPTION>
March 31, March 31, March 31,
1999 1998 1997
------------ ------------ ------------
<S> <C> <C> <C>
Cash paid for interest.............................. $ 17,652 $ 26,720 $ 1,431
Cash paid for income taxes.......................... $ 730,000 $ 20,000 $ -
</TABLE>
F-8
<PAGE>
i. Use of Estimates
The preparation of the financial statements in conformity with generally
accepted accounting principles requires management 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 and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
j. Concentration of Risk
During the years ended March 31, 1999, 1998 and the period from April 2,
1996 (inception) to March 31, 1997, one vendor accounted for 55%, 64% and 43%
of purchases, respectively. There are many vendors in this industry and
management believes that other vendors could provide similar products on
comparable terms. Management believes that a change in suppliers would not cause
any material effect to the Company's operations or loss of sales.
During the year ended March 31, 1999 and fiscal 1997, no customer accounted
for more than 10 percent of net sales. During the year ended March 31, 1998 one
customer accounted for 11 percent of sales.
k. Revenue Recognition
Net sales are generated from the sale of components and systems. Systems
include ready-to-use computers that have been assembled and have software
already installed. Components sales consist of individual hardware items.
Revenue is recorded at the time of shipment, net of allowances for
estimated sales returns.
l. Income Taxes
The Company accounts for income taxes in accordance with SFAS No. 109,
"Accounting for Income Taxes". Under SFAS No. 109, deferred income tax assets
or liabilities are computed based on the temporary difference between the
financial statement and income tax basis of assets and liabilities using the
enacted marginal tax rate in effect for the year in which the differences are
expected to reverse. Deferred income tax expenses or credits are based on the
changes in the deferred income tax assets or liabilities from period to period.
m. Income Per Common Share
Income per common share is based on the weighted average number of shares
of common stock and common stock equivalents outstanding during the related
periods.
A summary of the shares used to compute earnings per share is as follows:
<TABLE>
<CAPTION>
For the Period
From
April 2, 1996
For the Year For the Year (Inception)
Ended March Ended March to March 31,
31, 1999 31, 1998 1997
------------ ------------ -------------
<S> <C> <C> <C>
</TABLE>
F-9
<PAGE>
<TABLE>
<S> <C> <C> <C>
Weighted average common shares used to compute basic
earnings per share..................................... 7,364,828 4,544,759 3,310,573
Effect of dilutive securities:
Stock options........................................ - 64,257 -
Warrants............................................. - 30,025 -
---------- ---------- ----------
Weighted average common shares used to compute diluted
earnings per share..................................... 7,364,828 4,639,041 3,310,573
========== ========== ==========
</TABLE>
Options and warrants to purchase 604,401 shares of Common Stock at prices
ranging from $2.70 to $5.00 were outstanding at March 31, 1999, but were not
included in the computation of diluted earnings per share, as the impact would
be antidilutive.
n. Risk Factors
We face significant litigation risks resulting from our internal
investigation - On July 13, 1999, we announced the preliminary results of our
Audit Committee's investigation into certain improprieties and record-keeping
irregularities. In connection with the investigation, James Ung, our President,
a director and a significant shareholder, and Mei Yang, our Secretary, a
director and a significant shareholder, were relieved of all executive officer
and employment responsibilities held by them. During the course of the
investigation, our Audit Committee uncovered evidence of the unauthorized resale
of OEM versions of certain software.
In addition, due to our unauthorized resale of OEM versions of certain
software, we face significant risk of litigation from the software manufacturer
alleging damages, including punitive damages, resulting from these unauthorized
sales. Although we have been in discussions with the manufacturer's attorneys
and are hopeful that we can settle this matter with the manufacturer prior to
litigation, there can be no assurance that we will be successful in reaching a
settlement with the manufacturer or, if a settlement is reached, that the terms
of the settlement will be favorable to us.
Nasdaq and Boston Stock Exchange delisting - The Company's stock has been
delisted from Nasdaq and the Boston Stock Exchange for failure to meet their
standards--primarily due to the Company's failure to keep current its reports to
the Securities Exchange Commission, pursuant to the Securities Exchange Act of
1934.
Delisting will materially adversely affect the trading market for the
Common Stock and the Company's access to the capital markets. It will be
necessary for the Company to re-apply for initial listing once it determines
that it can meet the initial listing requirements. The Company currently cannot
qualify for initial listing with Nasdaq, and it may never meet those
qualifications.
The closing sale price of our Common Stock on August 30, 1999 was $2.25 per
share. Because the Common Stock is delisted from trading on Nasdaq and the
Boston Stock Exchange and the trading price is less than $5.00 per share,
trading in it is subject to the requirements of Rule 15g-9 promulgated under the
Securities Exchange Act of 1934. Under this rule, broker/dealers who recommend
these low-priced securities to persons other than established customers and
accredited investors must satisfy special sales practice requirements, including
a requirement that they make an individualized written
F-10
<PAGE>
suitability determination for the purchaser and receive the purchaser's written
consent prior to the transaction. The Securities Enforcement Remedies and Penny
Stock Reform Act of 1990 also requires additional disclosure in connection with
any trades involving a stock defined as a "penny stock" (generally any equity
security not traded on an exchange or quoted on Nasdaq that has a market price
of less than $5.00 per share, subject to certain exceptions), including the
delivery, prior to any penny stock transaction, of a disclosure schedule
explaining the penny stock market and the risks associated with the penny stock
market. These requirements will severely limit the market liquidity of our
Common Stock and the ability of our shareholders to dispose of their shares,
particularly in a declining market.
We face risks related to our attempts to implement our fully automated
systems integration and configuration process, referred to as the Automated
Custom System Assembly Solution (the "ACSA Solution" ), which has been faced
with numerous delays - Our ability to successfully implement, market and
introduce the ACSA Solution services on a timely basis will be a significant
factor in our ability to improve our operating margins and remain competitive.
Our ability to market the ACSA Solution successfully will depend on our ability
to convince potential customers of the benefits of the ACSA Solution. After
numerous delays in the launch of the ACSA Solution, we have only recently
commenced marketing efforts. While we have completed the physical construction
of an ACSA Center at our offices in Industry, California, no ACSA Center is
currently operational and we currently have no sales revenue attributable to
ACSA. Although we have been engaged in negotiations and discussions with a
number of potential customers, there can be no assurance that these discussions
will lead to significant sales of the ACSA Solution, or that the market will
accept the ACSA Solution. There can be no assurance we will successfully
implement, market and sell ACSA Solution services. If we fail to anticipate or
respond in a cost-effective and timely manner to market trends or customer
requirements, or further delay significantly the introduction of ACSA services,
our business, operating results and financial condition could suffer. (See Note
10)
We face risks from rapidly changing technology - The market for ACSA
technology is characterized by rapidly changing technology and frequent new
product introductions. Even if ACSA gains initial market acceptance, our long
term success will depend, among other things, upon our ability to enhance ACSA
services and to develop and introduce new products and services that keep pace
with technological developments.
Further, due to our lengthy delays in implementing ACSA services, competing
software configuration technologies have had an opportunity to gain market
acceptance and achieve a level of public recognition that may make it more
difficult for us to effectively market and sell ACSA services. There can be no
assurance that we will be able to identify, develop, manufacture, market or
support new products or offer new services successfully, that such new products
or services will gain market acceptance, or that we will be able to respond
effectively to technological changes or product announcements by competitors.
If we fail to anticipate or respond adequately to technological developments and
customer requirements or delay significantly product development or
introductions, we could lose market share and revenues.
Foreign Suppliers Regulation - A significant number of the products
distributed by the Company are manufactured in Taiwan, China, Korea and the
Philippines. The purchase of goods manufactured in foreign countries is subject
to a number of risks, including economic disruptions, transportation
F-11
<PAGE>
delays and interruptions, foreign exchange rate fluctuations, imposition of
tariffs, import and export controls and changes in governmental policies, any of
which could have a material adverse effect on the Company's business and results
of operations. While the Company does not believe that any of these factors
adversely impact its business significantly at present, there can be no
assurance that these factors will not materially adversely affect the Company in
the future. Any significant disruption in the delivery of merchandise from the
Company's suppliers, substantially all of whom are foreign, would also have a
material adverse impact on the Company's business and results of operations.
Currently all purchases are made in U.S. dollars.
o. Investment in Affiliate
Investment in affiliate at March 31, 1999 consists of a 29% interest in
Online Transaction Technologies, Inc. (OTT) with an option to acquire an
additional 21%. OTT is a development stage enterprise and is developing internet
auction software. The Company accounts for this investment under the equity
method of accounting. The Company's investment provided substantially all of
OTT's working capital.
p. Segment Reporting
In June 1997, the FASB issued SFAS No. 131 (SFAS 131). "Disclosures about
Segments of an Enterprise and Related Information." SFAS 13 redefines the way
publicly held companies report information about segments. The Statement is
effective for fiscal years beginning after December 15, 1997. Currently, the
Company operates in two separately managed business segments, Computer Products
and Computer System Assembly. However, the Computer System Assembly operations
were not material for any of the periods presented.
q. Reclassifications
Certain prior year balances have been reclassified to conform to the
current year presentation.
F-12
<PAGE>
3. Fixed Assets, net
Fixed assets, net, consist of the following:
<TABLE>
<CAPTION>
March 31,
1999 1998
------------------ ------------------
<S> <C> <C>
Furniture and fixtures............................................ $ 93,070 $ 52,972
Machinery and equipment........................................... 338,967 27,021
Capitalized Accounting Software................................... 116,648 -
Leasehold Improvements............................................ 29,998 293
Trucks and Autos.................................................. 29,548 21,320
------------------ ------------------
608,231 101,606
Less-Accumulated depreciation and amortization.................... (103,868) (14,068)
------------------ ------------------
$ 504,363 $ 87,538
================== ==================
</TABLE>
4. Income Taxes
The provision (benefit) for income taxes is comprised of the following:
<TABLE>
<CAPTION>
March 31,
----------------------------------------------
1999 1998 1997
------------ ----------- ------------
<S> <C> <C> <C>
Components of Provision
Current:
Federal...................................... $(235,875) $550,986 $14,500
State........................................ - 150,399 7,000
Deferred:
Federal...................................... 102,680 (93,460) (8,700)
State........................................ 30,967 (28,187) (3,300)
------------ ----------- ------------
Provision (benefit) for income taxes......... $(102,228) 579,738 $ 9,500
============ =========== ===========
</TABLE>
The approximate effect of the temporary differences which gave rise to
significant deferred tax liabilities and assets are as follows:
<TABLE>
<CAPTION>
March 31,
1999 1998
------------------- -----------------
Temporary Differences
<S> <C> <C>
Depreciation and amortization................. $ (12,183) $ 75,073
Reserves...................................... 971,282 32,234
Unicap........................................ 66,523 16,055
Accrued Liabilities........................... 12,745 10,285
NOL........................................... 36,065 -
Valuation Allowance........................... (1,074,432) -
------------------- -----------------
$ - $ 133,647
=================== =================
</TABLE>
F-13
<PAGE>
The reconciliations between the benefit for income taxes and the amounts
computed by applying the federal statutory rate of 34% to pre-tax income (loss)
consists of the following:
<TABLE>
<CAPTION>
March 31,
---------------------------------------------------------
1999 1998 1997
------------ ------------ ------------
<S> <C> <C> <C>
Rate Reconciliation
Federal (benefit) provision at statutory
rate......................................... $(1,054,610) $ 442,983 $ 11,854
State, net of Fed Benefit..................... (180,971) 99,263 2,092
Permanent Differences......................... 44,703 4,504 500
Valuation Allowance........................... 1,074,432 - -
Other......................................... 14,218 32,988 (4,946)
----------- --------- ---------
$ (102,228) $ 579,738 $ 9,500
=========== ========= =========
</TABLE>
The Company has recorded a valuation allowance in the amount set forth above
for temporary differences and net operating loss carryforwards where it is not
more likely than not the Company will receive future tax benefits.
As of March 31, 1999, the Company has approximately $500,000 in state net
operating losses (NOL) carryforwards. These NOL carryforwards will expire
through 2004.
5. Related Party Transactions
The receivable from director at March 31, 1997 resulted from the purchase
by the Company of 200,000 shares and 100,000 warrants for $100,000 in
Evolutions, Inc. (Evolutions) which at March 31, 1997, was personally guaranteed
by a director of the Company. Subsequent to June 13, 1997, the board of
directors and shareholders voted to release this director from this guarantee as
partial inducement for this individual to accept additional management
responsibilities at the Company, including agreeing to become the Chief
Executive Officer. The Company has determined, due to significant cash flow
difficulties encountered by Evolutions, that its investment is worthless.
Accordingly, the Company has recorded a $100,000 loss during fiscal 1998 which
is included in selling, general and administrative expenses.
In February 1997, a director borrowed $39,700 from the Company. The note
was repaid in June 1997.
During fiscal 1998 and 1997, the Company had sales of approximately
$1,391,300 and $532,800 to and purchases of approximately $598,200 and $804,300
from Samax Technologies, Inc., a corporation owned by a related party,
respectively. During fiscal 1999 the Company had no sales or purchases from this
related party. At March 31, 1999 and 1998, the Company had gross trade
receivables of $86,000 and $92,000, respectively. At March 31, 1999 the Company
reserved $71,000 related to these receivables.
In September 1997, the Company signed a software license and a reseller
agreement with Computer Aided Software Integration, Inc. (CASI), a subsidiary of
Datatec Systems, Inc. (Datatec), formerly known as Glasgal Communications, Inc.
(See Note 10).
In December 1998, the Company entered into a three month service agreement
with a company owned by a relative of an officer of the Company. During fiscal
1999, the Company paid approximately $10,000 under this
F-14
<PAGE>
agreement.
6. Long-Term Debt
Long-term debt consists of the following:
<TABLE>
<CAPTION>
March 31,
---------------------------------
1999 1998
-------------- ------------
<S> <C> <C>
Note payable, 0% interest, repaid in April 1998, unsecured (See
Note 10)........................................................... $ - $ 700,000
Bridge loan, 10% interest, discount of $214,405 fully amortized as
of March 31, 1998, repaid in April 1998 (See Note 10).............. - 400,000
Note payable, 10% interest repaid in April 1998, unsecured (See
Note 10)........................................................... - 100,000
Note payable to a bank, interest at 8.9 percent, monthly
installment of principle and interest of approximately $400 made
through April 2001, secured by a delivery van...................... 8,864 12,571
-------------- -------------
8,864 1,212,571
Less-current portion (4,054) (1,203,707)
-------------- -------------
$ 4,810 $ 8,864
============== =============
</TABLE>
Future annual maturities of long-term debt consists of the following as of
March 31, 1999:
<TABLE>
<CAPTION>
Year Ending March 31,
- ---------------------
<S> <C>
2000..................................................................... 4,054
2001..................................................................... 4,426
2002..................................................................... 384
--------
$ 8,864
=========
</TABLE>
7. Unauthorized Transactions
In connection with the investigation into certain improprieties and record-
keeping irregularities, the Audit Committee uncovered evidence of certain
unauthorized transactions with certain entities that management believes may be
on more favorable terms than otherwise given. During fiscal 1999 and 1998, the
Company had net sales of approximately $1,180,000 and $950,000 to these
entities, respectively. In addition, the sales for fiscal 1999 are net of
purchase for the same products of approximately $800,000. The Company did not
have any sales to these entities in 1997. The Company did not have any purchases
from these entities during fiscal 1999 (except for the repurchases noted above),
1998 and 1997 except for approximately $80,000 during fiscal 1998. At March 31,
1999 and 1998, the Company had receivables of approximately $87,000 and zero,
respectively. At March 31, 1999 and 1998, the Company had payables of $2,000 and
$1,000 to these entities, respectively. (See Note 1)
8. Shareholders' Equity
Common Stock
On April 7, 1997, a relative of a shareholder purchased 65,764 shares of
F-15
<PAGE>
common stock for $300,000. In addition, the Company granted to this party an
option to acquire up to an additional 372,659 common shares at $4.56 per share.
The options expired on October 7, 1997 unexercised.
On April 8, 1998, the Company completed an initial public offering of
2,702,500 shares of common stock. The Company received net proceeds (after
deducting issuance costs) of approximately $11,200,000. The Company has used the
proceeds to pay down debt, fund operations and expand into new markets related
to computer hardware and software. In connection with the initial public
offering, the Placement Agent received 235,000 warrants for nominal
consideration. Each warrant may be exercised for one common share, subject to
certain anti-dilution provisions, at a price of $8.25 per share from April 8,
1999 to April 8, 2003. The Company also entered into a two year financial
consulting agreement with the placement agent for $48,000, which was fully paid
out of proceeds from the initial public offering. Each officer and director of
the Company and all of the holders of the issued and outstanding shares of
common stock as of the effective date of the initial public offering have agreed
to a lock-up period of 18 months from the date of the initial public offering.
Preferred Stock
In October 1997, the Company authorized 2,000,000 shares of preferred
stock. As of March 31, 1998 there were no shares of preferred stock
outstanding.
Private Placement
In December 1997, the Company completed a private placement for $1,000,000
with net proceeds of approximately $678,000. The Company sold 20 units for
$50,000 per unit. Each unit consisted of (i) an unsecured promissory note with
a face value of $20,000, bearing interest at 10% due eighteen months from the
date of issue or upon closing of a $2,000,000 financing, (ii) 15,000 shares of
common stock (with an estimated fair value at date of issuance of $3.00) and
(iii) 5,000 warrants exercisable at $3.00 per share (with an estimated fair
value at date of issuance of $0.82 per warrant) into common stock for three
years, commencing one year after the date of issuance. The net proceeds for the
private placement were allocated to the debt, stock and warrants issued based
upon their relative fair values at the date of issuance in accordance with
Accounting Principles Board (APB) opinion No. 14.
The proceeds were used, in part, to pay $250,000 of the CASI note and
$50,000 of the Datatec Note. In connection with the private placement, the
Placement Agent and the Company's legal counsel received 35,000 warrants and
45,000 warrants, respectively for nominal consideration. The warrants are
exercisable at $3.00 per share. The Placement Agent Warrants were cancelled on
March 6, 1998. The promissory notes were fully repaid in fiscal year 1999 from
proceeds received from its initial public offering.
Stock Options
In July 1997, the Company established the 1997 Stock Incentive Plan (the
"Plan"). Under the Plan, options are generally granted to employees and
F-16
<PAGE>
directors at an exercise price equal to fair market value, as determined by the
board of directors. The Company has reserved 1,000,000 shares of the Company's
common stock for issuance under the Plan. The plan terminates in 2007.
Information regarding the Company's stock options is as follows:
<TABLE>
<CAPTION>
Weighted
Shares Average
Under Exercise Price
Option
-------------- ------------------
<S> <C> <C>
BALANCE, March 31, 1997 - $ -
Granted................................................................. 383,717 3.06
Cancelled............................................................... - -
Exercised............................................................... - -
-------------- ------------------
BALANCE, March 31, 1998................................................... 383,717 3.06
Granted................................................................ 105,000 5.22
Cancelled.............................................................. (29,316) 5.04
Exercised.............................................................. - -
-------------- ------------------
BALANCE, March 31, 1999................................................... 459,401 $ 3.42
============== ==================
Options exercisable at March 31, 1999 237,578 $ 3.31
============== ==================
</TABLE>
The following table summarizes information about stock options outstanding
at March 31, 1999:
<TABLE>
<CAPTION>
Number of Weighted Average
Options Remaining Number Exercisable at
Exercise Price Outstanding Contractual Life March 31, 1999
- -------------- ----------- ---------------- --------------
<S> <C> <C> <C>
$2.70 298,401 8.26 years 168,891
$4.50 76,000 8.85 years 24,000
$5.00 85,000 9.60 years 44,687
</TABLE>
The Company accounts for stock options granted to non-employees in accordance
with SFAS No. 123 which requires non-cash compensation expense be recognized
over the expected period of benefit. During fiscal 1999 the Company recorded
approximately $117,000 in non cash compensation for stock options granted to
non-employees. In accordance with the terms of APB No. 25, the Company records
no compensation expense for its fixed stock option awards granted at market
value. As required by SFAS No. 123, the Company provides the following
disclosure of hypothetical values for these awards. The weighted-average grant-
date fair value of options granted during 1999 and 1998 was estimated to be
$2.21 and $0.79, respectively. The value was estimated using the Black-Scholes
option-pricing model with the following weighted-average assumptions:
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
Expective life (years) 3.1 5.0
Interest rate 4.9% 6.2%
Volatility 69.2% -
Dividend - -
</TABLE>
If the Company had recognized compensation cost for stock-based employee
compensation in accordance with SFAS No. 123, the Company's net income would
have decreased as follows:
March 31,
-----------------------------------------
F-17
<PAGE>
<TABLE>
<CAPTION>
1999 1998 1997
-------------------- ------------------ ------------------
<S> <C> <C> <C>
Net (loss) income as reported.................... $(2,999,566) $723,152 $25,364
Proforma net income (loss)....................... $(3,068,317) $674,239 $25,364
Basic and diluted (loss) earnings per share...... $(0.41) $0.16 $.01
Proforma basic and diluted (loss) earnings per $(0.42) $0.15 $.01
share...........................................
</TABLE>
In May 1998, the Company issued an officer of the Company options to
purchase 20,000 shares of common stock at an exercise price of $6.125 per share.
This officer resigned in December 1998 and his options were subsequently
cancelled.
9. Financing Arrangement
In June 1997, the Company obtained credit for inventory purchases through
Finova Capital Corporation (Finova). Purchases are collateralized by
substantially all the assets of the Company.
In October 1998, the Company updated its credit facility with Finova
Capital Corporation. This facility includes a flooring line limit of
$20,000,000 for inventory purchases and a revolving credit line of $5,000,000
and expires in October 2000.
Unless the Company fails to pay Finova within the agreed upon period, all
finance costs associated with the flooring line of credit are charged by Finova
to the Company's vendors. The company had a payable of $1,285,659 and
$5,853,429 outstanding at March 31, 1999 and 1998, respectively to Finova.
Advances on the revolving line of credit bear interest at the prime rate
(7.75% at March 31, 1999), with interest payable monthly. There are no advances
outstanding on the revolving line of credit at March 31, 1999.
Under the agreement, the Company is subject to various restrictive
covenants which limit capital expenditures and require the Company to maintain
certain financial ratios and provide audited year-end financial statements. The
Company has not provided audited year-end financial statements to Finova by June
29, 1999, and thus is not in compliance with their agreement. Finova has waived
this covenant until October 31, 1999.
10. Software License
In September 1997, the Company signed a software license and a reseller
agreement with Computer Aided Software Integration, Inc. (CASI), a subsidiary of
Datatec Systems, Inc. (Datatec), formerly known as Glasgal Communications, Inc.
A director of the Company is also the founder, president, C.E.O., and a
principal shareholder of CASI. The Company paid CASI a one-time license fee of
$1,100,000 for the configuration software. The license agreement is generally a
worldwide royalty-free and nonexclusive license to use the software. The license
fee was paid in the form of a non-interest bearing promissory note for $950,000
and a cash payment of $150,000 loaned to the Company by an officer of Datatec
(Datatec Note) with interest at 10%. The aggregate unpaid principal balance on
these Notes as of March 31, 1998 was $800,000 and is included in current portion
of long-term debt in the Balance Sheet. The Company also issued CASI a
contingent warrant exercisable in the event of default of the note at $4.50 per
share.
F-18
<PAGE>
In April 1998, the Company repaid $700,000 on the CASI Note, $100,000 on
the Datatec Note, and $400,000 on the private placement note out of proceeds
from the initial public offering in accordance with the debt agreements. Upon
payment of the CASI note, the Company cancelled the contingent warrant, which
would have been convertible into 155,902 shares of common stock.
The Company has been attempting to implement its ACSA automated custom
software configuration assembly line solution. In this regard, the Company has
invested in fixed assets comprising an assembly line and related computer
equipment. The Company has also entered into a perpetual non-exclusive
licensing agreement with Computer Aided Software Integration, Inc. ("CASI") to
license CASI's Configurator software for use in the development and
commercialization of the Company's ACSA Solution. The Company paid CASI a
onetime license fee of $1.1 million. The payments under the CASI Note were
initially capitalized. However, the Company has not, as of the date of this
filing, implemented the configurator software or made any significant use of the
automated assembly lines installed at the Company's ACSA Center. The Company
has experienced substantial delays in its implementation of the ACSA solution
and although the Company has completed construction of the first ACSA solution
production line ("ACSA Center") located at the Company's facility, the Company
has not commenced use of the licensed custom configuration software or
implemented the ACSA Solution. The Company's initial ACSA strategy included
plans to implement the ACSA Solution through joint ventures, through multiple
ACSA Centers installed at assembly sites and through the resale of licenses for
the ACSA Solution software. The resolution of the Company's dispute with CASI
does not include rights to the Company for the resale of licenses for the ACSA
Solution software. Due in part to lengthy delays in implementing ACSA Services,
competing software configuration technologies have had an opportunity to gain
market acceptance and achieve a level of public recognition that may make it
more difficult for the Company to effectively market and sell ACSA services. The
Company does not expect the ACSA Center to be operational at its premises in
Industry, California prior to March 31, 2000 and a launch schedule is dependent
on the results of the Company's evaluation described above. As a result of
these delays, and subject to the evaluation conclusions, the Company will likely
incur additional costs and devote additional time to effect the implementation
of the ACSA Solution. Due to these increased anticipated costs (and other
factors discussed elsewhere), the Company has written off its investment in
capitalized software related to ACSA as of March 31, 1999, and the Company may
not generate any revenues from the ACSA Solution.
11. Commitments and Contingencies
Leases
In October 1997, the Company entered into a new facility lease agreement
commencing on February 1, 1998 and expiring on January 31, 2001. In addition,
the Company co-signed with OTT a facility lease agreement which expires in March
2002. (See Note 2). The following is a schedule of future minimum lease payments
required under these operating leases as of March 31, 1999:
<TABLE>
<CAPTION>
Year Ending March 31,
- ---------------------
<S> <C>
2000............................................................................. 211,000
2001............................................................................. 192,000
2002............................................................................. 78,000
---------
$ 481,000
=========
</TABLE>
F-19
<PAGE>
Total rental expense for the year ended March 31, 1999, 1998 and 1997 was
approximately $144,000, $70,000 and $49,000, respectively.
Employment Agreements
The Company has employment agreements with certain key executives. These
agreements have terms of five years.
Litigation
The Company is involved in various legal matters in the normal course of
its business. Management believes, based in part upon consultation with legal
counsel, that the ultimate outcome of such matters will not have a material
adverse effect on the Company's financial condition or its results of
operations.
Potential Litigation
Mr. Ung (formerly President), and Ms. Yang (formerly Secretary and
Treasurer) each were parties to employment agreements with us. In the event of
Mr. Ung's termination without "cause" (as defined in his employment agreement),
we are liable for payment to Mr. Ung of an amount equal to 6 months of his then
current base salary. Ms. Yang was not entitled to any payments upon termination
without cause. Based on the information uncovered during the investigation, we
elected to treat Mr. Ung's and Ms. Yang's relief of their executive officer and
employment responsibilities as terminations for "cause" (as defined in the
employment agreements). There can be no assurance that Mr. Ung and Ms. Yang will
not allege breach of their employment agreements or other injury resulting from
alleged wrongful termination of employment, libel, slander, or other alleged
wrongful or tortious acts, or, if alleged in litigation against us, there can be
no assurance that Mr. Ung and Ms. Yang will not prevail on some or all such
claims.
In addition, due to the Company's unauthorized resale of OEM versions of
certain software, we face significant risk of litigation from the software
manufacturer alleging damages, including punitive damages, resulting from these
unauthorized sales. Although the Company's attorneys have been in discussions
with the manufacturer's attorneys and are hopeful that the Company can settle
this matter with the manufacturer prior to litigation, there can be no assurance
that the it will be successful in reaching a settlement with the manufacturer
or, if a settlement is reached, that the terms of the settlement will be
favorable to the Company. Based upon preliminary discussions with the
manufacturer's representatives, the Company has accrued $150,000 as their
estimate of the amount to resolve the dispute with the manufacturer.
12. Subsequent Events
Internal Investigation
In July 1999, the Company announced its internal investigation into certain
improprieties and record keeping irregularities. This investigation resulted in
the termination of the Company's president and secretary, the discovery of
previously undisclosed related party and other unauthorized transactions, the
restatement of quarterly information, and uncovered the risk of potential
litigation with a certain software manufacturer (see Notes 2 and
F-20
<PAGE>
11).
Nasdaq and Boston Stock Exchange Delisting
On August 27, 1999 and August 30, 1999, the Company was delisted from the
Boston Stock Exchange and Nasdaq, respectively. (See Note 2)
F-21
<PAGE>
ITEM 9. CHANGE IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
<TABLE>
<CAPTION>
Officer or
Name Position with Company Age Director Since
<S> <C> <C> <C>
Max Toghraie Executive Vice President and Director 36 1997
James Ung Director 37 1996
Nancy Hundt Director 30 1996
Mei Yang Director 36 1996
David Tobey Director 38 1997
Philip Alford Director 45 1998
John L. Davidson President and Chief Executive Officer 47 1999
Jeff Toghraie Vice President--Marketing 31 1998
Carl L. Wood Chief Financial Officer 47 1998
Jack Suleski Vice President--Operations 57 1999
</TABLE>
BUSINESS EXPERIENCE
DIRECTORS
PHILIP ALFORD has served as a director of the Company since February 1998.
Mr. Alford was Chairman and acting Chief Financial Officer of Verix Software
from July 1997 until April 1999 when Verix Software was acquired by a public
company. Prior to joining Verix Software, a business software developer, Mr.
Alford was employed by Tekelec, a publicly traded company, from 1985 to December
1996, where he served primarily as its Chief Financial Officer and from 1994 to
1996 as its President, Chief Executive Officer and director. Tekelec is a
supplier of diagnostic and switching systems to the communications industry.
After leaving Tekelec, Mr. Alford served as an independent management
consultant. Mr. Alford is a member of the audit and compensation committees.
MAX TOGHRAIE served as the Chief Executive Officer of the Company from
September 1997 through August 1999, when he assumed the position of Executive
Vice President, and as a director from April 1997. He has also served as a
consultant to the Company since its inception in April of 1996. Mr. Toghraie
served as a trading group manager for D'Argent Inc., an international trading
company from 1992 through December 1996. During the past 5 years, he has been
involved with various privately held development stage companies as a director
and/or consultant. Max Toghraie and Jeff Toghraie, the V.P. Marketing of the
Company, are brothers.
JAMES UNG is a co-founder of the Company and served as its President from
April 1997 until July 1999 and as a director since the Company's inception in
April of 1996. From February 1992 until joining the Company,
28
<PAGE>
Mr. Ung was Director of Operations of American Systec Corporation, a privately
held systems distribution and configuration company in Brea, California. From
1989 to 1992, Mr. Ung served as Vice President of Marketing at PC Systems
Design, a California based systems integration and distribution company. Mr. Ung
is married to Mei Yang.
NANCY HUNDT has served as a director of the Company since its inception in
April of 1996. Ms. Hundt is a co-founder of the Company. She has a background
in the optical industry and has served as a representative of the American Board
of Opticianery, an optical industry retail group. Ms. Hundt acts as a
consultant to the optical industry and has served over the last five years as
Chief Operating officer of Academy Optical, Inc. Ms. Hundt is a member of the
audit and compensation committees of the Board of Directors.
MEI YANG has served as a director of the Company since its inception in
April of 1996. Ms. Yang served as the Secretary and Treasurer of the Company
from March 1997 until July 1999. From 1990 to 1996, Ms. Yang was the Chief
Operating Officer of American Systec Corporation, a privately held systems
distribution and configuration company in Brea, California.
DAVID TOBEY has served as a director of the Company since July 1997. Mr.
Tobey has, since April 1999, served as Vice President--Operations of Ventana
Corporation, a collaboration software developer. From March 1998 through April
1999, Mr. Tobey was a principal of Archmedae Management Company, a management
consulting company. Mr. Tobey was the founder and President and Chief Executive
Officer of Computer-Aided Software Integration ("CASI") from February 1995 to
March 1998 and was a significant stockholder of CAST, a subsidiary of Datatec
Systems, Inc. (formerly Glasgal Communications, Inc.), a Nasdaq traded company.
He also founded and served as the Executive Director of the Integrating
Technology Consortium, an integration standards, certification and education
organization focused on the hospitality industry from June 1994 to October 1997.
Prior to founding CAST in February 1995, Mr. Tobey was the Senior Vice President
of Corporate Services from April 1993 to April 1995 for Hotel Information
Systems, where he was responsible for articulating and managing the development
of strategic initiatives and corporate operations in marketing, product
development and professional services. From September 1986 to April 1994, Mr.
Tobey was the founder and served as Chairman and Chief Executive Officer of
Stratcon, a systems integration company in the legal market and later as CTO of
Automation Partners, into which Stratcon merged in 1990. Mr. Tobey has also
consulted with numerous technology and service companies and is a frequent
speaker at international conferences on technology and management topics. Mr.
Tobey is a member of the compensation committee.
EXECUTIVE OFFICERS
JOHN L. DAVIDSON has served as President and Chief Executive Officer of the
Company since September 1999. Mr. Davidson, a Principal and Managing Partner of
Inverness Partners, Inc., has over 20 years of financial and general management
as well as corporate and project finance experience, with 16 years in turnaround
and transition management. During this time, and in addition to recent
experience with certain Seattle- and Portland-based technology companies, Mr.
Davidson has served in a variety of direct management roles, including:
Executive Vice President and Chief Operating Officer of California Steel
Pressure Pipe Co., Senior Vice President and Chief
29
<PAGE>
Operating Officer of Hind, Inc., and Executive Vice President and Chief
Operating Officer of Granite Furniture Co.
JEFF TOGHRAIE has served as the Chief Operating Officer of the Company from
June 1998 until May 1999, and has served as Vice President--Marketing since July
1999. Mr. Toghraie has been an advisor to the Company since its inception in
April 1996. From 1992 to 1996, Mr. Toghraie was a private investor and a
financial consultant with Strafford Group, a privately held investment firm.
Mr. Toghraie and Max Toghraie, Executive Vice President of the Company, are
brothers.
CARL L. WOOD has served as Chief Financial Officer of the Company since
February 1998. From September 1996 to June 1997, Mr. Wood served as Corporate
Controller and Director of Management Information Systems at Murad, Inc. in El
Segundo, California, a cosmetic retail business specializing in high-end skin
care products. From 1989 to September 1996, Mr. Wood was Corporate Controller
and Vice President, Finance, and subsequently the Chief Financial Officer of 99
Cents Only Stores in Los Angeles, California, a deep discount retailer of
general merchandise.
JACK SULESKI has served as Vice President of Operations since May of 1999
and as Consultant/National Sales Manager since March 1999. From July 1995 till
November 1998, Mr. Suleski served as Manager of National Accounts for AST
Research, Inc., in Irvine, California, a worldwide manufacturer of Notebook,
Desktop, and Server Computers Systems. From July 1992 till June 1995, he was
employed by GRiD Systems, Inc. of Fremont, California, a manufacturer of
ruggedized magnesium encased portable computer systems, as a Senior Account
Manager dealing with Fortune 500 accounts. From November 1972 through June
1992, Mr. Suleski was employed by Tandy Corp. in various sales and management
positions related to their computer retailing operations.
COMPLIANCE WITH BENEFICIAL OWNERSHIP REPORTING RULES
Section 16(a) of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), requires the Company's executive officers and directors, and
persons who beneficially own more than 10% of a registered class of the
Company's Common Stock to file initial reports of ownership and reports of
changes in ownership with the Securities and Exchange Commission ("Commission").
Such officers, directors, and stockholders are required by Commission
regulations to furnish the Company with copies of all such reports that they
file.
Based solely upon a review of copies of reports furnished to the Company on
or after April 8, 1998 and written representations received by the Company from
the officers, directors and beneficial owners of more than 10% of the Company's
Common Stock ("reporting persons"), the Company believes that all Section 16(a)
filing requirements applicable to the Company's reporting persons have been
complied for the year ended March 31, 1999.
ITEM 11. EXECUTIVE COMPENSATION.
The following table sets forth the compensation for the Chief Executive
Officer and each of the most highly compensated executive officers whose
individual remuneration exceeded $100,000 for the year ended March 31, 1999(the
"Named Executives"):
30
<PAGE>
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
Long-Term
Annual Compensation Compensation
Name and Principal Position Year Salary Options/(1)/
<S> <C> <C> <C>
Max Toghraie /(2)/ 1999 $ 93,000 $ -
Director and Chief Executive Officer 1998 $ 96,000 $ $126,046
James Ung /(3)/ 1999 $ 192,000 $ -
Director and President 1998 $ 154,985 $ $ 98,645
Tommy Tang /(4)/
President 1998 $ 12,000 $ -
</TABLE>
(1) All stock options to Messrs. Toghraie and Ung were granted in July 1997
under the Company's 1997 Stock Option Plan.
(2) Mr. Toghraie was appointed Chief Executive Officer of the Company in
September 1997. Prior to Mr. Toghraie's appointment, there was no Chief
Executive Officer of the Company.
(3) Mr. Ung served as President of the Company until July 1999. Mr. Ung is
married to Mei Yang, a Director, and former Secretary and Treasurer of the
Company. Ms. Yang received $72,000 in salary during the year ended March
31, 1999.
(4) Mr. Tang was President of the Company until May 1997.
STOCK OPTION GRANTS
The Company did not grant any stock options to any Named Executives during
the year ended March 31, 1999.
YEAR END OPTIONS
The following table sets forth information regarding unexercised options
held by the Named Executives. No options were exercised during the year ended
March 31, 1999:
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR
AND FISCAL YEAR END OPTION VALUES
<TABLE>
<CAPTION>
Number of Unexercised options at
Fiscal Year End Value of In-the Money Options at Fiscal
Name Exercisable/Unexercisable Year End/(l)/ Exercisable/Unexercisable
<S> <C> <C>
Max Toghraie 68,922 / 57,124 $ 422,147 / $ 349,885
James Ung/(2)/ 53,940 / 44,705 $ 330,383 / $ 273,818
</TABLE>
(1) Based-upon a closing sale price of the Company's common stock of $6.125 per
share on March 31, 1999.
(2) Mr. Ung is married to Mei Yang, a Director and former Secretary and
Treasurer of the Company. At the end of the last fiscal year, Ms. Yang
had 14,982 unexercised exercisable options and 12,420 unexercised
unexercisable options. The value of Ms. Yang's exercisable in-the-money
options at fiscal year end was $91,765, and the value of
31
<PAGE>
Ms. Yang's unexercisable in-the-money options at fiscal year end was
$76,073.
EMPLOYMENT AND OTHER COMPENSATORY AGREEMENTS
The Company entered into an employment agreement with Max Toghraie to serve
as Chief Executive Officer for an initial term of five years commencing July 1,
1997 at annual compensation after September 30, 1997 of $192,000 plus benefits.
Mr. Toghraie voluntarily reduced his compensation by an aggregate of $114,000 in
fiscal 1999. Mr. Toghraie's employment agreement was terminated effective
August 23, 1999. He continues to serve as an employee and as an Executive Vice
President. Pursuant to an Employment Agreement and General Release dated
September 17, 1999, the Company paid Mr. Toghraie a Retention Bonus of $71,250
and agreed to pay an additional $71,250 if certain conditions of the Agreement
are met or if his employment is involuntarily terminated.
The Company entered into an employment agreement with James Ung to serve as
President for an initial term of five years commencing July 1, 1997. Mr. Ung's
base salary was $192,000 per annum. On July 12, 1999, in connection with an
internal investigation into certain improprieties and record-keeping
irregularities, Mr. Ung was relieved from all executive officer and employment
responsibilities. The Company has elected to treat this relief from executive
officer and employment responsibilities as a termination for "cause," as defined
in Mr. Ung's employment agreement.
The Company entered into an employment agreement with Mei Yang to serve as
Secretary and Treasurer for an initial term of five years commencing July 1,
1997. Ms. Yang's base salary was $72,000 per annum. On July 12, 1999, in
connection with an internal investigation into certain improprieties and record-
keeping irregularities, Ms. Yang was relieved from all executive officer and
employment responsibilities. The Company has elected to treat this relief from
executive officer and employment responsibilities as a termination for "cause,"
as such is defined in Ms. Yang's employment agreement.
DIRECTOR COMPENSATION
All directors are reimbursed for out-of-pocket expenses in connection with
attendance at Board of Director's and/or committee meetings and all directors
who are not executive officers or employees of the Company currently receive a
director's fee of $500 per meeting personally attended and $100 per meeting
telephonically attended for service as a director. The directors have also
received nonstatutory stock options, which, to date, have been approved by the
entire Board of Directors. Future grants of stock options will be administered
by the Compensation Committee.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
SECURITY OWNERSHIP OF PRINCIPAL STOCKHOLDERS,
DIRECTORS AND OFFICERS
The following table sets forth certain information with respect to (i) each
director and nominee for director of the Company, (ii) the named executive
officers in the Summary Compensation Table on page 31, (iii)
32
<PAGE>
all directors and executive officers of the Company as a group at August 23,
1999, including the number of shares of Common Stock beneficially owned by each
of them, and (iv) each person known by the Company to own beneficially more than
5% of the outstanding shares of the Company's Common Stock. Unless otherwise
indicated below, the business address of each individual is the same as the
address of the Company's principal executive offices.
<TABLE>
<CAPTION>
AMOUNT AND NATURE PERCENT OF
OF BENEFICIAL CLASS OF
OWNERSHIP OF COMMON
EXECUTIVE OFFICERS COMMON STOCK(1) STOCK
<S> <C> <C>
Max Toghraie(2) 82,705 1.11%
James Ung(3) and Mei Yang(4) 2,274,823 30.43%
Carl L. Wood(5) 26,656 *
DIRECTORS
Nancy Hundt(6) 2,195,525 29.69%
David Tobey(7) 10,050 *
Philip Alford(8) 31,500 *
All directors and executive officers as a 4,621,259 60.57%
group (7 persons)(9)
</TABLE>
* Less than 1%
(1) Includes shares issuable upon the exercise of options or warrants that are
exercisable within 60 days of the date of this filing. The shares
underlying such options or warrants are deemed to be outstanding for the
purpose of computing the percentage of outstanding stock owned by such
persons individually and by each group of which they are a member, but are
not deemed to be outstanding for the purpose of computing the percentage
ownership of any other person.
(2) Executive vice President and a director of the Company. Consists of 82,705
shares issuable upon exercise of options. Mr. Toghraie's address is 957
Lawson Street, Industry, California 91748
(3) Former President and a director of the Company. Mr. Ung and Ms. Yang are
married. Includes 64,727 shares issuable upon exercise of options. Mr.
Ung's address is 957 Lawson Street, Industry, California 91748
(4) Former Secretary and Treasurer and a director of the Company Ms. Yang and
Mr. Ung are married. Includes 17,978 shares issuable upon exercise of
options. Ms. Yang's address is 957 Lawson Street, Industry, California
91748
(5) Chief Financial Officer of the Company. Consists of 26,666 shares issuable
upon exercise of options. Mr. Wood's address is 957 Lawson Street,
Industry, California 91748.
(6) Includes 3,407 shares issuable upon exercise of options. Ms. Hundt's
address is 957 Lawson Street, Industry, California 91748.
(7) Consists of 10,050 shares issuable upon exercise of options. Mr. Tobey's
address is 957 Lawson Street, Industry, California 91748.
(8) Consists of 31,500 shares issuable upon exercise of options. Mr. Alford's
address is 957 Lawson Street, Industry, California 91748.
(9) Includes 237,033 shares issuable upon exercise of options.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
In connection with an internal investigation into certain improprieties and
record-keeping irregularities, the Audit Committee of the Board of
33
<PAGE>
Directors of the Company uncovered evidence of transactions with certain
entities it believes to be related to James Ung, the former President and a
director of the Company, and his wife Mei Yang, the former Secretary and
Treasurer and a director of the Company, as described more fully below. The
Company believes that these certain entities, EM Technology, Inc., ESI
Resources, Inc., FYI International, Link 3000, Q&Y Technology and Caltex
Technology, Inc. (the "Related Entities"), were related, either directly or
indirectly, to James Ung and/or Mei Yang.
From June 1998 through March 1999, the Company sold 17,967 units of a
product the Company believes to be unauthorized OEM versions of certain software
to the Related Entities at a price the Company believes was less than the fair
market value for such software. During the same time period, the Company
believes that it repurchased from the Related Entities 10,877 units of this
product at a higher price than the same units were purchased by the Related
Entities. The Company believes that the aggregate benefit received from the
related entities by virtue of the sale and subsequent repurchase of the 10,877
units was $17,512.
Of the 7,090 units sold by the Company to the Related Entities that were
not subsequently repurchased by the Company, the Company has not been able to
determine at what price these units were sold by the Related Entities, to whom
these units were sold, and whether these units were sold to customers who
purchased units from the Related Entities in lieu of purchasing units from the
Company. The Company estimates lost profits on these 7,090 units to be
approximately $48,000.
In December, 1998, the Company entered into a consulting agreement with
Ahmad Toghraie, the father of Max Toghraie and Jeff Toghraie, the Executive Vice
President and Vice President-Marketing, respectively, of the Company, to market
certain of the Company's products for a fee of $10,000. The Company did not
solicit competing bids for these consulting services and, therefore, can not
determine whether the price paid by the Company for these services was on terms
as favorable to the Company as could be achieved from a non-affiliate.
In 1997, the Company employed Sam Toghraie, brother of Max Toghraie and
Jeff Toghraie, as Department Head on an at-will basis for an annual salary of
$60,000.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) List of documents filed as part of this Report:
(1) Financial Statements included in Item 8:
Report of Independent Public Accountants
Balance Sheets as of March 31, 1999 and 1998
Statements of Operations for the years ended March 31,
1999 and 1998 and the period from April 2, 1996
(inception) to March 31, 1997
Statements of Changes in Shareholders' Equity for the years ended
March 31, 1999 and 1998 and the period from April 2, 1996
(inception) to March 31, 1997
Statements of Cash Flows for the years ended March 31, 1999
and 1998 and the period from April 2, 1996 (inception) to
March 31, 1997
Notes to Financial Statements
34
<PAGE>
No other schedules are included because the required
information is inapplicable or is presented in the financial
statements or related notes thereto.
(2) Exhibits
The exhibits listed on the accompanying Index of Exhibits are
filed as part of this Annual Report.
(b) Reports on Form 8-K
None.
35
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has caused to be signed on its behalf by
the undersigned, thereunto duly authorized.
CUMETRIX DATA SYSTEMS CORP.
---------------------------
(Registrant)
Date: October 8, 1999 By: /s/ John L. Davidson
--------------- --------------------
John L. Davidson, Chief Executive Officer
36
<PAGE>
POWER OF ATTORNEY
Each person whose signature appears below constitutes and appoints John L.
Davidson and Carl L. Wood, and each of them, as his true and lawful attorneys-
in-fact and agents with full power of substitution and resubstitution, for him
and his name, place and stead, in any and all capacities, to sign any or all
amendments to this Annual Report on Form 10-K and to file the same, with all
exhibits thereto, and other documents in connection therewith, with the
Securities and Exchange Commission, granting unto said attorneys-in-fact and
agents, and each of them, full power and authority to do and perform each and
every act and thing requisite and necessary to be done in and about the
foregoing, as fully to all intents and purposes as he might or could do in
person, hereby ratifying and confirming all that said attorneys-in-fact and
agents, or either of them, or their substitutes, may lawfully do or cause to be
done by virtue hereof.
SIGNATURES
In accordance with the Exchange Act, this report has been signed by the
following persons on behalf of the Registrant and in the capacities and on the
dates indicated.
<TABLE>
<CAPTION>
Signature Title Date
--------- ----- ----
<S> <C> <C>
/s/ JOHN L. DAVIDSON President and October 8, 1999
---------------------- ---------------
John L. Davidson Chief Executive Officer
(Principal Executive Officer)
/s/ CARL L. WOOD Chief Financial Officer October 8, 1999
----------------------- ---------------
Carl L. Wood (Principal Financial and
Accounting Officer)
/s/ NANCY HUNDT Director October 8, 1999
------------------------ ---------------
Nancy Hundt
/s/ DAVID TOBEY Director October 8, 1999
----------------------- ---------------
David Tobey
/s/ MAX TOGHRAIE Exec. Vice President October 8, 1999
------------------- and Director ---------------
Max Toghraie
/s/ JAMES UNG Director October 8, 1999
---------------- ---------------
James Ung
/s/ MEI YANG Director October 8, 1999
---------------- ---------------
Mei Yang
</TABLE>
37
<PAGE>
EXHIBIT INDEX
Exhibit
Number Exhibit Description
- ------- -------------------
3.1 Articles of Incorporation of Registrant. Incorporated by reference to
Exhibit 3.1 to Form S-1 filed on December 23, 1997, and amendments
thereto.
3.2 Certificate of Amendment to Articles of Incorporation, as filed on
December 22, 1997. Incorporated by reference to Exhibit 3.2 to Form S-1
filed on December 23, 1997, and amendments thereto.
3.2.1 Certificate of Amendment of the Articles of Incorporation, as filed on
January 6, 1998. Incorporated by reference to Exhibit 3.2.1 to Form S-1
filed on December 23, 1997, and amendments thereto.
3.3 Amended and Restated Bylaws of the Registrant. Incorporated by reference
to Exhibit 3.3 to Form S-1 filed on December 23, 1997, and amendments
thereto.
4.1 Specimen Stock Certificate of Registrant. Incorporated by reference to
Exhibit 4.1 to Form S-1 filed on December 23, 1997, and amendments
thereto.
10.1 Employment Agreement, dated May 1, 1997, between the Company and James
Ung. Incorporated by reference to Exhibit 10.2 to Form S-1 filed on
December 23, 1997, and amendments thereto.
10.2 Employment Agreement, dated July 1, 1997, between the Company and Mei
Yoon Yang. Incorporated by reference to Exhibit 10.3 to Form S-1 filed on
December 23, 1997, and amendments thereto.
10.3 Executive Employment Agreement, dated July 1, 1997, between the Company
and Max Toghraie. Incorporated by reference to Exhibit 10.4 to Form S-1
filed on December 23, 1997, and amendments thereto.
10.4 Amended and Restated License Agreement, dated July 1, 1997, between
Computer-Aided Software Integration, Inc. and the Company. Incorporated
by reference to Exhibit 10.5 to Form S-1 filed on December 23, 1997, and
amendments thereto.
10.5 Reseller Agreement, made effective as of September 15, 1997, between
Computer-Aided Software Integration, Inc. and the Company. Incorporated
by reference to Exhibit 10.6 to Form S-1 filed on December 23, 1997, and
amendments thereto. Specified portions of this Exhibit have been omitted
and filed separately with the United States Securities and Exchange
Commission pursuant to an Order granting confidential treatment pursuant
to Rule 406 of the General Rules and Regulations under the Securities Act
of 1933.
10.6 Lease Agreement, dated for reference purposes October 28, 1997, between
the Company and Fortune Dynamics, Inc. Incorporated by reference to
Exhibit 10.10 to Form S-1 filed on December 23, 1997, and amendments
thereto.
10.7 Guaranty, dated December 3, 1997, given by James Ung to Fortune Dynamics,
Inc. Incorporated by reference to Exhibit 10.11 to Form S-1
<PAGE>
filed on December 23, 1997, and amendments thereto.
10.8 Amended and Restated 1997 Stock Plan. Incorporated by reference to
Exhibit 10.14 to Form S-1 filed on December 23, 1997, and amendments
thereto.
10.9 Form of Nonstatutory Stock Option Agreement. Incorporated by reference to
Exhibit 10.15 to Form S-1 filed on December 23, 1997, and amendments
thereto.
10.10 Warrant Agreement, dated December 23, 1997, between the Company and Troop
Meisinger Steuber & Pasich, LLP. Incorporated by reference to Exhibit
10.16 to Form S-1 filed on December 23, 1997, and amendments thereto.
10.11 Loan and Security Agreement, dated as of October 22, 1998, by and between
the Company and Finova Capital Corporation. Incorporated by reference to
Exhibit 10.1 of the Company's Quarterly Report on Form 10-Q for the
period ended December 31, 1998.
10.12 Schedule to Loan and Security Agreement, dated October 22, 1998.
Incorporated by reference to Exhibit 10.2 of the Company's Quarterly
Report on Form 10-Q for the period ended December 31, 1998.
10.13 Secured Revolving Credit Note, dated as of October 22, 1998, in favor of
Finova Capital Corporation. Incorporated by reference to Exhibit 10.3 of
the Company's Quarterly Report on Form 10-Q for the period ended December
31, 1998.
10.14 Preferred Stock Purchase Agreement, dated as of December 15, 1998, by and
between the Company and Online Transaction Technologies, Inc.
Incorporated by reference to Exhibit 10.4 of the Company's Quarterly
Report on Form 10-Q for the period ended December 31, 1998.
10.15 First Stock Option Agreement, dated as of December 30, 1998, by and
between the Company and Online Transaction Technologies, Inc.
Incorporated by reference to Exhibit 10.5 of the Company's Quarterly
Report on Form 10-Q for the period ended December 31, 1998.
24.1 Power of Attorney (included on Signature Page)
27.1 Financial Data Schedule
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> MAR-31-1999
<PERIOD-START> APR-01-1998
<PERIOD-END> MAR-31-1999
<CASH> 8,243,198
<SECURITIES> 0
<RECEIVABLES> 1,951,685
<ALLOWANCES> (280,000)
<INVENTORY> 2,320,127
<CURRENT-ASSETS> 12,926,995
<PP&E> 504,363
<DEPRECIATION> (103,868)
<TOTAL-ASSETS> 14,323,787
<CURRENT-LIABILITIES> 4,506,613
<BONDS> 0
0
0
<COMMON> 12,063,414
<OTHER-SE> (2,251,050)
<TOTAL-LIABILITY-AND-EQUITY> 14,323,787
<SALES> 63,813,350
<TOTAL-REVENUES> 63,813,350
<CGS> 62,911,633
<TOTAL-COSTS> 4,392,969
<OTHER-EXPENSES> 122,000
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 4,652
<INCOME-PRETAX> (3,101,794)
<INCOME-TAX> (102,228)
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (2,999,566)
<EPS-BASIC> (0.41)
<EPS-DILUTED> (0.41)
</TABLE>
