<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended June 30, 1998
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES ACT OF 1934
For the transition period from _____ to______
Commission file number 000-23740
----------
INNOTRAC CORPORATION
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Georgia 58-1592285
------------------------------- ----------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
1828 Meca Way Norcross, Georgia 30093
---------------------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (770) 717-2000
---------------
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months
(or for such shorter period that the registrant was required to
file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
--- ---
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Outstanding at July 24, 1998
----------------------------
Common Stock at $.10 par value 8,999,995
Shares
<PAGE>
Part I Financial Information
- ------------------------------
Item 1 Financial Statements
- -----------------------------
<TABLE>
<CAPTION>
INNOTRAC CORPORATION
BALANCE SHEETS
As of June 30, 1998 and December 31, 1997
ASSETS June 30 1998 December 31, 1997
------ ------------ -----------------
(Unaudited)
<S> <C> <C>
Current assets:
Cash and cash equivalents................................. $ 4,055,660 $ 553,746
Accounts Receivable, net ................................. 37,053,863 20,081,229
Inventories .............................................. 2,100,448 2,935,611
Deferred tax assets....................................... 3,237,000 386,000
Prepaid expenses and other current assets................. 846,984 372,605
------------- --------------
Total current assets 47,293,955 24,329,191
------------- --------------
Property and equipment:
Rental equipment.......................................... 9,115,329 10,432,645
Computer, machinery and transportation equipment.......... 3,797,867 1,557,765
Furniture, fixtures and leasehold improvements............ 730,384 720,097
13,643,580 12,710,507
Less accumulated depreciation and amortization............ 6,031,156 5,101,992
7,612,424 7,608,515
Other assets, net ............................................ 142,427 557,537
$ 55,048,806 $ 32,495,243
============= ==============
LIABILITIES AND PARTNERS', MEMBERS',
AND SHAREHOLDERS' EQUITY June 30, 1998 December 31, 1997
------------------------------------ ------------- -----------------
(Unaudited)
Current liabilities:
Current portion of long-term debt......................... $ 67,655 $ 737,687
Line of credit............................................ 2,215,000 8,545,200
Accounts payable ......................................... 10,808,567 4,765,772
Distributions payable .................................... 1,152,074 1,007,395
Accrued expenses.......................................... 9,136,046 7,433,611
Other..................................................... 635,896 318,088
------------ --------------
Total current liabilities 24,015,238 22,807,753
------------ --------------
Noncurrent liabilities:
Subordinated debt......................................... 0 3,500,000
Long-term debt............................................ 10,203 403,779
Deferred tax liability.................................... 111,000 40,000
------------ --------------
Total noncurrent liabilities.................... 121,203 3,943,779
------------ --------------
Total liabilities .............................. 24,136,441 26,751,532
------------ --------------
Commitment and contingencies..................................
Redeemable capital stock...................................... 562,666 916,949
Partners', members' and shareholders' equity:
Partners' capital......................................... 0 1,758,896
Members' deficit ......................................... 0 (489,701)
Common stock.............................................. 900,000 4,590
Additional paid-in capital ............................... 25,024,708 14,370
Retained earnings ........................................ 4,424,991 3,538,607
------------ --------------
Total partners', members and
shareholders' equity 30,349,699 4,826,762
------------ --------------
Total liabilities and partners',
members' and shareholders' equity ............ $ 55,048,806 $ 32,495,243
============ ==============
</TABLE>
The accompanying condensed notes to financial
statements are an integral part of these balance sheets
2<PAGE>
Financial Statements-Continued
<TABLE>
<CAPTION>
INNOTRAC CORPORATION
INCOME STATEMENTS
Three Months and Six Months Ended June 30, 1998 and 1997
(Unaudited)
Three Months Ended June 30, Six Months Ended June 30,
1998 1997 1998 1997
--------------- --------------- --------------- ---------------
<S> <C> <C> <C> <C>
Revenues, net ...................... $ 36,345,692 $ 24,699,014 $ 58,910,636 $ 47,087,169
Cost of revenues.................... 26,514,660 18,676,388 42,926,304 36,790,004
--------------- --------------- --------------- ---------------
Gross Profit.............. 9,831,032 6,022,626 15,984,332 10,297,165
--------------- --------------- --------------- ---------------
Operating expenses:
Selling, general and ..........
administrative expenses...... 5,103,224 3,149,526 8,531,112 5,863,311
Depreciation and amortization.. 234,141 151,101 372,535 341,255
--------------- --------------- --------------- ---------------
Total operating expenses.. 5,337,365 3,300,627 8,903,647 6,204,566
--------------- --------------- --------------- ---------------
Operating income ................... 4,493,667 2,721,999 7,080,685 4,092,599
--------------- --------------- --------------- ---------------
Other (income) expense:
Interest expense ................ 257,875 487,343 572,885 981,041
Other............................ 15,109 275,582 20,959 (15,890)
--------------- --------------- --------------- ---------------
Total other expenses...... 272,984 762,925 593,844 965,151
--------------- --------------- --------------- ---------------
Income before income taxes.......... 4,220,683 1,959,074 6,486,841 3,127,448
Income tax provision ............... (1,143,000) (9,300) (1,082,000) 34,700
--------------- --------------- --------------- ---------------
Net income ............... $ 3,077,683 $ 1,949,774 $ 5,404,841 $ 3,162,148
=============== =============== =============== ===============
Proforma net income $ 2,595,720 $ 1,204,831 $ 3,989,407 $ 1,923,381
=============== =============== =============== ===============
Proforma net income per share:
Basic $ 0.33 $ 0.19 $ 0.54 $ 0.30
=============== =============== =============== ===============
Diluted $ 0.33 $ 0.19 $ 0.54 $ 0.30
=============== =============== =============== ===============
Shares used for computing net
income per share:
Basic 7,888,889 6,500,000 7,327,815 6,500,000
=============== =============== =============== ===============
Diluted 7,921,526 6,500,000 7,344,901 6,500,000
=============== =============== =============== ===============
</TABLE>
The accompanying condensed notes to financial
statements are an integral part of these statements
3<PAGE>
Financial Statements-Continued
<TABLE>
<CAPTION>
INNOTRAC CORPORATION
STATEMENT OF CASH FLOWS
For the six months ended June 30, 1998 and 1997
(Unaudited)
1998 1997
------------- -------------
<S> <C> <C>
Cash flows from operating activities:
Net income $ 5,404,841 $ 3,162,148
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization............................ 372,535 341,255
Depreciation-rental equipment............................ 1,597,945 1,857,981
Loss on disposal of rental equipment..................... 1,034,901 2,221,821
Deferred income taxes.................................... 236,000 (95,000)
Increase in accounts receivable.......................... (16,972,634) (1,515,517)
Decrease in inventories.................................. 835,163 1,033,595
(Increase) decrease in prepaid expenses and other assets. (144,613) 165,039
Increase (decrease) in accounts payable.................. 6,042,795 (5,341,899)
Increase in accrued expenses............................. 1,702,435 4,991,899
Other.................................................... 317,808 (305,811)
------------- -------------
Net cash provided by operating activities........... 427,176 6,515,511
------------- -------------
Cash flows from investing activities:
Accrued equipment purchases.................................. 0 (798,000)
Purchase of property and equipment........................... (2,923,946) (2,716,756)
------------- -------------
Net cash used in investing activities............... (2,923,946) (3,514,756)
------------- -------------
Cash flows from financing activities:
Net repayment under lines of credit.......................... (6,330,200) (3,738,743)
Repayment of long-term debt ................................. (1,063,608) (379,603)
Repayment of subordinated debt............................... (3,500,000) 0
Proceeds from initial public offering, net................... 26,927,813 0
Redemption of redeemable capital stock ...................... (388,000) 0
Distributions to shareholders, members and partners.......... (9,647,321) (717,640)
------------- -------------
Net cash provided by (used in) financing activities 5,998,684 (4,835,986)
------------- -------------
Net increase (decrease) in cash and cash equivalents............. 3,501,914 (1,835,231)
Cash and cash equivalents, beginning of period................... 553,746 2,004,746
------------- -------------
Cash and cash equivalents, end of period ........................ $ 4,055,660 $ 169,515
============= =============
Supplemental cash flow disclosures:
Cash paid for interest....................................... $ 695,450 $ 980,868
============= =============
Cash paid for income taxes, net of refunds received.......... $ 528,192 $ 366,111
============= =============
Non cash transactions:
Accreted dividends on redeemable capital stock............... $ 33,717 $ 42,376
============= =============
</TABLE>
The accompanying condensed notes to financial
statements are an integral part of these statements
4<PAGE>
Financial Statements-Continued
INNOTRAC CORPORATION
CONDENSED NOTES TO FINANCIAL STATEMENTS
JUNE 30, 1998 AND 1997
1. Certain information and footnote disclosures normally
included in financial statements prepared in accordance with
generally accepted accounting principles have been condensed
or omitted pursuant to Article 10 of Regulation S-X of the
Securities and Exchange Commission. The accompanying
unaudited condensed financial statements reflect, in the
opinion of management, all adjustments necessary to achieve
a fair statement of financial position and results for the
interim periods presented. All such adjustments are of a
normal and recurring nature. It is suggested that these
condensed financial statements be read in conjunction with
the financial statements and notes thereto included in the
Company's Registration Statement on Form S-1 relating to the
Company's initial public offering, which was declared
effective by the Securities and Exchange Commission on May
6, 1998.
2. In May 1998, the Company completed an initial public
offering of its Common Stock. The Company issued 2,500,000
shares at an initial public offering price of $12.00 per
share. The total proceeds of the offering, net of
underwriting discounts and offering expenses, were
approximately $26,928,000.
3. The Company used a portion of the proceeds from the initial
public offering to repay outstanding balance of $13,789,000
under the Company's line of credit (subsequent to the
initial public offering, the Company has made periodic
borrowings against the line of credit to fund short term
capital needs); repay outstanding principal amount of
$778,000 loaned to the Company by a bank plus accrued
interest (at the rate of 8.95% per annum) of approximately
$2,000; repay outstanding principal amount $3,500,000 loaned
to the Company by a shareholder plus accrued interest (at
the rate of 16.5% per annum) of approximately $116,000; paid
approximately $1,477,000 for software upgrades and paid
distributions of a portion of the undistributed earnings of
certain affiliated pass-through entities that were
consolidated into Innotrac of $7,500,000.
4. The pro forma net income and earnings per share reflect the
company's results on a fully taxed basis to reflect
consolidation of the various affiliated pass-through
entities into a C corporation in conjunction with the
initial public offering.
5. Basic earnings per share is computed by dividing pro forma
net income by the weighted average number of common shares
outstanding. Diluted earnings per share includes the effect
of the Company's stock options (using the treasury stock
method). The following table shows the computation of the
number of shares outstanding:
5<PAGE>
Financial Statements-Continued
<TABLE>
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
1998 1997 1998 1997
--------- --------- -------- ---------
<S> <C> <C> <C> <C>
Basic Shares 7,888,889 6,500,000 7,327,815 6,500,000
Stock Options 32,637 0 17,086 0
--------- --------- -------- ---------
Diluted Shares 7,921,526 6,500,000 7,344,901 6,500,000
========= ========= ========= =========
</TABLE>
6<PAGE>
ITEM 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
Since its formation in 1984, the Company has expanded its
business and facilities to offer distribution and management
services, and inbound teleservices in response to the needs of
clients in a variety of industries and to capitalize on market
opportunities. In 1987, the Company began providing marketing
support services to BellSouth. In 1991, the Company initiated a
fulfillment program to sell or rent to BellSouth customers Caller
ID hardware, phone sets and other equipment, and in 1993, began
billing the charges on customers' telephone bills. As part of
this program, Innotrac acquires the Caller ID and other
telecommunications equipment from third party manufacturers,
thereby assuming inventory and credit risk. Upon receipt of an
order, the Company ships the product, tracks inventory levels and
sales and marketing data and maintains teleservicing operations
to handle customer service and technical support. From time to
time, rather than acquiring units and selling or leasing them to
BellSouth customers, the Company distributes, for a fee, Caller
ID hardware that BellSouth has purchased from various third-party
manufacturers.
At a customer's option, the Company sells one of its various
models of Caller ID units generally in four to six installments
or rents certain models for an open-ended term (which the Company
estimates has averaged 1.5 years). If a rental customer chooses
to purchase a Caller ID unit, the customer must return the old
unit (approximately 93% of the returned units are refurbished and
rented again by the Company) and purchase a new one. The Company
writes off the remaining net book value of rental units that are
not returned and includes such amounts in its cost of revenues.
The Company's margins on installment sales and rentals of Caller
ID units are similar. Rentals of Caller ID units accounted for
approximately 11% and 18% of the Company's net revenues for the
six months ended June 30, 1998 and 1997, respectively, while
sales of Caller ID units accounted for approximately 81% and 80%
of the Company's net revenues for the six months ended June 30,
1998 and 1997, respectively.
To leverage its experience and infrastructure investment related
to the BellSouth marketing support program, the Company entered
into an agreement with Pacific Bell in June 1996 to sell Pacific
Bell's Caller ID equipment. The Company also provides marketing
support services to US West and seeks other telecommunications
companies for whom it can provide similar marketing support
services. In June 1998, the Company entered into an agreement
with SBC Communications, Inc. to become an approved fulfillment
partner for Caller ID related telecommunications equipment.
Under the terms of this agreement, the Company exchanged its
exclusive arrangement with Pacific Bell in California to become
an approved fulfillment partner for Southwestern Bell, Pacific
Bell and Nevada Bell, al1 of which are subsidiaries of SBC
Communications, Inc.
7<PAGE>
The Company has experienced significant growth in revenues in
recent years primarily due to the growth in Caller ID market
penetration and service improvements by the Company with respect
to product-based marketing support services. Industry sources
indicate that at the end of 1995, BellSouth's Caller ID
penetration was approximately 13%. BellSouth indicates that
through the end of December 1997 its Caller ID penetration had
increased to approximately 29%. In 1993, the Company began
billing on the telephone bill and in mid-1995, changed the method
of selling BellSouth equipment from taking referrals in the
Company's call center from BellSouth representatives to having a
BellSouth representative negotiate sales on behalf of the Company
and send order information to the Company by electronic data
interchange ("EDI"). This change in process increased sales and
decreased order-processing time. Also, in January 1997, the
Company implemented an interactive voice response ("IVR") system
to handle some of the BellSouth customer service calls, which
generally reduced response time and lowered operating costs.
Services provided to BellSouth and its customers accounted for
70%, 85%, 82% and 82% of the Company's net revenues for the six
months ended June 30, 1998 and for the years ended December 31,
1997, 1996 and 1995, respectively.
Management believes that growth in revenues from Caller ID
marketing support services will remain constant for the next
several years as market penetration increases and new Caller ID
services that require enhanced equipment are introduced. Sales
are expected to level off as the market matures. According to
industry sources, market penetration of Caller ID services in the
U.S. as of December 1, 1997 is approximately 18% and is expected
to peak at approximately 75% by 2007. Management intends to
offset the eventual maturity of its Caller ID business by
diversifying its client base and expand the scope of marketing
support services it renders to its clients by cross-selling its
other services to existing clients. Additionally, the Company
intends to contact previous purchasers of Caller ID products to
promote newer enhanced Caller ID products.
Revenues are recognized on the accrual basis as services are
provided to customers or as units are shipped (including
installment sales) or rentals are provided. Revenues are reduced
for an estimate of product returns and allowances. This
provision is calculated based on the Company's historical
experience applied to current sales.
The largest component of the Company's expenses is its cost of
revenues, which includes the product costs of telecommunications
equipment, depreciation on Caller ID rental equipment, the costs
of labor associated with marketing support services for a
particular client, telecommunications services costs, materials
and freight charges, and directly allocable facilities costs.
Most of these costs are variable in nature. A second component
of the Company's expenses includes selling, general and
administrative ("SG&A") expenses. This expense item is comprised
of labor and other costs associated with marketing, financial,
information technology support, human resources and
administrative functions that are not allocable to specific
client services, as well as bad debt expense. Bad debt expense
represents a provision for installments and rentals that will be
deemed to be uncollectible based on the Company's historical
experience as well as billing adjustments from telecommunications
providers. SG&A expenses tend to be fixed in nature, with the
exception of bad debt, which is related to revenues.
8<PAGE>
This discussion may contain certain forward-looking statements
that are beyond the control of the Company. Actual results may
differ materially from those expressed or implied by such
forward-looking statements. Factors that could cause actual
results to differ include, but are not limited to, the reliance
on a small number of major clients; risk associated with product-
based marketing support services; reliance on the
telecommunications industry; ability to continue and manage
growth; the impact of the trend toward outsourcing; dependence on
labor force; risks of business interruption and the effects of
the Company's new facility; risks associated with rapidly
changing technology and the Company's conversion to new software;
risks associated with competition; dependence on key personnel;
risks associated with Year 2000 compliance; compliance with
government regulation; control by management; difficulties of
completing and integrating acquisitions and other factors
discussed in more detail under "Risk Factors" in the Company's
final prospectus dated May 6, 1998.
RESULTS OF OPERATIONS
The following table sets forth summary operating data, expressed
as a percentage of revenues, for the three months and six months
ended June 30, 1997 and 1998, respectively. The information
below is unaudited, has been prepared on the same basis as the
annual financial statements and, in the opinion of the Company's
management, reflects all adjustments (consisting only of normal
and recurring adjustments) necessary for a fair presentation of
the information for the periods presented. Operating results for
any period are not necessarily indicative of results for any
future period.
The financial information provided below has been rounded in
order to simplify its presentation. However, the percentages
below are calculated using the detailed information contained in
the financial statements.
<TABLE>
<CAPTION>
Three Months Six Months
Ended June 30 Ended June 30
------------- -------------
1998 1997 1998 1997
------ ------ ------ ------
<S> <C> <C> <C> <C>
Revenues, net...................................... 100.0% 100.0% 100.0% 100.0%
Cost of revenues................................... 73.0 75.6 72.9 78.1
Gross profit....................................... 27.0 24.4 27.1 21.9
Selling, general and administrative expenses....... 14.0 12.8 14.5 12.5
Operating income................................... 12.4 11.0 12.0 8.7
Interest expense................................... 0.7 2.0 1.0 2.1
Income before income taxes......................... 11.6% 7.9% 11.0% 6.6%
</TABLE>
9<PAGE>
THREE MONTHS ENDED JUNE 30, 1998 COMPARED TO THREE MONTHS ENDED
JUNE 30, 1997
REVENUES. The Company's net revenues increased 47.2% to $36.3
million for the three months ended June 30, 1998 from $24.7
million for the three months ended June 30, 1997. The increase in
revenue was primarily due to a 37.8% increase in Caller ID units
sold and fulfilled to 671,000 units along with an increase in the
percentage of units sold to 77.2% of total unit volume versus
60.2% for the three months ended June 30, 1997. This was
slightly offset by a decrease in average per unit prices of
Caller ID units. The Company's reserve for returns and
allowances increased from $1.9 million (7.5% of net revenues) for
the three months ended June 30, 1997 to $3.6 million (9.9% of net
revenues) for the three months ended June 30, 1998.
COST OF REVENUES. The Company's cost of revenues increased 42.0%
to $26.5 million for the three months ended June 30, 1998
compared to $18.7 million for the three months ended June 30,
1997. This was primarily due to an increase in cost of equipment
associated with the increase in units sold by the Company as
described above.
GROSS PROFIT. For the three months ended June 30, 1998, the
Company's gross profit increased 63.2% to $9.8 million as
compared to $6.0 million for the three months ended June 30,
1997 and gross margin increased to 27.0% of revenues from 24.4%
of revenues, respectively. The increase in gross profit was
primarily due to the increase in revenue. The increase in gross
margin was due primarily to improved equipment margins and lower
call center and fulfillment center costs per order due to efforts
to control labor costs and the efficiencies associated with the
increased volume.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. SG&A expenses for
the three months ended June 30, 1998 increased 62.0% to $5.1
million or 14.0% of revenues compared to $3.1 million or 12.8% of
revenues for the three months ended June 30, 1997. The Company's
bad debt expense, most of which is associated with sales of
Caller ID and other telecommunications equipment to BellSouth and
Pacific Bell customers, was $3.2 million (8.7% of net revenues)
for the three months ended June 30, 1998 as compared to $2.0
million (8.0% of net revenues) for the three months ended June
30, 1997. The Company's bad debt expense for the year ended
December 31, 1997 was $7.6 million (8.8% of net revenues). The
increase in bad debt expense and the allowance for doubtful
accounts (inclusive of the reserve for returns and allowances)
(16.1% of gross accounts receivable) in the 1998 quarter compared
to the 1997 quarter was primarily due to higher Caller ID market
penetration, which the Company believes results in an increase in
sales of Caller ID units to consumers having higher credit risks.
The allowance for doubtful accounts (inclusive of the reserve for
returns and allowances) increased from 13.6% of gross accounts
receivable at March 31, 1998 to 16.1% of gross accounts
receivable at June 30, 1998, as write-offs for the three months
ended June 30, 1998 were $5.8 million and the provision and
reserve for returns and allowances was $6.8 million combined.
The increase in other S,G&A expenses is due to increased sales
and marketing efforts, increased insurance and benefits expenses
and increased administrative costs to support the Company's
growth.
10<PAGE>
INTEREST EXPENSE. Interest expense decreased to $258,000 for the
three months ended June 30, 1998 from $487,000 for the three
months ended June 30, 1997. This was primarily due to repayment
of a term loan from a bank and a subordinated note payable to a
shareholder and lower borrowings under the Company's line of
credit due to the Company's receipt of proceeds from the initial
public offering on May 11, 1998.
INCOME TAXES. The Company's effective tax rates for the three
months ended June 30, 1998 and 1997 were 27.0% and 0.5%,
respectively. The effective tax rates are lower than statutory
rates due to the amount of income attributable to the pass-
through entities involved in the combination of the Company and
related pass-through entities (the "Consolidation") at the same
time as consummation of the initial public offering prior to the
consolidation. As a result of the Consolidation, the Company
expects its effective tax rate in future periods to increase to
statutory levels.
SIX MONTHS ENDED JUNE 30, 1998 COMPARED TO SIX MONTHS ENDED 1997
REVENUES. The Company's net revenues increased 25.1% to $58.9
million for the six months ended June 30, 1998 from $47.1
million for the six months ended June 30,1997. Consistent with
the quarter's results, the increase in revenue was due primarily
to increased Caller ID volume. Total Caller ID units sold and
fulfilled during the first half of 1998 increased 50.0% to 1.5
million units from 1.0 million units for the first six months of
1997. The percentage of units sold versus fulfilled was 53.7%
versus 55.5% for the six months ended June 30, 1998 and 1997,
respectively. The increase in unit volume was partially offset
by lower per unit sales prices. The growth was also partially
offset by an increase in the Company's reserve for returns and
allowances from $3.1 million (6.7% of net revenues) for the six
months ended June 30, 1997 to $5.5 million (9.4% of net revenues)
for the six months ended June 30, 1998.
COST OF REVENUES. The Company's cost of revenues increased 16.7%
to $42.9 million for the six months June 30, 1998 compared to
$36.8 million for the six months ended June 30, 1997. This
increase was due to increased revenue volume described above.
GROSS PROFIT. For the six months ended June 30, 1998, the
Company's gross profit increased 55.2% to $16.0 million or 27.1%
of revenues as compared to $10.3 million or 21.9% of revenues for
the six months ended June 30, 1997. The increase in gross margin
was due primarily to improved equipment margins and lower call
center and fulfillment center costs per order due to efforts to
control labor costs and the efficiencies associated with the
increased volume.
11<PAGE>
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. SG&A expenses for
the six months ended June 30, 1998 were $8.5 million or 14.5% of
revenues compared to $5.9 million or 12.5% of revenues for the
six months ended June 30, 1997. The Company's bad debt expense,
most of which was associated with sales of Caller ID and other
telecommunications equipment to BellSouth and Pacific Bell
customers, was $4.9 million (8.3% of net revenues) for the six
months ended June 30, 1998 as compared to $3.5 million (7.5% of
net revenues) for the six months ended June 30, 1997. The
Company's bad debt expense for the year ended December 31, 1997
was $7.6 million (8.8% of net revenues). The increase in bad
debt expense and the allowance for doubtful accounts (inclusive
of the reserve for returns and allowances) (22.1% of gross
accounts receivable) was primarily due to the Company's higher
revenue volume and higher Caller ID market penetration, which the
Company believes results in an increase in sales of Caller ID
units to consumers having higher credit risks. The Company
believes that higher credit risk customers result in larger
write-offs for non-payment due to increased chargebacks by
telecommunications companies to suppliers of nonregulated
services when customers do not pay for these services.
Consistent with the results for the quarter, the increase in
other selling, general and administrative expenses is due to
increased sales and marketing efforts, increased insurance and
benefits expenses and administrative costs to support the
company's growth.
INTEREST EXPENSE. Interest expense decreased from $981,000 for
the six months ended June 30, 1997 to $573,000 for the six months
ended June 30, 1998. The decrease was primarily due to repayment
of a note payable from a bank and subordinated note payable to a
shareholder due to proceeds received from initial public offering
on May 11, 1998 and lower bank borrowings under the Company's
line of credit from the previous period ended.
INCOME TAXES. The Company's effective tax rates for the six
months ended June 30, 1998 and 1997 were 16.7% and (1.1)%,
respectively. The change from 1997 to 1998 was primarily the
result of a lower level of income attributable to the pass-
through entities involved in the Consolidation prior to the
consolidation. As a result of the Consolidation, the Company
expects its effective tax rate in future periods to increase to
statutory levels.
LIQUIDITY AND CAPITAL RESOURCES
Prior to its initial public offering, the Company has funded its
operations and capital expenditures primarily through cash flow
from operations and borrowings from banks and shareholders. The
Company had cash and cash equivalents of approximately $4.1
million and $170,000 at June 30, 1998 and 1997, respectively.
The Company maintains a $25.0 million revolving line of credit
with a bank, maturing in November 1999, which was increased from
$18.0 million in December 1997. Borrowings under the line of
credit bear interest at the Company's option at the bank's prime
rate, as adjusted from time to time, or LIBOR plus up to 225
basis points. At June 30, 1998, the interest rate was 8.5%. In
May 1998, the Company repaid a term loan with a bank that would
have matured in July 1999 and bore interest at 8.95% per annum
along with a subordinated note payable to a shareholder which
12<PAGE>
would have matured in April 1999 and bore interest at a
particular bank's prime rate, as adjusted from time to time, plus
8.0% per annum, with proceeds received from the initial public
offering on May 11, 1998. At June 30, 1998, $2.2 million was
outstanding under the line of credit.
As of June 30, 1998, the Company had entered into various
operating leases in the ordinary course of business and an
operating lease for a new distribution facility and corporate
offices expected to be ready for occupancy in the third quarter
of 1998. As a result of the new facility lease, rental expense
will increase approximately $400,000 per year through 2008. In
addition, the Company entered into an agreement with a related
party to acquire from him by the end of 1998 all of his interest
in a subsidiary of the Company and one entity involved in the
Consolidation for an aggregate of $980,000. As a part of the
agreement, during the six months ended June 30, 1998, the Company
acquired the interest in the entity involved in the Consolidation
for $388,000. The Company will acquire the interest in the
subsidiary in December 1998.
During the six months ended June 30, 1998, the Company generated
cash flow from operating activities of $427,000 compared to $6.5
million in the same period in 1997. The decrease in cash flow
from operating activities in 1998 was due to higher working
capital requirements resulting from increases in accounts
receivable (principally installment receivables) due to the
increased sales volume during the first six months of 1998 as
compared to last six months of 1997.
During the six months ended June 30, 1998, net cash used in
investing activities was $2.9 million in 1998 as compared to $3.5
million in 1997. This decrease was primarily due to a decrease
in the number of purchases of Caller ID units for rent, partially
offset by expenditures associated with the Company's software
upgrade.
During the six months ended June 30, 1998, the net cash provided
by financing activities was $6.0 million compared to $4.8 million
used in financing activities in the same period in 1997. During
the six months ended June 30, 1998, the Company received $26.9
million in the initial public offering completed on May 11, 1998
net of fees associated with the initial public offering. The
Company used a portion of the proceeds to repay $4.6 million of
long-term debt, $7.5 million in distributions of undistributed
earnings to shareholders of affiliated flow through entities that
were merged into the company in conjunction with the initial
public offering, and reduced its borrowings under the line of
credit by $13.8 million. Subsequent to the initial public
offering, the Company has made periodic borrowings against the
line of credit to fund short term working capital needs resulting
in a net decrease in borrowings on the line of credit of $6.3
million for the six months ended June 30, 1998.
13<PAGE>
The Company estimates that its cash and financing needs through
1998 will be met by cash flows from operations, its line of
credit facility, and the net proceeds from the Offering.
However, any increase in the Company's growth rate, shortfalls in
anticipated revenues, increases in anticipated expenses, or
significant acquisitions could have a material adverse effect on
the Company's liquidity and capital resources and would require
the Company to raise additional capital from public or private
equity or debt sources in order to finance operating losses,
anticipated growth and contemplated capital expenditures. If
such sources of financing are insufficient or unavailable, the
Company will be required to modify its growth and operating plans
in accordance with the extent of available funding. The Company
may need to raise additional funds in order to take advantage of
unanticipated opportunities, such as acquisitions of
complementary businesses or the development of new products, or
otherwise respond to unanticipated competitive pressures. There
can be no assurance that the Company will be able to raise any
such capital on terms acceptable to the Company or at all.
YEAR 2000 COMPLIANCE
The efficient operation of the Company's business is dependent in
part on its computer software programs and operating systems.
These programs and systems are used in inventory management,
pricing, sales, shipping and financial reporting, as well as in
various administrative functions. Recognizing the importance and
need for an integrated information systems solution, the Company
has developed an implementation plan for upgrading its systems
architecture. This plan also addresses the functionality of its
systems beyond December 31, 1999 ("Year 2000 compliance") as the
majority of the internal information systems are being replaced
with new systems that the systems vendor represents will be Year
2000 compliant. The Company does not anticipate additional
material expenditures for Year 2000 compliance issues. This new
systems implementation is expected to be completed by December
31, 1998. The Company is discussing with its suppliers, clients,
financial institutions and others the possibility of any
interface difficulties relating to Year 2000 compliance that may
affect the Company. To date, no significant concerns have been
identified; however, there can be no assurance that there will
not be any Year 2000-related operating problems or expenses that
will arise with the Company's computer systems and software or in
connection with the Company's interface with the computer systems
and software of its suppliers, clients, financial institutions
and others. Because such third-party systems or software may not
be Year 2000 compliant, the Company could be required to incur
unanticipated expenses to remedy any problems, which could have a
material adverse effect on the Company's business, results of
operations and financial conditions.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1997, the FASB issued Statement of Financial Accounting
Standards No. 130, "Reporting Comprehensive Income" ("SFAS 130"),
which establishes standards for reporting and presentation of
comprehensive income and its components in a full set of general
purpose financial statements. This statement is effective for
periods beginning after December 15, 1997. SFAS 130 did not have
a material impact on the Company's financial statements for any
periods presented.
14<PAGE>
In June 1997, the FASB issued Statement of Financial Accounting
Standards No. 131, "Disclosures about Segments of an Enterprise
and Related Information" ("SFAS 131"), which establishes
standards for the way that public business enterprises report
information about operating segments in annual financial
statements and requires that those enterprises report selected
information about operating segments in interim financial reports
issued to stockholders. It also establishes standards for
related disclosures about products and services, geographic areas
and major customers. This Statement is effective for year-end
financial statements for periods beginning after December 15,
1997. The adoption of SFAS 131 is not expected to have a
material impact on the Company's financial statements.
ITEM 3- QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK
Not applicable.
15<PAGE>
PART II
OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
On May 6, 1998 the Company's Registration Statement on Form
S-1, Commission File No. 42373, was declared effective. The
Company consummated the offering of its Common Stock, par value
$0.10 per share as of May 11, 1998 and received $27.9 million in
net proceeds (after payment of the underwriters' discount of $2.1
million) from the initial public offering of 2,500,000 shares of
its common stock, which was sold at an aggregate price to the
public of $30.0 million. From the aggregate price to the public,
$2.1 million has been applied as the underwriters' discount and
approximately $1.0 million has been applied to date to other
expenses of the initial public offering and paid directly to
entities unaffiliated with the Company. Additional expenses of
the Offering expected to be incurred in the future total
$100,000. In addition to the payment of $3.1 million in net
expenses, as described above, proceeds from the initial offering
have been applied to date as follow:
Repaid term loan from a bank including unpaid interest $ 780,000
Repaid note payable from a shareholder including interest 3,616,000
Distributions on undistributed earnings to shareholders 7,500,000
Purchase of software upgrade 1,477,000
Initial pay down on line of credit 13,789,000
------------
Total $ 27,162,000
============
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
Exhibits
(a) 27. Financial Data Schedule
(b) Reports on Form 8-K -- There were no Form 8-K filings.
16
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act
of 1934, the registrant has duly caused this report to be
signed on its behalf by the undersigned thereunto duly
authorized.
INNOTRAC CORPORATION
(Registrant)
Date: August 10, 1998 By: /s/ Scott D. Dorfman
Scott D. Dorfman
President and Chief Executive
Officer and Chairman
of the Board
Date: August 10, 1998 By: /s/ John H. Nichols III
John H. Nichols III
Vice President and Chief
Financial Officer and Secretary
(Principal Financial Officer)
17
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