<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON DECEMBER 5, 1997
REGISTRATION NO. 333-16629
---------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------
PRE-EFFECTIVE AMENDMENT NO. 3 TO THE FORM S-3
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
-----------------
INCOMNET, INC.
- --------------------------------------------------------------------------------
(Exact Name of Registrant as Specified in its Charter)
CALIFORNIA 7375 95-2871296
- ---------------------------- ---------------------------- -------------
(State or Other Jurisdiction (Primary Standard Industrial (IRS Employer
of Incorporation or Classification Code Number) Identification
Organization) Number)
21031 VENTURA BOULEVARD, SUITE 1100
WOODLAND HILLS, CALIFORNIA 91364
(818) 887-3400
(ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF
REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES)
--------------------
MELVYN REZNICK, PRESIDENT
INCOMNET, INC.
21031 VENTURA BOULEVARD, SUITE 1100
WOODLAND HILLS, CALIFORNIA 91364
(818) 887-3400
(NAME, ADDRESS, INCLUDING ZIP CODE AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF
AGENT FOR SERVICE)
COPIES TO:
MARK J. RICHARDSON, ESQ.
1299 OCEAN AVENUE, SUITE 900
SANTA MONICA, CALIFORNIA 90401
(310) 393-9992
-----------------------
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE OF SECURITIES TO THE PUBLIC:
AS SOON AS PRACTICABLE AFTER THIS REGISTRATION STATEMENT IS DECLARED EFFECTIVE.
IF ANY OF THE SECURITIES BEING REGISTERED ON THIS FORM ARE BEING OFFERED ON A
DELAYED OR CONTINUOUS BASIS PURSUANT RULE 415 UNDER THE SECURITIES ACT OF 1933,
CHECK THE FOLLOWING BOX: /X/
<PAGE>
-----------------------
CALCULATION OF REGISTRATION FEE
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------
TITLE OF EACH CLASS AMOUNT TO BE PROPOSED PROPOSED MAXIMUM AMOUNT OF
OF SECURITIES TO BE REGISTERED(1) MAXIMUM OFFERING AGGREGATE OFFERING REGISTRATION FEE
REGISTERED PRICE PER SHARE PRICE
- --------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Common Stock . . . . . . 920,751 $ 2.75 2,532,065 $ 858.33
- --------------------------------------------------------------------------------------------------
Common Stock Underlying
Warrants to Purchase
Common Stock(1). . . . . 360,000 3.75 1,350,000 457.63
- --------------------------------------------------------------------------------------------------
Common Stock Underlying
Warrants to Purchase
Common Stock(1). . . . . 12,500 2.94 36,500 12.37
- --------------------------------------------------------------------------------------------------
Common Stock Underlying
Warrants to Purchase
Common Stock(1). . . . . 50,000 5.26 263,000 89.15
- --------------------------------------------------------------------------------------------------
Common Stock Underlying
Warrants to Purchase
Common Stock(1). . . . . 55,000 3.00 165,000 55.93
- --------------------------------------------------------------------------------------------------
Common Stock Underlying
Convertible Preferred
Stock(1) . . . . . . . . 1,278,030 2.40 3,067,272 1,039.75
- --------------------------------------------------------------------------------------------------
Total . . . . . . 2,676,281 - $ 7,413,837 $ 2,513.16*
- --------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------
</TABLE>
- -------------------------
(1) Pursuant to Rule 416, there are also being registered such additional
shares of Common Stock as may become issuable pursuant to the anti-dilution
provisions of the Warrants or the Series B Convertible Preferred Stock.
* $2,025.40 of this fee has already been paid.
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF
THE SECURITIES ACT OF 1933, AS AMENDED, OR UNTIL THE REGISTRATION STATEMENT
SHALL BECOME EFFECTIVE ON SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION,
ACTING PURSUANT TO SAID SECTION 8(A), MAY DETERMINE.
<PAGE>
PROSPECTUS
SUBJECT TO COMPLETION, DATED DECEMBER 5, 1997
INCOMNET, INC.
2,676,281 SHARES OF COMMON STOCK
The shares covered by this Prospectus are comprised of (i) 477,500
shares of the Common Stock of Incomnet, Inc., a California corporation (the
"Company") which may be purchased upon the exercise of 477,500 warrants (the
"Warrants") which were issued to certain affiliates of Rapid Cast, Inc. (in
which the Company has a minority interest) and other private investors (the
"Warrantholders"), (ii) 170,751 shares of the Common Stock of the Company
(the "Outstanding Shares") which were issued to several investors upon the
prior conversion by them of Series A 2% Convertible Preferred Stock ("Series
A Preferred") and in a private placement, (iii) 1,100,000 shares of the
Common Stock of the Company which may be issued upon the conversion of 2,434
shares of Series B 6% Convertible Preferred Stock ("Series B Preferred"),
(iv) 178,030 shares of the Common Stock of the Company which may be issued
upon the exercise of an option to purchase up to 450 additional shares of
Series B Preferred and the conversion of those additional shares into Common
Stock, and (v) 750,000 shares of the Company's Common Stock (the "Shares"),
some or all of which may be issued upon the conversion of outstanding Series
A Preferred (up to 125 shares of Series A Preferred only, since the holders
of all other Series A Preferred waived their registration rights), or Series
B Preferred, or offered and sold from time to time at the prevailing market
price through a registered member of the National Association of Securities
Dealers, Inc. (the "Underwriter"). The Underwriter for the offer and sale of
the Shares is Continental Pacific Securities, Inc. The shares of Common
Stock issuable upon the exercise of the Warrants or the conversion of Series
B Preferred are referred to herein as the "Underlying Shares." The holders
of the Underlying Shares, when issued, and the Outstanding Shares are herein
referred to as the "Shareholders." The Outstanding and Underlying Shares
are being offered for resale by the Shareholders and not pursuant to an
initial issuance of stock by the Company. The Warrants and Series B
Preferred have not been separately registered and are not offered by this
Prospectus. The Warrants, Outstanding Shares, Series A Preferred and Series
B Preferred were issued in private placements pursuant to Section 4(2) of the
Securities Act of 1933, as amended. See "DESCRIPTION OF CAPITAL STOCK" and
"SELLING SECURITY HOLDERS."
The Company's Common Stock is traded on the NASDAQ Small Capital Market
("NASDAQ/Small Cap") under the symbol "ICNT." The last reported sale price of
the Common Stock on the NASDAQ/Small Cap on November 26, 1997 was $2.90
per share. See "PRICE RANGE OF COMMON STOCK AND DIVIDENDS."
----------
See "RISK FACTORS" for certain factors that should be considered by
prospective investors.
-----------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION
NOR HAS THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES
COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS.
ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------------
Price Underwriting Proceeds
to Discounts and to
Public Commissions(1) Company
- ----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
PER UNDERLYING SHARE-WARRANTS (2). . . . . . . . . $ 3.75 $ 0 $ 1,350,000
- ----------------------------------------------------------------------------------------------------------
PER UNDERLYING SHARE-SERIES B PREFERRED (2). . . . $ 3.97 $ 0 $ 2,248,000
- ----------------------------------------------------------------------------------------------------------
PER UNDERLYING SHARE-WARRANTS(2) . . . . . . . . . $ 2.94 $ 0 $ 36,500
- ----------------------------------------------------------------------------------------------------------
PER UNDERLYING SHARE-WARRANTS(2) . . . . . . . . . $ 5.26 $ 0 $ 263,000
- ----------------------------------------------------------------------------------------------------------
PER UNDERLYING SHARE-WARRANTS(2) . . . . . . . . . $ 3.00 $ 0 $ 165,000
- ----------------------------------------------------------------------------------------------------------
PER SHARE (3). . . . . . . . . . . . . . . . . . . $ --- $ --- $ ---
- ----------------------------------------------------------------------------------------------------------
TOTAL (4). . . . . . . . . . . . . . . . . . . . . $ --- $ --- $ 4,062,500
- ----------------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------------
</TABLE>
- -------------------------
(1) No underwriters will be involved in the exercise of Warrants or the
conversion of Series B Preferred, nor were any underwriters involved in the
issuance of the Warrants, the Outstanding Shares, the Series A Preferred
or the Series B Preferred. A referral fee equal to 5% of the gross
proceeds of the placement of the Series A Preferred was paid by the Company
to an unaffiliated referral source. A total referral fee of $186,000
(ie. $152,000 in cash and 34 shares of Series B Preferred with a value of
$1,000 per share) was paid by the Company to an unaffiliated referral
source for the placement of the Series B Preferred. The Shareholders do
not have any specific plan of distribution with respect to the Outstanding
Shares or Underlying Shares. The sale of the Outstanding Shares and
Underlying Shares may be made in the open market through broker-dealers or
in individual negotiated transactions.
-1-
<PAGE>
(2) The price per share for the Underlying Shares relating to the Warrants
reflects the exercise price of the Warrants. The price per share for the
Underlying Shares relating to the Series B Preferred reflects the maximum
average conversion price at which the Series B Preferred is convertible.
The conversion price may be less depending on the average bid price for the
Company's Common Stock on the public trading market for the five trading
days immediately preceding the conversion date. See "THE COMPANY -
Issuance of Convertible Preferred Stock - Conversion." The Company
received net proceeds of $2,248,000 from the issuance of the Series B
Preferred covered by this Prospectus. The table does not include up to
450 additional shares of Series B Preferred which may be issued in the
future pursuant to the exercise of an option to purchase Series B
Preferred at a price of $1,000 per share. The maximum conversion price
for those shares is therefore not known at this time. See "THE COMPANY -
Issuance of Convertible Preferred Stock - Warrants and Options."
(3) Those Shares which are not issued upon the conversion of outstanding Series
B Preferred may be issued from time to time at the prevailing market price
through the Underwriter. The price per Share and underwriting commission
are therefore undetermined at this time.
(4) The total proceeds to the Company will equal the aggregate exercise price
of 477,500 Warrants and the original issuance price of the Series B
Preferred and the Shares. The proceeds from the sale of the Shares is not
known at this time since (a) the number of Shares remaining after the
conversion of all outstanding Series B Preferred and up to 125 shares of
Series A Preferred is not yet known, (b) the market price at which the
remaining Shares, if any, are sold through the Underwriter is not yet
known, and (c) the amount of underwriting discounts and commissions on the
sale of the Shares is not known at this time. See "THE COMPANY - Issuance
of Convertible Preferred Stock." The Shareholders will receive all net
proceeds from the sale of their respective Outstanding Shares and
Underlying Shares.
AVAILABLE INFORMATION
Incomnet, Inc. is subject to the information requirements of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"), and in accordance
therewith file reports, proxy statements and other information with the
Securities and Exchange Commission (the "SEC"). Copies of such reports, proxy
statements and other information can be obtained, upon payment of prescribed
fees, from the SEC at Room 1024, 450 Fifth Street, N.W., Judiciary Plaza,
Washington, D.C. 20549. In addition, such reports, proxy statements and other
information can be inspected at the SEC's facilities referred to above and at
the SEC's Regional Office at 5670 Wilshire Boulevard, 11th Floor, Los Angeles,
California 90036-3648. The Company's Common Stock is reported on the National
Association of Securities Dealers Automated Quotation Small Capital System and
such reports, proxy statements and other information regarding Incomnet are
available for inspection and copying at 33 Whitehall, New York, New York 10004.
The Company has filed with the SEC a Registration Statement on Form S-3
(together with any amendments thereto, the "Registration Statement") under the
Securities Act of 1933, as amended (the "Securities Act"), with respect to the
Underlying Shares. This Prospectus does not contain all the information set
forth in the Registration Statement. Such additional information may be obtained
from the SEC's principal office in Washington, D.C.
Statements contained in this Prospectus or in any document incorporated by
reference in this Prospectus as to the contents of any contract or other
document referred to herein or therein are not necessarily complete, and in each
instance reference is made to the copy of such contract or other document filed
as an exhibit to the Registration Statement or such other document, each such
statement being qualified in all respects by such reference.
INCORPORATION OF CERTAIN DOCUMENTS BY REFERENCE
The following documents filed with the SEC are incorporated in this
Prospectus by reference:
(a) The Company's Annual Report on Form 10-K for the fiscal year
ended December 31, 1996 filed on April 15, 1997, as amended by Form 10-KA
filed on May 23, 1997 (provided that the information referred to in Item
402(a)(8) of Regulation S-K shall not be deemed to be specifically
incorporated herein).
-2-
<PAGE>
(b) The Company's Quarterly Report on Form 10-Q for the fiscal quarter
ended September 30, 1997 filed on November 14, 1997.
(c) The Company's Quarterly Report on Form 10-Q for the fiscal quarter
ended June 30, 1997 filed on August 13, 1997.
(d) The Company's Quarterly Report on Form 10-Q for the fiscal quarter
ended March 31, 1997 filed on May 15, 1997.
(e) The Company's Quarterly Report on Form 10-Q for the fiscal quarter
ended September 30, 1996 filed on November 14, 1996.
(f) The Company's Quarterly Report on Form 10-QA for the fiscal quarter
ended September 30, 1997 filed on December 3, 1997.
(g) The Company's Quarterly Report on Form 10-QA for the fiscal quarter
ended June 30, 1997 filed on December 3, 1997.
(h) The Company's Quarterly Report on Form 10-QA for the fiscal quarter
ended March 31, 1997 filed on December 3, 1997.
(i) The Company's Annual Report on Form 10-KA for the fiscal year
ended December 31, 1996 filed on December 3, 1997.
(j) The Company's Current Report on Form 8-K filed on February 8, 1995,
its Current Report on Form 8-K filed on July 25, 1995, its Current Report on
Form 8-K filed on August 18, 1995, its Current Report on Form 8-K filed on
November 15, 1995, its Current Report on Form 8-K filed on November 30, 1995,
its Current Report on Form 8-K filed on February 9, 1996, its Current Report
on Form 8-K filed on April 29, 1996, its Current Report on Form 8-K filed on
June 7, 1996, its Current Report on Form 8-K filed on August 8, 1996, its
Current Report on Form 8-K filed on January 28, 1997, its Current Report on
Form 8-K filed on February 7, 1997, its Current Report on Form 8-K filed on
April 10, 1997, its Current Report on Form 8-K filed on May 13, 1997, and its
Current Report on Form 8-K filed on August 20, 1997.
(k) The Company's definitive Proxy Statement on Schedule 14A, dated
November 17, 1997 and filed with the Securities and Exchange Commission on
November 7, 1997.
(l) All documents filed by the Company pursuant to Section 13(a), 13(c),
14 or 15(d) of the Exchange Act after the date of this Prospectus.
Any statement contained in a document incorporated herein by reference will
be deemed to be modified or superseded for the purpose of this Prospectus to the
extent that a statement contained herein or in a subsequently filed document
modifies or supersedes such statement. Any such statement so modified or
superseded will not be deemed, except as so modified or superseded, to
constitute a part of this Prospectus.
This Prospectus incorporates documents by reference which are not presented
herein or delivered with this Prospectus. Such documents relating to the Company
are available without charge upon request made to Incomnet, Inc., 21031 Ventura
Boulevard, Suite 1100, Woodland Hills, California 91364 (telephone (818) 887-
3400), attention: Melvyn Reznick, President.
No person is authorized to give any information or to make any
representations other than as contained herein and, if given or made, such
information or representations must not be relied upon as having been
authorized. This Prospectus does not constitute an offer or solicitation by
anyone in any jurisdiction in which such offer or solicitation is not authorized
or in which the person making such an offer or solicitation is not qualified to
do so or to any person to whom it is unlawful to make such offer or
solicitation. Neither the delivery of this Prospectus nor any distribution of
securities made hereunder shall under any circumstances create an implication
that there has been no change in the affairs of the Company since the date
hereof or that the information herein is correct as of any time subsequent to
the date of this Prospectus.
-3-
<PAGE>
PROSPECTUS SUMMARY
THE FOLLOWING SUMMARY IS QUALIFIED IN ITS ENTIRETY BY THE MORE DETAILED
INFORMATION AND FINANCIAL STATEMENTS APPEARING ELSEWHERE OR INCORPORATED BY
REFERENCE IN THIS PROSPECTUS.
THE COMPANY
Incomnet, Inc. (the "Company" or "Incomnet") and its two wholly owned
subsidiaries, National Telephone & Communications, Inc. ("NTC") and GenSource
Corporation ("GenSource"), are engaged in three types of businesses: (i)
interactive computer networking products and services, (ii) discount long
distance telephone communications services to residential and commercial
customers in the United States, and (iii) the development and marketing of
software that is utilized to process insurance-related claims, including
workers compensation, disability, general medical, and property and casualty
claims. The Company also owns approximately 29% (22% on a fully diluted
basis) of Rapid Cast, Inc. ("RCI"), which is engaged in the business of
manufacturing and marketing the Fast Cast-TM- LenSystem that allows retail
optical stores and wholesale optical lens manufacturing laboratories to
produce single vision, flat-top bifocal and progressive multifocal lenses
rapidly on demand.
Incomnet, Inc. was incorporated under the laws of the State of California
on January 31, 1974. The Company acquires and develops computer hardware and
software for interactive communications networks. It currently operates a
communications network under the tradename "AutoNETWORK" for several hundred
automobile dismantling companies in California, Colorado, Nevada, Arizona,
Oregon and Washington. The network permits the subscribers to share information
simultaneously and to communicate electronically on a real-time basis through
individual computer workstations linked by the Company's proprietary software,
central message switching computer and front-end network processor. The Company
is evaluating other business applications for its communications technology in
order to establish more subscriber-based communications networks. The Company's
principal executive office is located at 21031 Ventura Boulevard, Suite 1100,
Woodland Hills, California, 91364. Its telephone number is (818) 887-3400.
National Telephone Communications, Inc. was incorporated under the laws
of the State of Nevada on September 6, 1984. Since July 1989 NTC has operated
as an inter-exchange carrier and reseller of long distance telephone service,
providing nationwide long distance telephone access to its residential and
commercial customers. NTC purchases large blocks of time from long distance
national and regional telecommunications carriers at rates based upon high
volume usage. NTC resells the time to its customers at discounted
telecommunications retail rates. In general, NTC provides its customers with
rates that are 5% to 50% below the published retail rates of major national
carriers like AT&T and MCI with complete domestic and international coverage.
NTC's products include (i) fixed rate per minute services called Call$aver,
(ii) a prepaid calling card product, Sure$aver, which eliminates calling card
surcharges such as those imposed by AT&T, MCI and Sprint, and (iii) a
measured rate Dial-1 service that is interconnected to local telephone
companies throughout the United States. NTC is licensed to provide
telecommunication services by the Public Utilities Commissions of numerous
states. NTC markets its services through referral marketing agents and
affinity groups on a nationwide basis. NTC's offices are located at 2801
North Main Street, Irvine, California, 92714. Its telephone number is (714)
251-8000.
GenSource Corporation was incorporated under the laws of the State of
California in 1977. The Company acquired 100% of the issued and outstanding
stock of GenSource on May 2, 1997. GenSource develops and markets a
trademarked line of software products designed to process insurance-related
claims. Its software is licensed to companies which provide their
own insurance and claims administration, to insurance companies, and to third
party administrators who process claims for either self-insured companies
or for insurance companies. The insurance related products include GenCOMP-TM-,
GenMED-TM-, GenDIS-TM-, GenPAC-TM-, GenRISK-TM-, GenTRIS-TM- and Top
Rate-TM-. In addition, GenSource offers several computer and service-related
products including GenARS-TM-, which is an optical disk-based information
storage and retrieval system, and GenSERVE-TM-, which is a maintenance and
service program for customers. GenSource's offices are located at 25572
Avenue Stanford, Valencia, California 91355. Its telephone number is (805)
294-1300.
Rapid Cast, Inc. was incorporated under the laws of the State of Delaware
on February 12, 1994. RCI owns 100% of the issued and outstanding stock of
Q2100, Inc. ("Q2100"), which it acquired from Pearle, Inc. on February 8,
1995. The Company acquired 51% of the issued and outstanding stock of RCI on
February 8, 1995, as well. The Company's percentage ownership of RCI was
reduced to approximately 35% of its total issued and outstanding stock on
January 16, 1997 when RCI issued 8,000,000 shares of 7% Convertible Preferred
Stock in a private placement to certain unaffiliated institutional investors.
In September 1997, the Company's percentage ownership in RCI was reduced
further to approximately 29% when RCI issued 8,000,000 more shares of
Common Stock to its existing shareholders in a private
placement in which the Company elected not to participate. See "THE COMPANY -
Recent Capitalization of RCI." Q2100 owns certain
-4-
<PAGE>
domestic and foreign patents and patent applications relating to a new
technology, commonly known as Thick Film Radiation Cured Polymer Technology,
which enables retail optical stores, small to mid-sized wholesale optical
lens manufacturing laboratories and other dispensers of prescription
ophthalmic lenses to produce lenses on site rapidly and at a cost generally
lower than if they were purchased from third party manufacturers and
distributors. RCI is currently manufacturing and marketing this technology
through the sale of casting machines and liquid monomer under the name Rapid
Cast or the Fast Cast Lensystem. RCI's principal executive office is located
at 10100 Bluegrass Parkway, Louisville, Kentucky 40299, and its telephone
number is (502) 458-5500.
THE OFFERING
Type of Security Registered. . . . Common Stock, no par value.
Number of Outstanding Shares . . . 170,751
Number of
Underlying Shares-Warrants . . . . 477,500
Minimum Number of
Underlying Shares-Series
B Preferred. . . . . . . . . . . . 627,503(1)
Number of Shares . . . . . . . . . 750,000
Selling Security Holders . . . . . The Outstanding Shares are held by (a)
three investors who purchased shares of
Series A Preferred in September 1996 and
converted a portion of them on December
31, 1996 into 10,826 shares of Common
Stock, (b) certain affiliates of RCI who
purchased 33,000 shares of Common Stock
in a private placement in January 1997,
and (c) five investors who purchased
Series A Preferred in October 1996 and
converted them on November 4, 1997 into
126,925 shares of Common Stock. The
Underlying Shares are issuable upon
the exercise of 477,500 Warrants held by
(i) certain affiliates of RCI,
(ii) a consultant who assisted the
Company in placing the Series B
Preferred, and (iii) other private
investors. The Underlying Shares are
also issuable upon the conversion of
2,434 outstanding shares of Series B
Preferred issued by the Company in July
and November 1997. See "SELLING SECURITY
HOLDERS."
Terms of the Warrants. . . . . . . The Warrants include (a) 360,000 Warrants
which entitle those Warrantholders to
purchase 360,000 shares of the Company's
Common Stock at an exercise price of
$3.75 per share, exercisable
until December 9, 1999, (b) 12,500
Warrants which entitle those
Warrantholders to purchase 12,500 shares
of the Company's Common Stock at a
purchase price of $2.94 per share,
exercisable at any time until December
16, 2001, (c) 50,000 Warrants which
entitle those Warrantholders to purchase
50,000 shares of the Company's Common
Stock at a purchase price of $5.26
per share, exercisable at any time
until July 29, 1999, and (d) 55,000
Warrants which entitle those
Warrantholders to purchase 55,000
shares of the Company's Common Stock
at a purchase price of $3.00 per
share, exercisable at any time until
November 3, 1999. See "SELLING
SECURITY HOLDERS."
(1) The number of Underlying Shares indicated assumes an average conversion
price of approximately $3.97 per share, which is the maximum average
conversion price under the terms and conditions of the Series B
Preferred. Accordingly, the Underlying Shares indicated are the
minimum number of Underlying Shares which will be issued by the Company
upon the conversion of 2,434 Outstanding Shares of Series B Preferred.
In the registration statement encompassing this Prospectus, the Company
has registered an additional 472,497 shares which, in combination with
750,000 shelf shares covered by this Prospectus, will provide a pool of
registered shares to issue upon the conversion of outstanding Series B
Preferred to the extent that the average conversion price is less than
$3.97 per share, and up to 125 shares of Series A Preferred. See "THE
COMPANY - Issuance of Convertible Preferred Stock."
-5-
<PAGE>
Terms of the Series B Preferred. . The Series B Preferred entitles the
holders to convert their Preferred
Stock into the Company's Common Stock
at any time upon the earlier of (i)
the effective date of the
registration statement covering the
Underlying Shares, or (ii) 120 days
after the date that the Series B
Preferred is issued. The conversion
ratio is equal to the lesser of (i)
80% of the average bid price of the
Company's Common Stock on the public
trading market on the five trading
days immediately preceding the
conversion date, divided by the
original purchase price of the Series
B Preferred, or (ii) the bid price of
the Company's Common Stock on the
date that the Series B Preferred is
issued, divided by the original
purchase price of the Series B
Preferred. The cumulative 6% per
annum dividend is also payable on the
conversion date. The bid price on
the date of funding of the Series B
Preferred covered by this Prospectus
ranges from $3.00 to $4.29 per share.
See "THE COMPANY - Issuance of
Convertible Preferred Stock."
Issuance of Shares . . . . . . . . The unissued Shares (not including the
Underlying Shares which are reserved for
issuance upon the exercise of Warrants
and the conversion of Series B
Preferred) are reserved for issuance
from time to time through the
Underwriter in open market transactions
in accordance with Rule 415, or upon the
conversion of Series A Preferred (only
with respect to 125 shares) or Series B
Preferred, if necessary. The amount of
net proceeds to be received by the
Company from the sale of the Shares, if
any, is not known at this time because
it depends on the number of unissued
Shares remaining after the conversion
of Series A Preferred (up to 125
shares) and Series B Preferred, the
prevailing market price of the
Company's Common Stock on the dates
that it elects to sell the Shares, if
any, and the amount of the
Underwriter's discounts and commissions.
Shares of Common Stock to be
Outstanding After Issuance of
Shares, Conversion of Series
B Preferred and Exercise of
Warrants . . . . . . . . . . . . . 15,861,796(2)
Voting Rights. . . . . . . . . . . Each Share and Underlying Share of
Common Stock will have one vote per
share, if and when issued, and each
Outstanding Share has one vote. The
Warrants and Series B Preferred do not
have any voting rights associated with
them.
Use of Proceeds. . . . . . . . . . The Company would receive net proceeds
of $1,814,500 from the exercise of all
477,500
(2) The total number of shares of the Company's Common Stock to be
outstanding after the issuance of Shares, the exercise of Warrants and
the conversion of the Series B Preferred assumes an average conversion
price for the Series B Preferred of approximately $3.97 per share, which
is the maximum average conversion price under the terms and conditions of
the Series B Preferred. If the average conversion price of the Series B
Preferred is less than approximately $3.97 per share, then the number of
shares outstanding after the offering and the conversion of the Series B
Preferred would be higher. See "THE COMPANY - Issuance of Convertible
Preferred Stock." The outstanding shares include 1,500,000 shares of the
Company's Common Stock reserved for issuance to the class plaintiffs
pursuant to the settlement of the class action lawsuit known as
SAUNDRA GAYLES, ET AL. VS. INCOMNET, INC. AND SAM D. SCHWARTZ. See
"THE COMPANY - Settlement of the Class Action Lawsuit."
-6-
<PAGE>
Warrants. The Company has received net
proceeds of $36,000 from the issuance of
the Warrants and $2,248,000 from the
issuance of the Series B Preferred
covered by this Prospectus. The amount
of net proceeds to be received by the
Company from the sale of the Shares, if
any, is not known at this time. The
Company will not receive any proceeds
from the sale of the Outstanding Shares
or the Underlying Shares. The Company
expects to use the net proceeds from the
exercise of the Warrants and sale of
Shares, if any, for general working
capital purposes. There is no assurance
that the Warrants will be exercised or
that any Shares will be sold by the
Company through the Underwriter. See
"USE OF PROCEEDS."
NASDAQ Symbol. . . . . . . . . . . ICNT
-7-
<PAGE>
SUMMARY CONSOLIDATED FINANCIAL DATA
INCOMNET, INC., NATIONAL TELEPHONE COMMUNICATIONS, INC.
AND GENSOURCE CORPORATION
<TABLE>
<CAPTION>
NINE MONTHS ENDED SEPTEMBER 30 YEAR ENDED DECEMBER 31
-------------------------------- -------------------------------------------------------------------
1997 1996 1996 1995 1994 1993 1992
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF
REVENUES
Revenues $99,341,000 $77,296,000 $106,905,000 $86,564,917 $46,815,057 $11,298,972 $5,534,874
Income (Loss) before
income taxes and
and minority interest (7,886,000) (11,202,000) (43,705,000) 856,543 4,000,242 (1,606,844) (2,264,597)
Income (Loss)
before minority interest (7,207,000) (10,523,000) (36,799,000) 1,366,025 3,999,187 (1,606,844) (2,461,697)
Net Income
(Loss) (7,207,000) (8,615,000) (37,676,000) 1,366,025 4,071,194 948,769 (2,021,333)
PER COMMON SHARE DATA
Net Income (Loss) (0.53) (0.65) (2.82) .11 .42 (.12) (.28)
Cash Dividends 0 0 0 0 0 0 0
Book Value .81 2.59 .65 3.21 1.58 .48 .13
Number of Shares 14,006,793(1) 13,268,050 13,369,681 13,262,648 10,482,854 8,183,877 7,189,671
BALANCE SHEET DATA
Total Assets 48,652,000 69,564,043 40,587,000 74,105,629 26,158,346 8,665,839 6,744,994
Long-Term
Debt 6,955,000 8,708,181(2) 1,040,000 8,459,772(2) 900 20,000 176,000
Shareholders'
Equity 11,413,000 34,414,968 8,626,000 42,548,056 16,535,153 3,929,148 1,047,125
</TABLE>
- ------------------------------
(1) Includes 1,500,000 shares of the Company's Common Stock reserved for
issuance to the class plaintiffs pursuant to the settlement of the lawsuit
SAUNDRA GAYLES, ET AL. VS. INCOMNET, INC. AND SAM D. SCHWARTZ. See "THE
COMPANY - Settlement of the Class Action Lawsuit."
(2) Long term liabilities include approximately $8,459,772 of deferred tax
liability at December 31, 1995 and $8,055,562 of deferred tax liability at
September 30, 1996 arising from the nondeductibility of the RCI patent rights.
The deferred tax liability was eliminated when the RCI patent amortization
schedule was accelerated and the related intangible asset was written off
entirely.
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<PAGE>
RISK FACTORS
Prospective investors should consider carefully, in addition to the other
information contained in this Prospectus, the following factors before
purchasing the Shares, the Outstanding Shares or the Underlying Shares.
OVERVIEW - CAUTIONARY STATEMENTS
The following are cautionary statements made pursuant to the Private
Securities Litigation Reform Act of 1995 in order for the Company to avail
itself of the "safe harbor" provisions of the Reform Act. The discussions
and information in this Prospectus may contain both historical and
forward-looking statements. To the extent that the Prospectus contains
forward-looking statements regarding the financial condition, operating
results, business prospects or any other aspect of the Company and its
subsidiaries, please be advised that the Company's and its subsidiaries'
actual financial condition, operating results and business performance may
differ materially from that projected or estimated by the Company in
forward-looking statements. The differences may be caused by a variety of
factors, including but not limited to adverse economic conditions, intense
competition, including intensification of price competition and entry of new
competitors and products, adverse federal, state and local government
regulation, inadequate capital, unexpected costs and operating deficits,
increases in general and administrative costs, lower sales and revenues than
forecast, loss of customers, disadvantageous currency exchange rates,
termination of contracts, loss of supplies, technological obsolescence of the
Company's products, price increases for supplies and components, inability to
raise prices, failure to obtain new customers, litigation and administrative
proceedings involving the Company, including the pending lawsuits and SEC
investigation, the possible acquisition of new businesses that result in
operating losses or that do not perform as anticipated, resulting in
unanticipated losses, the possible fluctuation and volatility of the
Company's operating results, financial condition and stock price, losses
incurred in litigating and settling cases, dilution in the Company's
ownership of its subsidiaries and businesses, adverse publicity and news
coverage, inability to carry out marketing and sales plans, challenges to the
Company's patents, loss or retirement of key executives, changes in interest
rates, inflationary factors, and other specific risks that may be alluded to
in this Prospectus or in other reports issued by the Company.
RISKS RELATING TO INCOMNET, INC. AND ITS SUBSIDIARIES
POSSIBLE DEFICIENCIES IN CARRIER SERVICE. The telecommunications business
is extremely competitive and its success depends upon several factors, including
high quality technology, effective marketing, accurate billing and responsive
customer service. As a "switchless" reseller of long distance telephone service
registered with the Federal Communications Commission and state public utility
commissions, the Company provides billing and customer service directly. The
Company is, however, dependent upon services provided to it and its customers by
telecommunications carriers. The Company has the right to provide long distance
telephone service to its customers through any telecommunications carriers that
it chooses. At present, the Company has contracts with several carriers. The
two main carriers which provide service to the Company are Wiltel, which handles
most calls in the mainland United States, and U.S. Sprint, which handles calls
from Hawaii to the United States. The Company is subject to the risk that its
carriers may not provide high quality telephone service to the Company's
customers, along with accurate, timely billing records of that service to the
Company.
RISK OF TERMINATION OF CARRIER SERVICE. The Company's newest contract with
Wiltel commenced on June 17, 1996 as an amendment to the contract entered into
on September 15, 1995 (service had been provided under a prior arrangement since
July 1992). The Wiltel Carrier Switched Services Agreement expires by its terms
on June 15, 2001. Wiltel may terminate its carrier agreement with the Company
or modify the charges upon 60 days prior written notice to the Company. The
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<PAGE>
Company may not terminate the new Wiltel contract without a cancellation
charge (the cancellation charge would be 100% of the minimum purchase
requirement for the remaining term of the agreement) unless Wiltel increases
its rates under the agreement by an amount the effect of which would be to
cause total charges for the three months immediately preceding the rate
increase to be 5% greater than they were with the original discounts. The
Sprint contract commenced on April 7, 1993 and is terminable by either party
upon 30 days prior notice. The termination of the contracts with either of
these carriers or an increase in rates would have an adverse impact on the
Company's financial condition and operating results if the Company could not
replace either carrier with similar service at an equivalent price. The
Company could lose its carrier contracts for reasons beyond its control.
While the Company has the right to switch its customers to other carriers in
its discretion, there is no assurance that the Company could replace its
carrier contracts on substantially similar terms if its current contracts
were terminated or were not renewed upon their expiration. Should the Company
lose its contracts and not be able to replace them, it would have a
significant adverse impact on both the Company's telephone and marketing
related revenues because the Company would not be able to sign on new
customers. There is also no assurance that the Company will continue to have
the capital available and retain the qualified personnel that are required to
maintain a satisfactory level of services to its customers. See "THE
COMPANY" and "Item 1. Business" in the Company's 1996 Form 10-K.
MINIMUM PURCHASE REQUIREMENT. Pursuant to its new Carrier Service
Agreement with Wiltel, the Company is obligated to purchase a minimum amount of
telephone time on a "take-or-pay" basis. If the Company is not able to use the
minimum amount of telephone time under the new agreement, then it must pay to
Wiltel the difference between the actual usage and the minimum usage requirement
in cash. The Company could experience operating losses as the result of the
minimum purchase requirement in the new carrier contract. The Company currently
relies on purchases by an unaffiliated party under the Wiltel agreement (at no
profit to the Company) in order to meet the minimum purchase requirement. If
the unaffiliated co-purchaser ceases to purchase telephone time under the
agreement, the Company could experience significant operating losses. See "Item
1. Business - Contract with Wiltel" in the Company's 1996 Form 10-K."
SEC INVESTIGATION AND RELATED LAWSUITS. In August 1994, the Company
was notified by the Pacific regional office of the Securities and Exchange
Commission that the Commission had initiated a confidential investigation of
the Company. In September 1994 the Commission issued a formal order of
private investigation. The Commission stated in its correspondence to the
Company that the investigation "should not be construed as an adverse
reflection on any person, entity or security, or as an indication by the
Commission or its staff that any violation of law has occurred." In August
and September 1994, the Company supplied copies of its books and records to
the Commission, and the Company's present and prior independent certified
public accounting firms submitted their working papers pursuant to the
Commission's subpoena. In February 1995, the Company provided to the
Commission pursuant to its subpoena additional documents associated with
NTC's regulatory authorizations and with the Company's recent acquisition of
a controlling interest in RCI. The Company continues to fully cooperate with
the Commission. While the Company believes that the outcome of the fact
finding investigation will not have a material adverse effect on the
financial condition or operating results of the Company, no assurance can be
given on this matter until the investigation is concluded. See "Item 3. Legal
Proceedings - Securities and Exchange Commission Investigation" in the
Company's 1996 Form 10-K, as updated in the Company's Form 10-Q for the
quarter ended September 30, 1997 under "Item 1. Legal Proceedings -
Securities and Exchange Commission Investigation."
On January 20, 1995, a class action lawsuit was filed in the United
States District Court of the Central District of California against Incomnet,
Inc. and Sam D. Schwartz, known as SAUNDRA GAYLES VS. INCOMNET, INC AND SAM
D. SCHWARTZ, alleging violations of federal securities laws. In particular,
the suit alleges that the defendants violated Section 10(b) and Rule 10b-5 of
the Securities Exchange Act of 1934, as amended, by not disclosing in August
1994 that the Securities and Exchange Commission had
-10-
<PAGE>
initiated a confidential investigation of the Company. The suit also alleges
that the Company issued false and misleading press releases on January 17,
1995 and January 18, 1995. On October 17, 1995, the complaint was amended to
add claims that the Company and its former Chairman, Sam D. Schwartz,
violated federal and state securities laws because Mr. Schwartz did not
disclose purchases and sales of the Company's stock made in the open market
by him and his affiliates. Two additional civil lawsuits were filed in
federal district court in Georgia making similar claims and allegations, both
of which have been transferred to the same California court as the SAUNDRA
GAYLES case. On July 22, 1996, the Company was served with a complaint in
the lawsuit CHARLES STEVENS VS. SAM D. SCHWARTZ AND INCOMNET, INC., Civil
Action No. 96-4906 RMT (VAPx), filed in the United States District Court for
the Central District of California, Western Division. The complaint alleges
that the Company and its former Chairman, Sam D. Schwartz, violated Section
10(b) and Rule 10b-5 of the Securities Exchange Act of 1934, as amended, and
Section 25400 of the California Corporations Code, as a result of false and
misleading statements made by defendants and undisclosed trading in the
Company's stock engaged in by Mr. Schwartz and his affiliates. The Company
has settled the class action lawsuit, the two Georgia lawsuits and the
STEVENS case, although the class action settlement is subject to court
approval and possible plaintiff disapprovals. See "THE COMPANY - Settlement of
the Class Action Lawsuit", "THE COMPANY - Settlement of The Atlanta Lawsuits"
and THE COMPANY-Settlement of the Stevens Lawsuit." In October 1996, the
Company was served with a complaint in the lawsuit entitled SILVA RUN
WORLDWIDE LIMITED VS. INCOMNET, INC., SAM D. SCHWARTZ, BEAR STEARNS & CO.,
INC., LESLIE SOLMONSON, RONALD F. SEALE, MARINER RESERVE FUND, COMPANIA DI
INVESTIMENTO ANTILLIANO, COUTTS & CO. AG, SALVATORE M. FRANZELLA, PETER G.
EMBIRICOS, AND JOS SCHUETZ, filed in the United States District Court for the
Southern District of New York. The complaint states that the plaintiff was a
purchaser of the Company's stock in July 1995. The complaint alleges that
the Company and its former Chairman violated Sections 10(b) and 20(a) and
Rule 10b-5 of the Securities Exchange Act of 1934, as amended, as a result of
false and misleading statements made by the defendants and undisclosed
trading in the Company's stock engaged in by Mr. Schwartz and his affiliate.
The plaintiff also alleges that Mr. Schwartz and his affiliate owed a
fiduciary duty to the plaintiff and breached it by their conduct, and that
these defendants committed common law fraud. The complaint also alleges
other causes of action against other unrelated defendants. The suits seek
recision and damages on behalf of the plaintiffs. On July 22, 1997, the
Company was named in a lawsuit known as JAMES A. BELTZ, ET AL. VS SAMUEL D.
SCHWARTZ and RITA SCHWARTZ, husband and wife, STEPHEN A. CASWELL, JOEL W.
GREENBERG, INCOMNET, INC., DAVID BODNER and MURRAY HUBERFELD, in the United
States District Court in the District of Minnesota. This lawsuit was filed
by 17 individuals who were allowed to opt out of the class action lawsuit to
pursue a separate lawsuit with similar claims. The lawsuit alleges losses by
the plaintiffs of approximately $1.5 million and seeks unspecified damages.
Litigation has been threatened by other potential claimants. There is no
assurance that these pending and threatened lawsuits will not have a material
adverse effect on the Company and its financial condition and operating
results. See "Item 3. Legal Proceedings" in the Company's 1996 Form 10-K,
as updated under "Item 1. Legal Proceedings - Class Action and Related
Lawsuits" in the Company's Form 10-Q for the quarter ended September 30,
1997.
RISKS INHERENT IN NETWORK MARKETING PROGRAMS. The Company sells its
telephone service through a network marketing program in which independent sales
representatives sign up both new independent sales representatives and
telecommunications customers. The independent sales representatives pay all
their own expenses and are treated by the Company as independent contractors.
New independent representatives purchase sales materials, training and limited
product inventories from the Company. As the representatives sign up new
representatives, who themselves also sign up new representatives, the initial
representative builds a "downline" of representatives that can reach through
multiple levels. The Company's marketing plan allows a representative to build a
network down to seven levels. Representatives do not receive commissions for
bringing in new representatives. Representatives only receive commissions,
overrides and bonuses based on bringing telephone customers and revenues to the
Company. While the development of a strong network marketing program can result
in a stable base of independent sales representatives who generate revenues from
signing up both new customers and new representatives, there are risks inherent
in network marketing. Because the representatives are structured in downlines,
there is a much higher risk associated with competitive programs designed to
attract the Company's existing base of representatives. If representatives
decide to leave the Company's
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<PAGE>
program for a competitive program, there is a strong incentive for those
representatives to bring other representatives in their downlines to the new
program, all of whom will also try to move their telephone customers to the new
program. As the momentum of representatives switching to new programs builds,
the Company would experience a substantial loss of both representatives and
customers. As a result, a sales force based upon network marketing has the
inherent risk of eroding more rapidly than would otherwise occur if the Company
operated through a base of representatives who worked directly for the Company.
There are no assurances that the Company can keep its marketing plan competitive
against competitive plans. Consequently, there is a risk that the Company's
base of representatives and customers could decline in a manner that would have
a serious impact on the Company's revenues and earnings.
LOSS OF INDEPENDENT SALES REPRESENTATIVES. In February 1994, a group of
approximately ten independent sales representatives in Northern California left
the Company to market a competitive telephone service using a multi-level
marketing approach. These representatives attempted to recruit other
representatives and telephone customers away from the Company to their
competitive program. The Company believes that these representatives took
proprietary lists of the Company's representatives and customers with the
intention of soliciting them to join their program, which was in direct
violation of contracts that these representatives signed when they joined the
Company's marketing program. As a result, the Company has filed suit against the
representatives for damages of $500,000 for the loss of customers who were
obtained through the taking of proprietary lists from the Company. The Company
also sought and received a temporary restraining order against the
representatives from continuing to use the Company's proprietary materials to
solicit customers from the Company. The Company estimates that it has lost
under 100 representatives and under 1,000 customers as a result of actions by
the former marketing representatives. The Company's request for a permanent
injunction was denied by the court on the grounds that the Company had not
sustained enough continuing damages to warrant a permanent injunction. There
are no assurances that the losses will remain at the current level. The
defendants have filed a cross-complaint against NTC and the Company claiming
that NTC failed to meet its contractual obligations to the defendants, and that
the actions taken by the defendants were legal. The cross-complaint seeks
compensatory and special damages, along with general and punitive damages.
There is no assurance that the Company will prevail in its lawsuit to recover
damages or that it may not lose more representatives and customers in the
future, or that the defendants will not be successful with their cross-
complaint. See "Item 3. Legal Proceedings - Legal Action Against Prior
Representatives" in the Company's 1996 Form 10-K, as updated under "Item 1.
Legal Proceedings - Legal Action Against Prior Representatives" in the Company's
Form 10-Q for the quarter ended September 30, 1997.
RISKS OF BILLING THROUGH LOCAL EXCHANGE CARRIERS. NTC previously
offered a long distance telephone service called Easy-1 pursuant to which
customers receive a single bill from their local telephone company for both
local and long distance telephone service (NTC offers only long distance
service). As a result, on Easy-1 accounts the local exchange carriers handle
NTC's long distance billings and collections. Theoretically, billing through
the local exchange carrier is supposed to enhance collection rates and lower
NTC's billing costs, while offering a convenience for customers. The local
exchange carriers charge a fee for their billing and collection services.
NTC recently discontinued the Easy-1 service and all billings through local
exchange carriers for new accounts. The cost savings and collections from the
services provided by local exchange carriers did not seem to justify the
charges being incurred by NTC for those services, and NTC experienced longer
than expected delays in receiving its cash flow from Easy-1 accounts. NTC now
utilizes direct billing on all new long distance telephone accounts. See
"MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS."
CONTENTS OF PRIOR AUDIT REPORTS. The reports of the independent certified
public accountants with respect to the Company's financial statements for the
fiscal year ending December 31, 1995 include an "emphasis of the matter"
paragraph with respect to uncertainties related to the pending shareholders'
class action matter. The reports of the independent certified public
accountants with respect to the Company's financial statements for the fiscal
years ending December 31, 1992 and 1993 raised substantial
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doubts regarding the Company's ability to continue as going concerns because the
current liabilities of the Company exceeded current assets by a significant
margin. In addition, the scope of Grant Thornton's audit report with respect to
Incomnet for the fiscal year ending December 31, 1990 was limited to the extent
that it was not able to verify certain amounts with respect to Incomnet's
investment in Incomnet, India, Ltd. In 1991 Incomnet wrote-off its entire
investment in Incomnet India, Ltd.
POSSIBLE NEED FOR ADDITIONAL FINANCING - DILUTION OF OWNERSHIP IN RCI.
The Company may need additional capital in order to finance its anticipated
growth, especially the growth of its subsidiaries, NTC and RCI. NTC has
constructed a conference center in Honolulu, Hawaii for the independent sales
representatives to conduct marketing meetings and seminars, and may construct
more conference centers in the future. Unforeseen events such as the
unexpected loss of customers or expenditures which were not budgeted could
also require the Company to seek additional capital. In 1996 and early 1997,
the Company and certain of its affiliates made substantial loans to RCI, most
of which were repaid in January 1997, and a portion of which were converted
into RCI common stock. In September 1997, the Company's ownership of RCI was
further diluted when it elected not to participate in a private placement of
RCI securities to its existing shareholders to raise additional capital. If
RCI needs additional financing and the Company does not have the funds
available to make its pro rata share of the advances, the Company's
percentage ownership in RCI could be significantly diluted. Furthermore, if
RCI needs additional financing or capital and cannot obtain it, its
operations could be severely hampered, resulting in a material adverse impact
on the operating results and financial condition of the Company. There is no
assurance that the Company or its subsidiaries can obtain additional capital
or financing, if necessary, or obtain it on acceptable terms. The
shareholders of the Company may experience substantial dilution in their
ownership of the Company as a result of financings or capitalizations done by
the Company in order to obtain necessary funding. See "RISK FACTORS -
General Risks - Adverse Effects of Issuance of Preferred Stock."
Furthermore, as a result of the issuance of convertible preferred stock,
warrants and stock options by RCI since the acquisition of a controlling
interest in it by the Company on February 8, 1995, partially to raise
capital, the Company's ownership interest in RCI has been reduced to
approximately 29% on a current basis and approximately 22% on a fully diluted
basis. Recent investors in RCI have an option to purchase more of RCI's 7%
convertible preferred stock, which would further dilute the Company's
ownership of RCI. See "THE COMPANY - Recent Capitalization of RCI."
NO ASSURANCE OF PROFITABILITY - RECENT LOSSES. In the past the Company
and its wholly owned subsidiary, NTC, have incurred substantial operating
losses and have only recently achieved profitability. RCI and its wholly
owned subsidiary, Q2100, have only recently emerged from the development
stage and have incurred substantial operating losses since their inception.
See "RISK FACTORS - Risks Relating to RCI - Recent Emergence From Development
Stage." There is no assurance that the Company's consolidated revenues will
continue to grow or be earned at current levels, or that the Company will be
profitable. For the fiscal year ending December 31, 1996 the Company had a
net loss of approximately $37,676,000 on a consolidated basis and NTC had a
net after tax income of approximately $2,895,000. For the nine months ended
September 30, 1997 the Company had a net loss of approximately $7,207,458 on
a consolidated basis and NTC had a net after tax income of approximately
$1,933,210. As of December 31, 1996, NTC had an accumulated shareholders'
deficit of approximately $2,710,000 and RCI had an accumulated shareholders'
deficit of approximately $19,048,000. As of September 30, 1997, NTC had an
accumulated shareholder's deficit of approximately $776,901. There is no
assurance that RCI will ever be profitable, or that NTC will continue to be
profitable. There is no assurance that the Company will not incur operating
deficits in the future. See "SELECTED CONSOLIDATED FINANCIAL INFORMATION",
"MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS", and "Item 14. Financial Statements" in the Company's 1996 Form
10-K, and the Company's Form 10-Q for the quarter ended March 31, 1997.
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<PAGE>
COMPETITION. The telephone and telecommunications industries are extremely
competitive, especially the provision of long distance telephone services. In
its long distance telephone business, the Company competes with several long
distance carriers such as AT&T, MCI, Sprint and others, which have substantially
greater financial, marketing and other resources than the Company. The Company
depends on independent marketing representatives in order to obtain customers
for its long distance telephone services. Several other network marketing firms
also utilize independent marketing representatives to sell long distance
telephone services, and may compete with the Company for marketing
representatives. Independent marketing representatives may leave the Company to
work for competitors from time to time, adversely affecting the Company's
business. The Company's network telecommunications business is also subject to
competition, and both business segments may experience competition from new
competitors in the future. Many of the Company's competitors have higher
national, regional and local recognition than the Company. There is no assurance
that the Company will be able to continue to successfully compete in the long
distance telephone or network telecommunications businesses. See "THE COMPANY"
and "Item 1. Business - Operations" in the Company's 1996 Form 10-K.
ADVERSE IMPACT OF GOVERNMENT REGULATION. The Company's businesses are
subject to government regulation in several respects which could cause
additional operating costs and which must be monitored for compliance. In
particular, federal and state law prohibits the practice known as "slamming",
whereby telephone companies switch a customer's carrier without the
customer's permission. In June 1997, the California Public Utility
Commission and the California Attorney General initiated an investigation of
NTC for alleged "slamming" incidences by certain NTC independent sales
representatives. On October 28, 1997, NTC settled a civil consumer
protection lawsuit filed against it by the State of California, without
admitting or denying wrongdoing. In November 1997, NTC settled the related
administrative action by the California Public Utilities Commission.
Pursuant to the settlements, NTC paid a total of approximately $1,600,600 in
penalties and restitution, and agreed to implement new safeguards and
policies to prevent "slamming" in the future. There is no assurance that NTC
will not be penalized again for possible "slamming" practices by its
independent marketing representatives in the future, despite NTC's new
safeguards, and that such penalty, whether in the form of a fine or a
suspension of its right to conduct business, will not have a material adverse
impact on the Company's and NTC's financial condition, operating results and
business performance. See "THE COMPANY - Settlement of Civil Consumer
Protection Lawsuits With the State of California." NTC must also comply with
advertising and disclosure rules relating to its sale of long distance
telephone services to the public. Its retail marketing program utilizing
independent representatives to recruit retail customers and additional
representatives is subject to state laws regulating network marketing
programs. NTC must be registered with the public utility commissions of most
states in order to provide telephone service in those states. While NTC's
registrations are effective in most of those states, it continues to operate
through agency contracts in certain states where its registrations are
pending. The Company is also subject to federal, state and local government
regulations relating to health, safety, employment, wages and working
conditions. There is no assurance that government regulations will not have
a material adverse impact on the Company's and its subsidiaries' financial
condition, operating results and business performance.
NO DIVIDENDS ON COMMON STOCK. The Company has not paid dividends on its
Common Stock in the past and does not anticipate the payment of any cash
dividends in the near future. The payment of cash dividends on the Common
Stock is restricted pursuant to the terms and conditions of the outstanding
Series A Preferred and Series B Preferred. See "THE COMPANY - Issuance of
Convertible Preferred Stock" and "PRICE RANGE OF COMMON STOCK AND DIVIDENDS."
CONTROL BY THE PRINCIPAL STOCKHOLDERS. The principal stockholders own
in the aggregate approximately 16.7% of the combined voting power of the
Company's Common Stock (18.7% when not accounting for 1,500,000 shares of the
Company's Common Stock reserved for issuance to the plaintiffs in the
recently settled class action lawsuit), not including those shares owned by
the Company's prior Chairman and President, Sam D. Schwartz (who owns
approximately 6% of the outstanding shares). Accordingly, the principal
stockholders are able to exercise significant control of the vote on matters
submitted to a vote of the Company's stockholders. Such control by the
principal stockholders may have the effect of discouraging certain types of
transactions involving an actual or potential change of control of the
Company, including transactions in which the holders of Common Stock might
otherwise receive a premium for their shares over then current market prices.
See "PRINCIPAL STOCKHOLDERS."
RISKS RELATING TO GENSOURCE. On May 2, 1997, the Company acquired 100%
of the total issued and outstanding stock of GenSource Corporation (previously
known as California Interactive Computing, Inc.). GenSource Corporation is
engaged in the business of developing, marketing, maintaining and enhancing
computer software for the processing of insurance and insurance-related
claims. The computer software industry is extremely competitive. The
Company's software products are subject to technological obsolescence and
other risks inherent in the computer software business, including but not
limited to the inability to protect or utilize its proprietary rights, the
failure of its technology to perform as anticipated, the loss of key
technical and marketing personnel, and other risks. See "RISK FACTORS -
Cautionary Statements." Incomnet, Inc. plans to invest in excess of one
million dollars of new capital into GenSource Corporation to assist it in
upgrading its software products for windows applications and to strengthen
its marketing capabilities. A substantial portion of this capital investment
has already been made. There is no assurance that the new products will be
successful, that the investment in GenSource Corporation will be justified,
or that GenSource Corporation will continue to be profitable, increase its
profitability, or that it will not incur operating losses in the future.
Furthermore, the Company purchased GenSource Corporation by assuming five
year promissory notes and by assuming certain notes payable to the prior
shareholders of GenSource Corporation. There is no assurance that the
Company will be able to pay those notes. The notes are secured by the stock
of GenSource Corporation. If the Company defaults on the payment of the
notes, the holders of the notes could foreclose on the stock securing the
notes and reacquire ownership of GenSource Corporation from the Company. See
"THE COMPANY - Acquisition of California Interactive Computing, Inc."
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RISKS RELATING TO RCI
RECENT EMERGENCE FROM DEVELOPMENT STAGE. RCI recently emerged from its
development stage. RCI was incorporated in February 1994 and did not
commence marketing its products until after a controlling interest in it was
acquired by the Company on February 8, 1995. RCI has a limited operating
history and only began shipping its products in April 1995. RCI and Q2100
have incurred substantial operating losses since their inception. As of
December 31, 1996, they had a consolidated shareholders' deficiency
accumulated during their development stage of $19,048,000. The likelihood of
RCI's success must be considered in light of the foregoing facts, together
with the expenses, difficulties, uncertainties and delays frequently
encountered in connection with the early phases of a new business.
Unanticipated difficulties relating to marketing, manufacturing or
competition, for instance, could materially adversely affect RCI's ability to
achieve its business objectives. Certain of RCI's customers have experienced
technical and mechanical difficulties with the casting machines. RCI has had
to make service calls on those machines and is making design modifications to
its equipment and components. There is no assurance that design
modifications will solve problems that have arisen and that may arise in the
future. Furthermore, there is no assurance that RCI will not experience a
high number of returns which would adversely affect the operating results,
financial condition and business performance of RCI and the Company. See
"Item 1. Business - Rapid Cast, Inc" in the Company's 1996 Form 10-K.
RISK OF UNCERTAIN MARKET ACCEPTANCE; COST OF LENSYSTEM. RCI's success
depends substantially upon the acceptance of the LenSystem as an alternative to
traditional methods of purchasing and fabricating eyeglass lenses. Factors that
may adversely affect market acceptance include potential customers'
unfamiliarity with the Company's relatively new technology, lens making
processes, products, lens designs and materials, their reluctance to change
current methods of purchasing and fabricating lenses, and the initial capital
investment in purchasing the LenSystem. Furthermore, potential customers may be
reluctant to purchase the LenSystem because it cannot currently manufacture all
possible prescriptions and lens types. In addition, lens dispensers can obtain
single vision lenses (approximately 50% of the lens type dispensed) at prices
competitive with or lower than the cost of producing such lenses utilizing the
LenSystem. After LenSystems are purchased, there can be no assurance that
customers will continue to use their LenSystem to fabricate lenses.
Consequently, there can be no assurance that customers will accept RCI's
products as an alternative to traditional methods of purchasing and fabricating
optical lenses. Moreover, market acceptance of the LenSystem will depend, in
large part, upon its pricing (of both the LenSystem and the Rapid Cast Liquid
Monomer) and RCI's ability to demonstrate the advantages of the LenSystem over
competing products, technologies, and current distribution channels. See "Item
1. Business - Rapid Cast, Inc." in the Company's 1996 Form 10-K.
OPERATING LOSSES; NEED FOR ADDITIONAL FINANCING; UNCERTAINTY OF ADDITIONAL
FINANCING. RCI's operations to date have consumed substantial amounts of
capital, and RCI expects its capital and operating expenditures to increase in
the next few years. Such operating expenses are currently, and may continue to,
exceed RCI's revenues. RCI has not been profitable since its inception. While
RCI recently received a substantial capital investment from a group of private
institutional investors, these investors are not obligated to invest additional
capital in RCI and there is no assurance that the capital invested to date will
be adequate for RCI's needs. See "THE COMPANY - Recent Capitalization of RCI."
There is no assurance that RCI will be able to obtain additional financing or
capital from any other source. RCI's need for additional financing will depend
upon numerous factors, including, but not limited to, the extent that and
duration of RCI's future operating losses, the level and timing of future
revenues and expenditures, market acceptance of new products, the results of
ongoing research and development projects, competing technologies, market
developments, and the ability of RCI to maintain and develop additional
collaborative arrangements and international distribution agreements. To the
extent that existing resources are insufficient to fund RCI's activities, RCI
may seek to raise additional funds through public or private financings. There
can be no assurances that additional financing will be available or, if
available, that it will be available on acceptable terms. If additional funds
are raised by issuing equity securities, further dilution to the existing
stockholders may result. If adequate funds are not available, RCI's results of
operation may be adversely affected. See "Item 1. Business - Rapid Cast, Inc."
in the Company's 1996 Form 10-K.
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COMPETITION. The vision care industry is subject to intense competition
from a variety of sources. RCI competes with conventional channels of
distribution, including lens manufacturers and wholesale lens laboratories and,
to a lesser extent, with manufacturers of point of sale lens fabrication
systems, manufacturers of contact lenses and providers of equipment related to
medical treatments to correct refractive disorders. Many of RCI's competitors
have significantly greater financial, technological, marketing and other
resources than RCI, which could enable such competitors to develop new processes
or products that could render RCI's products obsolete or less competitive. In
addition, many of RCI's competitors have significantly greater experience than
RCI in developing new lenses, lens materials and fabrication technologies, and
there can be no assurance that RCI will be able to compete effectively with such
competitors. The effects of such competition could have a material adverse
effect on RCI's financial condition and results of operations.
RAPID TECHNOLOGICAL CHANGE. The potential market for the LenSystem is one
characterized by rapidly changing technology, and many of RCI's competitors have
substantially greater resources for the research and development of new
technologies than RCI will have for such purposes. There can be no assurance
that technologies or medical advances, including, without limitation, laser
vision correction, Radial Keratotomy (RK) and new ophthalmic drugs which could
obviate the need for prescription lenses, will not render the LenSystem
uncompetitive or obsolete. RCI's ability to anticipate changes in technology,
and then to improve the Technology or development or acquire new technologies in
response to such changes, will therefore be a critical factor affecting RCI's
ability to grow and become profitable. There accordingly can be no assurance
that the Technology will not be subject to the development or widespread
acceptance of any new processes or products that cause the Technology to become
noncompetitive, incompatible, or result in early product obsolescence, or that
RCI's business will not be materially adversely affected as a result.
Substantial research and development is being conducted by competitors and
others with respect to lens fabrication systems that could enable eyewear
dispensers to fabricate plastic eyeglass lenses at the point of sale. RCI
believes that this research and development will continue and may intensify and
accelerate. The development or widespread acceptance of any new process or
products, including new lens shapes, sizes, coatings and materials that cause
RCI's products to become obsolete, noncompetitive or incompatible, would have a
material adverse effect on RCI's financial condition and results of operations.
THE OPTICAL MARKETPLACE. RCI's success will depend, in significant part,
on its ability to anticipate trends and changes in the optical marketplace and
to develop or acquire technology capable of satisfying the demands of the
marketplace in connection with such trends and changes. Among the factors RCI
must be aware of are fashion, lens material, lens coatings and treatments. Some
or all of the changes required to be made in response to these factors may not
be adaptable to an onsite lens manufacturing environment and could have a
material adverse effect on RCI's financial condition and results of operations.
PATENTS AND PROPRIETARY RIGHTS. In February 1995, RCI acquired all of the
capital stock of Q2100 and thus all of Q2100's issued patents and patent
applications that relate to the Technology. As of the date of this Prospectus,
five United States patents have issued, eight United States patent applications
are pending, and over 20 foreign applications are pending. RCI's success
depends, in significant part, on its ability to obtain patent protection for its
products, both in the United States and in other countries, to preserve its
intellectual property rights and to operate without infringing on the rights of
third parties. There can be no assurances that RCI will be able to protect its
intellectual property rights adequately, that competitors will not be able to
develop similar technology independently, that the claims allowed on any patents
held by RCI will be sufficiently broad to protect RCI's technology or that RCI's
patents will provide a significant competitive advantage for its products.
Moreover, RCI believes that obtaining foreign patents may be more difficult than
obtaining domestic patents because of differences in patent laws. In addition,
the protection provided by foreign patents, once they are obtained, may be
weaker than the protection provided by United States patents. The failure by
RCI to
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protect adequately its intellectual property rights could have a material
adverse effect on RCI's financial condition and results of operations. RCI
has been the subject certain legal disputes involving the intellectual
property rights of others. See "Item 3. Legal Proceedings - Patent
Infringement Lawsuit" in the Company's 1996 Form 10-K. The patent
infringement suit entitled RONALD BLUM O.D. VS. RAPID CAST, INC., ET AL. has
been settled. See "THE COMPANY - Settlement of Patent Infringement Lawsuit
by RCI." Any litigation in the future to enforce patents issued to RCI, to
protect trade secrets or know-how possessed by RCI or to defend RCI against
claimed infringement of the rights of others would be time-consuming and
costly, and could have a material adverse effect on RCI's financial condition
and results of operations. Additionally, the manufacture and sale of
products that RCI develops or markets may involve the use of processes,
products or information, the rights to which may be held by others. There can
be no assurance that RCI will be able, for financial reasons or otherwise, to
obtain ownership or license rights with regard to the use of such processes,
products or information or, if obtained, that the use of such rights will be
on terms favorable to RCI. Failure to obtain such rights, if any, could have
a material adverse effect upon the financial condition and results of
operations of RCI. RCI also relies, and will continue to rely, on trade
secrets and proprietary know-how which it seeks to protect, in part, by
secrecy agreements with its employees, consultants, licensees, potential
strategic partners and others. There can be no assurance that any such
agreements will not be breached, that RCI would have adequate remedies for
any such breach, or that RCI's trade secrets are not already known to, or
will not otherwise become known to, or be independently developed by, RCI's
competitors. To the extent that consultants, licensees or other third
parties (such as prospective joint venture partners or subcontractors engaged
to manufacture the LenSystem) participate in RCI's projects, technological
information independently developed by them or by others may be the subject
of disputes as to the proprietary rights to such information, which disputes
may not be resolved in favor of RCI. The LenSystem uses as its raw material
the Rapid Cast Liquid Monomer, which is injected into a lens mold and then
cured (i.e., hardened) into a finished lens. The Rapid Cast Liquid Monomer is
a proprietary trade secret which is not protected by any issued patents nor
the subject of any patent applications. RCI does not currently intend to
seek patent protection for the Rapid Cast Liquid Monomer. See "Item 1.
Business - Rapid Cast, Inc. - Technical Overview of the Rapid Cast LenSystem"
in the Company's 1996 Form 10-K.
MANUFACTURING UNCERTAINTIES. RCI currently does not have the facilities to
manufacture the LenSystem's equipment components and raw materials (i.e., the
Rapid Cast Liquid Monomer) and has no plans to develop its own manufacturing
capabilities. RCI engages subcontractors and licensees to produce such
components and raw materials. RCI is at present substantially dependent upon
four suppliers from which it purchases different components and the Rapid Cast
Liquid Monomer. RCI believes that it could take in excess of six months to
secure alternatives for its suppliers in the event of the loss of RCI's current
suppliers. The glass molds utilized by the LenSystem to produce a specific
progressive multifocal design are available from only one supplier. Alternative
suppliers for those glass molds or any other component of the LenSystem may not
be available. RCI has certain of its components and tooling manufactured abroad
and may have additional components provided by foreign suppliers in the future.
The loss of a supplier for any material or component used by RCI or the
inability of a supplier to fulfill RCI's requirements might cause significant
delays in deliveries and the incurrence of additional costs. Such delays or
increased costs could have a material adverse effect on RCI's financial
condition and results of operations.
MARKETING UNCERTAINTIES, DOMESTIC. RCI's marketing efforts in the United
States have relied primarily on trade journals, trade shows and conventions to
present its products to the marketplace. RCI has not expended significant funds
on direct or other marketing campaigns and has a dedicated sales and marketing
staff of four persons. There can be no assurance that the implementation of
RCI's future marketing plans will be effective or that RCI will not be required
to expend more than it currently anticipates in order to market its products.
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MARKETING UNCERTAINTIES; INTERNATIONAL. RCI generally markets its
LenSystem internationally through exclusive local distributors and has entered
into several exclusive distribution agreements worldwide. There can be no
assurance that the purchase commitments and other obligations contained in these
agreements will be honored. Nor can there be any assurance that suitable
distributors for other countries to which RCI is not currently distributing will
be found. Laws and regulations imposed by foreign countries may also adversely
affect the marketing or commercial viability of the LenSystem and the Rapid Cast
Liquid Monomer. Additionally, significant fluctuations in the value of the
United States dollar could adversely affect future demand for the LenSystem in
foreign countries.
PRODUCT LIABILITY CLAIMS AND UNINSURED RISKS. The manufacturing, marketing
and sale of prescription ophthalmic lenses entail the inherent risk of exposure
to product liability claims. These claims might be made by, among others,
consumers who purchase lenses manufactured by, or businesses that utilize, the
Lensystem. Currently, RCI maintains product liability insurance which provides
coverage of $6,000,000 per occurrence and $7,000,000 in the aggregate. There
can be no assurance that RCI will be able to maintain such insurance at
commercially reasonable rates, if at all, or that the coverage provided thereby
is sufficient to fully protect RCI against liability. RCI's inability or
failure to protect itself adequately against such liabilities could have a
material adverse effect upon its prospects, financial condition and results of
operations.
EQUIPMENT INSTALLATION AND SERVICE. RCI does not presently have any
contracts or arrangements with qualified companies to install and service the
LenSystem, currently relying on its staff of installers and technicians.
Furthermore, equipment malfunctions have caused and may in the future cause RCI
to incur unanticipated operating expenses that may not be covered by component
manufacturers' warranties. See "RISK FACTORS - Risks Relating to RCI - Recent
Emergence From Development Stage."
DEPENDENCE UPON KEY PERSONNEL. The success of RCI will be largely
dependent upon the continuing services and efforts of certain of its
directors and executive officers. The loss of the services of Frank Pipp,
John Vidovich, or certain other officers or consultants could have a material
adverse effect upon RCI's ability to achieve its business objectives. RCI
expects that its ability to achieve its business objectives will also depend
in large part upon its ability to attract and retain highly qualified
management personnel in the future, including sales, marketing and scientific
staff. There can be no assurance that RCI will be able to attract and retain
personnel with the requisite skills and experience necessary to successfully
manage RCI's business and operations.
REGULATORY CONSIDERATIONS. The lenses produced by the LenSystem are
regarded by the United States Food and Drug Administration (the "FDA") as
medical "devices" within the meaning of the Federal Food, Drug, and Cosmetic Act
(the "Food and Drug Act"), but the lenses may be marketed without pre-market
notification, review, approval or clearance by the FDA. Other requirements,
principally those concerning impact resistance, current good manufacturing
practices, labeling and reporting of certain allegedly device-related adverse
effects will apply. RCI believes that the LenSystem, as manufacturing
equipment, is itself not a "medical device" under the Food and Drug Act. If the
LenSystem is itself a medical device, RCI believes that LenSystem may be
marketed without premarket notification, review, approval, or clearance by the
FDA, although other requirements, principally those concerning current good
manufacturing practices, labeling, and reporting of certain allegedly device-
related adverse affects, and of device malfunctions in certain circumstances,
would apply. In any event, certain state and local government authorities (such
as the State of California) also regulate medical device manufacturers.
Depending upon where LenSystem equipment is manufactured, RCI may be subject to
such additional state regulations. Although there can be no assurance in this
regard, RCI does not anticipate that compliance with such governmental
regulation will have an adverse effect upon its
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business. Failure to comply with FDA, and in some cases, the state
requirements, could result in civil sanctions, e.g., product seizure, injunction
versus product manufacturing or distribution, or criminal prosecution and
conviction. In addition, certain legal impediments and foreign regulatory
restrictions may affect the sale and exportation of the LenSystem to countries
other than the United States.
PAYMENT OF ACQUISITION PRICE OF RCI. The Company issued 600,000 shares of
restricted Common Stock to the founding shareholders of RCI to complete the
payment of the purchase price of 51% of RCI in lieu of issuing up to 750,000
shares of performance based stock. RCI's financial performance during the
twelve month period ending March 31, 1996 indicates that the founding
shareholders of RCI would not have been issued any additional shares of the
Company's common stock under the original stock purchase agreement. See "Item
1. Business -Acquisition of Rapid Cast, Inc." in the Company's 1996 Form 10-K.
NO ANTICIPATED DIVIDENDS. Since inception, RCI has not declared or paid
any cash dividends on its common stock and does not anticipate paying any cash
or other dividends on its common stock in the foreseeable future. The
declaration and payment of any cash dividends in the future will be determined
solely by the Board of Directors of RCI (which will, for the foreseeable future,
be elected by RCI's current stockholders, including the Company).
AUTHORIZATION AND ISSUANCE OF ADDITIONAL SECURITIES. RCI's
Certificate of Incorporation authorizes the issuance of up to 60,000,000
shares of common stock and 42,500,000 shares of preferred stock. RCI's Board
of Directors has the power to issue any and all of such shares without
stockholder approval. RCI may issue a substantial number of additional
shares in the future including additional shares of convertible preferred
stock to existing investors, not including the Company, who have an option to
purchase more shares of RCI's preferred stock. See "THE COMPANY - Recent
Capitalization of RCI.". Furthermore, there are outstanding a substantial
number of warrants and options to purchase a substantial number of additional
shares of the common stock of RCI, the exercise of which would result in a
significant dilution of the Company's ownership in RCI. To the extent that
additional shares of common or preferred stock are issued, dilution of the
interests of RCI's stockholders, including the Company, will occur.
OPTION PLAN. Pursuant to its stock option plan, RCI may grant options to
purchase up to 4,514,732 shares of its common stock to directors, officers and
employees of, and consultants to, RCI. RCI has issued options to purchase
3,260,000 shares of common stock under the option plan. During the respective
exercise periods of the above-mentioned options, the holders thereof are given
an opportunity to profit from a rise in the market price of the common stock (if
RCI's stock becomes publicly traded), with a resultant dilution of the interests
of the then existing stockholders. As a result, the terms upon which RCI may
obtain additional equity financing during such periods could be adversely
affected. These holders may be expected to exercise their rights to acquire
common stock at a time when RCI would, in all likelihood, be able to obtain
needed capital through a new offering of securities on terms more favorable than
those provided by these options. See "THE COMPANY - Recent Capitalization of
RCI."
GENERAL RISKS
BUSINESS DEPENDENT ON KEY PERSONNEL. The Company's business is
partially dependent upon the performance of certain key individuals,
including its President and Chief Executive Officer, and certain executives
of its wholly-owned subsidiaries, NTC and GenSource. The Company has entered
into an employment agreement (expiring on June 30, 2002) with Melvyn Reznick,
its President and Chief Executive Officer, and an employment agreement
expiring on December 31, 1999 with Stephen A. Caswell, its Secretary and
Vice-President. NTC has entered into employment agreements with
Edward R. Jacobs, the Chief Executive Officer of NTC (i.e. expiring on July
25, 1999), and James R. Quandt, a new President of NTC (i.e. expiring January
6, 2000). RCI has
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entered into employment agreements with several of its executives. The
Company and its subsidiaries do not anticipate a termination of their
employment relationships with any of their key executives. RCI does not yet
have a permanent Chief Executive Officer and is utilizing the services of an
independent consultant and its newly appointed Chairman of the Board to fill
that role until a permanent Chief Executive Officer is hired. While the
independent consultant to RCI is currently its acting Chief Executive
Officer, there is no assurance that RCI will be able to hire a permanent
Chief Executive Officer, or that the absence of a permanent Chief Executive
Officer will not have a material adverse effect on RCI's financial condition
or results of operation. Furthermore, the loss of one or more key executives
of the Company, NTC or GenSource could have an adverse impact on the
Company's and its subsidiaries' business. See "Item 1. Business - Employees"
in the Company's 1996 Form 10-K.
DILUTION CAUSED BY FUTURE SALES OF SHARES. As of November 30, 1997, the
Company has approximately 3,707,200 shares of Common Stock (not including the
Shares, the Underlying Shares or outstanding shares of Series A Preferred or
Series B Preferred) issued and outstanding which may be deemed "restricted
securities" as that term is defined under Rule 144 of the Securities Act of
1933, as amended (the "Securities Act"). The restricted securities may be
sold in the future in compliance with Rule 144 or Regulation S of the
Securities Act. Ordinarily, under Rule 144 a person who is an affiliate of
the Company (as that term is defined in Rule 144) and has beneficially owned
restricted securities for a period of two years may, every three months, sell
in brokerage transactions an amount that does not exceed the greater of (i)
1% of the outstanding class of such securities or (ii) the average weekly
trading volume in such securities on all national exchanges or reported
through the automated quotation system of a registered securities association
during the four weeks prior to the filing of a notice of sale by a securities
holder. A person who is not an affiliate of the Company who beneficially
owns restricted securities is also subject to the foregoing volume
limitations but may, after the expiration of three years, sell unlimited
amounts of such securities under certain circumstances. Pursuant to
Regulation S, foreign shareholders may resell their shares without
restriction after the expiration of 40 days from the date of the sale of the
stock to them. The Company can make no prediction as to the effect, if any,
that sales of shares of Common Stock, or the availability of shares for
future sale, will have on the market price of the Common Stock prevailing
from time to time. Sales of substantial amounts of Common Stock (including
the Shares and the Underlying Shares) in the public market, or the perception
that such sales could occur, could depress prevailing market prices for the
Company's Common Stock. Such sales may also make it more difficult for the
Company to sell equity securities or equity-related securities in the future
at a time and price which it deems appropriate.
DILUTION CAUSED BY FUTURE ISSUANCES OF STOCK BY THE COMPANY. The
Company's Certificate of Incorporation, as amended, authorizes the issuance
of 20,000,000 shares of Common Stock and 100,000 shares of preferred stock.
The Company currently has approximately 14,006,793 shares of Common Stock
outstanding (including 1,500,000 shares reserved for issuance to the class
plantiffs pursuant to the settlement of SAUNDRA GAYLES vs. INCOMNET, INC. AND
SAM D. SCHWARTZ), 1,825 shares of the Series A Preferred Stock and 2,434
shares of Series B Preferred Stock outstanding. Assuming the issuance of all
of the Shares covered by this Prospectus, and the issuance of the number of
Underlying Shares based on the exercise of all Warrants and the conversion of
Series A Preferred at the maximum average conversion price of approximately
$4.44 per share, and the conversion of 2,434 shares of Series B Preferred at
a maximum average conversion price of approximately $3.97 per share, the
Company would have 16,272,832 shares of its Common Stock outstanding, not
including shares issuable upon the exercise of other outstanding options and
warrants. The remaining shares of Common Stock not issued or reserved for
specific purposes may be issued without any action or approval of the
Company's stockholders. Any such issuance could be used as a method of
discouraging, delaying or preventing a change in control of the Company or
could dilute the public ownership of the Company. There can be no assurance
that the Company will not undertake to issue such shares if it deems it
appropriate to do so. See "RISK FACTORS - Possible Effect of Reverse Stock
Split or Business Combinations" and "DESCRIPTION OF CAPITAL STOCK."
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POSSIBLE ADVERSE EFFECTS OF ISSUANCE OF PREFERRED STOCK. The Company's
Certificate of Incorporation, as amended, authorizes the issuance of a
maximum of 100,000 shares of Preferred Stock on terms that may be established
by the Company's Board of Directors without further stockholder action. In
September and October 1996 the Company issued $2,440,000 of Series A 2%
Convertible Preferred Stock which is convertible into the Company's Common
Stock based on a price equal to the lesser of the bid price of the Company's
Common Stock on the date of funding (i.e. ranging from $4.125 to $4.75 per
share), or 80% of the average bid price during the five trading days
immediately preceding the date of the conversion. In July and again in
November 1997, The Company issued a total of $2,434,000 of Series B 6%
Convertible Preferred Stock which is also convertible into the Company's
Common Stock based on a price equal to the lesser of the bid price of the
Company's Common Stock on the date of funding (i.e. ranging from $3.00 to
$4.29 per share) or 80% of the average bid price during the five trading days
immediately preceeding the date of conversion. Furthermore, options to
purchase up to 450 additional shares of Series B Preferred have been granted.
Consequently, the Common Stockholders will experience dilution from the
conversion of the Preferred Stock. The dilution will be greater to the
extent that the bid price of the Company's Common Stock is lower at the time
of conversion, since more shares of Common Stock will be issued for each
share of outstanding Series A Preferred and Series B Preferred. Furthermore,
while the Preferred Stock remains outstanding, the Company is subject to
certain restrictive covenants. See "THE COMPANY - Issuance of Convertible
Preferred Stock." The terms of any other series of Preferred Stock, which
may include priority claims to assets and dividends and special voting
rights, could also adversely affect the rights of holders of the Common
Stock. To date, no Preferred Stock other than the Series A Preferred and
Series B Preferred have been issued by the Company, although the Company may
issue more Series B Preferred in the future. The issuance of Preferred Stock
could make the possible takeover of the Company or the removal of the
Company's management more difficult, or otherwise dilute the rights of
holders of Common Stock and the market price of the Common Stock. See
"DESCRIPTION OF CAPITAL STOCK - Preferred Stock."
POSSIBLE EFFECT OF REVERSE STOCK SPLIT OR BUSINESS COMBINATION. The
number of shares of the Company's Common Stock outstanding or issuable upon
the conversion or exercise of outstanding securities issued by the Company is
approaching the total authorized number of shares of the Company's Common
Stock. As a result, or in order to implement a business combination in the
future or for others reasons, the Company may effect a reverse split of its
outstanding stock. A reverse stock split may cause the market price of the
Company's stock to decline, and may result in dilution of the existing
shareholders' ownership of the Company if the reverse stock split is
implemented in connection with a business combination with another entity.
There is no assurance that a reverse split of the Company's outstanding stock
or a business combination with another entity, if implemented, would not have
a material adverse effect on the market price or value of the Company's
stock, or on the operating results, financial condition or business
performance of the Company.
THE COMPANY
GENERAL
The Company and its wholly-owned subsidiaries, NTC and GenSource, are
engaged in three businesses: (i) interactive communications networking
services by the Company, (ii) the provision of long distance telephone
services by NTC, and (iii) the development, marketing, maintenance, and
enhancement of computer software for the processing of insurance and
insurance - related claims.
The Company provides interactive communications networking services using
its proprietary communications software, a central message switching computer
and front-end network processor. All subscribers to Incomnet's communications
network can simultaneously access the information on the system, can communicate
on the system on a real-time basis and can leave electronic messages. The
technology is particularly well suited to networks of buyers and sellers because
requests for quotes can be broadcast to all participants simultaneously, while
responses and subsequent negotiations associated with the quote can be done
privately.
The Company's major network is the Auto Dismantler Network, known under the
tradename "AutoNETWORK," which currently links several hundred licensed
automobile dismantlers in California, Colorado, Nevada, Arizona, Oregon and
Washington. AutoNETWORK is a monthly subscription service that automobile
dismantlers utilize to buy, sell and trade used parts that have been salvaged
from automobiles damaged in traffic collisions. The Company continually
evaluates other applications for its telecommunications networking technology,
including other industries where electronic broadcast and point-to-point
communications would add value to the conduct of their business. See "Item 1.
Business - AutoNETWORK" and "Item 1. Business - Network Services" in the
Company's 1996 Form 10-K.
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The Company was incorporated under the laws of the State of California in
1974. Its principal place of business is located at 21031 Ventura Boulevard,
Suite 1100, Woodland Hills, California 91364. Its telephone number is (818) 887-
3400. Additional information about the Company is included in documents
incorporated by reference in this Prospectus. See "AVAILABLE INFORMATION" and
"INCORPORATION OF CERTAIN DOCUMENTS BY REFERENCE."
The Company's wholly owned subsidiary, NTC, is an inter-exchange carrier
and reseller of long distance telephone services and provides nationwide long
distance telephone access to commercial and residential customers across the
United States. Customers of NTC purchase and pay for specific amounts of time
either through direct billing from NTC, billing from the customer's local
telephone company, or by prepaying for the use of NTC calling cards. NTC's
primary products are its Call $aver Calling Card, its Sure $aver Calling
Card, and its Dial-1 Telephone Service. In order to provide these NTC
services, NTC purchases large amounts of long distance time from national and
regional carriers at rates based upon high volume usage. NTC then resells
this time to customers at discounted retail rates. Its calling cards also
eliminate the calling card surcharges generally imposed by AT&T, MCI and
Sprint. NTC utilizes a multi-level marketing network of independent sales
representatives to market its long distance telephone services to retail
customers. NTC was incorporated under the laws of the State of Nevada on
September 6, 1984. Its principal offices are located at 2801 North Main
Street, Irvine, California 92714 and its telephone number is (714) 251-8000.
See "Item 1. Business - Acquisition of National Telephone Communications,
Inc. -Operations." See also "AVAILABLE INFORMATION" and "INCORPORATION OF
CERTAIN DOCUMENTS BY REFERENCE."
The Company's other wholly-owned subsidiary, GenSource (previously known
as California Interactive Computing, Inc.) is engaged in the development and
marketing of software that is used to process insurance-related claims,
including workers compensation, disability, general medical, and property and
casualty claims. Its software is licensed to companies which provide their
own insurance and claims administration, to insurance companies, and to
third-party administrators who process claims for either self-insured
companies or for insurance companies. GenSource's trademarked line of
software products include GenCOMP-TM-, GenMED-TM-, GenDIS-TM-, GenPAC-TM-,
GenRISK-TM-, GenIRIS-TM- and Top Rate-TM-. In addition, GenSource also offers
several computer and service-related products, including GenARS-TM-, which is
an optical disk-based information storage and retrieval system, and
GenSERVE-TM-, which is a maintenance and service program for customers.
GenSource is currently in the process of enhancing its computer software
products for windows applications utilizing new capital being invested into
it by Incomnet, Inc. GenSource was incorporated in 1977 in California and has
provided computer software for claims processing for 20 years. See "THE
COMPANY - Acquisition of California Interactive Computing, Inc."
The Company owns a minority interest in RCI. RCI manufactures and
markets the Fast Cast-TM- LenSystem that allows retail optical stores and
wholesale optical lens manufacturing laboratories to produce single vision,
flat-top bifocal and progressive bifocal lenses on demand, and in minutes.
The Fast Cast-TM-LenSystem uses a series of high-accuracy prescription glass
molds that are filled with a proprietary liquid monomer (plastic). When
exposed to ultraviolet light within the system's curing chamber, the monomer
undergoes a chemical reaction that rapidly "cures" or hardens the lens in 15
minutes. RCI commenced assembling and marketing the Rapid Cast equipment,
molds and liquid monomer for the Fast Cast-TM- LenSystem in February 1995,
when it acquired 100% of the outstanding stock of Q2100, Inc. from Pearle,
Inc., and when the Company acquired its ownership interest in RCI. See "Item
1. Business - Acquisition of Rapid Cast, Inc." and "Item 1. Business - Rapid
Cast, Inc." in the Company's 1996 Form 10-K.
APPOINTMENT OF NEW DIRECTORS BY THE COMPANY
On January 20, 1997, the Company's Board of Directors appointed Dr. Howard
Silverman to fill a vacancy and become a member of the Board of Directors.
Since March 1996, Dr. Silverman has been consulting for various companies in the
optical and financial areas, including Andrew, Alexander, Wise & Company in New
York, and Rapid Cast, Inc. From August 1995 to March 1996, Dr. Silverman
served as a Vice-President of Corporate Finance for Rickel & Associates, an
investment banking firm. From 1991 until he joined Rickel & Associates in 1995,
Dr. Silverman was an independent business consultant specializing in early stage
and mid-size operating companies. From 1985 to 1991, Dr. Silverman was the
founder and Chairman of the Board of Directors of Vision Sciences, Inc., a
company that developed, manufactured and sold in-office lens casting systems,
which enabled the optical retailer to cast his own finished plastic optical
lenses. Dr. Silverman was a member of the Board of Directors and the director
of business development for Staar Surgical Co., Inc., a publicly owned company,
from 1984 to 1990. He was the co-founder and Chief Operating Officer of Hydro-
Optics, Inc., a manufacturer of hydrophilic contact lens, from 1974 until 1984.
Dr. Silverman has also been the Vice President and Chief Operating Officer of
Diversified Health Industries, Inc. and the President and Chief Executive
Officer of Precision Contact Lens, Inc. Dr. Silverman had a private optometric
practice in New York City from 1968 to 1972, specializing in contact lenses.
Dr. Silverman earned a Bachelor of Science in Chemical Engineering from the
College of the City of New York in 1965 and a Doctor of Optometry from Illinois
College of Optometry in 1968. See the Company's Report on Form 8-K, dated
January 20, 1997.
On August 13, 1997, the Company's Board of Directors appointed three more
members to the Board, David Wilstein, Richard M. Horowitz and Stanley
Weinstein. See the Proxy Statement for the 1997 Annual Meeting of the
Shareholders of the Company and the Company's Report on Form 8-K, dated
August 13, 1997.
Richard M. Horowitz, 56, has served as President of Management Brokers
Insurance Agency (Beverly Hills, California) since 1974. He also serves as
Chairman of Leviathan Corporation, a computer sales, consulting and software
company, and Chairman of Dial 800, Inc., a telecommunication company. Since
1990, he has been a member of the Board of Directors of Trio-Tech
International, a company that produces environmental testing equipment. He has
an MBA from Pepperdine University.
Stanley C. Weinstein, 65, is a co-founder and the Managing Shareholder of
Weinstein Spira & Company, P.C., Certified Public Accountants, which was
established in 1962 in Houston, Texas. His expertise includes diverse business
consulting, executive recruitment and compensation, and the development and
utilization of marketing strategies. Mr. Weinstein attended Rutgers
University and obtained a B.B.A. from Upsala College. He is a member of the
American Institute of Certified Public Accountants (AICPA) and the Texas
Society of Certified Public Accountants (TSCPA).
David Wilstein, 69, is the President and Chairman of the Board of the Realtech
Group, a real estate development and management firm in Los Angeles,
California, which he founded in 1968. He is also the Chairman of the Board of
Aero Products Research, a company that develops plastic products, and is a
member of the Board of C. L. Systems, a company that develops electro-optical
test equipment. Mr. Wilstein has a B.S. in civil-structural engineering from
the University of Pittsburgh.
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APPOINTMENT OF NEW EXECUTIVE OFFICER OF NTC
On January 6, 1997, NTC entered into an employment agreement with James R.
Quandt pursuant to which Mr. Quandt is serving as the President of NTC's newly
formed operating division, and will be nominated to become a member of NTC's
Board of Directors. The employment agreement contemplates that Mr. Quandt will
eventually become the Chief Executive Officer of NTC upon the retirement of
Edward Jacobs, the current Chief Executive Officer, which is presently scheduled
for January 1, 1999.
Mr. Quandt's employment agreement commenced on January 6, 1997 and has a
term of three years. The employment agreement provides for Mr. Quandt to
implement a separation of the functions of the Company into an operating
division, with primary responsibility for the telephone business, and a
marketing division, with primary responsibility for the independent sales
representatives. Until Mr. Quandt becomes the Chief Executive Officer of NTC
(which is contemplated but not guaranteed), he and the President of the newly
formed marketing division will report to Mr. Jacobs. The employment agreement
recites that Mr. Jacobs also contemplates retiring as the Chairman of the Board
of Directors of NTC on July 25, 1999, although such retirement is not
contractually mandated. The employment agreement contemplates that Mr. Quandt
may be nominated to become the Chairman of the Board of Directors of NTC upon
Mr. Jacobs' retirement from that position.
Pursuant to the employment agreement, Mr. Quandt is entitled to the
following compensation: (1) A base salary of $40,000 per month, (2) an
incentive bonus equal to one and one-half (1.5%) of the quarterly net profit
earned by NTC, provided that the quarterly net profit is at least $1,250,000,
the payment of the bonus does not cause the quarterly net profit of NTC to be
less than $1,250,000, and NTC's pretax profit for the succeeding calendar
quarter is reasonably expected to exceed the minimum quarterly net profit of
$1,250,000, and (3) nonqualified stock options to purchase 600,000 shares of the
common stock of NTC. The stock options will have an exercise price determined
by the Board of Directors of NTC in accordance with the NTC Stock Option Plan,
but in no event greater than the higher of $5.00 per share or the fair market
value of NTC's stock at the time of the grant. See "THE COMPANY - Amendment to
NTC Management Incentive Agreement." The stock options will have an exercise
period of five years from the date of grant. The stock options will vest as
follows: (1) 250,000 stock options will vest upon Mr. Quandt completing 15
months of employment for NTC under the employment agreement, and (2) 350,000
stock options will vest only in the event NTC achieves cumulative pretax profits
which total a minimum of $10,000,000 in any four contiguous calendar quarters
prior to January 1, 1998.
In addition to the base salary, regular bonus and stock options, Mr. Quandt
will earn a hiring bonus equal to $225,000, payable if NTC's quarterly net
profits exceed $1,250,000, but in any event no later than December 31, 1997 with
respect to $150,000 of the guaranteed hiring bonus, and the balance by no later
than June 30, 1998. The hiring bonus will be paid at the rate of 1.5% of
quarterly pre-tax profits of NTC in excess of $1,250,000, and if not earned in
that manner, will be paid in full in two installments as follows: $150,000 by
December 31, 1997 and the balance by June 30, 1998. To the extent that the
regular bonus and guaranteed hiring bonuses are paid to Mr. Quandt pursuant to
his employment agreement, Mr. Jacobs has agreed to waive any remaining portion
of the quarterly incentive bonus payable by NTC to Mr. Jacobs (i.e. 1.5% of the
pre-tax net profits in excess of $1,250,000 of net profits of NTC per calendar
quarter) pursuant to Mr. Jacobs' current employment agreement with NTC.
Under the employment agreement, Mr. Quandt is entitled to a significant
severance payment if his employment terminates prior to the agreement's
termination date because of his death, disability, or for a reason other than
cause, or because of a voluntary resignation by Mr. Quandt for "good cause", as
defined in the employment agreement. Mr. Quandt has agreed not to compete with
NTC during the term of his employment agreement and for a period of one year
after the agreement terminates for any
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<PAGE>
reason. The effectiveness of Mr. Quandt's employment agreement is conditioned
on its approval by the NTC Board of Directors, which is expected to be given in
the near future.
Prior to assuming his executive position with NTC, Mr. Quandt was the
Chairman of the Board of Directors of Global Financial Information Corporation,
a privately held group of companies in the financial information and technology
industry. Global Financial Information Corporation operates from a base of 27
offices internationally, with a staff of approximately 840 professionals. From
1991 to 1995, Mr. Quandt was the President and Chief Executive Officer of
Standard & Poors Financial Information Services, a subsidiary of McGraw Hill
Corporation in New York, New York. At Standard & Poors, Mr. Quandt was
responsible for all executive, administrative and operational functions of nine
domestic and international companies that comprised the Standard & Poors Group.
From 1980 to 1991, Mr. Quandt was an executive officer in various capacities
with Security Pacific Bank in Los Angeles, California. Mr. Quandt was the
Senior Vice President and Group Division Head of Security Pacific Bank's
Financial Management & Trust Services Group from 1988 to 1991. From 1983 to
1990, Mr. Quandt was the President and Chief Executive Officer of Security
Pacific Brokerage, Inc., a subsidiary of Security Pacific Bank, for which he
negotiated the sale in 1990 to Fidelity Investments. Mr. Quandt was Group Vice
President of Security Pacific Financial Management Centers from 1980 to 1983.
From 1976 to 1980, Mr. Quandt was a Second Vice President with Smith, Barney,
Harris, Upham & Co. in Los Angeles, California, and from 1972 to 1976, he was a
Senior Account Executive with the Bank of America. Mr. Quandt earned a Bachelor
of Science in Economic and Business Administration from Saint Mary's College of
California in 1971 and completed the program at the Graduate School of Business,
Management Policy Institute, at the University of Southern California. Mr.
Quandt is a member of the Board of Regents of Saint Mary's College of California
and the Alumni Council Board of the American Bankers Association. Mr. Quandt is
also a member of the New York Municipal Forum.
REINCORPORATION OF NTC AND RESIGNATION OF DIRECTOR
On March 20, 1997, NTC reincorporated under the laws of the State of
Delaware. On March 21, 1997, Jerry Ballah resigned as an officer and director
of NTC, which was accepted by the NTC Board of Directors. The Board of
Directors of NTC authorized NTC to enter into a consulting agreement with Mr.
Ballah pursuant to which he would provide marketing consulting services to
NTC for $150,000 per year in consulting fees. The NTC Board of Directors
also authorized NTC to make a one year loan of up to $600,000 to Mr. Ballah
bearing interest at the applicable federal rate, evidenced by a promissory
note payable to NTC. The outstanding balance of the loan is approximately
$550,000 as of November 30, 1997.
AMENDMENTS TO BYLAWS
On June 8, 1997, the Board of Directors of the Company adopted an amendment
to the Company's Bylaws relating to the procedures for nominating candidates for
election as directors of the Company. The amendment states as follows:
"Section 3.A. NOMINATION OF DIRECTORS. Only persons who are nominated in
accordance with the procedures set forth in this Section 3A shall be eligible
for election as, and to serve as, directors. Nominations of persons for
election to the Board of Directors may be made at a meeting of the stockholders
at which directors are to be elected (i) by or at the direction of the Board of
Directors or (ii) by any stockholder of the Corporation who is a stockholder of
record at the time of the giving of such stockholder's notice provided for in
this Section 3A, who shall be entitled to vote at such meeting in the election
of directors and who complies with the requirements of this Section 3A. Such
nominations, other than those made by or at the direction of the Board of
Directors, shall be preceded by timely advance notice in writing to the
Secretary of the Corporation. To be timely, a stockholders' notice shall be
delivered to, or mailed and received at, the principal executive offices of the
Corporation (i) with respect to an election to be held at the annual meeting of
the stockholders of the Corporation, not later than the close of business on the
90th day prior to the first anniversary of the preceding year's annual meeting;
PROVIDED, HOWEVER, that with respect to the annual meeting of stockholders to be
held in 1997 or in the event that the date of the annual meeting is more than 30
days before or more than 60 days after such anniversary date, notice by the
stockholder to be timely must be so delivered not later than the close of
business on the later of the 90th day prior to such annual meeting or the 10th
day following the day on which public announcement of the date of such meeting
is first made by the Corporation; and (ii) with respect to an election to be
held at a special meeting of stockholders of the Corporation for the election of
directors, not later than the close of business on the tenth day following the
day on which notice of the date of the special meeting was mailed to
stockholders of the Corporation or public disclosure of the date of the special
meeting was made, whichever first occurs.
Any such stockholder's notice to the Secretary of the Corporation shall set
forth (x) as to each person whom the stockholder proposes to nominate for
election or re-election as a director (i) the name, age, business address and
residence address of such person, (ii) the principal occupation or employment of
such person, (iii) the number of shares of each class of capital stock of the
Corporation beneficially owned by such person, (iv) the written consent of such
person to having such person's name placed in nomination at the meeting and to
serve as a director if elected and (v) any other information relating to such
person that is required to be disclosed in solicitations of proxies for election
of directors, or is otherwise required, pursuant to Regulation 14A under the
Securities Exchange Act of 1934, as amended (the "Exchange Act"), and (y) as to
the stockholder giving the notice, (i) the name and address, as they appear on
the Corporation's books, of such stockholder and (ii) the number of shares of
each class of voting stock of the Corporation which is then beneficially owned
by such stockholder. The presiding officer of the meeting of stockholders shall
determine whether the requirements of this Section 3A have been met with respect
to any nomination or intended nomination. If the presiding officer determines
that any nomination was not made in accordance with the requirements of this
Section 3A, he shall so declare at the meeting and the defective nomination
shall be disregarded. Notwithstanding the foregoing provisions of this Section
3A, a stockholder shall also comply with all applicable requirements of the
Exchange Act and the rules and regulations thereunder with respect to the
matters set forth in this Section 3A."
On August 13, 1997, the Board of Directors of the Company adopted an amendment
to the Company's Bylaws providing that the fixed number of directors of the
Company will be seven members rather than six members, within a range of
permitted directors numbering a minimum of five and a maximum of nine. On
November 17, 1997, the Board of Directors adopted an amendment to the
Company's Bylaws providing for the requirement that any resolution to be
adopted by the Company's Board of Directors must be approved by a majority
of the directors comprising a quorum plus one. Accordingly, if seven members
of the Board are present, the approval of five is required to adopt a
resolution. A quorum is present for meetings of the Company's Board of
Directors if a majority of the Board is present.
GRANT OF STOCK OPTIONS AND OTHER COMPENSATION BY THE COMPANY
The Company's Board of Directors approved the following executive
compensation for the President and Secretary of the Company at its Board meeting
on January 21, 1997, pursuant to the recommendation of the Company's
Compensation Committee:
(1) Melvyn Reznick's annual salary for the twelve month period
commencing on December 1, 1996 and ending on December 1, 1997 was increased
to $250,000. Mr. Reznick was granted a cash bonus of $40,000. He was also
granted options to purchase a certain number of shares of NTC common stock
from the Company. The number of options to purchase NTC stock would have
been equal to $135,000 divided by the fair market value of each share of NTC
stock on December 31, 1996. The exercise price would have been equal to the
fair market value of NTC stock and the term of the options would have been
three years. In June 1997, Mr. Reznick elected to accept his bonus in cash
in lieu of options to purchase NTC stock from the Company. The Company's
Compensation Committee also recommended that Mr. Reznick's bonus for 1997 be
$100,000, subject to the approval of the Company's Board of Directors early
next year, provided that the Board determines that Mr. Reznick satisfies the
following criteria: The Company completes the spin-off of 10% of the common
stock of NTC that it owns, the pending investigation of the Company by the
Securities and Exchange Commission is settled and terminated, the Company's
legal and regulatory issues are under control and, if possible, resolved, the
Company expands its corporate communications activities so that its stock is
presented properly to the investment community, the Company develops a new
source of revenues and profits so that Incomnet, Inc. has a clear potential
to cover its costs independent of NTC and RCI, and there is significant
appreciation in the value of the Company's stock.
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<PAGE>
(2) Stephen A. Caswell's annual salary for the twelve month period
commencing on January 1, 1997 was increased to $115,000. Mr. Caswell was
granted a cash bonus of $10,000. He was also granted options to purchase a
certain number of shares of NTC common stock from the Company, which would
have been calculated in the same manner as for Mr. Reznick, except that the
dollar amount of options is $40,000 rather than $135,000. In June 1997, Mr.
Caswell elected to accept his bonus in cash in lieu of options to purchase
NTC stock from the Company. The Compensation Committee recommended and the
Board of Directors approved a potential cash bonus of $35,000 for Mr. Caswell
for 1997, provided that the Company achieves the same goals as are applicable
to Mr. Reznick's potential 1997 bonus.
On January 21, 1997, the Board of Directors granted the following stock
options to the following officers, directors and consultants to the Company.
The options granted to the directors of the Company were not granted pursuant
to and are not covered by the provisions of Incomnet, Inc.'s 1996 Stock Option
Plan:
<TABLE>
<CAPTION>
Number Potential Realizable Value
of Stock Exercise at Assumed Annual Rates of Stock
Name Options Price Date of Expiration Price Appreciation for Term (3)
- ---- -------- -------- ------------------ --------------------------------
<S> <C> <C> <C> <C> <C>
5% 10%
---- -------
Howard Silverman 35,000 $4.25 1/21/2002 $ 0 $ 14,700
Albert Milstein 35,000 $4.25 1/21/2002 $ 0 $ 14,700
Nancy Zivitz 35,000 $4.25 1/21/2002 $ 0 $ 14,700
Stephen Caswell 40,000(1) $4.25 1/21/2002 $ 0 $ 16,800
Mark Richardson(2) 20,000 $4.25 1/21/2002 $ 0 $ 8,400
</TABLE>
- ------------------------------
(1) These stock options are pledged to the Company as additional collateral to
secure the nonrecourse loan by the Company to Mr. Caswell made on November
15, 1995, which is also secured by 20,000 shares of the Company's Common
Stock owned by Mr. Caswell. The current outstanding balance of the loan is
approximately $340,000.
(2) Mr. Richardson is corporate legal counsel to the Company. See "LEGAL
MATTERS."
(3) The assumed appreciation is calculated from the last sale price of the
Company's Common Stock on the NASDAQ over-the-counter market on
November 26, 1997, which was $2.90 per share.
The members of the Compensation Committee are Albert Milstein, Nancy
Zivitz and Dr. Howard Silverman. Dr. Silverman joined the Compensation
Committee upon his appointment as a director on January 20, 1997. He did not
participate in the issuance of the report by the Compensation Committee
relating to the recommendations for compensation for Mr. Reznick and Mr.
Caswell, as described above, which were adopted by the full Board of
Directors on January 21, 1997. Mr. Caswell was a member of the Compensation
Committee until he resigned from it on June 27, 1997. Mr. Caswell did not
vote on the recommendations of the Compensation Committee relating to his
compensation from the Company. In approving the recommendations to the Board
of Directors for Mr. Reznick's and Mr. Caswell's compensation, the
Compensation Committee in its report noted extraordinary work performed by
these executives under difficult conditions. Mr. Reznick performed an
important role in financing and procuring the equity financing for Rapid
Cast, Inc., one of the Company's subsidiaries. Mr. Reznick personally made
and guaranteed bridge loans to Rapid Cast, Inc. as well as coordinating
negotiations with J.P. Morgan and The Clipper Group to complete the
institutional financing of Rapid Cast, Inc. Mr. Reznick is serving a key role
on the Board of Directors, Audit
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<PAGE>
Committee and Compensation Committee for Rapid Cast, Inc. He also works
extensively with the research and development department of Rapid Cast, Inc.
The Compensation Committee and the Board of Directors believes that the
institutional financing of Rapid Cast, Inc. may not have been accomplished
without the financial and managerial involvement of Mr. Reznick.
The Compensation Committee noted that Mr. Reznick was also instrumental in
resolving the issues with National Telephone & Communications, Inc., the
Company's 100% owned subsidiary, including initiating the procedures necessary
to accomplish the eventual spin-off of a portion of the Company's NTC shares.
The current management incentive agreement with NTC provides Incomnet, Inc. with
a reliable source of working capital in 1997. The Compensation Committee also
noted that Mr. Reznick served as an effective leader in resolving and making
progress in resolving difficult legal and regulatory issues affecting the
Company. The Compensation Committee made a comparative analysis of Mr.
Reznick's annual salary in relation to the salaries of chief executive officers
of public companies of approximately the same size, as well as the salaries of
the chief executive officers of NTC and RCI, and determined that the
recommendation for Mr. Reznick's compensation was fair and reasonable.
The Compensation Committee also issued a report with respect to Mr. Caswell
which noted his valuable work in providing support for the Company's litigation
tasks, including his assistance in the pending legal action for the recovery of
short swing profits for the Company in MORALES VS. INCOMNET, INC. AND SAM D.
SCHWARTZ. Mr. Caswell performed critical tasks in connection with the Company
raising $2,440,000 in the private placement of the Series A 2% Convertible
Preferred Stock. Mr. Caswell was also instrumental in establishing an investor
relations program for the Company including the hiring of Fi.Comm, Ltd., the
Company's investor relations firm. The Compensation Committee made a
comparative analysis of Mr. Caswell's annual salary in relation to the salaries
of corporate secretaries of public companies of approximately the same size, and
determined that the recommendation for Mr. Caswell's compensation was fair and
reasonable.
APPOINTMENT OF COMMITTEE MEMBERS
The current members of the Audit Committee of the Company's Board of
Directors are Albert Milstein, Nancy Zivitz and Dr. Howard Silverman. The
current members of the Compliance Committee of the Company's Board of Directors
are Melvyn Reznick, Mark Richardson, Albert Milstein and Nancy Zivitz. The
current members of the Compensation Committee of the Company's Board of
Directors are Albert Milstein, Nancy Zivitz, and Dr. Howard Silverman.
EMPLOYMENT AGREEMENTS WITH COMPANY MANAGEMENT
On June 8, 1997, the Company's Board of Directors approved an extension
of the employment agreement with Melvyn Reznick, the President and Chairman
of the Board of the Company, and a new employment agreement with Stephen A.
Caswell, the Company's Secretary and Vice-President. The existing employment
agreement with Mr. Reznick was extended until the earlier of (i) June 30,
2002, or (ii) six months after the date that 100% of the Company's holdings
of NTC stock are sold, conveyed or otherwise distributed but no sooner than
December 31, 1999 ("Early Termination Date"). The annual salary was
established to be $250,000 for the term of the contract. In the event of an
improper termination of the agreement by the Company for any reason, Mr.
Reznick is entitled (i) to be paid a lump sum amount equal to his annual
salary during the remaining term of his agreement plus his annual salary for
three additional years, plus accrued bonus, if any, (ii) to receive all of
his benefits during such period, and (iii) to exercise all of his vested
stock options at any time during the remaining term of the options. In the
event of an early termination because of the disposition of 100% of the
Company's NTC stock, then the Company has agreed to pay Mr. Reznick a lump
sum amount equal to the sum of the annual compensation and accrued but unpaid
bonus (if any, with respect to the bonus) which would be payable to him for
one additional year after the Early Termination Date, but not beyond June 30,
2002, as well as to provide his benefits during that period and to permit him
to exercise his vested stock options during the remaining term of the
options.
Mr. Caswell's employment agreement has a term which expires on the
earlier of (i) December 31, 1999, or (ii) six months after the date that 100%
of the Company's holdings of NTC stock are sold, conveyed or otherwise
distributed. His annual salary is $115,000 during the term of the contract.
In the event of an improper termination of Mr. Caswell's employment agreement
by the Company for any reason, Mr. Caswell is entitled (i) to be paid a lump
sum amount equal to his annual salary during the remaining term of his
agreement plus his annual salary for 15 additional months, (ii) to receive
all of his benefits during that period, and (iii) to exercise all of his
vested stock options at any time during the remaining term of the options.
In the event of an early termination because of the disposition of 100% of
the Company's NTC stock, then the Company has agreed to pay Mr. Caswell a
lump sum amount equal to the sum of the annual compensation and accrued bonus
(if any, with respect to the bonus) which would be payable to him for one
additional year after the Early Termination Date, but not beyond December 31,
1999, as well as to provide his benefits during such period and to permit him
to exercise his vested stock options during the remaining term of the options.
On October 30, 1997, NTC entered into a new employment agreement with Edward
R. Jacobs, who had been the Chairman and Chief Executive Officer of NTC under
a previous employment agreement from December 28, 1994 to July 25, 1997.
Pursuant to the new agreement, Mr. Jacobs' employment with NTC was extended
until July 25, 1999. The terms and conditions of the extended employment
agreement are described in "Item 5. Other Information - Employment Agreement
Between Incomnet, Inc. and Edward R. Jacobs" in the Company's Form 10-Q for
the quarter ended September 30, 1997 and in the Company's Proxy Statement for
the 1997 Annual Meeting of the Company's Shareholders.
FILING OF SCHEDULE 13D
On May 5, 1997, four shareholders representing to own a total of
1,119,094 shares of the Company's Common Stock filed a Schedule 13D with the
Securities and Exchange Commission. The shareholders are David Wilstein, his
brother, Leonard Wilstein, Richard M. Horowitz and Jack Gilbert. An amended
Schedule 13D was subsequently filed by the group adding Robert Epstein, who
owns 325,000 shares of the Company's Common Stock. The shareholders, acting
in concert, stated that they were considering various courses of action,
including but not limited to acquiring additional shares of the Company's
stock and seeking representation on the Company's Board of Directors by
proposing nominees for election to the Board at the Company's annual meeting
of the shareholders or otherwise. On August 13, 1997, the Company's Board of
Directors appointed David Wilstein and Richard M. Horowitz, two members of
the group, to fill existing vacancies on the Board. The Board also amended
the Bylaws to create an additional vacancy and appointed Stanley Weinstein as
the seventh director of the Company. See "THE COMPANY - Appointment of New
Directors."
ACQUISITION OF CALIFORNIA INTERACTIVE COMPUTING, INC.
On May 2, 1997, the Company acquired 100% of the issued and outstanding
capital stock of California Interactive Computing, Inc. ("CIC"), a private
California corporation engaged in the business of developing and marketing
computer software that is used to process insurance related claims, including
workers compensation, disability, general medical, and property and casualty
claims. CIC's computer software is licensed to companies which provide their
own insurance and claims administration, to insurance companies, and to third
party administrators who process claims for either self-insured companies or
insurance companies. CIC was incorporated in 1977 and has provided software
for claims processing for 20 years. CIC's name was changed to GenSource
Corporation on October 15, 1997. The total purchase price for CIC was
$2,176,829 payable over a five year period, comprised of a total of
$1,758,302 payable in cash to the shareholders of CIC for their stock and the
assumption of approximately $418,527 of loans payable by CIC to two of its
prior shareholders. In addition, CIC entered into a two year employment
agreement with Jerry Buckley, CIC's prior President and Chairman of the Board
of Directors, pursuant to which CIC is paying Mr. Buckley $10,000 per month
in consideration for his services as the Director of Strategic Planning for
CIC. See "Item 13 - Certain Relationships and Related Transactions -
Acquisition of California Interactive Computing, Inc." in the Company's 1997
Form 10-KA. See also the Company's Report on Form 8-K, dated May 2, 1997,
and "Item 5 - Other Information -Acquisition of California Interactive
Computing, Inc." in the Company's Form 10-Q for the quarter ended March 31,
1997.
AGREEMENTS WITH NTC AND ITS MANAGEMENT
In November 1996 the Company entered into a new management incentive
agreement with NTC pursuant to which the Company agreed to spin-off 10% of
the shares it owns in NTC, to establish stock option programs for the senior
executives, employees and key independent sales representatives of NTC, and
to vote its shares for NTC management's slate of director nominees. The new
management incentive agreement entirely superseded the incentive agreement
entered into by the Company with NTC in February 1996. See "Item 5. Other
Information - Agreement with NTC Management" in the Company's Form 10-Q for
the quarter ended September 30, 1996 as updated under "Item 1. Business -
National Telephone and Communications Inc. - Management Incentive Agreement"
in the Company's 1996 Form 10-K. The Company also entered into settlement
agreements with Edward Jacobs, the Chairman of the Board Directors and
President of NTC, and Jerry Ballah, the Executive Vice President and a
director of NTC, pursuant to which mutual general releases were given. The
Company agreed to assume certain debt obligations of Mr. Jacobs and Mr.
Ballah to NTC, as well as to make a cash payment to them to cover their tax
liabilities from the debt forgiveness. See "Item 5. Other Information -
Settlement Agreement with NTC Directors" in the Company's Form 10-Q for the
quarter ended September 30, 1996 as updated under "Item 1. Business -
National Telephone and Communications Inc. - Management Incentive Agreement"
in the Company's 1996 Form 10-K.
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<PAGE>
On January 28, 1997, the Company entered into an amended and restated
management incentive agreement with NTC which entirely supersedes the agreement
entered into in November 1996. The amended and restated management incentive
agreement essentially contains the same terms and conditions as the agreement
entered into in November 1996, except as follows: The Company and NTC agree
that the Company, as the owner of 100% of the total issued and outstanding stock
of NTC, owns ten million shares of NTC. The three NTC stock option plans
previously agreed to have been revised. The Company and NTC have now agreed
that there will be three stock option plans and one convertible debt plan. The
exercise price of all stock options issued under the option plans will not be
less than the fair market value of NTC common stock on the date of the grant,
and the conversion price of the convertible debt issued under the convertible
debt plan will not be less than the fair market value of NTC common stock on the
date of the issuance of the convertible debenture. Shares issuable pursuant to
the plans are expected to be registered with the Securities and Exchange
Commission no later than at the time of NTC's planned public offering. Upon the
creation of the plans and first grant of options and convertible debt units
pursuant to the plans, Edward Jacobs will waive his rights to all remaining
outstanding unexercised warrants and options issued to him by the Company
pursuant to his employment agreement, dated December 28, 1994. See "Item 1.
Business - National Telephone and Communications, Inc. - Management Incentive
Agreement" in the Company's 1996 Form 10-K.
The amended and restated management incentive agreement was amended on
April 7, 1997 to reflect minor adjustments in the terms and conditions of the
NTC stock option and convertible debt plans. Those adjustments are reflected
in the discussion in the following paragraphs.
The first stock option plan is the one for key independent sales
representatives. A total of 2,884,615 shares are reserved for issuance under
this plan. Options to purchase 961,538 shares of NTC common stock were
granted to key independent sales representatives who are Corporate Team
members, 480,769 of which will vest on June 30, 1998, subject to acceleration
if NTC's public offering occurs prior to January 1, 1998. Options to
purchase the other 480,769 shares will vest on June 30, 1999. In connection
with this grant, NTC expects to recognize approximately $150,000 of
compensation expense in the period March 1997 to June 1999, assuming all
961,538 options granted vest. The exercise price of these options is $3.50
per share and the exercise term is five years from the date of grant (i.e.
they expire on March 20, 2002). The remaining 1,923,077 shares reserved for
issuance pursuant to stock options granted under this plan may be granted to
key independent sales representatives after each of June 30, 1997, December
31, 1997, June 30, 1998 and December 31, 1998 if NTC's gross revenues for the
three month periods ending on each of such dates exceed NTC's gross revenues
for the corresponding three month periods ending December 31, 1996, June 30,
1997, December 31, 1997 and June 30, 1998, by the percentage amounts
indicated on the following table:
Percentage Increase in NTC Gross Revenues Number of Options Available For Grant
In Comparative Three Month Periods At End of Each Period(1)
- ----------------------------------------- -------------------------------------
30% 125,000
40% 250,000
50% 500,000(1)
- ------------------------------
(1) Stock options in the amount indicated may be granted at the end of each of
the four comparative three month periods. If the percentage increase for all
four of the comparative periods is 50% or more, then the total stock options
available for grant in the fourth period would be 423,077 instead of 500,000
because there are 1,923,077 (not 2,000,000) options available for grant under
this portion of the key independent sales representatives' stock option plan.
These stock options, once granted, will vest in four equal annual
installments on each anniversary date after the stock option grant date. The
exercise price for these stock options will equal the greater of $3.50 per
share or the fair market value of NTC common stock on the date of grant. The
NTC Board of Directors will determine when and to whom these stock options will
be granted.
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<PAGE>
The second stock option plan is the one for NTC executives, employees
and key consultants. A total of 3,705,001 shares are reserved for issuance
under this plan. Options representing 1,446,026 of these reserved shares
will be subject only to a time-in-service vesting requirement, but in no
event will such options vest prior to January 1, 1998. Options representing
1,682,051 of the reserved shares will vest in four equal annual installments
on each anniversary date of the option grant date, subject to the
acceleration of vesting in the event that NTC achieves certain income targets
in 1997, to be determined by the NTC Board of Directors. An amount equal to
480,770 of the 1,682,051 shares issuable pursuant to options granted under
this plan are reserved for issuance to Edward Jacobs and Jerry Ballah,
allocated 240,385 to Mr. Jacobs and 240,385 to Mr. Ballah. An amount equal to
576,924 of the 3,705,001 shares issuable pursuant to options granted under
this plan are also reserved for issuance to Mr. Jacobs and Mr. Ballah,
allocated 288,462 to Mr. Jacobs and 288,462 to Mr. Ballah. These stock
options have been granted but will not vest until January 31, 2002, except
that the vesting of these stock options will accelerate if NTC achieves
certain revenue goals prior to January 1, 2000.
On March 20, 1997, options to purchase 2,437,094 shares of NTC common
stock were granted under the second option plan to a total of 263 employees
and consultants of NTC, including the aboved described 480,770 and 567,924
stock options granted to Mr. Jacobs and Mr. Ballah. On April 11, 1997,
options to purchase an additional 735,000 shares of NTC common stock were
granted to a total of 18 key consultants of NTC. The exercise price of the
2,437,094 stock options is $3.50 per share and the exercise price of the
735,000 stock options is $3.75 per share. The exercise period is ten years
from the date of grant, regardless of when they vest. In the future, and
prior to NTC becoming a publicly traded company, the exercise price of any
new options granted under this plan will be the higher of the latest Duff &
Phelps appraisal of each share of NTC common stock or $3.50 per share. After
NTC becomes a publicly traded company, the exercise price of any stock
options granted under this plan will not be less than the fair market value
of NTC's stock on the date of the grant or, in the case of stock options
granted to affiliates of NTC, 110% of the fair market value of NTC's stock.
The third stock option plan is the one for members of NTC's Board of
Directors. A total of 300,000 shares are reserved for issuance under this plan.
Each director of NTC will receive an option to purchase 25,000 shares of NTC
common stock which will vest in four equal annual installments on each
anniversary date of the option grant date.
The fourth option plan is the Senior Executive and Consultant
Convertible Debt Plan for Edward Jacobs and Jerry Ballah. A total of
2,664,231 shares are reserved for issuance under this plan. Mr. Jacobs and
Mr. Ballah have collectively received convertible debt units which may be
converted into 2,664,231 shares of NTC common stock, allocated 1,407,115 to
Mr. Jacobs and 1,257,116 to Mr. Ballah. These convertible debt units were
issued by NTC on April 11, 1997. In connection with the issuance of the
convertible debt units, Mr. Jacobs and Mr. Ballah issued convertible
debentures to NTC at the rate of $3.00 per conversion share (i.e. an
aggregate of $7,992,693 in debentures payable to NTC), bearing fixed simple
interest at the rate of 6.49% per annum and payable in full on the earlier of
(a) the date five years from the date of grant (i.e. April 11, 2002), or (b)
the conversion date. The convertible debentures are full recourse
obligations of Mr. Jacobs and Mr. Ballah. Each convertible debt unit is
convertible into one share of NTC common stock at a conversion price equal to
the outstanding principal and interest balance of the convertible debentures
plus $.01 per share. A portion of the convertible debt units granted under
this plan may be assignable.
The vesting of all stock options and convertible debt units is dependent
upon the grantee being a director, officer, employee or key consultant of NTC
at the time of vesting. All nonvested stock options expire automatically
upon the termination or severance of a grantee from employment or service
with NTC.
Furthermore, grantees of the stock options generally have a period of 90 days
(30 days in the case of consultants) after a severance from NTC in which to
exercise vested stock options (this provision is not applicable to
convertible debt units). The following table lists the stock options and
convertible debt units issued to the directors and executive officers of NTC
as of November 30, 1997. These stock options do not include any that have
been granted to the independent sales representatives of NTC or other
employees or consultants of NTC.
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------
Grantee Type Number Exercise or Date of Value at Assumed Annual
Conversion Expiration Rates of Stock Price
Price Appreciation For Term(10)
5% 10%
--- ---
<S> <C> <C> <C> <C> <C> <C>
Edward R. Jacobs(1) Stock Options 240,385 $3.50 3/20/2007(8) $ 333,338 $1,029,143
Stock Options 288,462 $3.50 3/20/2007(9) $ 400,004 $1,234,617
Convertible
Debt Units 1,407,115 $3.01 4/11/2002 $1,170,167 $2,585,764
James R. Quandt(2) Stock Options 300,000 $3.50 3/20/2007(7) $ 416,000 $1,284,000
Stock Options 300,000 $3.50 3/20/2007(8) $ 416,000 $1,284,000
Michael Keebaugh(3) Stock Options 50,000 $3.50 3/20/2007(7) $ 69,334 $ 214,000
Stock Options 50,000 $3.50 3/20/2007(8) $ 69,334 $ 214,000
Victor C. Streufert(4) Stock Options 75,000 $3.50 3/20/2007(7) $ 104,001 $ 321,000
Stock Options 50,000 $3.50 3/20/2007(8) $ 69,334 $ 214,000
Deborah Chuckas(5) Stock Options 50,000 $3.50 3/20/2007(7) $ 69,334 $ 214,000
Stock Options 50,000 $3.50 3/20/2007(8) $ 69,334 $ 214,000
Louis Cheng(6) Stock Options 50,000 $3.50 3/20/2007(7) $ 69,334 $ 214,000
Stock Options 50,000 $3.50 3/20/2007(8) $ 69,334 $ 214,000
- -----------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Mr. Jacobs is the Chief Executive Officer and Chairman of the Board of
Directors of NTC. The conversion price of $3.01 per share for the
convertible debt units does not include accrued interest on the
outstanding debentures. The terms of Jerry Ballah's stock options
and convertible debt units are the same as Mr. Jacobs'. Mr. Ballah
resigned as an officer and director of NTC on March 21, 1997.
(2) Mr. Quandt is the President and a director of NTC.
(3) Mr. Keebaugh is the Vice-President of Operations of NTC.
(4) Mr. Streufert is the Chief Financial Officer of NTC.
(5) Ms. Chuckas is the Vice President of Marketing Support for NTC.
(6) Mr. Cheng is the Vice President of Information Systems for NTC.
(7) These stock options vest and are exercisable on the later of (i) 15
months after the employee's date of hire or 15 months after the
employee's date of promotion to the employee's current position,
whichever is later, or (ii) 180 days after the first sale by NTC of
common stock shares in a bona fide underwriting pursuant to a
registration statement under the Securities Act of 1933, as amended
(an "Underwriting").
(8) These stock options vest and are exercisable in accordance with the
following schedule, subject to acceleration as described after the
vesting schedule: (a) 25% on the later of the first anniversary of
each employee' date of grant or 180 days after an Underwriting, (b)
25% on the second anniversary of each employee's date of grant, (c)
25% on the third anniversary of each employee's date of grant, and (d)
25% on the fourth anniversary of each employee's date of grant. In
the event that the total of NTC's net income plus income and franchise
taxes paid or accrued during each fiscal quarter exceeds $10,000,000
in any four consecutive calendar quarters up to and including the
fourth calendar quarter of 1997, the vesting of these outstanding
stock options would accelerate so that all shares subject to such
options would vest on the later to occur of (i) 45 days after the last
day of the fourth consecutive calendar quarter on which the total of
NTC's net income plus income and franchise taxes exceeded $10,000,000,
or (ii) 180 days after an Underwriting. In the event that the total
net income plus income and franchise taxes paid or accrued during each
fiscal quarter of 1997 does not exceed $10,000,000 but total net
income plus income and franchise taxes paid or accrued during 1998 is
more than twice NTC's total net income plus income and franchise taxes
paid or accrued during 1997, the vesting of these stock options would
accelerate so that all shares subject to such options would vest on
the later of (i) February 15, 1999, or (ii) 180 days after an
Underwriting.
(9) These stock options vest on January 31, 2002, subject to acceleration
according to the following schedule: In the event that the sales of
NTC exceed the amounts set forth below in any calendar quarter up to
and including the fourth calendar quarter of 1999, the vesting of
these stock options would accelerate so that the following number of
shares subject to such options would vest:
SALES IN CALENDAR QUARTER NUMBER OF SHARES VESTING
------------------------- ------------------------
$100,000,000 192,308
$125,000,000 384,616
$180,000,000 576,924
(10) Assumes a current value of $3.00 per share for each share of NTC
common stock.
The amended and restated NTC management incentive agreement provides
that, until four additional independent directors are appointed to the NTC
Board of Directors, if a vacancy is created on the NTC Board of Directors by
reason of the death, resignation or removal, with or without cause, of Mr.
Jacobs, then the Company has agreed to vote its shares for the individual
nominated by the remaining NTC management director. In addition to the
regular members of the NTC Board of Directors, a key independent sales
representative may be nominated and elected to the NTC Board of Directors on
a rotating basis, such that the same sales representative cannot serve
consecutive terms. NTC has agreed to make total cash payments to the Company
on or before December 31, 1997 equal to $2,200,000, of which a net total of
$775,000 has already been paid as of June 27, 1997. The cash payments of up
to $2,200,000 by NTC to Incomnet, Inc. will be treated as a return of capital
to the
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<PAGE>
Company. NTC may make advances to Incomnet, Inc. in excess of its cash payment
obligation of $2,200,000, which Incomnet, Inc. will be obligated to repay with
interest upon demand. Any charge to earnings or taxable income associated with
advances made by NTC to Incomnet, Inc. or costs incurred in the spin-off of NTC
shares will be incurred by Incomnet, Inc. for financial reporting purposes,
rather than by NTC.
SETTLEMENT WITH RCI PARTIES
As of December 9, 1996, the Company entered into a Settlement and Mutual
Release Agreement with Robert Cohen, Alan Cohen, Jeff Rubin, Jeff Cohen,
Broadway Partners, a partnership comprised of the children of Alan and Robert
Cohen, and Lenore Katz (the "RCI Parties"). Robert Cohen is a director and
shareholder of Rapid Cast, Inc. and Jeff Rubin is a director, shareholder and
executive officer of Rapid Cast, Inc. Jeff Cohen is the son-in-law of Robert
Cohen. See "SELLING SECURITY HOLDERS." Pursuant to the settlement agreement,
the RCI Parties purchased 360,000 Warrants entitling them to purchase 360,000
shares of the Common Stock of the Company for an exercise price of $3.75 per
share at any time until December 9, 1999. The RCI Parties paid a total of
$36,000 in cash to the Company for the Warrants. Certain of the RCI Parties
also purchased a total of 33,000 shares of the Common Stock of the Company for
an aggregate purchase price of $100,000. The Company is registering those
shares and the shares issuable upon the exercise of the Warrants pursuant to the
registration statement encompassing this Prospectus in accordance with its
agreement to do so in the Settlement and Mutual Release Agreement. See "SELLING
SECURITY HOLDERS." The Company and the RCI Parties also mutually released each
other from all claims, if any, which they may have had against each other, and
the RCI Parties assigned all of the claims which they may have against Sam and
Rita Schwartz, prior directors of the Company, to the Company.
SETTLEMENT OF THE CLASS ACTION LAWSUIT
Counsel for the plaintiffs in the class action lawsuit known as SAUNDRA
GAYLES VS. INCOMNET, INC. AND SAM D. SCHWARTZ entered into a settlement
agreement with the Company on October 7, 1997. The settlement, which is
subject to court approval, consists of a payment of $500,000 in cash plus
securities with a value of $8.15 million for a total settlement value of $8.65
million. The securities consist of 1,500,000 shares of the Company's Common
Stock, plus a number of warrants to be determined if the value of the Common
Stock does not equal at least $8.15 million after the settlement is approved by
the court. See "Part II. Item 1. Legal Proceedings - Class Action and Related
Lawsuits" in the Company's Form 10-Q for the quarter ended September 30, 1997.
STATUS OF OPT-OUT LAWSUIT
In May 1997 the court in the class action lawsuit ruled that approximately
20 former shareholders of the Company are permitted to "opt-out" of the class
and file a separate lawsuit against the Company, Sam Schwartz and other
defendants which they may name. On July 22, 1997, the Company was named in the
lawsuit known as JAMES A BELTZ, ET AL. VS. SAMUEL D. SCHWARTZ and RITA SCHWARTZ,
husband and wife; STEPHEN A. CASWELL; JOEL W. GREENBERG; INCOMNET, INC., a
California corporation; DAVID BODNER and MURRAY HUBERFELD, in the United States
District Court, District of Minnesota. The lawsuit was filed by 17 individuals
who were allowed to opt out of the class action lawsuit to pursue a lawsuit on
their own. The lawsuit alleges that Mr. Schwartz and the other defendants
created a fraudulent scheme to inflate the price of the Company's stock in
violation of federal securities law. The lawsuit alleges losses by the
plaintiffs of approximately $1.5 million and seeks unspecified damages. See
"Part II. Item 1. Legal Proceedings - Class Action and Related Lawsuits" in
the Company's Form 10-Q for the quarter ended September 30, 1997.
STATUS OF SILVA RUN LAWSUIT
The status of the pending lawsuit described in the Company's Form 10-Q
for its second quarter ending June 30, 1997, known as SILVA RUN WORLDWIDE
LIMITED VS. INCOMNET, INC., SAM D. SCHWARTZ, BEAR STEARNS & CO., INC., LESLIE
SOLMONSON, RONALD F. SEALE, MARINER RESERVE FUND, COMPANIA DI INVESTIMENTO
ANTILLANO, COUTTS & CO. AG, SALVATORE M. FRANZELLA, PETER G. EMBIRICOS, AND
JOS SCHUETZ, filed in the United States District Court for the Southern
District of New York and transferred in March 1997 to the same court in
California which is hearing the pending class action lawsuit, has not
materially changed since the filing of the Company's Form 10-Q for the third
quarter ending September 30, 1997.
STATUS OF SECTION 16(b) ACTION
On February 21, 1997, the plaintiffs and Sam Schwartz in the lawsuit
entitled RICHARD MORALES VS. INCOMNET, INC. AND SAM D. SCHWARTZ, entered into
a stipulated settlement pursuant to which Mr. Schwartz agreed to pay
$4,250,000 to the Company as full payment of his short swing profit
obligation to the Company. Under the stipulated settlement, the disgorgement
of short-swing profits was paid $600,000 in cash and the balance by
cancellation of shares of the Company's Common Stock owned by Mr. Schwartz,
based on 90% of the average between the bid and the asked price of the
Company's Common Stock on the NASDAQ market during the 30 calendar days
immediately preceding the date that the court enters an order approving the
settlement. On June 9, 1997, the court entered an order approving the
settlement and awarded attorneys' fees and costs of $600,000 and $26,450,
respectively, which has been paid by the Company. The number of shares
tendered by Mr. Schwartz to the Company for cancellation pursuant to the
settlement was 1,047,966, which were cancelled in July 1997.
SETTLEMENT OF CIVIL CONSUMER PROTECTION LAWSUITS WITH THE STATE OF CALIFORNIA
On October 28, 1997, the Company announced that its NTC subsidiary
reached a settlement of a civil consumer protection lawsuit with the State of
California. In the settlement, which NTC reached without admitting any
wrongdoing, NTC agreed to a court order requiring it to implement policies
to prevent the practice of slamming (i.e. switching customers' long distance
telephone service without their permission or knowledge) by its independent
sales representives or employees, and agreed to pay $1,250,600 in costs and
penalities. NTC also agreed to institute sagegaurds to prevent slamming
violations from occuring in the future. Among those safeguards, NTC agreed to
wait 24 hours after the consumer agrees to switch his telephone company to
NTC before calling the customer to confirm that the consumer really wants to
switch to NTC. The lawsuit was brought through the California Attorney
General's Office and the Orange County District Attorney Office. The
California Public Utility Commission was the investigative agency. As part of
a related administrative action, restitution to consumers was being sought by
the Consumer Services Division of the California Public Utility Commission.
On November 17, 1997, NTC reached a settlement with the California Public
Utility Commission pursuant to which it agreed to pay to total of
approximately $350,000 to the Commission for customer restitution,
educational brochures and investigative costs. The terms of the settlement
with the Commission require the resignation in 1998 of the directors of NTC
who were directors prior to January 1, 1997. See "Part II. Item 1. Legal
Procedings - Civil Consumer Protection Lawsuit With The State of California."
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<PAGE>
LAWSUIT AGAINST SAM D. SCHWARTZ
On April 25, 1997, the Company filed a lawsuit against Sam D. Schwartz, its
prior President and Chairman of the Board, alleging fraud, breach of fiduciary
duty, negligence, and breach of contract, and seeking declaratory relief and the
imposition of a constructive trust. The lawsuit was filed in the Superior Court
of California in the County of Los Angeles. In the lawsuit, the Company alleges
that Mr. Schwartz failed to disclose to the Company or its Board of Directors
that he would obtain a direct financial benefit in connection with certain
transactions considered and/or entered into by the Company during the period
from 1993 to 1995. The Company further alleges that Mr. Schwartz fraudulently
induced the Company to enter into a Severance Agreement between him and the
Company on November 27, 1995, and that he breached his fiduciary duty to the
Company by self dealing, acting in bad faith and concealing material facts. The
Company seeks payment from Mr. Schwartz of the actual damages incurred by it as
a result of Mr. Schwartz's conduct, as well as interest, punitive damages,
attorney's fees and costs, and reimbursement of all payments previously made to
Mr. Schwartz pursuant to the Severance Agreement. Furthermore, the Company
seeks a declaratory order that Mr. Schwartz committed acts or omissions
involving known misconduct, the absence of good faith, an improper personal
benefit, a reckless disregard of his duties to the Company and its shareholders,
an unexcused pattern of inattention, and a violation of Sections 310 and 316 of
the California Corporations Code.
On June 24, 1997, Mr. Schwartz answered the Company's lawsuit against him
denying the allegations and counterclaiming for (i) enforcement of any payments
due under his Severance Agreement with the Company, (ii) indemnification
against third party claims, and (iii) payment of the same settlement to him as
was paid to the prior noteholders who purchased convertible notes from the
Company on February 8, 1995 (Mr. Schwartz also purchased convertible notes from
the Company on February 8, 1995), even though the Company's settlement with
those prior noteholders was based on the misconduct of Mr. Schwartz. See "THE
COMPANY - Settlement with Prior Noteholders." The Company intends to vigorously
assert its claims against Mr. Schwartz, including possible contribution claims
with respect to the Company's proposed settlement payments to the plaintiffs in
the class action lawsuit, and to vigorously defend against Mr. Schwartz's
counterclaims. The lawsuit against Mr. Schwartz has entered the discovery phase
and there is no assurance regarding its outcome. There is no assurance that the
case will not have a material adverse impact on the financial condition,
operating results and business performance of the Company or its subsidiaries.
See "Item 1. Legal Proceedings - INCOMNET, INC. VS. SAM D. SCHWARTZ" in the
Company's Form 10-Q for the quarter ended March 31, 1997, and "Item 3. Legal
Proceedings - Settlement with Prior Noteholders" in the Company's 1996 Form
10-K.
SETTLEMENT OF THE ATLANTA LAWSUITS
In February 1997, the Company completed a settlement and release agreement
with the plaintiffs in the pending lawsuits entitled HERBERT M. SCHWARTZ ET AL.
VS. INCOMNET, INC., SAM D. SCHWARTZ AND KALIBER MANAGEMENT CORP. and BRENT
ABRAHM ET AL. VS. INCOMNET, INC., SAM D. SCHWARTZ AND KALIBER MANAGEMENT CORP.
pursuant to which the lawsuit against the Company is being dismissed and an
order is being entered barring indemnification or contribution between the
Company and Sam D. Schwartz. In consideration for the payment of $400,000 in
cash and the issuance of a note in the principal amount of $400,000 to the
plaintiffs, the plaintiffs have released the Company from all claims and
dismissed their lawsuits against the Company with prejudice. The $400,000 note
was issued as of January 1, 1997 and bears interest at the rate of 12% per annum
from January 1, 1997 to January 22, 1997, and 8% per annum thereafter until
December 31, 1997, when the note is due and payable in full. The note is
secured by a certificate of deposit in the amount of $415,000 purchased by the
Company, which the Company has the right to replace with a number of registered
shares of its Common Stock equivalent in value to the certificate of deposit as
collateral for the note. The Company may use a portion of the shelf shares
covered by this Prospectus to pledge as collateral for the note in place of the
$415,000 certificate of deposit. The Company's settlement did not include
Sam D. Schwartz.
SETTLEMENT OF THE STEVENS LAWSUIT
In January 1997, the Company entered into a Settlement Agreement and Mutual
Release of all claims in the pending lawsuit entitled CHARLES STEVENS VS. SAM D.
SCHWARTZ AND INCOMNET, INC. Pursuant to the settlement, the Company paid $7,500
in cash to the plaintiff and issued 12,500 Warrants to purchase 12,500 shares of
the Company's Common Stock at an exercise price of $2.94 per share, exercisable
at any time until December 17, 2001. The Company agreed to register the shares
underlying the 12,500 Warrants issued to Mr. Stevens and his legal counsel. In
consideration for the issuance of Warrants and payment of cash, the plaintiff
released the Company from all claims and dismissed the lawsuit against the
Company with prejudice. The settlement did not include Sam D. Schwartz.
SETTLEMENT WITH PRIOR NOTEHOLDERS
Commencing in January 1996 the Company entered into a series of settlement
agreements with certain prior holders of 8% convertible promissory notes issued
by the Company on February 8, 1995 to finance the acquisition of 51% of RCI.
See "Item 1. Business - Acquisition of RCI" in the Company's 1995 Form 10-K.
Settlement agreements have been executed by all seven of the prior noteholders
who held $825,000 of convertible notes. The registration statement covering the
prior noteholders' outstanding shares and newly issued settlement shares issued
pursuant to the settlement agreements was declared effective by the Securities
and Exchange Commission on October 31, 1996. See also "Item 3. Legal
Proceedings - Claims by Prior Noteholders" in the Company's 1996 Form 10-K.
SETTLEMENT WITH PRICE INTERNATIONAL
In August 1996, the Company entered into a settlement agreement with Price
International pursuant to which the Company agreed to lower the exercise price
of Price International's 75,000 warrants from $11.25 per share to $4.50 per
share, and to extend the expiration date of the warrants from
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<PAGE>
November 15, 1997 until December 31, 1998. The Company also agreed to register
the 75,000 shares issuable upon the exercise of the warrants. Those shares were
registered by the Company in the registration statement which was declared
effective by the Securities and Exchange Commission on October 31, 1996. In
consideration for the modification to the terms and conditions of the warrants,
Price International agreed that (a) it would be required to exercise at least
25,000 of the warrants once the trading price of the Company's stock averages
$5.30 per share during any 30 day period, and (b) it releases and forever
discharges the Company from all claims it may have had against the Company for
events occurring prior to the date of the settlement agreement. Price
International has not yet exercised any of the warrants issued to it in its
settlement agreement with the Company.
ISSUANCE OF CONVERTIBLE PREFERRED STOCK
Series A Preferred. From September 20, 1996 to October 25, 1996, the
Company issued 2,440 shares of Series A 2% Convertible Preferred Stock to 12
accredited investors in a private placement pursuant to Regulation D of the
Securities Act of 1933, as amended. The shares of Series A 2% Convertible
Preferred Stock were purchased by four affiliated individuals and eight
unaffiliated investors. The Company raised $2,440,000 in capital from the
issuance of the Preferred Stock, a portion of which it utilized to repay
advances made to it by Melvyn Reznick, the Company's Chairman and Chief
Executive Officer, who in turn owed approximately $723,000 to a bank on a
loan with a maturity date of September 16, 1996. Mr. Reznick had borrowed
these funds from the bank in order to make a substantial portion of his loan
to the Company, which enabled the Company to make its pro rata share of loans
to RCI. See "Item 5. Other Information - Loan to Company By Melvyn Reznick"
in the Company's Form 10-Q for the fiscal quarter ending September 30, 1996.
The balance of the proceeds is being utilized for general working capital and
to pay the costs of settling pending litigation. The Company paid a referral
fee to Newport Capital Partners, an unaffiliated financial consultant, equal
to 5% of the capital raised through its referrals, which was $1,700,000. The
Company has therefore paid $85,000 of referral fees to Newport Capital
Partners. The basic terms and conditions of the Series A 2% Convertible
Preferred Stock are described in "Item 1. Business - Issuance of
Convertible Preferred Stock" in the Company's 1996 Form 10-K.
On November 7, 1997, 1,700 shares of the Series A Preferred was purchased
from four institutional investors, who were original purchasers of the Series
A Preferred, for $1.7 million by 12 individual accredited investors. These
individuals have agreed to waive all registration rights and liquidated
damage rights associated with the Series A Preferred. They have agreed that
they will convert their Series A Preferred into shares subject to Rule 144 of
the Securities Act of 1933, as amended, instead of shares that will be
registered by the Company. The Company has paid total liquidated damages of
$540,000 in cash to the four original purchasers of the Series A Preferred
conveyed to the new buyers.
On November 3, 1997, three other individuals converted $225,000 of the
Series A Preferred (i.e. the original investment amount) into the Company's
Common Stock, subject to Rule 144. These three individuals received liquidated
damages of $67,500 paid in additional shares of Common Stock at a price of
$3.00 per share. As of November 7, 1997, 125 shares of original Series A
Preferred with registration rights remain outstanding. These shares are held
by Dr. Robert Cohen and Lenore Katz. These individuals are owed liquidated
damages of approximately $45,000 as of November 30, 1997. See "Item 5. Other
Information - Conveyence of Series A 2% Convertible Preferred Stock and Issuance
of Series B 6% Convertible Preferred Stock" in the Company's Form 10-Q for the
quarter ended September 30, 1997.
Series B Preferred. In July 1997, the Company's Board of Directors
approved the issuance of up to 2,990 shares of Series B 6% Convertible
Preferred Stock (the "Series B Preferred"), at a price of $1,000 per share,
with each share convertible into shares of the Company's Common Stock at a
conversion ratio to be determined. At that time, the Company raised $1.8
million (less a cash referral fee of $92,000) by selling 1,800 shares of the
authorized Series B Preferred and issuing an additional 34 shares of Series B
Preferred as referral compensation. The Company also issued 50,000 Warrants
and options to purchase up to 125 additional shares of Series B Preferred to
the individual who arranged for the placement of the Series B Preferred in
July 1997. See "SELLING SECURITY HOLDERS" and "Item 5. Other Information -
Issuance of 6% Convertible Preferred Stock" in the Company's Form 10-Q for the
second quarter ended June 30, 1997. On November 4, 1997, the Company issued
600 additional shares of Series B Preferred, raising an additional $600,000,
less a cash referral fee of $60,000 to the individual who arranged the sale
(the same individual arranged the sale of the 1,800 shares of Series B
Preferred in July 1997). In connection with this new issuance of the Series B
Preferred, the Company also issued Warrants to the referring individual to
purchase 55,000 shares of the Company's Common Stock at an exercise price of
$3.00 per share for a period of two years, an option to the individual to
acquire an additional 125 shares of Series B Preferred convertible at 88% of
the average bid price of the Company's Common Stock quoted on the five
trading days immediately preceding the date of issuance of the additional
Series B Preferred, and the right for one year for the individual to purchase
an additional $200,000 in Series B Preferred. The cash fee, Warrants and
options paid and issued, respectively, to the individual were contingent upon
the referring individual placing $1.7 million of Series A Preferred being sold
by four original institutional purchasers who owned the Series A Preferred, to
12 new individuals who would waive all associated registration rights. On
November 7, 1997, this contingency was met. See "THE COMPANY - Issuance of
Convertible Preferred Stock - Series A Preferred." The basic terms and
conditions of the Series B Preferred are as follows:
VOTING. The Series B 6% Convertible Preferred Stock does not have voting
rights.
DIVIDEND. The Series B 6% Convertible Preferred Stock has a cumulative
noncompounded annual dividend of 6% payable in cash or stock at the Company's
option upon conversion of the Preferred Stock into Common Stock, and prior to
the payment of any dividends on the Common Stock. No dividends may be
declared or paid on the Series B Preferred until all cumulative unpaid
dividends have been declared and paid on the outstanding Series A Preferred.
LIQUIDATION PREFERENCE. The Series B 6% Convertible Preferred Stock has a
liquidation preference of $1,000 per share plus all cumulative unpaid dividends,
whether or not declared by the Company's Board of Directors. Upon any
liquidation or change of control of the Company (i.e. transfer of more than 50%
of its voting stock), the Preferred Stockholders are entitled to the second
priority in payment from the Company's assets, before any payments are made on
the Company's Common Stock, until the liquidation preference is paid in full.
The Series B Preferred is junior in preference to the Series A Preferred. No
liquidation preference may be paid to the holders of the Series B Preferred
until the full liquidation preference has been paid to the holders of the
outstanding Series A Preferred.
CONVERSION. The Preferred Stockholders may convert each share of
Series B 6% Convertible Preferred Stock into the number of shares of the
Company's Common Stock calculated as follows, at any time upon the earlier of
(i) 120 days after the issuance of the Preferred Stock, or (ii) when the
shares of Common Stock underlying the Preferred Stock are registered with the
Securities and Exchange Commission. The conversion price (the "Conversion
Price") for each share of Series B 6% Convertible Preferred Stock is equal to
the lesser of (a) 80% of the average bid price for the Company's Common Stock
on the public trading market for the five trading days immediately preceding
the conversion date, as specified by the Preferred Stockholder, or (b) the
bid price of the Company's Common Stock on the funding date (i.e. the issuance
date of the Series B Preferred). (The bid price of the Company's Common Stock
was $4.29 per share when the 1,800 shares of Series B Preferred was issued on
July 29, 1997 and was $3.00 per share when the 600 shares of Series B Preferred
was issued on November 4, 1997.) To calculate the number of shares of Common
Stock issuable upon the conversion of the Preferred Stock, the Conversion Price
is multiplied
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by a ratio, the numerator of which is the sum of 1,000 and the accrued but
unpaid dividends, and the denominator of which is the Conversion Price. If for
any reason a registration statement covering the shares of Common Stock issuable
upon the conversion of the Preferred Stock is not in effect with the Securities
and Exchange Commission at the time of a valid conversion by a Preferred
Stockholder, then the Conversion Price is reduced by 3% per month for each of
the first three months that the effectiveness of the registration is late.
REDEMPTION. The Company has the right to redeem the Preferred Stock for
its issuance price plus cumulative unpaid dividends if the Company's stock
trades at a price which averages $2.00 per share or less for any period of five
consecutive trading days after the Preferred Stock is issued.
REGISTRATION RIGHTS. Pursuant to a Registration Rights Agreement
entered into by the Company with each purchaser of the Series B 6%
Convertible Preferred Stock, the Company is obligated to file a registration
statement with the Securities and Exchange Commission covering the shares of
Common Stock underlying the Preferred Stock within 30 days after the
Preferred Stock is issued, and to have the registration statement declared
effective within 120 days after it is filed.
ANTIDILUTION PROVISION. The Certificate of Determination for the Series
B 6% Convertible Preferred Stock contains comprehensive provisions for
adjustments to the Conversion Price and the conversion ratio of the Preferred
Stock in the event of stock dividends, asset distributions, reorganizations,
recapitalizations, mergers, stock splits or similar transactions by the
Company, in order to protect the Preferred Stock from dilution as a result of
such transactions.
RESTRICTIVE COVENANTS. During the first 90 days after the Series B 6%
Convertible Preferred Stock is issued, the Company is not permitted to issue any
other securities, except in limited circumstances, including pursuant to the
exercise of outstanding options or warrants or pursuant to existing settlement
agreements, without first notifying the Preferred Stockholders and giving them a
right of first refusal to purchase the securities themselves. While the Series
B 6% Convertible Preferred Stock is outstanding or until it is converted into
Common Stock, the Company is not permitted to engage in certain transactions,
such as the redemption or purchase of its own Common Stock (except in connection
with the collection of Section 16(b) short-swing profits), without the prior
consent of the Preferred Stockholders. Furthermore, the Company is not
permitted to pay cash dividends on its Common Stock unless all cumulative unpaid
dividends on the Series B 6% Convertible Preferred Stock is paid. The Company
cannot take any action which would modify the rights of the Preferred
Stockholders under the Certificate of Determination without the prior consent of
the Preferred Stockholder being affected by the modification.
RECENT CAPITALIZATION OF RCI
On January 16, 1997, Rapid Cast, Inc., a minority owned subsidiary of
the Company, issued 8,000,000 shares of Series A and Series B 7% Convertible
Preferred Stock to institutional investors in a private placement pursuant to
Regulation D of the Securities Act of 1933, as amended. The investors
contributed $12,000,000 in capital in consideration for the issuance of
7,275,000 shares of voting Series A 7% Convertible Preferred Stock and
725,000 shares of nonvoting Series B 7% Convertible Preferred Stock. The
investors also have the option to purchase up to an additional 6,666,666
shares of voting or nonvoting 7% Convertible Preferred Stock from RCI for a
purchase price $1.50 per share, exercisable with respect to 3,333,333 of the
shares upon the sooner to occur of (i) the appointment of a permanent
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Chief Executive Officer of RCI, or (ii) July 16, 1997, or the option relating
to those shares will expire unexercised. The option with respect to the
remaining 3,333,333 shares must be exercised on or before July 16, 1998, or
the option with respect to those shares will expire unexercised. (In July
1997, the RCI shareholders agreed, in lieu of having the institutional
investors exercise their option to acquire additional shares of Series A and
Series B 7% Convertible Preferred Stock, to raise $8,000,000 of additional
capital by offering 8,000,000 new shares of Common Stock to all of the RCI
shareholders on a pro rata basis at a price of $1.00 per share. In September
1997, the $8,000,000 private placement to existing RCI shareholders was fully
subscribed. The Company elected not to participate in the private
placement.) Frank Pipp, the new Chairman of the Board of Directors of RCI,
also has an option to purchase up to 1,333,333 shares of Series A 7%
Preferred Stock at any time until July 16, 1998 for a price of $1.50 per
share.
The proceeds of the first issuance of the Series A and Series B 7%
Convertible Preferred Stock were utilized by RCI (i) to repay short-term
bridge loans made to RCI by its shareholders, including Incomnet, Inc., in
the approximate total amount of $3,705,430; (ii) to repurchase 1,200,000
shares of RCI common stock from Dr. Larry Joel for a redemption price of
$1.28 per share; (iii) to make the final settlement payment of $325,000 on
the patent infringement lawsuit known as RONALD BLUM, O.D. VS. RAPID CAST,
INC., ET AL., which has been dismissed; (iv) to repay the bank line of credit
with Bank Leumi in the approximate outstanding amount of $500,000 plus
interest; (v) to pay placement costs of approximately $500,000; (vi) to pay
all trade payables in the approximate outstanding amount of $2,000,000, and
(vii) the balance for working capital. The outstanding RCI founder loans in
the approximate outstanding balance of $1,680,000 on the date of the closing,
the other RCI shareholder bridge loans which were not repaid from the
proceeds of the private placement of the Series A and Series B 7% Convertible
Preferred Stock, and the outstanding 8% convertible notes in the approximate
outstanding balance of $648,000 (which were convertible into RCI common stock
at a price of $.80 per share), were all converted into newly issued RCI
common stock and Series C 7% Convertible Preferred Stock as follows:
No. of Shares of
Series C No. of Shares
Name of RCI Shareholder Preferred Stock(1) of Common Stock (2)
- ----------------------- ------------------ -------------------
Robert Cohen 121,543 260,708(3)
Alan Cohen 120,194 260,708(5)
Jeff Rubin 122,260 45,752
Sean Zimberg 111,781 135,252
Dr. Larry Joel(6) 0 255,099
Huberfeld Bodner Partnership 0 543,390
Martin Price 27,485 53,856
Incomnet, Inc. 0 428,570
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(1) Issued at a price of $1.50 per share.
(2) Issued at a price of $.80 per share with respect to the conversion of the
outstanding principal balance of the 8% convertible promissory notes, and
$1.28 with respect to the conversion of the RCI founder loans and the
accrued but unpaid interest on the 8% convertible promissory notes.
(3) Includes 36,602 shares issued in the name of Robert Cohen's children.
(4) Includes 120,194 shares issued in the name of Alan Cohen's children.
(5) Includes 36,602 shares issued in the name of Alan Cohen's children.
(6) In September 1996 Dr. Joel surrendered 142,222 shares of RCI common stock
to RCI as the settlement payment for $448,000 of liabilities owed by Dr.
Joel to RCI.
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From the proceeds of the capitalization of RCI on January 16, 1997,
Incomnet, Inc. was repaid $2,647,348 of principal and accrued interest on its
short term bridge loans which it made to RCI during the period from April 1996
through January 1997. RCI also issued 428,570 shares of its common stock to
Incomnet, Inc. in exchange for the conversion by Incomnet, Inc. of $326,400 of
8% convertible promissory notes purchased by it from RCI in January 1996.
Incomnet, Inc. now owns 10,628,570 shares of RCI common stock. Melvyn Reznick
was repaid $80,000 plus interest at the rate of 10% per annum for the loan he
made to RCI in late December 1996, and Stephen Caswell was repaid $12,500 plus
interest at the rate of 10% per annum for the loan he made to RCI in early
January 1997.
Pursuant to its Amended and Restated Certificate of Incorporation filed on
January 16, 1997, RCI is authorized to issue a total of 60,000,000 shares of
common stock, 22,000,000 shares of which are nonvoting common stock, and
42,500,000 shares of preferred stock, all having a par value of $.001 per share.
As of March 17, 1997, RCI has a total of 22,091,113 shares of common stock
issued and outstanding, 10,628,570 of which are owned by Incomnet, Inc.,
7,275,000 shares of voting Series A 7% Convertible Preferred Stock, 725,000
shares of nonvoting Series B 7% Convertible Preferred Stock, and 503,264 voting
Series C 7% Convertible Preferred Stock. Incomnet, Inc. does not own any
outstanding RCI preferred stock. Each share of issued and outstanding Series A,
Series B and Series C Preferred Stock is convertible into one share of RCI
common stock (subject to adjustment) at any time at the option of the preferred
stockholder, and automatically upon the occurrence of a "qualified public
offering" by RCI, as that term is defined in the Certificate of Determination of
Rights, References and Privileges for all outstanding series of RCI preferred
stock. The terms of conversion and other rights of the outstanding RCI
preferred stock are all subject to customary adjustments and antidilution
provisions in the event of stock splits, certain stock dividends, stock
combinations, reorganizations, recapitalizations and similar events. A
"qualified public offering" by RCI occurs when RCI makes a public offering of
its securities having gross proceeds of at least $20,000,000 and an offering
price of at least $1.90 per share if it occurs on or prior to December 31, 1997,
$2.14 per share if it occurs on or prior to June 30, 1998, $2.40 per share if it
occurs on or prior to December 31, 1998, $2.69 per share if it occurs on or
prior to June 30, 1999, $3.02 per share if it occurs on or prior to December 31,
1999, $3.40 per share it occurs on or prior to June 30, 2000, $3.81 per share if
it occurs on or prior to December 31, 2000, $4.29 per share if it occurs on or
prior to June 30, 2001, $4.82 per share if it occurs on or prior to December 31,
2001, $5.41 per share it if occurs on or prior to June 30, 2002, and $6.08 per
share if it occurs after June 30, 2002, in each case as adjusted for stock
splits, certain stock dividends, stock combinations and similar events.
The Series A, Series B and Series C 7% Convertible Preferred Stock have a
liquidation preference of $1.50 per share. All outstanding RCI preferred stock
have a cumulative noncompounded dividend of 7% per annum which must be declared
and paid in full before any dividends may be declared or paid on the RCI common
stock. All dividends on outstanding RCI preferred stock, regardless of whether
Series A, Series B or Series C, must be declared and paid ratably on all such
outstanding preferred stock. Each holder of outstanding RCI preferred stock has
the right to be paid the 7% dividend, when declared, either in cash, in shares
of Series A, Series B or Series C Preferred Stock (at a price of $1.50 per
preferred share, subject to adjustment), or in a combination of cash and
preferred stock. The cumulative unpaid dividend on the outstanding RCI
preferred stock must be paid in full in shares of RCI common stock (at a price
of $1.50 per common share, subject to adjustment) or in cash, at the option of
the preferred stockholder, upon the conversion of the preferred stock into
common stock. The preferred stockholder may require RCI to redeem the
outstanding preferred stock beginning after January 1, 2003 if the preferred
stock has not otherwise been converted. The redemption price would equal the
original issue price plus cumulative unpaid dividends. The Certificate of
Determination for the outstanding RCI preferred stock contains numerous
restrictive covenants applicable to RCI with respect to the incurrence of debt,
sale of assets, issuance of shares, mergers, reorganizations, recapitalizations,
affiliate transactions, and similar transactions by RCI.
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In connection with the issuance of the preferred stock by RCI, RCI and its
shareholders entered into a Registration Rights Agreement, a Shareholders
Agreement and related agreements governing the outstanding RCI shares and the
management of RCI.
Pursuant to the Registration Rights Agreements, the Series A and Series B
Preferred Stockholders have priority demand and piggyback registration rights
with respect to the shares of RCI common stock issuable upon the conversion of
the preferred stock, and issuable upon the exercise of warrants held by them.
The Series A and Series B Preferred Stockholders are the only RCI shareholders
with demand registration rights, of which they have three for less than
$5,000,000 of proposed sales and an unlimited number of proposed sales in excess
of $5,000,000. With respect to piggyback registration rights, the holders of
Series A and Series B Preferred Stock are entitled to 80% of the available
registration of shares for selling security holders on a pro rata basis, and the
other existing RCI shareholders are entitled to 20% of the available share
registration for selling security holders on a pro rata basis, subject to other
conditions and limitations.
Pursuant to the RCI Shareholders Agreement, the RCI shareholders and RCI
are granted certain first rights of refusal to purchase RCI stock proposed for
sale by other RCI shareholders. The RCI Shareholders Agreement imposes certain
other restrictions on the transferability of RCI shares, except for Rule 144
sales, a sale of shares in a public offering pursuant to the Registration Rights
Agreement, and a transfer to RCI. The RCI shareholders also agree to vote their
shares so that (i) the RCI Board of Directors will consist of nine members, (ii)
subject to certain conditions, the RCI Board of Directors will consist of two
members designated by J.P.Morgan Investment Corporation and its related
investors, two members designated by Clipper Capital Associates, L.P. and its
related investors, one member designated by Incomnet, Inc., provided, that if
Incomnet, Inc. undergoes a "change of control" (defined as the cessation of
Melvyn Reznick's service on the RCI Board of Directors for any reason or certain
other changes in the Incomnet, Inc. Board of Directors or the stock ownership of
Incomnet, Inc.), then the Incomnet designee must be approved by a majority of
the other members of the RCI Board of Directors, one member designated by Jeff
Rubin, one member designated by Robert Cohen, one member (initially Frank Pipp)
designated by a majority of the RCI Board of Directors who qualify as outside
directors and approved by a majority of the RCI shareholders, and one member who
is the interim or permanent Chief Executive Officer of RCI. RCI has established
Executive, Audit and Compensation Committees.
The following persons are the current members of the RCI Board of Directors
and its Committees:
I. BOARD OF DIRECTORS(1)
Molly F., Ashby (J.P. Morgan Designee)
Robert Cohen
Patrick H. Ganett (J.P. Morgan Designee)
Kevin A. Macdonald (Clipper Designee)
Frank Pipp (Chairman and Interim Chief Executive Officer)(2)
Melvyn Reznick (Incomnet Designee)
Jeff Rubin
II. EXECUTIVE COMMITTEE
Molly F., Ashby (Chairman)
Kevin A. Macdonald
Frank Pipp
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III. COMPENSATION COMMITTEE
Patrick H. Ganett (Chairman)
Kevin A. Macdonald
Frank Pipp
Melvyn Reznick
IV. AUDIT COMMITTEE
Melvyn Reznick (Chairman)
Patrick H. Ganett
Kevin A. Macdonald
- ------------------------------
(1) The Board of Directors currently has one vacancy which is reserved for the
permanent Chief Executive Officer when he is hired.
(2) John L. Vidovich is currently a consultant and acting co-Chief Executive
Officer of RCI with Frank Pipp. Mr. Vidovich may become the permanent
Chief Executive Officer of RCI. The permanent Chief Executive Officer of
RCI is expected to join the RCI Board of Directors and may join one or more
of its Committees.
Upon the completion of a "qualified public offering" by RCI, as that term
is defined in the Certificate of Determination for the outstanding RCI preferred
stock and as described above, the voting and transferability restrictions in the
RCI Shareholders Agreement generally terminate, except that the RCI shareholders
agree to vote for one director designee each for J.P. Morgan and Clipper after
the "qualified public offering" as long as their investors hold a specified
minimum number of shares of RCI. The RCI Shareholders Agreement grants the RCI
shareholders pro rata preemptive rights to purchase new securities proposed to
be issued by RCI, except in circumstances such as when RCI makes a public
offering, issues stock to acquire another company in a purchase, merger or other
reorganization, issues stock pursuant to outstanding conversion rights, options
or warrants, issues up to 120,000 shares to John L. Vidovich or 450,000 shares
to Frank Pipp, implements a stock split or stock dividend, or issues stock after
a "qualified public offering" by RCI.
In connection with the short term bridge loans made to RCI from April 1996
to January 1997 and the issuance of the preferred stock by RCI on January 16,
1997, RCI issued options and warrants to purchase its common stock, and amended
and restated its 1994 Stock Option Plan. The RCI 1994 Stock Option Plan was
amended to authorize and reserve up to 4,514,732 shares of its common stock for
issuance upon the exercise of stock options granted and which may be granted by
the RCI Board of Directors in the future. Under the RCI 1994 Stock Option Plan,
a total of 3,260,000 stock options have been granted to various officers,
directors, employees and key consultants of RCI. The exercise price of 908,000
of the stock options is $2.25 per share and the exercise price of 1,842,000 of
the stock options is $2.00 per share. These stock options have vested (subject
to continued employment) and are exercisable at any time from the date of grant
until dates ranging from November 1, 2005 until July 31, 2006. Melvyn Reznick
was granted 100,000 of these options by RCI, having an exercise price of $2.25
per share and exercisable at any time until July 31, 2006. Frank Pipp was
granted 450,000 of these stock options to purchase a total of 450,000 shares of
RCI common stock at any time until January 20, 2007, 225,000 to which may be
purchased at an exercise price of $1.28 per share and 225,000 of which may be
purchased at an exercise price of $4.00 per share. RCI also granted to John L.
Vidovich 60,000 of these stock options to purchase 60,000 common stock at any
time until January 20, 2007 at an exercise price of $1.28 per share.
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RCI issued to the purchasers of the Series A and Series B Preferred Stock
warrants to purchase 1,400,000 shares of RCI common stock at an exercise price
of $1.74 per share, exercisable at any time until January 16, 2004. The holders
of these warrants have certain registration rights under the Registration Rights
Agreement described above, and customary adjustment and antidilution protection.
In connection with short term bridge loans made to RCI by its shareholders
and others during the period from April 1996 until early January 1997, RCI
issued a total of 4,441,933 warrants to purchase 4,441,933 shares of RCI common
stock at any time until dates ranging from September 30, 2003 to December 31,
2003. The exercise price of 1,853,683 of the warrants is $2.25 per share, the
exercise price of 302,500 of the warrants is $1.28 per share, and the exercise
price of 2,285,750 of the warrants is $.75 per share. Incomnet, Inc. holds
841,416 of these warrants to purchase 841,416 shares of RCI common stock at an
exercise price of $2.25 per share at any time until September 30, 2003, 480,000
of these warrants to purchase 480,000 shares of RCI common stock at an exercise
price of $.75 per share at any time until December 30, 2003, 150,000 of these
warrants to purchase 150,000 shares of RCI common stock at an exercise price of
$1.28 per share at any time until December 31, 2003, and 1,090,000 of these
warrants to purchase 1,090,000 shares of RCI common stock at an exercise price
of $.75 per share at any time until November 30, 2003. In consideration for
personal loans and loan guarantees, Melvyn Reznick holds 175,000 of these
warrants to purchase 175,000 shares of RCI common stock from the Company at an
exercise price of $2.25 per share at any time until September 30, 2003, and
160,000 of these warrants to purchase 160,000 shares of RCI common stock from
RCI at an exercise price of $.75 per share at any time until December 31, 2003.
In consideration for personal loans to RCI, Albert Milstein was issued 25,000
warrants to purchase 25,000 shares of RCI common stock at an exercise price of
$1.28 per share at any time until December 31, 2003. In consideration for
personal loans to RCI, Steve Caswell was issued 12,500 of these warrants to
purchase 12,500 shares of RCI common stock at an exercise price of $1.28 per
share at any time until December 31, 2003.
RCI also has a total of 1,000,000 additional warrants outstanding which
entitle their holders to purchase a total of 1,000,000 shares of RCI common
stock at an exercise price equal to 50% of the average of the last reported
sales price of RCI shares during the first 30 business days after the shares of
RCI first become publicly traded, provided that they become publicly traded on
or before December 31, 1998. If RCI becomes publicly traded on or before
December 31, 1998, these warrants are then exercisable for a period of 180 days
after the public trading commencement date. These 1,000,000 RCI warrants were
issued on February 8, 1995 in connection with the issuance of 8% convertible
promissory notes by Incomnet, Inc. on that date to finance its acquisition of a
controlling interest in RCI. See "Item 1. Business - Acquisition of Rapid Cast,
Inc." in the Company's Form 10-K for the fiscal year ending December 31, 1995.
SETTLEMENT OF RCI PATENT INFRINGEMENT CASE
On January 16, 1997, RCI completed the settlement of the lawsuit entitled
RONALD BLUM, O.D. VS. RAPID CAST, INC., ET AL. and the lawsuit has been
dismissed. In consideration for a total cash payment of $525,000 in cash to Dr.
Blum and the release by RCI of all claims which it may have had against Dr.
Blum, RCI received a release of all claims by Dr. Blum. See "Item 1. Legal
Proceedings - Patent Infringement Lawsuit" in the Company's Form 10-Q for the
fiscal quarter ending September 30, 1996.
RCI - LIMITATION OF LIABILITY AND INDEMNIFICATION MATTERS
As permitted by the Delaware General Corporation Law (the "Delaware Law"),
RCI's Certificate of Incorporation includes a provision that eliminates, to the
maximum extent permitted by the Delaware Law, any director's personal liability
to RCI or its stockholders for monetary damages in respect of any breach by such
director of his fiduciary duty. The Delaware Law does not permit a director's
personal liability to be eliminated (i) for any breach of a director's duty of
loyalty to RCI or
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its stockholders, (ii) for acts or omissions not in good faith or that involve
intentional misconduct or a knowing violation of law, (iii) for unlawful
payments of dividends or unlawful stock repurchases or redemptions, as provided
in Section 174 of the Delaware Law, or (iv) for any transaction from which the
director derived an improper personal benefit. In addition, as permitted by
Section 145 of the Delaware Law, the By-Laws of RCI provide that RCI shall
indemnify its directors and executive officers to the fullest extent permitted
by the Delaware Law, including those circumstances in which indemnification
would otherwise be discretionary, subject to certain exceptions. The By-Laws
also provide that RCI will advance expenses to directors and executive officers
incurred in connection with an action or proceeding as to which they may be
entitled to indemnification, subject to certain exceptions. RCI currently
carries director and officer liability insurance.
RCI has entered or will enter into indemnity agreements with each of its
directors and executive officers that provide the maximum indemnity allowed to
directors and executive officers by the Delaware Law and RCI's By-Laws, subject
to certain exceptions, as well as certain additional procedural protection. In
addition, the indemnity agreements provide generally that RCI will advance
expenses incurred by directors and executive officers in any action or
proceeding as to which they may be entitled to indemnification, subject to
certain exceptions.
RCI currently carries director and officer liability insurance.
RCI - ANTI-TAKEOVER PROVISIONS OF DELAWARE LAW
RCI is a Delaware corporation and thus subject to Section 203 of the
Delaware General Corporation Law ("Section 203"), which is generally viewed as
an anti-takeover statute. In general, Section 203 prohibits a Delaware
corporation from engaging in any "business combination" (as defined) with any
"interested stockholder" (as defined) for a period of three years following the
date that such stockholder became an interested stockholder, unless (i) prior to
such date, the board of directors of the corporation approved either the
business combination or the transaction which resulted in the stockholder
becoming an interested stockholder; (ii) upon consummation of the transaction
which resulted in the stockholder becoming an interested stockholder, the
interested stockholder owned at least 85% of the voting stock of the corporation
outstanding at the time the transaction commenced, excluding for purposes of
determining the number of shares outstanding those shares owned (a) by persons
who are directors and also officers and (b) by employee stock plans in which
employee participants do not have the right to determine confidentially whether
shares held subject to the plan will be tendered in a tender or exchange offer;
or (iii) on or subsequent to such date, the business combination is approved by
the board of directors and authorized at an annual or special meeting
stockholders, and not by written consent, by the affirmative vote of at least
66-2/3% of the outstanding voting stock which is not owned by the interested
stockholder.
In general, Section 203 defines a "business combination" to include: (i)
any merger or consolidation involving the corporation and the interested
stockholder; (ii) any sale, transfer, pledge or other disposition involving the
interested stockholder of 10% or more of the assets of the corporation; (iii)
(subject to certain exceptions) any transaction which results in the issuance or
transfer by the corporation of any stock of the corporation to the interested
stockholder; (iv) any transaction involving the corporation which has the effect
of increasing the proportionate share of the stock of any class or series of the
corporation beneficially owned by the interested stockholder; or (v) the receipt
by the interested stockholder of the benefit of any loans, advances, guarantees,
pledges or other financial benefits provided by or through the corporation. In
general, Section 203 defines an "interested stockholder" as (a) any entity or
person beneficially owning 15% or more of the outstanding voting stock of the
corporation or (b) any entity or person affiliated with or controlling or
controlled by such entity or person.
The existence of Section 203 would be expected to have the effect of
discouraging takeover attempts involving RCI, including attempts that might
result in a premium over the market price of RCI's common stock (if it is then
publicly traded).
-38-
<PAGE>
USE OF PROCEEDS
The Company will not receive any net proceeds from the sale of the
Outstanding Shares or the Underlying Shares, if and when issued. The Company
would receive $1,814,500 of net proceeds from the exercise of the Warrants,
if and when they are exercised, and has received net proceeds of $2,248,000
from the issuance of the Series B Preferred covered by this Prospectus. The
amount of net proceeds to be received from the sale of Shares by the Company
is uncertain and depends on (i) whether any Shares are sold and if so, how
many Shares are sold, (ii) the price at which Shares are sold through the
Underwriter in the NASDAQ over-the-counter market from time to time, (iii)
the conversion price of the Series B Preferred (and 125 shares of Series A
Preferred), and the extent to which Shares are needed to cover conversions,
and (iv) the amount of commissions and discounts paid to the Underwriter in
connection with the sale of the Shares. The net proceeds received from the
sale of the Shares and the exercise of the Warrants, if any, will be used by
the Company for general working capital purposes. See "DESCRIPTION OF CAPITAL
STOCK."
PRICE RANGE OF COMMON STOCK AND DIVIDENDS
The Company's Common Stock is quoted on the NASDAQ Small Capital Market
System under the symbol "ICNT." The following table sets forth, for the
calendar quarters indicated, the actual high and low sale prices of the
Company's Common Stock as reported on the NASDAQ/Small Capital Market commencing
for the first quarter of 1994. The approximate number of record holders of
Common Stock on November 30, 1997 was 797.
HIGH LOW LAST SALE
---- --- ---------
1994
First Quarter 7.25 6.00 6.75
Second Quarter 11.12 6.37 9.75
Third Quarter 12.50 8.00 11.37
Fourth Quarter 14.62 9.94 13.25
1995
First Quarter 16.25 12.25 14.25
Second Quarter 15.87 11.25 15.25
Third Quarter 23.50 15.25 22.25
Fourth Quarter 11.25 2.50 4.56
1996
First Quarter 6.20 4.25 5.12
Second Quarter 6.25 4.37 4.75
Third Quarter 5.31 4.50 4.75
Fourth Quarter 4.75 4.12 4.43
1997
First Quarter 5.06 2.87 3.00
Second Quarter 5.37 2.81 4.87
Third Quarter 5.19 2.94 3.62
Fourth Quarter(a) 3.81 2.18 2.90
- ------------------------------
(a) Through November 26, 1997.
-39-
<PAGE>
A recent closing sale price for the Common Stock as reported in
published financial sources is set forth on the cover page of this
Prospectus. There is no public trading market for the Warrants or the Series
A Preferred or Series B Preferred, nor is one expected to develop. The
Company intends to retain future earnings for use in its business and does
not anticipate paying any dividends on shares of its Common Stock in the
foreseeable future. Furthermore, pursuant to the Certificates of
Determination for the Series A Preferred and Series B Preferred, no cash
dividends or cash distributions may be made on the Company's Common Stock
unless all cumulative unpaid dividends on the Series A Preferred and Series B
Preferred are paid.
CAPITALIZATION
The following table sets forth the actual capitalization of the
Company at September 30, 1997 and the capitalization of the Company reflecting
(i) the issuance of 477,500 Underlying Shares assuming the exercise of all
477,500 Warrants, (ii) the issuance of 627,503 Underlying Shares pursuant to the
conversion of 2,434 outstanding shares of the Series B Preferred, (iii) the
issuance of 40,686 Shares upon the conversion of 125 shares of Series A
Preferred at a conversion price of $4.25 per share (less the impact of
liquidated damages for late registration and the 2% per annum cumulative
dividend), which is the maximum conversion price of those shares, and (iv) no
other issuance of Shares.
<TABLE>
<CAPTION>
September 30, 1997
--------------------------
Actual As Adjusted(2)
------ --------------
<S> <C> <C>
Long-Term Debt:(1) $ 3,355,000 $ 3,355,000
Minority Interest $ 0 $ 0
Stockholders' Equity (Deficiency)
Preferred Stock, no par value; 100,000 shares
authorized, 3,909 shares issued and outstanding 3,698,000 4,048,000
(4,259 as adjusted)
Common Stock, no par value; 20,000,000 shares $69,972,000 $71,786,500
authorized, 14,006,793 shares issued and
outstanding (15,152,482 as adjusted)(3)
Additional paid in capital 36,000 36,000
Retained earnings (accumulated deficit) (56,765,000) (56,765,000)
Treasury Stock (5,491,845) (5,491,845)
------------ ------------
Total stockholders' equity (deficiency) 11,413,000 13,613,655
------------ ------------
Total capitalization $ 14,768,000 $ 16,968,655
------------ ------------
------------ ------------
</TABLE>
- ------------------------------
(1) The long-term debt does not include liabilities of RCI in excess of assets
totalling $3,600,000.
(2) The "as adjusted" column does not reflect the sale of any Shares through
the Underwriter because the price and amount of such sales, and the
underwriting commissions and discounts applicable to such sales, are too
uncertain at this time. The "as adjusted" column also assumes that no
shares are needed to be issued in excess of the 627,503 Underlying Shares
reserved for issuance upon the conversion of the 2,434 outstanding
shares of Series B Preferred, and 40,686 Shares upon the conversion of 125
outstanding shares of Series A Preferred which still have registration
rights. The sale of Shares through the Underwriter would increase the
amount of stockholders' equity by the net proceeds received by the Company
from the sale, after the deduction of underwriting commissions and
discounts. The issuance of additional shares upon the conversion of
Series A Preferred or Series B Preferred, if necessary, would not increase
stockholders' equity. See "THE COMPANY - Issuance of Convertible Preferred
Stock."
(3) Assumes a total of 477,500 Underlying Shares of the Company's Common Stock
is issued pursuant to the exercise of the Warrants, a total of 627,503
Underlying Shares of the Company's Common Stock is issued pursuant to the
conversion of 2,434 shares of the outstanding Series B Preferred (including
payment
-40-
<PAGE>
of the 6% cumulative dividend in Common Stock), and a total of 40,686
Shares of the Company's Common Stock is issued upon the conversion of
125 outstanding shares of Series A Preferred which still have
registration rights (including payment in Common Stock of the liquidated
damages through November 30, 1997 and the 2% per annum cumulative
dividend). Includes $36,000 paid for the Warrants. See "THE COMPANY -
Settlement with RCI Parties." The adjusted shares of Common Stock assume
that 2,434 shares of Series B Preferred are converted into Common Stock
at an average conversion price of approximately $3.97 per share. The
average conversion price may be less, depending on the average bid price
of the Company's Common Stock prior to the conversion date. If the
average conversion price of the Series B Preferred is less than $3.97
per share (or if the average conversion price of the 125 outstanding
shares of Series A Preferred with registration rights is less than $4.25
per share), more dilution would be incurred by the existing Common
Stockholders. See "THE COMPANY - Issuance of Convertible Preferred
Stock" and "RISK FACTORS - Possible Adverse Effects of Issuance of
Preferred Stock."
DILUTION
As of September 30, 1997, the net tangible book value of the Company was
approximately $8,119,000 or approximately $.58 per share of Common Stock. Net
tangible book value per share consists of total assets less intangible assets
and liabilities, divided by the total number of shares of Common Stock
outstanding. Without giving effect to any changes in such net tangible book
value after September 30, 1997, other than to give effect to the exercise of
the 477,500 Warrants and the conversion of the 2,434 outstanding shares of
Series B Preferred at an average conversion price of approximately $3.97 per
Underlying Share, the PRO FORMA net tangible book value at September 30, 1997
would have been $10,319,655 or approximately $.68 per share. Thus, as of
September 30, 1997, the net tangible book value per share of Common Stock
owned by the Company's current stockholders would have increased by
approximately $.10 without any additional investment on their part. The
holders of the 360,000 Warrants will incur an immediate dilution of
approximately $3.07 per share from their Warrant exercise price. The holders
of the 12,500 Warrants will incur an immediate dilution of approximately
$2.26 per share from their Warrant exercise price. The holders of 50,000 of
the Warrants will incur an immediate dilution of approximately $4.58 per
share from their Warrant exercise price. The holders of 55,000 of the
Warrants will incur an immediate dilution of approximately $2.32 per share
from their Warrant exercise price. The holders of the Series B Preferred
will incur an immediate average dilution of approximately $3.29 per share
from their average conversion price, assuming a maximum average conversion
price of approximately $3.97 per share. "Dilution" means the difference
between the public offering price and the PRO FORMA net tangible book value
per share after giving effect to the offering. Holders of the Common Stock
may be subjected to additional dilution if any additional securities are
issued as compensation or to raise additional financing. The following table
illustrates the dilution which investors participating in this offering will
incur and the benefit to current stockholders as a result of this offering.
<TABLE>
<CAPTION>
EXERCISE OF EXERCISE OF EXERCISE OF EXERCISE OF CONVERSION OF SERIES
360,000 WARRANTS 12,500 WARRANTS 50,000 WARRANTS 55,000 WARRANTS B PREFERRED SHARES
---------------- --------------- --------------- --------------- ---------------------
<S> <C> <C> <C> <C> <C>
Price per share(1) $3.75 $2.94 $5.26 $3.00 $3.97
Net tangible book value per share
before offering $ .58 $ .58 $ .58 $ .58 $ .58
Increase in net tangible book
value per share attributable to
shares offered hereby $ .10 $ .10 $ .10 $ .10 $ .10
Pro forma net tangible book value
per share after offering $ .68 $ .68 $ .68 $ .68 $ .68
Dilution of net tangible book
value per share to purchasers in
this offering $3.07 $2.26 $4.58 $2.32 $3.29
</TABLE>
(1) The price per share represents the exercise price of the Warrants in the
case of the Warrants, and the maximum average conversion price in the case
of the Series B 6% Convertible Preferred Stock. If the average conversion
price is less than approximately $3.97 per share, then the average dilution
to the holders of the Series B Preferred would be less than $3.29 per share.
SELECTED CONSOLIDATED FINANCIAL INFORMATION
The selected consolidated financial information for the Company
presented under the captions "Statement of Operations Data" and "Balance
Sheet Data" for, and as of the end of, each of the years in the five-year
period ended December 31, 1996, and the nine months ended September 30, 1997,
is derived from the Company's Consolidated Financial Statements. The
Company's Consolidated Financial Statements as of December 31, 1994, 1995 and
1996 and for each of the years in the three-year period ended December 30,
1996, and the report thereon, and as of September 30, 1996 and September 30,
1997 and for the nine months ended September 30, 1996 and September 30, 1997,
have been incorporated in this Prospectus by reference. This selected
consolidated financial information should be read in conjunction with the
Company's Consolidated Financial Statements and the related notes thereto
included in the Company's 1996 Form 10-K and the Company's Form 10-Q for the
fiscal quarter ended September 30, 1997, incorporated herein by reference,
and with "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS" in this Prospectus.
-41-
<PAGE>
INCOMNET, INC.
STATEMENT OF OPERATIONS DATA:
<TABLE>
<CAPTION>
Nine Months Ended September 30 Year Ended December 31
------------------------------ ---------------------------------------------------------------------
1997 1996 1996 1995 1994 1993 1992
---- ---- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C> <C> <C>
Revenues $99,341,000 $77,296,000 $106,905,000 $86,564,917 $46,815,057 $11,298,972 $5,534,874
Income (Loss) before
income taxes, extra-
ordinary items and
minority interest (7,886,000) (11,202,000) (51,517,000) 957,044 4,000,242 (1,606,844) (2,264,597)
Income (Loss)
before extra-
ordinary item and
minority interest (7,207,000) (10,523,000) (43,705,000) 856,543 3,999,187 (1,606,844) (2,461,697)
Minority Interest 0 1,908,000 6,906,000 509,482 - - -
Net Income
(Loss) (7,207,000) (8,615,000) (37,676,000) 1,366,025 4,071,194 (948,769) (2,021,333)
Net Income (Loss)
per share before
extraordinary items (0.53) (0.65) (2.75) 0.11 0.42 (0.20) (0.34)
Net Income (Loss)
per share (0.53) (0.65) (2.82) 0.11 0.42 (0.12) (0.28)
Cash dividends per
common share 0 0 0 0 0 0 0
Weighted average
number of shares 13,687,977 13,244,674 13,370,000 12,706,401 9,593,207 8,183,877 7,189,671
BALANCE SHEET DATA:
At September 30 At December 31
-------------------------- --------------------------------------------------------
1997 1996 1995 1994 1993 1992
---- ---- ---- ---- ---- ----
Total assets $48,652,000 $69,564,043 $74,105,629 $26,158,346 $8,665,839 $6,744,944
Long-term obligations 6,955,000 8,708,181(2) 8,459,772(2) 900 20,000 176,000
</TABLE>
- ------------------------------
(1) Includes accounting for 1,500,000 shares of the Company's Common
Stock reserved in September 1997 for future issuance to the class
plaintiffs pursuant to the settlement of the lawsuit SAUNDRA GAYLES, ET
AL. vs. INCOMNET, INC. and SAM D. SCHWARTZ. See "THE COMPANY -
Settlement of the Class Action Lawsuit."
(2) These long term obligations include $8,459,772 as of December 31,
1995 and $8,055,562 as of September 30, 1996 relating to the net deferred
tax liability arising from the nondeductibility of the RCI patent rights,
which were eliminated when the RCI patent amortization schedule was
accelerated and the related intangible asset was written off entirely.
-42-
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
CONSOLIDATED RESULTS OF OPERATIONS
GENERAL
Gross revenues from NTC's operations have been increasing steadily since
the Company acquired a controlling interest and commenced advancing working
capital to NTC in early 1992. Upon acquiring control of NTC, the Company
implemented a new marketing plan for NTC pursuant to which compensation payments
to the independent marketing representatives were calculated and paid on a more
timely basis. NTC uses a network marketing program of independent
representatives to sell its telecommunications-related services to retail
customers. The growth in NTC's telecommunications-related revenues is directly
tied to its network marketing program. NTC's independent representatives
typically purchase materials, training and services from NTC to assist them in
selling new retail customers and enrolling other representatives in the NTC
program. NTC pays the independent representatives a residual monthly commission
on the telecommunications revenue. In addition, the network marketing program
pays various bonuses and overrides when and if new representatives obtain a
minimum number of new telephone customers, typically 10, within a 30 to 60 day
period. This program has been designed to bring NTC new retail telephone
customers even if little or no growth occurs in the marketing program revenues
itself. The new telecommunications revenue generally lags the marketing program
revenues by one to six weeks. When the marketing program revenues increase, an
increase in NTC's telecommunications-related revenues is expected to follow.
As part of NTC's new management program, the billing system was
enhanced to allow for multiple billing cycles each month. NTC still
establishes significant reserves for its direct-billed Dial-one receivables.
NTC believes that the pre-paid calling card products now offered by it
significantly reduce losses due to uncollectible accounts receivable.
NTC's long distance telephone services and marketing programs subject the
Company to the regulatory control of the Federal Communications Commission and
various state regulatory agencies, including but not necessarily limited to
state Public Utility Commissions or equivalent, state attorney general offices,
and state consumer relations and protection offices. See "THE COMPANY -
Settlement of Civil Consumer Protection Lawsuits With The State of California"
and "RISK FACTORS - Adverse Impact of Government Regulation."
The Company's current emphasis with respect to NTC is to continue to ensure
that (i) processing capacity is maintained and increased to handle growing
sales, (ii) the independent marketing force continues to expand, resulting in a
growing base of telephone customers, and (iii) the business is operated
efficiently with reliable reporting. While the improved computer processing
system is expected to reduce operating expenses as a percentage of gross
revenues due in part to increased speed and decreased errors, on-going costs in
1997 for expansion of NTC's infrastructure and more emphasis on local exchange
carrier billing may result in expenses in 1997 which are comparable to or higher
than expenses in 1996 and 1995, as a percentage of gross revenues, depending
upon the rate of NTC's growth.
On May 2, 1997, the Company acquired 100% of the total issued and
outstanding capital stock of California Interactive Computing, Inc., which
changed its name to GenSource Corporation in October 1997. The financial
condition and operating results of this 100% owned subsidiary will commence
being reflected in the consolidated financial condition and operating results
of the Company in its Form 10-Q to be filed for the quarter ended June 30,
1997. See the Company's Report on Form 8-K, dated May 2, 1997.
-43-
<PAGE>
THREE MONTHS ENDED SEPTEMBER 30, 1997 COMPARED TO THREE MONTHS ENDED
SEPTEMBER 30, 1996
SALES - Sales of $33.3 million in the third quarter ended September 30, 1997
increased 21% over sales of $27.6 million in the third quarter ended
September 30, 1996. The majority of this increase was attributable to NTC's
sales increase to $32.3 million in the three months ended September 30, 1997
from $25.8 million in the three months ended September 30, 1996,
respectively. The following table summarizes the Company's sales performance
by subsidiary and segment during the comparable third quarters in 1997 and
1996:
$ in millions
------------------
Subsidiary Segment 1997 1996
- -------------- --------------------------------------- ------ ------
NTC Telephone (telecommunications services) $ 28.7 $ 21.1
NTC Telephone (marketing programs) 3.6 4.7
RCI Optical -- 1.4
GenSource Software 0.6 --
AutoNETWORK Network 0.4 0.4
------ ------
Total Company Sales $ 33.3 $ 27.6
------ ------
------ ------
COST OF SALES - Total Company cost of sales increased to $23.4 million or 70%
of sales during the quarter ending September 30, 1996 verses $17.7 million or
64% of sales during the comparable prior year quarter. The
quarter-to-quarter increase in cost of sales resulted largely from the
increase in carrier costs associated with increased telephone service sales
by NTC. The increase in the percentage of overall sales to 70% in the third
quarter of 1997 from 64% in the third quarter of 1996 was due primarily to a
percentage increase in NTC's carrier costs in the third quarter of 1997
versus the third quarter of 1996. The following table summarizes the
Company's changes in three major cost components in the third quarter ended
September 30, 1997 and 1996, respectively:
$ in millions
----------------------
September September
30, 1997 30, 1996
--------- ---------
Commissions paid to NTC independent sales reps $ 4.4 $ 5.0
Carrier costs for NTC's long distance telephone service 17.8 11.0
All other costs of sales 1.2 1.8
------ ------
Total Company Cost of Sales $ 23.4 $ 17.8
------ ------
------ ------
NTC's total commission expense decreased to $4.4 million in the third quarter
of 1997 compared to $5.0 million in the same quarter of 1996. NTC's carrier
costs to deliver long distance telephone service to its telephone customers
increased to $17.8 million in the third quarter of 1997 compared to $11.0
million in the third quarter of 1996. This increase in carrier costs reflects
a decline in the gross margin of carrier-related sales. In the third quarter
of 1996, gross margin was 48%, or $11.0 million in carrier costs on $21.1
million in carrier sales, while in the third quarter of 1997, gross margin
declined to 38%, or $17.8 million in carrier costs on $28.7 million in
carrier sales.
The third cost component shown in the table above is "all other costs of
sales" which represents: (1) NTC's costs of producing sales materials for its
independent sales representatives, (2) GenSource's cost of producing software
products and related services, and (3) AutoNETWORK's costs of providing
communications network products and services.
GENERAL & ADMINISTRATIVE - Total general and administrative costs decreased
to $6.7 million or 20% of sales in the quarter ending September 30, 1996
compared to $8.3 million or 30% of sales in the same prior year quarter.
General and administrative costs generally include the costs of employee
salaries, fringe benefits, supplies, and related support costs which are
required in order to provide such operating functions as customer service,
billing, marketing, product development, information systems, collections of
accounts receivable, and accounting. The decrease in general and
administrative expense is associated with improved efficiencies at NTC and by
no longer consolidating the financial statements of RCI.
DEPRECIATION & AMORTIZATION - Total Company depreciation and amortization
expense was $821,409 in the third quarter of 1997 verses $501,787 in the
third quarter of 1996. This increase was caused primarily by continuing
investment by NTC in computer hardware and software, furniture and equipment,
and leasehold improvements required to support its anticipated expansion in
sales.
BAD DEBT EXPENSE - Total Company bad debt expense increased to $1.6 million
in the third quarter of 1997 from $1.3 million in the third quarter of 1996.
The increase in bad debt was associated with an increase in total sales at
NTC in the third quarter of 1997 versus the third quarter of 1996.
OTHER INCOME & EXPENSE - The Company's other income and expense was an
expense of $11.2 million in the third quarter of 1997 compared to other
expense of $10.7 million in the third quarter of 1996. The $11.2 million in
other expenses consists primarily of: (1) an $8.7 million reserve for the
settlement of the class action lawsuit against the Company, (2) a $1.6
million reserve for the settlement of a civil consumer protection lawsuit by
the State of California against the Company's NTC subsidiary and
approximately $600,000 in additional legal expenses associated with related
lawsuits and administrative matters.
NET INCOME - The Company incurred a net income loss of $9.6 million in the
third quarter of 1997 compared to a loss of $9.3 million in the third quarter
of 1997. The net loss was due primarily to the reserves taken for legal
settlements, including $8.65 million to settle the class action lawsuit
against the Company and $1.6 million for NTC to settle a civil consumer
protection lawsuit with the State of California. Without the reserves for
legal settlements and associated expenses, the Company had net operating
income of approximately $806,397 in the third quarter ended September 30,
1997.
-44-
<PAGE>
YEAR ENDED DECEMBER 31, 1996 COMPARED TO YEAR ENDED DECEMBER 31, 1995
AND YEAR ENDED DECEMBER 31, 1994
SALES. For 1996, 1995 and 1994, the Company's net sales totaled
approximately $106.9 million, $86.6 million and $46.8 million, respectively.
The increases in sales in 1996 compared with 1995 and 1995 compared with 1994
were attributable principally to increased sales at NTC. The following table
summarizes the Company's year-to-year sales performance by subsidiary and
segment:
<TABLE>
<CAPTION>
Subsidiary Segment $ In Millions
1996 1995 1994
---- ---- ----
<S> <C> <C> <C> <C>
NTC Telephone (telecommunications services) $ 83.7 $70.0 $34.2
NTC Telephone (marketing programs) 17.1 13.1 11.4
RCI Optical 4.7 2.0 ---
AutoNETWORK Network 1.4 1.5 1.2
--------------------------
TOTAL COMPANY NET SALES $106.9 $86.6 $46.8
--------------------------
--------------------------
</TABLE>
NTC's net sales increase was driven largely by continued expansion of the
customer base for its telecommunications services. As a result of this
continuing expansion, NTC's telecommunication service revenues represented
83.0%, 84.2% and 75.0% of NTC's total revenues for 1996, 1995 and 1994,
respectively, with the remaining 17.0%, 15.8% and 25.0% generated by sales of
NTC's marketing programs for 1996, 1995 and 1994, respectively. Revenues from
the optical segment may decline in 1997 because the Company's percentage
ownership in RCI is lower than in 1995 and 1996, and machine orders at RCI have
declined while RCI implements design modifications and improvements. See
"Item 1. Business - Rapid Cast, Inc. - Technical Overview of the Rapid Cast
LenSystem" in the Company's 1996 Form 10-K.
COST OF SALES. Total Company cost of sales for 1996, 1995 and 1994 were
approximately $68.6 million, $57.9 million and $31.2 million, respectively. The
increases in cost of sales were attributed principally to the increase in
carrier costs associated with increased telephone service sales by NTC and a
volume related rise in RCI cost of sales. Gross margin when stated as a
percentage of net sales was 35.9%, 33.1% and 33.3% for 1996, 1995 and 1994,
respectively. The increase in gross margin in 1996 was attributable principally
to reductions in NTC's telecommunication service cost of sales resulting from:
(1) lower long-distance transport costs charged by NTC's carriers, and (2)
continuing improvements in the mix of sales in the higher profit product lines.
The following table summarizes the Company's year-to-year changes in three major
cost components:
$ In Millions
1996 1995 1994
---- ---- ----
Carrier costs for NTC's long distance telephone service $44.7 $40.4 $21.3
Commissions paid to NTC independent sales representatives 18.0 14.2 7.7
All other costs of sales 5.9 3.3 2.2
-------------------
TOTAL COMPANY NET SALES $68.6 $57.9 $31.2
-------------------
-------------------
NTC's total commission expenses for 1996, 1995 and 1994 were $18.0 million,
$14.2 million and $7.7 million, respectively. The increases were attributed
principally to the residual monthly sales commissions and various bonuses and
overrides paid to sales representatives on increased marketing and telephone
service revenues.
The third cost component shown in the table above is "all other costs of
sales" which represents: (1) NTC's costs of producing sales materials for its
independent sales representatives, (2) RCI's costs of producing optical systems
and ancillary goods, and (3) AutoNETWORK's costs of providing communications
network products and services.
GENERAL AND ADMINISTRATIVE. Total general and administrative costs for 1996,
1995 and 1994 were approximately $36.9 million, $19.8 million and $9.4 million,
respectively. General and administrative expenses represented 34.57%, 22.9% and
20.2% of net sales in 1996, 1995 and 1994, respectively. General and
administrative costs generally include the costs of employee salaries, fringe
benefits, supplies, and related support costs which are required in order to
provide such operating functions as customer service, billing, marketing,
product development, information systems, collections of accounts receivable,
and accounting.
NTC's general and administrative costs increased to 24.5% of sales in 1996 from
20.3% of sales in 1995. This increase was due principally to: (1) increases in
fees paid to local exchange carriers (LECs) to process NTC's billing and
collection of its LEC-billed long distance telephone service, and (2) increases
in compensation and fringe benefits expended as NTC continues to build
infrastructure to support anticipated future sales growth. RCI's general and
administrative costs continue to reflect the startup nature of its operations.
DEPRECIATION AND AMORTIZATION. The Company's depreciation and amortization
expense totaled $2.0 million, $1.0 million and $0.4 million for 1996, 1995 and
1994, respectively. These increases were caused by the continuing investment by
NTC in computer hardware and software, furniture and equipment, and leasehold
improvements required to support its expansion in sales.
BAD DEBT EXPENSE. The Company's bad debt expense totaled $6.1 million, $4.1
million and $1.8 million for 1996, 1995 and 1994, respectively. Bad debt
expense represented 5.7%, 4.8% and 3.8% of net sales in 1996, 1995 and 1994,
respectively. The increase in bad debt was caused primarily by increased
provisioning of NTC's LEC billed receivables which currently carry a higher than
estimated bad debt provision, and direct billed collection agency write-offs.
OTHER (INCOME) AND EXPENSE. The Company's other (income) and expense totaled
$3.4 million, $1.0 million and $(0.3) million for 1996, 1995 and 1994,
respectively. The increase in 1996 was attributable in large part to settlement
costs of $2.0 million associated with claims by officers against the Company.
The increase in 1995 was attributed principally to: (1) a $0.4 million
settlement with convertible noteholders relating to the acquisition of RCI, (2)
a $0.2 million settlement with a former Company officer, and (3) a $0.3 million
write-off of marketable securities by NTC.
CHARGE FOR ASSET IMPAIRMENT. The charge for asset impairment totaled $39.1
million for 1996 for the devaluation of the Company's investment in RCI. There
was no impairment in 1995 and 1994.
MINORITY INTEREST. Beginning on July 1, 1995, the Company converted from the
equity method to the consolidated method of accounting for its 51% ownership in
RCI. As a result, 49% of RCI's losses from July 1 through December 31, 1995
(the "minority interest") were eliminated from the Company's "Consolidated
Statements of Operations" for 1995.
NET INCOME (LOSS). The Company's net income (loss) totaled ($37.7) million,
$1.4 million and $4.1 million for 1996, 1995 and 1994, respectively. Net income
(loss) represented (35.2%), 1.6% and 8.7% of net sales for 1996, 1995 and 1994,
respectively. The decreases were attributed principally to: (1) higher losses
at RCI in 1996 due to the devaluation of patent rights and significantly
increased operating costs incurred to build infrastructure for future potential
sales growth, and (2) higher losses at the Company's headquarters which were
caused by the establishment of reserves for devaluation of the Company's
investment in RCI and for settlement costs.
EMPLOYMENT. Employment of the Company totaled 288 at December 31, 1996, not
including independent sales representatives of NTC, who are classified as
independent contractors and not as employees of the Company.
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LIQUIDITY AND CAPITAL RESOURCES
AS OF SEPTEMBER 30, 1997
Overall, the Company had negative cash flows of $1.1 million during the first
nine months of 1997 resulting from negative cash flows from operations of
$13.1 million and negative cash flows from investing activities of $2.4
million, which were offset by positive cash flows from investing activities
of $14.4 million. The Company expects that its operating and investing
activities will continue to experience negative cash flows due to (1)
anticipated cash costs associated with the class action lawsuit, related
lawsuits and other legal and regulatory issues and (2) anticipated funding
requirements of approximately $1.2 million through fiscal year 1998
associated with the operation and acquisition of GenSource (see the Company's
Report on Form 10-Q for the second quarter ended June 30, 1997). To endeavor
to meet these anticipated funding needs, the Company has issued options to
acquire up to 250,000 shares of Series B Preferred with a conversion rate at
88% of the market value of the Company's Common Stock on the date of
conversion, the right to acquire 200 additional shares of Series B Preferred
with an 80% conversion ratio, and warrants to acquire 105,000 shares of the
Company's Common Stock. There is no assurance that these options will be
exercised and therefore management is not certain that its liquidity and
capital resources will be sufficient to fund its activities in 1998.
The Company's cash flows are discussed below, as follows:
CASH FLOW FROM OPERATIONS - The Company experienced $13.1 million in negative
cash flow from operations during the first nine months of 1997 compared to
$5.8 million in negative cash flow from operations during the prior year's
comparable period. This year-to-year decrease in cash flow from operations
resulted primarily from: (1) a net loss from operating activities of $7.2
million, which includes reserves of $8.65 million and $1.6 million for
anticipated legal settlements, (2) an increase in operating assets, primarily
accounts receivable of $5.7 million and (3) a decrease in operating
liabilities of $2.7 million.
CASH FLOW FROM INVESTING - The Company experienced negative cash flows from
investing activities of $ 2.3 million in the first nine months of 1997 as
compared with a positive cash flow of $2.9 million in the first nine months
of 1996. The negative cash flow in the first nine months of 1997 resulted
primarily from $3.7 million used to acquire plant and equipment, primarily by
NTC, and by $2.2 million for the acquisition of GenSource, reduced by a $3.6
million liability in excess of assets arising from changing to the equity
method of accounting for RCI.
CASH FLOW FROM FINANCING - Positive cash flows from financing activities
totaled $14.4 million during the first nine months of 1997 compared with $2.7
million during the first nine months of 1996. The positive cash flow during
the first nine months of 1997 resulted primarily from (1) issuance of $8.65
million of common stock primarily to settle the class action lawsuit against
the Company, (2) net sales of $1.3 million worth of convertible preferred
stock, (3) increased borrowings under NTC's line of credit, and (4)
assumption of $2.2 million in obligations associated with the acquisition of
GenSource.
LITIGATION. The Company is subject to pending litigation and an
investigation by the Securities and Exchange Commission. Management is not
yet able to predict the impact of the pending litigation on its financial
condition and the results of its operations. Management does not believe
that the investigation by the Securities and Exchange Commission will result
in a material impact on the Company's financial condition or results of
operations. See "Part II. Item 1. Legal Proceedings" in the Company's Form
10-Q for the quarter ended September 30, 1997.
LIQUIDITY AND CAPITAL RESOURCES
AS OF DECEMBER 31, 1996
GENERAL. Overall, the Company achieved slightly positive cash flows of
$0.6 million during 1996 resulting from positive cash flows from operating
activities of $3.0 million and from financing activities of $5.2 million,
which were almost entirely offset by negative cash flows from investing
activities of $7.6 million. The Company may need to raise additional capital
in 1997 to fund settlement costs relating to pending litigation or to make a
business acquisition, although specific needs had not yet been identified as
of December 31, 1996. Pursuant to its management incentive agreement with
NTC, the Company receives cash distributions from NTC on a periodic basis,
which are scheduled to be made until December 31, 1997. See "Item 1.
Business - National Telephone & Communications, Inc. - Management Incentive
Agreement" in the Company's 1996 Form 10-K. The Company does not expect to
have to make loans to RCI in 1997, and RCI's capital needs in the short-term
have been met through its private placement of preferred stock and warrants
in January 1997. See "Item 1. Business - The Recent Capitalization of RCI"
in the Company's 1996 Form 10-K. The Company may, however, be presented with
an option to purchase additional convertible preferred stock in RCI in July
1997 if J.P. Morgan or The Clipper Group do not exercise their options to
purchase up to $5,000,000 of additional preferred stock. RCI is incurring
net operating deficits and will need additional capital to continue its
business. If the Company elects to contribute additional capital to RCI, it
will need to raise funds through the sale of stock or otherwise. There is no
assurance that it will be able to raise such capital or financing, or that
its ownership of RCI will not be further diluted. NTC is expected to have
sufficient capital or financing to fund its requirements in 1997, including
funds required for the establishment of its branch marketing offices, one of
which is currently being built in leased premises in Honolulu, Hawaii. There
is no assurance that the cash distributions by NTC to the Company or the
cash flow from AutoNETWEORK will be sufficient to meet the Company's future
funding requirements, or that RCI or NTC will have sufficient capital or
financing to meet their needs.
CASH FLOW FROM OPERATIONS. Net cash provided by operating activities of $3.0
million in 1996 was primarily attributable to the operating loss for 1996 of
$37.7 million and non-cash items, principally from a devaluation of the
Company's investment in RCI, of $39.1 million, as well as depreciation and
amortization of $4.3 million, and changes in operating assets and liabilities of
$11.7 million. With regard to the collection of accounts receivable, the
Company increased its allowance for doubtful accounts to 13.2% of gross
receivables as of December 31, 1996 compared to 8.0% of gross receivables as of
December 31, 1995. This increased provisioning reflects NTC's reserves for all
direct-billed Dial-one receivables which have been submitted to collection
agencies for collection, and a modest improvement in collection rates for
LEC-billed and calling card products.
CASH FLOW FROM INVESTING. Net cash used in investing activities of $7.6 million
in 1996 was attributable principally to the Company's additions to property,
plant and equipment of $7.2 million and additions to patents of $0.7 million.
CASH FLOW FROM FINANCING. Net cash provided by financing activities of $5.2
million in 1996 was attributable principally to changes in shorter-term debt of
$2.9 million, proceeds of $2.3 million from the issuance of preferred stock, and
additions to long-term debt of $1.3 million, partially offset by a reduction of
long term debt of $1.8 million. In addition, positive cash flow resulted
primarily from RCI entering into various loan agreements to finance the building
of infrastructure to support its anticipated future sales growth. In September
1996, the Company also raised $0.4 million from the sale of 365 shares of Series
A 2% Convertible Preferred Stock, and raised an additional $2.1 million in
October 1996 through the placement of additional shares of Series A 2%
Convertible Preferred Stock. The Company paid aggregate referral fees equal to
approximately 5% of the capital raised from the placement of the Series A 2%
Convertible Preferred Stock. Cash paid to reduce debt totaled $1.2 million,
$0.0 million and $0.3 million during 1996, 1995 and 1994, respectively.
The Company had material commitments for capital expenditures of $1.5
million in tenant improvements for its Honolulu, Hawaii office space at December
31, 1996, and expects to continue making improvements to the NTC headquarters
building and purchasing additional equipment commensurate with the expansion of
its business. During 1996, the company had capital expenditures of $7.2 million
for plant and equipment.
At December 31, 1996, the Company had net operating loss carryforwards for
federal income tax purposes of approximately $22.6 million, which are expected
to be available to offset taxable income for the next several years.
LITIGATION. The Company is subject to pending litigation and an investigation
by the Securities and Exchange Commission. Management is not yet able to
predict the impact of the pending litigation on its financial condition and
results of operations. Management does not believe that the investigation by
the Securities and Exchange Commission will result in a material impact on the
Company's financial condition or results of operations. See "Item 3. Legal
Proceedings" in the Company's 1996 Form 10-K.
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<PAGE>
LIQUIDITY AND CAPITAL RESOURCES
AS OF DECEMBER 31, 1995.
For the year ended December 31, 1995, the Company had a net profit
of $1,366,025 and, at that date, current assets exceeded current liabilities
by $1,440,515. Since the Company acquired a controlling interest in NTC in
early 1992, the Company's capital needs have primarily been satisfied from
outside sources such as the private placement of securities, the exercise of
warrants and options, and loans and bank credit lines guaranteed by its
principal shareholders. Cash flow from operations did not provide net
working capital to the Company during the period from February 1992 to May
1994. While cash flow from operations on a consolidated basis has generally
been positive since June 1994, the increasing capital needs of RCI and legal
costs may require the Company to raise additional capital from outside
sources in the future.
The Company had net working capital of $1,440,515 at December 31, 1995,
compared to net working capital of $8,798,793 at December 31, 1994. During
1995, net cash flow from operations was $1,378,839 compared to net cash flow
from operations of $3,083,887 in 1994.
During 1995, the Company's allowance for doubtful accounts increased to
20.6% of gross accounts receivable from 15.1% in the prior year. This increased
provisioning related primarily to slower collections of NTC's direct-billed and
LEC-billed Dial-one products which was partially offset by improved collections
of NTC's calling card business.
During 1995, the Company's cash requirements were met through a combination
of a cash flow from operations, exercise of warrants to purchase the Company's
common stock and private placements of its Common Stock. In 1995, the Company
raised $29,058,773 in either private placements or from the exercise of
warrants. On February 5, 1996, Melvyn Reznick, the President and a director of
the Company, personally guaranteed and arranged for a $500,000 bank line of
credit for the Company, which was eventually expanded to $700,000. Mr. Reznick
also loaned the Company an additional amount of approximately $320,000.
The Company had no material commitments for capital expenditures at
December 31, 1995, but does expect to continue expanding the NTC headquarters
building and purchasing additional equipment commensurate with the requirements
of its customer base. During 1995, the Company had capital expenditures of
$7,389,419 for plant and equipment.
At December 31, 1995, the Company had net operating loss carryforwards for
federal income tax purposes of approximately $16,800,000, which are expected to
be available to offset taxable income in future years. The Company and its
subsidiaries are engaged in legal proceedings where the ultimate outcome cannot
presently be determined. Furthermore, the Company is subject to an
investigation by the Securities & Exchange Commission. Management is not yet
able to predict the impact of the pending litigation on its financial condition
and results of operations. Management does not believe that the investigation
by the Securities & Exchange Commission will result in a material impact on the
Company's financial condition or results of operations. See "Item 3. Legal
Proceedings" in the Company's 1995 Form 10-K.
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<PAGE>
PRINCIPAL STOCKHOLDERS
The following table sets forth information concerning the beneficial
ownership of the Company's Common Stock as of November 26, 1997. Persons and
groups named in the table represent (i) each person known by the Company to
own beneficially more than 5% of the Company's Common Stock, (ii) each
director of the Company or its wholly-owned subsidiaries, (iii) each
executive officer of the Company or its wholly-owned subsidiaries, and (iv)
all directors and executive officers of the Company and its wholly-owned
subsidiaries as a group.
<TABLE>
<CAPTION>
NAME AND ADDRESS OF AMOUNT AND NATURE OF PERCENTAGE OF SHARES OF
BENEFICIAL OWNER BENEFICIAL OWNERSHIP(1) COMMON STOCK OUTSTANDING(11)
- ------------------- ----------------------- ----------------------------
<S> <C> <C>
Melvyn Reznick 305,300(2) 2.0%
21031 Ventura Boulevard
Suite 1100
Woodland Hills, CA 91364
David Wilstein 539,379(3) 3.54%
2080 Century Park East
- Penthouse
Los Angeles, CA 90067
Richard Horowitz 373,530(3) 2.45%
9301 Wilshire Blvd
Suite 206
Beverly Hills, CA 90210
Robert Epstein 325,000(3) 2.13%
5000 Plaza on the Lake
Suite 180
Austin, Texas 78735
Jack Gilbert 201,500(3) 1.32%
15456 Coutolene Road
Magalia, CA 95954
Leonard Wilstein 166,779(3) 1.1%
11201 Hindry Avenue
Los Angeles, CA 90045
Sam D. Schwartz 835,444(4) 5.49%
16032 Valley Meadow Place
Encino, CA 91364
Nancy Zivitz 729,300(5) 4.79%
7234 Silverbell Drive
Sarasota, Florida 34241
Stanley Weinstein 140,550(6) 0.92%
Weinstein Spira & Co.
5 Greenway Plaza, #2200
Houston, Texas 77046
Albert Milstein 125,000(7) 0.82%
21031 Ventura Boulevard
Suite 1100
Woodland Hills, CA 91364
Howard Silverman 35,000(8) 0.23%
21031 Ventura Boulevard
Suite 1100
Woodland Hills, CA 91364
Edward R. Jacobs 0 0.0%
2801 Main Street
Irvine, CA 92715
Stephen A. Caswell 20,000(9) 0.13%
21031 Ventura Boulevard
Suite 1100
Woodland Hills, CA 91364
James R. Quandt 0 0%
2801 Main Street
Irvine, California 92715
Victor C. Streufert 0 0%
2801 Main Street
Irvine, California 92715
Michael J. Keebaugh 0 0%
2801 Main Street
Irvine, California 92715
Deborah A. L. Chuckas 0 0%
2801 Main Street
Irvine, California 92715
Louis W. Cheng 0 0%
2801 Main Street
Irvine, California 92715
Jerry C. Buckley
25572 Avenue Stanford
Valencia, California 91355 0 0%
Eric Hoffberg
25572 Avenue Stanford
Valencia, California 91355 0 0%
All directors and officers as 2,408,609(10) 15.8%
a group (16 persons)
</TABLE>
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(1) See the Company's Proxy Statement for the 1997 Annual Meeting of the
Shareholders for additional information regarding outstanding stock options
and warrants to purchase the Company's Common Stock.
(2) Includes stock options to purchase 25,000 shares at an exercise price of
$4.87 per share, exercisable at any time until February 28, 2001, stock
options to purchase 25,000 shares at an exercise price of $4.87 per share,
exercisable at any time until May 31, 2001, stock options to purchase
25,000 shares at an exercise price of $4.87 per share, exercisable at any
time until August 31, 2001, stock options to purchase 25,000 shares at an
exercise price of $4.87 per share exercisable at any time until November
30, 2001, and stock options to purchase 150,000 shares at an exercise price
of $4.37 per share, exercisable at any time until April 5, 2001 with
respect to 100,000 of those options, February 28, 2002 with respect
to 25,000 of those options, and May 31, 2002 with respect to 25,000
of those options. Does not include stock options to purchase 200,000
shares at an exercise price of $4.87 per share, which do not vest
until RCI achieves certain financial performance goals, and stock options
to purchase 50,000 shares at an exercise price of $4.37 per share, which
do not vest until RCI becomes a public company. See "Ratification of 1996
Stock Option Program for Directors, Officers and Key Consultants" in the
Company's Proxy Statement for its 1996 Annual Meeting of the Shareholders.
(3) All of these individuals filed a Schedule 13D/A on August 15, 1997 in
which they stated that although they have not entered into any written
agreement relating to the voting of their shares or relating to any
particular course of action concerning the voting of their shares, they
have deemed themselves to be a group pursuant to Rule 13d-5(b)(1) of the
Securities Exchange Act of 1934, as amended. As a group, they own a
total of 1,606,188 shares or approximately 10.55% of the outstanding
shares of the Company (assuming 15,223,773 shares outstanding.) Mr.
Wilstein and Mr. Horowitz are directors of the Company.
(4) Excludes 90,000 shares owned by Rita L. Schwartz, which are her sole and
separate property, in which Mr. Schwartz disclaims any beneficial interest.
Includes 90,000 shares acquired upon the conversion of 8% convertible
promissory notes. Reflects the tender by Mr. Schwartz of 1,047,966 shares
of the Company's Common Stock to the Company as part of his disgorgement
of short swing profits to the Company pursuant to Section 16(b) of
the Securities Exchange Act of 1934, as amended, in compliance with the
court order issued on June 9, 1997 in the lawsuit MORALES VS.
INCOMNET, INC. AND SAM SCHWARTZ. See "THE COMPANY - Status of
Section 16(b) Action."
(5) Includes 644,300 shares owned by Clarence R. Zivitz, Nancy Zivitz' husband,
and stock options to purchase 85,000 shares owned by Nancy Zivitz, a member
of the Company's Board of Directors, 50,000 of which have an exercise price
of $4.37 per share and 35,000 of which have an exercise price of $4.25 per
share. The stock options are exercisable as follows: 25,000 at any time
until February 28, 2001, 25,000 at any time until January 1, 2002, and
35,000 at any time until January 22, 2002.
(6) Mr. Weinstein was appointed as a director of the Company on August 13,
1997 to fill a vacancy on the Company's Board of Directors. See "THE
COMPANY - Appointment of New Directors of the Company.
(7) Includes stock options to purchase 25,000 shares at an exercise price of
$4.37 per share exercisable at any time until April 5, 2001, stock options
to purchase 25,000 at an exercise price of $4.37 per share exercisable at
any time until January 1, 2002, and stock options to purchase 35,000 shares
at an exercise price of $4.25 per share exercisable at any time January 22,
2002.
(8) Reflects 35,000 stock options to purchase 35,000 shares of the Company's
Common Stock at an exercise price of $4.25 per share, exercisable at any
time until January 22, 2002.
(9) Does not include stock options to purchase 50,000 shares at an exercise
price of $4.37 per share, which do not vest until RCI achieves certain
financial performance goals, and stock options to purchase 40,000 shares at
an exercise price of $4.25 per share, exercisable at any time until January
22, 2002, which are pledged to the Company as additional collateral for a
nonrecourse loan previously made to Mr. Caswell. See "THE COMPANY - Grant
of Stock Options by the Company."
(10) Does not include any shares held by members of the group of shareholders
who filed the Schedule 13D/A on August 15, 1997 who are not actually
officers or directors of the Company.
(11) Assumes 15,223,773 shares outstanding, including 1,500,000 shares
reserved for issuance to the class action plaintiffs and 1,217,500
shares issuable upon the exercise of stock options and warrants which
have vested, but which do not include any Shares or Underlying Shares.
Based upon the Company's review of Forms 3, 4 and 5 and any amendments
thereto furnished to the Company in compliance with Section 16 of the
Securities Exchange Act of 1934, as amended, all of such Forms were filed on
a timely basis by such reporting persons, other than reports on Form 4 and
Form 5 of transactions occurring from January
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<PAGE>
1993 until July 1995 which were reported late by Sam D. Schwartz, the Company's
former Chairman, President and Chief Executive Officer.
DESCRIPTION OF CAPITAL STOCK
The following summaries of certain provisions of the Articles of
Incorporation, as amended, and Bylaws of the Company do not purport to be
complete and are qualified in their entirety by reference to such instruments,
each of which is incorporated by reference as an exhibit to the Registration
Statement of which this Prospectus is a part. See "AVAILABLE INFORMATION."
GENERAL
The Company's authorized capital stock consists of 20,000,000 shares of
Common Stock and 100,000 shares of Preferred Stock, without par value. As of
November 26, 1997, there were 14,006,793 shares of the Company's Common Stock
outstanding, including 1,500,000 shares reserved for future issuance to the
class action plaintiffs pursuant to the settlement of SAUNDRA GAYLES VS
INCOMNET, INC. and SAM D. SCHWARTZ, but excluding any Shares or Underlying
Shares issuable upon the exercise of Warrants or the conversion of
outstanding Series A Preferred and Series B Preferred. As of November 26,
1997, 4,259 shares of the Company's Preferred Stock were issued and
outstanding and no Common Stock or Preferred Stock was held as treasury
stock. See "THE COMPANY - Issuance of Convertible Preferred Stock."
COMMON STOCK
DIVIDENDS. Subject to the rights of holders of the Company's Preferred
Stock, if any, to receive certain dividends prior to the declaration of
dividends on shares of the Company's Common Stock, when and as dividends are
declared by the Company's Board of Directors payable in cash, stock or other
property, the holders of the Company's Common Stock are entitled to share
ratably in such dividends.
VOTING RIGHTS. Each holder of the Company's Common Stock has one vote for
each share held on matters presented for consideration by the shareholders.
PREEMPTIVE RIGHTS. The holders of the Company's Common Stock have no
preemptive rights to acquire any additional shares of the Company.
ISSUANCE OF STOCK. Under California law the Company's Board of Directors
generally may issue authorized shares of the Company's Common Stock or Preferred
Stock without shareholder approval.
LIQUIDATION RIGHTS. In the event of the liquidation, dissolution or
winding-up of the Company, whether voluntary or involuntary, the holders of the
Company's Common Stock will be entitled to share ratably in any of its assets or
funds that are available for distribution to its shareholders after the
satisfaction of its liabilities (or after adequate provision is made therefor)
and after payment of the liquidation preferences of outstanding Preferred Stock,
if any.
PREFERRED STOCK
The Company's authorized Preferred Stock may be issued from time to time as
a class without series, or if so determined by the Board of Directors, in one or
more series. The voting rights, dividend rights, conversion rights, redemption
rights and liquidation preferences of any Preferred Stock, the number of shares
constituting any such series and the terms and conditions of the issue of the
Preferred Stock may be fixed by resolution of the Company's Board of Directors.
The Company's Preferred Stock,
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<PAGE>
as, if and when issued, has and will have a preference over the Company's Common
Stock with respect to the payment of dividends and the distribution of assets in
the event of the liquidation of the Company, and such other preferences as may
be fixed by the Board of Directors. See "THE COMPANY - Issuance of Convertible
Preferred Stock."
WARRANTS AND OPTIONS
In November 1994, the Company approved the Incomnet 1994 Stock Option Plan
for the directors, employees and key outside consultants of the Company and its
subsidiaries, which provided for the issuance of stock options covering up to
1,500,000 shares of the Company's Common Stock. In November 1994, options to
purchase 1,200,000 shares of the Company's Common Stock were granted at an
exercise price of $10 per share provided, that the stock options vest and become
exercisable only upon NTC earning at least $15 million in pre-tax profits during
any continuous four audited quarterly periods until December 31, 1997. See
footnote 6, "Shareholders' Equity - Stock Options" in the Consolidated Financial
Statements of the Company included in "Item 8. Financial Statements" in the
Company's 1995 Form 10-K. On February 6, 1996, the Company entered into a
Management Incentive Agreement pursuant to which Edward R. Jacobs, the grantee
of the 1,200,000 stock options issued under the 1994 Stock Option Plan, agreed
to cancel all of those options upon adoption of a new stock option plan for NTC,
to be effective once NTC becomes a publicly traded company. No additional stock
options are intended to be issued under the 1994 Stock Option Plan.
On November 30, 1995, the Company issued 300,000 stock options to
Melvyn Reznick, the President and Chief Executive Officer of the Company,
pursuant to the Employment Agreement entered into by the Company and Mr.
Reznick on that date. See "Item 1. Business -Employees, Officers and
Directors - Officers" in the Company's 1996 Form 10-K. On February 5, 1996,
as modified on March 13, 1996, April 25, 1996 and June 11, 1996, the
Company's Board of Directors adopted the Incomnet 1996 Stock Option Plan for
the directors, officers and key outside consultants of the Company pursuant
to which an aggregate of 1,500,000 stock options are authorized to be
granted, 780,000 of which have been granted (480,000 of which are vested and
300,000 of which are not yet vested), including the 300,000 stock options
issued pursuant to Mr. Reznick's Employment Agreement. The Company's 1996
Stock Option Plan was ratified by the Company's Shareholders at their annual
meeting on July 29, 1996. See "Ratification of 1996 Stock Option Program for
Directors, Officers and Key Consultants" in the Company's Proxy Statement for
the 1996 Annual Meeting of the Shareholders. On January 21, 1997, the
Company granted a total of 165,000 additional stock options to certain
directors, officers, and consultants, 105,000 of which were not granted under
the Company's 1996 Stock Option Plan. See also "THE COMPANY - Grant of Stock
Options by the Company."
The holders of warrants and options do not have any voting rights until
they exercise the warrants or options and receive voting shares of Common Stock
pursuant to such exercise. The number of shares of Common Stock which can be
purchased upon the exercise of the warrants and options and the exercise price
are subject to adjustment in certain events, such as a stock split, reverse
stock split, stock dividend or similar event, in order to prevent dilution to
the warrant and option holders under those circumstances.
SIZE OF BOARD OF DIRECTORS
The Company's Bylaws provide that the Company's Board of Directors
will consist of no fewer than five and no more than nine members, with the
number currently fixed at seven members. The Company's Board of Directors
presently has seven directors and there are no vacancies.
CUMULATIVE VOTING
Pursuant to the Company's Bylaws and in accordance with the California
Corporations Code, each shareholder is entitled to one vote for each share of
the Company's Common Stock held, and such holders may be entitled to cumulative
voting rights in the election of directors. Under the California
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<PAGE>
Corporations Code, cumulative voting is not required unless, at the annual
meeting and prior to the voting, at least one shareholder gives notice of his
intention to cumulate his votes. If one shareholder give notice of an intention
to cumulate votes, then all shareholders have cumulative voting rights in the
election of directors. If no such notice is given, voting for directors is
noncumulative, which means that a simple majority of the shares voting may elect
all of the directors. Under cumulative voting, each shareholder entitled to vote
has the right to give one candidate a number of votes equal to the number of
authorized directors multiplied by the number of votes to which his shares are
entitled, or to distribute his votes on the same principle among as many
candidates as he desires. As a result, each share of the Company's Common Stock
has a number of votes equal to the number of authorized directors. The
California cumulative voting law applies only to the election of directors and
not to any other matters as to which shareholders may vote.
DIRECTOR'S LIABILITY
The California Corporations Code and the Company's Bylaws provide that a
director of the Company will have no personal liability to the Company or its
shareholders for monetary damages for breach of fiduciary duty as a director
except (i) for acts or omissions that involve intentional misconduct or a
knowing and culpable violation of law, (ii) for acts or omissions that a
director believes to be contrary to the best interests of the corporation or its
shareholders or that involve the absence of good faith on the part of the
director, (iii) for any transaction from which a director derived an improper
personal benefit, (iv) for acts or omissions that show a reckless disregard for
the director's duty to the corporation or its shareholders in circumstances in
which the director was aware, or should have been aware, in the ordinary course
of performing a director's duties, of a risk of serious injury to the
corporation or its shareholders, (v) for acts or omissions that constitute an
unexcused pattern of inattention that amounts to an abdication of the director's
duty to the corporation or its shareholders, or (vi) for an unlawful dividend,
distribution, stock repurchase or redemption. This provision would generally
absolve directors of personal liability for negligence in the performance of
duties, including gross negligence.
INDEMNIFICATION
The Company's Bylaws and Sections 204 and 317 of the California
Corporations Code contain comprehensive provisions for indemnification of
directors, officers and agents of California corporations against expenses,
judgments, fines and settlements in connection with litigation. The Company
has a policy of providing indemnification for its executive officers,
directors and members of its Committees, within the scope of the California
Corporations Code. It has entered into indemnification agreements with its
executive officers, directors and committee members. Under the California
Corporations Code, other than an action brought by or in the right of the
Company, such indemnification is available if it is determined that the
proposed indemnitee acted in good faith and in a manner he reasonably
believed to be in or not opposed to the best interests of the Company and,
with respect to any criminal action or proceeding, has no reasonable cause to
believe his conduct was unlawful. In actions brought by or in the right of
the Company, such indemnification is limited to expenses (including
attorneys' fees) actually and reasonably incurred if the indemnitee acted in
good faith and in a manner he reasonably believed to be in or not opposed to
the best interests of the Company. No indemnification may be made, however,
in respect of any claim, issue or matter as to which such person is adjudged
to be liable to the Company unless and only to the extent that the court in
which the action was brought determines that in view of all the circumstances
of the case, the person is fairly and reasonably entitled to indemnity for
such expenses as the court deems proper. To the extent that the proposed
indemnitee has been successful in defense of any action, suit or proceeding,
he must be indemnified against expenses (including attorneys' fees) actually
and reasonably incurred by him in connection with the action. The Company's
Articles of Incorporation, as amended, provide for indemnification of the
directors and officers of the Company against liabilities to the maximum
extent provided by California law.
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Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to directors, officers or persons controlling the Company
pursuant to the foregoing provisions, the Company has been informed that in the
opinion of the Securities and Exchange Commission, such indemnification is
against public policy as expressed in the Act and is therefore unenforceable.
AMENDMENT OF CERTIFICATE OF INCORPORATION AND BYLAWS
Under the California Corporations Code, a corporation's certificate of
incorporation can be amended by the affirmative vote of the holders of a
majority of the outstanding shares entitled to vote, and a majority of the
outstanding stock of each class entitled to vote as a class, unless the
certificate requires the vote of a larger portion of the stock. The Company's
Articles of Incorporation, as amended, do not require a larger percentage
affirmative vote. As is permitted by the California Corporations Code, the
Company's Bylaws give its Board of Directors the power to adopt, amend or repeal
the Company's Bylaws. The Company's shareholders entitled to vote have
concurrent power to adopt, amend or repeal the Company's Bylaws.
DIVIDENDS
The California Corporations Code provides that, subject to any restrictions
in the corporation's articles of incorporation, dividends may be declared from
the corporation's surplus or, if there is no surplus, from its net profits for
the fiscal year in which the dividend is declared and the preceding fiscal year.
Dividends may not be declared, however, if the corporation's capital has been
diminished to an amount less than the aggregate amount of all capital
represented by the issued and outstanding stock of all classes having a
preference upon the distribution of assets.
TRANSFER AGENT
The Transfer Agent and Registrar for the capital stock of the Company is
American Stock Transfer Company.
SELLING SECURITY HOLDERS
THE WARRANTHOLDERS. The selling security holders include the
individuals and entities listed on the table below who purchased 360,000
Warrants for a price of $.10 per Warrant in connection with a settlement
agreement entered into with the Company on December 9, 1996. See "THE
COMPANY - Settlement with RCI Parties." Three individuals were also
issued 105,000 additional warrants to purchase 105,000 shares of the
Company's Common Stock as compensation for services in assisting the
Company to place 2,434 shares of Series B Preferred. See "THE COMPANY -
Issuance of Convertible Preferred Stock - Series B Preferred." The selling
security holders also include Charles Stevens and his legal counsel, who were
issued a total of 12,500 Warrants in connection with the settlement of the
lawsuit known as CHARLES STEVENS V. INCOMNET, INC. AND SAM D. SCHWARTZ. See
"THE COMPANY - Settlement of the Stevens Lawsuit." They are also listed on
the following table:
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<PAGE>
<TABLE>
<CAPTION>
NUMBER OF
NUMBER OF UNDERLYING
NAME OF WARRANTHOLDER WARRANTS SHARES EXERCISE PRICE EXERCISE PERIOD
<S> <C> <C> <C> <C>
Dr. Robert Cohen(1) 100,000 100,000 $3.75 12/9/96 - 12/9/99
Dr. Alan Cohen(3) 100,000 100,000 $3.75 12/9/96 - 12/9/99
Jeff Cohen(3) 50,000 50,000 $3.75 12/9/96 - 12/9/99
Stefanie Rubin(2) 10,000 10,000 $3.75 12/9/96 - 12/9/99
Lenore Katz 10,000 10,000 $3.75 12/9/96 - 12/9/99
Allyson Cohen(4) 50,000 50,000 $3.75 12/9/96 - 12/9/99
Broadway Partners(5) 40,000 40,000 $3.75 12/9/96 - 12/9/99
Charles Stevens 9,375 9,375 $2.94 12/17/96 - 12/17/01
Peter Dion-Kindem(7) 3,125 3,125 $2.94 12/17/96 - 12/17/01
Stefanie Rubin(2) 16,666 16,666 $5.26 7/29/97 - 7/29/99
Lemone Katz 16,666 16,666 $5.26 7/29/97 - 7/29/99
Charles Shapiro 16,667 16,667 $5.26 7/29/97 - 7/29/99
Stefanie Rubin 55,000 55,000 $3.00 11/3/97 - 11/3/99
</TABLE>
- ------------------------------
(1) Dr. Robert Cohen is a shareholder and director of Rapid Cast, Inc.
(2) Stefanie Rubin is the wife of Jeff Rubin, who is a director of Rapid
Cast, Inc. Stefanie Rubin is a shareholder of Rapid Cast, Inc.
(3) Dr. Alan Cohen and Dr. Robert Cohen are brothers.
(4) Jeff Cohen is the son of Dr. Robert Cohen.
(5) Allyson Cohen is Dr. Robert Cohen's daughter.
(6) Broadway Partners is a partnership composed of the children of Drs. Robert
and Alan Cohen.
(7) Mr. Dion-Kindem is legal counsel to Charles Stevens.
These Underlying Shares are therefore being offered for resale by the
Warrantholders if and when they exercise their Warrants and not pursuant to an
initial issuance of stock by the Company.
THE SERIES B PREFERRED HOLDERS. The selling security holders include a
total of 14 individuals and entities which purchased a total of 2,434
shares of Series B Preferred, 1,834 of which were issued on July 29, 1997 and
600 of which were issued on November 3, 1997. The following table sets forth
the name of each Series B Preferred holder, the number of shares of Series B
Preferred owned by the holder, the amount of their investment, and the number
of shares of the Company's Common Stock into which the Series B Preferred is
convertible assuming that the average bid price of the Company's Common Stock
for the five trading days immediately preceding the conversion date for each
holder is at least 20% higher than the bid price on the date of the issuance
of the Series B Preferred (i.e., the highest possible conversion price
resulting in the minimum number of shares of Common Stock issuable upon the
conversion of the Series B Preferred). If the average bid price prior to the
conversion date is less than that amount, then more shares of the Company's
Common Stock would be issued upon the conversion of the Series B Preferred,
causing more dilution to the Company's Common Stockholders. See "RISK
FACTORS - General Risks - Possible Adverse Effects of Issuance of Preferred
Stock."
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<PAGE>
<TABLE>
<CAPTION>
Minimum Number of
Number of Shares of Common
Name of Series B Series B Preferred Amount of Stock Issuable
Preferred Holder Shares Investment Upon Conversion
- -----------------------------------------------------------------------------------------
<S> <C> <C> <C>
Broadway Partners 200 $ 200,000 46,620
Ellen Cohen 100 $ 100,000 23,310
S&R Holdings 200 200,000 46,620
Gary Kaplowitz 450 450,000 104,895
Allen Rothstein 450 450,000 104,895
Stefanie Rubin(1) 134(4) 100,000 31,235
Dr. Robert Cohen(2) 200 200,000 46,620
Lenore Katz 100 100,000 23,310
Stefanie Rubin(1) 100 100,000 33,333
Dr. Alan Cohen(3) 100 100,000 33,333
Meryl Cohen 100 100,000 33,333
Jeffrey Cohen 100 100,000 33,333
Allyson Cohen 100 100,000 33,333
Ellen Cohen 100 100,000 33,333
---------- ---------- ----------
TOTAL 2,434 $2,400,000 627,503
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
- ------------------------------
(1) Stefanie Rubin is the wife of Jeff Rubin.
(2) Dr. Robert Cohen is a director and shareholder of Rapid Cast, Inc.
(3) Dr. Alan Cohen is the brother of Dr. Robert Cohen.
(4) Reflects 34 shares of referral consideration.
THE HOLDERS OF OPTIONS TO PURCHASE SERIES B PREFERRED. The selling
shareholders include the designee of a consultant who was issued options to
purchase up to 450 additional shares of Series B Preferred in consideration
for assisting the Company with the placement of the outstanding 2,434 shares
of Series B Preferred. This Prospectus covers the Underlying Shares issuable
upon the conversion of the 450 additional shares of Series B Preferred, if
the option to acquire such Series B Preferred is exercised. The following
table summarizes the options to purchase up to 450 additional shares of
Series B Preferred:
<TABLE>
<CAPTION>
Name of Option Number of Shares Total Purchase Price Exercise Conversion
Holder of Series B Preferred of Series B Preferred Period Ratio(2)
- -------------- --------------------- --------------------- -------------------- ----------
<S> <C> <C> <C> <C>
Stefanie Rubin 250 $ 250,000 7/29/97 - 11/3/98(1) 88%
Stefanie Rubin 200 $ 200,000 11/3/97 - 11/3/98 80%
</TABLE>
- --------------------------
(1) The exercise period is the one year period ending July 29, 1998 with
respect to 125 of these shares and the one year period ending November 3,
1998 with respect to the other 125 of these shares of Series B Preferred.
(2) The Conversion Ratio equals the percentage of the average closing bid
price of the Company's Common Stock for the five trading days immediately
preceding the conversion date, which is divided into the original
investment amount plus the 6% per annum cumulative unpaid dividend to
determine the number of shares of the Company's Common Stock issuable
upon the conversion of the Series B Preferred. Accordingly, the number of
shares of Common Stock issuable upon the conversion of these shares of
Series B Preferred is not known at this time. See "THE COMPANY -
Issuance of Convertible Preferred Stock - Series B Preferred."
THE OUTSTANDING SHAREHOLDERS. The selling shareholders include (i)
three investors who purchased 365 shares of Series A Preferred in September 1996
and converted them into a total of 150,826 shares of Common Stock on December
31, 1996, 140,000 of which were registered with the Securities and Exchange
Commission on October 31, 1996, and the balance of which are covered by this
Prospectus, and (ii) four investors who purchased 250 shares of Series A
Preferred in October 1996 and converted them into a total of 126,925 shares
on November 3, 1997. The selling shareholders also include two investors who
purchased 30,000 shares of the Company's Common Stock for $3.03 per share in
January 1997 in connection with the settlement agreement made between the
Company and certain affiliates of Rapid Cast, Inc. See "THE COMPANY -
Settlement with RCI Parties." The following table lists the selling security
holders who are Outstanding Shareholders and the number of Outstanding Shares
owned by them.
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<PAGE>
NAME OF OUTSTANDING SHAREHOLDER NUMBER OF SHARES
------------------------------- ----------------
Stefanie Rubin(1) 19,552
Dr. Robert Cohen(2) 25,000
Jack Gilbert(3) 8,927
Mark Richardson(4) 742
Charles Shapiro(5) 12,948
Leonard Wilstein(6) 51,791
David Wilstein(7) 51,791
- ------------------------------
(1) Stefanie Rubin is the wife of Jeff Rubin, who is a director of RCI. Ms.
Rubin purchased 65 shares of Series A Preferred and converted them into
26,924 shares of the Company's Common Stock, 11,552 of which are covered
by this Prospectus. Ms. Rubin also purchased 8,000 shares of the
Company's Common Stock in January 1997 in a private placement for $3.03
per share, which are also covered by this Prospectus. See "THE COMPANY -
Settlement with RCI Parties."
(2) Dr. Robert Cohen is a director of RCI. These shares were purchased from
the Company for a price of $3.03 per share in a private placement in
January 1997. See "THE COMPANY - Settlement with RCI Parties."
(3) Jack Gilbert purchased 300 shares of Series A Preferred and converted them
into 123,967 shares of the Company's Common Stock, 8,927 of which are
covered by this Prospectus.
(4) Mark Richardson purchased 25 shares of Series A Preferred Stock and
converted them into 10,331 shares of the Company's Common Stock, 742 of
which are covered by this Prospectus. Mr. Richardson is corporate counsel
to the Company. See "LEGAL MATTERS."
(5) Charles Shapiro purchased 25 shares of Series A Preferred and converted
them into 12,948 shares of the Company's Common Stock on November 3,
1997.
(6) Leonard Wilstein purchased 100 shares of Series A Preferred and
converted them into 51,791 shares of the Company's Common Stock on
November 3, 1997.
(7) David Wilstein is a director of the Company. Mr. Wilstein purchased 100
shares of Series A Preferred and converted them into 51,791 shares of
the Company's Common Stock on November 3, 1997. See "PRINCIPAL
STOCKHOLDERS."
SHARES ELIGIBLE FOR FUTURE SALE
As of November 26, 1997, the Company has approximately 3,707,200 shares
of its Common Stock (not including the Shares or the Underlying Shares
issuable upon the exercise of the Warrants or the Series B Preferred covered
by this Prospectus, but including all other shares of the Company's Common
Stock which can be acquired pursuant to the exercise of other vested
outstanding warrants and options) issued and outstanding which may be deemed
to be "restricted securities" as that term is defined in Rule 144 of the
Securities Act. These restricted securities may be sold in the future in
compliance with Rule 144 or Regulation S of the Securities Act. The Company
can make no prediction as to the effect, if any, that sales of shares of
Common Stock, or the availability of shares for future sale, will have on the
market price of the Common Stock prevailing from time to time. Sales of
substantial amounts of Common Stock (including shares issued upon the
exercise of warrants or options) in the public market, or the perception that
such sales could occur, could depress the prevailing market price for the
Common Stock. Such sales may also make it more difficult for the Company to
sell equity securities or equity-related securities in the future at a time
and price which it deems appropriate. See "RISK FACTORS -General Risks -
Dilution Caused by Future Sales of Shares."
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<PAGE>
LEGAL MATTERS
The validity of the issuance of the shares of Common Stock covered by this
Prospectus will be passed upon for the Company by Mark J. Richardson, Esq.,
counsel to the Company, 1299 Ocean Avenue, Suite 900, Santa Monica, California,
90401. In consideration for certain legal services, the Company has issued to
Mr. Richardson options to purchase 50,000 shares of the Company's Common Stock,
30,000 of which are exercisable at a purchase price of $4.37 per share, and
20,000 of which are exercisable at a purchase price of $4.25 per share. The
stock options are exercisable as follows: 15,000 at any time until April 5,
2001, 15,000 at any time until January 1, 2002, and 20,000 at any time until
January 22, 2002. Mr. Richardson also purchased 25 shares of the Company's
Series A 2% Convertible Preferred Stock for $25,000 in cash on the same terms
and conditions as the other purchasers of the Preferred Stock. See "THE COMPANY
- - Issuance of Convertible Preferred Stock."
EXPERTS
The financial statements of the Company, included and incorporated by
reference from the Company's Annual Report (Form 10-K) for the years ended
December 31, 1996, 1995 and 1994, have been audited by Stonefield Josephson,
independent auditors, as set forth in their reports thereon and incorporated
herein by reference. Such financial statements are incorporated herein by
reference in reliance upon such reports given upon the authority of such firms
as experts in accounting and auditing.
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<PAGE>
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
NO DEALER, SALESMAN OR ANY OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRE-SENTATIONS NOT CONTAINED IN THIS PROSPECTUS,
AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATION MUST NOT BE RELIED
UPON AS HAVING BEEN AUTHORIZED BY THE COMPANY OR ANY UNDERWRITER. THIS
PROSPECTUS DOES NOT CONSTITUTE AN OFFER OF ANY SECURITIES OTHER THAN THOSE TO
WHICH IT RELATES OR AN OFFER TO SELL, OR A SOLICITATION OF AN OFFER TO BUY, TO
ANY PERSON IN ANY JURISDICTION WHERE SUCH AN OFFER OR SOLICITATION WOULD BE
UNLAWFUL. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER
SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THE INFORMATION
CONTAINED HEREIN IS CORRECT AS OF ANY TIME SUBSEQUENT TO THE DATE HEREOF.
---------------
TABLE OF CONTENTS
AVAILABLE INFORMATION 2
INCORPORATION OF CERTAIN DOCUMENTS
BY REFERENCE 2
PROSPECTUS SUMMARY 4
RISK FACTORS 9
THE COMPANY 21
USE OF PROCEEDS 39
PRICE RANGE OF COMMON STOCK AND DIVIDENDS 39
CAPITALIZATION 40
DILUTION 41
SELECTED CONSOLIDATED FINANCIAL INFORMATION 41
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS 43
PRINCIPAL STOCKHOLDERS 48
DESCRIPTION OF CAPITAL STOCK 50
SELLING SECURITY HOLDERS 53
SHARES ELIGIBLE FOR FUTURE SALE 56
LEGAL MATTERS 57
EXPERTS 57
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
2,676,281 SHARES
INCOMNET, INC.
COMMON STOCK
----------------
PROSPECTUS
DECEMBER 3, 1997
----------------
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
-58-
<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 14. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
The following table sets forth the expenses (other than underwriting
discounts and commissions) expected to be incurred in connection with the
offering described in this Registration Statement. All amounts are estimated
except the registration fees.
Registration Fee $ 2,513.16
Printing Costs for Registration Statement,
Prospectus and related documents $ 15,000.00
Accounting Fees and Expenses $ 20,000.00
Legal Fees and Expenses $ 50,000.00
Blue Sky Fees and Expenses $ 5,000.00
-----------
Total $ 92,513.16
-----------
-----------
----------
ITEM 15. INDEMNIFICATION OF DIRECTORS AND OFFICERS.
See "DESCRIPTION OF CAPITAL STOCK - Indemnification" in the Prospectus.
ITEM 16. EXHIBITS.
Exhibit
No. Description
- --- -----------
3.1 The Articles of Incorporation, as amended, of Incomnet, Inc. (A)
3.2 The Bylaws of Incomnet, Inc. (A)
3.3 Certificate of Determination for Series A 2% Convertible Preferred Stock.
(M)
3.4 Amendment to Bylaws of Incomnet, Inc., dated June 8, 1997.(R)
3.5 Amendment to Bylaws of Incomnet, Inc., dated August 13, 1997.
3.6 Amendment to Bylaws of Incomnet, Inc., dated November 5, 1997.
3.7 Certificate of Determination for Series B 6% Convertible Preferred
Stock.
4.1 Warrant to Purchase 500,000 Shares of Incomnet, Inc., dated January 17,
1994. (C)
4.2 Warrant to Purchase 500,000 Shares of Incomnet, Inc., dated May 27, 1994.
(D)
4.3 Form of Warrant to Purchase 986,667 Shares of Incomnet, Inc. (E)
4.4 Form of Warrant to Purchase 75,000 Shares of Incomnet, Inc. (I)
4.5 Form of Warrant to Purchase 510,000 Shares of RCI Common Stock with
Registration Rights Agreement, dated April 19, 1996. (I)
4.6 Form of Warrant to Purchase RCI Common Stock, dated February 8, 1995. (I)
4.7 Form of Warrant to Purchase 360,000 Shares of Incomnet, Inc. (N)
4.8 Form of Warrant to Purchase 12,500 Shares of Incomnet, Inc. (N)
II-1
<PAGE>
5.1 Form of Legal Opinion and Consent of Mark J. Richardson, Esq. with
respect to securities being registered.
10.1 Agreement by and between Broad Capital Associates, Inc. and Incomnet,
Inc., dated February 14, 1994. (C)
10.2 Agreement by and between Broad Capital Associates, Inc. and Incomnet,
Inc., dated May 10, 1994. (C)
10.3 Agreement and Plan of Exchange by and between Incomnet, Inc. and National
Telephone Communications, Inc., dated May 12, 1994. (B)
10.4 Consulting Agreement by and between Broad Capital Associates, Inc. and
Incomnet, Inc., dated January 17, 1994. (C)
10.5 Agreement by and between Broad Capital Associates, Inc. and Incomnet,
Inc., dated August 17, 1994. (C)
10.6 Carrier Switched Services Agreement with Wiltel, Inc., dated September
30, 1993. (B)(1)
10.7 Network Wats Enrollment Form with U.S. Sprint, dated April 7, 1993. (B)
10.8 Carrier Switched Services Agreement with Wiltel, Inc., dated November 15,
1994. (D)(1)
10.9 The Stock Purchase Agreement for the acquisition of RCI, dated January
18, 1995. (F)
10.10 The Stock Purchase Agreement for the acquisition of Q2100, dated October
29, 1994. (F)
10.11 Stock Pledge Agreement, dated February 8, 1995. (F)
10.12 Form of 8% Convertible Secured Promissory Note, dated February 8, 1995.
(F)
10.13 Agreement for Promotion of Pagers between NTC and Page Prompt.(I)
10.14 Carrier Switched Services Agreement Wiltel, Inc, dated September 15,
1995. (I)(1)
10.15 Amendment to Stock Purchase Agreement Between Incomnet, Inc. and Rapid
Cast, Inc., Dated June 15, 1995. (I)
10.16 Agreement for Promotion of Internet Access Services Between NTC and
EarthLink Network. (I)
10.17 Severance Agreement Between Incomnet, Inc. and Sam D. Schwartz, dated
November 30, 1995. (G)
10.18 Employment Agreement Between Incomnet, Inc. and Melvyn Reznick, dated
November 30, 1995. (G)
10.19 Management Incentive Agreement, dated February 6, 1996, between Incomnet,
Inc. and National Telephone Communications, Inc. (H)
II-2
<PAGE>
10.20 Settlement Agreements and Proposed Settlement Agreements With Prior
Noteholders. (I)
10.21 Form of 8% Convertible Note Issued By RCI in January 1996. (I)
10.22 Form of Short-Term 10% Note Issued By RCI in April 1996. (I)
10.23 Amended Carrier Switched Services Agreement with Wiltel, Inc., dated June
17, 1996.(K)(1)
10.24 Settlement Agreement Between Joel Greenberg and Incomnet, Inc., dated as
of May 9, 1996 and executed on June 6, 1996. (J)
10.25 Form of Registration Rights Agreement Between Incomnet, Inc. and
Purchasers of Series A Convertible Preferred Stock.(K)
10.26 Form of Purchase Agreement for the Series A 2% Convertible Preferred
Stock.(K)
10.27 Management Incentive Agreement With NTC, dated October 14, 1996.(M)
10.28 Settlement Agreements With Edward Jacobs and Jerry Ballah, dated November
14, 1996.(M)
10.29 Shareholders Agreement for Rapid Cast, Inc., dated January 16, 1997.(N)
10.30 Registration Rights Agreement for Rapid Cast, Inc., dated January 16,
1997.(N)
10.31 Amended and Restated Management Incentive Agreement Between NTC and
Incomnet, Inc., dated January 28, 1997.(N)
10.32 Employment Agreement Between NTC and James R. Quandt, dated January 6,
1997.(N)
10.33 Settlement Agreement and Mutual Release Between Incomnet, Inc. and the
RCI Parties, dated December 9, 1996.(N)
10.34 Stock Option and Convertible Debt Plans Adopted By National
Telephone & Communications, Inc. (R)
10.35 Form of Stock Purchase Agreement for the acquisition of
California Interactive Computing, Inc., dated May 2, 1997(O)
10.36 Amendment to Employment Agreement Between Incomnet, Inc. and
Melvyn H. Reznick, dated June 8, 1997.(R)
10.37 Employment Agreement Between Incomnet, Inc. and Stephen A.
Caswell, dated June 8, 1997.(R)
10.38 Employment Agreement Between NTC and Edward R. Jacobs, dated October
30, 1997.(Q)
13.1 The Annual Report on Form 10-K for the fiscal year ending December 31,
1996 for Incomnet, Inc. (P)
13.2 The Annual Report on Form 10-KA for the fiscal year ending December 31,
1996 for Incomnet, Inc., filed on May 23, 1997. (P)
13.3 The Annual Report on Form 10-KA for the fiscal year ending December 31,
1996, filed on July 9, 1997. (P)
13.4 The Quarterly Report on Form 10-Q for the fiscal quarter ending March
31, 1997 for Incomnet, Inc. (P)
II-3
<PAGE>
13.5 The Quarterly Report on Form 10-QA for the fiscal quarter ending March
31, 1997 for Incomnet, Inc., filed on July 9, 1997 (P)
13.6 The Quarterly Report on Form 10-Q for the fiscal quarter ending September
30, 1996 for Incomnet, Inc. (L)
13.7 The Quarterly Report on Form 10-QA for the fiscal quarter ending
September 30, 1996 for Incomnet, Inc. (N)
13.8 The Quarterly Report on Form 10-Q for the fiscal quarter ending
June 30, 1997 for Incomnet, Inc.(P)
13.9 The Quarterly Report on Form 10-Q for the fiscal quarter ending
September 30, 1997 for Incomnet, Inc.(P)
13.10 The definitive Proxy Statement, dated November 17, 1997, for the 1997
Annual Meeting of the Shareholders of Incomnet, Inc.(P)
13.11 The Annual Report on Form 10-KA for the fiscal year ending December
31, 1996 for Incomnet, Inc., filed on December 5, 1997.
13.12 The Quarterly Report on Form 10-QA for the fiscal quarter ending March
31, 1997 for Incomnet, Inc., filed on December 5, 1997.
13.13 The Quarterly Report on Form 10-QA for the fiscal quarter ending
June 30, 1997 for Incomnet, Inc., filed on December 5, 1997.
13.14 The Quarterly Report on Form 10-QA for the fiscal quarter ending
September 30, 1997 for Incomnet, Inc., filed on December 5, 1997.
II-4
<PAGE>
16. Letter re Change in Certifying Accountant. (B)
21. Subsidiaries of the Registrant. (A)
23.1 Consent of Stonefield Josephson, independent Certified Public
Accountants, relating to the financial statements.
23.2 Consent of Mark J. Richardson, Esq. is included in his opinion.
24. Power of Attorney is included on the signature page of this Registration
Statement.
- -------------------------
(1) Certain information has been deleted from this agreement pursuant to a
request for confidential treatment under Rule 406.
(A) Incorporated by reference from Incomnet, Inc.'s Annual Report on Form 10-
K for the year ending December 31, 1994.
(B) Incorporated by reference from Incomnet Inc.'s Registration Statement on
Form S-4 filed with the Securities and Exchange Commission on May 12,
1994, and declared effective on October 27, 1994.
(C) Incorporated by reference from the Registration Statement on Form S-3
filed with the Securities and Exchange Commission on June 17, 1994 and
declared effective on October 27, 1994.
(D) Incorporated by reference from Incomnet's Registration Statement on Form
S-3 filed with the Securities and Exchange Commission on December 12,
1994 and declared effective on December 22, 1994.
(E) Incorporated by reference from Incomnet's Registration Statement on Form
S-3 filed with the Securities and Exchange Commission on January 5, 1995
and declared effective on January 9, 1995.
(F) Incorporated by reference from the Company's Report on Form 8-K, dated
February 8, 1995, relating to the Company's acquisition of a controlling
interest in RCI.
(G) Incorporated by reference from the Company's Report on Form 8-K dated
November 30, 1995, relating to the resignation of Sam D. Schwartz and
employment of Melvyn Reznick.
(H) Incorporated by reference from the Company's Report on Form 8-K, dated
February 9, 1996, relating to the management incentive agreement between
Incomnet and NTC.
(I) Incorporated by reference from the Company's Registration Statement on
Form S-3 filed with the Securities and Exchange Commission on May 10,
1996.
(J) Incorporated by reference from the Company's Report on Form 8-K, dated
June 7, 1996, relating to the settlement agreement with Joel W. Greenberg
and his resignation as a director of the Company.
II-5
<PAGE>
(K) Incorporated by reference from Incomnet's Registration Statement on Form
S-3 filed with the Securities and Exchange Commission on May 10, 1996 and
declared effective on October 31, 1996, or incorporated by reference from
the Company's filings with the Securities and Exchange Commission
pursuant to the Securities Exchange Act of 1934, as amended.
(L) Incorporated by reference from the filing of the Form 10-Q for the fiscal
quarter ending September 30, 1996, as filed with the Securities and
Exchange Commission on November 14, 1996.
(M) Incorporated by reference from the original filing of this Registration
Statement on Form S-3 filed with the Securities and Exchange Commission
on November 22, 1996.
(N) Incorporated by reference from Amendment Number One to the Company's
Registration Statement on Form S-3 filed with the Securities and
Exchange Commission on March 24, 1997.
(O) Incorporated by reference from the Company's Report on Form 8-K, dated
May 2, 1997, relating to the acquisition of California Interactive
Computing, Inc.
(P) Incorporated by reference from filings made under the Securities and
Exchange Act of 1934, as amended.
(Q) Incorporated by reference from the Company's filing of the Form 10-Q
for the fiscal quarter ending September 30, 1997, as filed with the
Securities and Exchange Commission on November 14, 1997.
(R) Incorporated by reference from Amendment Number Two to the Company's
Registration Statement on Form S-3 filed with the Securities and
Exchange Commission on July 9, 1997.
ITEM 17. UNDERTAKINGS.
Insofar as indemnification for liabilities arising under the Securities Act
of 1933 may be permitted to directors, officers and controlling persons of the
registrant pursuant to the provision described in Item 15 above, or otherwise,
the registrant has been advised that in the opinion of the Securities and
Exchange Commission such indemnification is against public policy as expressed
in the Act and is, therefore, unenforceable. In the event that a claim for
indemnification against such liabilities (other than the payment by the
registrant of expenses incurred or paid by a director, officer or controlling
person of the registrant in the successful defense of any action, suit or
proceeding) is asserted by such director, officer or controlling person in
connection with the securities being registered, the registrant will, unless in
the opinion of its counsel the matter has been settled by controlling precedent,
submit to a court of appropriate jurisdiction the question whether such
indemnification by it is against public policy as expressed in the Act and will
be governed by the final adjudication of such issue.
RULE 430A UNDERTAKINGS. The undersigned registrant hereby undertakes that:
(1) For purposes of determining any liability under the Securities Act of
1933, the information omitted from the form of Prospectus filed as part of this
registration statement in reliance upon Rule 430A and contained in a form of
Prospectus filed by the registrant pursuant to Rule 424(b)(1) or (4) or 497(h)
under the Securities Act 1933 shall be deemed to be part of this registration
statement as of the time it was declared effective.
(2) For the purpose of determining any liability under the Securities Act
of 1933, each post-effective amendment that contains a form of prospectus shall
be deemed to be a new registration statement relating to the securities offered
therein, and the offering of such securities at that time shall be deemed to be
the initial bona fide offering thereof.
RULE 415 UNDERTAKINGS. The undersigned registrant hereby undertakes:
(1) To file, during any period in which offers or sales are being made, a
post-effective amendment to this registration statement:
(i) To include any prospectus required by Section 10(a)(3) of the
Securities Act of 1933;
(ii) To reflect in the prospectus any facts or events arising after
the effective date of the registration statement (or the most
recent post-effective amendment thereof) which, individually or
in the aggregate, represent a fundamental change in the
information set forth in the registration statement;
II-6
<PAGE>
(iii) To include any material information with respect to the plan of
distribution not previously disclosed in the registration
statement or any material change to such information in the
registration statement;
PROVIDED, HOWEVER, that paragraphs (a)(1)(i) and (a)(1)(ii) do
not apply if the information required to be included in a post-
effective amendment by those paragraphs is contained in periodic
reports filed by the registrant pursuant to Section 13 or Section
15(d) of the Securities Exchange Act of 1934 that are incorporated by
reference in the registration statement;
(2) That, for the purpose of determining any liability under the
Securities Act of 1933, each such post-effective amendment shall be deemed to be
a new registration statement relating to the securities offered therein, and the
offering of such securities at that time shall be deemed to be the initial bona
fide offering thereof; and
(3) To remove from registration by means of a post-effective amendment any
of the securities being registered which remain unsold at the termination of the
offering.
The undersigned registrant hereby undertakes that, for purposes of
determining any liability under the Securities Act of 1933, each filing of the
registrant's annual report pursuant to Section 13(a) or Section 15(d) of the
Securities Exchange Act of 1934 (and, where applicable, each filing of an
employee benefit plan's annual report pursuant to Section 15(d) of the
Securities Exchange Act of 1934) that is incorporated by reference in the
registration statement shall be deemed to be a new registration statement
relating to the securities offered therein, and the offering of such securities
at that time shall be deemed to be the initial bona fide offering thereof.
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the Registrant
certifies that it has reasonable grounds to believe that it meets the
requirements for filing on Form S-3 and has duly caused this Registration
Statement to be signed on its behalf by the undersigned, the President of the
Registrant duly thereunto authorized, in the City of Woodland Hills, State of
California, on the 3rd day of December, 1997.
INCOMNET, INC.
Registrant
By:/s/ Melvyn Reznick
----------------------------------------
Melvyn Reznick, President
and Chief Executive Officer
II-7
<PAGE>
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints Mark J. Richardson his or her true and lawful
attorney-in-fact and agent, with full power of substitution and resubstitution,
for him or her and in his or her name, place and stead, in any and all
capacities, to sign any and all amendments (including post-effective amendments)
to this Registration Statement, 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, as fully to all intents and purposes as he
might do in person, hereby ratifying and confirming all that said attorneys-in-
fact and agents of each of them, or their or his substitutes, may lawfully do or
cause to be done by virtue thereof.
Pursuant to the requirements of the Securities Act of 1933, this
Registration Statement has been signed below on the 3rd day of December,
1997, by the following persons in the capacities indicated.
Signatures Title
- ---------- -----
/s/ Melvyn Reznick President, Chief Executive
- ------------------------------ Officer and Director
Melvyn Reznick (Chief Executive Officer and Principal
Financial Officer)
/s/ Stephen A. Caswell Vice President of Information Systems,
- ------------------------------ Secretary (Principal Accounting Officer)
Stephen A. Caswell
/s/ Albert Milstein Director
- ------------------------------
Albert Milstein
/s/ Nancy Zivitz Director
- ------------------------------
Nancy Zivitz
/s/ Howard Silverman Director
- ------------------------------
Howard Silverman
/s/ David Wilstein Director
- ------------------------------
David Wilstein
/s/ Richard Horowitz Director
- ------------------------------
Richard Horowitz
/s/ Stanley Weinstein Director
- ------------------------------
Stanley Weinstein
II-8
<PAGE>
INDEX TO THE EXHIBIT VOLUME TO
REGISTRATION STATEMENT ON FORM S-3
Exhibit
No. Description
- ------- -----------
3.1 The Articles of Incorporation, as amended, of Incomnet, Inc. (A)
3.2 The Bylaws of Incomnet, Inc. (A)
3.3 Certificate of Determination for Series A 2% Convertible Preferred Stock.
(M)
3.4 Amendment to Bylaws of Incomnet, Inc., dated June 8, 1997. (R)
3.5 Amendment to Bylaws of Incomnet, Inc., dated August 13, 1997.
3.6 Amendment to Bylaws of Incomnet, Inc., dated November 5, 1997.
3.7 Certificate of Determination for Series B 6% Convertible Preferred
Stock.
4.1 Warrant to Purchase 500,000 Shares of Incomnet, Inc., dated January 17,
1994. (C)
4.2 Warrant to Purchase 500,000 Shares of Incomnet, Inc., dated May 27, 1994.
(D)
4.3 Form of Warrant to Purchase 986,667 Shares of Incomnet, Inc. (E)
4.4 Form of Warrant to Purchase 75,000 Shares of Incomnet, Inc. (I)
4.5 Form of Warrant to Purchase 510,000 Shares of RCI Common Stock with
Registration Rights Agreement, dated April 19, 1996. (I)
4.6 Form of Warrant to Purchase RCI Common Stock, dated February 8, 1995. (I)
4.7 Form of Warrant to Purchase 360,000 Shares of Incomnet, Inc. (N)
4.8 Form of Warrant to Purchase 12,500 Shares of Incomnet, Inc. (N)
<PAGE>
5.1 Form of Legal Opinion and Consent of Mark J. Richardson, Esq. with
respect to securities being registered.
10.1 Agreement by and between Broad Capital Associates, Inc. and Incomnet,
Inc., dated February 14, 1994. (C)
10.2 Agreement by and between Broad Capital Associates, Inc. and Incomnet,
Inc., dated May 10, 1994. (C)
10.3 Agreement and Plan of Exchange by and between Incomnet, Inc. and National
Telephone Communications, Inc., dated May 12, 1994. (B)
10.4 Consulting Agreement by and between Broad Capital Associates, Inc. and
Incomnet, Inc., dated January 17, 1994. (C)
10.5 Agreement by and between Broad Capital Associates, Inc. and Incomnet,
Inc., dated August 17, 1994. (C)
10.6 Carrier Switched Services Agreement with Wiltel, Inc., dated September
30, 1993. (B)(1)
10.7 Network Wats Enrollment Form with U.S. Sprint, dated April 7, 1993. (B)
10.8 Carrier Switched Services Agreement with Wiltel, Inc., dated November 15,
1994. (D)(1)
10.9 The Stock Purchase Agreement for the acquisition of RCI, dated January
18, 1995. (F)
10.10 The Stock Purchase Agreement for the acquisition of Q2100, dated October
29, 1994. (F)
10.11 Stock Pledge Agreement, dated February 8, 1995. (F)
10.12 Form of 8% Convertible Secured Promissory Note, dated February 8, 1995.
(F)
10.13 Agreement for Promotion of Pagers between NTC and Page Prompt.(I)
10.14 Carrier Switched Services Agreement Wiltel, Inc, dated September 15,
1995. (I)(1)
10.15 Amendment to Stock Purchase Agreement Between Incomnet, Inc. and Rapid
Cast, Inc., Dated June 15, 1995. (I)
10.16 Agreement for Promotion of Internet Access Services Between NTC and
EarthLink Network. (I)
10.17 Severance Agreement Between Incomnet, Inc. and Sam D. Schwartz, dated
November 30, 1995. (G)
10.18 Employment Agreement Between Incomnet, Inc. and Melvyn Reznick, dated
November 30, 1995. (G)
10.19 Management Incentive Agreement, dated February 6, 1996, between Incomnet,
Inc. and National Telephone Communications, Inc. (H)
<PAGE>
10.20 Settlement Agreements and Proposed Settlement Agreements With Prior
Noteholders. (I)
10.21 Form of 8% Convertible Note Issued By RCI in January 1996. (I)
10.22 Form of Short-Term 10% Note Issued By RCI in April 1996. (I)
10.23 Amended Carrier Switched Services Agreement with Wiltel, Inc., dated June
17, 1996. (K)(1)
10.24 Settlement Agreement Between Joel Greenberg and Incomnet, Inc., dated as
of May 9, 1996 and executed on June 6, 1996. (J)
10.25 Form of Registration Rights Agreement Between Incomnet, Inc. and
Purchasers of Series A Convertible Preferred Stock. (K)
10.26 Form of Purchase Agreement for the Series A 2% Convertible Preferred
Stock. (K)
10.27 Management Incentive Agreement With NTC, dated October 14, 1996. (M)
10.28 Settlement Agreements With Edward Jacobs and Jerry Ballah, dated November
14, 1996. (M)
10.29 Shareholders Agreement for Rapid Cast, Inc., dated January 16, 1997. (N)
10.30 Registration Rights Agreement for Rapid Cast, Inc., dated January 16,
1997. (N)
10.31 Amended and Restated Management Incentive Agreement Between NTC and
Incomnet, Inc., dated January 28, 1997. (N)
10.32 Employment Agreement Between NTC and James R. Quandt, dated January 6,
1997. (N)
10.33 Settlement Agreement and Mutual Release Between Incomnet, Inc. and the
RCI Parties, dated December 9, 1996. (N)
10.34 Stock Option and Convertible Debt Plans Adopted By National
Telephone & Communications, Inc. (R)
10.35 Form of Stock Purchase Agreement for the acquisition of
California Interactive Computing, Inc., dated May 2, 1997. (O)
10.36 Amendment to Employment Agreement Between Incomnet, Inc. and
Melvyn H. Reznick, dated June 8, 1997. (R)
10.37 Employment Agreement Between Incomnet, Inc. and Stephen A.
Caswell, dated June 8, 1997. (R)
10.38 Employment Agreement Between NTC and Edward R. Jacobs, dated October
30, 1997. (Q)
13.1 The Annual Report on Form 10-K for the fiscal year ending December 31,
1996 for Incomnet, Inc. (P)
13.2 The Annual Report on Form 10-KA for the fiscal year ending December 31,
1996 for Incomnet, Inc., filed on May 23, 1997. (P)
13.3 The Annual Report on Form 10-KA for the fiscal year ending December 31,
1996, filed on July 9, 1997. (P)
13.4 The Quarterly Report on Form 10-Q for the fiscal quarter ending March
31, 1997 for Incomnet, Inc. (P)
13.5 The Quarterly Report on Form 10-QA for the fiscal quarter ending March
31, 1997 for Incomnet, Inc., filed on July 9, 1997. (P)
13.6 The Quarterly Report on Form 10-Q for the fiscal quarter ending September
30, 1996 for Incomnet, Inc. (L)
13.7 The Quarterly Report on Form 10-QA for the fiscal quarter ending
September 30, 1996 for Incomnet, Inc. (N)
13.8 The Quarterly Report on Form 10-Q for the fiscal quarter ending
June 30, 1997 for Incomnet, Inc. (P)
13.9 The Quarterly Report on Form 10-Q for the fiscal quarter ending
September 30, 1997 for Incomnet, Inc. (P)
13.10 The definitive Proxy Statement, dated November 17, 1997, for the 1997
Annual Meeting of the Shareholders of Incomnet, Inc. (P)
13.11 The Annual Report on Form 10-KA for the fiscal year ending December
31, 1996 for Incomnet, Inc., filed on December 5, 1997.
13.12 The Quarterly Report on Form 10-QA for the fiscal quarter ending March
31, 1997 for Incomnet, Inc., filed on December 5, 1997.
13.13 The Quarterly Report on Form 10-QA for the fiscal quarter ending
June 30, 1997 for Incomnet, Inc., filed on December 5, 1997.
13.14 The Quarterly Report on Form 10-QA for the fiscal quarter ending
September 30, 1997 for Incomnet, Inc., filed on December 5, 1997.
<PAGE>
16. Letter re Change in Certifying Accountant. (B)
21. Subsidiaries of the Registrant. (A)
23.1 Consent of Stonefield Josephson, independent Certified Public
Accountants, relating to the financial statements.
23.2 Consent of Mark J. Richardson, Esq. is included in his opinion.
24. Power of Attorney is included on the signature page of this Registration
Statement.
- -------------------------
(1) Certain information has been deleted from this agreement pursuant to a
request for confidential treatment under Rule 406.
(A) Incorporated by reference from Incomnet, Inc.'s Annual Report on Form
10-K for the year ending December 31, 1994.
(B) Incorporated by reference from Incomnet Inc.'s Registration Statement on
Form S-4 filed with the Securities and Exchange Commission on May 12,
1994, and declared effective on October 27, 1994.
(C) Incorporated by reference from the Registration Statement on Form S-3
filed with the Securities and Exchange Commission on June 17, 1994 and
declared effective on October 27, 1994.
(D) Incorporated by reference from Incomnet's Registration Statement on Form
S-3 filed with the Securities and Exchange Commission on December 12,
1994 and declared effective on December 22, 1994.
(E) Incorporated by reference from Incomnet's Registration Statement on Form
S-3 filed with the Securities and Exchange Commission on January 5, 1995
and declared effective on January 9, 1995.
(F) Incorporated by reference from the Company's Report on Form 8-K, dated
February 8, 1995, relating to the Company's acquisition of a controlling
interest in RCI.
(G) Incorporated by reference from the Company's Report on Form 8-K dated
November 30, 1995, relating to the resignation of Sam D. Schwartz and
employment of Melvyn Reznick.
(H) Incorporated by reference from the Company's Report on Form 8-K, dated
February 9, 1996, relating to the management incentive agreement between
Incomnet and NTC.
(I) Incorporated by reference from the Company's Registration Statement on
Form S-3 filed with the Securities and Exchange Commission on May 10,
1996.
(J) Incorporated by reference from the Company's Report on Form 8-K, dated
June 7, 1996, relating to the settlement agreement with Joel W. Greenberg
and his resignation as a director of the Company.
<PAGE>
(K) Incorporated by reference from Incomnet's Registration Statement on Form
S-3 filed with the Securities and Exchange Commission on May 10, 1996 and
declared effective on October 31, 1996, or incorporated by reference from
the Company's filings with the Securities and Exchange Commission
pursuant to the Securities Exchange Act of 1934, as amended.
(L) Incorporated by reference from the filing of the Form 10-Q for the fiscal
quarter ending September 30, 1996, as filed with the Securities and
Exchange Commission on November 14, 1996.
(M) Incorporated by reference from the original filing of this Registration
Statement on Form S-3 filed with the Securities and Exchange Commission
on November 22, 1996.
(N) Incorporated by reference from Amendment Number One to the Company's
Registration Statement on Form S-3 filed with the Securities and
Exchange Commission on March 24, 1997.
(O) Incorporated by reference from the Company's Report on Form 8-K, dated
May 2, 1997, relating to the acquisition of California Interactive
Computing, Inc.
(P) Incorporated by reference from filings made under the Securities and
Exchange Act of 1934, as amended.
(Q) Incorporated by reference from the Company's filing of the Form 10-Q
for the fiscal quarter ending September 30, 1997, as filed with the
Securities and Exchange Commission on November 14, 1997.
(R) Incorporated by reference from Amendment Number Two to the Company's
Registration Statement on Form S-3 filed with the Securities and
Exchange Commission on July 9, 1997.
<PAGE>
EXHIBIT 3.5 - AMENDMENT TO THE BYLAWS OF INCOMNET, INC., DATED AUGUST 13, 1997
On August 13, 1997, the Board of Directors of the Company adopted an
amendment to Article III. Section 2 of the Company's Bylaws providing that
the fixed number of directors of the Company will be seven (7) members,
rather than six (6) members, within a range of permitted directors numbering
a minimum of five (5) and a maximum of nine (9). The amended Article II.
Section 2 of the Bylaws now reads as follows:
Section 2. NUMBER OF DIRECTORS. The number of directors of the
corporation shall not be less than five (5) nor more than nine (9). The
exact number of directors shall be seven (7) until changed, within the
limits specified above, by a Bylaw amending this Section 2, duly adopted by
the Board of Directors or by the shareholders. Such indefinite number of
directors may be changed, or a definite number fixed without provision for
an indefinite number, by a duly adopted amendment to the Articles of
Incorporation or by an amendment to this bylaw duly adopted by the vote or
written consent of holders of a majority of the outstanding shares entitled
to vote; provided, however, that an amendment reducing the number or the
minimum number of directors to a number less than five cannot be adopted if
the votes cast against its adoption at a meeting of the shareholders, or
the shares not consenting in the case of action by written consent, are
equal to more than 16-2/3% of the outstanding shares entitled to vote. No
amendment may change the stated maximum number of authorized directors to
number greater than two times the stated minimum number of directors minus
one.
<PAGE>
EXHIBIT 3.6 - AMENDMENT TO THE BYLAWS OF INCOMNET, INC., DATED NOVEMBER 5,
1997
On November 5, 1997, the Board of Directors of the Company adopted an
amendment to Article III. Section 10 of the Company's Bylaws providing that
all formal resolutions, acts or decisions of the Board must be approved by a
majority vote, plus one additional vote, of the directors present at a
meeting duly held at which a quorum is present. Article III. Section 10 of
the Bylaws now states as follows:
Section 10. QUORUM. A majority of the authorized number of directors shall
constitute a quorum for the transaction of business, except to adjourn as
hereinafter provided. Every act or decision done or made by a majority
vote, plus one additional vote, of the directors present at a meeting duly
held at which a quorum is present shall be regarded as the act of the Board
of Directors, subject to the provisions of Section 310 of the Corporations
Code of California (approval of contracts or transactions in which a
director has a direct or indirect material financial interest), Section 311
(appointment of committees), and Section 317(e) (indemnification or
directors). A meeting at which a quorum is initially present may continue
to transact business notwithstanding the withdrawal of directors, if any
action taken is approved by at least a majority vote, plus one additional
vote, of the required quorum for such meeting.
<PAGE>
EXHIBIT 3.7 -- CERTIFICATE OF DETERMINATION OF CONVERTIBLE SERIES B PREFERRED
STOCK OF INCOMNET, INC., DATED JULY 29, 1997
The undersigned, Melvyn Reznick and Stephen Caswell, hereby certify
that:
I. They are the duly elected and acting President and Secretary,
respectively, of Incomnet, Inc., a California corporation (the "Company").
II. The Articles of Incorporation of the Company authorizes 100,000
shares of preferred stock, no par value per share. The number of shares of
Convertible Series A Preferred Stock authorized is 4,000, of which 2,075 are
issued and outstanding. The number of shares of Convertible Series B
Preferred Stock authorized herein is 2,900, none of which have been issued.
III. The following is a true and correct copy of resolutions duly
adopted by the Board of Directors at a meeting duly held on Thursday, July
13, 1997, which constituted all requisite action on the part of the Company
for adoption of such resolutions.
RESOLUTIONS
WHEREAS, the Board of Directors of the Company (the "Board of
Directors") is authorized to provide for the issuance of the shares of
Preferred Stock in series, and by filing a certificate pursuant to the
applicable law of the State of California, to establish from time to time the
number of shares to be included in each such series, and to fix the
designations, powers, preferences and rights of the shares of each such
series and the qualifications, limitations or restrictions thereof.
WHEREAS, the Board of Directors desires, pursuant to its authority
as aforesaid, to designate a new series of preferred stock, set the number of
shares constituting such series and fix the rights, preferences, privileges
and restrictions of such series.
NOW, THEREFORE, BE IT RESOLVED, that the Board of Directors hereby
designates a new series of preferred stock and the number of shares
constituting such series, and fixes the rights, preferences, privileges and
restrictions relating to such series as follows:
Section 1. DESIGNATION, AMOUNT AND PAR VALUE.
The series of Preferred Stock shall be designated as the Convertible
Series B Preferred Stock (the "Preferred Stock"), and the number of shares so
designated shall be 2,900. The par value of each share of Preferred Stock
shall be no par value. Each share of Preferred Stock shall have a stated
value of $1,000.00 per share (the "Stated Value").
Section 2. DIVIDENDS.
(a) Holders of Preferred Stock shall be entitled to receive, when
and as declared by the Board of Directors out of funds legally available
therefor, and the Company shall pay, cumulative dividends at the rate per
share (as a percentage of the Stated Value per share) equal to 6% per annum,
payable in cash or shares of Common Stock, in arrears on the Conversion Date
(as hereinafter defined). Dividends on the Preferred Stock shall accrue
daily commencing on
<PAGE>
the Original Issue Date (as defined in Section 6) and shall be deemed to
accrue on such date whether or not earned or declared and whether or not
there are profits, surplus or other funds of the Company legally available
for the payment of dividends. The party that holds the Preferred Stock on an
applicable record date for any dividend payment will be entitled to receive
such dividend payment and any other accrued and unpaid dividends which
accrued prior to such dividend payment date, without regard to any sale or
disposition of such Preferred Stock subsequent to the applicable record date
but prior to the applicable dividend payment date. Except as otherwise
provided herein, if at any time the Company pays less than the total amount
of dividends then accrued to any class of Preferred Stock, such payment shall
be distributed ratably among the holders of such class based upon the number
of shares held by each holder. No dividends may be declared or paid on the
Convertible Series B Preferred Stock until all cumulative unpaid dividends
have been declared and paid on the outstanding Convertible Series A Preferred
Stock.
(b) So long as any Preferred Stock shall remain outstanding,
neither the Company nor any subsidiary thereof shall redeem, purchase or
otherwise acquire directly or indirectly any Junior Securities (as defined in
Section 6), except the redemption of shares in payment of short swing profits
payable to the Company pursuant to Section 16(b) of the Securities Exchange
Act of 1934, as amended, nor shall the Company directly or indirectly pay or
declare any cash dividend or make any cash distribution (other than a
dividend or distribution described in Section 4) upon, nor shall any cash
distribution be made in respect of, any Junior Securities, nor shall any
monies be set aside for or applied to the purchase or redemption (through a
sinking fund or otherwise) of any Junior Securities, except as described
above, unless all dividends on the Preferred Stock for all past dividend
periods shall have been paid.
Section 3. VOTING RIGHTS.
Except as otherwise provided herein and as otherwise provided by law, the
Preferred Stock shall have no voting rights. However, so long as any shares
of Preferred Stock are outstanding, the Company shall not, without the
affirmative vote of the holders of a majority of the shares of the Preferred
Stock then outstanding, (i) alter or change adversely the powers, preferences
or rights given to the Preferred Stock or (ii) authorize or create any class
of stock ranking as to dividends or distribution of assets upon a Liquidation
(as defined below) senior to, prior to or PARI PASSU with the Preferred Stock.
Section 4. LIQUIDATION.
Upon any liquidation, dissolution or winding-up of the Company, whether
voluntary or involuntary (a "Liquidation"), the holders of shares of
Preferred Stock shall be entitled to receive out of the assets of the
Company, whether such assets are capital or surplus, for each share of
Preferred Stock an amount equal to the Stated Value, plus an amount equal to
accrued but unpaid dividends per share, whether declared or not, but without
interest, before any distribution or payment shall be made to the holders of
any Junior Securities, and if the assets of the Company shall be insufficient
to pay in full such amounts, then the entire assets to be distributed shall
be distributed among the holders of Preferred Stock ratably in accordance
with the respective amounts that would be payable on such shares if all
amounts payable thereon were paid in full. A sale, conveyance or disposition
of all or substantially all of the assets of the Company or the effectuation
by the Company of a transaction or series of related transactions in which
more than
<PAGE>
50% of the voting power of the Company is disposed of shall be deemed a
Liquidation; PROVIDED that, a consolidation or merger of the Company with or
into any other company or companies shall not be treated as a Liquidation,
but instead shall be subject to the provisions of Section 5. The Company
shall mail written notice of any such Liquidation, not less than 60 days
prior to the payment date stated therein, to each record holder of Preferred
Stock. No liquidation preference may be paid to the holders of the
Convertible Series B Preferred Stock until the full liquidation preference
has been paid to the holders of the outstanding Convertible Series A
Preferred Stock.
Section 5. CONVERSION.
(a) Each share of Preferred Stock shall be convertible into shares
of Common Stock, at the Conversion Ratio as defined in Section 6 hereof, at
the option of the holder in whole or in part at any time after the expiration
of the earlier to occur of (i) 120 days after the Original Issue Date or (ii)
60 days after the date that the Securities and Exchange Commission (the
"Commission") declares effective under the Securities Act of 1933, as amended
(the "Securities Act"), a registration statement (the "Registration
Statement") covering the shares of Common Stock into which the Preferred
Stock is convertible in accordance with the terms hereof. The holder shall
effect conversions by surrendering the certificate or certificates
representing the shares of Preferred Stock to be converted to the Company,
together with a conversion notice (the "Holder Conversion Notice") in the
manner set forth in Section 5(j) hereof. Each Holder Conversion Notice shall
specify the number of shares of Preferred Stock to be converted and the date
on which such conversion is to be effected, which date may not be prior to
the date the Holder delivers such Notice by facsimile (the "Holder Conversion
Date"). Each Holder Conversion Notice, once given, shall be irrevocable. If
the holder is converting less than all shares of Preferred Stock represented
by the certificate or certificates tendered by the holder with the Holder
Conversion Notice, the Company shall promptly deliver to the holder a
certificate for such number of shares as have not been converted.
(b) Provided that ten (10) Trading Days (as defined in Section 6)
shall have elapsed from the date the Commission declared the Registration
Statement effective under the Securities Act, each share of the Preferred
Stock shall automatically convert into shares of Common Stock at the
Conversion Ratio after the expiration of one year after the Original Issue
Date. Upon the conversion of shares of Preferred Stock pursuant Section 5(b)
herein, the holders of the Preferred Stock shall surrender the certificates
representing such shares at the office of the Company or of any transfer
agent for the Preferred Stock or Common Stock. The date on which an automatic
conversion occurs pursuant to Section 5(b) herein is referred to herein as
the "Automatic Conversion Date." Each of a "Holder Conversion Date" and an
"Automatic Conversion Date" is sometimes referred to herein as a "Conversion
Date."
(c) (i) If the average of the Per Share Market Value (as defined
in Section 6) for the five (5) Trading Days immediately preceding the date
that the Company receives any Holder Conversion Notice is less than $2.00,
then the Company shall have the right, exercisable by notice to the tendering
Holder by the close of business on the Business Day following the Company's
receipt of such Conversion Notice, to redeem the Preferred Stock tendered for
conversion pursuant to such Holder Conversion Notice at a price equal to the
product of (i) the average of the Per Share Market Value for the five (5)
Trading Days immediately preceding the Conversion Date, (ii) the number of
shares of Preferred Stock which would then be converted but for this section,
and (iii) the Conversion Ratio. Such redemption price will be paid by the
<PAGE>
Company within ten (10) Business Days of its receipt of such Holder
Conversion Notice. If the Company fails for any reason to pay such
redemption price within such period, the Company shall effect the conversion
of Preferred Shares subject to such Holder Conversion Notice at the lesser of
the Conversion Price measured on the Conversion Date indicated in the Holder
Conversion Notice and the Conversion Price measured at the end of such ten
(10) Business Day period. The Holder shall have the right, exercisable at
any time when the Per Share Market Value is such that the Company would have
the right of redemption contemplated in this section were it to receive a
Holder Conversion Notice, to deliver to the Company (by facsimile) a letter
inquiring whether the Company would exercise such redemption right if it
received a Holder Conversion Notice within five (5) calendar days of its
receipt of such letter, which such inquiry letter shall set forth the number
of shares that would be subject to such Holder Conversion Notice. The
Company shall respond to the inquiry letter (by facsimile) by the close of
business on the Business Day after which it is received, which response shall
be binding upon it with respect to the Conversion Notice that is subject to
such inquiry letter. The Company shall be deemed to have waived its
redemption right if it fails for any reason to respond by facsimile to the
Holder delivering such inquiry letter by the close of business on the
Business Day after its receipt of the inquiry letter.
(ii) Not later than three (3) Trading Days after the Conversion
Date, the Company will deliver to the holder (i) a certificate or
certificates which shall be free of restrictive legends and trading
restrictions (other than those then required by law and as set forth in the
Purchase Agreement), representing the number of shares of Common Stock being
acquired upon the conversion of shares of Preferred Stock and (ii) one or
more certificates representing the number of shares of Preferred Stock not
converted; provided, however that the Company shall not be obligated to issue
certificates evidencing the shares of Common Stock issuable upon conversion
of any shares of Preferred Stock until certificates evidencing such shares of
Preferred Stock are either delivered for conversion to the Company or any
transfer agent for the Preferred Stock or Common Stock, or the holder
notifies the Company that such certificates have been lost, stolen or
destroyed and provides a bond (or other adequate security reasonably
acceptable to the Company) satisfactory to the Company to indemnify the
Company from any loss incurred by it in connection therewith. The Company
shall, upon request of the holder, use its best efforts to deliver any
certificate or certificates required to be delivered by the Company under
this Section 5(c) electronically through the Depository Trust Corporation or
another established clearing corporation performing similar functions. In
the case of a conversion pursuant to a Holder Conversion Notice, if such
certificate or certificates are not delivered by the date required under this
Section 5(c), the holder shall be entitled by written notice to the Company
at any time on or before such holder's receipt of such certificate or
certificates thereafter, to rescind such conversion, in which event the
Company shall immediately return the certificates representing the shares of
Preferred Stock tendered for conversion.
(d) (i) The conversion price for each share of Preferred Stock
(the "Conversion Price") in effect on any Conversion Date shall be the LESSER
of X OR Y; where X is the GREATER of (a) [$(BID PRICE AT FUNDING) ] or (b)
[ C ] / [ ( { C / F } + 1.50 ) / 2 ] where C = the average Per Share Market
Value for the five (5) Trading Days immediately preceding the Conversion Date
and F = the Per Share Market Value on the Trading Day immediately preceding
the Original Issue Date; and Y = 80% of the average Per Share Market Value
for the five (5) Trading Days immediately preceding the Conversion Date;
provided, however, if the Registration Statement is not declared effective by
the Commission for any reason by the Effective Date (as defined in the
Registration Rights Agreement between the Company and the holder pursuant to
<PAGE>
which the Registration Statement is being prepared and filed), then for each
of the first three months after such Effective Date that such registration
statement shall not have been so declared effective, clause (a) and (b) above
shall be decreased by 3% (i.e., a reduction of 3% at the end of the first
such month and 6% at the end of the second such month).
(ii) If the Company, at any time while any shares of Preferred
Stock are outstanding, (a) shall pay a stock dividend or otherwise make a
distribution or distributions on shares of its Junior Securities payable in
shares of its capital stock (whether payable in shares of its Common Stock or
of capital stock of any class), (b) subdivide outstanding shares of Common
Stock into a larger number of shares, (c) combine outstanding shares of
Common Stock into a smaller number of shares, or (d) issue by
reclassification of shares of Common Stock any shares of capital stock of the
Company, the Conversion Price designated in Section 5(d)(i) shall be
multiplied by a fraction of which the numerator shall be the number of shares
of Common Stock outstanding before such event and of which the denominator
shall be the number of shares of Common Stock outstanding after such event.
Any adjustment made pursuant to this Section 5(d)(ii) shall become effective
immediately after the record date for the determination of stockholders
entitled to receive such dividend or distribution and shall become effective
immediately after the effective date in the case of a subdivision,
combination or re-classification.
(iii) If the Company, at any time while any shares of
Preferred Stock are outstanding, shall issue rights or warrants to all
holders of Common Stock entitling them to subscribe for or purchase shares of
Common Stock at a price per share less than the Per Share Market Value of
Common Stock at the record date mentioned below, the Conversion Price
designated in Section 5(d)(i) shall be multiplied by a fraction, of which the
denominator shall be the number of shares of Common Stock (excluding treasury
shares, if any) outstanding on the date of issuance of such rights or
warrants plus the number of additional shares of Common Stock offered for
subscription or purchase, and of which the numerator shall be the number of
shares of Common Stock (excluding treasury shares, if any) outstanding on the
date of issuance of such rights or warrants plus the number of shares which
the aggregate offering price of the total number of shares so offered would
purchase at such Per Share Market Value. Such adjustment shall be made
whenever such rights or warrants are issued, and shall become effective
immediately after the record date for the determination of stockholders
entitled to receive such rights or warrants. However, upon the expiration of
any right or warrant to purchase Common Stock the issuance of which resulted
in an adjustment in the Conversion Price designated in Section 5(d)(i)
pursuant to this Section 5(d)(iii), if any such right or warrant shall expire
and shall not have been exercised, the Conversion Price designated in Section
5(d)(i) shall immediately upon such expiration be recomputed and effective
immediately upon such expiration be increased to the price which it would
have been (but reflecting any other adjustments in the Conversion Price made
pursuant to the provisions of this Section 5 after the issuance of such
rights or warrants) had the adjustment of the Conversion Price made upon the
issuance of such rights or warrants been made on the basis of offering for
subscription or purchase only that number of shares of Common Stock actually
purchased upon the exercise of such rights or warrants actually exercised.
(iv) If the Company, at any time while shares of Preferred
Stock are outstanding, shall distribute to all holders of Common Stock (and
not to holders of Preferred Stock) evidences of its indebtedness or assets or
rights or warrants to subscribe for or purchase any security (excluding those
referred to in Section 5(d)(iii) above) then in each such case the Conversion
Price at which each share of Preferred Stock shall thereafter be convertible
shall be
<PAGE>
determined by multiplying the Conversion Price in effect immediately prior to
the record date fixed for determination of stockholders entitled to receive
such distribution by a fraction of which the denominator shall be the Per
Share Market Value of Common Stock determined as of the record date mentioned
above, and of which the numerator shall be such Per Share Market Value of the
Common Stock on such record date less the then fair market value at such
record date of the portion of such assets or evidence of indebtedness so
distributed applicable to one outstanding share of Common Stock as determined
by the Board of Directors in good faith; provided, however that in the event
of a distribution exceeding ten percent (10%) of the net assets of the
Company, such fair market value shall be determined by a nationally
recognized or major regional investment banking firm or firm of independent
certified public accountants of recognized standing (which may be the firm
that regularly examines the financial statements of the Company) (an
"Appraiser") selected in good faith by the holders of a majority in interest
of the shares of Preferred Stock; and provided, further that the Company,
after receipt of the determination by such Appraiser shall have the right to
select an additional Appraiser, in which case the fair market value shall be
equal to the average of the determinations by each such Appraiser. In either
case the adjustments shall be described in a statement provided to all
holders of Preferred Stock of the portion of assets or evidences of
indebtedness so distributed or such subscription rights applicable to one
share of Common Stock. Such adjustment shall be made whenever any such
distribution is made and shall become effective immediately after the record
date mentioned above.
(v) All calculations under this Section 5 shall be made to the
nearest cent or the nearest 1/100th of a share, as the case may be.
(vi) Whenever the Conversion Price is adjusted pursuant to
Section 5(d)(ii),(iii), (iv) or (v), the Company shall promptly mail to each
holder of Preferred Stock, a notice setting forth the Conversion Price after
such adjustment and setting forth a brief statement of the facts requiring
such adjustment.
(vii) In case of any reclassification of the Common Stock,
any consolidation or merger of the Company with or into another person, the
sale or transfer of all or substantially all of the assets of the Company or
any compulsory share exchange pursuant to which the Common Stock is converted
into other securities, cash or property, the holders of the Preferred Stock
then outstanding shall have the right thereafter to convert such shares only
into the shares of stock and other securities and property receivable upon or
deemed to be held by holders of Common Stock following such reclassification,
consolidation, merger, sale, transfer or share exchange, and the holders of
the Preferred Stock shall be entitled upon such event to receive such amount
of securities or property as the shares of the Common Stock of the Company
into which such shares of Preferred Stock could have been converted
immediately prior to such reclassification, consolidation, merger, sale,
transfer or share exchange would have been entitled. The terms of any such
consolidation, merger, sale, transfer or share exchange shall include such
terms so as to continue to give to the holder of Preferred Stock the right to
receive the securities or property set forth in this Section 5(d)(vii) upon
any conversion following such consolidation, merger, sale, transfer or share
exchange. This provision shall similarly apply to successive
reclassifications, consolidations, mergers, sales, transfers or share
exchanges.
<PAGE>
(viii) If:
(a) the Company shall declare a dividend (or any other
distribution) on its Common Stock; or
(b) the Company shall declare a special nonrecurring cash
dividend on or a redemption of its Common Stock; or
(c) the Company shall authorize the granting to all
holders of the Common Stock rights or warrants to
subscribe for or purchase any shares of capital stock
of any class or of any rights; or
(d) the approval of any stockholders of the Company shall
be required in connection with any reclassification
of the Common Stock of the Company (other than a
subdivision or combination of the outstanding shares
of Common Stock), any consolidation or merger to
which the Company is a party, any sale or transfer of
all or substantially all of the assets of the
Company, or any compulsory share exchange whereby the
Common Stock is converted into other securities, cash
or property; or
(e) the Company shall authorize the voluntary or
involuntary dissolution, liquidation or winding-up of
the affairs of Company;
then the Company shall cause to be filed at each office or agency maintained
for the purpose of conversion of Preferred Stock, and shall cause to be
mailed to the holders of Preferred Stock at their last addresses as they
shall appear upon the stock books of the Company, at least 30 calendar days
prior to the applicable record or effective date hereinafter specified, a
notice stating (x) the date on which a record is to be taken for the purpose
of such dividend, distribution, redemption, rights or warrants, or if a
record is not to be taken, the date as of which the holders of Common Stock
of record to be entitled to such dividend, distributions, redemption, rights
or warrants are to be determined, or (y) the date on which such
reclassification, consolidation, merger, sale, transfer, share exchange,
dissolution, liquidation or winding-up is expected to become effective, and
the date as of which it is expected that holders of Common Stock of record
shall be entitled to exchange their shares of Common Stock for securities or
other property deliverable upon such reclassification, consolidation, merger,
sale, transfer, share exchange, dissolution, liquidation or winding-up;
provided, however, that the failure to mail such notice or any defect therein
or in the mailing thereof shall not affect the validity of the corporate
action required to be specified in such notice.
(e) If at any time conditions shall arise by reason of action taken
by the Company which in the opinion of the Board of Directors are not
adequately covered by the other provisions hereof and which might materially
and adversely affect the rights of the holders of Preferred Stock (different
than or distinguished from the effect generally on rights of holders of any
class of the Company's capital stock) or if at any time any such conditions
are expected to
<PAGE>
arise by reason of any action contemplated by the Company, the Company shall
mail a written notice briefly describing the action contemplated and the
material adverse effects of such action on the rights of the holders of
Preferred Stock at least 30 calendar days prior to the effective date of such
action, and an Appraiser selected by the holders of majority in interest of
the Preferred Stock shall give its opinion as to the adjustment, if any (not
inconsistent with the standards established in this Section 5), of the
Conversion Price (including, if necessary, any adjustment as to the
securities into which shares of Preferred Stock may thereafter be
convertible) and any distribution which is or would be required to preserve
without diluting the rights of the holders of shares of Preferred Stock;
PROVIDED, however, that the Company, after receipt of the determination by
such Appraiser, shall have the right to select an additional Appraiser, in
which case the adjustment shall be equal to the average of the adjustments
recommended by each such Appraiser. The Board of Directors shall make the
adjustment recommended forthwith upon the receipt of such opinion or opinions
or the taking of any such action contemplated, as the case may be; PROVIDED,
however, that no such adjustment of the Conversion Price shall be made which
in the opinion of the Appraiser(s) giving the aforesaid opinion or opinions
would result in an increase of the Conversion Price to more than the
Conversion Price then in effect.
(f) The Company covenants that it will at all times reserve and
keep available out of its authorized and unissued Common Stock solely for the
purpose of issuance upon conversion of Preferred Stock as herein provided,
free from preemptive rights or any other actual contingent purchase rights of
persons other than the holders of Preferred Stock, such number of shares of
Common Stock as shall be issuable (taking into account the adjustments and
restrictions of Section 5(b) and Section 5(d) hereof) upon the conversion of
all outstanding shares of Preferred Stock. The Company covenants that all
shares of Common Stock that shall be so issuable shall, upon issue, be duly
and validly authorized, issued and fully paid and nonassessable.
(g) Upon a conversion hereunder the Company shall not be required
to issue stock certificates representing fractions of shares of Common Stock,
but may if otherwise permitted, make a cash payment in respect of any final
fraction of a share based on the Per Share Market Value at such time. If the
Company elects not, or is unable, to make such a cash payment, the holder of
a share of Preferred Stock shall be entitled to receive, in lieu of the final
fraction of a share, one whole share of Common Stock.
(h) The issuance of certificates for shares of Common Stock on
conversion of Preferred Stock shall be made without charge to the holders
thereof for any documentary stamp or similar taxes that may be payable in
respect of the issue or delivery of such certificate, provided that the
Company shall not be required to pay any tax that may be payable in respect
of any transfer involved in the issuance and delivery of any such certificate
upon conversion in a name other than that of the holder of such shares of
Preferred Stock so converted and the Company shall not be required to issue
or deliver such certificates unless or until the person or persons requesting
the issuance thereof shall have paid to the Company the amount of such tax or
shall have established to the satisfaction of the Company that such tax has
been paid.
(i) Shares of Preferred Stock converted into Common Stock shall be
canceled and shall have the status of authorized but unissued shares of
preferred stock.
(j) Each Holder Conversion Notice shall be given by facsimile and
by mail, postage prepaid, addressed to the attention of the Secretary of the
Company at the facsimile
<PAGE>
telephone number and address of the principal place of business of the
Company. The notice of the Automatic Conversion Date shall be given by
facsimile and by mail, postage prepaid, addressed to each holder of Preferred
Stock at the facsimile telephone number and address of such holder appearing
on the books of the Company or provided to the Company by such holder, or if
no such facsimile telephone number or address appears or is so provided, at
the principal place of business of the holder. Any such notice shall be
deemed given and effective upon the earliest to occur of (i)(a) if such
Conversion Notice is delivered via facsimile at the facsimile telephone
number specified in this Section 5(j) prior to 4:30 p.m. (Eastern Standard
Time) on any date, such date (or, in the case of a notice of Automatic
Conversion, the next Trading Day) or such later date as is specified in the
Conversion Notice, and (b) if such Conversion Notice is delivered via
facsimile at the facsimile telephone number specified in this Section 5(j)
after 4:30 p.m. (Eastern Standard Time) on any date, the next date (or, in
the case of a notice of Automatic Conversion, the next Trading Day after such
next day) or such later date as is specified in the Conversion Notice, (ii)
five days after deposit in the United States mails or (iii) upon actual
receipt by the party to whom such notice is required to be given.
<PAGE>
Section 6. DEFINITIONS. For the purposes hereof, the following
terms shall have the following meanings:
"Common Stock" means shares now or hereafter authorized of the class
of Common Stock, no par value, of the Company and stock of any other class
into which such shares may hereafter have been reclassified or changed.
"Conversion Ratio" means, at any time, a fraction, of which the
numerator is Stated Value plus accrued but unpaid dividends, and of which the
denominator is the Conversion Price at such time.
"Junior Securities" means the Common Stock and all other equity
securities of the Company, except the Company's Convertible Series A
Cumulative Preferred Stock and the Company's Convertible Series B Cumulative
Preferred Stock.
"Original Issue Date" shall mean the date of the first issuance of
any shares of the Preferred Stock regardless of the number transfers of any
particular shares of Preferred Stock and regardless of the number of
certificates which may be issued to evidence such Preferred Stock.
"Per Share Market Value" means on any particular date (a) the
closing bid price per share of the Common Stock on such date on The NASDAQ
Stock Market or other stock exchange on which the Common Stock has been
listed or if there is no such price on such date, then the closing bid price
on such exchange on the date nearest preceding such date, or (b) if the
Common Stock is not listed on The NASDAQ Stock Market or any stock exchange,
the closing bid for a share of Common Stock in the over-the-counter market,
as reported by the NASD at the close of business on such date, or (c) if the
Common Stock is not quoted on the NASD, the closing bid price for a share of
Common Stock in the over-the-counter market as reported by the National
Quotation Bureau Incorporated (or similar organization or agency succeeding
to its functions of reporting prices), or (d) if the Common Stock is no
longer publicly traded the fair market value of a share of Common Stock as
determined by an Appraiser (as defined in Section 5(d)(iv) above) selected in
good faith by the holders of a majority in interest of the shares of the
Preferred Stock; PROVIDED, however, that the Company, after receipt of the
determination by such Appraiser, shall have the right to select an additional
Appraiser, in which case, the fair market value shall be equal to the average
of the determinations by each such Appraiser.
"Person" means a corporation, an association, a partnership,
organization, a business, an individual, a government or political
subdivision thereof or a governmental agency.
"Purchase Agreement" means the Convertible Preferred Stock Purchase
Agreement, dated as of the Original Issue Date, between the Company and the
original holder of the Preferred Stock.
"Trading Day" means (a) a day on which the Common Stock is traded on
NASDAQ or principal stock exchange on which the Common Stock has been listed,
or (b) if the Common Stock is not listed on NASDAQ or any stock exchange, a
day on which the Common Stock is traded in the over-the-counter market, as
reported by the NASD, or (c) if the Common Stock is not quoted on the NASD, a
day on which the Common Stock is quoted in the
<PAGE>
over-the-counter market as reported by the National Quotation Bureau
Incorporated (or any similar organization or agency succeeding its functions
of reporting prices).
Section 7. NOTICES. Any notice required by the provisions hereof to
be given to the holders of shares of Preferred Stock shall be deemed given
when personally delivered to such holder or five business days after the same
has been deposited in the United States mail, certified or registered mail,
return receipt requested, postage prepaid, and addressed to each holder of
record at his address appearing on the books of the Company.
Dated: July 29, 1997
/s/ MELVYN REZNICK
------------------------------------
Melvyn Reznick, President
/s/ STEPHEN A. CASWELL
------------------------------------
Stephen A. Caswell, Secretary
Melvyn Reznick and Stephen A. Caswell hereby declare under penalty of perjury
under the laws of the State of California that they have read the foregoing
certificate and know the contents thereof and that the same is true of their
own knowledge.
Dated: July 29, 1997
/s/ MELVYN REZNICK
------------------------------------
Melvyn Reznick, President
/s/ STEPHEN A. CASWELL
------------------------------------
Stephen A. Caswell, Secretary
<PAGE>
EXHIBIT 5.1
LAW OFFICES OF
MARK J. RICHARDSON
WILSHIRE PALISADES BUILDING
1299 OCEAN AVENUE
SUITE 900
SANTA MONICA, CALIFORNIA 90401
TELEPHONE (310) 393-9992
FACSIMILE (310) 393-2004
December ____, 1997
Incomnet, Inc.
21031 Ventura Boulevard
Suite 1100
Woodland Hills, California 91364
RE: INCOMNET, INC. - VALIDITY OF ISSUANCE OF SHARES
-----------------------------------------------
Ladies and Gentlemen:
We have acted as special counsel to you in connection with the registration
on Form S-3 (File No. 333-16629 under the Securities Act of 1933, as amended
("Registration Statement"), of a total of 2,676,281 shares of the Common
Stock of Incomnet, Inc., no par value, comprised of (i) 477,500 shares (the
"Underlying Shares") issuable upon the exercise of 477,500 warrants (the
"Warrants") to purchase Common Stock at an exercise price of $3.75 per share
at any time until December 9, 1999, with respect to 360,000 of the Warrants,
at an exercise price of $2.94 per share at any time until December 16, 2001,
with respect to 12,500 of the Warrants, at an excercise price of $5.26 per
share at any time until July 29, 1999, with respect to 50,000 of the
Warrents, and at an exercise price of $3.00 per share at any time until
November 3, 1999, with respect to 55,000 of the Warrants, (ii) 170,751
outstanding shares (the "Outstanding Shares") issued upon the conversion of
Series A 2% Convertible Preferred Stock previously issued by the Company, or
new stock issued in a private placement pursuant to Section 4(2) of the
Securities Act of 1933, as amended (the "Act"), (iii) a minimum of 627,503
shares (also referred to herein as the "Underlying Shares") issuable upon the
conversion of 2,434 outstanding shares of Series B 6% Convertible Preferred
Stock, and (iv) up to 750,000 unissued shares (the "Shares") which may be
issued in the future pursuant to the conversion of Series B 6% Convertible
Preferred Stock, the conversion of up to 125 shares of Series A 2%
Convertible Preferred Stock, or in open market sales under Rule 415 of the
Act through a registered broker-dealer. You have requested our opinion in
connection with the registration of the Shares, the Underlying Shares and the
Outstanding Shares covered by the Prospectus, dated December 3, 1997 (the
"Prospectus"). In connection with our acting as counsel, we have examined
the laws of the State of California together with the forms of Warrants
attached as Exhibits 4.7 and 4.8 to the Registration Statement, the
Certificate of Determination for Series A 2% Convertible Preferred Stock
attached as Exhibit 3.3 to the Registration Statement, the Certificate of
Determination for Series B 6% Convertible Preferred Stock attached as Exhibit
3.7 to the Registration Statement, the Prospectus, and certain other
documents and instruments prepared on behalf of Incomnet, Inc. as we have
deemed necessary and relevant in the preparation of our opinion as
hereinafter set forth.
In our examination, we have assumed the genuineness of all signatures on
original documents and the authenticity of all documents submitted to us as
originals, the conformity to original documents of all documents submitted to us
as certified, conformed or photostatic copies of originals, the authenticity of
such latter documents, and the proper execution, delivery and filing of the
documents referred to in this opinion.
<PAGE>
Based upon the foregoing, we are of the opinion that the Shares, the Outstanding
Shares and the Underlying Shares issued and to be issued by Incomnet, Inc.
pursuant to the exercise of the Warrants, the conversion of Series B 6%
Convertible Preferred Stock, and the terms of the Prospectus have been and will
be duly created and have been and will be validly issued shares of the Common
Stock, no par value, of Incomnet, Inc. Upon payment for the Shares, the
Outstanding Shares and the Underlying Shares and full compliance with all of the
terms and conditions relating to the issuance of the Shares and the Underlying
Shares and the sale of the Outstanding Shares set forth in the Prospectus and in
the Warrants, the Shares, the Outstanding Shares and the Underlying Shares will
be fully paid and nonassessable.
For the purposes of this opinion, we are assuming the proper execution of
all Warrants, the Certificates of Determination of Series A 2% Convertible
Preferred Stock and the Series B 6% Convertible Preferred Stock, the
Registration Rights Agreement relating to the Series B 6% Convertible
Preferred Stock, the Purchase Agreement for the Series B 6% Convertible
Preferred Stock, subscription agreements and conversion agreements, and that
the appropriate certificates are duly filed and recorded in every
jurisdiction in which such filing and recordation is required in accordance
with the laws of such jurisdictions. We express no opinion as to the laws of
any state or jurisdiction other than California.
We consent to the use of this opinion as an exhibit to the Registration
Statement, and we further consent to the use of our name in the Registration
Statement and the Prospectus which is a part of said Registration Statement.
Respectfully submitted,
Mark J. Richardson, Esq.
<PAGE>
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K/A
AMENDMENT NO. 1
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1996 COMMISSION FILE NO. 0-12386
INCOMNET, INC.
A California IRS Employer No.
Corporation 95-2871296
21031 Ventura Blvd., Suite 1100
Woodland Hills, California 91364
Telephone no. (818) 887-3400
SECURITIES REGISTERED PURSUANT TO SECTION 12(b)
OF THE ACT:................................................................None
SECURITIES REGISTERED PURSUANT TO SECTION 12(g)
OF THE ACT:..........................................Common Stock, No Par Value
Indicate by check mark whether the registrant (1) has
filed all reports required to be filed by Section 13
or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period
that the registrant was required to file such reports),
and (2) has been subject to such filing requirements
for the past 90 days. YES X NO__
Indicate by check mark if disclosure of delinquent
filers pursuant to Item 405 of Regulation S-K is not
contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy
or information statements incorporated by reference
in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Aggregate market value of voting common stock held by
non-affiliates of the registrant (based upon the
average of the closing bid and ask prices of $2 13/16
and $2 15/16 respectively, as reported by the NASDAQ
System on March 21, 1997) $30,958,080
Number of shares of registrant's common stock outstanding
as of March 21, 1997.................................................13,520,669
DOCUMENTS INCORPORATED BY REFERENCE: Portions of registrant's proxy statements
relating to registrant's 1997 annual meeting of shareholders have been
incorporated by reference into Part III hereof.
1
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TABLE OF CONTENTS
PAGE
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INTRODUCTORY NOTE 7
PART I
ITEM 1 - BUSINESS
General 7
Telephone Services 7
Optical Systems 7
Network Products and Services 8
National Telephone & Communications, Inc. (NTC) 8
Products 8
Network Marketing Program 8
Disclosure of Independent Representative Organizations
Related to NTC Executives 9
Wiltel Contract 9
Management Incentive Agreement 9
Reincorporation of NTC in Delaware 11
Rapid Cast, Inc. (RCI) 11
General 11
The Optical Marketplace 11
The Production and Dispensing of Prescription
Eyeglass Lenses 12
The Fast Cast LenSystem 13
Technical Overview of the Rapid Cast LenSystem 13
Marketing and Pricing Strategy 14
Manufacturing Strategy 14
Research and Development Strategy 14
Maintenance, Warranty and Insurance 14
Competition 15
Patents and Proprietary Rights 15
Governmental Regulation 16
Recent Capitalization of Rapid Cast, Inc. (RCI) 16
Issuance of Convertible Preferred Stock 20
Agreement with Price International, Inc. 22
Network Services 22
Employees, Officers and Directors 22
Employees 22
Directors and Officers 23
Appointment of New Director by the Company 24
Appointment of Committee Members 24
2
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TABLE OF CONTENTS (CONT'D)
PAGE
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ITEM 2 - PROPERTIES 24
ITEM 3 - LEGAL PROCEEDINGS 25
Class Action and Related Lawsuits 25
Settlement with RCI Parties 26
Settlement of Stevens Lawsuit 26
Settlement of the Atlanta Lawsuits 26
Section 16 (b) Lawsuit 26
Settlement of Patent Infringement Lawsuit 27
Legal Action Against Prior Representatives 27
Settlement With Prior Noteholders 27
Settlement with Price International 28
Potential Lawsuits 28
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 29
PART II
ITEM 5 - MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED
SHAREHOLDER MATTERS 29
Market Information 29
Dividends 29
ITEM 6 - SELECTED FINANCIAL DATA 29
ITEM 7 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS 30
Liquidity and Capital Resources 30
Results of Operations 31
ITEM 8 - FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA 33
ITEM 9 - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE 33
PART III
ITEM 10 - DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL
PERSONS OF THE REGISTRANT 33
ITEM 11 - EXECUTIVE COMPENSATION 33
ITEM 12 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT 34
ITEM 13 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS 34
PART IV
ITEM 14 - EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON
FORM 10-K 34
Index to Financial Statements 34
Index to Exhibits 34
Signatures 37
Report of Independent Auditors 38
Consolidated Balance Sheet 39
Consolidated Statement of Operations 40
3
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TABLE OF CONTENTS (CONT'D)
PAGE
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Consolidated Statement of Cash Flows 41
Consolidated Statement of Shareholders' Equity 42
Notes to Consolidated Financial Statements 43
Note 1 - Summary of Significant Accounting Policies 43
Note 2 - Funding of Marketing Commissions and
Deferred Income 45
Note 3 - Related Party Transactions 45
Note 4 - Acquisition of Rapid Cast, Inc. 45
Note 5 - Property, Plant and Equipment 46
Note 6 - Patent Rights from Acquisition of RCI 46
Note 7 - Investments, Notes Receivable and Other Assets 46
Note 8 - Notes Payable 46
Note 9 - Income Taxes 47
Note 10 - Shareholders' Equity 48
Note 11 - Commitments, Contingencies and Other 51
Note 12 - Network Marketing Costs 53
Note 13 - Compensation of Independent Sales
Representatives 53
Note 14 - Segment Information 53
Note 15 - Fourth Quarter Adjustments 55
Note 16 - Changes in Accounting 55
Note 17 - Subsequent Events 55
Schedule II - Valuation and Qualifying Accounts 56
Exhibit 3.1 - Certificate of Determination for Series A 2%
Convertible Preferred Stock. (Incorporated
by reference from Incomnet, Inc.'s Registration
Statement on Form S-3 filed with the Securities
and Exchange Commission on November 22, 1996.)
Exhibit 4.1 - Form of Warrant to Purchase 75,000 Shares
of Incomnet, Inc. (Incorporated by reference
from the Company's Registration Statement on
Form S-3 filed with the Securities and Exchange
Commission on May 10, 1996.)
Exhibit 4.2 - Form of Warrant to Purchase 510,000 Shares
of RCI Common Stock with Registration Rights
Agreement, dated April 19, 1996. (Incorporated
by reference from the Company's Registration
Statement on Form S-3 filed with the Securities
and Exchange Commission on May 10, 1996.)
Exhibit 4.3 - Form of Warrant to Purchase RCI Common Stock,
dated February 8, 1995. (Incorporated by reference
from the Company's Registration Statement on
Form S-3 filed with the Securities and Exchange
Commission on May 10, 1996.)
Exhibit 4.4 - Form of Warrant to Purchase 360,000 Shares
of Incomnet, Inc. (Incorporated by reference
from Incomnet, Inc.'s Pre-Effective Amendment
Number One to the Registration Statement on
Form S-3 filed with the Securities and Exchange
Commission on March 24, 1997.)
Exhibit 4.5 - Form of Warrant to Purchase 12,500 Shares of
Incomnet, Inc. (Incorporated by reference from
Incomnet, Inc.'s Pre-Effective Amendment Number
One to the Registration Statement on Form S-3
filed with the Securities and Exchange Commission
on March 24, 1997.)
Exhibit 10.1 - Employment Agreement with James Quandt, dated
January 6,
4
<PAGE>
1997. (Incorporated by reference from Incomnet,
Inc.'s Pre-Effective Amendment Number One to the
Registration Statement on Form S-3 filed with the
Securities and Exchange Commission on March 24,
1997.)
Exhibit 10.2 - Amended and Restated Management Incentive
Agreement Between NTC and Incomnet, Inc., dated
January 28, 1997. (Incorporated by reference
from Incomnet, Inc.'s Pre-Effective Amendment
Number One to the Registration Statement on
Form S-3 filed with the Securities and Exchange
Commission on March 24, 1997.)
Exhibit 10.3 - Settlement Agreements With Prior Noteholders.
(Incorporated by reference from the Company's
Registration Statement on Form S-3 filed with the
Securities and Exchange Commission on May 10, 1996.)
Exhibit 10.4 - Form of 8% Convertible Note Issued by RCI in
January 1996. (Incorporated by reference from
the Company's Registration Statement on Form S-3
filed with the Securities and Exchange Commission
on May 10, 1996.)
Exhibit 10.5 - Form of Short-Term 10% Note Issued by RCI in
April 1996. (Incorporated by reference from the
Company's Registration Statement on Form S-3 filed
with the Securities and Exchange Commission on
May 10, 1996.)
Exhibit 10.6 - Amended Carrier Switched Services Agreement with
Wiltel, Inc. dated June 17, 1996. (Incorporated by
reference from Incomnet's Registration Statement on
Form S-3 filed with the Securities and Exchange
Commission on May 10, 1996 and declared effective
on October 31, 1996, or incorporated by reference
from the Company's filings with the Securities and
Exchange Commission pursuant to the Securities
Exchange Act of 1934, as amended. Certain
information has been deleted from this agreement
pursuant to a request for confidential treatment
pursuant to Rule 406.)
Exhibit 10.7 - Settlement Agreement Between Joel W. Greenberg
and Incomnet, Inc. (Incorporated by reference from
the Company's Report on Form 8-K, dated June 7,
1996, relating to the settlement agreement with
Joel W. Greenberg and his resignation as a director
of the Company.)
Exhibit 10.8 - Form of Registration Rights Agreement Between
Incomnet, Inc. and Purchasers of Series A
Convertible Preferred Stock. (Incorporated by
reference from Incomnet's Registration Statement
on Form S-3 filed with the Securities and
Exchange Commission on May 10, 1996 and declared
effective on October 31, 1996, or incorporated by
reference from the Company's filings with the
Securities and Exchange Commission pursuant to the
Securities Exchange Act of 1934, as amended.)
Exhibit 10.9 - Form of Purchase Agreement for the Series A 2%
Convertible Preferred Stock. (Incorporated by
reference from Incomnet's Registration Statement
on Form S-3 filed with the Securities and Exchange
Commission on May 10, 1996 and declared effective
on October 31, 1996, or incorporated by reference
from the Company's filings with the Securities and
Exchange Commission pursuant to the Securities
Exchange Act of 1934, as amended.)
Exhibit 10.10 -Management Incentive Agreement with NTC, dated
October 14, 1996. (Incorporated by reference from
Incomnet, Inc.'s Registration Statement on Form S-3
filed with the Securities and Exchange Commission
on November 22, 1996.)
Exhibit 10.11 -Settlement Agreements With Edward Jacobs and
Jerry Ballah, dated November 14, 1996.
(Incorporated by reference from
5
<PAGE>
Incomnet, Inc.'s Registration Statement on Form S-3
filed with the Securities and Exchange Commission on
November 22, 1996.)
Exhibit 10.12 - Shareholders Agreement for Rapid Cast, Inc.,
dated January 16, 1997. (Incorporated by reference
from Incomnet, Inc.'s Pre-Effective Amendment Number
One to the Registration Statement on Form S-3 filed
with the Securities and Exchange Commission on
March 24, 1997.)
Exhibit 10.13 - Registration Rights Agreement for Rapid Cast,
Inc., dated January 16, 1997. (Incorporated by
reference from Incomnet, Inc.'s Pre-Effective
Amendment Number One to the Registration Statement
on Form S-3 filed with the Securities and Exchange
Commission on March 24, 1997.)
Exhibit 10.14 - Settlement Agreement and Mutual Release Between
Incomnet, Inc. and the RCI Parties, dated
January 9, 1996. (Incorporated by reference from
Incomnet, Inc.'s Pre-Effective Amendment Number One
to the Registration Statement on Form S-3 filed
with the Securities and Exchange Commission on
March 24, 1997.)
Exhibit 10.15 - Lease Agreement By NTC for space in Honolulu,
Hawaii. *
Exhibit 10.16 - Credit Agreement dated March 27, 1997 between
National Telephone & Communication, Inc. and
First Bank & Trust, Irvine Regional office. *
Exhibit 21 - Subsidiaries of the Registrant *
Exhibit 27 - Financial Data Schedule *
* Previously Filed on Form 10-K filed with the Securities and
Exchange Commission on April 15, 1997
6
<PAGE>
INTRODUCTORY NOTE
This Annual Report on Form 10-K contains certain forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933 and Section
21E of the Securities Exchange Act of 1934. The Company intends that such
forward-looking statements be subject to the safe harbors created by such
statutes. The forward-looking statements included herein are based on current
expectations that involve a number of risks and uncertainties. Accordingly,
to the extent that this Annual Report contains forward-looking statements
regarding the financial condition, operating results, business prospects or
any other aspect of the Company and its subsidiaries, please be advised that
the Company and its subsidiaries' actual financial condition, operating
results and business performance may differ materially from that projected or
estimated by the Company in forward-looking statements. The differences may
be caused by a variety of factors, including but not limited to adverse
economic conditions, intense competition, including intensification of price
competition and entry of new competitors and products, adverse federal, state
and local government regulation, inadequate capital, unexpected costs and
operating deficits, increases in general and administrative costs, lower
sales and revenues than forecast, loss of customers, customer returns of
products sold to them by the Company or its subsidiaries, disadvantageous
currency exchange rates, termination of contracts, loss of supplies,
technological obsolescence of the Company's products, technical problems with
the Company's products, price increases for supplies and components,
inability to raise prices, failure to obtain new customers, litigation and
administrative proceedings involving the Company, including the pending class
action and related lawsuits and SEC investigation, the possible acquisition
of new businesses that result in operating losses or that do not perform as
anticipated, resulting in unanticipated losses, the possible fluctuation and
volatility of the Company's operating results, financial condition and stock
price, losses incurred in litigating and settling cases, dilution in the
Company's ownership of its subsidiaries and businesses, adverse publicity and
news coverage, inability to carry out marketing and sales plans, challenges
to the Company's patents, loss or retirement of key executives, changes in
interest rates, inflationary factors, and other specific risks that may be
alluded to in this Annual Report or in other reports issued by the Company.
In addition, the business and operations of the Company are subject to
substantial risks which increase the uncertainty inherent in the
forward-looking statements. In light of the significant uncertainties
inherent in the forward-looking information included herein, the inclusion of
such information should not be regarded as a representation by the Company or
any other person that the objectives or plans of the Company will be achieved.
PART I
ITEM 1. BUSINESS
GENERAL:
Incomnet, Inc. (the "Company") was incorporated under the laws of the State of
California on January 31, 1974. The Company is engaged in the following
businesses:
TELEPHONE SERVICES- The Company, through its wholly-owned subsidiary,
National Telephone & Communications,-Registered Trademark- Inc. (NTC),
markets long distance telecommunications services to commercial and
residential customers in the United States. Service is provided by procuring
long distance telecommunications transmission services from long distance
communication carriers at high volume wholesale rates and reselling those
services at retail rates. NTC uses a network marketing program of
independent representatives to sell its telecommunications-related services
to retail customers. The growth in NTC's telecommunications-related revenues
is directly tied to its network marketing program. NTC's independent
representatives typically pay an annual fee for certain materials, training
and services from NTC which are used by the independent representatives to
sell new retail customers and enroll other representatives in the NTC
program. NTC pays the independent representatives a residual monthly
commission on the telecommunications revenue. In addition, the network
marketing program pays various bonuses and overrides when and if
representatives obtain a minimum number of new telephone customers within a
specific 30 to 60 day period. This program has been designed to bring NTC new
retail telephone customers even if little or no growth occurs in the
marketing program revenues. The new telecommunications revenues generally lag
the new marketing program revenues by one to three months. Sales from this
segment accounted for 94.2% of the Company's total 1996 sales.
7
<PAGE>
OPTICAL SYSTEMS- The Company, through its 35%-owned subsidiary Rapid Cast, Inc.
(RCI), acquired in February 1995, manufactures and markets the FastCast-TM-
LenSystem that allows retail optical stores and wholesale optical lens
manufacturing laboratories to produce single vision, flat-top bifocal and
progressive bifocal lenses on demand, in approximately 30 minutes. The
FastCast-TM- LenSystem uses a series of high-accuracy prescription glass molds
that are filled with a proprietary liquid monomer (plastic). When exposed to
ultraviolet light within the system's curing chamber, the monomer undergoes a
chemical reaction that rapidly "cures" or hardens the lens. Sales from this
segment accounted for 4.4% of the Company's total 1996 sales. Rapid Cast's
operating results are included in the accompanying financial statements.
NETWORK PRODUCTS AND SERVICES- The Company acquires and/or develops hardware
and software, primarily for interactive data communications networks. In this
regard, the Company operates a communications network known under the tradename
"AutoNETWORK" that services the automotive dismantling industry in California,
Nevada, Arizona, Oregon and Washington. Sales from this segment accounted for
1.4% of the Company's total 1996 sales.
NATIONAL TELEPHONE & COMMUNICATIONS, INC. (NTC):
PRODUCTS - NTC is an inter-exchange carrier and reseller of long distance
telephone services to residential and small business customers throughout the
United States. NTC's primary product is its Dial-1 Telephone Service. Its other
long distance telephone products are 800-Number Services and Calling Card
Services, which include the Flag Card, Sure$aver Card, Sure$aver Gold Card,
Global$aver Card, and Call$aver Card.
In order to provide these products, NTC generally contracts to purchase long
distance telephone time from national carriers at wholesale rates based upon
high volume usage. NTC then resells this time to its customers at its own
discounted retail rates which are generally 10% to 30% or more below AT&T's
published, tariffed MTS rates. NTC's Dial-1 Service is transparent to its
customers once a customer's long distance service has been converted to NTC.
NTC's calling card products operate similarly to the calling card products
offered by the major carriers. NTC's customers pay for their long distance
calling usage either through direct billing from NTC , through billing from
the customer's local exchange carrier ("LEC"), through direct billing by NTC
of the customer's major credit card, or by prepaying for long distance time
in the case of certain NTC calling card products. In certain states, NTC has
an agency agreement with an unaffiliated company which bills customers' local
intrastate calls through the local telephone company. Commencing in the
second quarter of 1996, NTC increased its use of LECs to bill and collect
telephone service accounts receivable. The increase in the use of LECs has
increased the amount of time that it takes for NTC to receive payment on its
accounts receivable.
NETWORK MARKETING PROGRAM - NTC markets its products on a nationwide basis
through a multi-level, network marketing program of independent sales
representatives. NTC authorizes and trains the independent representatives
to resell its services to residential and small business customers, and
allows the individual representatives to build up their own "downline" sales
force of other independent representatives. NTC currently has in excess of
40,000 independent representatives in its network marketing program. Once an
independent representative has signed up a long distance telephone customer
on one or more of NTC's services/products, the customer becomes an NTC
customer. NTC takes over the servicing and billing of the customers as well
as the collection of monies owed by the customers for their use of the NTC
telephone services/products. NTC pays each independent representative a
commission on the telephone usage monies billed to those retail telephone
customers who are directly sourced by that representative. NTC also pays
override commissions to each independent representative on the monies billed
to those telephone customers sourced by the representative's downline as well
as a bonus percentage of all telephone monies billed by NTC from the retail
telephone customers collectively sourced by all independent representatives,
if certain minimums of retail telephone business are personally achieved by
the representative. In addition, NTC pays sales quota bonuses to independent
representatives for assisting other representatives to obtain certain minimum
quotas of new retail long distance telephone business. NTC does not pay any
monies to independent representatives simply for recruiting other
representatives into NTC's network marketing program. NTC generally
maintains communications with its independent representatives through (1)
NTC's proprietary communications systems, (2) NTC's internal personnel
dedicated to the support of the independent representatives, (3) various NTC
manuals, newsletters and other publications that are periodically and
continually sent to the independent representatives, (4) NTC's network
8
<PAGE>
of senior independent representatives, and (5) various training programs offered
by NTC and its senior independent representatives throughout the United States.
NTC believes it is in compliance with all State and Federal regulations
governing multi-level marketing companies. However, to ensure the Company has
objective and knowledgeable outside legal opinion in this area, NTC has formed a
Regulatory Compliance Committee consisting of four former States Attorney
General that periodically reviews NTC's marketing programs for such compliance.
DISCLOSURE OF INDEPENDENT REPRESENTATIVE ORGANIZATIONS RELATED TO NTC EXECUTIVES
- - In order to eliminate potential conflicts of interest, at the end of 1992, NTC
implemented its current policy that no senior, decision-making NTC executive or
officer may have a downline organization of independent representatives involved
with the selling of NTC's long distance telephone services and/or marketing
programs ("Executive Downlines"). Violation of this policy subjects such an NTC
officer/executive to immediate termination and forfeiture of all past and future
commissions from such disallowed Executive Downlines. To the best of the
Company's knowledge, none of NTC's senior officers/executives have an Executive
Downline, including Ed Jacobs (Chairman of the Board), James R. Quandt
(President), Victor C. Streufert (Vice President of Finance and Administration
and Chief Financial Officer), Debra Chuckas (Vice President-Marketing Support),
Louis W. Cheng (Vice President-Information Services), and Michael A. Keebaugh
(Vice President of Operations).
In addition, NTC's current policy requires full disclosure by all senior NTC
officers and executives of any NTC downline organizations headed by an immediate
family member of such senior officer or executive as well as disclosure of the
personal involvement of an immediate family member in the sale of NTC's long
distance telephone services to retail customers ("Immediate Family
Customers/Downlines"). To the best of the Company's knowledge, none of NTC's
senior officers or executives have Immediate Family Customers/Downlines.
WILTEL CONTRACT - In September 1995, NTC entered into a new carrier contract
with Wiltel, Inc. of Tulsa, Oklahoma, a subsidiary of WorldCom, Inc., covering a
potential volume purchase of $600 million of long distance telephone time over a
five year period commencing in November 1995. Effective February 1996, NTC
entered into a revised multiple-year $1.0 billion contract with Wiltel, Inc.,
which has a fixed term expiring January 2002. As in the prior carrier contract
with Wiltel, Inc., NTC has committed to purchase the designated volume of
telephone time in accordance with a schedule over the term of the contract. NTC
currently relies in part on the purchases of another unaffiliated long distance
telephone service provider to meet its volume purchase requirements under the
new contract.
MANAGEMENT INCENTIVE AGREEMENT - On January 28, 1997 the Company entered into
an amended and restated management incentive agreement with NTC pursuant to
which the Company agreed to spin-off 10% of the shares it owns in NTC, to
establish stock option programs for the senior executives, employees and key
independent sales representatives of NTC, and to vote its shares for NTC
management's slate of director nominees. The new management incentive
agreement entirely supersedes the incentive agreements entered into by the
Company with NTC in February and November 1996. See "Item 5. Other
Information - Agreement with NTC Management" in the Company's Form 10-Q for
the quarter ended September 30, 1996. In November 1996 the Company also
entered into settlement agreements with Edward Jacobs and Jerry Ballah (the
former Executive Vice President and director of NTC, who is now the Executive
Director, Global Marketing of NTC's network marketing program as a consultant
to NTC), pursuant to which mutual general releases were given. The Company
agreed to assume certain debt obligations of Mr. Jacobs and Mr. Ballah to
NTC, as well as to make a cash payment to them to cover their tax liabilities
from the debt forgiveness. See "Item 5. Other Information - Settlement
Agreement with NTC Directors" in the Company's Form 10-Q for the quarter
ended September 30, 1996. With respect to a potential spin-off of NTC shares
by the Company, there is no assurance as to if or when a spin-off will occur,
or whether or not NTC will make a public offering of its stock.
9
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The amended and restated management incentive agreement essentially contains the
same terms and conditions as the agreement entered into in November 1996, except
as follows: The Company and NTC agree that the Company, as the owner of 100% of
the total issued and outstanding stock of NTC, owns ten million shares of NTC.
The three NTC stock option plans previously agreed to have been revised. The
Company and NTC have now agreed that there will be three stock option plans and
one convertible debt plan. The exercise price of all stock options issued under
the option plans will not be less than the fair market value of NTC common stock
on the date of the grant, and the conversion price of the convertible debt
issued under the convertible debt plan will not be less than the fair market
value of NTC common stock on the date of the issuance of the convertible
debenture. Shares issuable pursuant to the plans are expected to be registered
with the Securities and Exchange Commission no later than at the time of NTC's
planned public offering. Upon the creation of the plans and first grant of
options and convertible debt units pursuant to the plans, Edward Jacobs will
waive his rights to all remaining outstanding unexercised warrants and options
issued to him by the Company pursuant to his employment agreement, dated
December 28, 1994.
The first stock option plan is the one for key independent sales
representatives. A total of 2,884,615 shares are reserved for issuance under
this plan. Options to purchase 961,538 shares of NTC common stock have been
granted to key independent sales representatives who are Corporate Team
members, 480,769 of which will vest on June 30, 1998, subject to acceleration
if NTC's public offering occurs prior to January 1, 1998. Options to
purchase the other 480,769 shares will vest on June 30, 1999. The remaining
1,923,077 shares reserved for issuance pursuant to stock options granted
under this plan may be granted to key independent sales representatives after
each of June 30, 1997, December 31, 1997, June 30, 1998 and December 31, 1998
if NTC's gross revenues for the three month periods ending on each of such
dates exceed NTC's gross revenues for the corresponding three month periods
ending December 31, 1996, June 30, 1997, December 31, 1997 and June 30, 1998,
by the percentage amounts indicated on the following table:
<TABLE>
<CAPTION>
Percentage Increase in NTC Gross Revenues In Number of Options Available For Grant At End
Comparative Three Month Period of Each Period(1)
------------------------------ -----------------
<S> <C>
30% 125,000
40% 250,000
50% 500,000(1)
</TABLE>
- --------------------
(1) Stock options in the amount indicated may be granted at the end of each of
the four comparative three month periods. If the percentage increase for all
four of the comparative periods is 50% or more, then the total stock options
available for grant in the fourth period would be 423,077 instead of 500,000
because there are 1,923,077 (not 2,000,000) options available for grant under
this portion of the key independent sales representatives' stock option plan.
These stock options, once granted, will vest in four equal annual installments
on each anniversary date after the stock option grant date. The NTC Board of
Directors will determine when and to whom these stock options will be granted.
The second stock option plan is the one for NTC executives, employees and key
consultants. A total of 3,705,001 shares are reserved for issuance under
this plan. Options representing 1,446,076 of these reserved shares will be
subject only to a time-in-service vesting requirement, but in no event will
such options vest prior to January 1, 1998. Options representing 1,682,051
of the reserved shares will vest in four equal annual installments on each
anniversary date of the option grant date, subject to the acceleration of
vesting in the event that NTC achieves certain income targets in 1997, to be
determined by the NTC Board of Directors. No more than 480,770 shares
issuable pursuant to options granted under this plan may be issued to persons
eligible to receive convertible debt units under the Senior Executive and
Consultant Convertible Debt Plan described below in this section. The NTC
Board of Directors will determine when and to whom these stock options will
be granted.
Options representing 576,924 shares will be reserved under this plan for
issuance to persons eligible to receive convertible debt units under the
Senior Executive and Consultant Convertible Debt Plan described below in this
section in equal amounts. These options will be granted upon the creation of
the plan but will not vest until January 31, 2002, except that the vesting of
these options will accelerate in the following amounts if NTC achieves
revenues which exceed the following amounts for any calendar quarter ending
prior to January 1, 2000.
QUARTERLY REVENUES NUMBER OF SHARES VESTING
------------------ ------------------------
$100 million 192,308
$125 million 192,308
$180 million 192,308
The third stock option plan is the one for members of NTC's Board of
Directors. A total of 300,000 shares are reserved for issuance under this
plan. Each director of NTC will receive an option to purchase 25,000 shares
of NTC common stock which will vest in four equal annual installments on each
anniversary date of the option grant date.
10
<PAGE>
The fourth option plan is the Senior Executive and Consultant Convertible
Debt Plan for Edward Jacobs and Jerry Ballah. A total of 2,664,231 shares are
reserved for issuance under this plan to be allocated between Mr. Jacobs and
Mr. Ballah as determined by the NTC Board of Directors. These units will
vest upon grant. A portion of the convertible debt units granted under this
plan may be assignable.
The amended and restated NTC management incentive agreement provides that,
until four additional independent directors are appointed to the NTC Board of
Directors, if a vacancy is created on the NTC Board of Directors by reason of
the death, resignation or removal, with or without cause, of Mr. Jacobs or
Mr. Ballah, then the Company has agreed to vote its shares for the individual
nominated by the remaining NTC management director. In addition to the
regular members of the NTC Board of Directors, a key independent sales
representative may be nominated and elected to the NTC Board of Directors on
a rotating basis, such that the same sales representative cannot serve
consecutive terms. NTC has agreed to make total cash payments to the Company
on or before December 31, 1997 equal to $2,200,000, of which $1,200,000 of
payments have already been made as of March 17, 1997. The cash payments of
up to $2,200,000 by NTC to Incomnet, Inc. will be treated as a return of
capital to the Company. NTC may make advances to Incomnet, Inc. in excess of
its cash payment obligation of $2,200,000, subject to the limitations of its
credit agreement, which Incomnet, Inc. will be obligated to repay with
interest upon demand. Any charge to earnings or taxable income associated
with advances made by NTC to Incomnet, Inc. or costs incurred in the spin-off
of NTC shares will be incurred by Incomnet, Inc. for financial reporting
purposes rather than by NTC.
REINCORPORATION OF NTC IN DELAWARE
Effective March 21, 1997, NTC, previously a Nevada corporation,
reincorporated under the laws of the State of Delaware. Pursuant to its new
Articles of Incorporation, NTC has authorized 100 million shares of common
stock, par value $.01 per share, of which 10 million shares are issued and
outstanding, all of which are held by Incomnet Inc., and 1.5 million shares
of preferred stock, none of which are issued or outstanding.
RAPID CAST, INC. (RCI):
GENERAL - RCI is a Delaware corporation formed in February 1994 which acquired
100% of the outstanding capital stock of Q2100, Inc. ("Q2100") from Pearle,
Inc., an unaffiliated subsidiary of Grand Metropolitan, Ltd., a United Kingdom
conglomerate. Q2100 owns certain domestic and foreign patents and patent
applications relating to a new technology, commonly known as Thick Film
Radiation Cured Polymer Technology (the "Technology"), which enables retail
optical stores and wholesale optical lens manufacturing laboratories to produce
many prescription ophthalmic lenses on site at a cost generally lower than if
they were purchased from third party manufacturers or distributors. RCI is
marketing the Technology under the name Fast Cast-TM- LenSystem.
THE OPTICAL MARKETPLACE - Nearly 60% of the United States population
(approximately 151 million people) required some form of vision correction in
1992, according to CENSUS INTERNATIONAL '93: THE OPTICAL INDUSTRY FACT BOOK
("Census93"). It is estimated that, by the year 2000, the United States
prescription eyewear population will rise to approximately 164 million people
and that, in the following decade, over 180 million people will use prescription
eyewear products. Census93 reports that, in the approximately $11.9 billion
United States retail optical market in 1992, the average optical retailer's
breakdown of dollar revenue by product category was: (a) approximately 47% (or
nearly $5.6 billion) from the sale of eyeglass lenses and lens treatments (e.g.,
the application of scratch-resistant and ultraviolet
11
<PAGE>
coatings), (b) approximately 38% from the sale of eyeglass frames and
sunglasses, and (c) approximately 15% from the sale of contact lenses.
Census93 reports that, out of the approximately 80 million pairs of
prescription eyeglass lenses sold in the United States in 1992, an estimated
55% to 60% were single vision lenses, while an estimated 40% to 45% were
multifocal lenses (i.e., bifocal, trifocal and cataract lenses). According
to Census93, bifocal lenses currently constitute the substantial majority of
consumer purchases of multifocal lenses, representing an estimated average of
approximately 84% of all multifocal lenses purchased in the years 1987, 1989
and 1991. Multifocal lenses are produced as either "flat-top" or
"progressive" lenses. Progressive lenses are distinguished from flat-top
lens by the absence of visible horizontal lines separating the different
corrective prescription areas. Census93 reports that, by the end of 1992,
flat-top bifocal and trifocal lenses held approximately 79% of the multifocal
market, while approximately 21% of this market consisted of progressive
lenses. The LenSystem is capable of producing single vision, flat-top
bifocal and progressive bifocal lenses. Although no assurance can be given
in this regard, RCI believes that the market for progressive bifocal lenses
offers particularly great opportunities, both because of the potential to
convert persons currently wearing flat-top bifocals to the "no-line" option
offered by progressive lenses, and because the bulk of the baby boomer
generation (ages 30 to 49 in 1994) has not yet reached their early 40s, when
people typically first experience the presbyopia that requires correction by
bifocals.
Single vision and multifocal prescription eyeglass lenses are currently
manufactured using one of three basic types of materials. According to Census93,
the two conventional materials, glass and hard-resin plastic, accounted
respectively for approximately 13% and 64% of 1993 United States prescription
lens sales, while the newer premium materials such as polycarbonates, high index
plastic and high index glass, accounted for approximately 23% of such sales.
Within the categories of single vision and multifocal lenses, there are many
types of premium lenses (generally designed to be especially thin, strong,
and light) that the LenSystem currently cannot manufacture: (a) high index
plastic and high index glass lenses, which generally are very thin,
lightweight lenses used to reduce the thickness of very high strength
prescription lenses; (b) polycarbonate lenses, which are made from a material
with superior impact resistance and are typically used for sports and other
eye-safety purposes; and (c) aspheric lenses, which are made to have flatter
curves than conventional spherical lenses, thereby improving visual acuity
and the appearance of the eyes through the lenses. Census93 estimates that
aspheric lenses represented about 1% of 1992 United States sales of
prescription lenses. RCI anticipates that sales of high index lenses will
continue to grow steadily over the next several years.
During the years 1990 through 1992, the United States market of contact lens
wearers remained basically flat, according to Census93, at approximately 25
million users. There can be no assurance, however, that technological
developments, medical advances, changes in consumer tastes or other factors will
not cause the use of contact lenses to grow significantly in the future at the
expense of prescription eyeglass lenses. Census93 reports that, despite the
recent flat rate of overall contact lens use, a Bausch & Lomb study has found
that first-time usage of disposable contact lenses grew at a compounded annual
growth rate of 47% from 1989 through 1992.
THE PRODUCTION AND DISPENSING OF PRESCRIPTION EYEGLASS LENSES - As previously
noted, approximately 77% of all conventional single vision and multifocal
prescription eyeglass lenses are currently manufactured from glass or hard-resin
plastic. According to Census93, during the years 1991 through 1993 hard-resin
plastic was used in the manufacturing of approximately 82% of all prescription
lenses made from conventional materials. Although there can be no assurance in
this regard, RCI anticipates that the use of glass in manufacturing conventional
lenses will decrease over time due to a variety of factors, including its
relatively greater weight and inferior impact resistance.
After being prescribed for an individual by his or her medical doctor
(ophthalmologist) or optometrist, prescription eyeglass lenses reach the
consumer through three traditional channels: independent dispensers (consisting
of thousands of private sector optometrists, opticians and ophthalmologists),
retail optical chain stores (i.e., retailers having at least four stores,
including so-called "superoptical" stores or "superstores", mass merchandisers
and warehouse membership clubs), and miscellaneous third party and other
dispensers. Census93 estimates that independent dispensers accounted for
approximately 62% of 1992 United States optical sales, retail optical chain
stores accounted for approximately 33% of such sales, and third party and other
dispensers accounted for approximately 5% of such sales.
12
<PAGE>
The substantial majority of glass and hard-resin plastic prescription lenses
purchased in the United States are currently obtained from lens dispensers (such
as independent optometrists, opticians, ophthalmologists and retail chain
stores) who do not manufacture the lenses on-site. They instead obtain lenses
from third party manufacturers and distributors, including hundreds of large
factories and large, mid-sized and small wholesale manufacturing laboratories.
These manufacturers and distributors have invested in the space and equipment
required to grind glass or plastic lenses into a specific prescription and then
to finish (i.e., polish) the lenses in order to provide clarity. In the case of
plastic lenses, these manufacturers additionally possess the molds and other
machinery required in order to form and then "cure" (i.e., harden) such lenses.
Conventional curing processes utilize heat-driven reactions to harden the
plastic. Heat-curing processes are relatively time-consuming, generally
requiring between approximately six and 16 hours, depending upon the specific
type of plastic involved.
In most cases, a retail lens dispenser who obtains finished lenses from third
party manufacturers and distributors cannot offer consumers "same day" service
unless that retailer maintains a relatively large, mostly idle and generally
expensive inventory of lens blanks. This inventory generally has consisted
principally of single vision and flat-top bifocal lenses, due to the
historically greater demand for such lenses. Even a retailer who maintains a
very extensive inventory of lens blanks typically must place special orders for
the majority of lenses required to fill more complex prescriptions and for most
premium lenses. Filling any such order generally takes one or more days.
Largely as a result of these limitations in the ability of retail lens
dispensers to provide consumers with same day service for certain lenses,
full service eyeglass lens manufacturing began to move into retail optical
outlets in the form of the so-called "superoptical store". Many of these
superstores are operated by the large retail optical chain stores, such as
LensCrafters, Opti-World and Pearle Express. A "superoptical store" is
generally understood in the United States optical industry to be a retail
store with the on-site equipment necessary to produce the great majority of
finished prescription lenses in about one hour. The required equipment
generally consists of a surfacing (or grinding) laboratory and a finishing
machine. According to Census93, superoptical stores rarely fall below 1,900
square feet in total area. In addition to an investment in equipment and
space, a superoptical store typically requires the maintenance of a largely
idle inventory of semi-finished lens blanks.
THE FAST CAST LENSYSTEM - The LenSystem incorporates a new technology called
Thick Film Radiation Cured Polymer Technology, which uses ultraviolet light
instead of heat to initiate the chemical reaction that hardens the Fast Cast
Liquid Monomer into a plastic lens. The Technology resulted from a research
program that was initially begun in 1985 by the University of Louisville. In
1988, Dr. Larry Joel, one of the RCI founding shareholders, and others formed
ORGIC, which contracted with the University of Kentucky to sponsor and continue
that research program in return for the ownership of all resulting patents and
discoveries. By 1990, ORGIC (then majority-owned by Dr. Joel and the
predecessor of Q2100) had developed and tested a new liquid monomer, an
ultraviolet curing unit and a lens casting machine. ORGIC believed that
equipment utilizing the Technology could permit on-site production of
prescription eyeglass lenses at a low cost and in a very short amount of time.
ORGIC also believed that, in order to commercialize the use of such equipment
and effectively bring it to the marketplace, financial and other resources would
be required that ORGIC did not possess. In 1991, ORGIC, with the Technology
(together with all related issued patents and patent applications), was sold to
Pearle and subsequently renamed Q2100, Inc. On February 8, 1995, RCI purchased
100% of Q2100 from Pearle, and the Company purchased 51% of RCI. See "Item 1.
Business - Acquisition of Rapid Cast, Inc." in the Company's Form 10-K for the
fiscal year ending December 31, 1995.
TECHNICAL OVERVIEW OF THE FAST CAST LENSYSTEM - The Rapid Cast LenSystem
consists of three primary components: The Fast Cast Mold and Gasket Library,
the Fast Cast Liquid Monomer (the "Monomer"), and the Fast Cast Ultraviolet
Curing Unit (the "Curing Unit"). The Fast Cast Mold and Gasket Library is used
to create the actual mold assembly from which a lens will be made. Once the
type of lens (i.e., single vision, flat-top bifocal or progressive bifocal) and
prescription to be produced are known, a front mold and a back mold are selected
from an easy to read wall chart. A gasket is used to hold the front and back
molds in place, creating a mold assembly consisting of a hollow cavity. This
cavity is then filled with the Fast Cast Liquid Monomer.
The Fast Cast Liquid Monomer is a proprietary monomer that is injected in liquid
form into the mold assembly using a standard squeeze bottle. This Monomer is a
"thick film" monomer, meaning that its thickness is best measured in parts of
centimeters (as opposed to thin film monomers, which are measured in parts of
millimeters). The Fast Cast Liquid Monomer is chemically inert and, because it
is cured by ultraviolet light, does not require the addition of a separate
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<PAGE>
chemical initiator for the hardening process. As a result of its chemical
stability, the Fast Cast Liquid Monomer has a shelf-life of many years and
does not require special shipping and storage precautions. These advantages
are not generally realized by conventional lens manufacturing processes which
use hard-resin monomers to produce plastic lenses. These conventional
monomers (such as the CR-39 Monomer, which has long been the substance most
commonly used in manufacturing plastic lenses) require the addition of
chemical initiators prior to being cured, and those initiators are in some
cases flammable or explosive prior to being mixed with the monomer.
Temperature-controlled shipping and storage arrangements must accordingly be
made, and cold storage facilities must be utilized even after the monomer and
initiator are mixed, since the resulting substance hardens and becomes
useless when exposed for an extended period to temperatures above
approximately 25 degrees fahrenheit.
The Curing Unit controls the chemical reaction that occurs when the Fast Cast
Liquid Monomer is exposed to ultraviolet light. It monitors the exact
temperature of the lens during this reaction, utilizing multiple cold air jets
to control the temperature of each sector of a lens. The Curing Unit also
continuously monitors the energy output of the ultraviolet light in order to
maintain a constant output, even with fluctuations in electrical current. RCI
currently intends to utilize two versions of the Curing Unit, which differ only
in the quantity of the lenses that can be produced at one time. The Premier
Curing Unit will cure two pairs of lenses within approximately 30 minutes. The
smaller Deluxe Curing Unit will cure one pair of lenses in the same amount of
time. In addition, the front mold assembly may be coated with a scratch
resistant coating and then cured with high intensity UV light onto the mold
surface. This coating then adheres to the lens during the curing process.
A lens produced by the LenSystem can be subjected to the application of various
additional treatments (such as scratch resistant, anti-reflective and
ultraviolet coatings) using the same materials and process now employed to apply
such coatings to conventional plastic lenses. Scratch resistant and ultraviolet
coatings can generally be applied on site in under ten minutes, whereas the
application of an anti-reflective coating requires that the lens be sent out to
a third party service company. If inadequacies appear in the LenSystem during
day to day operation, there is no assurance that any such inadequacies can be
corrected at commercially acceptable cost, or at all.
Certain RCI customers have experienced technical problems with the LenSystem,
including the calibration of the molds, the generation of heat by the Curing
Unit, and related problems. As a result, machine orders have declined
significantly while RCI works on corrective measures. While RCI management
believes that the design and functional problems can be corrected, there is
no assurance that these problems will be resolved or that new problems will
not arise. There is no assurance that the rate of machine orders received by
RCI will stabilize or increase in the future.
MARKETING AND PRICING STRATEGY - RCI expects that initially the bulk of RCI's
revenues will be derived from sales of equipment and that as the installed
base of equipment stabilizes, an increasing share of revenues will be derived
from Monomer sales. RCI is initially seeking to market the LenSystem
principally to operators of retail optical stores and small to mid-sized
wholesale lens manufacturing laboratories, both inside and outside the United
States. Currently the sale price for a single LenSystem with one set of molds
is approximately $37,000 for a smaller unit and $43,000 for a larger unit.
Operators may be able to lease RCI equipment from third party lessors for
approximately $750 to $950 per month at current interest rates over a 60
month period. RCI expects that each purchaser or lessee of a LenSystem will
at least initially use RCI's Fast Cast Liquid Monomer.
RCI does not believe that, in the short term, marketing of the LenSystem will
require the purchase of significant print, television, radio or other
advertising. RCI instead anticipates that the LenSystem will receive a large
amount of nonpaid publicity within trade magazines that regularly report on
technological changes in the optical industry. RCI may nonetheless utilize
limited print advertising in optical industry trade magazines for the purpose
of highlighting the LenSystem's perceived advantages. RCI currently intends
to focus its marketing resources in the short term on the introduction and
demonstration of the LenSystem at one or more optical industry conventions
and trade shows. RCI believes that such conventions will provide an
attractive forum for exhibiting the LenSystem's limited space requirements,
ease of use and high quality output.
MANUFACTURING STRATEGY - RCI currently does not have the facilities or the
experience to manufacture the components of the LenSystem and has no plans to
develop its own manufacturing capabilities. RCI currently has such
components manufactured through subcontractors.
RESEARCH AND DEVELOPMENT STRATEGY - RCI anticipates that its research and
development efforts will emphasize the further development and enhancement of
the Technology and the LenSystem, generally in response to potential future
changes in technologies, customer preferences and optical industry standards.
Should RCI be unable to anticipate these changes (whether because of a lack
of adequate research and development funding or otherwise) or fail to improve
the LenSystem or develop new technologies in response to these changes, RCI's
ability to grow and become profitable could be materially adversely affected.
RCI has experienced several customer requests for service and replacement
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<PAGE>
parts due to problems with the design and functioning of certain aspects of the
Fast Cast LenSystem. As a result, RCI is making design modifications and
servicing these customers, which have resulted in increased costs and slower
sales than anticipated. RCI believes that it will be able to satisfy these
customers and make the necessary design modifications to solve the problems.
There is no assurance, however, that RCI's design modifications will solve the
current problems with the Fast Cast LenSystem or that future design and
operating problems may not occur.
More specifically, RCI believes that, in addition to single vision, flat-top
bifocal and progressive bifocal lenses, the Technology could be enhanced to
enable it to produce other existing types of prescription lenses as well as
new lens designs that may be developed in the future. If and to the extent
funds become available, RCI accordingly expects that it might seek to improve
the LenSystem so as to broaden the range of low cost, high quality lenses it
can produce. There can be no assurance, however, that RCI will in fact ever
undertake to develop any such improvements or that any effort to do so would
be successful or commercially viable. RCI does not currently anticipate that
it will conduct future research and development relating to technologies or
products that are not related to the on-site production of prescription
eyeglass lenses. There can be no assurance that, if conducted in the future,
any of RCI's research and development efforts will be successful, be
completed in a timely manner, improve RCI's profitability, or enable it to
respond effectively to technological or medical advances or new product
developments by competitors.
MAINTENANCE, WARRANTY AND INSURANCE - Initial sales of LenSystems are supported
by sales and technical representatives who provide installation and training
services. RCI provides its customers with a complete operations manual and
training videos. RCI currently offers the LenSystem with a one year warranty
for parts and labor. RCI currently maintains product liability insurance which
provides coverage of $6,000,000 per occurrence and $7,000,000 in the aggregate.
There can be no assurance that the coverage provided by those policies is
sufficient to protect RCI against liability. RCI's inability or failure to
protect itself adequately against such liabilities could have a material adverse
effect upon its prospects, financial condition and results of operations.
COMPETITION - The prescription ophthalmic lens industry is intensely
competitive. Numerous manufacturers and distributors currently supply United
States lens dispensers, including such dispensers as retail optical stores and
small to mid-sized wholesale optical lens manufacturing laboratories. These are
the customers to whom RCI initially intends to market the LenSystem. Many of
these manufacturers and distributors are currently capable of supplying lenses
to a lens dispenser within 24 hours after receipt of the dispenser's order, and,
in many cases they can do so at prices competitive with the cost of producing
such lenses utilizing the LenSystem. Innotech Corporation is one competitor of
RCI which uses plastic to produce lenses. RCI believes that the LenSystem has
superior quality (i.e. better durability) and equivalent pricing to other
manufacturers of single vision lenses, and both superior quality and lower
pricing with respect to flat-top bifocal and progressive bifocal lenses.
If RCI is successful in marketing the LenSystem, it anticipates that other
companies or entities will attempt to develop competitive lens casting systems
capable of being placed in retail optical store locations. Potential
competitors may include companies that own large optical lens manufacturing
factories, owners of chains of retail optical stores, large wholesale optical
lens manufacturing laboratories, mass merchandisers and warehouse membership
clubs that have entered or may enter the retail optical industry, companies in
the optical instrument business, companies in the contact lens industry,
pharmaceutical and chemical companies that have entered or may enter the retail
optical industry or the optical lens manufacturing industry, and universities
and public research organizations. Many of these competitors have substantially
greater financial, technological, research, product development, manufacturing,
sales, marketing and human resources than RCI.
There can be no assurance that one or more of these competitors will not
develop a system for on-site production of prescription ophthalmic lenses
which is competitive with or superior to the LenSystem, or that RCI will have
the technological, marketing or financial resources or flexibility to respond
to any such development. The development of such a system would, in all
likelihood, exert adverse price pressures on the LenSystem and could render
it obsolete and unmarketable.
PATENTS AND PROPRIETARY RIGHTS - In February 1995 RCI acquired all of the
capital stock of Q2100 and thus all of Q2100's issued patents and patent
applications that relate to the Technology. RCI is not aware that any party, in
the United States or elsewhere, has challenged the validity or enforceability of
the issued patents relating to the
15
<PAGE>
Technology, other than the patent dispute with Ronald D. Blum O.D., which was
settled in January 1997. See "Item 3. Legal Proceedings - Settlement of Patent
Infringement Lawsuit."
The status of pending patent applications involves complex legal and factual
questions, and the scope and breadth of claims to be allowed is uncertain.
Accordingly, there can be no assurance that pending patent applications, or
patent applications that may be filed by RCI in the future, will result in
patents being issued, or that any patents that may be issued in the future will
afford protection against competitors with similar technology. Patent
applications in the United States are maintained in secrecy until patents are
issued and, since publication of discoveries in the scientific or patent
literature tends to lag behind actual discoveries by several months or even
years, there can be no assurance with respect to pending patent applications
that the covered inventions were not first created by other parties, or that
such applications were the first to be filed on such inventions. In addition,
patents relating to the Technology that have been or may be issued in some
foreign countries may not afford the same protection to RCI as is provided under
the patent laws of the United States.
No assurance can be given that the issued patents relating to the Technology
will afford protection against competitors with similar technology, or that
any fo such patents will not be infringed, designed around by others or
invalidated. Applications of the Technology (or future technologies RCI may
develop) may infringe patents or proprietary rights of others. If any
licenses are found to be required in order for RCI to use the Technology or
other processes or products, such licenses may not be available on acceptable
terms, if at all. Furthermore, there can be no assurance that challenges will
not be instituted against the validity or enforceability of any patent owned
by RCI or, if instituted, that such challenges will not be successful. The
cost of litigation to uphold the validity and prevent infringement of a
patent can be substantial and could have a material adverse effect upon RCI's
financial condition and results of operations.
In addition to potential patent protection, RCI will rely upon the laws of
unfair competition and trade secrets to protect its proprietary rights. RCI
currently intends to seek to protect its trade secrets and other proprietary
information in part by entering into appropriate confidentiality and
nondisclosure agreements with its future employees, consultants, suppliers,
joint venturers, subcontractors, licensees, scientific collaborators, sponsored
researchers and others. These agreements will generally provide that all
confidential information developed by or made known to the other party during
the course of the relationship with RCI is to be kept confidential and not
disclosed to third parties, except in certain circumstances. In the case of
employees, consultants, scientific collaborators and sponsored researchers, the
agreements will generally provide that all inventions conceived by them relating
to the business of RCI will be the exclusive property of RCI. There can be no
assurance, however, that any such agreements will provide meaningful protection
for RCI's trade secrets in the event of unauthorized use or disclosure of such
information.
Although RCI intends to protect its rights vigorously, there can be no
assurance that trade secrets will be established or maintained, that secrecy,
confidentiality or nondisclosure agreements will be honored, or that others
will not independently develop similar or superior technologies. To the
extent that employees, consultants or other third parties (such as
prospective joint venturers or subcontractors) apply technological
information to RCI's projects which has been independently developed by them
or others, disputes may arise as to the proprietary rights to such
information, which disputes may not be resolved in favor of RCI. RCI
currently utilizes the tradenames and marks "Fast Cast," "Rapidcast," and
"LenSystem." None of these marks have been federally registered.
GOVERNMENTAL REGULATION - The lens produced by the LenSystem may be medical
"devices" within the meaning of the Federal Food, Drug and Cosmetic Act (the
"Food and Drug Act"), but management believes that the lenses may be marketed
without pre-market notification, review, approval or clearance by the Federal
Food and Drug Administration ("FDA"). Other requirements, principally those
concerning impact resistance, good manufacturing practices, labeling and
reporting of certain alleged adverse effects, apply to RCI's business.
Although the FDA may disagree, RCI also believes that the LenSystem is itself
not a "medical device" under the Food and Drug Act. Certain state and local
governmental authorities (such as the State of California) also regulate
medical device manufacturers. Depending upon where LenSystem equipment is
manufactured, RCI may be subject to such additional regulations. Although
there can be no assurance in this regard, RCI does not anticipate that
compliance with such governmental regulation will have an adverse effect upon
its business.
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<PAGE>
RECENT CAPITALIZATION OF RCI:
On January 16, 1997, Rapid Cast, Inc., a minority owned subsidiary of the
Company, issued 8,000,000 shares of Series A and Series B 7% Convertible
Preferred Stock to institutional investors in a private placement pursuant to
Regulation D of the Securities Act of 1933, as amended. The investors
contributed $12,000,000 in capital in consideration for the issuance of
7,275,000 shares of voting Series A 7% Convertible Preferred Stock and
725,000 shares of nonvoting Series B 7% Convertible Preferred Stock. The
investors also have the option to purchase up to an additional 6,666,666
shares of voting or nonvoting 7% Convertible Preferred Stock from RCI for a
purchase price $1.50 per share, exercisable with respect to 3,333,333 of the
shares upon the sooner to occur of (i) the appointment of a permanent Chief
Executive Officer of RCI, or (ii) July 15, 1997, or the option relating to
those shares will expire unexercised. The option with respect to the
remaining 3,333,333 shares must be exercised on or before July 16, 1998, or
the option with respect to those shares will expire unexercised. Frank Pipp,
the new Chairman of the Board of Directors of RCI, also has an option to
purchase up to 1,333,333 shares of Series A 7% Preferred Stock at any time
until July 15, 1998 for a price of $1.50 per share. The Company's ownership
of RCI will be diluted to the extent that those investors or Mr. Pipp
exercise their options to purchase additional shares of Series A 7% Preferred
Stock.
The proceeds of the issuance of the Series A and Series B 7% Convertible
Preferred Stock were utilized by RCI (i) to repay short-term bridge loans made
to RCI by its shareholders, including Incomnet, Inc., in the approximate total
amount of $3,705,430; (ii) to repurchase 1,200,000 shares of RCI common stock
from Dr. Larry Joel for a redemption price of $1.28 per share; (iii) to make the
final settlement payment and license new technology for $325,000 on the patent
infringement lawsuit known as RONALD BLUM, O.D. VS. RAPID CAST, INC., ET AL.,
which has been dismissed; (iv) to repay the bank line of credit with Bank Leumi
in the approximate outstanding amount of $500,000 plus interest; (v) to pay
placement costs of approximately $700,000; (vi) to pay all overdue trade
payables in the approximate outstanding amount of $1,700,000, and (vii) the
balance for working capital. The outstanding RCI founder loans in the
approximate outstanding principal balance of $1,205,000 on the date of the
closing, the other RCI shareholder bridge loans which were not repaid from the
proceeds of the private placement of the Series A and Series B 7% Convertible
Preferred Stock, and the outstanding 8% convertible notes in the approximate
outstanding balance of $648,000 (which were convertible into RCI common stock at
a price of $.80 per share), were all converted into newly issued RCI common
stock and Series C 7% Convertible Preferred Stock as follows:
<TABLE>
<CAPTION>
No. of Shares of
Series C No. of Shares
Name of RCI Shareholder Preferred Stock(1) of Common Stock (2)
- ----------------------- ------------------ -------------------
<S> <C> <C>
Robert Cohen 121,543 260,708(3)
Alan Cohen 120,194 260,708(5)
Jeff Rubin 122,260 45,752
Dr. Shawn Zimberg 111,781 135,252
Dr. Larry Joel(6) 0 255,099
Huberfeld Bodner Partnership 0 543,390
Martin Price 27,485 52,628
Incomnet, Inc. 0 428,570
</TABLE>
- --------------------
(1) Issued at a price of $1.50 per share.
(2) Issued at a price of $.80 per share with respect to the conversion of the
outstanding principal balance of the 8% convertible promissory notes, and
$1.28 with respect to the conversion of the RCI founder loans, the accrued
but unpaid interest on the 8% convertible promissory notes, the unpaid
bridge notes and accrued interest.
(3) Includes 36,603 shares issued in the name of Robert Cohen's children.
(4) Includes 120,194 shares issued in the name of Alan Cohen's children.
(5) Includes 36,602 shares issued in the name of Alan Cohen's children.
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(6) In September 1996 Dr. Joel surrendered 142,222 shares of RCI common stock
to RCI as the settlement payment for $448,000 of liabilities owed by Dr.
Joel to RCI.
From the proceeds of the capitalization of RCI on January 15, 1997, Incomnet,
Inc. was repaid $2,647,348 of principal and accrued interest on its short term
bridge loans which it made to RCI during the period from April 1996 through
January 1997. RCI also issued 428,570 shares of its common stock to Incomnet,
Inc. in exchange for the conversion by Incomnet, Inc. of $326,400 of 8%
convertible promissory notes purchased by it from RCI in January 1996.
Incomnet, Inc. now owns 10,628,570 shares of RCI common stock. Melvyn Reznick
was repaid $80,000 plus interest at the rate of 10% per annum for the loan he
made to RCI in late December 1996, and Stephen Caswell was repaid $12,500 plus
interest at the rate of 10% per annum for the loan he made to RCI in early
January 1997.
Pursuant to its Amended and Restated Certificate of Incorporation filed on
January 15, 1997, RCI is authorized to issue a total of 60,000,000 shares of
common stock, 22,000,000 shares of which are nonvoting common stock, and
42,500,000 shares of preferred stock, all having a par value of $.001 per
share. As of March 17, 1997, RCI has a total of 22,233,335 shares of common
stock issued and 20,891,113 outstanding, 10,628,570 of which are owned by
Incomnet, Inc., 7,275,000 shares of voting Series A 7% Convertible Preferred
Stock, 725,000 shares of nonvoting Series B 7% Convertible Preferred Stock,
and 503,264 voting Series C 7% Convertible Preferred Stock. Incomnet, Inc.
does not own any outstanding RCI preferred stock. Each share of issued and
outstanding Series A, Series B and Series C Preferred Stock is convertible
into one share of RCI common stock (subject to adjustment) at any time at the
option of the preferred shareholder, and automatically upon the occurrence of
a "qualified public offering" by RCI, as that term is defined in the
Certificate of Determination of Rights, References and Privileges for all
outstanding series of RCI preferred stock. The terms of conversion and other
rights of the outstanding RCI preferred stock are all subject to customary
adjustments and antidilution provisions in the event of stock splits, certain
stock dividends, stock combinations, reorganizations, recapitalizations and
similar events. A "qualified public offering" by RCI occurs when RCI makes a
public offering of its securities having gross proceeds of at least
$20,000,000 and an offering price of at least $1.90 per share if it occurs on
or prior to December 31, 1997, $2.14 per share if it occurs on or prior to
June 30, 1998, $2.40 per share if it occurs on or prior to December 31, 1998,
$2.69 per share if it occurs on or prior to June 30, 1999, $3.02 per share if
it occurs on or prior to December 31, 1999, $3.40 per share it occurs on or
prior to June 30, 2000, $3.81 per share if it occurs on or prior to December
31, 2000, $4.29 per share if it occurs on or prior to June 30, 2001, $4.82
per share if it occurs on or prior to December 31, 2001, $5.41 per share it
if occurs on or prior to June 30, 2002, and $6.08 per share if it occurs
after June 30, 2002, in each case as adjusted for stock splits, certain stock
dividends, stock combinations and similar events.
The Series A, Series B and Series C 7% Convertible Preferred Stock have a
liquidation preference of $1.50 per share. All outstanding RCI preferred stock
have a cumulative noncompounded dividend of 7% per annum which must be declared
and paid in full before any dividends may be declared or paid on the RCI common
stock. All dividends on outstanding RCI preferred stock, regardless of whether
Series A, Series B or Series C, must be declared and paid ratably on all such
outstanding preferred stock. Each holder of outstanding RCI preferred stock has
the right to be paid the 7% dividend, when declared, either in cash, in shares
of Series A, Series B or Series C Preferred Stock (at a price of $1.50 per
preferred share, subject to adjustment), or in a combination of cash and
preferred stock. The cumulative unpaid dividend on the outstanding RCI
preferred stock must be paid in full in shares of RCI common stock (at a price
of $1.50 per common share, subject to adjustment) or in cash, at the option of
the preferred shareholder, upon the conversion of the preferred stock into
common stock. The preferred shareholder may require RCI to redeem the
outstanding preferred stock beginning after January 1, 2003 if the preferred
stock has not otherwise been converted. The redemption price would equal the
original issue price plus cumulative unpaid dividends. The Certificate of
Determination for the outstanding RCI preferred stock contains numerous
restrictive covenants applicable to RCI with respect to the incurrence of debt,
sale of assets, issuance of shares, mergers, reorganizations, recapitalizations,
affiliate transactions, and similar transactions by RCI.
In connection with the issuance of the preferred stock by RCI, RCI and its
shareholders entered into a Registration Rights Agreement, a Shareholders
Agreement and related agreements governing the outstanding RCI shares and the
management of RCI.
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Pursuant to the Registration Rights Agreements, the Series A and Series B
Preferred Shareholders have priority demand and piggyback registration rights
with respect to the shares of RCI common stock issuable upon the conversion of
the preferred stock, and issuable upon the exercise of warrants held by them.
The Series A and Series B Preferred Shareholders are the only RCI shareholders
with demand registration rights, of which they have three for less than
$5,000,000 of proposed sales and an unlimited number of proposed sales in excess
of $5,000,000. With respect to piggyback registration rights, the holders of
Series A and Series B Preferred Stock are entitled to 80% of the available
registration of shares for selling security holders on a pro rata basis, and the
other existing RCI shareholders are entitled to 20% of the available share
registration for selling security holders on a pro rata basis, subject to other
conditions and limitations.
Pursuant to the RCI Shareholders Agreement, the RCI shareholders and RCI are
granted certain first rights of refusal to purchase RCI stock proposed for sale
by other RCI shareholders. The RCI Shareholders Agreement imposes certain other
restrictions on the transferability of RCI shares, except for Rule 144 sales, a
sale of shares in a public offering pursuant to the Registration Rights
Agreement, and a transfer to RCI. The RCI shareholders also agree to vote their
shares so that (i) the RCI Board of Directors will consist of nine members, (ii)
subject to certain conditions, the RCI Board of Directors will consist of two
members designated by J.P.Morgan Investment Corporation and its related
investors, two members designated by Clipper Capital Associates, L.P. and its
related investors, one member designated by Incomnet, Inc., provided, that if
Incomnet, Inc. undergoes a "change of control" (defined as the cessation of
Melvyn Reznick's service on the RCI Board of Directors for any reason or certain
other changes in the Incomnet, Inc. Board of Directors or the stock ownership of
Incomnet, Inc.), then the Incomnet designee must be approved by a majority of
the other members of the RCI Board of Directors, one member designated by Jeff
Rubin, one member designated by Robert Cohen, one member (initially Frank Pipp)
designated by a majority of the RCI Board of Directors who qualify as outside
directors and approved by a majority of the RCI shareholders, and one member who
is the interim or permanent Chief Executive Officer of RCI. RCI has established
Executive, Audit and Compensation Committees.
The following persons are the current members of the RCI Board of Directors and
its Committees:
I. BOARD OF DIRECTORS(1)
Molly F., Ashby (J.P. Morgan Designee)
Robert Cohen
Patrick H. Garrett (J.P. Morgan Designee)
Kevin A. Macdonald (Clipper Designee)
Frank Pipp (Chairman and Interim Chief Executive Officer)(2)
Melvyn Reznick (Incomnet Designee)
Jeff Rubin
II. EXECUTIVE COMMITTEE
Molly F., Ashby (Chairman)
Kevin A. Macdonald
Frank Pipp
III. COMPENSATION COMMITTEE
Patrick H. Garrett (Chairman)
Kevin A. Macdonald
Frank Pipp
Melvyn Reznick
IV. AUDIT COMMITTEE
Melvyn Reznick (Chairman)
Patrick H. Garrett
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Kevin A. Macdonald
- --------------------
(1) The Board of Directors currently has one vacancy which is reserved for
the permanent Chief Executive Officer when he is hired.
(2) John L. Vidovich is currently a consultant and acting co-Chief Executive
Officer of RCI with Frank Pipp. Mr. Vidovich may become the permanent
Chief Executive Officer of RCI. The permanent Chief Executive Officer of
RCI is expected to join the RCI Board of Directors and may join one or
more of its Committees.
Upon the completion of a "qualified public offering" by RCI, as that term is
defined in the Certificate of Determination for the outstanding RCI preferred
stock and as described above, the voting and transferability restrictions in the
RCI Shareholders Agreement generally terminate, except that the RCI shareholders
agree to vote for one director designee each for J.P. Morgan and Clipper after
the "qualified public offering" as long as their investors hold a specified
minimum number of shares of RCI. The RCI Shareholders Agreement grants the RCI
shareholders pro rata preemptive rights to purchase new securities proposed to
be issued by RCI, except in circumstances such as when RCI makes a public
offering, issues stock to acquire another company in a purchase, merger or other
reorganization, issues stock pursuant to outstanding conversion rights, options
or warrants, issues up to 120,000 shares to John L. Vidovich or 450,000 shares
to Frank Pipp, implements a stock split or stock dividend, or issues stock after
a "qualified public offering" by RCI.
In connection with the short term bridge loans made to RCI from April 1996 to
January 1997 and the issuance of the preferred stock by RCI on January 16,
1997, RCI issued options and warrants to purchase its common stock, and
amended and restated its 1994 Stock Option Plan. The RCI 1994 Stock Option
Plan was amended to authorize and reserve up to 4,514,732 shares of its
common stock for issuance upon the exercise of stock options granted and
which may be granted by the RCI Board of Directors in the future. Under the
RCI 1994 Stock Option Plan, a total of 3,260,000 stock options have been
granted to various officers, directors, employees and key consultants of RCI.
The exercise price of 1,408,000 of the stock options is $2.25 per share and
the exercise price of 1,342,000 of the stock options is $2.00 per share.
These stock options have vested (subject to continued employment) and are
exercisable at any time from the date of grant until dates ranging from
November 1, 2005 until July 31, 2006. Melvyn Reznick was granted 100,000 of
these options by RCI, having an exercise price of $2.25 per share and
exercisable at any time until July 31, 2006. Frank Pipp was granted 450,000
of these stock options to purchase a total of 450,000 shares of RCI common
stock at any time until January 20, 2007, 225,000 to which may be purchased
at an exercise price of $1.28 per share and 225,000 of which may be purchased
at an exercise price of $4.00 per share. RCI also granted to John L.
Vidovich 60,000 of these stock options to purchase 60,000 common stock at any
time until January 20, 2007 at an exercise price of $1.28 per share.
RCI issued to the purchasers of the Series A and Series B Preferred Stock
warrants to purchase 1,400,000 shares of RCI common stock at an exercise
price of $1.74 per share, exercisable at any time until January 16, 2004.
The holders of these warrants have certain registration rights under the
Registration Rights Agreement described above, and customary adjustment and
antidilution protection.
In connection with short term bridge loans made to RCI by its shareholders and
others during the period from April 1996 until early January 1997, RCI issued a
total of 4,441,933 warrants to purchase 4,441,933 shares of RCI common stock at
any time until dates ranging from September 30, 2003 to December 31, 2003. The
exercise price of 1,853,683 of the warrants is $2.25 per share, the exercise
price of 302,500 of the warrants is $1.28 per share, and the exercise price of
2,285,750 of the warrants is $.75 per share. Incomnet, Inc. holds 841,416 of
these warrants to purchase 841,416 shares of RCI common stock at an exercise
price of $2.25 per share at any time until September 30, 2003, 480,000 of these
warrants to purchase 480,000 shares of RCI common stock at an exercise price of
$.75 per share at any time until December 30, 2003, 150,000 of these warrants to
purchase 150,000 shares of RCI common stock at an exercise price of $1.28 per
share at any time until December 31, 2003, and 1,090,000 of these warrants to
purchase 1,090,000 shares of RCI common stock at an exercise price of $.75 per
share at any time until November 30, 2003. In consideration for personal loans
and loan guarantees, Melvyn Reznick holds 175,000 of these warrants to purchase
175,000 shares of RCI common stock at an exercise price of $2.25 per share at
any time
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until September 30, 2003, and 160,000 of these warrants to purchase 160,000
shares of RCI common stock at an exercise price of $.75 per share at any time
until December 31, 2003. In consideration for personal loans to RCI, Albert
Milstein was issued 25,000 warrants to purchase 25,000 shares of RCI common
stock at an exercise price of $1.28 per share at any time until December 31,
2003. In consideration for personal loans to RCI, Steve Caswell was issued
12,500 of these warrants to purchase 12,500 shares of RCI common stock at an
exercise price of $1.28 per share at any time until December 31, 2003.
RCI also has a total of 1,000,000 additional warrants outstanding which entitle
their holders to purchase a total of 1,000,000 shares of RCI common stock at an
exercise price equal to 50% of the average of the last reported sales price of
RCI shares during the first 30 business days after the shares of RCI first
become publicly traded, provided that they become publicly traded on or before
December 31, 1998. If RCI becomes publicly traded on or before December 31,
1998, these warrants are then exercisable for a period of 180 days after the
public trading commencement date. These 1,000,000 RCI warrants were issued on
February 8, 1995 in connection with the issuance of 8% convertible promissory
notes by Incomnet, Inc. on that date to finance its acquisition of a controlling
interest in RCI. See "Item 1. Business - Acquisition of Rapid Cast, Inc." in
the Company's Form 10-K for the fiscal year ending December 31, 1995.
ISSUANCE OF CONVERTIBLE PREFERRED STOCK:
From September 20, 1996 to October 25, 1996, the Company issued 2,440 shares of
Series A 2% Convertible Preferred Stock to 12 accredited investors in a private
placement pursuant to Regulation D of the Securities Act of 1933, as amended.
The shares of Series A 2% Convertible Preferred Stock were purchased by four
affiliated individuals and eight unaffiliated investors. The Company raised
$2,440,000 in capital from the issuance of the Preferred Stock, a portion of
which it utilized to repay advances made to it by Melvyn Reznick, the Company's
Chairman and Chief Executive Officer, who in turn owed approximately $723,000 to
a bank on a loan with a maturity date of September 16, 1996. Mr. Reznick had
borrowed these funds from the bank in order to make a substantial portion of his
loan to the Company, which enabled the Company to make its pro rata share of
loans to RCI. See "Item 5. Other Information - Loan to Company By Melvyn
Reznick" in the Company's Form 10-Q for the fiscal quarter ending September 30,
1996. The balance of the proceeds is being utilized and is expected to be
utilized for general working capital and to pay the costs of settling pending
litigation. The Company paid a referral fee to Newport Capital Partners, an
unaffiliated financial consultant, equal to 5% of the capital raised through its
referrals, which was $1,700,000. The Company has therefore paid $85,000 of
referral fees to Newport Capital Partners. The basic terms and conditions of
the Series A 2% Convertible Preferred Stock are described in the following
paragraphs:
VOTING - The Series A 2% Convertible Preferred Stock does not have voting
rights.
DIVIDEND - The Series A 2% Convertible Preferred Stock has a cumulative
noncompounded annual dividend of 2% payable in cash or stock at the Company's
option upon conversion of the Preferred Stock into Common Stock, and prior to
the payment of any dividends on the Common Stock.
LIQUIDATION PREFERENCE - The Series A 2% Convertible Preferred Stock has a
liquidation preference of $1,000 per share plus all cumulative unpaid dividends,
whether or not declared by the Company's Board of Directors. Upon any
liquidation or change of control of the Company (i.e. transfer of more than 50%
of its voting stock), the Preferred Shareholders are entitled to the first
priority in payment from the Company's assets, before any payments are made on
the Company's Common Stock, until the liquidation preference is paid in full.
CONVERSION - The Preferred Shareholders may convert each share of Series A 2%
Convertible Preferred Stock into the number of shares of the Company's Common
Stock calculated as follows, at any time upon the earlier of (i) 90 days after
the issuance of the Preferred Stock, or (ii) 60 days after the shares of Common
Stock underlying the Preferred Stock are registered with the Securities and
Exchange Commission: The conversion price (the "Conversion Price") for each
share of Series A 2% Convertible Preferred Stock is equal to the LESSER of (a)
80% of the average bid price for the Company's Common Stock on the public
trading market for the five trading days immediately preceding the conversion
date, as specified by the Preferred Shareholder, or (b) the bid price of the
Company's Common Stock on the funding date (i.e. the issuance date of the
Preferred Stock). To calculate the number of shares of Common Stock issuable
upon the conversion of the Preferred Stock, the Conversion Price is multiplied
by a ratio, the numerator of which is the sum of 1,000 and the accrued but
unpaid dividends, and the denominator of which is the Conversion Price. If for
any reason a registration statement covering the shares of Common Stock issuable
upon the conversion of the Preferred Stock is not in effect with the Securities
and Exchange Commission at the time of a valid conversion by a Preferred
Shareholder,
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then the Conversion Price is reduced by 3% per month for each of the first three
months that the effectiveness of the registration is late. The Company has the
right to cause a conversion of the Preferred Stock into Common Stock on the same
terms at any time after one year after the Preferred Stock is issued.
REDEMPTION - The Company has the right to redeem the Preferred Stock for its
issuance price plus cumulative unpaid dividends if the Company's stock trades at
a price which averages $2.00 per share or less for any period of five
consecutive trading days after the Preferred Stock is issued.
REGISTRATION RIGHTS - Pursuant to a Registration Rights Agreement entered into
by the Company with each purchaser of the Series A 2% Convertible Preferred
Stock, the Company is obligated to file a registration statement with the
Securities and Exchange Commission covering the shares of Common Stock
underlying the Preferred Stock within 30 days after the Preferred Stock is
issued, and to have the registration statement declared effective within 75 days
after it is filed. The Underlying Shares issuable upon the conversion of the
first 365 shares of Series A 2% Convertible Preferred Stock were covered by a
prior registration statement declared effective by the Securities and Exchange
Commission on October 31, 1996. The balance of the shares of Common Stock
issuable upon the conversion of outstanding Series A 2% Convertible Preferred
Stock are covered by this Prospectus.
ANTIDILUTION PROVISION - The Certificate of Determination for the Series A 2%
Convertible Preferred Stock contains comprehensive provisions for adjustments to
the Conversion Price and the conversion ratio of the Preferred Stock in the
event of stock dividends, asset distributions, reorganizations,
recapitalizations, mergers, stock splits or similar transactions by the Company,
in order to protect the Preferred Stock from dilution as a result of such
transactions.
RESTRICTIVE COVENANTS - During the first 90 days after the Series A 2%
Convertible Preferred Stock is issued, the Company is not permitted to issue any
other securities, except in limited circumstances, including pursuant to the
exercise of outstanding options or warrants or pursuant to existing settlement
agreements, without first notifying the Preferred Shareholders and giving them a
right of first refusal to purchase the securities themselves. While the Series
A 2% Convertible Preferred Stock is outstanding or until it is converted into
Common Stock, the Company is not permitted to engage in certain transactions,
such as the redemption or purchase of its own Common Stock (except in connection
with the collection of Section 16(b) short-swing profits), without the prior
consent of the Preferred Shareholders. Furthermore, the Company is not
permitted to pay cash dividends on its Common Stock unless all cumulative unpaid
dividends on the Series A 2% Convertible Preferred Stock is paid. The Company
cannot take any action which would modify the rights of the Preferred
Shareholders under the Certificate of Determination without the prior consent of
the Preferred Shareholder being affected by the modification.
AGREEMENT WITH PRICE INTERNATIONAL, INC.:
On October 27, 1994, the Company entered into an exclusive agreement with
Price International, Inc. ("PRI") of Boca Raton, FL, to provide production,
management and marketing services for sports-oriented private label and
collectible telephone calling cards. In June 1996, the license with the NHLPA
expired and was not renewed. PRI and Incomnet also agreed to end their
relationship in providing telephone calling cards. Incomnet has also decided,
at this point in time, not to issue additional cards to the ones issued under
the agreement. In August 1996, the Company entered into a settlement
agreement with PRI pursuant to which the Company agreed to lower the exercise
price of PRI's 75,000 warrants from $11.25 to $4.50 per share, and to extend
the expiration date of the warrants from November 15, 1997 until December 31,
1998. The Company also registered the 75,000 shares issuable upon the
exercise of the warrants in a registration statement with the Securities &
Exchange Commission declared effective on October 31, 1996 (see Item 3. Legal
Proceedings - "Settlement With Price International, Inc.").
NETWORK SERVICES:
The Company's major network service is the Auto Dismantler Network (known under
the tradename "AutoNETWORK") that currently links several hundred licensed
automobile dismantlers in California, Nevada, Arizona, Utah, Oregon and
Washington. AutoNETWORK is a monthly subscription service that auto dismantlers
utilize to buy, sell and trade used parts that have been salvaged from
automobiles damaged in traffic collisions.
The Company evaluates on a continual basis other applications that could use the
Company's broadcast and point-to-point business communications technologies.
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AutoNETWORK allows automobile dismantlers to buy, sell and trade used automobile
parts. By entering a parts request into a personal computer, the request is
transmitted to the communications message switching system, which in turn
broadcasts the request within seconds to every dismantler on the network or to a
selected local or regional subgroup of dismantlers. Those dismantlers who have
the requested part in stock and wish to sell it then transmit private messages
and enter into private negotiations to sell the part. Generally, a dismantler
using AutoNETWORK can locate a part, if available, within minutes of entering
his request. The majority of dismantlers on the network generate substantially
increased parts sales per month using the network.
During September 1989, the Company agreed to a joint venture with Dismantlers
Exchange, a privately-owned, Fairfield, California-based operator of voice
telephone hotlines used by more than 200 auto dismantlers to locate auto parts
throughout Central and Northern California, Oregon and Washington. Under the
joint venture agreement, Dismantlers Exchange markets its own version of the
Company's computerized parts locator network in its marketing area under the
tradename "DX PC Network". Although both companies operate their networks
separately, customers of each network are able to receive appropriate parts
requests and send private messages to each other. Dismantlers Exchange also
operates a central clearinghouse so that customers of either network can search
for parts on each network as required. In February 1997, the Company agreed
with Dismantlers Exchange to end the joint venture. Incomnet has taken over the
customer base serviced by Dismantler's Exchange.
In 1997, the Company intends to invest approximately $5,000 into the
AutoNETWORK business to enhance the services provided to the automobile
dismantlers in the network.
EMPLOYEES, OFFICERS AND DIRECTORS:
EMPLOYEES - As of December 31, 1996, the Company, including its subsidiaries,
NTC and RCI, employed 288 full-time people, consisting of 73 general and
administrative, 46 marketing and sales, and 169 operations and customer service
personnel.
None of the Company's employees are subject to a collective bargaining
agreement, and the Company has not experienced any slow-downs, strikes or work
stoppages due to labor difficulties. The Company considers its employee
relations to be satisfactory.
DIRECTORS AND OFFICERS - The success of the Company is heavily dependent on
the Company's President and Chief Executive Officer, Melvyn Reznick, and the
Chief Executive Officer and President of the Company's NTC subsidiary, Edward
R. Jacobs and James R. Quandt, respectively.
The Company has a three-year employment contract with Mr. Jacobs that expires on
July 25, 1997. Should Mr. Jacobs become unavailable or incapable of performing
his duties and functions, the Company could suffer material adverse
consequences. There can be no assurance that the Company would be able to
attract a competent replacement on a timely basis should the Company find it
necessary to replace Mr. Jacobs.
On January 6, 1997, NTC entered into an employment agreement with James R.
Quandt pursuant to which Mr. Quandt is serving as NTC's President and is a
member of NTC's Board of Directors. The employment agreement contemplates that
Mr. Quandt will eventually become the Chief Executive Officer of NTC upon the
retirement of Edward Jacobs, the current Chief Executive Officer, which is
presently scheduled for January 1, 1999. Mr. Quandt's employment agreement
commenced on January 6, 1997 and has a term of three years. The employment
agreement recites that Mr. Jacobs also contemplates retiring as the Chairman of
the Board of Directors of NTC on July 25, 1999, although such retirement is not
contractually mandated. The employment agreement contemplates that Mr. Quandt
may be nominated to become the Chairman of the Board of Directors of NTC upon
Mr. Jacobs' retirement from that position.
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Pursuant to the employment agreement, Mr. Quandt is entitled to the following
compensation: (1) A base salary of $40,000 per month, (2) an incentive bonus
equal to one and one-half (1.5%) of the quarterly net profit earned by NTC,
provided that the quarterly net profit is at least $1,250,000, and the
payment of the bonus does not cause the quarterly net profit of NTC to be
less than $1,250,000, and NTC's pretax profit for the succeeding calendar
quarter is reasonably expected to exceed the minimum quarterly net profit of
$1,250,000, and (3) nonqualified stock options to purchase 600,000 shares of
the common stock of NTC. The stock options will have an exercise price
determined by the Board of Directors of NTC in accordance with the NTC Stock
Options Plan, but in no event greater than the higher of $5.00 per share or
the fair market value of NTC's stock at the time of the grant. See "THE
COMPANY - Amendment to NTC management Incentive Agreement." The stock
options will have an exercise period of five years from the date of grant.
The stock options will vest as follows: (1) 300,000 stock options will vest
upon Mr. Quandt completing 15 months of employment for NTC under the
employment agreement, and (2) 350,000 stock options will vest only in the
event NTC achieves certain pretax profits goals prior to January 1, 1998 or
prior to January 1, 1999 whichever first occurs.
In addition to the base salary, regular bonus and stock options, Mr. Quandt will
earn a hiring bonus equal to $225,000, payable if NTC's quarterly net profits
exceed $1,250,000, but in any event no later than December 31, 1997 with respect
to $150,000 of the guaranteed hiring bonus, and the balance by no later than
June 30, 1998. The hiring bonus will be paid at the rate of 1.5% of quarterly
pre-tax profits of NTC in excess of $1,250,000, and if not earned in that
manner, will be paid in full in two installments as follows: $150,000 by
December 31, 1997 and the balance by June 30, 1998. To the extent that the
regular bonus and guaranteed hiring bonuses are paid to Mr. Quandt pursuant to
his employment agreement, Mr. Jacobs has agreed to waive any remaining portion
of the quarterly incentive bonus payable by NTC to Mr. Jacobs (i.e. 1.5% of the
pre-tax net profits in excess of $1,250,000 of net profits of NTC per calendar
quarter) pursuant to Mr. Jacobs' current employment agreement with NTC.
Under the employment agreement, Mr. Quandt is entitled to a significant
severance payment if his employment terminates prior to the agreement's
termination date because of his death, disability, or for a reason other than
cause, or because of a voluntary resignation by Mr. Quandt for "good cause", as
defined in the employment agreement. Mr. Quandt has agreed not to compete with
NTC during the term of his employment agreement and for a period of one year
after the agreement terminates for any reason.
Prior to assuming his executive position with NTC, Mr. Quandt was the Chairman
of the Board of Directors of Global Financial Information Corporation, a
privately held group of companies in the financial information and technology
industry. Global Financial Information corporation operates from a base of 27
offices internationally, with a staff of approximately 840 professionals. From
1991 to 1995, Mr. Quandt was the President and Chief Executive Officer of
Standard & Poors Financial Information Services, a subsidiary of McGraw Hill
Corporation in New York, New York. At Standard & Poors, Mr. Quandt was
responsible for all executive, administrative and operational functions of nine
domestic and international companies that comprised the Standard & Poors Group.
From 1980 to 1991, Mr. Quandt was an executive officer in various capacities
with Security Pacific Bank in Los Angeles, California. Mr. Quandt was the
Senior Vice President and Group Division Head of Security Pacific Bank's
Financial Management & Trust Services Group from 1988 to 1991. From 1983 to
1990, Mr. Quandt was the President and Chief Executive Officer of Security
Pacific Brokerage, Inc., a subsidiary of Security Pacific Bank.
Effective April 8, 1997, James R. Quandt was elected to be a member of the
Board of Directors of NTC to replace Jerry Ballah, who resigned as a director
and as an officer of NTC. Mr. Ballah is now a marketing consultant to NTC.
Effective January 17, 1997, the Company entered into an Amendment to the
Employment Agreement with Melvyn Reznick pursuant to which the term of Mr.
Reznick's Employment Agreement has been extended for two additional years,
until November 30, 1999. Mr. Reznick is also a director and a member of
several committees of the Board of Directors of RCI, as well as being a
director of NTC.
APPOINTMENT OF NEW DIRECTOR BY THE COMPANY - On January 20, 1997, the Company's
Board of Directors appointed Dr. Howard Silverman to fill a vacancy and become a
member of the Board of Directors. Since March 1996, Dr. Silverman has been
consulting for various companies in the optical and financial areas, including
Andrew, Alexander, Wise & Company in New York, and Rapid Cast, Inc. From August
1995 to March 1996, Dr. Silverman served as a Vice President of Corporate
Finance for Rickel & Associates, an investment banking firm. From 1991 until he
joined Rickel & Associates in 1995, Dr. Silverman was an independent business
consultant specializing in early stage and mid-size operating companies. From
1985 to 1991, Dr. Silverman was the founder and Chairman of the Board of
Directors of Vision Sciences, Inc., a company that developed, manufactured and
sold in-office lens casting systems, which enabled the optical retailer to cast
his own finished plastic optical lenses. Dr. Silverman was a member of the
Board of Directors and the director of business development for Staar Surgical
Co., Inc., a publicly owned company, from 1984 to 1990. He was the co-founder
and Chief Operating Officer of Hydro-Optics, Inc., a manufacturer of hydrophilic
contact lens, from 1974 until 1984. Dr. Silverman has also been the Vice
President and Chief Operating Officer of Diversified Health Industries, Inc. and
the President and Chief Executive Officer of Precision Contact Lens, Inc. Dr.
Silverman had a private optometric practice in New York City from 1968 to 1972,
specializing in contact lenses. Dr. Silverman earned a Bachelor of Science in
Chemical Engineering from the College of the City of New York in 1965 and a
Doctor of Optometry form Illinois College of Optometry in 1968. See the
Company's Report on Form 8-K, dated January 20, 1997.
24
<PAGE>
APPOINTMENT OF COMMITTEE MEMBERS - The current members of the Audit Committee of
the Company's Board of Directors are Albert Milstein, Nancy Zivitz and Dr.
Howard Silverman. The current members of the Compliance Committee of the
Company's Board of Directors are Melvyn Reznick, Mark Richardson, Albert
Milstein and Nancy Zivitz. The current members of the Compensation Committee of
the Company's Board of Directors are Albert Milstein, Nancy Zivitz, Stephen
Caswell and Dr. Howard Silverman.
ITEM 2. PROPERTIES
The Company does not own any real estate. The Company leases approximately
6,224 square feet of office facilities at 21031 Ventura Boulevard, Suite 1100,
Woodland Hills, California 91364. The Company has been obligated to make lease
payments at the rate of $8,713 per month from May 1995 through July 1998.
The Company's subsidiary, NTC, currently leases approximately 64,000 square
feet of office space in Irvine, California at a rate of approximately $52,000
per month. NTC has entered into an agreement to extend the lease on its
headquarters building at 2801 Main Street, Irvine, California. According to
the terms of this agreement, NTC would be obligated to pay formula based
monthly lease payments estimated to be approximately $57,000 per month during
1997 and increasing to approximately $72,000 per month for the remainder of
the initial five year lease term. In addition, in February 1997, NTC entered
into a ten year lease for office space in Honolulu, Hawaii, with the lease
expiring in 2007. The monthly payments on the lease in Honolulu, Hawaii
commence at $36,698 per month in 1997 and 1998, and increase on a bi-annual
basis through the term of the lease to $43,536 per month in 2006 and 2007.
The Company's other subsidiary, Rapid Cast, Inc., has entered into a lease on
approximately 12,250 square feet of office, research and development space
for its facilities in Louisville, Kentucky, expiring on May 30, 2000. RCI is
obligated to make lease payments at the rate of $8,167 per month through
December 31, 1997, $8,322 per month in 1998, and $8,433 per month from
January 1999 through May 2000. RCI also leases approximately 2,850 square
feet of office space in East Meadow, New York, for $2,417 per month with
annual escalations.
ITEM 3. LEGAL PROCEEDINGS
SECURITIES AND EXCHANGE COMMISSION INVESTIGATION:
In August 1994, the Company was notified by the Pacific Regional Office of
the Securities and Exchange Commission that the Commission had initiated an
informal inquiry of the Company. In September 1994 the Commission issued a
formal order of private investigation. The Commission stated in its
correspondence to the Company that the investigation "should not be construed
as an adverse reflection on any person, entity or security, or as an
indication by the Commission or its staff that any violation of law has
occurred." In August and September 1994, the Company supplied copies of its
books and records to the Commission, and the Company's present and prior
independent certified public accounting firms submitted their working papers
pursuant to the Commission's subpoena. In February 1995, the Company
provided to the Commission pursuant to its subpoena additional documents
associated with NTC's regulatory authorizations and with the Company's recent
acquisition of a controlling interest in RCI. The Company continues to fully
cooperate with the Commission. While the Company believes that the outcome of
the fact finding investigation will not have a material adverse effect on the
financial condition or operating results of the Company, no assurance can be
given on this matter until the investigation is concluded. See "Item 3.
Legal Proceedings - Securities and Exchange Commission Investigation" in the
Company's 1995 Form 10-K, as updated in the Company's Form 10-Q for the
quarter ended September 30, 1996 under "Item 1. Legal Proceedings -
Securities and Exchange Commission Investigation."
CLASS ACTION AND RELATED LAWSUITS:
On October 17, 1995, the Company was served with an amended complaint in the
class action lawsuit entitled SANDRA GAYLES; THOMAS COMISKEY, AS TRUSTEE FBO
THOMAS COMISKEY, IRA; CHARLES KOWAL; ARTHUR KALTER; MATTHEW G. HYDE; ARTHUR
WIRTH; AND ISABEL SPERBER, VS. SAM D. SCHWARTZ AND INCOMNET, INC., Case No.
CV95-0399 AWT (BQRx), filed in the United States District Court for the Central
District of California, Western Division, which was originally filed in January
1995. The amended complaint retains the claim alleging that the Company
violated Sections (10)b and 20(a) of the Securities Exchange Act of 1934, as
amended, and Rule 10b-5 promulgated under Section 10(b) of the Exchange Act,
because it did not disclose and falsely denied the existence of the non-public
investigation of the Company commenced by the Securities and Exchange Commission
in August 1994. The complaint adds claims that the Company and its former
Chairman, Sam D. Schwartz, violated Sections 10, 16(a),
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<PAGE>
20(a) and 23(a) of the Exchange Act, and Section 25400 of the California
Corporations Code, because they did not disclose until August 1995 purchases and
sales of the Company's stock made in the open market by an affiliate of Mr.
Schwartz between September 1994 and August 1995. The amended complaint seeks
(i) certification of the class, (ii) compensatory damages, (iii) damages
pursuant to Section 25500 of the California Corporations Code, (iv) interest and
attorneys' fees and costs, and (v) other extraordinary, equitable and injunctive
relief as may be appropriate. On January 11, 1996, the case was certified as a
class action pursuant to the parties' stipulation. The Company has answered the
complaint and the lawsuit is currently in the discovery phase.
The plaintiffs in the class action lawsuit SAUNDRA GAYLES VS. INCOMNET, INC.
AND SAM D. SCHWARTZ have conducted written discovery and taken the deposition
of the Company's custodian of records. The discovery phase of the case is
currently scheduled to close on May 31, 1997. A hearing is expected to be
held on May 5, 1997 to determine whether a specific group of investors who
filed a motion to elect not to be part of the class will be entitled to
opt-out of the class action lawsuit and commence their own lawsuit. The
plaintiffs and the Company have filed motions opposing the request for
opt-out status by those investors, who filed their election forms after the
deadline established for such elections. Several other parties have timely
filed elections to be separate from the class, but none have filed separate
lawsuits to date. The Company is not certain whether any of those potential
plaintiffs will file separate lawsuits against the Company or any of the
other defendants. The Company and the class plaintiffs have and continue to
engage in settlement discussions. No assurance can be given that a settlement
will be reached, or the terms of such settlement, if any.
The Company has been served with a complaint in the lawsuit entitled SILVA
RUN WORLDWIDE LIMITED VS. INCOMNET, INC., SAM D. SCHWARTZ, BEAR STEARNS &
CO., INC., LESLIE SOLMONSON, RONALD F. SEALE, MARINER RESERVE FUND, COMPANIA
DI INVESTIMENTO ANTILLIANO, COUTTS & CO. AG, SALVATORE M. FRANZELLA, PETER G.
EMBIRICOS, AND JOS SCHUETZ, filed in the United States District Court for the
Southern District of New York. The complaint states that the plaintiff was a
purchaser of the Company's stock in July 1995. The complaint alleges that
the Company and it's former Chairman, Sam D. Schwartz, violated Sections
10(b) and 20(a) and Rule 10b-5 of the Securities Exchange Act of 1934, as
amended, and committed common law fraud, as a result of false and misleading
statements made by the defendants and undisclosed trading in the Company's
stock engaged in by Mr. Schwartz and his affiliate. The plaintiff also
alleges that Mr. Schwartz and his affiliate owed a fiduciary duty to the
plaintiff that was breached by their conduct. The complaint also alleges
other causes of action against other unrelated defendants. The Company
answered the complaint in November 1996 and moved to have it transferred to
California. In March 1997, the claims relating to the Company and Sam
Schwartz was ordered severed and transferred from the court in New York to
the same court in California which is hearing the pending class action
lawsuit. See "Part II, Item 1. Legal Proceedings - Class Action and Related
Lawsuits" in the company's Form 10-Q for the fiscal quarter ending September
30, 1996.
SETTLEMENT WITH RCI PARTIES
As of December 9, 1996, the Company entered into a Settlement and Mutual Release
Agreement with Robert Cohen, Alan Cohen, Jeff Rubin, Jeff Cohen, Broadway
Partners, a partnership comprised of the children of Alan and Robert Cohen, and
Lenore Katz (the "RCI Parties"). Robert Cohen is a director and shareholder of
Rapid Cast, Inc. and Jeff Rubin is a director, shareholder and executive officer
of Rapid Cast, Inc. Jeff Cohen is the son-in-law of Robert Cohen. Pursuant to
the settlement agreement, the RCI Parties purchased 360,000 Warrants entitling
them to purchase 360,000 shares of the Common Stock of the Company for an
exercise price of $3.75 per share at any time until December 9, 1999. The RCI
Parties paid a total of $36,000 in cash to the Company for the warrants.
Certain of the RCI Parties also purchased a total of 33,000 shares of the Common
Stock of the Company for an aggregate purchase price of $100,000. The Company
is registering those shares and the shares issuable upon the exercise of the
warrants pursuant to a registration statement pending with the Securities and
Exchange Commission in accordance with its agreement to do so in the Settlement
and Mutual Release Agreement. The Company and the RCI Parties also mutually
released each other from all claims, if any, which they may have had against
each other, and the RCI Parties assigned all of the claims which they may have
against Sam and Rita Schwartz, prior directors of the Company, to the Company.
SETTLEMENT OF THE STEVENS LAWSUIT
In January 1997, the Company entered into a Settlement Agreement and Mutual
Release of all claims in the pending lawsuit entitled CHARLES STEVENS VS. SAM D.
SCHWARTZ AND INCOMNET, INC. Pursuant to the settlement, the Company paid $7,500
in cash to the plaintiff and issued 12,500 warrants to purchase 12,500 shares of
the Company's Common Stock at an exercise price of $2.94 per share, exercisable
at any time until December 16, 2001. The Company agreed to register the shares
underlying the 12,500 warrants issued to Mr. Stevens and his legal counsel. In
consideration for the
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<PAGE>
issuance of warrants and payment of cash, the plaintiff released the Company
from all claims and dismissed the lawsuit against the Company with prejudice.
The settlement did not include Sam D. Schwartz.
SETTLEMENT OF THE ATLANTA LAWSUITS
In February 1997, the Company entered into a settlement and release agreement
with the plaintiffs in the lawsuits entitled HERBERT M. SCHWARTZ ET AL. VS.
INCOMNET, INC., SAM D. SCHWARTZ AND KALIBER MANAGEMENT CORP. and BRENT ABRAHM
ET AL. VS. INCOMNET, INC., SAM D. SCHWARTZ AND KALIBER MANAGEMENT CORP.
pursuant to which the lawsuit against the Company were dismissed and an order
was entered barring indemnification or contribution between the Company and
Sam D. Schwartz. In consideration for the payment of $400,000 in cash and
the issuance of a note in the principal amount of $400,000 to the plaintiffs,
the plaintiffs released the Company from all claims and dismissed their
lawsuits against the Company with prejudice. The $400,000 note was issued as
of January 1, 1997 and bears interest at the rate of 12% per annum from
January 1, 1997 to January 22, 1997, and 8% per annum thereafter until
December 31, 1997, when the note is due and payable in full. The note is
secured by a certificate of deposit in the amount of $415,000 purchased by
the Company, which the Company has the right to replace with a number of
registered shares of its Common Stock equivalent in value to the certificate
of deposit as collateral for the note.
SECTION 16(b) LAWSUIT:
In January 1996, the Company was served with a derivative shareholders
lawsuit entitled RICHARD MORALES VS. INCOMNET, INC. AND SAM D. SCHWARTZ, 96
Civil 0225 in the United States District Court for the Southern District of
New York, alleging violations of Section 16(b) of the Securities Exchange Act
of 1934, as amended, and demanding that the Company assert claims against Mr.
Schwartz for the payment of short-swing profits plus interest. Mr. Schwartz
has retained separate counsel for this action. In early July 1996, Mr.
Schwartz deposited 800,000 shares of his Incomnet, Inc. Common Stock into a
court-approved escrow account with the Company's New York counsel as security
for his obligation to pay short swing profits. In early February 1997,
plaintiff's counsel prepared a motion for summary judgment in the case
seeking $5,050,000 in short swing profits from Mr. Schwartz plus pre-judgment
interest. On February 21, 1997, the plaintiffs and Sam Schwartz entered into
a stipulated settlement pursuant to which Mr. Schwartz agreed to pay
$4,250,000 to the Company as full payment of his short swing profit
obligation to the Company. The plaintiff's lawyer indicated that he would
request a fee of $850,000 plus reimbursement of $65,000 of expenses, to be
paid by the Company from the proceeds of the recovery. Under the stipulated
settlement, the disgorgement of short-swing profits would be payable $600,000
in cash and the balance by tender to the Company of shares of the Company's
Common Stock owned by Mr. Schwartz, based on 90% of the average between the
bid and the asked price of the Company's Common Stock on the NASDAQ market
during the 30 calendar days immediately preceding the date that the court
enters an order approving the settlement. Pursuant to the agreement, Mr.
Schwartz has deposited $600,000 in cash and has agreed to deposit additional
shares of the Company's common stock into a separate escrow account from the
one which already contains 800,000 shares of the Company's stock owned by him
or his affiliates. The Company intends to oppose the amount of plaintiff's
attorney's fees sought. The Company does not otherwise intend to oppose the
proposed settlement. On April 11, 1997, a revised stipulation was filed
containing the same economic terms. Notice of the settlement is to be given
to the shareholders by April 21, 1997. Any opposition to the settlement is
due by May 16, 1997, and a hearing to approve the settlement is to be held on
May 30, 1997. There is no assurance that the Company will recover the
short-swing profits from Mr. Schwartz.
SETTLEMENT OF PATENT INFRINGEMENT LAWSUIT:
In July 1995 Rapid Cast, Inc. was served with a lawsuit entitled RONALD D. BLUM,
O.D. VS. RAPID CAST, INC., Case No. 95-CV5113, filed in the United States
District Court in the Southern District of New York. The complaint alleges that
Rapid Cast, Inc. has infringed on the plaintiff's patent for curing plastic
lenses by virtue of employing its technology in the FastCastTM LenSystem. On
January 16, 1997, RCI settled the lawsuit and the lawsuit has been dismissed.
In consideration for a total cash payment of $525,000 in cash to Dr. Blum and
the release by RCI of all claims which it may have had against Dr. Blum, RCI
received a release of all claims by Dr. Blum. See "Item 1. Legal Proceedings -
Patent Infringement Lawsuit" in the Company's Form 10-Q for the fiscal quarter
ending September 30, 1996.
LEGAL ACTION AGAINST PRIOR REPRESENTATIVES:
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<PAGE>
On July 28, 1994, NTC filed a lawsuit against six prior independent marketing
representatives who terminated their relationship with NTC on March 31, 1994.
The lawsuit alleges that the defendants breached their agreements with NTC after
terminating their representative status by (i) soliciting NTC's customers to
leave NTC and sign up with a competitor, (ii) soliciting NTC's other independent
marketing representatives to leave NTC and work for a competitor, (iii)
misappropriating and failing to return the NTC customer and independent sales
representative lists, (iv) disclosing NTC's customers, representatives and other
trade secrets to a competitor and (v) willfully and maliciously conspiring to
injure NTC's business in order to improve their own business. The causes of
action against the defendants are breach of contract, misappropriation of trade
secrets and intentional interference with NTC's economic relationships. NTC
sought injunctive relief and is seeking monetary damages of at least $500,000,
as well as punitive damages in an unspecified amount. On August 31, 1994, the
court awarded NTC a temporary injunction against the defendants, enjoining them
from disclosing or utilizing any of NTC's trade secrets, including its list of
customers and independent sales representatives. A permanent injunction was
subsequently denied by the court on the basis that NTC had failed to demonstrate
irreparable harm. All of the defendants were located in Northern California. The
Company believes that as a result of the defendants' wrongful actions, NTC lost
independent marketing representatives in Northern California and retail
customers. While these actions slowed the growth rate of NTC's customers and
marketing representatives in the spring of 1994, growth is continuing. The rate
at which NTC is signing new representatives, especially from other parts of the
United States, is also increasing, which may result in an increased rate of
growth in the customer base in the future. On August 30, 1994, the defendants
filed a cross-complaint against NTC and the Company, claiming that NTC failed to
meet its contractual obligations to the defendants and that actions taken by the
defendants as a result were proper and legal. The cross complainants are
seeking compensatory and special damages, along with general and punitive
damages. Management cannot predict the ultimate resolution of the lawsuit or
its impact on the Company at this time.
SETTLEMENT WITH PRIOR NOTEHOLDERS:
In January 1996 a civil action was filed against the Company and Sam D.
Schwartz in the United States District Court for the Eastern District of New
York, entitled JULES NORDLICHT VS. INCOMNET, INC. AND SAM D. SCHWARTZ, Case
No. CV 95-5134, alleging breach of contract and material misrepresentations
and nondisclosures in connection with the issuance and conversion of
promissory notes by the Company in a private placement. The complaint sought
damages of $750,000. In early February 1996 the Company entered into a
settlement agreement with Mr. Nordlicht pursuant to which the Company agreed
to issue to Mr. Nordlicht and register 31,000 shares of the Company's common
stock, repay the outstanding balance of his note (i.e. $500,000 plus
interest), and issue him 5,000 additional warrants to purchase shares of
Rapid Cast, Inc. (if and when it goes public) which the Company had received
pursuant to the redemption of another convertible promissory note previously
issued by the Company. The settlement agreement has been filed with the
court and the case has been dismissed with prejudice. Commencing in March
1996 the Company entered into a series of settlement agreements with six
other prior holders of a total of $325,000 in principal amount of 8%
convertible promissory notes issued by the Company on February 8, 1995 to
finance the acquisition of 51% of RCI. See "Item 1. Business - Acquisition
of RCI" in the Company's 1995 Form 10-K. Pursuant to the settlement
agreements with Mr. Nordlicht and the six other noteholders, the Company
issued a total of 74,917 new shares and registered a total of 138,417
outstanding and newly issued shares, including the 74,917 newly issued
settlement shares. The registration statement covering the prior
noteholders' outstanding shares and newly issued settlement shares issued
pursuant to the settlement agreements was declared effective by the
Securities and Exchange Commission on October 31, 1996. See also "Item 3.
Legal Proceedings - Claims by Prior Noteholders" in the Company's 1995 Form
10-K and "Part II, Item 1. Legal Proceedings - Claims By Prior Noteholders"
in the Company's Form 10-Q for the fiscal quarter ended September 30, 1996.
SETTLEMENT WITH PRICE INTERNATIONAL:
Price International, Inc. (PRI) asserted a claim for breach of contract and
federal securities laws violations in connection with the exercise of 25,000
warrants at $11.25 per share by it allegedly based on statements made to it by
the Company (See Agreement with Price International, Inc.). PRI asserted this
claim in a letter written to the Company by its counsel in October 1995. In
August 1996, the Company entered into a settlement agreement with Price
International pursuant to which the Company agreed to lower the exercise price
of Price International's 75,000 warrants from $11.25 per share to $4.50 per
share, and to extend the expiration date of the warrants from November 15, 1997
until December 31, 1998. The Company also agreed to register the 75,000 shares
issuable upon the exercise of the warrants. Those shares were registered by the
Company in the registration statement which was declared effective by the
Securities and Exchange Commission on October 31, 1996. In consideration for
the modification to the terms and conditions of the warrants, Price
International agreed that (a) it would be required to exercise at least 25,000
of the warrants once the trading price
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<PAGE>
of the Company's stock averages $5.30 per share during any 30 day period, and
(b) it releases and forever discharges the Company from all claims it may have
had against the Company for events occurring prior to the date of the settlement
agreement. Price International has not yet exercised any of the warrants issued
to it in its settlement agreement with the Company.
POTENTIAL LAWSUITS:
There is no assurance that claims similar to those asserted in the pending class
action and related lawsuits, or other claims, will not be asserted against the
Company by new parties in the future. In this regard, potential plaintiffs have
from time to time orally asserted claims against the Company and its prior
directors. Several members of the class in the pending class action lawsuit
against the Company have opted out, and certain other class members are
attempting to opt out even though they did not file their elections in a timely
manner. See "Legal Proceedings - Class Action and Related Lawsuits." Sam
Schwartz may file claims against the Company for indemnification and payments
under his Severance Agreement with the Company. See "Item 1. Business -
Employees, Officers and Directors - Officers" in the Company's 1995 Form 10-K.
If such claims are filed as legal complaints, the Company will seek to have them
consolidated with other pending lawsuits, if appropriate, or will defend them
separately. From time to time, the Company is also involved in litigation
arising from the ordinary course of business, the ultimate resolution of which
management believes will not have a material adverse effect on the financial
condition or results of operations of the Company. See "Part II, Item 1. Legal
Proceedings - Potential Lawsuits" in the Company's Form 10-Q for the fiscal
quarter ended September 30, 1996.
From time to time, the Company is involved in litigation arising from the
ordinary course of business, the ultimate resolution of which management
believes will not have a material adverse effect on the financial condition or
results of operations of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of security holders during the fourth
quarter of the year ended December 31, 1996.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED SHAREHOLDER
MATTERS
MARKET INFORMATION:
The Company's common stock trades on the NASDAQ Small-Cap Market under the
symbol "ICNT". The following table sets forth the range of bid prices for the
common stock during the periods indicated. Prices represent the actual high and
low sale prices of the Company's stock as provided by NASDAQ real-time pricing
information.
YEAR ENDED DECEMBER 31, 1996:
Quarter High Low Last Sale
------- ---- --- ---------
4 5 2 7/8 2 31/32
3 5 5/16 4 3/16 4 5/16
2 6 1/4 4 3/8 4 3/4
1 6 3/16 4 3/8 5 3/8
YEAR ENDED DECEMBER 31, 1995:
Quarter High Low Last Sale
------- ---- --- ---------
4 11 1/4 2 1/2 4 9/16
29
<PAGE>
3 24 1/2 9 11
2 16 3/8 10 7/8 15
1 14 5/8 8 1/4 14 3/8
On March 21, 1997, the last sales price per share of the Company's common stock,
as reported by the NASDAQ Stock Market, was $2 15/16.
On March 21, 1997, the Company's 13,520,669 shares of common stock outstanding
were held by approximately 797 shareholders of record.
DIVIDENDS:
The Company has not paid cash dividends on its common stock since inception.
Payment of dividends is within the discretion of the Company's Board of
Directors and will depend, among other factors, on earnings, capital
requirements and the operating and financial condition of the Company.
Furthermore, the payment of dividends on the Company's common stock is subject
to the payment in full of all accrued but unpaid dividends on its outstanding
Series A 2% Convertible Preferred Stock. See "Item 1. Business - Issuance of
Convertible Preferred Stock." At the present time, the Company's anticipated
working capital requirements are such that it intends to follow a policy of
retaining earnings in order to finance the development of its business. (See
"Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations.")
ITEM 6. SELECTED FINANCIAL DATA
A summary of selected financial data for the five years ended December 31, 1996,
1995, 1994, 1993, and 1992, is presented below, and should be read in
conjunction with the audited consolidated financial statements for the years
ended December 31, 1996, 1995 and 1994 at "Item 8. Financial Statements and
Supplementary Data." Segment information is presented at "Item 1. Business
segment information" (In thousands, except per share amounts).
<TABLE>
<CAPTION>
FOR THE YEAR: 1996(2) 1995(2) 1994(2) 1993(1,2) 1992(2)
------ ------ ------ -------- -------
<S> <C> <C> <C> <C> <C>
Sales $106,905 $86,565 $46,815 $11,299 $5,535
Income (loss) before
income taxes,
minority interest and
extraordinary items (51,517) 957 4,000 (1,607) (2,265)
Income (loss) before
minority interest and
extraordinary items (43,705) 857 3,999 (1,607) (2,462)
Net Income (37,676) 1,366 4,071 (949) (2,021)
PER SHARE:
Net income (loss) before
extraordinary items (2.75) 0.11 0.42 (0.20) (0.34)
Net income (loss) (2.82) 0.11 0.42 (0.12) (0.28)
AT YEAR END:
Total assets $40,587 $74,106 $26,158 $8,666 $6,745
Long-term obligations 1,040 8,460 1 20 176
</TABLE>
- -------------------------
(1) In 1992, the Company acquired a controlling interest in National Telephone
& Communications, Inc. This information is described in "Item 1. Business -
Acquisition of National Telephone & Communications, Inc. (NTC)" in the
Company's 1995 Form 10-K.
(2) The Company is engaged in legal proceedings where the ultimate outcome
cannot presently be determined. This information is described at "Item 3.
Legal Proceedings."
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW:
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<PAGE>
The following is management's discussion and analysis of certain significant
factors which have affected the results of operations and financial condition
of the Company during the period included in the accompanying financial
statements. This discussion should be read in conjunction with the financial
statements and associated notes. The discussion herein is qualified by
reference to the Introductory Note.
LIQUIDITY AND CAPITAL RESOURCES:
GENERAL - Overall, the Company achieved slightly positive cash flows of $0.6
million during 1996 resulting from positive cash flows from operating
activities ($3.0 million) and from financing activities ($5.2 million), which
were almost entirely offset by negative cash flows from investing activities
($7.6 million). The Company may need to raise additional capital in 1997 to
fund settlement costs relating to pending litigation or to make a business
acquisition, although specific needs have not yet been identified. Pursuant
to its management incentive agreement with NTC, the Company receives cash
distributions from NTC on a periodic basis, which are scheduled to be made
until December 31, 1997. See "Item 1. Business - National Telephone &
Communications, Inc. - Management Incentive Agreement." The Company does not
expect to have to make loans to RCI in 1997, and RCI's capital needs in the
short-term have been met through its private placement of preferred stock and
warrants in January 1997. See "Item 1. Business - The Recent Capitalization
of RCI." NTC is expected to have sufficient capital and financing to fund
its requirements in 1997, including funds required for the establishment of
its branch marketing offices, one of which is currently being built on leased
premises in Honolulu, Hawaii. There is no assurance that the cash
distributions by NTC to the Company or the cash flow from AutoNETWORK will be
sufficient to meet the Company's future funding requirements, or that RCI or
NTC will have sufficient capital or financing to meet their needs.
CASH FLOW FROM OPERATIONS - Net cash provided by operating activities of $3.0
million in 1996 was primarily attributable to the operating loss for 1996 ($37.7
million) and non-cash items principally from a devaluation of the Company's
investment in RCI ($39.1 million), depreciation and amortization ($4.3 million),
and changes in operating assets and liabilities ($11.7 million).
With regard to the collection of accounts receivable, the Company increased
its allowance for doubtful accounts to 13.2% of gross receivables as of
December 31, 1996 compared to 8.0% of gross receivables as of December 31,
1995. This increased provisioning reflects NTC's reserves for all
direct-billed Dial-one receivables which have been submitted to collection
agencies for collection and a modest improvement in collection rates for
LEC-billed and calling card products.
CASH FLOW FROM INVESTING - Net cash used in investing activities of $7.6 million
in 1996 was attributable principally to the Company's additions to property,
plant and equipment ($7.2 million) and additions to patents ($0.7 million).
CASH FLOW FROM FINANCING - Net cash provided by financing activities of $5.2
million in 1996 was attributable principally to changes in short-term debt ($2.9
million), proceeds from the issuance of preferred stock ($2.3 million) and
additions to long-term debt ($1.3 million), partially offset by reduction of
long-term debt ($1.8 million). In addition, positive cash flow resulted
primarily from RCI entering into various loan agreements to finance the building
of infrastructure to support its anticipated future sales growth. In September
1996, the Company also raised $0.4 million from the sale of 365 shares of Series
A 2% Convertible Preferred Stock, and raised an additional $2.1 million in
October 1996 through the placement of additional shares of Series A 2%
Convertible Preferred Stock. The Company paid aggregate referral fees equal to
approximately 5% of the capital raised from the placement of the Series A 2%
Convertible Preferred Stock. Cash paid to reduce debt totaled $1.2 million,
$0.0 million and $0.3 million during 1996, 1995 and 1994, respectively.
The Company had material commitments for capital expenditures of $1.5 million
in tenant improvements for its Honolulu, Hawaii office space at December 31,
1996, and expects to continue making improvements to the NTC headquarters
building and purchasing additional equipment commensurate with the expansion
of its business. During 1996, the Company had capital expenditures of $7.2
million for plant and equipment.
31
<PAGE>
At December 31, 1996, the Company had net operating loss carryforwards for
federal income tax purposes of approximately $22.6 million, which are expected
to be available to offset taxable income for the next several years.
LITIGATION - The Company is subject to pending litigation and an investigation
by the Securities and Exchange Commission. Management is not yet able to
predict the impact of the pending litigation on its financial condition and
results of operations. Management does not believe that the investigation by
the Securities and Exchange Commission will result in a material impact on the
Company's financial condition or results of operations. See "Item 3. Legal
Proceedings."
RESULTS OF OPERATIONS:
FINANCIAL ANALYSIS-
SALES - For 1996, 1995 and 1994, the Company's net sales totaled
approximately $106.9 million, $86.6 million and $46.8 million, respectively.
The increases in sales in 1996 compared with 1995 and 1995 compared with
1994, were attributable principally to increases sales at NTC. The following
table summarizes the Company's year-to-year sales performance by subsidiary
and segment:
<TABLE>
<CAPTION>
$ in millions
-----------------------------------
Subsidiary Segment 1996 1995 1994
- ---------- ------- -----------------------------------
<S> <C> <C> <C>
NTC Telephone (telecommunications services) $83.7 $ 70.0 $ 34.2
NTC Telephone (marketing programs) 17.1 13.1 11.4
RCI Optical 4.7 2.0 --
AutoNETWORK Network 1.4 1.5 1.2
-----------------------------------
Total Company Net Sales $106.9 $ 86.6 $ 46.8
-----------------------------------
-----------------------------------
</TABLE>
NTC's net sales increase was driven largely by continued expansion of the
customer base for its telecommunication services. As a result of this
continuing expansion, NTC's telecommunication service revenues represented
83.0%, 84.2% and 75.0% of NTC's total revenues for 1996, 1995 and 1994,
respectively, with the remaining 17.0%, 15.8% and 25.0% generated by sales of
NTC's marketing programs for 1996, 1995 and 1994, respectively. Revenues from
the optical segment may decline in 1997 because the Company's percentage
ownership in RCI is lower than in 1995 and 1996, and machine orders at RCI
have declined while RCI implements design modifications and improvements. See
"Item 1. Business--Rapid Cast, Inc.--Technical Overview of the Rapid Cast
LenSystem."
COST OF SALES - Total Company cost of sales for 1996, 1995 and 1994, were
approximately $68.6 million, $57.9 million and $31.2 million, respectively.
The increases in cost of sales were attributed principally to the increase in
carrier costs associated with increased telephone service sales by NTC and a
volume related rise in RCI cost of sales. Gross margin when stated as a
percentage of net sales was 35.9%, 33.1% and 33.3% for 1996, 1995 and 1994,
respectively. The increase in gross margin in 1996 was attributable
principally to reductions in NTC's telecommunication service cost of sales
resulting from: 1) lower long-distance transport costs from NTC's carriers
and, 2) continuing improvements in the mix of sales in the higher profit
product lines. The following table summarizes the Company's year-to-year
changes in three major cost components:
<TABLE>
<CAPTION>
$ in millions
-----------------------------------
1996 1995 1994
-----------------------------------
<S> <C> <C> <C>
Carrier costs for NTC's long distance telephone service $44.7 $ 40.4 $ 21.3
Commissions paid to NTC independent sales reps 18.0 14.2 7.7
All other costs of sales 5.9 3.3 2.2
-----------------------------------
Total Company Cost of Sales $68.6 $ 57.9 $ 31.2
-----------------------------------
-----------------------------------
</TABLE>
32
<PAGE>
NTC's total commission expenses for 1996, 1995 and 1994, were $18.0 million,
$14.2 million and $7.7 million, respectively. The increases were attributed
principally to the residual monthly sales commissions and various bonuses and
overrides paid to sales representatives on increased marketing and telephone
service revenues.
The third cost component shown in the table above is "all other costs of sales"
which represents: (1) NTC's costs of producing sales materials for its
independent sales representatives, (2) RCI's costs of producing optical systems
and ancillary goods, and (3) AutoNETWORK costs of providing communications
network products and services.
GENERAL AND ADMINISTRATIVE - Total general and administrative costs for 1996,
1995 and 1994, were approximately $36.9 million, $19.8 million and $9.4
million, respectively. General and administrative expenses represented
34.57%, 22.9% and 20.2% of net sales in 1996, 1995 and 1994, respectively.
General and administrative costs generally include the costs of employee
salaries, fringe benefits, supplies, and related support costs which are
required in order to provide such operating functions as customer service,
billing, marketing, product development, information systems, collections of
accounts receivable, and accounting.
NTC's general and administrative costs increased to 24.5% of sales in 1996 from
20.3% of sales in 1995. This increase was due principally to: (1) increases in
fees paid to local exchange carriers (LEC's) to process NTC's billing and
collection of its LEC-billed long distance telephone service, and (2) increases
in compensation and fringe benefits expended as NTC continues to build
infrastructure to support anticipated future sales growth. RCI's general and
administrative costs continue to reflect the startup nature of its operations.
DEPRECIATION AND AMORTIZATION - The Company's depreciation and amortization
expense totaled $2.0 million, $1.0 million and $0.4 million for 1996, 1995 and
1994, respectively. These increases were caused by the continuing investment by
NTC in computer hardware and software, furniture and equipment, and leasehold
improvements required to support its rapid expansion in sales.
BAD DEBT EXPENSE - The Company's bad debt expense totaled $6.1 million, $4.1
million and $1.8 million for 1996, 1995 and 1994, respectively. Bad debt
expense represented 5.7%, 4.8% and 3.8% of net sales in 1996, 1995 and 1994,
respectively. The increase in bad debt was caused primarily by increased
provisioning of NTC's LEC billed receivables which currently carry a higher
than estimated bad debt provision and direct billed collection agency
write-offs.
OTHER (INCOME) AND EXPENSE - The Company's other (income) and expense totaled
$3.4 million, $1.0 million and $(0.3) million for 1996, 1995 and 1994,
respectively. The increase in 1996 was attributable in large part to
settlement costs of $2.0 million associated with claims by officers against
the Company. The increase in 1995 was attributed principally to: (1) a $0.4
million settlement with convertible noteholders relating to the acquisition
of RCI, (2) a $0.2 million settlement with a former Company officer, and (3)
a $0.3 million write-off of marketable securities by NTC.
CHARGE FOR ASSET IMPAIRMENT - The charge for asset impairment totaled $39.1
million for 1996 for the devaluation of the Company's investment in RCI. There
was no impairment in 1995 and 1994.
MINORITY INTEREST - Effective July 1, 1995, when it became apparent that
control of Incomnet was "other than temporary," RCI's operating results were
presented on a consolidated basis, with 49% of its losses charged to minority
interest.
NET INCOME (LOSS) - The Company's net income (loss) totaled $(37.7) million,
$1.4 million and $4.1 million for 1996, 1995 and 1994, respectively. Net income
(loss) represented (35.2)%, 1.6% and 8.7% of net sales for 1996, 1995 and 1994,
respectively. The decreases were attributed principally to: (1) higher losses
at RCI in 1996 due to the devaluation of patent rights and significantly
increased operating costs incurred to build infrastructure for future potential
sales growth, and (2) higher losses at the Company's headquarters which were
caused by the establishment of reserves for devaluation of the Company's
investment in RCI and for settlement costs.
EMPLOYMENT - Employment of the Company totaled 288 at December 31, 1996, not
including independent sales representatives, who are classified as independent
sales representatives and not employees of the Company.
33
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements and supplementary financial information
which are required to be filed under this item are presented under "Item 14.
Exhibits, Financial Statement Schedules and Reports on Form 10-K" in this
document, and are incorporated herein by reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS OF THE
REGISTRANT
The information required under this Item is contained in the definitive Proxy
Statement for the Company's 1997 Annual Meeting of Shareholders to be filed with
the Securities and Exchange Commission pursuant to Regulation 14A by May 31,
1997, and is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information required under this Item is contained in the definitive Proxy
Statement for the Company's 1997 Annual Meeting of Shareholders to be filed with
the Securities and Exchange Commission pursuant to Regulation 14A by May 31,
1997, and is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required under this Item is contained in the definitive Proxy
Statement for the Company's 1997 Annual Meeting of Shareholders to be filed with
the Securities and Exchange Commission pursuant to Regulation 14A by May 31,
1997, and is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required under this Item is contained in the definitive Proxy
Statement for the Company's 1997 Annual Meeting of Shareholders to be filed with
the Securities and Exchange Commission pursuant to Regulation 14A by May 31,
1997, and is incorporated herein by reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 10-K
INDEX TO FINANCIAL STATEMENTS:
Page
----
Report of Independent Auditors..............................................37
Consolidated balance sheet at December 31, 1996 and 1995....................38
Consolidated statement of operations for the years ended December 31,
1996, 1995 and 1994.........................................................39
Consolidated statement of cash flows for the years ended December 31,
1996, 1995 and 1994.........................................................40
Consolidated statement of shareholders' equity for the years ended
December 31, 1996, 1995 and 1994............................................41
34
<PAGE>
Notes to consolidated financial statements..................................42
Schedule II - Valuation and qualifying accounts at December 31, 1996
and 1995....................................................................55
All other schedules are omitted as the required information is not present or is
not present in amounts sufficient to require submission of the schedule, or
because the information required is included in the consolidated financial
statements or notes thereto.
INDEX TO EXHIBITS:
Exhibits designated by the symbol ** are management contracts or compensatory
plans or arrangements that are required to be filed with this report pursuant to
this Item 14.
The Company undertakes to furnish to any shareholder so requesting a copy of any
of the following exhibits upon payment to the Company of the reasonable costs
incurred by the Company in furnishing any such exhibit.
EXHIBIT NO. DESCRIPTION
- ----------- -----------
3.1 Certificate of Determination for Series A 2% Convertible Preferred
Stock. (Incorporated by reference from Incomnet, Inc.'s
Registration Statement on Form S-3 filed with the Securities and
Exchange Commission on November 22, 1996).
4.1 Form of Warrant to Purchase 75,000 Shares of Incomnet, Inc.
(Incorporated by reference from the Company's Registration
Statement on Form S-3 filed with the Securities and Exchange
Commission on May 10, 1996).
4.2 Form of Warrant to Purchase 510,000 Shares of RCI Common Stock with
Registration Rights Agreement, dated April 19, 1996. (Incorporated
by reference from the Company's Registration Statement on Form S-3
filed with the Securities and Exchange Commission on May 10, 1996).
4.3 Form of Warrant to Purchase RCI Common Stock, dated February 8,
1995. (Incorporated by reference from the Company's Registration
Statement on Form S-3 filed with the Securities and Exchange
Commission on May 10, 1996).
4.4 Form of Warrant to Purchase 360,000 Shares of Incomnet, Inc.
(Incorporated by reference from Incomnet, Inc.'s Pre-Effective
Amendment Number One to the Registration Statement on Form S-3
filed with the Securities and Exchange Commission on March 24,
1997).
4.5 Form of Warrant to Purchase 12,500 Shares of Incomnet, Inc.
(Incorporated by reference from Incomnet, Inc.'s Pre-Effective
Amendment Number One to the Registration Statement on Form S-3
filed with the Securities and Exchange Commission on
March 24, 1997).
10.1 Employment Agreement with James Quandt, dated January 6, 1997.
(Incorporated by reference from Incomnet, Inc.'s Pre-Effective
Amendment Number One to the Registration Statement on Form S-3
filed with the Securities and Exchange Commission on March 24,
1997).
10.2 Amended and Restated Management Incentive Agreement Between NTC and
Incomnet, Inc., dated January 28, 1997. (Incorporated by reference
from Incomnet, Inc.'s Pre-Effective Amendment Number One to the
Registration Statement on Form S-3 filed with the Securities and
Exchange Commission on March 24, 1997).
10.3 Settlement Agreements With Prior Noteholders. (Incorporated by
reference from the Company's Registration Statement on Form S-3
filed with the Securities and Exchange Commission on May 10, 1996).
35
<PAGE>
10.4 Form of 8% Convertible Note Issued by RCI in January 1996.
(Incorporated by reference from the Company's Registration
Statement on Form S-3 filed with the Securities and Exchange
Commission on May 10, 1996).
10.5 Form of Short-Term 10% Note Issued by RCI in April 1996.
(Incorporated by reference from the Company's Registration
Statement on Form S-3 filed with the Securities and Exchange
Commission on May 10, 1996).
10.6 Amended Carrier Switched Services Agreement with Wiltel, Inc. dated
June 17, 1996. (Incorporated by reference from Incomnet's
Registration Statement on Form S-3 filed with the Securities and
Exchange Commission on May 10, 1996 and declared effective on
October 31, 1996, or incorporated by reference from the Company's
filings with the Securities and Exchange Commission pursuant to the
Securities Exchange Act of 1934, as amended. Certain information
has been deleted from this agreement pursuant to a request for
confidential treatment pursuant to Rule 406).
10.7 Settlement Agreement Between Joel W. Greenberg and Incomnet, Inc.
(Incorporated by reference from the Company's Report on Form 8-K,
dated June 7, 1996, relating to the settlement agreement with Joel
W. Greenberg and his resignation as a director of the Company).
10.8 Form of Registration Rights Agreement Between Incomnet, Inc. and
Purchasers of Series A Convertible Preferred Stock. (Incorporated
by reference from Incomnet's Registration Statement on Form S-3
filed with the Securities and Exchange Commission on May 10, 1996
and declared effective on October 31, 1996, or incorporated by
reference from the Company's filings with the Securities and
Exchange Commission pursuant to the Securities Exchange Act of
1934, as amended).
10.9 Form of Purchase Agreement for the Series A 2% Convertible
Preferred Stock. (Incorporated by reference from Incomnet's
Registration Statement on Form S-3 filed with the Securities and
Exchange Commission on May 10, 1996 and declared effective on
October 31, 1996, or incorporated by reference from the Company's
filings with the Securities and Exchange Commission pursuant to
the Securities Exchange Act of 1934, as amended).
10.10 Management Incentive Agreement with NTC, dated October 14, 1996.
(Incorporated by reference from Incomnet, Inc.'s Registration
Statement on Form S-3 filed with the Securities and Exchange
Commission on November 22, 1996).
10.11 Settlement Agreements With Edward Jacobs and Jerry Ballah, dated
November 14, 1996. (Incorporated by reference from Incomnet, Inc.'s
Registration Statement on Form S-3 filed with the Securities and
Exchange Commission on November 22, 1996).
10.12 Shareholders Agreement for Rapid Cast, Inc., dated January 16,
1997. (Incorporated by reference from Incomnet, Inc.'s
Pre-Effective Amendment Number One to the Registration Statement on
Form S-3 filed with the Securities and Exchange Commission on March
24, 1997).
10.13 Registration Rights Agreement for Rapid Cast, Inc., dated January
16, 1997. (Incorporated by reference from Incomnet, Inc.'s
Pre-Effective Amendment Number One to the Registration Statement on
Form S-3 filed with the Securities and Exchange Commission on March
24, 1997).
10.14 Settlement Agreement and Mutual Release Between Incomnet, Inc. and
the RCI Parties, dated January 9, 1996. (Incorporated by reference
from Incomnet, Inc.'s Pre-Effective Amendment Number One to the
Registration Statement on Form S-3 filed with the Securities and
Exchange Commission on March 24, 1997).
10.15 Lease Agreement By NTC for space in Honolulu, Hawaii. *
10.16 Credit Agreement dated March 27, 1997 between National Telephone
& Communication, Inc. and First Bank & Trust, Irvine Regional
office. *
21 Subsidiaries of the Registrant *
36
<PAGE>
23 Consent of independent auditors *
27 Financial data schedule (Article 5 of regulations S-X) *
*Previously filed on Form 10-K filed with the Securities and
Exchange Commission on April 15, 1997.
REPORTS ON FORM 8-K, FILED IN 1996
20.1 Report on Form 8-K - Agreement with National Telephone &
Communications, Inc. (NTC) for incentive stock option program and
for a public offering of NTC's stock dated February 6, 1996 and
filed on February 9, 1996.
20.2 Report on Form 8-K - Settlement Agreement with Joel W. Greenberg.
20.3 Report on Form 8-K - Gerald Katell's Resignation from the Board of
Directors dated August 8, 1996 and filed on August 15, 1996.
20.4 Report on Form 8-K - Appointment of Dr. Howard Silverman as
director dated January 20, 1997 and filed on January 28, 1997.
37
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
Dated: July 8, 1997
INCOMNET, INC.
(Registrant)
By: /s/ MELVYN REZNICK
------------------
MELVYN REZNICK
President and Chief Executive Officer
Pursuant to requirements of the Securities Exchange Act of 1934, this report has
been signed below by the following persons on behalf of the registrant and in
the capacities and on the dates indicated:
<TABLE>
<CAPTION>
Signature Capacity Date
--------- -------- ----
<S> <C> <C>
/s/ MELVYN REZNICK President, Chief Executive Officer,
- ------------------ and Chairman of the Board of Directors July 8, 1997
MELVYN REZNICK
/s/ ALBERT MILSTEIN Director July 8, 1997
- -------------------
ALBERT MILSTEIN
/s/ Dr. HOWARD SILVERMAN Director July 8, 1997
- ------------------------
Dr. HOWARD SILVERMAN
/s/ NANCY ZIVITZ Director July 8, 1997
- ----------------
NANCY ZIVITZ
</TABLE>
38
<PAGE>
REPORT OF INDEPENDENT AUDITORS
Board of Directors and Shareholders
Incomnet, Inc.
We have audited the consolidated balance sheet of Incomnet, Inc. and
subsidiaries as of December 31, 1996 and 1995 and the related consolidated
statements of operations, shareholders' equity and cash flow for each of the
three years in the period ended December 31, 1996, and the schedule listed in
Item 14. These financial statements and schedule are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated financial statements and schedule 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 and schedule are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements and
schedule. 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 consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Incomnet, Inc. at December 31, 1996 and 1995 and the consolidated results of its
operations and its cash flows for each of the three years in the period ended
December 31, 1996, in conformity with generally accepted accounting principles.
As discussed in Note 11 to the financial statements, the Company is a party to a
class action matter, claiming losses arising from alleged securities violations
based upon the denial and non-disclosure of a pending investigation by the
Securities and Exchange Commission and on alleged undisclosed securities
transactions by its former President. Legal counsel to the Company has advised
that the ultimate outcome of this matter and a range of potential loss cannot
presently be determined. Accordingly, no provision for any liability that may
result upon adjudication has been made in the accompanying financial statements.
/s/ Stonefield Josephson
ACCOUNTANCY CORPORATION
Santa Monica, California
March 27, 1997
39
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
December 31,
------------
ASSETS 1996 1995
---- ----
<S> <C> <C>
Current assets:
Cash & cash equivalents $ 2,214 $ 1,645
Accounts receivable, including $267 and $542 due from related
party at December 31, 1996 and 1995 and less allowance for
doubtful accounts of $1,993 at December 31, 1996 and $1,063
at December 31, 1995 13,137 12,177
Notes receivable - current portion 323 103
Notes receivable from officers & shareholders, net of reserves
of $209 438 863
Inventories 2,760 1,647
Other current assets 1,332 1,197
---------- ----------
Total current assets 20,204 17,632
Property, plant and equipment, at cost, net 14,357 9,146
Patent rights, net 1,241 41,689
Goodwill, net 4,542 4,839
Investments, notes receivable and other assets 243 800
---------- ----------
Total assets $40,587 $74,106
---------- ----------
---------- ----------
LIABILITIES, MINORITY INTEREST AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 14,746 $ 8,784
Accrued expenses 8,217 3,687
Current portion of notes payable 3,918 2,531
Deferred income 4,040 1,190
---------- ----------
Total current liabilities 30,921 16,192
Deferred tax liability, net -- 8,449
Other long-term liabilities 1,040 11
Commitments (Note 12) -- --
Minority Interest -- 6,906
Shareholders' equity:
Common stock, no par value; 20,000,000 shares
authorized; 13,369,681 shares issued and outstanding
at December 31, 1996 and 13,262,648 shares at
December 31, 1995 61,320 60,884
Preferred stock, no par value; 100,000 shares authorized;
2,440 shares issued and outstanding at December 31, 1996 2,355 --
Treasury stock (5,492) (5,492)
Accumulated deficit (49,557) (12,844)
---------- ----------
Total shareholders' equity 8,626 42,548
---------- ----------
Total liabilities, minority interest & shareholders' equity $ 40,587 $ 74,106
40
<PAGE>
---------- ----------
---------- ----------
</TABLE>
See accompanying "Notes to Consolidated Financial Statements."
41
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF OPERATIONS
<TABLE>
<CAPTION>
Years Ended December 31,
------------------------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) 1996 1995 1994
---- ---- ----
<S> <C> <C> <C>
NET SALES $106,905 $86,565 $46,815
---------- ---------- ----------
OPERATING COSTS & EXPENSES:
Cost of sales 68,562 57,948 31,221
General & administrative 36,886 19,793 9,438
Depreciation & amortization 2,013 1,007 444
Bad debt expense 6,051 4,125 1,789
Total acquisition costs & expenses 2,334 1,625 265
Charge for asset impairment 39,147 -- --
Other (income) expense 3,429 1,002 (342)
---------- ---------- ----------
Total operating costs and expenses 158,422 85,500 42,815
---------- ---------- ----------
Operating income (loss) (51,517) 1,065 4,000
INCOME TAXES (BENEFIT) (7,812) 111 1
---------- ---------- ----------
Income (loss) before minority interest
and extraordinary items (43,705) 954 3,999
RCI acquisition - equity in profit (loss) of
unconsolidated subsidiary, net of tax -- (97) --
Cumulative effect of accounting change on years
prior to 1996, net of tax of $10 (Note 16) (877) -- --
MINORITY INTEREST 6,906 509 --
EXTRAORDINARY ITEM:
Gain (loss) on settlement with creditors -- -- 72
---------- ---------- ----------
Net income (loss) $ (37,676) $ 1,366 $ 4,071
---------- ---------- ----------
---------- ---------- ----------
INCOME (LOSS) PER COMMON SHARE
AND COMMON SHARE EQUIVALENTS:
Net income (loss) before extraordinary items $ (2.75) $ 0.11 $ 0.42
Cumulative effect of accounting change (0.07) -- --
---------- ---------- ----------
Net income (loss) per share $ (2.82) $ 0.11 $ 0.42
---------- ---------- ----------
---------- ---------- ----------
WEIGHTED AVERAGE NUMBER OF COMMON SHARES FOR
1996 AND COMMON SHARE AND COMMON SHARE
EQUIVALENTS OUTSTANDING FOR 1995 13,370 12,706 9,593
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
See accompanying "Notes to Consolidated Financial Statements."
42
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
Years Ended December 31,
------------------------
1996 1995 1994
---- ---- ----
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
After tax profit (loss) $(37,676) $ 1,366 $ 4,071
Depreciation & amortization - operations 2,013 1,413 444
Depreciation & amortization - acquisitions 2,334 651 121
Write-off of patent rights 39,147 -- --
Deferred income taxes (8,449) -- --
Minority interest (6,906) (8,227) --
Other non-cash (income) loss 877 358 (54)
Changes in operating assets and liabilities:
Accounts receivable (960) (2,784) (6,718)
Notes receivable - current portion (220) (103) --
Notes receivable - due from officers and shareholders 425 (863) --
Inventories (1,113) (401) 42
Other current assets 171 (1,000) (82)
Accounts payable 5,962 2,571 3,316
Accrued expenses 4,540 1,834 150
Deferred income 2,848 (896) 1,649
---------- ---------- ----------
Net cash provided (used) by operating activities 2,993 (6,081) 2,939
---------- ---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to property, plant and equipment (7,224) (7,389) (1,694)
Additions to patents (717) (21,002) --
(Increase) decrease in investments 281 16 (263)
---------- ---------- ----------
Net cash used in investing activities (7,660) (28,375) (1,957)
---------- ---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Increase (decrease) in short-term debt 2,904 1,306 (265)
Additions to long-term debt 1,274 -- --
Reduction of long-term debt (1,763) -- --
Sale of preferred stock, net 2,355 -- --
Issuance of common stock, net 436 29,508 8,069
Treasury stock -- (4,827) 465
Other, net 30 419 39
---------- ---------- ----------
Net cash provided by financing activities 5,236 26,406 8,308
---------- ---------- ----------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 569 (8,050) 9,290
Cash and cash equivalents at beginning of year 1,645 9,695 405
---------- ---------- ----------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 2,214 $ 1,645 $ 9,695
---------- ---------- ----------
---------- ---------- ----------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the year for:
Interest $ 181 $ 153 $ 1
Income taxes 635 574 1
</TABLE>
See accompanying "Notes to Consolidated Financial Statements."
43
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
(AMOUNTS IN THOUSANDS, EXCEPT
SHARES DATA)
<TABLE>
<CAPTION>
Common Stock Common Stock Preferred Treasury Accumulated
Shares Amount Stock Stock Deficit Total
- ------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
BALANCE AT DECEMBER 31, 1993 9,061,382 $22,176 -- -- $(18,247) $3,929
Common stock issued upon
exercise of warrants 1,308,833 8,545 -- -- -- 8,545
Common stock issued under
private placement 100,000 500 -- -- -- 500
Common stock issued in exchange
for NTC shares 82,639 155 -- -- -- 155
Repurchase of treasury shares (70,000) -- -- (665) -- (665)
Net income -- -- -- -- 4,071 4,071
- ------------------------------------------------------------------------------------------------------------------------
BALANCE AT DECEMBER 31, 1994 10,482,854 $31,376 -- $ (665) $(14,176) $16,535
Common stock issued upon
exercise of warrants 489,582 4,343 -- -- -- 4,343
Common stock issued under
private placement 157,500 1,890 -- -- -- 1,890
Common stock issued upon
conversion of note 2,300,000 22,664 -- -- -- 22,664
Common stock issued in exchange
for NTC shares 253,712 507 -- -- -- 507
Repurchase of treasury shares (451,000) -- (5,085) -- (5,085)
Treasury shares sold 30,000 -- 362 -- 362
Change in valuation of
marketable securities -- -- -- -- (34) (34)
Other -- 104 -- (104) -- --
Net income -- -- -- -- 1,366 1,366
- ------------------------------------------------------------------------------------------------------------------------
BALANCE AT DECEMBER 31, 1995 13,262,648 $60,884 -- $(5,492) $(12,844) $42,548
Common stock issued upon
settlement of litigation 107,033 436 -- -- -- 436
Issuance of preferred stock, net
(2,440 shares issued) -- -- 2,355 -- -- 2,355
Cumulative effect -- -- -- -- 877 877
Change in valuation of marketable
securities 86 86
Net loss -- -- -- -- (37,676) (37,676)
- ------------------------------------------------------------------------------------------------------------------------
BALANCE AT DECEMBER 31, 1996 13,369,681 $61,320 $2,355 $(5,492) $(49,557) $8,626
</TABLE>
See accompanying "Notes to Consolidated Financial Statements."
44
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
PRINCIPLES OF CONSOLIDATION - The consolidated financial statements include the
accounts of the Company, its wholly-owned subsidiary National Telephone &
Communications-Registered Trademark-, Inc. (NTC), and its 51%-owned subsidiary
Rapid Cast, Inc. (RCI). As a company with a controlling interest in RCI, the
Company is accounting for RCI using the consolidation method of accounting. The
Company shifted from the equity method of accounting for RCI under FASB
Statement No. 94 in the first and second quarters of 1995 to the consolidation
method when control became other than temporary. In the first quarter of 1997,
outside equity investments in RCI (see Note 17) reduced Incomnet's ownership
interest to less than 50%, thereby requiring the equity method of accounting for
RCI in 1997. All significant intercompany accounts and transactions have been
eliminated in consolidation. Certain reclassifications have been made to prior
year amounts to conform to current year presentation.
USE OF ESTIMATES - The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Actual results could differ from those
estimates. Significant estimates made in preparing the consolidated financial
statements include the allowance for doubtful accounts, deferred marketing
reserve, income tax valuation allowance, investment reserves, litigation
settlement costs and future undiscounted cash flows used in the analysis of
the impairment of long-lived assets. In connection therewith, management
provides its best estimate of amounts arising from settlement of litigation
and related legal fees, when such amounts become practicably determinable,
although the measurement of the actual amount and expenditure of cash and
other consideration may take place in future reporting periods.
REVENUE RECOGNITION - The Company recognizes revenue during the month in which
services or products are delivered, as follows:
(1) NTC's long distance telecommunications service revenues are generated when
customers make long distance telephone calls from their business or residential
telephones or by using any of NTC's telephone calling cards. Proceeds from
prepaid telephone calling cards are recorded as deferred income when the cash is
received, and recognized as income as the telephone service is utilized.
Deferred income is carried on the balance sheet as an accrued liability. Total
1996 long distance telephone service sales totaled $83.7 million.
(2) NTC's marketing-related revenues are derived from programs and material
sold to the Company's base of independent sales representatives, including forms
and supplies, fees for representative and certified trainer renewals, and the
Company's Certified Trainer, Independent Representative and Long Distance
University programs. The Company requires that all such services and materials
be paid at the time of purchase. Revenues from marketing-related materials, net
of amounts deferred for future services to be provided to the representatives,
are booked as cash sales when the revenues are received. A portion of the
revenues from marketing-related programs and materials are deferred and
recognized over a twelve month period, to accrue its obligation to provide
customer support to its independent sales representatives. For the fiscal year
ended December 31, 1996, marketing sales totaled $17.1 million.
(3) RCI's optical-related revenues are derived from the sale of the
Company's optical lens manufacturing system and related supplies. Revenues
from optical-related systems and supplies are recognized as sales at the time
the products are shipped to the customer. Based on historical experience of
immaterial returns, RCI does not establish a reserve for returns at the time
of sale. All items returned to RCI are placed back into inventory at the
lower of cost or fair market value. For the fiscal year ended December 31,
1996, optical product sales totaled $4.7 million.
(4) The Company's network service revenues are recognized as sales as the
service is delivered. Total 1996 network service sales totaled $1.4 million.
CONCENTRATION OF CREDIT RISK - The Company sells its telephone and network
services to individuals and small businesses throughout the United States and
does not require collateral. It sells its optical products both domestically
and internationally. Reserves for uncollectible amounts are provided, which
management believes are sufficient.
INCOME TAXES - The Company recognizes the amount of current and deferred taxes
payable or refundable at the date of the financial statements as a result of all
events that have been recognized in the financial statements and as measured by
the provisions of enacted laws. Deferred income taxes result from temporary
differences in the basis of assets and liabilities reported for financial
statement and income tax purposes.
45
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
COMPUTER HARDWARE, FURNITURE AND OFFICE EQUIPMENT - Computer hardware,
furniture and office equipment are stated at cost. Depreciation is provided
by the straight-line method over estimated useful lives ranging from five to
ten years.
COMPUTER SOFTWARE - The Company capitalizes the costs associated with
purchasing, developing and enhancing its computer software. All software
costs are amortized using the straight-line method over estimated useful
lives ranging from three to ten years.
LEASEHOLD IMPROVEMENTS - All leasehold improvements are stated at cost and are
amortized using the straight-line method over the expected lease term.
NET INCOME (LOSS) PER SHARE - Net income (loss) per common share is based on
the weighted average number of common shares for 1996 and common shares and
common share equivalents for 1995. Common share equivalents have been
excluded in 1994 because their effect was immaterial. The Financial
Accounting Standards Board has issued a new statement recently which requires
companies to report "basic" earnings per share, which will exclude options,
warrants and other convertible securities. The accounting and disclosure
requirements of this statement are effective for financial statements for
fiscal years beginning after December 15, 1997, with earlier adoption
encouraged. Management does not believe that the adoption of this
pronouncement will have a material impact on the financial statements.
CASH AND CASH EQUIVALENTS - Cash and cash equivalents consist of cash-on-hand
and short-term certificates of deposit.
FAIR VALUES OF FINANCIAL INSTRUMENTS - Unless otherwise indicated, the fair
values of all reported assets and liabilities which represent financial
instruments (none of which are held for trading purposes) approximate the
carrying values of such amounts.
INVENTORIES - Inventory primarily consists of completed optical machines at
the RCI subsidiary and is valued at the lower of cost (weighted average
method) or market.
INVESTMENTS - Marketable securities are considered available-for-sale and are
stated at fair market value. The excess of fair market value over cost would be
included as a separate component of Shareholders' Equity. During the fourth
quarter of 1996, the Company deemed these investments permanently impaired and
recorded a loss of $0.3 million to their estimated realizable value.
INTANGIBLE ASSETS - Goodwill, representing the excess of purchase price over the
fair value of the net assets of NTC, is amortized on a straight-line method
basis over its estimated useful life of twenty years. Accumulated amortization
at December 31, 1996 and 1995 was $1.2 million and $0.9 million, respectively.
Patent rights are stated at cost since the date of acquisition of RCI, and are
amortized on a straight-line basis over seventeen years (see below).
Accumulated amortization at December 31, 1996 and 1995 was $9.9 million and
$0.04 million, respectively.
LONG-LIVED ASSETS - The Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of" (SFAS No.
121), in March 1995. In accordance with SFAS No. 121, the Company reviewed
its long-lived assets and certain identifiable intangibles for impairment.
Patent rights obtained in the February 1995 acquisition of a controlling
interest in RCI were evaluated by management and deemed to have been
impaired. There was a significant decrease in market value of RCI as
evidenced by an outside equity investment in January of 1997, the change in
the market acceptance of products which were based on those patent rights,
and actual and forecasted operating losses and cash flow losses which were
significantly greater than originally anticipated. Accordingly, management
estimated the fair value of the patent rights acquired in the RCI
acquisition, based upon, among other valuation techniques, the present value
of estimated expected cash flows.
The carrying value of the patent rights exceeded management's estimates of the
discounted present value of net cash flows to be derived therefrom, and a
writedown of approximately $39.1 million and elimination of a related deferred
tax liability of $8.5 million.
46
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
STOCK OPTION PLANS - The Company has elected to follow Accounting Principles
Board Opinion No. 25, "Accounting for Stock Issued to Employees" (APB 25), and
related Interpretations in accounting for the employee stock options, rather
than adopt the alternative fair value accounting provided under The Financial
Accounting Standards Board issued Statement of Financial Accounting Standards
No. 123, "Accounting for Stock-Based Compensation."
2. FUNDING OF MARKETING COMMISSIONS AND DEFERRED INCOME:
The Company's subsidiary, NTC, maintains a separate bank account for the payment
of marketing commissions. Funding of this account is adjusted regularly to
provide for management's estimates of required reserve balances. NTC estimates
the total commissions owed to active independent representatives ("IR Earned
Compensation") each week for all monies collected that week due to the efforts
of those active independent representatives. All IR Earned Compensation is then
paid to the independent representatives, when due, directly out of the separate
bank account.
3. RELATED PARTY TRANSACTIONS:
Notes receivable from officers and shareholders arise from aggregate loans of
$0.6 million made to three individuals in connection with the exercise of their
options to purchase the Company's common stock. The notes are non-interest
bearing and due on demand, and are partially secured by the stock acquired upon
the exercise of the options. For one of the officer loans, the Company agreed
to look only to the shares held by the officer as a source of loan repayment.
Accordingly, a reserve of $208,800 was provided in the fourth quarter of 1995,
representing the difference between the market value of the shares held by the
officer and the amount of the loan.
Included in accounts receivable is approximately $0.3 million and $0.5 million
at December 31, 1996 and 1995, respectively, due from companies controlled by an
individual who is an Incomnet shareholder and a founding shareholder of RCI.
On August 15, 1996, RCI and one of its shareholders/officers entered into an
agreement whereby (1) certain contributed property received from the
shareholder/officer valued at $250,000 reduced the amount of indebtedness to
RCI relating to the purchase of equipment and supplies by the
shareholder/officer and certain other entities controlled by the
shareholder/officer from RCI approximating $445,000, with a remaining balance
due RCI of approximately $195,000, (2) the remaining balance due to RCI
described in (1) will be used to reduce the amount of indebtedness to the
shareholder/officer by the Company of approximately $513,000 (including
accrued interest through the date of the agreement), with a remaining balance
due to the shareholder/officer of approximately $318,000 as of the date of
the agreement, and (3) in connection with RCI terminating a "Purchase
Commitment Agreement" with the shareholder/officer and certain other entities
controlled by the shareholder/officer, the shareholder/officer surrendered
142,222 shares of common stock (representing approximately 4% of the
shareholder/officer's holdings in RCI) with an estimated fair value of
$448,000.
4. ACQUISITION OF RAPID CAST, INC.:
On February 8, 1995, the Company acquired a 51% ownership in Rapid Cast, Inc.
for $28,164,000 in a transaction accounted for using the purchase method of
accounting. The acquisition resulted in the recognition of intangible patent
assets of approximately $42.0 million, $8.0 million of which was written off
in the third quarter ending September 30, 1996, and the remaining balance of
$31.1 million of which was written off in the fourth quarter ending December
31, 1996. The remaining balance is being amortized over 17 years.
The following summary, prepared on a pro forma basis, combines the consolidated
results of operations as if RCI had been acquired as of the beginning of the
periods presented, after including the impact of certain adjustments, such as
minority interest, equity in loss of unconsolidated subsidiary and patent
amortization. (Dollars in thousands, except per share amounts).
1995 1994
---- ----
Sales $87,860 $46,815
47
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
Net income $ 1,080 $ 4,071
Net income per share $ .08 $ 0.42
The pro forma results are not necessarily indicative of what would have occurred
if the acquisition had been in effect for the entire periods presented. In
addition, they are not intended to be a projection of future results and do not
reflect any synergy that might be achieved from combined operations.
5. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment, at cost, including capitalized lease assets,
consist of the following:
(IN THOUSANDS) December 31,
------------------------
1996 1995
---- ----
Computer hardware and software $ 7,100 $ 5,113
Furniture and office equipment 3,456 1,878
Leasehold improvements 7,595 4,134
------ -----
18,151 11,125
Less accumulated depreciation 3,794 1,979
------ -----
$14,357 $9,146
------ -----
------ -----
6. PATENT RIGHTS FROM ACQUISITION OF RCI
During the third and fourth quarters of 1996, the Company evaluated the carrying
value of its patent rights in comparison with management's estimates of
discounted net present values of cash flows from those patents, and provided
impairment losses of approximately $8.0 million and $31.1 million, respectively.
7. INVESTMENTS, NOTES RECEIVABLE AND OTHER ASSETS
Investments, notes receivable and other assets consist of the following:
(IN THOUSANDS) December 31,
-------------------------
1996 1995
---- ----
Marketable securities available-for-sale $ 35 $321
Notes receivable -- 155
Other assets 208 324
--- ---
$243 $800
--- ---
--- ---
Marketable securities available-for-sale consist of shares of common stocks
of publicly traded companies. During the fourth quarter of 1996, the Company
deemed these investments permanently impaired and recorded a loss of $0.3
million to their estimated realizable value.
Notes receivable are carried at lower of amortized cost or net realizable
value. Other assets consist primarily of deposits.
8. NOTES PAYABLE:
Notes payable consists of the following:
<TABLE>
<CAPTION>
(IN THOUSANDS) December 31,
--------------
1996 1995
---- ----
<S> <C> <C>
Current Portion of Notes Payable:
Notes payable to founding shareholders of RCI,
interest at 7%, due in July 1996, $1,091 of which was
exchanged for RCI shares in January 1997, balance repaid $1,205 $1,518
Notes payable to certain shareholders, officers and director
</TABLE>
48
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
<TABLE>
<S> <C> <C>
of RCI, interest at 10%, $543 repaid in January 1997 from the
proceeds of private placement (see Note 17) balances exchanged
for equity shares of RCI 1,587 --
Revolving line of credit of RCI, interest at bank reference
rate (approximately 10% at December 31, 1996 and 1995)
repaid in January 1997 from the proceeds of private placement 500 490
Convertible notes payable to certain shareholders and officers
of RCI, interest at 8%, exchanged for equity shares of RCI
in January of 1997 322 --
Capitalized lease obligations, payable in varying installments
to 2000 288 --
Note payable in connection with financing of RCI
acquisition, interest at 8%, repaid in January 1996 -- 500
Miscellaneous 16 23
-------- -------
Total current portion of notes payable $3,918 $2,531
-------- -------
Long Term Portion of Notes Payable:
Capitalized lease obligations, payable in varying installments
to 2000 $1,002 $ --
Miscellaneous 38 11
-------- -------
Total long term portion of notes payable $1,040 $ 11
-------- -------
Total notes payable $4,958 $2,542
-------- -------
-------- -------
</TABLE>
Interest paid for 1996 and 1995 was approximately $0.2 million in each year and
none in 1994. Interest resulted primarily from interest paid on Notes used to
acquire RCI and from interest paid by RCI on its bank revolving line of credit.
9. INCOME TAXES:
On February 15, 1992, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards ("SFAS") No. 109 "Accounting for Income
Taxes". Effective January 1, 1993, the Company adopted SFAS No, 109, the effect
of which was immaterial to the Company's financial statements in 1994 and
resulted in a deferred tax liability in 1995.
Temporary differences between the financial statement carrying amounts and tax
bases of assets and liabilities that give rise to significant portions of the
deferred income tax assets and liabilities are as follows:
(IN THOUSANDS)
December 31,
------------------------
1996 1995
-------- ---------
Deferred tax assets
Allowance for doubtful accounts $ 3,205 $ 1,360
Nondeductible reserves 67 --
Net operating loss carryforwards 11,526 7,503
Other -- 113
49
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
-------- --------
Subtotal 14,798 8,976
-------- --------
Deferred tax liabilities
Property and equipment, principally
due to differences in depreciation 1,847 676
Patent rights -- 8,449
-------- --------
Subtotal 1,847 9,125
-------- --------
Total 12,951 (149)
Less valuation allowance (12,951) (8,300)
-------- --------
Net deferred tax liability $ -- $ 8,449
-------- --------
-------- --------
The deferred taxes at December 31, 1995 are presented in the accompanying
balance sheet as deferred tax assets-current (included in prepaid expenses and
other) of $0.4 million and deferred tax liability-noncurrent of $8.4 million.
The following is a reconciliation of the federal statutory tax rate and the
effective tax rate:
1996 1995
---- ----
Federal statutory tax rate (34.0)% 34.0%
Goodwill 0.6 9.9
Loss producing no current tax benefit 17.0 --
State taxes, net of federal benefits -- 38.2
Benefit from net operating loss carryforward -- (71.5)
Other, net 1.2 --
-------- --------
Effective tax rate (15.2)% 10.6%
-------- --------
-------- --------
Income tax benefits are recognized only when their realization is assured.
Accordingly, potential future income tax benefits resulting from net operating
losses incurred to date are not reflected in the consolidated financial
statements.
At December 31, 1996, Incomnet had available net operating loss carryforwards
for federal income tax purposes of approximately $22,600,000, expiring in
various years between 2000 and 2011, and Rapid Cast had a carryforward of
approximately $6,028,000 expiring through 2012. The company files combined
income tax returns for Incomnet and NTC and separate returns for RCI.
Accordingly, the respective federal net operating loss carryforwards of each
corporation are available to offset taxable income only of each separate
corporation.
10. SHAREHOLDERS' EQUITY:
STOCK OPTIONS - In July 1996, the Company's shareholders adopted a stock option
plan that replaced a previous plan adopted by shareholders in 1994. The plan is
for executives at the Company's parent company level. The plan allows for the
issuance of up to 1,500,000 shares at an exercise price equal to the price of
the last sale of the Company's common stock on the date of issuance. The
Company's subsidiaries have adopted their own separate stock option plans to be
implemented when those companies become publicly traded. To date, the Company
has issued 685,000 stock options that are now vested and can be exercised at
prices from $4.25 to $4.87 up to May 31, 2002. The Company has also issued
300,000 stock options at prices from $4.37 to $4.85 that will vest when the
Company's RCI subsidiary reaches certain financial goals. These options have not
yet vested.
In November 1994, the Company approved the 1994 Plan for directors, employees,
and key outside consultants of the Company that provided for the issuance of up
to 1,500,000 shares of common stock. The plan requires that the option price
must be at least 100% of the fair market value of the shares on the date the
option is granted. In November 1994, options to purchase 1,200,000 shares of the
Company's common stock were granted at exercise
50
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
prices of $10 per share. These options will be vested based upon a performance
requirement in which National Telephone & Communications, Inc. must earn at
least $15.0 million in pre-tax profits during any continuous four audited
quarterly periods until December 31, 1997.
The Company applies Accounting Principles Board Opinion No. 25, "Accounting
for Stock Issued to Employees," and related interpretations in accounting for
its plans. Accordingly, no compensation expense has been recognized for its
stock-based compensation plans. Had compensation cost for the Company's
stock option plans been determined based upon the fair value at the grant
date for awards under these plans consistent with the methodology prescribed
under SFAS 123, the Company's net loss and loss per share would have been
increased to the pro forma amounts indicated below:
(IN THOUSANDS)
1996
----
Net loss - reported $(37,676)
------
Net loss - pro forma $(37,940)
------
Loss per share - reported $ (2.82)
----
Loss per share - pro forma $ (2.83)
----
The fair value of each option grant in 1996 and 1995 was estimated on the date
of the grant using the Black-Scholes option-pricing model with the following
weighted-average assumptions: divided yield of 0.0%; expected annual volatility
of 66.1%; risk-free interest rate of 6.0% and expected lives of 3 years for
options. The weighted average per share fair value of options granted in 1996
was approximately $2.50. The pro forma amounts shown for the impact of SFAS 123
are not necessarily indicative of future results because of the phase in rules
and differences in number of grants, stock price and assumptions for future
years.
WARRANTS - Since 1994, the Company has issued warrants to purchase the Company's
common stock to key employees, directors or other individuals or organizations
as follows:
51
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
<TABLE>
<CAPTION>
Dollar Canceled or
Issued Number Price Exercised Amount Expired Expiration
------ ------ ----- --------- ------ ----------- ----------
<S> <C> <C> <C> <C> <C> <C>
1-17-94 500,000 $ 7.00 500,000 $3,500,000
5/27/94 500,000 10.00 500,000 5,000,000
5/27/94 100,000 8.50 100,000 850,000
5/27/94 100,000 8.50 100,000 850,000
5/27/94 50,000 8.50 5/27/97
5/27/94 50,000 8.50 5/27/97
8/14/94 10,000 8.50 10,000 85,000
11/15/94 100,000 11.25 25,000 281,250
11/15/94 10,000 11.25 10,000 112,500
1/10/95 500,000 10.25 500,000
1/10/95 500,000 11.25 500,000
6/30/95 900,000 14.00 900,000
8/29/95 250,000 11.00 250,000
8/29/95 35,000 4.875 (1) 8/29/97
8/29/95 35,000 4.875 (1) 8/29/97
8/29/95 25,000 4.875 (1) 25,000
12/20/95 2,000 5.125 (1) 2,000
12/20/95 3,000 5.125 (1) 3,000
12/20/95 1,000 5.125 (1) 1,000
12/20/95 1,000 5.125 (1) 1,000
5/9/96 100,000 6.00 (2) 5/9/01
5/9/96 50,000 7.00 (2) 5/9/01
5/9/96 75,000 5.37 (2) 12/31/98
12/9/96 360,000 3.75 (2) 12/9/99
12/17/96 12,500 2.94 (2) 12/17/01
--------- --------- ----------- ---------
4,269,500 1,245,000 $10,678,750 2,182,000
</TABLE>
(1) The exercise price on these warrants was adjusted pursuant to a redemption
of old stock options and a reissuance of an equivalent number of new stock
options with the same expiration date.
(2) These warrants were issued pursuant to legal settlements in 1996.
Since 1994, the Company has issued warrants to purchase a total of 4,269,500
shares of the Company's common stock. At March 21, 1997, warrants to purchase
1,245,000 of those shares have been exercised bringing the Company $10,678,750;
warrants to purchase 2,182,000 shares have been canceled or have expired; and
warrants remain outstanding to purchase 767,500 shares of the Company's common
stock at prices ranging from $2.94 to $8.50.
WARRANT - OPTION TABLE - The number and weighted average exercise prices of
options and warrants from each of the three years ended December 31, 1996,
1995 and 1994, respectively, are as follows:
<TABLE>
<CAPTION>
1994 1995 1996
---- ---- ----
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
NUMBER PRICE NUMBER PRICE NUMBER PRICE
------ -------- ------ -------- ------ --------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at
beginning of the year.......489,582 $5.00 2,609,582 $ 8.94 3,872,000 $10.72
Outstanding at
end of the year...........2,609,582 8.94 3,872,000 10.72 5,029,500 9.30
Exercisable at
end of the year...........2,609,582 8.94 3,872,000 10.72 4,729,500 10.26
Granted during the year....2,620,000 9.30 2,252,000 11.81 1,402,500 4.64
Exercised during the year....500,000 7.00 989,582 8.49 0 -
Forfeited/expired
during the year...................0 - 0 - 245,000 5.00
The range of exercise price of outstanding options and warrants at December 31, 1996 is $4.13
to $14.00, and the average contractual life is approximately three years.
</TABLE>
COMMON STOCK - On August 5, 1994, the Company announced that its Board of
Directors authorized the repurchase of up to 1,000,000 shares of its common
stock from time to time on the open market or in private transactions. The
Company's Chief Executive Officer was given the discretion to decide when and if
the Company would repurchase shares and to effect such transactions. As of March
27, 1997, the Company has repurchased a net of 486,000 shares of common stock
with a value of $5,491,845 under the terms of the repurchase authorization as
follows:
Years ended Shares
December 31, Repurchased Cost (IN THOUSANDS)
-------------- --------------- ---------------------
1994 70,000 $ 665
1995 416,000 4,827
--------------- ---------------------
486,000 $5,492
--------------- ---------------------
--------------- ---------------------
2% CONVERTIBLE PREFERRED STOCK - In the fourth quarter of 1996, the Company
issued 2,440 shares of Series A Convertible Preferred Stock, for net proceeds
of $2,354,640. Dividends on the preferred stock accrue at the rate of 2% per
annum, payable in cash or in shares of Common Stock at the conversion date.
Each share is convertible into common stock at a conversion price equal to
the lesser of the market value on the date of funding or 80% of the market
value immediately prior to the date of conversion.
PRIVATE PLACEMENT - On June 30, 1995, the Company initiated a private placement
of 900,000 shares of the Company's restricted common stock at $12 per share for
a total of $10,800,000 and warrants to purchase 900,000 additional shares of the
Company's common stock at $14 per share. The warrants were exercisable for a
period of
52
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
six months until December 31, 1995. The Company received $1,890,000 in cash
from subscribers to the private placement, which was the effective purchase
of 157,500 shares and warrants to purchase an additional 157,500 shares for
$14 per share. The Company also received subscription notes for $8,910,000
payable upon the registration of the shares and shares underlying the
warrants with the Securities and Exchange Commission. These notes were for
the purchase of 742,500 shares of the Company's common stock and warrants to
purchase an additional 742,500 shares for a purchase price of $14 per share.
As the Company did not register the shares, the notes for $8,910,000 were
canceled on December 31, 1995 by mutual consent with the investors. As a
result, the investors were no longer obligated to pay the notes to the
Company and the Company was no longer obligated to issue additional shares or
warrants to the investors. Since the warrants to purchase 157,500 additional
shares were not exercised, these warrants expired on December 31, 1995. As a
result, the Company issued a total of 157,500 shares in consideration for the
$1,890,000 in cash paid by the investors. The Company's balance sheet
reflects the issuance of 157,500 shares of the Company's common stock in
exchange for $1,890,000 in capital.
SHORT SWING PROFITS - In January 1996, the Company was served with a
derivative shareholders lawsuit entitled RICHARD MORALES VS. INCOMNET, INC.
AND SAM D. SCHWARTZ, 96 Civil 0225 in the United States District Court for
the Southern District of New York, alleging violations of Section 16(b) of
the Securities Exchange Act of 1934, as amended, and demanding that the
Company assert claims against Mr. Schwartz for the payment of short-swing
profits plus interest. Mr. Schwartz has retained separate counsel for this
action. In early July 1996, Mr. Schwartz deposited 800,000 shares of his
Incomnet, Inc. Common Stock into a court-approved escrow account with the
Company's New York counsel as security for his obligation to pay short swing
profits. In early February 1997, plaintiff's counsel prepared a motion for
summary judgment in the case seeking $5,050,000 in short swing profits from
Mr. Schwartz plus pre-judgment interest. On February 21, 1997, the plaintiffs
and Sam Schwartz, entered into a stipulated settlement pursuant to which Mr.
Schwartz agreed to pay $4,250,000 to the Company as full payment of his short
swing profit obligation to the Company. The plaintiff's lawyer indicated that
he would request a fee of $850,000 plus reimbursement of $65,000 of expenses,
to be paid by the Company from the proceeds of the recovery. Under the
stipulated settlement, the disgorgement of short-swing profits would be
payable $600,000 in cash and the balance by tender to the Company of shares
of the Company's Common Stock owned by Mr. Schwartz, based on 90% of the
average between the bid and the asked price of the Company's Common Stock on
the NASDAQ market during the 30 calendar days immediately preceding the date
that the court enters an order approving the settlement. Pursuant to the
agreement, Mr. Schwartz has deposited $600,000 in cash and has agreed to
deposit additional shares of the Company's common stock into a separate
escrow account from the one which already contains 800,000 shares of the
Company's stock owned by him or his affiliates. The Company intends to oppose
the amount of plaintiff's attorney's fees sought. The Company does not
otherwise intend to oppose the proposed settlement. On April 11, 1997, a
revised stipulation was filed containing the same economic terms. Notice of
the settlement is to be given to the shareholders by April 21, 1997. Any
opposition to the settlement is due by May 16, 1997, and a hearing to approve
the settlement is to be held on May 30, 1997. There is no assurance that the
Company will recover the short-swing profits from Mr. Schwartz.
11. COMMITMENTS, CONTINGENCIES AND OTHER:
LITIGATION - The Company is a defendant in a class action matter alleging
securities violation with respect to alleged false denial and non-disclosure
of a Securities and Exchange Commission investigation and alleged
non-disclosure of purchases and sales of the Company's stock by an affiliate
of the former Chairman of the Board. Counsel for the company is unable to
estimate the ultimate outcome of this matter and is unable to predict a range
of potential loss. Accordingly, no amounts have been provided for the class
action lawsuit in the accompanying financial statements.
The Company is under investigation by the Securities and Exchange Commission
under a non-public "formal order of private investigation." Management has
furnished all information requested by the Commission and does not believe
that the matter will have a material adverse impact on its financial position
or results of operations.
ALLOWANCE FOR DOUBTFUL ACCOUNTS - The total Company allowance for doubtful
accounts totaled $2.0 million or 13.2% of gross accounts receivable at
December 31, 1996 and $1.1 million or 8.0% of gross accounts receivable at
December 31, 1995. The following table summarizes the Company's year-to-year
reserve balances by subsidiary and segment:
$ IN THOUSANDS December 31,
---------------------
Subsidiary Segment 1996 1995
- ------------ ---------- ---------------------
53
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
NTC Telephone $1,908 $1,063
RCI Optical 85 --
AutoNETWORK Network -- --
---------------------
Total Company $1,993 $1,063
---------------------
---------------------
% of Gross Accounts Receivables 13.2% 8.0%
---------------------
---------------------
Reserves for NTC's telecommunications service accounts receivable relate
primarily to its direct billed and LEC billed long distance telephone services.
Delinquent direct billed receivables are collected by a combination of NTC's
internal collection department and by external collection agencies. Delinquent
LEC billed receivables are collected by the LEC's. The estimated percentage of
accounts which will become uncollectible is reviewed periodically by management
and is adjusted in accordance with historical experience.
Reserves for NTC's marketing program accounts receivable are provided at 100% of
the expected bad debt. These receivables result from payments for marketing
programs which have been denied due to returned checks and rejected credit card
payments.
BUILDING LEASES - Rent expense for the years ended December 31, 1996, 1995 and
1994 was $0.8 million, $0.8 million, and $0.3 million, respectively.
The Company leases its office and operating facilities, equipment and
automobiles under noncancellable operating leases. The aggregate future minimum
annual rental payments required under these leases are as follows (IN
THOUSANDS):
For years ending
December 31,
-------------
1997 $2,146
1998 2,176
1999 1,643
2000 1,455
2001 1,361
Thereafter 2,602
In addition, effective February 1996, NTC entered into a revised multiple-year
$1.0 billion contract with Wiltel, Inc., which has a fixed term expiring January
2002. As in the prior carrier contract with Wiltel, Inc., NTC commits to
purchase the designated volume of telephone time in accordance with a schedule
over the term of the contract. NTC currently relies in part, on the purchases
of another unaffiliated long distance telephone service provider to meet its
volume purchase requirements under the new contract.
12. NETWORK MARKETING COSTS:
NTC's net cost to operate its network marketing program consist of the
following:
(IN $ MILLIONS)
1996 1995
--------------------
Sales $17.4 $13.1
Cost of sales 13.7 11.2
Operating expenses for support services 4.3 3.8
--------------------
Total marketing-related costs 18.0 15.0
--------------------
Net marketing cost $ 0.6 $ 1.9
--------------------
--------------------
54
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
% of total NTC (long distance & marketing) sales 0.6% 2.3%
Marketing sales are generated by the sale of materials, training and support
services to assist NTC independent sales representatives in selling new retail
customers and enrolling other representatives in the NTC program. Beginning in
January 1996, NTC began to accrue its obligation to provide customer support to
its representatives (see Note 16). These reserved marketing revenues are
reflected as deferred income on the Company's balance sheet and are amortized
over the succeeding twelve months. The marketing-related costs include
commissions paid to independent sales representatives for acquiring new retail
telephone customers, as well as the cost of sales materials, salaries and wages
of marketing department personnel, services required to support the independent
sales representatives, and other directly identifiable support costs, but do not
include residual commissions paid on continuing long distance telephone usage or
the typical indirect cost allocations, such as floor-space and supporting
departments. Marketing-related costs for 1996 and 1995, of $18.0 million and
$15.0 million, respectively, are compared against marketing-related revenues for
1996 and 1995 of $17.4 million and $13.1 million, respectively. The results are
a net loss in marketing-related activities for 1996 and 1995 of $0.6 million and
$1.9 million, or 0.6% and 2.3%, respectively, of total NTC sales.
13. COMPENSATION OF INDEPENDENT SALES REPRESENTATIVES:
The Company's subsidiary, NTC, compensates its independent sales representatives
by an earned commission structure based upon signing up new telephone customers
and based upon the telephone usage generated by those customers. Expenses
associated with commissions, bonuses and overrides paid out to NTC's independent
sales representatives for 1996 and 1995 were $18.0 million and $14.2 million,
respectively.
14. SEGMENT INFORMATION:
In 1994, the Company conducted its business operations in two industry segments,
including Network Services and Telephone Services. In 1995 and 1996, because of
the acquisition of RCI, the Company conducted business in three segments,
including Network Services, Telephone Services and Optical Systems. No one
customer accounted for as much as 10% of the revenues of any segment in 1996,
1995 or 1994.
55
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
<TABLE>
<CAPTION>
(IN THOUSANDS)
Telephone Optical Network General
YEAR ENDED DECEMBER 31, 1996 Services Systems Services Corporate Consolidated
- ---------------------------- --------- -------- -------- --------- ------------
<S> <C> <C> <C> <C> <C>
Sales $100,811 $ 4,660 $1,426 $ 8 $106,905
-------- -------- ------ -------- --------
Operating income (loss) 3,735 (26,495) 475 (29,232) (51,517)
Income taxes 374 (8,449) 263 -- (7,812)
-------- -------- ------ -------- --------
Income (loss) before minority interest and extraordinary items $ 3,361 $(18,046) $ 212 $(29,232) $(43,705)
-------- -------- ------ -------- --------
-------- -------- ------ -------- --------
Identifiable assets $ 32,987 $ 5,951 $1,562 $ 87 $ 40,587
Depreciation and amortization 1,630 118 265 $ 2,334 4,347
Capital expenditures 6,412 669 143 -- 7,224
Telephone Optical Network General
YEAR ENDED DECEMBER 31, 1995 Services Systems Services Corporate Consolidated
- ---------------------------- --------- -------- -------- --------- ------------
Sales $ 83,127 $ 1,993 $1,370 $ 75 $ 86,565
-------- -------- ------ -------- --------
Operating income (loss) 5,060 (1,040) 369 (3,324) 1.065
Income taxes 365 -- (102) $ (152) 111
-------- -------- ------ -------- --------
Income (loss) before minority interest and extraordinary items $ 4,695 $ (1,040) $ 471 $ (3,172) $ 954
-------- -------- ------ -------- --------
-------- -------- ------ -------- --------
Identifiable assets $ 21,758 $ 25,345 $1,569 $ 25,434 $ 74,106
Depreciation and amortization 705 429 279 $ 1,100 2,513
Capital expenditures 6,681 199 509 -- 7,389
Telephone Optical Network General
YEAR ENDED DECEMBER 31, 1994 Services Systems Services Corporate Consolidated
- ---------------------------- --------- -------- -------- --------- ------------
Sales $ 45,609 $ -- $1,206 $ -- $ 46,815
-------- -------- ------ -------- --------
Operating income (loss) 3,742 -- 154 104 4,000
Income taxes -- -- 1 -- 1
-------- -------- ------ -------- --------
Income (loss) before extraordinary items $ 3,742 $ -- $ 153 $ 104 $ 3,999
-------- -------- ------ -------- --------
-------- -------- ------ -------- --------
Identifiable assets $ 12,830 $ -- $4,271 $ 9,057 $ 26,158
Depreciation and amortization 221 -- 489 -- 710
Capital expenditures 1,547 -- 147 -- 1,694
</TABLE>
56
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
15. FOURTH QUARTER ADJUSTMENTS:
During the fourth quarter of 1995, the Company recorded adjustments having
the effect of reducing net income by approximately $3.1 million or $ 0.24 per
share. These adjustments resulted primarily from reserve provisioning related
to settlements with shareholders and with the Company's former Chairman,
revisions of management's estimates regarding the collectibility of accounts
receivable, write-off of marketable securities and inventory, and reserve
provisioning for estimated legal fees.
16. CHANGE IN ACCOUNTING:
Effective January 1, 1996, the Company changed its accounting procedures to
defer a portion of marketing revenues, which had previously been recognized upon
receipt. The Company believes that the change is preferable because it provides
a better matching of revenues with services provided to the marketing
representatives. The cumulative effect of this change and certain other changes
for the periods prior to January 1, 1996 of approximately $0.9 million is shown
as a cumulative effect adjustment. The effect of the changes on 1996 is to
increase income before cumulative effect adjustment by $0.03 per share.
17. SUBSEQUENT EVENTS:
On January 15, 1997, RCI completed a Convertible Preferred Stock and Warrants
Purchase Agreement with two institutional investors whereby they issued (i)
7,275,000 shares of newly created Series A Convertible Preferred Stock, par
value $.001 per share, (ii) 725,000 shares of newly created Series B
Non-Voting Convertible Preferred Stock, par value $.001 per share, and (iii)
1,400,000 warrants (expiring five years from the date of issuance) with each
warrant entitling the holder thereof to purchase one share of common stock at
an exercise price of $1.74 per share, for aggregate gross proceeds of
$12,000,000. The proceeds were used to (i) repay $500,000 of principal, plus
accrued and unpaid interest, under RCI's existing note payable to bank, (ii)
repay $2,765,339 of existing bridge financing owing to Incomnet, including
accrued and unpaid interest thereon, (iii) repay $940,091 of additional
existing bridge financing owing to certain shareholders including accrued and
unpaid interest thereon, (iv) to repurchase 1,200,000 shares of common stock
from one of RCI's shareholders/officers for a purchase price of $1,536,000,
(v) to make a $325,000 partial settlement payment to complete the settlement
of the RCI patent infringement case, which has been dismissed, (vi) to pay
fees and expenses incurred by the institutional investors estimated to be
approximately $500,000, and (vii) the balance is for general working capital
purposes including the immediate repayment of overdue accounts payable of
approximately $1,800,000. The two institutional investors retain an option
to invest an additional $5,000,000 by July 15, 1997 and an additional
$5,000,000 by July 15, 1998 with substantially the same terms as previously
described.
This transaction reduced the Company's outstanding interest to less than 50% of
the voting control of RCI. Accordingly, commencing in the first quarter of
1997, RCI will be accounted for using the equity method of accounting.
In addition, on March 26, 1997, NTC entered into a credit agreement with a bank
for a $5.0 million accounts receivable line of credit to support NTC's
operations and establishment of additional branch marketing offices. This new
agreement provides for interest at prime plus 1.0% and is secured generally by
NTC's accounts receivable. As of March 31, 1997, there are no borrowings
against this line of credit. Under the terms of the agreement, NTC is required
to comply with various covenants, including covenants requiring NTC to maintain
specified ratios and levels of tangible net worth and net income, and limiting
the ability of NTC to pledge assets or incur liens on assets.
57
<PAGE>
Schedule II
INCOMNET, INC. AND SUBSIDIARIES
VALUATION AND QUALIFYING ACCOUNTS
DECEMBER 31, 1996 AND 1995
<TABLE>
<CAPTION>
(IN THOUSANDS)
Balance at Amounts Balance
beginning charged to costs at end
Classification of period and expenses Write-offs (1) of period
- -------------------- ---------- ---------------- -------------- ---------
<S> <C> <C> <C> <C>
Year ended December 31, 1996
Deducted from asset accounts:
Accounts receivable reserve $1,063 $9,517 $ (8,587) $1,993
Patent reserves 2,019 7,916 (9,891) 44
Goodwill reserves 942 296 -- 1,238
Notes receivable reserve 209 1,472 (1,472) 209
Inventory reserves 100 70 170
Reserve for marketable securities 34 225 (34) 225
------ ------- -------- ------
Total $4,367 $19,496 $(19,984) $3,879
------ ------- -------- ------
------ ------- -------- ------
Year ended December 31, 1995
Deducted from asset accounts:
Accounts receivable reserve $ 991 $ 7,590 $ (7,518) $1,063
Patent reserves 0 2,019 -- 2,019
Goodwill reserves 664 278 -- 942
Notes receivable reserve 0 209 -- 209
Inventory reserves 0 100 -- 100
Reserve for marketable securities 2,000 -- (1,966) 34
------ ------- -------- ------
Total $3,655 $10,196 $ (9,484) $4,367
------ ------- -------- ------
------ ------- -------- ------
Year ended December 31, 1994
Deducted from asset accounts:
Accounts receivable reserve $ 356 $ 4,576 $ (3,941) $ 991
Goodwill reserves 0 664 -- 664
Reserve for marketable securities 2,845 -- (845) 2,000
------ ------- -------- ------
Total $3,201 $ 5,240 $ (4,786) $3,655
------ ------- -------- ------
------ ------- -------- ------
</TABLE>
(1) Amounts are net of recoveries.
58
<PAGE>
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q/A
AMENDMENT No. 1
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 1997 COMMISSION FILE NO. 0-12386
INCOMNET, INC.
A California IRS Employer No.
Corporation 95-2871296
21031 Ventura Blvd., Suite 1100
Woodland Hills, California 91364
Telephone no. (818) 887-3400
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:.................None
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF
THE ACT:..............................................Common Stock, No Par Value
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days................................. YES X NO
Number of shares of registrant's common stock outstanding as of
March 31, 1997........................................................13,550,000
<PAGE>
ITEM 1. FINANCIAL STATEMENTS
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
($ IN 000s)
<TABLE>
<CAPTION>
March 31, December 31,
1997 1996
---- ----
<S> <C> <C>
ASSETS
Current assets:
Cash & cash equivalents $ 2,164 $ 2,214
Accounts receivable, including $460 and $267 due from related
party at March 31, 1997 and December 31, 1996, respectively
and less allowance for doubtful accounts of $1,065 at
March 31, 1997 and $1,078 at December 31, 1996 14,192 13,137
Notes receivable - current portion 471 323
Notes receivable from officers & shareholders, net of
reserves of $209 795 438
Inventories 326 2,760
Other current assets 1,086 1,332
------- --------
Total current assets 19,034 20,204
Property, plant and equipment, at cost, net 14,139 14,537
Patent rights, net 1,241
Goodwill, net 4,468 4,542
Investment in marketable securities 191
Deposits and other 357 376
Investments, notes receivable and other assets 223 243
------- --------
Total assets $38,222 $ 40,587
------- --------
------- --------
2
<PAGE>
LIABILITIES, MINORITY INTEREST AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $12,438 $ 14,746
Accrued expenses 7,601 8,217
Current portion of notes payable 220 3,918
Deferred income 3,313 4,040
------- --------
Total current liabilities 23,572 30,921
Notes payable 925 1,041
Liabilities in excess of assets of RCI 3,952
Commitments (Note 12)
Shareholders' equity:
Common stock, no par value; 20,000,000 shares
authorized; and 13,553,229 shares at March 31,
1997 and 13,369,681 shares issued and outstanding
at December 31, 1996 61,785 61,320
Preferred stock, no par value; 100,000 shares authorized;
2,075 shares issued and outstanding at March 31, 1997 and
2,440 shares issued and outstanding at December 31, 1997 1,990 2,355
Treasury stock (5,492) (5,492)
Additional paid in capital 36
Accumulated deficit (48,547) (49,557)
------- --------
Total shareholders' equity 9,772 8,626
------- --------
Total liabilities, minority interest & shareholders' equity $ 38,221 $ 40,587
------- --------
------- --------
</TABLE>
See accompanying "Notes to Consolidated Financial Statements."
3
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
THREE MONTHS ENDED MARCH 31,
($ in 000s)
1997 1996
----------- -----------
SALES $ 31,169 $ 24,399
----------- -----------
OPERATING COSTS & EXPENSES:
Cost of sales 21,531 15,906
General & administrative 6,159 6,290
Depreciation & amortization 665 429
Bad debt expense 1,697 1,091
Other (income)/expense (83) 69
NTC Acquisition - goodwill amortization 74 74
RCI Acquisition - patent rights amortization 503
RCI Acquisition - interest and legal 6
----------- -----------
Total costs & expenses 30,043 24,363
----------- -----------
Income before income taxes,
extraordinary items & minority interest 1,126 31
INCOME TAXES 107 94
----------- -----------
Income before extraordinary items &
minority interest 1,019 (63)
MINORITY INTEREST 480
EXTRAORDINARY ITEMS 9 --
----------- -----------
Net income $ 1,010 $ 417
----------- -----------
----------- -----------
INCOME PER COMMON SHARE
AND COMMON SHARE EQUIVALENTS $ .07 $ .03
----------- -----------
----------- -----------
WEIGHTED AVERAGE NUMBER OF COMMON SHARES AND
COMMON SHARE EQUIVALENTS OUTSTANDING 13,550,000 13,278,242
----------- -----------
----------- -----------
See accompanying "Notes to Consolidated Financial Statements."
4
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
THREE MONTHS ENDED MARCH 31,
($ in 000s)
<TABLE>
<CAPTION>
1997 1996
------- ------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 1,010 $ 417
Minority interest -- (480)
Depreciation & amortization - operations 665 429
Depreciation & amortization - acquisitions 74 577
Other -- 74
------- ------
Net cash inflow/(outflow) from operating activities 1,749 1,017
------- ------
CASH FLOWS FROM (INCREASE)/DECREASE IN OPERATING ASSETS:
Accounts receivable (1,055) 416
Notes receivable - current portion (147) (113)
Notes receivable - due from officers and shareholders (357) (65)
Inventories 2,434 443
Prepaid expenses & other 245 (188)
Notes receivable - long term 155
Deferred tax (41)
Deposits & other (148) (52)
------- ------
Net cash inflow/(outflow) from changes in
operating assets 931 596
------- ------
CASH FLOWS FROM INCREASE/(DECREASE) IN OPERATING LIABILITIES:
Accounts payable (2,308) 299
Accrued expenses (616) (384)
Deferred income (727) 71
------- ------
Net cash inflow/(outflow) from changes in operating liabilities (3,651) (14)
------- ------
Net cash inflow/(outflow) from operations (971) 1,577
------- ------
CASH FLOWS FROM (INCREASE)/DECREASE IN INVESTING ACTIVITIES:
Acquisition of plant & equipment (447) (2,162)
Organization cost (184)
Patents/intangible assets 1,241 (36)
Investment in Lab Tech 35
Investment in RCI
Liability in excess of asset 3,952
------- ------
Net cash inflow/(outflow) from investing activities 4,597 2,198
------- ------
</TABLE>
See accompanying "Notes to Consolidated Financial Statements."
5
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
THREE MONTHS ENDED MARCH 31, (CONT'D)
<TABLE>
<CAPTION>
1997 1996
------- -------
<S> <C> <C>
CASH FLOWS FROM INCREASE/(DECREASE) IN FINANCING ACTIVITIES:
Bank overdraft --
Minority interest (1)
Notes payable - current (3,698) 158
Sale of common stock, net 465 147
Preferred Stock (365)
Treasury stock --
Notes payable - long term (114) 495
Paid in capital 36 --
Prior period adjustment to retainer earnings --
Change in valuation allowance --
------- -------
Net cash inflow/(outflow) from financing activities (3,676) 799
------- -------
Net cash inflow/(outflow) from investing & financing 921 (1,399)
------- -------
Net increase/(decrease) in cash & cash equivalents $ (50) $ 200
------- -------
------- -------
</TABLE>
See accompanying "Notes to Consolidated Financial Statements."
6
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
MARCH 31, 1997
1. MANAGEMENT'S REPRESENTATION:
The consolidated financial statements included herein have been prepared by the
management of Incomnet, Inc. (the Company) without audit. Certain information
and note disclosures normally included in the consolidated financial statements
prepared in accordance with generally accepted accounting principles have been
omitted. In the opinion of the management of the Company, all adjustments
considered necessary for fair presentation of the consolidated financial
statements have been included and were of a normal recurring nature, and the
accompanying consolidated financial statements present fairly the financial
position as of March 31, 1997, and the results of operations for the three
months ended March 31, 1997 and 1996, and cash flows for the three months March
31, 1997 and 1996.
It is suggested that these consolidated financial statements be read in
conjunction with the consolidated financial statements and notes for the three
years ended December 31, 1996, included in the Company's Annual Report on Form
10-K filed with the Securities and Exchange Commission on April 15, 1997. The
interim results are not necessarily indicative of the results for a full year.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
PRINCIPLES OF CONSOLIDATION - The consolidated financial statements include the
accounts of the Company and its wholly-owned subsidiary, National Telephone &
Communications-Registered Trademark-, Inc. (NTC). The statements do not include
consolidated results of Rapid Cast, Inc., the Company's 35%-owned subsidiary,
which is accounted for using the equity method of accounting under FASB
Statement No. 94. The Company accounted for RCI using the consolidated method of
accounting from the third quarter of 1995 until December 31, 1996 because the
Company owned 51% of RCI. In January 1997, the Company's ownership changed from
51% of RCI to 35% and, as a result, the method of accounting has changed to the
equity method under FASB Statement No. 94. On the date of change in the
method of accounting, RCI's liabilities significantly exceeded its assets,
and the Company recorded its ratable share of such excess in the balance
sheet caption "Liabilities in excess of assets of RCI". Accordingly, all
assets and liabilities of RCI, including patent rights of $1,241,000 (after
previously recorded reserves of approximately $39 million) were, during the
first quarter of 1997, combined under this caption.
REVENUE RECOGNITION - The Company recognizes revenue during the month in
which services or products are delivered, as follows:
(1) NTC's long distance telecommunications service revenues are generated
when customers make long distance telephone calls from their business or
residential telephones or by using any of NTC's telephone calling cards.
Proceeds from prepaid telephone calling cards are recorded as deferred
revenues when the cash is received, and recognized as revenue as the
telephone service is utilized. The reserve for deferred revenues is carried
on the balance sheet as an accrued liability. Long distance telephone
service sales in the three months ending March 31, 1997 totaled $25.1 million
versus long distance telephone service sales of $20.3 million in the three
months ending March 31, 1996, an increase of 24%.
(2) NTC's marketing-related revenues are derived from programs and material
sold to the Company's base of independent sales representatives, including
forms and supplies, fees for representative and certified trainer renewals,
and the Company's Certified Trainer, Independent
7
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
MARCH 31, 1997
Representative and Long Distance University programs. The Company requires
that all such services and materials be paid at the time of purchase.
Revenues from marketing-related materials, net of amounts deferred for future
services provided to the representatives, are booked as cash sales when the
revenues are received. A portion of the revenues from marketing related
programs and materials is deferred and recognized over a twelve month period
to accrue the Company's obligation to provide customer support to its
independent representatives. For the three months ending March 31, 1997,
marketing sales totaled $5.7 million versus marketing sales of $2.7 million
for the three months ended March 31, 1996, an increase of 113%.
(3) The Company's network service revenues are recognized as sales as the
service is delivered. Network service sales in the three months ending March
31, 1997 totaled $0.4 million versus $0.3 million in the three months ending
March 31, 1996.
CONCENTRATION OF CREDIT RISK - The Company sells its telephone and network
services to individuals and small businesses throughout the United States and
does not require collateral. Rapid Cast sells its optical products both
domestically and internationally. Reserves for uncollectible amounts are
provided, which management believes are sufficient.
COMPUTER HARDWARE, FURNITURE AND OFFICE EQUIPMENT - Computer hardware,
furniture and office equipment are stated at cost. Depreciation is provided
by the straight-line method over the assets' estimated useful lives of 5 to
10 years.
COMPUTER SOFTWARE - The Company capitalizes the costs associated with
purchasing, developing and enhancing its computer software. All software
costs are amortized using the straight-line method over the assets' estimated
useful lives of 3 to 10 years.
LEASEHOLD IMPROVEMENTS - All leasehold improvements are stated at cost and
are amortized using the straight-line method over the expected lease term.
NET INCOME PER SHARE - Net income per common share is based on the weighted
average number of common shares for 1997, and common shares and common share
equivalents for 1996.
ACQUISITION AMORTIZATION - The excess of purchase price over net assets of
NTC has been recorded as an intangible asset and is being amortized by the
straight-line method over twenty years.
DEFERRED TAX LIABILITY - Deferred income taxes result from temporary
differences in the basis of assets and liabilities reported for financial
statement and income tax purposes.
USE OF ESTIMATES - The preparation of 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, as well as the reported amounts of revenues
and expenses during the reporting period. Actual results could differ from
those estimates.
3. Funding of Marketing Commissions and Deferred Income:
8
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
MARCH 31, 1997
The Company's subsidiary, NTC, maintains separate bank accounts for the payment
of marketing commissions. Funding of these accounts is adjusted regularly to
provide for management's estimates of required reserve balances. NTC estimates
the total commissions owed to active independent representatives ("IR Earned
Compensation") each week for all monies collected that week due to the efforts
of those active independent representatives. All IR Earned Compensation is then
paid to the independent representatives, when due, directly out of the separate
bank account.
IMPAIRMENT OF LONG LIVED ASSETS: In accordance with the provisions of SFAS No.
121, the Company regularly reviews long-lived assets and intangible assets for
impairment whenever events or changes in circumstances indicate that the
carrying amount to the assets may not be recoverable.
CURRENT ACCOUNTING PRONOUNCEMENTS: The Financial Accounting Standards Board has
issued SFAS No. 123, "Accounting for Stock-Based Compensation," which encourages
companies to account for stock compensation awards based on their fair value at
the date the awards are granted. This statement does not require the application
of fair value method and allows the continuance of current accounting method,
which requires accounting for stock compensation awards based on their intrinsic
value as of the grant date. However, SFAS No. 123 requires pro forma disclosure
of net income and, if presented, earnings per share, as if the fair value based
method of accounting defined in this statement has been applied. The accounting
and disclosure requirements of this statement are effective for financial
statements for fiscal years beginning after December 15, 1995, although earlier
adoption is encouraged. The Company has elected not to adopt the fair value
provisions of this statement.
4. NETWORK MARKETING COSTS:
During the three months ending March 31, 1997, NTC's net costs to operate its
network marketing program was $0.5 million versus $0.7 million for the three
months ended March 31, 1996, as summarized below (in $ millions):
3 Months Ending 3 Months Ending
March 31, 1997 March 31, 1996
--------------- --------------
Sales $ 5.7 $ 2.7
------- -----
Cost of sales 4.9 2.5
Operating expenses for support services 1.3 0.9
------- -----
Total marketing-related costs 6.2 3.4
------- -----
Net marketing cost $ 0.5 $ 0.7
------- -----
------- -----
% of total NTC (long distance &
marketing) sales 1.8% 3.2%
9
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
MARCH 31, 1997
Marketing sales of $5.7 million for the three months ended March 31, 1997 and
$2.7 million for the three months ended March 31, 1996 were generated by the
sale of materials, training and support services to assist NTC independent
sales representatives in selling new retail customers and enrolling other
representatives in the NTC program. Effective January 1, 1996, the Company
changed its accounting procedures to defer a portion of marketing revenues,
which had previously been recognized upon receipt. The Company believes that
the change is preferable because it provides a better matching of revenues
with services provided to the marketing representatives. The cumulative
effect of this change and certain other changes for the periods prior to
January 1, 1996 equal to approximately $.09 million is shown as a cumulative
effect adjustment. When the three month marketing-related costs of $6.2
million is compared against marketing-related revenues of $5.7 million the
result is $0.5 million in net marketing-related activities during the three
months ended March 31, 1997 versus a net cost of $0.7 million in marketing
related activities during the three months ended March 31, 1996.
5. COMPENSATION OF INDEPENDENT SALES REPRESENTATIVES:
The Company's subsidiary, NTC, compensates its independent sales
representatives by an earned commission structure based upon signing up new
telephone customers and based upon the telephone usage generated by those
customers. In the three months ending March 31, 1997, expenses associated
with commissions, bonuses and overrides paid out to NTC's independent
representatives were $5.4 million versus $3.3 million for the three months
ended March 31, 1996.
6. COMMITMENTS AND CONTINGENCIES:
Litigation - The Company is a defendant in a class action matter and related
lawsuits alleging securities law violations with respect to alleged false denial
and non-disclosure of a Securities and Exchange Commission investigation and
alleged non-disclosure of purchases and sales of the Company's stock by the
former Chairman of the Board and one of his affiliates. Counsel for the Company
is unable to estimate the ultimate outcome of these matters and is unable to
predict a range of potential loss. Accordingly, no amounts have been provided
for the class action or related lawsuits in the accompanying financial
statements.
The Company is under investigation by the Securities and Exchange Commission
under a non-public "formal order of private investigation." Management has
furnished all information requested by the Commission and does not believe that
the matter will have a material adverse impact on its financial position or
results of operations.
7. SUBSEQUENT EVENT:
In April 1997, NTC entered into an agreement to extend the lease on its
headquarters building at 2801 Main Street, Irvine, California. According to the
terms of this agreement, NTC would be obligated to pay formula based monthly
lease payments estimated to be approximately $57,000 per month during 1997 and
increasing to approximately $72,000 per month for the remainder of the initial
five year lease term. In addition, in February 1997, NTC entered into a ten
year lease
10
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
MARCH 31, 1997
for office space in Honolulu, Hawaii, with the lease expiring in 2007. The
monthly payments on the lease in Honolulu commence at $36,698 per month in
1997 and 1998, and increase on a bi-annual basis through the term of the
lease to $43,536 per month in 2006 and 2007.
11
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW:
The following is management's discussion and analysis of certain significant
factors which have affected the results of operations and financial condition
of the Company during the period included in the accompanying financial
statements. This discussion should be read in conjunction with the financial
statements and associated notes. The discussion herein is qualified by
reference to the Cautionary Statements. See "Part II. Cautionary Statements".
LIQUIDITY AND CAPITAL RESOURCES:
GENERAL - Overall, the Company achieved slightly negative cash flows of
$50,000 during the first three months of 1997 resulting from negative cash
flows from operations ($971,000) which were almost entirely offset by
positive cash flows from investing $4.6 million less negative cash flow from
financing activities ($3.7 million) as discussed below:
CASH FLOW FROM OPERATIONS - The Company generated $971,000 in negative cash
flow from operations during the first nine months of 1996, compared to $1.6
million in positive cash flow from operations during the prior year's
comparable period. This year-to-year decrease in cash flow from operations
resulted primarily from: (1) a $1.1 million increase in profits adjusted for
non-cash expenses, offset by (2) a $1.1 million increase in accounts
receivable, and (3) a $2.3 million decrease in accounts payable. Much of the
changes in operating assets arise from the change in accounting for the Rapid
Cast subsidiary, which was presented on the consolidated basis at December
31, 1996, but because Incomnet's ownership diminished to approximately 33%
during the first quarter, was presented on the equity method of accounting at
March 31, 1997.
CASH FLOW FROM INVESTING - The Company generated positive cash flows from
investing activities of $4.6 million in the first three months of 1997 and
negative cash flows of ($2.2 million) in the first three months of 1996.
CASH FLOW FROM FINANCING - Positive cash flows from investing activities of
$4.6 million were offset by negative cash flow from financing activities of
($3.7 million) during the first three months of 1997, due principally from
the change in method of accounting for the Rapid Cast subsidiary.
The Company had material commitments for capital expenditures of $1.5 million in
tenant improvements for its Honolulu, Hawaii office space at December 31, 1996,
and expects to continue making improvements to the NTC headquarters building and
purchasing additional equipment commensurate with the expansion of its business.
During 1996, the Company had capital expenditures of $7.2 million for plant and
equipment.
12
<PAGE>
LITIGATION - The Company is subject to pending litigation and an investigation
by the Securities and Exchange Commission. Management is not yet able to
predict the impact of the pending litigation on its financial condition and
results of operations. Management does not believe that the investigation by
the Securities and Exchange Commission will result in a material impact on the
Company's financial condition or results of operations. See "Part II. Item 1.
Legal Proceedings."
RESULTS OF OPERATIONS:
SALES - First quarter, 1997 sales of $31.2 million increased 28% over the
first quarter, 1996 sales of $24.4 million. The majority of this increase
was attributable to NTC's sales increase to $30.8 million from $23.0 million
in the three months ending March 31, 1997 as compared to the same period in
1996, respectively. The following table summarizes the Company's sales
performance by subsidiary and segment during the comparable first quarters in
1997 and 1996:
$ in millions
-----------------
Subsidiary Segment 1997 1996
- --------------- --------------------------------------- ---- ----
NTC Telephone (telecommunications services) $25.1 $20.3
NTC Telephone (marketing programs) 5.7 2.7
RCI Optical -- 1.1
AutoNETWORK Network 0.4 0.3
----- -----
Total Company Sales $31.2 $24.4
----- -----
----- -----
COST OF SALES - Total Company cost of sales increased to $21.5 million or 69% of
sales during the quarter ending March 31, 1997 versus $15.9 million or 65% of
sales during the comparable prior year quarter. The quarter-to-quarter increase
in cost of sales resulted largely from increasing carrier costs associated with
increased telephone service sales by NTC.
The following table summarizes the Company's changes in three major cost
components for the first quarter:
$ in millions
-------------------
1997 1996
------ -------
Commissions paid to NTC independent sales reps $ 5.4 $ 3.5
Carrier costs for NTC's long distance telephone 15.9 12.2
AutoNETWORK .2 .2
------ -------
Total Cost of Sales (excluding
$0.7 million of costs relating to RCI in 1996) $ 21.5 $ 15.9
------ -------
------ -------
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<PAGE>
NTC's total commission expense increased to $5.4 million in the first quarter
of 1997 compared to $3.5 million in the same quarter of 1996. NTC's carrier
costs to deliver long distance telephone service to its telephone customers
increased to $15.9 million in the first quarter of 1997 compared to $12.2
million in the first quarter of 1996. This increase in carrier costs reflects
the year-to-year growth in telephone sales, although these costs have grown
at a slower pace than sales, thus reflecting improvements in overall
telephone gross profits. The third cost component shown in the table above is
the AutoNETWORK division's costs of providing communications network products
and services.
GENERAL & ADMINISTRATIVE - Total general and administrative costs decreased
to $6.2 million or 20% of sales in the quarter ending March 31, 1997 compared
to $6.3 million or 26% of sales in the same prior year quarter. General and
administrative costs generally include the costs of employee salaries, fringe
benefits, supplies, and related support costs which are required in order to
provide such operating functions as customer service, billing, marketing,
product development, information systems, collections of accounts receivable,
and accounting. The reduction in the current quarter primarily reflects the
elimination of Rapid Cast.
NTC's general and administrative costs decreased to 18% of sales in the first
quarter of 1997 from 21% of sales in the first quarter of 1996. This reduction
is caused largely by increases in sales volume without a corresponding increase
in the overhead structure. During 1996 NTC made significant expenditures in
building its infrastructure to support future sales growth.
DEPRECIATION & AMORTIZATION - Total Company depreciation and amortization
expense was $665,000 in the first quarter of 1997 verses $429,000 in the
first quarter of 1996. This increase was caused by continuing investment by
NTC in computer hardware and software, furniture and equipment, and leasehold
improvements required to support its anticipated expansion in sales.
BAD DEBT EXPENSE - Total Company bad debt expense increased to $1.7 million in
the first quarter of 1997 compared to $1.1 million in the same prior year
quarter. The quarter-to-quarter increase in bad debt was caused primarily by
increases in sales volumes.
ACQUISITION COSTS & EXPENSES - Acquisition costs decreased to $74,000 during
the first quarter of 1997 compared to $583,000 during the first quarter of
1996. This decrease was primarily caused by writing off in the third and
fourth quarters of 1996 the total patent rights acquired when the Company
acquired 51% of RCI in 1995 in the third and fourth quarters of 1996.
Acquisition costs & expenses in the first quarter of 1997 were related to the
acquisition of NTC in 1992.
MINORITY INTEREST - Beginning on July 1, 1995, the Company converted from the
equity method to the consolidated method of accounting for its 51% ownership in
RCI. As a result, $480,345, or 49% (the "minority interest") of RCI's losses
during the three months ending March 31, 1996, has been eliminated from the
Company's "Consolidated Statements of Operations" for 1996 and, therefor, no
RCI revenues or expenses are recognized after that date. On January 1, 1997,
the Company converted back to the equity method of accounting.
NET INCOME - Total Company net income increased to $1 million or 3.2% of sales
in the first quarter of 1997 as compared to net income of $417,000 or 1.7% of
sales in the first quarter ended March 31,
14
<PAGE>
1996. The quarter-to-quarter increase in net income resulted from no longer
recording losses incurred at the Rapid Cast subsidiary.
15
<PAGE>
PART II - OTHER INFORMATION
CAUTIONARY STATEMENTS:
This Quarterly Report on Form 10-Q contains certain forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933
and Section 21E of the Securities Exchange Act of 1934. The Company intends
that such forward-looking statements be subject to the safe harbors created
by such statutes. The forward-looking statements included herein are based on
current expectations that involve a number of risks and uncertainties.
Accordingly, to the extent that this Quarterly Report contains
forward-looking statements regarding the financial condition, operating
results, business prospects or any other aspect of the Company and its
subsidiaries, please be advised that the Company and its subsidiaries' actual
financial condition, operating results and business performance may differ
materially from that projected or estimated by the Company in forward-looking
statements. The differences may be caused by a variety of factors, including
but not limited to adverse economic conditions, intense competition,
including intensification of price competition and entry of new competitors
and products, adverse federal, state and local government regulation,
inadequate capital, unexpected costs and operating deficits, increases in
general and administrative costs, lower sales and revenues than forecast,
loss of customers, customer returns of products sold to them by the Company
or its subsidiaries, disadvantageous currency exchange rates, termination of
contracts, loss of supplies, technological obsolescence of the Company's or
its subsidiaries' products, technical problems with the Company's or its
subsidiaries' products, price increases for supplies and components,
inability to raise prices, failure to obtain new customers, litigation and
administrative proceedings involving the Company, including the pending class
action and related lawsuits and SEC investigation, the possible acquisition
of new businesses that result in operating losses or that do not perform as
anticipated, resulting in unanticipated losses, the possible fluctuation and
volatility of the Company's operating results, financial condition and stock
price, losses incurred in litigating and settling cases, dilution in the
Company's ownership of its subsidiaries and businesses, adverse publicity and
news coverage, inability to carry out marketing and sales plans, challenges
to the Company's patents, loss or retirement of key executives, changes in
interest rates, inflationary factors, and other specific risks that may be
alluded to in this Quarterly Report or in other reports issued by the
Company. In addition, the business and operations of the Company are subject
to substantial risks which increase the uncertainty inherent in the
forward-looking statements. In light of the significant uncertainties
inherent in the forward-looking information included herein, the inclusion of
such information should not be regarded as a representation by the Company or
any other person that the objectives or plans of the Company will be achieved.
ITEM 1. LEGAL PROCEEDINGS
SECURITIES AND EXCHANGE COMMISSION INVESTIGATION:
The investigation of the Company by the SEC, which was commenced in August
1994, has not experienced any material changes from its status as described
in "Item 3. Legal Proceedings" in the Company's Form 10-K for its fiscal year
ending December 31, 1996.
16
<PAGE>
The Company continues to believe that it has provided substantial
documentation to the Commission that demonstrates the propriety of its
business operations and that the ultimate result of the investigation will
not have a material adverse effect on the Company's financial condition or
results of operations.
CLASS ACTION AND RELATED LAWSUITS:
The status of the pending class action lawsuit described in "Item 3. Legal
Proceedings" in the Company's Form 10-K for its fiscal year ending December
31, 1996, SANDRA GAYLES, ET AL. VS. SAM D. SCHWARTZ AND INCOMNET, INC., Case
No. CV95-0399 KMW (BQRx), has materially changed since the filing of the Form
10-K for the fiscal year ending December 31, 1996 in the following manner:
On May 6, 1997, the court in the pending class action lawsuit SANDRA GAYLES
ET AL. VS. SAM D. SCHWARTZ AND INCOMNET, INC. ruled that approximately 20
former shareholders of the Company have the right to "opt out" of the class
action lawsuit and file their own separate lawsuit against the Company and Sam
D. Schwartz, the Company's former President. The Company expects these
potential plaintiffs to file a separate lawsuit against it and its former
President in the near future. The potential plaintiffs purchased the
Company's stock in the open market through Everest Securities, a brokerage
firm which has since terminated its business. The potential claims are
expected to be based on alleged violations of applicable securities laws,
because of alleged statements made by the Company's former President to the
securities broker at Everest Securities in 1995. The amount of damages to be
sought by the potential plaintiffs is not yet known. The Company intends to
vigorously defend the claims if they are asserted against it.
In a hearing on May 5, 1997, the plaintiffs in a lawsuit entitled SILVA RUN
WORLDWIDE LIMITED VS. INCOMNET, INC., SAM D. SCHWARTZ, BEAR STEARNS & CO.,
INC., LESLIE SOLMONSON, RONALD F. SEALE, MARINER RESERVE FUND, COMPANIA DI
INVESTIMENTO ANTILLANO, COUTTS & CO. AG, SALVATORE M. FRANZELLA, PETER G.
EMBIRICOS, AND JOS SCHUETZ, filed in the United States District Court for the
Southern District of New York and transferred in March 1997 to the same court
in California which is hearing the pending class action lawsuit, were allowed
to continue as a separate pleading from the class action lawsuit. As such,
the Company anticipates that it will be involved in a separate lawsuit with
the SILVA RUN WORLDWIDE LIMITED plaintiffs as described in "Item 3. Legal
Proceedings" in the Company's Form 10-K for its fiscal year ending December
31, 1996.
INCOMNET, INC. VS. SAM D. SCHWARTZ:
On April 25, 1997, the Company filed a lawsuit against Sam D. Schwartz, its
prior President and Chairman of the Board, alleging fraud, breach of
fiduciary duty, negligence, declaratory relief, breach of contract and
imposition of constructive trust. The lawsuit was filed in the Superior Court
of California in the County of Los Angeles. In the lawsuit, the Company
alleges that Mr. Schwartz failed to disclose to the Company or its board of
directors that he would obtain a direct financial benefit in connection with
certain transactions considered or entered into by the Company during the
period from 1993 to 1995. The Company further alleges that Mr. Schwartz
17
<PAGE>
fraudulently induced the Company to enter into a Severance Agreement between
him and the Company in November 30, 1995 (see "Item 1. Business - Employees,
Officers and Directors - Officers" in the Company's Form 10-K for the fiscal
year ending December 31, 1995), and that he breached his fiduciary duty to
the Company by self-dealing, acting in bad faith and concealing material
facts. The Company seeks payment from Mr. Schwartz of the actual damages
incurred by it as a result of Mr. Schwartz's conduct, as well as interest,
punitive damages, attorney's fees and costs and reimbursements of all
payments previously made to Mr. Schwartz pursuant to the Severance Agreement.
Furthermore, the Company seeks a declaratory order that Mr. Schwartz
committed acts or omissions involving known misconduct, the absence of good
faith, an improper personal benefit, a reckless disregard of his duties to
the Company and its shareholders, an unexcused pattern of inattention, and
a violation of Sections 310 and 316 of the California Corporations Code. The
Company cannot predict at this time the outcome of the case or the effect it
may have on the operating results, financial condition or business
performance of the Company or its subsidiaries.
In addition to the above changes to the status of the class action lawsuit,
the case currently remains in the discovery phase and the parties continue to
engage in settlement discussions.
SECTION 16(b) LAWSUIT:
In January 1996, the Company was served with a derivative shareholders
lawsuit entitled RICHARD MORALES VS. INCOMNET, INC. AND SAM D. SCHWARTZ, 96
Civil 0225 in the United States District Court for the Southern District of
New York, alleging violations of Section 16(b) of the Securities Exchange Act
of 1934, as amended, and demanding that the Company assert claims against Mr.
Schwartz for the payment of short-swing profits plus interest. The status of
that case has not materially changed since the filing of the Form 10-K for
the fiscal year ending December 31, 1996, except as follows: Notice of the
settlement was given to the shareholders on or about April 21, 1997. Any
opposition to the settlement is due by May 16, 1997, and a hearing to approve
the settlement is to be held on May 30, 1997. There is no assurance that the
Company will recover the short-swing profits from Mr. Schwartz.
LEGAL ACTION AGAINST PRIOR REPRESENTATIVES:
The status of the pending lawsuit by NTC against certain of its prior
representatives described in "Item 3. Legal Proceedings" in the Company's
Form 10-K for its fiscal year ending December 31, 1996, has not materially
changed since the filing of the Form 10-K.
POTENTIAL LAWSUITS:
There is no assurance that claims similar to those asserted in the pending
class action and related lawsuits, or other claims, will not be asserted
against the Company by new parties in the future. In this regard, potential
plaintiffs have from time to time orally asserted claims against the Company
and its prior directors. Several members of the class in the pending class
action lawsuit against the Company have opted out. Sam Schwartz may file
claims against the Company for indemnification and payments under his
Severance Agreement with the Company. See "Item 1. Business - Employees,
Officers and Directors - Officers" in the Company's Form 10-K for the fiscal
year ending December 31, 1995. If such claims are filed as legal complaints,
the Company will seek to have them consolidated with
18
<PAGE>
other pending lawsuits, if appropriate, or will defend them separately. From
time to time, the Company is also involved in litigation arising from the
ordinary course of business, the ultimate resolution of which management
believes will not have a material adverse effect on the financial condition
or results of operations of the Company.
ITEM 2. CHANGES IN SECURITIES
Item 2 is not applicable for the three months ended March 31, 1997.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Item 3 is not applicable for the three months ended March 31, 1997.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Item 4 is not applicable for the three months ended March 31, 1997.
ITEM 5. OTHER INFORMATION
LOAN TO ROBERT AND NANCY ZIVITZ:
On November 5, 1996, the Company loaned $265,000 to Robert and Nancy Zivitz
for a period of 90 days, at an interest rate of 10% per annum. Nancy Zivitz
is a member of the Company's Board of Directors. The loan was approved by a
vote of the Company's Board of Directors on October 11, 1996 and is secured
by 201,800 shares of the Company's stock held in the name of Robert Zivitz.
On February 5, 1997, the maturity date of the loan was extended by the
Company until December 31, 1997.
ACQUISITION OF CALIFORNIA INTERACTIVE COMPUTING. INC. (CIC):
GENERAL: On May 2, 1997, Incomnet, Inc. ("Company") acquired 88,370.5 shares
representing 100% of the outstanding common stock of California Interactive
Computing, Inc. ("CIC"), a private corporation headquartered in Valencia,
California. The Company agreed to pay a total of $1,758,302 in cash, payable
over a five year period of time. See Item 5. Other Information - Acquisition
of California Interactive Computing, Inc. - Schedule of Payments." In
addition, the Company has agreed to assume the outstanding balance of
$418,527.91 for loans to CIC made by two of CIC's shareholders. The Company
has also signed an employment agreement for a period of two years with Jerry
C. Buckley, CIC's former president and CEO, pursuant to which it will pay Mr.
Buckley $10,000 per month in consideration for Mr. Buckley's services as the
Director of Strategic Planning for CIC. The Company has also agreed to
provide 10,000 and 20,000 stock options, respectively, in CIC to two former
shareholders when a plan is established for CIC's officers, directors,
employees and key consultants.
CIC is engaged in the development and marketing of software that is used to
process insurance-related claims, including workers compensation, disability,
general medical and property &
19
<PAGE>
casualty. Its software is leased to companies who provide their own insurance
and claims administration, to insurance companies, and to third-party
administrators who process claims for either self-insured companies or
insurance companies. CIC was incorporated in 1977 in California and has
provided software for claims processing for 20 years.
SCHEDULE OF PAYMENTS: At the close of the transaction on May 2, 1997, the
Company paid a total of $249,818 to the former shareholders of CIC, $84,818
of which was paid to acquire CIC's stock and $165,000 of which was utilized
to pay down loans to two former CIC shareholders. The Company has signed
promissory notes in the aggregate principal amount of $1,927,016.91 to four
former shareholders of CIC to repay the balance of the loans owed by CIC
($253,527.91 as of May 2, 1997) and to pay the balance of the price to
purchase their CIC stock by the Company ($1,674,489 as of May 2, 1997). These
notes bear interest at the rate of 8% per annum. The stock of CIC purchased
by the Company is held in an escrow account until the promisory notes issued
by the Company to CIC former shareholders are repaid in full. The outstanding
balances owed on these notes can be repaid at any time, which would lower the
total amount of scheduled payments, including interest.
During the first year after the acquisition, the Company has agreed to pay
$27,859 to one shareholder in 12 equal monthly payments of principal and
interest. During the 13th - 24th month after the acquisition, the Company has
contracted to pay a total of $591,175 of principal and interest, of which
$369,136 is scheduled to be paid for the purchase of CIC stock from four
former shareholders and of which $222,039 is scheduled to pay down the
outstanding loans owed by CIC to two former shareholders.
During the 25th - 36th month after the acquisition, the Company has
contracted to pay a total of $559,662 of principal and interest, of which
$514,662 is scheduled to be paid for the purchase of CIC stock from four
former CIC shareholders and of which $45,000 is scheduled to pay off the
remaining balance of the loans owed by CIC to two former CIC shareholders.
During the 37th - 48th month after the acquisition, the Company is contracted
to pay a total of $574,572 of principal and interest for the purchase of CIC
stock from four former shareholders.
During the 49th - 60th month after the acquisition, the Company is contracted
to pay a total of $514,662 of principal and interest for the purchase of CIC
stock from four former shareholders.
DIRECTORS OF CIC: The former directors of CIC tendered their resignation,
effective at the acquisition. The Company has named Melvyn Reznick, its
President and CEO, Stephen A. Caswell, its Vice President and Corporate
Secretary, and Jerry C. Buckley, CIC's former President and CEO, to serve on
CIC's Board of Directors. Mr. Reznick will serve as Chairman, President, CEO
and CFO of CIC. Mr. Caswell will serve as Executive Vice President and
Secretary of CIC. Mr. Buckley will serve as a director. See the Company's
Report on Form 8-K, dated May 13, 1997.
PRODUCTS & SERVICES: CIC develops and markets a trademarked line of software
products designed to handle insurance-related claims processing.
Insurance-related products include GenCOMP-TM-, GenMED-TM-, GenDIS-TM-,
GenPAC-TM-, GenRISK-TM-, GenIRIS-TM- and Top Rate-TM-. In addition, CIC also
offers several computer and service-related products, including GenARS-TM-,
which is an optical disk-based information storage and retrieval system, and
GenSERVE-TM-, which is a maintenance and service program for customers.
20
<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
INDEX TO EXHIBITS:
EXHIBIT NO. DESCRIPTION
- ----------- -----------
10-1 Amended Lease Agreement for National Telephone &
Communication's Corporate headquarters at 2801 Main St.,
Irvine, California*
* Previously filed on Form 10-Q filed with the Securities and Exchange
Commission on May 15, 1997.
REPORTS ON FORM 8-K, FILED IN 1997
- ----------------------------------
20.1 Report on Form 8-K - Election of Dr. Howard Silverman As Director
& Amendment to Employment Contract of Melvyn Reznick, filed on
February 7, 1997.
20.2 Report on Form 8-K - Reincorporation of National Telephone &
Communications, Inc. filed on April 10, 1997.
20.3 Report on Form 8-K - Acquisition of California Interactive
Computing, Inc., filed on May 13, 1997.
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.
INCOMNET, INC.
Date: July 8, 1997 /s/ Melvyn Reznick
--------------------------
Melvyn Reznick
President, CEO & CFO
21
<PAGE>
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q/A
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1997 COMMISSION FILE NO. 0-12386
INCOMNET, INC.
A California IRS Employer No.
Corporation 95-2871296
21031 Ventura Blvd., Suite 1100
Woodland Hills, California 91364
Telephone no. (818) 887-3400
Securities registered pursuant to Section 12(b) of the Act:................None
Securities registered pursuant to Section 12(g) of the Act:........Common Stock,
No Par Value
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__
Number of shares of registrant's common stock outstanding as of
June 30, 1997.......................................................13,554,239
-1-
<PAGE>
ITEM 1. FINANCIAL STATEMENTS
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET (UNAUDITED)
(DOLLARS IN 000S)
JUNE 30, DECEMBER 31,
1997 1996
-------- --------------
ASSETS
CURRENT ASSETS:
Cash & cash equivalents $ 1,601 $ 2,214
Accounts receivable, including $277,680 and
$267,000 due from related party at June 30,
1997 and December 31, 1996, respectively and
less allowance for doubtful accounts of
$1,140,000 at June 30, 1997 and $1,993,000
at December 31, 1996 19,074 13,137
Notes receivable - current portion 454 323
Notes receivable from officers & shareholders,
net of reserves of $209,000 1,218 438
Inventories 395 2,760
Other current assets 1,133 1,332
------- ------
Total current assets 23,875 20,204
Property, plant and equipment, at cost, net 13,957 14,357
Patent rights, net 1,241
Goodwill, net 6,709 4,542
Building construction/remodeling 2,418 --
Deposits, investments and other assets 879 243
------- ------
Total assets $47,838 $40,587
------- ------
------- ------
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<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET (UNAUDITED) (CONT'D)
(DOLLARS IN 000S)
JUNE 30, DECEMBER 31,
1997 1996
-------- --------------
LIABILITIES, MINORITY INTEREST
AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $14,455 $14,746
Accrued expenses 7,996 8,217
Current portion of notes payable 5,198 3,918
Deferred income 3,485 4,040
------- ------
Total current liabilities 31,134 30,921
Liabilities in excess of assets of RCI 3,600 --
Notes payable -- 1,041
Notes payable - CIC 1,919 --
Commitments (Note 12)
SHAREHOLDERS' EQUITY:
Common stock, no par value; 20,000,000 shares
authorized; and 13,554,239 shares at June 30,
1997 and 13,369,681 shares issued and
outstanding at December 31, 1996 61,847 61,320
Preferred stock, no par value; 100,000 shares
authorized; 2,075 shares issued and outstanding
at June 30, 1997 and 2,440 shares issued and
outstanding at December 31, 1997 1,990 2,355
Treasury stock (5,492) (5,492)
Accumulated deficit (47,160) (49,557)
------- ------
Total shareholders' equity 11,185 8,626
------- ------
Total liabilities, & shareholders' equity $ 47,838 $ 40,587
------- ------
------- ------
See accompanying "Notes to Consolidated Financial Statements."
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<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
THREE MONTHS ENDED JUNE 30,
(DOLLARS IN 000s)
1997 1996
---- ----
SALES $ 34,855 $ 25,305
---------- ----------
OPERATING COSTS & EXPENSES:
Cost of sales 24,610 15,461
General & administrative 7,851 7,537
Depreciation & amortization 732 465
Bad debt expense 152 1,444
Other (income)/expense 67 721
---------- ----------
Total operating costs and expenses 33,411 25,628
---------- ----------
Income/(loss) before income taxes
& minority interest 1,443 (323)
INCOME TAXES 101 93
---------- ----------
Income/(loss) before minority interest 1,342 (416)
MINORITY INTEREST -- 646
----------- ----------
Net income 1,342 $ 230
=========== ==========
INCOME PER COMMON SHARE
AND COMMON SHARE EQUIVALENTS:
Income before extraordinary items $ 0.10 $ 0.02
Extraordinary items -- --
----------- ----------
Net income $ 0.10 $ 0.02
=========== ==========
WEIGHTED AVERAGE NUMBER OF COMMON SHARES AND
COMMON SHARE EQUIVALENTS OUTSTANDING 13,600,000 13,294,324
=========== ==========
See accompanying "Notes to Consolidated Financial Statements."
4
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
SIX MONTHS ENDED JUNE 30,
(DOLLARS IN 000s)
1997 1996
---- ----
SALES $ 66,023 $ 49,705
---------- ----------
OPERATING COSTS & EXPENSES:
Cost of sales 46,141 31,367
General & administrative 14,010 13,829
Depreciation & amortization 1,397 894
Bad debt expense 1,848 2,537
Other (income)/expense 59 1,370
---------- ----------
Total operating costs and expenses 63,455 48,797
---------- ----------
Income/(loss) before income taxes,
extraordinary items & minority interest 2,569 (292)
INCOME TAXES 208 187
---------- ----------
Income/(loss) before extraordinary
items & minority interest 2,361 (477)
MINORITY INTEREST -- 1,127
EXTRAORDINARY ITEMS 9 --
---------- ----------
Net income 2,370 $ 648
========== ==========
INCOME PER COMMON SHARE
AND COMMON SHARE EQUIVALENTS:
Income before extraordinary items $ 0.18 $ 0.05
Extraordinary items -- --
---------- ----------
Net income $ 0.18 $ 0.05
========== ==========
WEIGHTED AVERAGE NUMBER OF COMMON SHARES AND
COMMON SHARE EQUIVALENTS OUTSTANDING 13,500,000 13,286,283
========== ==========
See accompanying "Notes to Consolidated Financial Statements."
5
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
SIX MONTHS ENDED JUNE 30,
(Dollars in 000s)
1997 1996
------ ------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $2,370 $(477)
Depreciation & amortization 1,397 894
Minority interest -- 1,127
Other - net -- 52
------- ------
Net cash inflow/(outflow) from
operating activities 3,767 1,596
------- ------
CASH FLOWS FROM (INCREASE)/DECREASE IN OPERATING ASSETS:
Accounts receivable (5,937) (1,156)
Notes receivable - current portion (131) (81)
Notes receivable - due from officers and shareholders (780) (65)
Inventories 2,365 (521)
Prepaid expenses & other 199 (467)
Notes receivable - long term -- 155
Deposits & other (636) (6)
------ ------
Net cash inflow/(outflow) from changes in
operating assets (4,920) (2,143)
------ ------
CASH FLOWS FROM INCREASE/(DECREASE) IN
OPERATING LIABILITIES:
Accounts payable (291) 1,541
Accrued expenses (221) (652)
Deferred income (555) 715
------ ------
Net cash inflow/(outflow) from changes
in operating liabilities (1,067) 1,605
------ ------
Net cash inflow/(outflow) from operations (2,220) 1,058
------ ------
CASH FLOWS FROM (INCREASE)/DECREASE IN
INVESTING ACTIVITIES:
Acquisition of plant & equipment (3,415) (3,390)
Patents/intangible assets 1,241 (106)
Investment in Lab Tech -- 17
Liability in excess of assets 3,600 --
Goodwill (2,167) 148
------ ------
Net cash inflow/(outflow) from investing
activities (741) (3,331)
------ ------
See accompanying "Notes to Consolidated Financial Statements."
-6-
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (CONT'D)
SIX MONTHS ENDED JUNE 30,
(Dollars in 000s)
1997 1996
------ ------
CASH FLOWS FROM INCREASE/(DECREASE) IN
FINANCING ACTIVITIES:
Notes payable - current 1,280 2,803
Sale of common stock, net 527 148
Loans from a major shareholder -- 320
Notes payable - long term 818 (808)
Other - net 88 46
Preferred stock (365) --
------ ------
Net cash inflow/(outflow) from
financing activities 2,348 2,509
------ ------
Net increase/(decrease) in cash &
cash equivalents $ (613) $ 236
------ ------
------ ------
See accompanying "Notes to Consolidated Financial Statements."
-7-
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
JUNE 30, 1997
1. MANAGEMENT'S REPRESENTATION:
The consolidated financial statements included herein have been prepared by
the management of Incomnet, Inc. (the "Company") without audit. Certain
information and note disclosures normally included in the consolidated
financial statements prepared in accordance with generally accepted
accounting principles have been omitted. In the opinion of the management of
the Company, all adjustments considered necessary for fair presentation of
the consolidated financial statements have been included and were of a normal
recurring nature, and the accompanying consolidated financial statements
present fairly the financial position as of June 30, 1997, and the results of
operations for the three months and six ended June 30, 1997 and 1996, and
cash flows for the six months June 30, 1997 and 1996. It is suggested that
these consolidated financial statements be read in conjunction with the
consolidated financial statements and notes for the three years ended
December 31, 1996, included in the Company's Annual Report on Form 10-K filed
with the Securities and Exchange Commission on April 15, 1997. The interim
results are not necessarily indicative of the results for a full year.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
PRINCIPLES OF CONSOLIDATION - The consolidated financial statements include
the accounts of the Company and its wholly-owned subsidiaries, National
Telephone & Communications-Registered Trademark-, Inc. (NTC) and California
Interactive Computing, Inc. (CIC) (see Item 5. Acquisition of California
Interactive Computing, Inc.). The statements do not include consolidated
results of Rapid Cast, Inc., the Company's 35%-owned subsidiary, which is
accounted for using the equity method of accounting under FASB Statement No.
94. The Company accounted for RCI using the consolidated method of accounting
from the third quarter of 1995 until December 31, 1996 because the Company
owned 51% of RCI. In January 1997, the Company's ownership changed from 51%
of RCI to 35% and, as a result, the method of accounting has changed to the
equity method under FASB Statement No. 94. On the date of change in the
method of accounting, RCI's liabilities significantly exceeded its assets, and
the Company recorded its ratable share of such excess in the balance sheet
caption "Liabilities in excess of assets of RCI". Accordingly, all assets and
liabilities of RCI, including patent rights of $1,241,000 (after previously
recorded reserves of approximately $39 million) were, during the first
quarter of 1997, combined under this caption.
REVENUE RECOGNITION - The Company recognizes revenue during the month in
which services or products are delivered, as follows:
(1) NTC's long distance telecommunications service revenues are generated
when customers make long distance telephone calls from their business or
residential telephones or by using any of NTC's telephone calling cards.
Proceeds from prepaid telephone calling cards are recorded as deferred
revenues when the cash is received, and recognized as revenue as the
telephone service is utilized. The reserve for deferred revenues is carried
on the balance sheet as an accrued liability. Long distance telephone
service sales in the three and six months ending June 30, 1997 totaled $29.7
million and $54.8 million, respectively versus long distance telephone
service sales of $20.2 million and $40.5 million, respectively in the three
and six months ending June 30, 1996.
(2) NTC's marketing-related revenues are derived from programs and material
sold to the Company's base of independent sales representatives, including
forms and supplies, fees for representative and certified trainer renewals,
and the Company's Certified Trainer, Independent Representative and Long
Distance University programs. The Company requires that all such services
and materials be paid at the time of purchase. Revenues from
marketing-related materials, net of amounts deferred for future services
provided to the representatives, are booked as cash sales when the revenues
are received. A portion of the revenues from marketing related programs and
materials is deferred and recognized over a twelve month period to accrue
the Company's obligation to provide customer support to its independent
representatives. For the three months and six months ending June 30, 1997,
marketing sales totaled $4.3 million and $10 million, respectively versus
marketing sales of $3.5 million and $6.1 million, respectively for the three
months and six months ended June 30, 1996.
(3) The Company's network service revenues from its AutoNETWORK service are
recognized as sales as the service is delivered. Network service sales in
the three months and six months ending June 30, 1997 totaled $371,564 and
$741,092, respectively versus $363,844 and $701,034, respectively in the
three months ending June 30, 1996.
-8-
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
JUNE 30, 1997
(4) Revenues from the Company's CIC subsidiary are derived from the sale of
computer software and from related services, such as software maintenance
fees, custom programming and customer training. Revenues are recognized when
software is shipped to customers and when services are performed and
invoiced. Because the Company acquired CIC on May 2, 1997, revenues and
earnings only reflect CIC's operations from May 2, 1997. For the first two
months of operation commencing on May 2, 1997, CIC had revenues of $447,043.
CONCENTRATION OF CREDIT RISK - The Company sells its telephone and network
services to individuals and small businesses throughout the United States and
does not require collateral. Rapid Cast sells its optical products both
domestically and internationally. Reserves for uncollectible amounts are
provided, which management believes are sufficient.
COMPUTER HARDWARE, FURNITURE AND OFFICE EQUIPMENT - Computer hardware,
furniture and office equipment are stated at cost. Depreciation is provided
by the straight-line method over the assets' estimated useful lives of 5 to
10 years.
COMPUTER SOFTWARE - The Company capitalizes the costs associated with
purchasing, developing and enhancing its computer software. All software
costs are amortized using the straight-line method over the assets' estimated
useful lives of 3 to 10 years.
LEASEHOLD IMPROVEMENTS - All leasehold improvements are stated at cost and
are amortized using the straight-line method over the expected lease term.
NET INCOME PER SHARE - Net income per common share is based on the weighted
average number of common shares for 1997, and common shares and common share
equivalents for 1996.
ACQUISITION AMORTIZATION - The excess of purchase price over net assets of
NTC has been recorded as an intangible asset and is being amortized by the
straight-line method over twenty years.
DEFERRED TAX LIABILITY - Deferred income taxes result from temporary
differences in the basis of assets and liabilities reported for financial
statement and income tax purposes.
USE OF ESTIMATES - The preparation of 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, as well as the reported amounts of revenues
and expenses during the reporting period. Actual results could differ from
those estimates.
3. FUNDING OF MARKETING COMMISSIONS AND DEFERRED INCOME:
The Company's subsidiary, NTC, maintains separate bank accounts for the
payment of marketing commissions. Funding of these accounts is adjusted
regularly to provide for management's estimates of required reserve balances.
NTC estimates the total commissions owed to active independent
representatives ("IR Earned Compensation") each week for all monies collected
that week due to the efforts of those active independent representatives.
All IR Earned Compensation is then paid to the independent representatives,
when due, directly out of the separate bank account.
IMPAIRMENT OF LONG LIVED ASSETS: In accordance with the provisions of SFAS
No. 121, the Company regularly reviews long-lived assets and intangible
assets for impairment whenever events or changes in circumstances indicate
that the carrying amount to the assets may not be recoverable.
CURRENT ACCOUNTING PRONOUNCEMENTS: The Financial Accounting Standards Board
has issued SFAS No. 123, "Accounting for Stock-Based Compensation," which
encourages companies to account for stock compensation awards based on their
fair value at the date the awards are granted. This statement does not
require the application of fair value method and allows the continuance of
current accounting method, which requires accounting for stock compensation
awards based on their intrinsic value as of the grant date. However, SFAS No.
123 requires pro forma disclosure of net income and, if presented, earnings
-9-
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
JUNE 30, 1997
per share, as if the fair value based method of accounting defined in this
statement has been applied. The accounting and disclosure requirements of
this statement are effective for financial statements for fiscal years
beginning after December 15, 1995, although earlier adoption is encouraged.
The Company has elected not to adopt the fair value provisions of this
statement.
4. NOTES PAYABLE:
Notes payable consist of the following as of June 30, 1997:
Notes payable to founding stockholders of CIC,
interest at 8%, due beginning in May 1998 $1,918,533
Note payable to bank for line of credit to NTC,
interest at prime plus 1%, due as current liability $4,010,686
Capitalized lease obligations $1,187,371
-------------
$7,116,590
-------------
-------------
5. NETWORK MARKETING COSTS:
During the three and six months ending June 30, 1997, NTC's net costs to
operate its network marketing program were $0.4 million and $0.6 million,
respectively, as summarized below (in $ millions):
<TABLE>
<CAPTION>
3 Months Ending 6 Months Ending
June 30, 1997 June 30, 1997
--------------- ---------------
<S> <C> <C>
Sales $ 4.3 $ 10.0
Cost of sales 3.3 8.2
Operating expenses for support services 1.4 2.4
------- --------
Total marketing-related costs 4.7 10.6
------- --------
Net marketing cost $ 0.4 $ 0.6
% of total NTC (long distance & marketing) sales 1.2% 0.9%
------- --------
------- --------
</TABLE>
Marketing sales of $4.3 million and $10.0 million, during the three and six
month periods ending June 30, 1997, respectively, were generated by the sale
of materials, training and support services to assist NTC independent sales
representatives in selling new retail customers and enrolling other
representatives in the NTC program. Beginning in January, 1996, NTC
commenced reserving a portion of all marketing revenues in order to provide a
fund from which to draw estimated future refunds of marketing proceeds.
These reserved marketing revenues are reflected as deferred income on the
Company's balance sheet and are amortized over the succeeding twelve months.
The marketing-related costs include commissions paid to independent sales
representatives for acquiring new retail telephone customers, as well as the
cost of sales materials, salaries and wages of marketing department
personnel, services required to support the independent sales
representatives, and other directly identifiable support costs, but do not
include residual commissions paid on continuing long distance telephone usage
or the typical indirect cost allocations, such as floor-space and supporting
departments. When the three and six month marketing-related costs of $4.7
million and $10.6 million, respectively, are compared against
marketing-related revenues of $4.3 million and $10.0 million for the same
periods, the result is a net loss in marketing-related activities of $0.4
million and $0.6 million or 1.2% and 0.9% of total NTC sales, respectively.
-10-
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
JUNE 30, 1997
6. COMPENSATION OF INDEPENDENT SALES REPRESENTATIVES:
The Company's subsidiary, NTC, compensates its independent sales
representatives by an earned commission structure based upon signing up new
telephone customers and based upon the telephone usage generated by those
customers. In the three and six months ending June 30, 1997, expenses
associated with commissions, bonuses and overrides paid out to NTC's
independent representatives were $4.8 million and $10.9 million, respectively
versus $3.8 million and $7.3 million, respectively in the three and six
months ended June 30, 1996.
7. COMMITMENTS AND CONTINGENCIES:
LITIGATION: The Company is a defendant in a class action matter and related
lawsuits alleging securities law violations with respect to alleged false
denial and non-disclosure of a Securities and Exchange Commission
investigation and alleged non-disclosure of purchases and sales of the
Company's stock by the former Chairman of the Board and one of his
affiliates. Counsel for the Company is unable to estimate the ultimate
outcome of these matters and is unable to predict a range of potential loss.
Accordingly, no amounts have been provided for the class action or related
lawsuits in the accompanying financial statements. The Company is under
investigation by the Securities and Exchange Commission under a non-public
"formal order of private investigation." Management has furnished all
information requested by the Commission and does not believe that the matter
will have a material adverse impact on its financial position or results of
operations.
EXTENSION OF LEASE: In April 1997, NTC entered into an agreement to extend
the lease on its headquarters building at 2801 Main Street, Irvine,
California. According to the terms of this agreement, NTC would be obligated
to pay formula based monthly lease payments estimated to be approximately
$57,000 per month during 1997 and increasing to approximately $72,000 per
month for the remainder of the initial five year lease term. In addition, in
February 1997, NTC entered into a ten year lease for office space in
Honolulu, Hawaii, with the lease expiring in 2007. The monthly payments on
the lease in Honolulu commence at $36,698 per month in 1997 and 1998, and
increase on a bi-annual basis through the term of the lease to $43,536 per
month in 2006 and 2007.
8. ACQUISITION OF CALIFORNIA INTERACTIVE COMPUTING. INC. (CIC):
GENERAL: On May 2, 1997, Incomnet, Inc. ("Company") acquired 88,370.5 shares
representing 100% of the outstanding common stock of California Interactive
Computing, Inc. ("CIC"), a private corporation headquartered in Valencia,
California. The Company agreed to pay a total of $1,758,302 in cash, payable
over a five year period of time. See Item 5. Other Information - Acquisition
of California Interactive Computing, Inc. - Schedule of Payments." In
addition, the Company has agreed to assume the outstanding balance of
$418,527.91 for loans to CIC made by two of CIC's shareholders. The
transaction has been accounted for using the purchase method of
accounting.
The Company has also signed an employment agreement for a period of two
years with Jerry C. Buckley, CIC's former president and CEO, pursuant to
which it will pay Mr. Buckley $10,000 per month in consideration for Mr.
Buckley's services as the Director of Strategic Planning for CIC. The
Company has also agreed to provide 10,000 and 20,000 stock options,
respectively, in CIC to two former shareholders when a plan is established
for CIC's officers, directors, employees and key consultants.
CIC is engaged in the development and marketing of software that is used to
process insurance-related claims, including workers compensation, disability,
general medical and property & casualty. Its software is leased to
-11-
<PAGE>
companies who provide their own insurance and claims administration, to
insurance companies, and to third-party administrators who process claims
for either self-insured companies or insurance companies. CIC was
incorporated in 1977 in California and has provided software for claims
processing for 20 years.
SCHEDULE OF PAYMENTS: At the close of the transaction on May 2, 1997, the
Company paid a total of $249,818 to the former shareholders of CIC, $84,818
of which was paid to acquire CIC's stock and $165,000 of which was utilized
to pay down loans to two former CIC shareholders. The Company has signed
promissory notes in the aggregate principal amount of $1,927,016.91 to four
former shareholders of CIC to repay the balance of the loans owed by CIC
($253,527.91 as of May 2, 1997) and to pay the balance of the price to
purchase their CIC stock by the Company ($1,674,489 as of May 2, 1997). These
notes bear interest at the rate of 8% per annum. The stock of CIC purchased
by the Company is held in an escrow account until the promisory notes issued
by the Company to CIC former shareholders are repaid in full. The outstanding
balances owed on these notes can be repaid at any time, which would lower
the total amount of scheduled payments, including interest.
During the first year after the acquisition, the Company has agreed to pay
$27,859 to one shareholder in 12 equal monthly payments of principal and
interest.
During the 13th - 24th month after the acquisition, the Company has
contracted to pay a total of $591,175 of principal and interest, of which
$369,136 is scheduled to be paid for the purchase of CIC stock from four
former shareholders and of which $222,039 is scheduled to pay down the
outstanding loans owed by CIC to two former shareholders.
During the 25th - 36th month after the acquisition, the Company has
contracted to pay a total of $559,662 of principal and interest, of which
$514,662 is scheduled to be paid for the purchase of CIC stock from four
former CIC shareholders and of which $45,000 is scheduled to pay off the
remaining balance of the loans owed by CIC to two former CIC shareholders.
During the 37th - 48th month after the acquisition, the Company is contracted
to pay a total of $574,572 of principal and interest for the purchase of CIC
stock from four former shareholders. During the 49th - 60th month after
the acquisition, the Company is contracted to pay a total of $514,662 of
principal and interest for the purchase of CIC stock from four former
shareholders.
DIRECTORS OF CIC: The former directors of CIC tendered their resignation,
effective at the acquisition. The Company has named Melvyn Reznick, its
President and CEO, Stephen A. Caswell, its Vice President and Corporate
Secretary, and Jerry C. Buckley, CIC's former President and CEO, to serve on
CIC's Board of Directors. Mr. Reznick will serve as Chairman, President, CEO
and CFO of CIC. Mr. Caswell will serve as Executive Vice President and
Secretary of CIC. Mr. Buckley will serve as a director. See the Company's
Report on Form 8-K, dated May 13, 1997.
PRODUCTS & SERVICES: CIC develops and markets a trademarked line of software
products designed to handle insurance-related claims processing.
Insurance-related products include GenCOMP-TM-, GenMED-TM-, GenDIS-TM-,
GenPAC-TM-, GenRISK-TM-, GenIRIS-TM- and Top Rate-TM-. In addition, CIC also
offers several computer and service-related products, including GenARS-TM-,
which is an optical disk-based information storage and retrieval system, and
GenSERVE-TM-, which is a maintenance and service program for customers.
-12-
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
OVERVIEW:
The following is management's discussion and analysis of certain significant
factors which have affected the results of operations and financial condition
of the Company during the period included in the accompanying financial
statements. This discussion should be read in conjunction with the financial
statements and associated notes. The discussion herein is qualified by
reference to the Cautionary Statements. See "Part II. Cautionary Statements".
LIQUIDITY AND CAPITAL RESOURCES:
GENERAL - Overall, the Company achieved negative cash flows of $613,000
during the first six months of 1997 versus positive cash flow of $236,000
during the first six months of 1996. The negative cash flows resulted from
negative cash flows from operations of $2.2 million and negative cash flows
from investing activities of $0.7 million, which were offset by positive
cash flows from financing activities of $2.3 million as discussed below:
CASH FLOW FROM OPERATIONS - The Company generated $2.2 million in negative
cash flow from operations during the six months ended June 30, 1997,
compared to $1.1 million in positive cash flow from operations during the
prior year's comparable period. This decrease in cash flow from operations
resulted primarily from: (1) a $3.8 million inflow of cash from net income
and depreciation & amortization, offset by (2) a $5.9 million increase in
accounts receivable and a $2.4 million decrease in inventories. During this
period, operating liabilities decreased by $1.1 million.
CASH FLOW FROM INVESTING - The Company generated negative cash flows from
investing activities of $0.7 million in the six months ended June 30, 1997
versus negative cash flows $3.3 million in the first six months of 1996. In
the first six months of 1997, the Company increased its acquisition of plant
& equipment by $3.4 million. Goodwill also increased by $2.2 million
associated with the Company's acquisition of CIC. The increase in plant &
equipment was primarily due to capital expenditures of $1.5 million in tenant
improvements for NTC`s Honolulu, Hawaii office space. The Company expects
NTC to continue making improvements to its headquarters building and to
purchase additional equipment commensurate with the expansion of its
business. The Company also anticipates investing in software development at
CIC.
As an offset to the Company's negative cash flows from investing activities,
the Company experienced positive cash flows from investing activities due to
a $1.2 million decrease in patents/intangible assets and a $3.6 million
decrease in liability in excess of assets associated with the write-off of
the Company's investment in RCI.
CASH FLOW FROM FINANCING - The Company had net cash inflow of $2.4 million in
the six months ended June 30, 1997 versus net cash inflow of $2.5 million in
the six months ended June 30, 1997. Significant items include an increase of
$1.3 million in notes payable - current and $0.8 million in notes payable -
long term, as well as an increase of $0.5 million due to the sale of common
stock.
LITIGATION - The Company is subject to pending litigation and an
investigation by the Securities and Exchange Commission. Management is not
yet able to predict the impact of the pending litigation on its financial
condition and results of operations. Management does not believe that the
investigation by the Securities and Exchange Commission will result in a
material impact on the Company's financial condition or results of
operations. See "Part II. Item 1. Legal Proceedings."
RESULTS OF OPERATIONS:
SALES - Second quarter, 1997 sales of $34.9 million increased 38% over the
second quarter, 1996 sales of $25.3 million. The majority of this increase
was attributable to NTC's sales increase to $34 million from $23.6 million in
the three months ending June 30, 1997 versus 1996, respectively. A secondary
cause of the
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increase in sales was the inclusion of $447,043 in sales from two months of
operations of the Company's newly-acquired subsidiary, CIC (see Item 5. Other
Information.- Acquisition of California Interactive Computing, Inc.). The
following table summarizes the Company's sales performance by subsidiary and
segment during the comparable second quarters in 1997 and 1996:
$ in millions
-----------------
Subsidiary Segment 1997 1996
- ---------- --------------------------------------- ------- -------
NTC Telephone (telecommunications services) $ 29.7 $ 20.2
NTC Telephone (marketing programs) 4.3 3.4
RCI Optical -- 1.3
CIC Computer Software 0.5 --
AutoNETWORK Network 0.4 0.4
------- -------
Total Company Sales $ 34.9 $ 25.3
------- -------
------- -------
COST OF SALES - Total Company cost of sales increased to $24.6 million or 70%
of sales during the quarter ending June 30, 1997 verses $15.5 million or 61%
of sales during the comparable prior year quarter. The increase in cost of
sales resulted largely from an increase in carrier costs associated with
increased telephone service sales by NTC. The increase in costs as a percent
of sales was largely generated by a drop in NTC's telecommunication service
gross profits due to a special limited-time offer of attractive international
rates.
The following table summarizes the changes in three major cost components
from the second quarter ended June 30, 1997 and 1996, respectively:
$ in millions
-----------------
1997 1996
------- -------
Commissions paid to NTC independent sales reps $ 4.8 $ 3.8
Carrier costs for NTC's long distance telephone service 18.6 10.2
All other costs of sales 1.2 1.5
------- -------
Total Company Cost of Sales $ 24.6 $ 15.5
------- -------
------- -------
NTC's total commission expense increased to $4.8 million in the second
quarter of 1997 compared to $3.8 million in the same quarter of 1996. NTC's
carrier costs to deliver long distance telephone service to its telephone
customers increased to $18.6 million in the second quarter of 1997 compared
to $10.2 million in the second quarter of 1996. This increase in carrier
costs reflects the increased growth in telephone sales, although these costs
have grown at a faster pace than sales, thus reflecting a decline in gross
profits from telephone service.
The third cost component shown in the table above is "all other costs of
sales" which represents: (1) NTC's costs of producing sales materials for
its independent sales representatives, (2) CIC's costs of producing its
computer software and providing related services, and (3) AutoNETWORK costs
of providing communications network products and services.
GENERAL & ADMINISTRATIVE - Total general and administrative costs increased
to $7.9 million or 23% of sales in the quarter ending June 30, 1997 compared
to $7.5 million or 30% of sales in the same prior year quarter. General and
administrative expenses for the six months ended June 30, 1997 increased to
$14 million or 21% of sales versus $13.8 million or 28% of sales in the
second quarter of 1996. General and administrative costs generally include
the costs of employee salaries, fringe benefits, supplies, and related
support costs which are
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<PAGE>
required in order to provide such operating functions as customer service,
billing, marketing, product development, information systems, collections of
accounts receivable, and accounting.
This decrease in general and administrative expenses as a percentage of sales
in the three month and six month periods was caused by improved efficiencies
at NTC and by no longer consolidating the financial statements of RCI. In the
second quarter of 1996, RCI's general and administrative expenses represented
11% of total general and administrative expenses.
DEPRECIATION & AMORTIZATION - Total Company depreciation and amortization
expense increased to approximately $732,000 in the three months ended June
30, 1997 verses $464,896 in three months ended June 30, 1996. Depreciation
and amortization expense increased to $1.4 million in the six months ended
June 30, 1997 versus approximately $894,000 in the same period of 1996. This
increase was primarily caused by greater investment by NTC in computer
hardware and software, furniture and equipment, and leasehold improvements
required to support its rapid expansion in sales.
BAD DEBT EXPENSE - Total Company bad debt expense decreased to approximately
$152,000 in the second quarter of 1997 compared to $1.4 million in the same
prior year quarter. Bad debt expense for the six months ended June 30, 1997
decreased to $1.8 million from $2.5 million in the six months ended June 30,
1996. The decrease was due primarily to decreases in NTC's LEC-billed bad
debt.
OTHER INCOME & EXPENSE - The Company's other income and expense declined to
net other expense of approximately $67,000 in the second quarter of 1997
verses net other income of approximately $721,000 during the comparable prior
year quarter. The Company's other income and expense declined to net other
expense of approximately $59,000 in the six months ended June 30, 1997 verses
net other income of approximately $1.3 million during the six months ended
June 30, 1996. This net decline was primarily caused by no longer booking
acquisition costs associated with the acquisition of the Company's 35%-owned
subsidiary, RCI. In the six month period ended June 30, 1996, the Company
booked acquisition expense of $1.1 million associated with its acquisition of
RCI.
MINORITY INTEREST - Beginning on July 1, 1995, the Company converted from the
equity method to the consolidated method of accounting for its 51% ownership
in RCI. As a result, $646,265 or 49% of RCI's losses from April 1 through
June 30, 1996 (the "minority interest") was eliminated from the Company's
"Consolidated Statements of Operations" for 1996. On January 1, 1997, the
Company converted back to the equity method of accounting.
NET INCOME - Total Company net income increased to $1.3 million or 3.8% of
sales in the second quarter of 1997 as compared to net income of $230,429 or
0.9% of sales in the same quarter of 1996. Net income increased to $2.4
million in the six months ended June 30, 1997 from $648,003 in the six months
ended June 30, 1996. The increase in net income resulted from: (1) no longer
booking losses associated with the acquisition and operations of RCI, (2)
reserving for anticipated legal fees associated with lawsuits against the
Company and (3) slightly increased earnings at NTC. In the six months ended
June 30, 1997, earnings at NTC were $2.8 million versus $2.7 million for the
six months ended June 30, 1996.
-15-
<PAGE>
PART II - OTHER INFORMATION
CAUTIONARY STATEMENTS:
This Quarterly Report on Form 10-Q contains certain forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933
and Section 21E of the Securities Exchange Act of 1934. The Company intends
that such forward-looking statements be subject to the safe harbors created
by such statutes. The forward-looking statements included herein are based on
current expectations that involve a number of risks and uncertainties.
Accordingly, to the extent that this Quarterly Report contains
forward-looking statements regarding the financial condition, operating
results, business prospects or any other aspect of the Company and its
subsidiaries, please be advised that the Company and its subsidiaries' actual
financial condition, operating results and business performance may differ
materially from that projected or estimated by the Company in forward-looking
statements. The differences may be caused by a variety of factors,
including but not limited to adverse economic conditions, intense
competition, including intensification of price competition and entry of new
competitors and products, adverse federal, state and local government
regulation, inadequate capital, unexpected costs and operating deficits,
increases in general and administrative costs, lower sales and revenues than
forecast, loss of customers, customer returns of products sold to them by
the Company or its subsidiaries, disadvantageous currency exchange rates,
termination of contracts, loss of supplies, technological obsolescence of
the Company's or its subsidiaries' products, technical problems with the
Company's or its subsidiaries' products, price increases for supplies and
components, inability to raise prices, failure to obtain new customers,
litigation and administrative proceedings involving the Company, including
the pending class action and related lawsuits and SEC investigation, the
possible acquisition of new businesses that result in operating losses or
that do not perform as anticipated, resulting in unanticipated losses, the
possible fluctuation and volatility of the Company's operating results,
financial condition and stock price, losses incurred in litigating and
settling cases, dilution in the Company's ownership of its subsidiaries and
businesses, adverse publicity and news coverage, inability to carry out
marketing and sales plans, challenges to the Company's patents, loss or
retirement of key executives, changes in interest rates, inflationary
factors, and other specific risks that may be alluded to in this Quarterly
Report or in other reports issued by the Company. In addition, the business
and operations of the Company are subject to substantial risks which
increase the uncertainty inherent in the forward-looking statements. In
light of the significant uncertainties inherent in the forward-looking
information included herein, the inclusion of such information should not be
regarded as a representation by the Company or any other person that the
objectives or plans of the Company will be achieved.
ITEM 1. LEGAL PROCEEDINGS
SECURITIES AND EXCHANGE COMMISSION INVESTIGATION:
The investigation of the Company by the SEC, which was commenced in August
1994, has not experienced any material changes from its status as described
in "Item 3. Legal Proceedings" in the Company's Form 10-K for its fiscal year
ending December 31, 1996. The Company continues to believe that it has
provided substantial documentation to the Commission that demonstrates the
propriety of its business operations and that the ultimate result of the
investigation will not have a material adverse effect on the Company's
financial condition or results of operations.
CLASS ACTION AND RELATED LAWSUITS:
The status of the pending class action lawsuit described in "Item 3. Legal
Proceedings" in the Company's Form 10-K for its fiscal year ending December
31, 1996, known as and updated in "Item 1. Legal Proceedings" in the
Company's Form 10-Q for its fiscal quarter ending March 31, 1997, SANDRA
GAYLES, ET AL. VS. SAM D. SCHWARTZ AND INCOMNET, INC., Case No. CV95-0399
KMW (BQRx), has materially changed since the filing of the Form 10-K for the
fiscal year ending December 31, 1996 and Form 10-Q for the fiscal quarter
ending March 31, 1997, in the following manner:
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<PAGE>
On May 6, 1997, the court in the pending class action lawsuit SANDRA GAYLES
ET AL. VS. SAM D. SCHWARTZ AND INCOMNET, INC. ruled that approximately 20
former shareholders of the Company have the right to "opt out" of the class
action lawsuit and file their own separate lawsuit against the Company and
Sam D. Schwartz, the Company's former President. The Company expects these
potential plaintiffs to file a separate lawsuit against it and its former
President in the near future. The potential plaintiffs purchased the
Company's stock in the open market through Everest Securities, a brokerage
firm which has since terminated its business. The potential claims are
expected to be based on alleged violations of applicable securities laws
relating to alleged statements made by the Company's former President to the
securities broker at Everest Securities in 1995. The amount of damages to be
sought by the potential plaintiffs is not yet known. The Company intends to
vigorously defend the claims if they are asserted against it. The Company
is presently engaged in settlement discussions with the plaintiff's counsel
in the class action lawsuit. There are no assurances that any settlement will
be reached.
In a hearing on May 5, 1997, the plaintiffs in a lawsuit entitled SILVA RUN
WORLDWIDE LIMITED VS. INCOMNET, INC., SAM D. SCHWARTZ, BEAR STEARNS & CO.,
INC., LESLIE SOLMONSON, RONALD F. SEALE, MARINER RESERVE FUND, COMPANIA DI
INVESTIMENTO ANTILLANO, COUTTS & CO. AG, SALVATORE M. FRANZELLA, PETER G.
EMBIRICOS, AND JOS SCHUETZ, filed in the United States District Court for the
Southern District of New York and transferred in March 1997 to the same
court in California which is hearing the pending class action lawsuit, were
allowed to continue as a separate pleading from the class action lawsuit. As
such, the Company anticipates that it will be involved in a separate lawsuit
with the SILVA RUN WORLDWIDE LIMITED plaintiffs as described in "Item 3.
Legal Proceedings" in the Company's Form 10-K for its fiscal year ending
December 31, 1996.
INCOMNET, INC. VS. SAM D. SCHWARTZ:
On April 25, 1997, the Company filed a lawsuit against Sam D. Schwartz, its
prior President and Chairman of the Board, alleging fraud, breach of
fiduciary duty, negligence, declaratory relief, breach of contract and
imposition of constructive trust. The lawsuit was filed in the Superior Court
of California in the County of Los Angeles. In the lawsuit, the Company
alleges that Mr. Schwartz failed to disclose to the Company or its board of
directors that he would obtain a direct financial benefit in connection with
certain transactions considered or entered into by the Company during the
period from 1993 to 1995. The Company further alleges that Mr. Schwartz
fraudulently induced the Company to enter into a Severance Agreement between
him and the Company in November 30, 1995 (see "Item 1. Business - Employees,
Officers and Directors - Officers" in the Company's Form 10-K for the fiscal
year ending December 31, 1995), and that he breached his fiduciary duty to
the Company by self-dealing, acting in bad faith and concealing material
facts.
The Company seeks payment from Mr. Schwartz of the actual damages incurred
by it as a result of Mr. Schwartz's conduct, as well as interest, punitive
damages, attorney's fees and costs and reimbursements of all payments
previously made to Mr. Schwartz pursuant to the Severance Agreement.
Furthermore, the Company seeks a declaratory order that Mr. Schwartz
committed acts or omissions involving known misconduct, the absence of good
faith, an improper personal benefit, a reckless disregard of his duties to
the Company and its shareholders, an unexcused pattern of inattention, and a
violation of Sections 310 and 316 of the California Corporations Code. On
June 24, 1997, Mr. Schwartz answered the Company's lawsuit against him
denying the allegations and counterclaiming for (i) enforcement of any
payments due under his Severance Agreement with the Company, (ii)
indemnification against third party claims, and (iii) payment of the same
settlement to him as was paid to the prior noteholders who purchased
convertible notes from the Company on February 8, 1995 (Mr. Schwartz also
purchased convertible notes from the Company on February 8, 1995), even
though the Company's settlement with those prior noteholders was based on the
misconduct of Mr. Schwartz. See "THE COMPANY - Settlement with Prior
Noteholders." The Company intends to vigorously assert its claims against
Mr. Schwartz, including possible contribution claims with respect to the
Company's proposed settlement payments to the plaintiffs in the class action
lawsuit, and to vigorously defend against Mr. Schwartz's counterclaims. The
lawsuit against Mr. Schwartz has entered the discovery phase and there is no
assurance regarding its outcome. There is no assurance that the case will
not have a material adverse impact on the financial condition, operating
results and business performance of the Company or its subsidiaries. See
"Item 1. Legal Proceedings - INCOMNET, INC. VS. SAM D. SCHWARTZ" in the
Company's Form 10-Q for
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<PAGE>
the quarter ended March 31, 1997, and "Item 3. Legal Proceedings -
Settlement with Prior Noteholders" in the Company's 1996 Form 10-K.
SECTION 16(B) LAWSUIT:
In January 1996, the Company was served with a derivative shareholders
lawsuit entitled RICHARD MORALES VS. INCOMNET, INC. AND SAM D. SCHWARTZ, 96
Civil 0225 in the United States District Court for the Southern District of
New York, alleging violations of Section 16(b) of the Securities Exchange Act
of 1934, as amended, and demanding that the Company assert claims against
Mr. Schwartz for the payment of short-swing profits plus interest. On July
10, 1997, the United States District Court for the Southern District of New
York gave final approval to the settlement of that lawsuit in which Mr. Sam
D. Schwartz agreed to pay to the Company cash and stock valued at $4,250,000.
In final settlement of the lawsuit, Mr. Schwartz has delivered to the Company
1,047,966 shares of the Company's common stock and $600,000 in cash. Under
the agreement, the Company paid $626,450 in attorney's fees and expenses to
the shareholder's counsel.
LEGAL ACTION AGAINST PRIOR REPRESENTATIVES:
The status of the pending lawsuit by NTC against certain of its prior
representatives described in "Item 3. Legal Proceedings" in the Company's
Form 10-K for its fiscal year ending December 31, 1996 and updated in the
filing of the Form 10-Q for the fiscal quarter ending March 31, 1997, has not
materially changed since the filing of the Form 10-K.
POTENTIAL LAWSUITS:
There is no assurance that claims similar to those asserted in the pending
class action and related lawsuits, or other claims, will not be asserted
against the Company by new parties in the future. In this regard, potential
plaintiffs have from time to time orally asserted claims against the Company
and its prior directors. Several members of the class in the pending class
action lawsuit against the Company have opted out. If such claims are filed
as legal complaints, the Company will seek to have them consolidated with
other pending lawsuits, if appropriate, or will defend them separately. From
time to time, the Company is also involved in litigation arising from the
ordinary course of business, the ultimate resolution of which management
believes will not have a material adverse effect on the financial condition
or results of operations of the Company.
ITEM 2. CHANGES IN SECURITIES
Item 2 is not applicable for the three months ended June 30, 1997.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Item 3 is not applicable for the three months ended June 30, 1997.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Item 4 is not applicable for the three months ended June 30, 1997.
ITEM 5. OTHER INFORMATION
ADDITION OF NEW BOARD MEMBERS:
On August 7, 1997, the Company entered into an agreement with Stanley C.
Weinstein, David Wilstein and Richard M. Horowitz in which all three
individuals would join the Company's Board of Directors. On May 5, 1997, Mr.
Wilstein and Mr. Horowitz were members of a group that filed a Schedule 13D
with the Securities and Exchange Commission ("SEC"), stating that they may be
deemed to be a group pursuant to SEC Rule 13d-5(b)(1) promulgated under
Sections 13(d) and 13(g) of the Securities and Exchange Act of 1934, as
amended.
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<PAGE>
Pursuant to the Agreement, the Company agreed to (1) hold harmless and
indemnify all of the members of the Company's Board of Directors to the
maximum extent permitted by the General Corporation Law of California, (2)
increase directors and officers insurance to $5 million and (3) resolve
uncertainties that are merely of a technical nature that may exist in the
Company's Articles of Incorporation at the next meeting of the Company's
shareholders.
As part of the Agreement, Mr. Wilstein and Mr. Horowitz agreed that they
would not assert that any other director of the Company should be deemed to
be a member of the group that filed the Schedule 13D on May 5, 1997.
As part of the Agreement, all parties agreed (1) that it would be the policy
of the Board that the Board will not support any derivative lawsuit unless
such a suit pleads with particularity facts that give rise to a strong
inference that a director or directors acted in violation of his, her or
their duty of loyalty or duty of care to the Company, unless a different
standard is required, (2) to recommend that the shareholders of the Company
approve clarifying amendments to the Company's Articles of Incorporation,
deleting reference to the number of directors, (3) to amend the Company's
Bylaws so that the Board shall be comprised of seven members, and (4) to take
actions to cause the annual meeting to be held on September 22, 1997 and to
act together to nominate all seven Board members as the slate for the
upcoming meeting of shareholders, provided that all members wish to serve on
the Board or resign from the Board and subsequently nominate a different
slate of directors.
ISSUANCE OF 6% CONVERTIBLE PREFERRED STOCK:
In July 1997, the Company issued 1,800 shares of Series B 6% Convertible
Preferred Stock to raise $1.8 million, less fees equal to approximately 7% of
the capital raised. In connection with the issuance of the Series B Preferred
Stock, the Company also issued warrants to purchase 50,000 shares of the
Company's common stock at an exercise price of $5.36 per share for a period
of two years and an option to acquire an additional 125 Series B Preferred
Stock at 88% of the average bid price of the Company's common stock in the
five days preceding the date of issuance of the additional Series B Preferred
Stock. The basic terms and conditions of the Series B 6% Convertible
Preferred Stock are as follows:
VOTING. The Series B 6% Convertible Preferred Stock does not have voting
rights.
DIVIDEND. The Series B 6% Convertible Preferred Stock has a cumulative
noncompounded annual dividend of 6% payable in cash or stock at the Company's
option upon conversion of the Preferred Stock into Common Stock, and prior to
the payment of any dividends on the Common Stock. No dividends may be
declared or paid on the Convertible Series B Preferred Stock until all
cumulative unpaid dividends have been declared and paid on the outstanding
Convertible Series A Preferred Stock.
LIQUIDATION PREFERENCE. The Series B 6% Convertible Preferred Stock has a
liquidation preference of $1,000 per share plus all cumulative unpaid
dividends, whether or not declared by the Company's Board of Directors. Upon
any liquidation or change of control of the Company (i.e. transfer of more
than 50% of its voting stock), the Preferred Stockholders are entitled to the
second priority in payment from the Company's assets, before any payments are
made on the Company's Common Stock, until the liquidation preference is paid
in full. The Series B 6% Convertible Preferred Stock is junior in preference
to Series A 2% Convertible Preferred Stock issued in October 1996 (see the
Company's Annual Report of Form 10-K filed on April 15, 1997). No liquidation
preference may be paid to the holders of the Convertible Series B Preferred
Stock until the full liquidation preference has been paid to the holders of
the outstanding Convertible Series A Preferred Stock.
CONVERSION. The Preferred Stockholders may convert each share of Series B 6%
Convertible Preferred Stock into the number of shares of the Company's Common
Stock calculated as follows, at any time upon the earlier of (i) 120 days
after the issuance of the Preferred Stock, or (ii) when the shares of Common
Stock underlying the Preferred Stock are registered with the Securities and
Exchange Commission. The conversion price (the "Conversion Price") for each
share of Series B 6% Convertible Preferred Stock is equal to the lesser of
(a) 80% of the average bid price for the Company's Common Stock on the public
trading market for the five
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<PAGE>
trading days immediately preceding the conversion date, as specified by the
Preferred Stockholder, or (b) the bid price of the Company's Common Stock on
the funding date (i.e. the issuance date of the Preferred Stock). To
calculate the number of shares of Common Stock issuable upon the conversion
of the Preferred Stock, the Conversion Price is multiplied by a ratio, the
numerator of which is the sum of 1,000 and the accrued but unpaid dividends,
and the denominator of which is the Conversion Price. If for any reason a
registration statement covering the shares of Common Stock issuable upon the
conversion of the Preferred Stock is not in effect with the Securities and
Exchange Commission at the time of a valid conversion by a Preferred
Stockholder, then the Conversion Price is reduced by 3% per month for each of
the first three months that the effectiveness of the registration is late,
and thereafter the Company is obligated to pay a cash penalty equal to 3% of
the investment per month. The Company has the right to cause a conversion of
the Preferred Stock into Common Stock on the same terms at any time after one
year after the Preferred Stock is issued.
REDEMPTION. The Company has the right to redeem the Preferred Stock for its
issuance price plus cumulative unpaid dividends if the Company's stock trades
at a price which averages $2.00 per share or less for any period of five
consecutive trading days after the Preferred Stock is issued.
REGISTRATION RIGHTS. Pursuant to a Registration Rights Agreement entered
into by the Company with each purchaser of the Series B 6% Convertible
Preferred Stock, the Company is obligated to file a registration statement
with the Securities and Exchange Commission covering the shares of Common
Stock underlying the Preferred Stock within 30 days after the Preferred Stock
is issued, and to have the registration statement declared effective within
120 days after it is filed.
ANTIDILUTION PROVISION. The Certificate of Determination for the Series B 6%
Convertible Preferred Stock contains comprehensive provisions for adjustments
to the Conversion Price and the conversion ratio of the Preferred Stock in
the event of stock dividends, asset distributions, reorganizations,
recapitalizations, mergers, stock splits or similar transactions by the
Company, in order to protect the Preferred Stock from dilution as a result of
such transactions.
RESTRICTIVE COVENANTS. During the first 90 days after the Series B 6%
Convertible Preferred Stock is issued, the Company is not permitted to issue
any other securities, except in limited circumstances, including pursuant to
the exercise of outstanding options or warrants or pursuant to existing
settlement agreements, without first notifying the Preferred Stockholders and
giving them a right of first refusal to purchase the securities themselves.
While the Series B 6% Convertible Preferred Stock is outstanding or until it
is converted into Common Stock, the Company is not permitted to engage in
certain transactions, such as the redemption or purchase of its own Common
Stock (except in connection with the collection of Section 16(b) short-swing
profits), without the prior consent of the Preferred Stockholders.
Furthermore, the Company cannot take any action which would modify the rights
of the Preferred Stockholders under the Certificate of Determination without
the prior consent of the Preferred Stockholder being affected by the
modification.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
INDEX TO EXHIBITS:
EXHIBIT NO. DESCRIPTION
- ----------- -----------------
10-1 Loan Agreement between National Telephone & Communications,
Inc. and First Bank
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<PAGE>
& Trust, Irvine, CA.
10-2 Agreement As To Board Membership Between Incomnet, Inc. and
Stanley Weinstein, David Wilstein and Richard Horowitz, dated
August 7, 1997.
REPORTS ON FORM 8-K, FILED IN 1997
- - ----------------------------------------------------
20.1 Report on Form 8-K - Election of Dr. Howard Silverman As Director &
Amendment to Employment Contract of Melvyn Reznick, filed on February 7,
1997.
20.2 Report on Form 8-K - Reincorporation of National Telephone &
Communications, Inc. filed on April 10, 1997.
20.3 Report on Form 8-K - Acquisition of California Interactive Computing,
Inc., filed on May 13, 1997.
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.
INCOMNET, INC.
Date: August 14, 1997 /s/ MELVYN REZNICK
--------------------------
Melvyn Reznick
President, CEO & CFO
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<PAGE>
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q/A
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1997 COMMISSION FILE NO. 0-12386
INCOMNET, INC.
A California IRS Employer No.
Corporation 95-2871296
21031 Ventura Blvd., Suite 1100
Woodland Hills, California 91364
Telephone no. (818) 887-3400
SECURITIES REGISTERED PURSUANT TO
SECTION 12(B) OF THE ACT:.....................None
SECURITIES REGISTERED PURSUANT TO
SECTION 12(G) OF THE ACT:.....................Common Stock, No Par Value
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
--- ---
Number of shares of registrant's common stock outstanding as of
September 30, 1997...................................14,006,793
1
<PAGE>
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
(DOLLARS IN THOUSANDS) September 30, December 31,
1997 1996
---- ----
<S> <C> <C>
ASSETS
Current assets:
Cash & cash equivalents 1,169 $ 2,214
Accounts receivable, including $287,000 and $267,000 due from related
party at September 30, 1997 and December 31, 1996, respectively
and less allowance for doubtful accounts of $2.1 million at
September 30, 1997 and $1.9 million at December 31, 1996 18,914 13,137
Notes receivable - current portion 445 323
Notes receivable from officers & shareholders, net of reserves
of $209,000 1,009 438
Inventories 499 2,760
Other current assets 1,327 1,332
-------- --------
Total current assets 23,363 20,204
Property, plant and equipment, at cost, net 16,670 14,357
Goodwill, net 6,894 5,783
Investments, notes receivable and other assets 1,725 243
-------- --------
Total assets 48,652 $ 40,587
-------- --------
-------- --------
</TABLE>
See accompanying "Notes to Consolidated Financial Statements."
2
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (CONT'D)
<TABLE>
<CAPTION>
(DOLLARS IN THOUSANDS) September 30, December 31,
1997 1996
---- ----
<S> <C> <C>
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable 14,597 $ 14,746
Accrued expenses 6,502 8,217
Current portion of notes payable 5,994 3,918
Deferred income 3,190 4,040
-------- --------
Total current liabilities 30,283 30,921
Long-term liabilities
Notes payable 1,190 1,040
Notes payable, GenSource 2,165 --
Liabilities in excess of assets of RCI 3,600 --
Shareholders' equity:
Common stock, no par value; 20,000,000 shares
authorized; 14,006,793 shares issued and outstanding
at September 30, 1997 and 13,369,681 shares at
December 31, 1996 69,972 61,320
Preferred stock, no par value; 100,000 shares authorized;
3,909 issued and outstanding September 30, 1997 and
2,355 shares issued and outstanding at
December 31, 1996 3,698 2,355
Treasury stock (5,492) (5,492)
Accumulated deficit (56,765) (49,557)
-------- --------
Total shareholders' equity 11,413 8,626
-------- --------
Total liabilities & shareholders' equity $ 48,652 $ 40,587
-------- --------
-------- --------
</TABLE>
See accompanying "Notes to Consolidated Financial Statements."
3
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
THREE MONTHS ENDED SEPTEMBER 30,
(DOLLARS IN THOUSANDS) 1997 1996
---- ----
SALES $ 33,318 $ 27,591
-------- --------
OPERATING COSTS & EXPENSES:
Cost of sales 23,384 17,777
General & administrative 6,730 8,254
Depreciation & amortization 821 502
Bad debt expense 1,600 1,292
Other (income)/expense 11,238 10,676
-------- --------
Total operating costs and expenses 43,773 38,501
-------- --------
Income/(loss) before income taxes and minority interest (10,455) (10,910)
INCOME TAX BENEFITS/(EXPENSE) 887 (866)
-------- --------
Income/(loss) before minority interest (9,569) (10,044)
MINORITY INTEREST -- 781
Net income/(loss) $ (9,569) $ (9,263)
-------- --------
-------- --------
INCOME/(LOSS) PER COMMON SHARE
AND COMMON SHARE EQUIVALENTS:
Net income/(loss) $ (0.70) $ (0.70)
-------- --------
-------- --------
WEIGHTED AVERAGE NUMBER OF COMMON SHARES AND
COMMON SHARE EQUIVALENTS OUTSTANDING 13,687,977 13,244,674
---------- ----------
---------- ----------
See accompanying "Notes to Consolidated Financial Statements."
4
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
NINE MONTHS ENDED SEPTEMBER 30,
(DOLLARS IN THOUSANDS)
1997 1996
---- ----
SALES $ 99,341 $ 77,296
--------- --------
OPERATING COSTS & EXPENSES:
Cost of sales 69,525 49,144
General & administrative 20,740 22,083
Depreciation & amortization 2,218 1,396
Bad debt expense 3,448 3,829
Other (income)/expense 11,297 12,046
--------- --------
Total operating costs and expenses 107,228 88,498
--------- --------
Income/(loss) before income taxes and minority interest (7,886) (11,202)
INCOME TAX BENEFITS/(EXPENSE) 679 (679)
--------- --------
Income/(loss) before minority interest (7,207) (10,523)
MINORITY INTEREST -- 1,908
--------- --------
Net income/(loss) $ (7,207) $ (8,615)
--------- --------
--------- --------
INCOME/(LOSS) PER COMMON SHARE
AND COMMON SHARE EQUIVALENTS:
Net income/(loss) $ (0.53) $ (0.65)
--------- --------
--------- --------
WEIGHTED AVERAGE NUMBER OF COMMON SHARES
AND COMMON SHARE EQUIVALENTS OUTSTANDING 13,687,977 13,268,050
---------- ----------
---------- ----------
See accompanying "Notes to Consolidated Financial Statements."
5
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
NINE MONTHS ENDED SEPTEMBER 30,
1997 1996
--------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $ (7,207) $ (10,523)
Depreciation and amortization 2,524 3,222
--------- --------
(4,683) (7,301)
-------- --------
CASH FLOWS FROM (INCREASE)/DECREASE IN OPERATING ASSETS:
Accounts receivable (5,777) (372)
Notes receivable - current (122) (67)
Notes receivable - due from officers (571) 711
Inventories 2,261 (1,101)
Prepaid expenses and other& (5) (1,374)
Notes receivable - long term - 155
Deposits and other (1,481) (20)
-------- --------
(5,695) (2,068)
-------- --------
CASH FLOWS FROM INCREASE/(DECREASE) IN OPERATING LIABILITIES
Accounts payable (149) 2,225
Accrued expenses (1,715) 869
Deferred income (850) 528
-------- --------
(2,714) 3,622
-------- --------
Net cash flow from operations (13,092) (5,747)
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of plant and equipment (3,725) (5,159)
Patents/intangible assets - (162)
Investment in Lab Tech - 66
Goodwill from acquisition of GenSource (2,223)
Liability in excess of assets 3,600
Goodwill from acquisition of NTC - 222
Goodwill from acquisition of RCI - 8,000
-------- --------
Net cash flow from investing activities (2,348) 2,967
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES
Notes payable - current - 3,146
Sale of common stock, net 8,651 436
Preferred stock 1,343
Notes payable - long term 4,391 (876)
Other - net 10 46
-------- --------
Net cash flow from financing activities 14,395 2,752
-------- --------
Net increase/(decrease) in cash and equivalents $ (1,045) $ (28)
-------- --------
-------- --------
See accompanying "Notes to Consolidated Financial Statements."
6
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
SEPTEMBER 30, 1997
1. MANAGEMENT'S REPRESENTATION:
The consolidated financial statements included herein have been prepared by
the management of Incomnet, Inc. (the Company) without audit. Certain
information and note disclosures normally included in the consolidated
financial statements prepared in accordance with generally accepted
accounting principles have been omitted. In the opinion of the management of
the Company, all adjustments considered necessary for fair presentation of
the consolidated financial statements have been included and were of a normal
recurring nature, and the accompanying consolidated financial statements
present fairly the financial position as of September 30, 1997, and the
results of operations for the three and nine months ended September 30, 1997
and 1996, and cash flows for the nine months ended September 30, 1997 and
1996.
It is suggested that these consolidated financial statements be read in
conjunction with the consolidated financial statements and notes for the
three years ended December 31, 1996, included in the Company's Annual Report
on Form 10-K filed with the Securities and Exchange Commission on April 14,
1997. The interim results are not necessarily indicative of the results for
a full year.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
PRINCIPLES OF CONSOLIDATION - The consolidated financial statements include
the accounts of the Company and its wholly-owned subsidiaries, National
Telephone & Communications-TM-, Inc. (NTC) and GenSource-TM- Corporation
(GenSource - see "Item 5. Change of Name From California Interactive
Computing, Inc. to GenSource Corporation"). The statements do not include
consolidated results of Rapid Cast, Inc., the Company's 22%-owned
subsidiary, which is accounted for using the equity method of accounting. The
Company accounted for RCI using the consolidated method of accounting from
the third quarter of 1995 until December 31, 1996 because the Company owned
51% of RCI. In January 1997, the Company's ownership changed from 51% of RCI
to 35%, as a result, the method of accounting has changed to the equity
method. In June 1997, the Company's ownership position changed to 22%. On
the date of change in the method of accounting, RCI's liabilities
significantly exceeded its assets, and the Company recorded its ratable share
of such excess in the balance sheet caption "Liabilities in excess of assets
of RCI". Accordingly, all assets and liabilities of RCI, including patent
rights of $1,241,000 (after previously recorded reserves of approximately $39
million) were, during the first quarter of 1997, combined under this caption.
REVENUE RECOGNITION - The Company recognizes revenue during the month in
which services or products are delivered, as follows:
(1) NTC's long distance telecommunications service revenues are generated
when customers make long distance telephone calls from their business or
residential telephones or by using any of NTC's telephone calling cards.
Proceeds from prepaid telephone calling cards are recorded as deferred
revenues when the cash is received, and recognized as revenue as the
telephone service is utilized. The reserve for deferred revenues is carried
on the balance sheet as an accrued liability. Long distance telephone
service sales in the three months and nine months ending September 30, 1997
totaled $28.7 million and $83.5 million, respectively versus long distance
telephone service sales of $21.1 million and $61.6 million, respectively in
the three months and nine months ending September 30, 1996.
(2) NTC's marketing-related revenues are derived from programs and material
sold to the Company's base of independent sales representatives, including
forms and supplies, fees for representative and certified trainer renewals,
and the Company's Certified Trainer, Independent Representative and Home
Study programs. The Company requires that all such services and materials be
paid at the time of purchase. Revenues from marketing-related materials, net
of amounts deferred for future services provided to the representatives, are
booked as cash sales when the revenues are received. A portion of the
revenues from marketing-related programs and materials is deferred and
recognized over a twelve month period to accrue the Company's obligation to
provide customer support to its independent representatives. For the three
months and nine months ending September 30, 1997, marketing sales totaled
$3.6 million and $13.6 million, respectively versus marketing sales of $4.8
million and $10.9 million, respectively for the three months and nine months
ended September 30, 1996.
7
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
SEPTEMBER 30, 1997
(3) The Company's network service revenues from its AutoNETWORK service are
recognized as sales as the service is delivered. Network service sales in
the three months and nine months ending September 30, 1997 totaled $369,885
and $1.1 million, respectively versus $360,587 and $1.1 million, respectively
in the three months and nine months ending September 30, 1997.
(4) Revenues from the Company's GenSource subsidiary (see "Item 5. Change of
Name From California Interactive Computing, Inc. to GenSource Corporation")
are derived from the sale of computer software and from related services,
such as software maintenance fees, custom programming and customer training.
Revenues are recognized when software is shipped to customers and when
services are performed and invoiced. Because the Company acquired GenSource
on May 2, 1997, revenues and earnings only reflect GenSource's operations
from May 2, 1997. Revenues in the three months and five months ending
September 30, 1997 totaled $662,678 and $1.1 million, respectively.
CONCENTRATION OF CREDIT RISK - The Company sells its telephone, network
services and insurance-related software and related services to individuals
and small businesses throughout the United States and does not require
collateral. Reserves for uncollectible amounts are provided, which management
believes are sufficient.
COMPUTER HARDWARE, FURNITURE AND OFFICE EQUIPMENT - Computer hardware,
furniture and office equipment are stated at cost. Depreciation is provided
by the straight-line method over the assets' estimated useful lives of 3 to
10 years.
COMPUTER SOFTWARE - The Company capitalizes the costs associated with
purchasing, developing and enhancing its computer software. All software
costs are amortized using the straight-line method over the assets' estimated
useful lives of 3 to 10 years.
LEASEHOLD IMPROVEMENTS - All leasehold improvements are stated at cost and
are amortized using the straight-line method over the expected lease term.
NET INCOME PER SHARE - Net income per common share is based on the weighted
average number of common shares and common share equivalents for 1997 and
1996.
ACQUISITION AMORTIZATION - The excess of purchase price over net assets of
NTC and GenSource have been recorded as an intangible asset and is being
amortized by the straight-line method over twenty years.
DEFERRED TAX LIABILITY - Deferred income taxes result from temporary
differences in the basis of assets and liabilities reported for financial
statement and income tax purposes.
USE OF ESTIMATES - The preparation of 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, as well as the reported amounts of revenues
and expenses during the reporting period. Actual results could differ from
those estimates.
3. FUNDING OF MARKETING COMMISSIONS AND DEFERRED INCOME:
The Company's subsidiary, NTC, maintains separate bank accounts for the payment
of marketing commissions. Funding of these accounts is adjusted regularly to
provide for management's estimates of required reserve balances. NTC estimates
the total commissions owed to active independent representatives ("IR Earned
Compensation") each
8
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
SEPTEMBER 30, 1997
week for all monies collected that week due to the efforts of those active
independent representatives. All IR Earned Compensation is then paid to the
independent representatives, when due, directly out of the separate bank
account.
IMPAIRMENT OF LONG-LIVED ASSETS - In accordance with the provisions of SFAS
No. 121, the Company regularly reviews long-lived assets and intangible
assets for impairment whenever events or changes in circumstances indicate
that the carrying amount to the assets may not be recoverable.
4. NOTES PAYABLE:
Notes payable consist of the following as of September 30, 1997:
Notes payable to founding stockholders of GenSource, interest
at 8%, due beginning in May 1998 $ 2,165,095
Note payable to bank for line of credit to NTC, interest at
prime plus 1.25%, due as current liability $ 5,550,000
Capitalized lease obligations $ 1,633,995
-----------
$ 9,349,090
-----------
-----------
5. NETWORK MARKETING COSTS:
During the three and nine months ending September 30, 1997, NTC's net costs to
operate its network marketing program were $3.0 million and $11.2 million,
respectively, as summarized below (in $ millions):
<TABLE>
<CAPTION>
3 Months Ending 9 Months Ending
September 30,1997 September 30,1997
----------------- -----------------
<S> <C> <C>
Sales $ 3.6 $ 13.6
----- ------
Cost of sales 3.0 11.2
Operating expenses for support services 1.3 4.1
----- ------
Total marketing-related costs 4.3 15.3
----- ------
Net marketing cost $ 0.7 $ 1.7
% of total NTC (long distance & marketing) sales 2.2% 1.8%
</TABLE>
9
<PAGE>
INCOMNET, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
SEPTEMBER 30, 1997
Marketing sales of $3.6 million and $13.6 million, during the three and nine
month periods ending September 30, 1997, respectively were generated by the
sale of materials, training and support services to assist NTC independent
sales representatives in selling new retail customers and enrolling other
representatives in the NTC program. Beginning in January 1996, NTC began to
accrue its obligation to provide customer support to its representatives.
These reserved marketing revenues are reflected as deferred income on the
Company's balance sheet and are amortized over the succeeding twelve months.
The marketing-related costs include commissions paid to independent sales
representatives for acquiring new retail telephone customers, as well as the
cost of sales materials, salaries and wages of marketing department
personnel, services required to support the independent sales
representatives, and other directly identifiable support costs, but do not
include residual commissions paid on continuing long distance telephone usage
or the typical indirect cost allocations, such as floor-space and supporting
departments. When marketing-related costs of $4.3 million and $15.3 million
for the three months and nine months ended September 30, 1997, respectively
are compared against marketing-related revenues of $3.6 million and $13.6
million for the same period, the results are a net cost in marketing-related
activities during the three months and nine months ended September 30, 1997
of $0.7 million and $1.7 million, respectively, or 2.2% and 1.8%,
respectively of total NTC sales.
6. COMPENSATION OF INDEPENDENT SALES REPRESENTATIVES:
The Company's subsidiary, NTC, compensates its independent sales
representatives by an earned commission structure based upon signing up new
telephone customers and based upon the telephone usage generated by those
customers. In the three and nine months ending September 30, 1997, expenses
associated with commissions, bonuses and overrides paid out to NTC's
independent representatives were $4.4 million and $15.3 million, respectively
versus commissions, bonuses and overrides paid out to NTC's independent
representatives of $5.0 million and $12.3 million, respectively for the three
months and nine months ended September 30, 1996.
7. COMMITMENTS AND CONTINGENCIES:
Litigation - The Company is a defendant in a class action matter and related
lawsuits alleging securities law violations with respect to alleged false
denial and non-disclosure of a Securities and Exchange Commission
investigation and alleged non-disclosure of purchases and sales of the
Company's stock by an affiliate of the former Chairman of the Board. On
October 7, 1997, the Company announced that it had reached a settlement of
the class action lawsuit for $8,650,000. Accordingly, the Company has taken a
reserve of $8,650,000 in the third quarter ended September 30, 1997 for
expenses associated with the anticipated settlement
[see "Part II. Item 1. Legal Proceedings - Class Action and Related Lawsuits"].
Counsel for the company is unable to estimate the ultimate outcome of the
related lawsuits and is unable to predict a range of potential loss.
Accordingly, no amounts have been provided for the related lawsuits in the
accompanying financial statements. In addition, the Company has recorded an
additional 1.5 million shares of its common stock in connection with the
settlement of this matter.
On October 28, 1997, the Company announced that that its NTC subsidiary
reached a settlement of a civil consumer protection lawsuit with the State of
California. Accordingly, the Company has taken a reserve of $1.6 million in
the third quarter ended September 30, 1997 for expenses associated with the
anticipated settlement [see "Part II. Item 1. Legal Proceedings - Civil
Consumer Protection Lawsuit With The State of California"].
The amounts provided for these matters are included in the caption "Other
(income)/expense" in the accompanying Consolidated Statements of Operations.
The Company is under investigation by the Securities and Exchange Commission
under a non-public "formal order of private investigation." Management has
furnished all information requested by the Commission and does not believe
that the matter will have a material adverse impact on its financial position
or results of operations.
10
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
LIQUIDITY AND CAPITAL RESOURCES:
Overall, the Company had negative cash flows of $1.1 million during the first
nine months of 1997 resulting from negative cash flows from operations of
$13.1 million and negative cash flows from investing activities of $2.4
million, which were offset by positive cash flows from investing activities
of $14.4 million. The Company expects that its operating and investing
activities will continue to experience negative cash flows due to (1)
anticipated cash costs associated with the class action lawsuit, related
lawsuits and other legal and regulatory issues (see "Item 1. Legal
Proceedings") and (2) anticipated funding requirements of approximately $1.2
million through fiscal year 1998 associated with the operation and
acquisition of GenSource (see the Company's Report on Form 10-Q for the
second quarter ended June 30, 1997). To meet these anticipated funding needs,
the Company has issued options to acquire up to 250 shares of Series B 6%
Convertible Preferred Stock at an 88% conversion ratio, the right to acquire
200 shares of Series B 6% Convertible Preferred Stock at an 80% conversion
ratio, and warrants to acquire 105,000 shares of the Company's common stock
(see "Item 5. Conveyance of Series A 2% Convertible Preferred Stock and
Issuance of Series B 6% Convertible Preferred Stock"). There is no assurance
that these options will be exercised and therefore management is not certain
that its liquidity and capital resources will be sufficient to fund these
activities for the foreseeable future.
The Company's cash flows are discussed below, as follows:
CASH FLOW FROM OPERATIONS - The Company experienced $13.1 million in negative
cash flow from operations during the first nine months of 1997 compared to
$5.8 million in negative cash flow from operations during the prior year's
comparable period. This year-to-year decrease in cash flow from operations
resulted primarily from: (1) a net loss from operating activities of $7.2
million, which includes reserves of $8.65 million and $1.6 million for
anticipated legal settlements, (2) an increase in operating assets, primarily
accounts receivable of $5.7 million and (3) a decrease in operating
liabilities of $2.7 million.
CASH FLOW FROM INVESTING - The Company experienced negative cash flows from
investing activities of $ 2.3 million in the first nine months of 1997 as
compared with a positive cash flow of $2.9 million in the first nine months
of 1996. The negative cash flow in the first nine months of 1997 resulted
primarily from $3.7 million used to acquire plant and equipment, primarily by
NTC, and by $2.2 million for the acquisition of GenSource, reduced by a $3.6
million liability in excess of assets arising from changing to the equity
method of accounting for RCI.
CASH FLOW FROM FINANCING - Positive cash flows from financing activities
totaled $14.4 million during the first nine months of 1997 compared with $2.7
million during the first nine months of 1996. The positive cash flow during
the first nine months of 1997 resulted primarily from (1) issuance of $8.65
million of common stock primarily to settle the class action lawsuit against
the Company (see "Item 1. Legal Proceedings"), (2) net sales of $1.3 million
worth of convertible preferred stock (see "Item 5. Conveyance of Series A 2%
Convertible Preferred Stock and Issuance of Series B 6% Convertible Preferred
Stock"), (3) increased borrowings under NTC's line of credit and (4)
assumption of $2.2 million in obligations associated with the acquisition of
GenSource.
RESULTS OF OPERATIONS:
SALES - Sales of $33.3 million in the third quarter ended September 30, 1997
increased 21% over sales of $27.6 million in the third quarter ended
September 30, 1996. The majority of this increase was attributable to NTC's
sales increase to $32.3 million in the three months ended September 30, 1997
from $25.8 million in the three months ended September 30, 1996,
respectively. The following table summarizes the Company's sales performance
by subsidiary and segment during the comparable third quarters in 1997 and
1996:
$ in millions
------------------
Subsidiary Segment 1997 1996
- -------------- --------------------------------------- ------ ------
NTC Telephone (telecommunications services) $ 28.7 $ 21.1
NTC Telephone (marketing programs) 3.6 4.7
RCI Optical -- 1.4
GenSource Software 0.6 --
AutoNETWORK Network 0.4 0.4
------ ------
Total Company Sales $ 33.3 $ 27.6
------ ------
------ ------
COST OF SALES - Total Company cost of sales increased to $23.4 million or 70%
of sales during the quarter ending September 30, 1996 verses $17.7 million or
64% of sales during the comparable prior year quarter. The
quarter-to-quarter increase in cost of sales resulted largely from the
increase in carrier costs associated with increased telephone service sales
by NTC. The increase in the percentage of overall sales to 70% in the third
quarter of 1997 from 64% in the third quarter of 1996 was due primarily to a
percentage increase in NTC's carrier costs in the third quarter of 1997
versus the third quarter of 1996. The following table summarizes the
Company's changes in three major cost components in the third quarter ended
September 30, 1997 and 1996, respectively:
$ in millions
----------------------
September September
30, 1997 30, 1996
--------- ---------
Commissions paid to NTC independent sales reps $ 4.4 $ 5.0
Carrier costs for NTC's long distance telephone service 17.8 11.0
All other costs of sales 1.2 1.8
------ ------
Total Company Cost of Sales $ 23.4 $ 17.8
------ ------
------ ------
11
<PAGE>
NTC's total commission expense decreased to $4.4 million in the third quarter
of 1997 compared to $5.0 million in the same quarter of 1996. NTC's carrier
costs to deliver long distance telephone service to its telephone customers
increased to $17.8 million in the third quarter of 1997 compared to $11.0
million in the third quarter of 1996. This increase in carrier costs reflects
a decline in the gross margin of carrier-related sales. In the third quarter
of 1996, gross margin was 48%, or $11.0 million in carrier costs on $21.1
million in carrier sales, while in the third quarter of 1997, gross margin
declined to 38%, or $17.8 million in carrier costs on $28.7 million in
carrier sales.
The third cost component shown in the table above is "all other costs of
sales" which represents: (1) NTC's costs of producing sales materials for its
independent sales representatives, (2) GenSource's cost of producing software
products and related services, and (3) AutoNETWORK's costs of providing
communications network products and services.
GENERAL & ADMINISTRATIVE - Total general and administrative costs decreased
to $6.7 million or 20% of sales in the quarter ending September 30, 1996
compared to $8.3 million or 30% of sales in the same prior year quarter.
General and administrative costs generally include the costs of employee
salaries, fringe benefits, supplies, and related support costs which are
required in order to provide such operating functions as customer service,
billing, marketing, product development, information systems, collections of
accounts receivable, and accounting. The decrease in general and
administrative expense is associated with improved efficiencies at NTC and by
no longer consolidating the financial statements of RCI.
DEPRECIATION & AMORTIZATION - Total Company depreciation and amortization
expense was $821,409 in the third quarter of 1997 verses $501,787 in the
third quarter of 1996. This increase was caused primarily by continuing
investment by NTC in computer hardware and software, furniture and equipment,
and leasehold improvements required to support its anticipated expansion in
sales.
BAD DEBT EXPENSE - Total Company bad debt expense increased to $1.6 million
in the third quarter of 1997 from $1.3 million in the third quarter of 1996.
The increase in bad debt was associated with an increase in total sales at
NTC in the third quarter of 1997 versus the third quarter of 1996.
OTHER INCOME & EXPENSE - The Company's other income and expense was an
expense of $11.2 million in the third quarter of 1997 compared to other
expense of $10.7 million in the third quarter of 1996. The $11.2 million in
other expenses consists primarily of: (1) an $8.7 million reserve for the
settlement of the class action lawsuit against the company, (2) a $1.6
million reserve for the settlement of a civil consumer protection lawsuit by
the State of California against the Company's NTC subsidiary and
approximately $600,000 in additional legal expenses associated with related
lawsuits and administrative matters.
NET INCOME - The Company incurred a net income loss of $9.6 million in the
third quarter of 1997 compared to a loss of $9.3 million in the third quarter
of 1997. The net loss was due primarily to the reserves taken for legal
settlements, including $8.65 million to settle the class action lawsuit
against the Company and $1.6 million for NTC to settle a civil consumer
protection lawsuit with the State of California (See "Item 1. Legal
Proceedings"). Without the reserves for legal settlements and associated
expenses, the Company had net operating income of approximately $806,397 in
the third quarter ended September 30, 1997.
12
<PAGE>
PART II - OTHER INFORMATION
CAUTIONARY STATEMENTS:
This Quarterly Report on Form 10-Q contains certain forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933
and Section 21E of the Securities Exchange Act of 1934. The Company intends
that such forward-looking statements be subject to the safe harbors created
by such statutes. The forward-looking statements included herein are based on
current expectations that involve a number of risks and uncertainties.
Accordingly, to the extent that this Quarterly Report contains
forward-looking statements regarding the financial condition, operating
results, business prospects or any other aspect of the Company and its
subsidiaries, please be advised that the Company and its subsidiaries' actual
financial condition, operating results and business performance may differ
materially from that projected or estimated by the Company in forward-looking
statements. The differences may be caused by a variety of factors, including
but not limited to adverse economic conditions, intense competition,
including intensification of price competition and entry of new competitors
and products, adverse federal, state and local government regulation,
inadequate capital, unexpected costs and operating deficits, increases in
general and administrative costs, lower sales and revenues than forecast,
loss of customers, customer returns of products sold to them by the Company
or its subsidiaries, disadvantageous currency exchange rates, termination of
contracts, loss of supplies, technological obsolescence of the Company's or
its subsidiaries' products, technical problems with the Company's or its
subsidiaries' products, price increases for supplies and components,
inability to raise prices, failure to obtain new customers, litigation and
administrative proceedings involving the Company, including the pending class
action and related lawsuits and SEC investigation, the possible acquisition
of new businesses that result in operating losses or that do not perform as
anticipated, resulting in unanticipated losses, the possible fluctuation and
volatility of the Company's operating results, financial condition and stock
price, losses incurred in litigating and settling cases, dilution in the
Company's ownership of its subsidiaries and businesses, adverse publicity and
news coverage, inability to carry out marketing and sales plans, challenges
to the Company's patents, loss or retirement of key executives, changes in
interest rates, inflationary factors, and other specific risks that may be
alluded to in this Quarterly Report or in other reports issued by the
Company. In addition, the business and operations of the Company are subject
to substantial risks which increase the uncertainty inherent in the
forward-looking statements. In light of the significant uncertainties
inherent in the forward-looking information included herein, the inclusion of
such information should not be regarded as a representation by the Company
or any other person that the objectives or plans of the Company will be
achieved.
ITEM 1. LEGAL PROCEEDINGS
CIVIL CONSUMER PROTECTION LAWSUIT WITH THE STATE OF CALIFORNIA:
On October 28, 1997, the Company announced that its NTC subsidiary reached a
settlement of a civil consumer protection lawsuit with the State of
California. In the settlement, which NTC reached without admitting any
wrongdoing, NTC agreed to a court order requiring them to implement policies
to prevent the practice of slamming (switching customers' long distance
telephone service without their permission or knowledge) by its independent
sales representatives and employees, and agreed to pay $1,250,600 in costs
and penalties. NTC also agreed to institute safeguards to prevent slamming
violations from occurring in the future. Among those safeguards, NTC agreed
to wait 24 hours after the consumer agrees to switch their telephone company
to NTC before calling the customer to confirm that the consumer really wants
to switch to NTC.
The lawsuit was brought through the California Attorney General's Office and
the Orange County District Attorney Office. The California Public Utility
Commission was the investigative agency. As part of a related administrative
action, restitution to consumers is being sought by the Consumer Services
Division of the California Public Utility Commission. NTC is in settlement
discussions with the California Public Utility Commission, but there is no
assurance that a settlement will be reached.
SECURITIES AND EXCHANGE COMMISSION INVESTIGATION:
The investigation of the Company by the SEC, which was commenced in August 1994,
has not experienced any material changes from its status as described in "Item
3. Legal Proceedings" in the Company's Form 10-K for its fiscal year ending
December 31, 1996. The Company continues to believe that it has provided
substantial documentation to
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the Commission that demonstrates the propriety of its business operations
and that the ultimate result of the investigation will not have a material
adverse effect on the Company's financial condition or results of operations.
CLASS ACTION AND RELATED LAWSUITS:
The status of the pending class action lawsuit described in "Item 3. Legal
Proceedings" in the Company's Form 10-K for its fiscal year ending December
31, 1996, known as and updated in "Item 1. Legal Proceedings" in the
Company's Form 10-Q for its fiscal quarters ending March 31, 1997 and June
30, 1997, SANDRA GAYLES, ET AL. VS. SAM D. SCHWARTZ AND INCOMNET, INC., Case
No. CV95-0399 KMW (BQRx), has materially changed since the filing of the
Form 10-K for the fiscal year ending December 31, 1996 and Form 10-Q for the
fiscal quarter ending June 30, 1997, in the following manner:
On October 7, 1997, the Company reached a settlement of the lawsuit. The
settlement, which is subject to court approval, consists of a payment of
$500,000 in cash plus securities with a value of $8.15 million for a total
settlement value of $8.65 million. The securities consist of 1,500,000 shares
of the Company's common stock, plus a number of warrants to be determined if
the value of the common stock does not equal at least $8.15 million after the
settlement is approved by the court.
On July 22, 1997, the Company was named in a lawsuit, JAMES A BELTZ, ET AL.
VS. SAMUEL D. SCHWARTZ and RITA SCHWARTZ, husband and wife; STEPHEN A.
CASWELL; JOEL W. GREENBERG; INCOMNET, INC., a California corporation; DAVID
BODNER and MURRAY HUBERFELD, in the United States District Court, District of
Minnesota. The lawsuit was filed by 17 individuals who were allowed to opt
out of the class action lawsuit to pursue a lawsuit on their own. The lawsuit
alleges that Mr. Schwartz and the other defendants created a fraudulent
scheme to drive up the price of the Company's stock in violation of federal
securities law. The lawsuit alleges losses by the plaintiffs of approximately
$1.5 million and seeks unspecified damages.
The status of the pending lawsuit described in the Company's Form 10-Q for
its second quarter ending June 30, 1997, known as SILVA RUN WORLDWIDE LIMITED
VS. INCOMNET, INC., SAM D. SCHWARTZ, BEAR STEARNS & CO., INC., LESLIE
SOLMONSON, RONALD F. SEALE, MARINER RESERVE FUND, COMPANIA DI INVESTIMENTO
ANTILLANO, COUTTS & CO. AG, SALVATORE M. FRANZELLA, PETER G. EMBIRICOS, AND
JOS SCHUETZ, filed in the United States District Court for the Southern
District of New York and transferred in March 1997 to the same court in
California which is hearing the pending class action lawsuit has not
materially changed since the filing of the Form 10-Q for the second quarter
ending June30, 1997.
INCOMNET, INC. VS. SAM D. SCHWARTZ:
The status of the lawsuit by the Company against Sam D. Schwartz, its prior
President and Chairman of the Board, alleging fraud, breach of fiduciary
duty, negligence, declaratory relief, breach of contract and imposition of
constructive trust, which was commenced in April 25, 1997, has not
experienced any material changes from its status as described in "Item 1.
Legal Proceedings - INCOMNET VS. SAM D. SCHWARTZ" in the Company's Form 10-Q
for its fiscal quarter ending June 30, 1997.
LEGAL ACTION AGAINST PRIOR REPRESENTATIVES:
The status of the pending lawsuit by NTC against certain of its prior
representatives described in "Item 3. Legal Proceedings" in the Company's
Form 10-K for its fiscal year ending December 31, 1996 and updated in the
filing of the Form 10-Qs for the fiscal quarters ending March 31, 1997 and
June 30, 1997, respectively, has not materially changed since the filing of
the Form 10-K.
POTENTIAL LAWSUITS:
There is no assurance that claims similar to those asserted in the pending
class action and related lawsuits, or other claims, will not be asserted
against the Company by new parties in the future. In this regard, potential
plaintiffs have from time to time orally asserted claims against the Company
and its prior directors. Several members of the class in the class action
lawsuit against the Company have opted out and filed their own lawsuits
against the Company as described above. From time to time, the Company is
also involved in litigation arising from the ordinary course of
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business, the ultimate resolution of which management believes will not have
a material adverse effect on the financial condition or results of operations
of the Company.
ITEM 2. CHANGES IN SECURITIES
Item 2 is not applicable for the three months ended September 30, 1997.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Item 3 is not applicable for the three months ended September 30, 1997.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Item 4 is not applicable for the three months ended September 30, 1997.
ITEM 5. OTHER INFORMATION
EMPLOYMENT AGREEMENT BETWEEN INCOMNET AND EDWARD R. JACOBS:
On October 30, 1997, the Company's NTC subsidiary entered into a new
employment agreement with Edward R. Jacobs, who had been the Chairman and
Chief Executive Officer of NTC under a previous employment agreement from
December 28, 1994 to July 25, 1997. Under terms of the new agreement, which
was approved by NTC's Board of Directors, Mr. Jacobs will serve as the
Chairman of the Board of NTC until July 25, 1999. Detailed information on the
employment agreement is in the Company's Proxy Statement dated November 17,
1997.
CONVEYANCE OF SERIES A 2% CONVERTIBLE PREFERRED STOCK AND ISSUANCE OF SERIES B
6% CONVERTIBLE PREFERRED STOCK:
CONVEYANCE OF SERIES A 2% CONVERTIBLE PREFERRED STOCK. From September 20, 1996
to October 25, 1996, the Company sold 2,440 shares of Series A 2% Convertible
Preferred Stock (the "Series A Stock") to 12 accredited private investors [See
the Company's Annual Report on Form 10-K for fiscal year ended December 31,
1996]. The sale included an agreement that the Company would register the stock
with an S-3 Registration Statement and included liquidated damages of 3% per
month should the Registration Statement not be declared effective beginning 75
days after the funding was completed. The Company submitted the Registration
Statement in November 1996, but has not yet had it declared effective, which has
resulted in liquidated damages commencing in January 1997. These damages have
been paid by the Company to holders of the Series A Stock as either cash or
additional shares.
On November 7, 1997, 1,700 shares of the Series A Stock was purchased from four
institutional investors, who were original purchasers of the Series A Stock, for
$1.7 million by 12 individual accredited investors. These individuals have all
agreed to waive all registration rights and liquidated damage rights associated
with the Series A Stock and have agreed that they will convert their Series A
Stock into shares subject to Rule 144 of the Securities and Exchange Act of
1933, as amended, instead of shares that will be registered by the Company. The
Company has paid total liquidated damages of $540,000 in cash to the four
original purchasers of the Series A Stock conveyed to the new buyers.
On November 3, 1997, three other individuals converted $225,000 of the Series
A Stock (i.e. the original investment amount) to the Company's common stock,
subject to Rule 144. These three individuals received liquidated damages of
$67,500 paid in additional shares of common stock at a price of $3.00 per
share. As of November 7, 1997, only 150 shares of original Series A Stock
remains on the Company's books held by two individuals. These individuals are
owed liquidated damages of approximately $45,000.
SERIES B 6% CONVERTIBLE PREFERRED STOCK. In July 1997, the Company's Board of
Directors approved the issuance of 2,990 shares of Series B 6% Convertible
Preferred Stock (the "Series B Stock"), with each share worth $1,000 that
could be converted into the Company's common stock. At that time, the Company
raised $1.8 million by selling 1,834 shares of the authorized Series B Stock
(see the Company's Report on Form 10-Q for the second quarter ending June 30,
1997 for a detailed description). On November 4, 1997, the Company issued 600
additional shares of Series B Stock, raising an additional $600,000, less a
cash fee of $60,000 to the
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investment banker, who arranged the sale ( the same investment banker
arranged the sale of the 1,834 shares of Stock sold in July 1997). In
connection with this new issuance of the Series B Stock, the Company also
issued warrants to the investment banker to purchase 55,000 shares of the
Company's common stock at an exercise price of $3.00 per share for a period
of two years, an option to the investment banker to acquire an additional 125
Series B Stock at 88% of the average bid price of the Company's common stock
quoted on the five trading days immediately preceding the date of issuance of
the additional Series B Stock, and the right for one year of the investment
banker to provide the Company with an additional $200,000 in Series B Stock.
The cash fee, warrants and options paid and issued, respectively to the
investment banker were contingent upon the investment banker placing $1.7
million of Series A Stock being sold by four original institutional
purchasers who owned the Series Stock, to 12 new individuals who would waive
all associated registration rights. On November 7, 1997, this contingency was
met (see "Conveyance of Series A 2% Convertible Preferred Stock").
The basic terms and conditions of the Series B Stock are as follows:
VOTING. The Series B Stock does not have voting rights.
DIVIDEND. The Series B Stock has a cumulative non-compounded annual dividend of
6% payable in cash or stock at the Company's option upon conversion of the
Series B Stock into the Company's common stock, and prior to the payment of any
dividends on the Company's common stock. No dividends may be declared or paid on
the Series B Stock until all cumulative unpaid dividends have been declared and
paid on the outstanding Series A Stock.
LIQUIDATION PREFERENCE. The Series B Stock has a liquidation preference of
$1,000 per share plus all cumulative unpaid dividends, whether or not declared
by the Company's Board of Directors. Upon any liquidation or change of control
of the Company (i.e. transfer of more than 50% of its voting stock), the
Preferred Stockholders are entitled to the second priority in payment from the
Company's assets, before any payments are made on the Company's common stock,
until the liquidation preference is paid in full. The Series B Stock is junior
in preference to Series A Stock issued in October 1996 (see the Company's Annual
Report of Form 10-K filed on April 15, 1997). No liquidation preference may be
paid to the holders of the Series B Stock until the full liquidation preference
has been paid to the holders of the outstanding Series A Stock.
CONVERSION. The Preferred Stockholders may convert each share of Series B Stock
into the number of shares of the Company's common stock calculated as follows,
at any time upon the earlier of (i) 120 days after the issuance of the Preferred
Stock, or (ii) when the shares of common stock underlying the Preferred Stock
are registered with the Securities and Exchange Commission. The conversion
price (the "Conversion Price") for each share of Series B Stock is equal to the
lesser of (a) 80% of the average bid price for the Company's common stock on the
public trading market for the five trading days immediately preceding the
conversion date, as specified by the Preferred Stockholder, or (b) the bid price
of the Company's common stock on the funding date (i.e. the issuance date of the
Preferred Stock). To calculate the number of shares of common stock issuable
upon the conversion of the Preferred Stock, the Conversion Price is multiplied
by a ratio, the numerator of which is the sum of 1,000 and the accrued but
unpaid dividends, and the denominator of which is the Conversion Price. If for
any reason a registration statement covering the shares of common stock issuable
upon the conversion of the Preferred Stock is not in effect with the Securities
and Exchange Commission at the time of a valid conversion by a Preferred
Stockholder, then the Conversion Price is reduced by 3% per month for each of
the first three months that the effectiveness of the registration is late, and
thereafter the Company is obligated to pay a cash penalty equal to 3% of the
investment per month. The Company has the right to cause a conversion of the
Preferred Stock into common stock on the same terms at any time after one year
after the Preferred Stock is issued.
REDEMPTION. The Company has the right to redeem the Preferred Stock for its
issuance price plus cumulative unpaid dividends if the Company's stock trades at
a price which averages $2.00 per share or less for any period of five
consecutive trading days after the Preferred Stock is issued.
REGISTRATION RIGHTS. Pursuant to a Registration Rights Agreement entered into
by the Company with each purchaser of the Series B Stock, the Company is
obligated to file a registration statement
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with the Securities and Exchange Commission covering the shares of common
stock underlying the Preferred Stock within 30 days after the Preferred Stock
is issued, and to have the registration statement declared effective within
120 days after it is filed.
ANTIDILUTION PROVISION. The Certificate of Determination for the Series B Stock
contains comprehensive provisions for adjustments to the Conversion Price and
the conversion ratio of the Preferred Stock in the event of stock dividends,
asset distributions, reorganizations, recapitalizations, mergers, stock splits
or similar transactions by the Company, in order to protect the Preferred Stock
from dilution as a result of such transactions.
RESTRICTIVE COVENANTS. During the first 90 days after the Series B Stock is
issued, the Company is not permitted to issue any other securities, except in
limited circumstances, including pursuant to the exercise of outstanding options
or warrants or pursuant to existing settlement agreements, without first
notifying the Preferred Stockholders and giving them a right of first refusal to
purchase the securities themselves. While the Series B Stock is outstanding or
until it is converted into common stock, the Company is not permitted to engage
in certain transactions, such as the redemption or purchase of its own common
stock (except in connection with the collection of Section 16(b) short-swing
profits), without the prior consent of the Preferred Stockholders. Furthermore,
the Company cannot take any action which would modify the rights of the
Preferred Stockholders under the Certificate of Determination without the prior
consent of the Preferred Stockholder being affected by the modification.
AMENDMENT OF EMPLOYMENT AGREEMENT OF MELVYN REZNICK AND EMPLOYMENT AGREEMENT
WITH STEPHEN A. CASWELL:
On June 8, 1997, the Company's Board of Directors approved an extension of
the employment agreement with Melvyn Reznick, the President and Chairman of
the Board of the Company, and a new employment agreement with Stephen A.
Caswell, the Company's Vice President and Corporate Secretary. The existing
employment agreement with Mr. Reznick was extended until the earlier of (i)
June 30, 2002, or (ii) six months after the date that 100% of the Company's
holdings of NTC stock are sold, conveyed or otherwise distributed but no
sooner than December 31, 1999 ("Early Termination Date"). In the event of an
improper termination of the agreement by the Company for any reason, Mr.
Reznick is entitled (i) to be paid a lump sum amount equal to his annual
salary during the remaining term of his agreement plus his annual salary for
three additional years, plus accrued bonus, if any, (ii) to receive all of
his benefits during such period, and (iii) to exercise all of his vested
stock options at any time during the remaining term of the options. In the
event of an early termination because of the disposition of 100% of the
Company's NTC stock, then the Company has agreed to pay Mr. Reznick a lump
sum amount equal to the sum of the annual compensation and accrued but unpaid
bonus (if any, with respect to the bonus) which would be payable to him for
one additional year after the Early Termination Date, but not beyond June 30,
2002, as well as receive his benefits during that period and exercise his
vested stock options during the remaining term of the options.
Mr. Caswell's employment agreement has a term which expires on the earlier of
(i) December 31, 1999, or (ii) six months after the date that 100% of the
Company's holdings of NTC stock are sold, conveyed or otherwise distributed.
In the event of an improper termination of Mr. Caswell's employment agreement
by the Company for any reason, Mr. Caswell is entitled (i) to be paid a lump
sum amount equal to his annual salary during the remaining term of his
agreement plus his annual salary for 15 additional months, (ii) to receive
all of his benefits during that period, and (iii) to exercise all of his
vested stock options at any time during the remaining term of the options.
In the event of an early termination because of the disposition of 100% of
the Company's NTC stock, then the Company has agreed to pay Mr. Caswell a
lump sum amount equal to the sum of the annual compensation and accrued bonus
(if any, with respect to the bonus) which would be payable to him for one
additional year after the Early Termination Date, but not beyond December 31,
1999, as well as receive his benefits during the remaining term of the
options.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
INDEX TO EXHIBITS:
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EXHIBIT NO. DESCRIPTION
- ----------- -----------
10.1 Amendment to Employment Agreement Between Incomnet and
Melvyn Reznick, dated June 8, 1997.
10.2 Employment Agreement Between Incomnet and Stephen A.
Caswell, dated June 8, 1997.
10.3 Employment Agreement Between NTC and Edward R. Jacobs,
dated July 25, 1997.
REPORTS ON FORM 8-K, FILED IN 1997
- ----------------------------------
20.1 Report on Form 8-K - Election of Dr. Howard Silverman As Director &
Amendment to Employment Contract of Melvyn Reznick, filed on
February 7, 1997.
20.2 Report on Form 8-K - Reincorporation of National Telephone &
Communications, Inc. filed on April 10, 1997.
20.3 Report on Form 8-K - Acquisition of California Interactive Computing,
Inc., filed on May 13, 1997.
20.4 Report on Form 8-K - Election of Richard M. Horowitz, Stanley C.
Weinstein and David Wilstein as Directors, filed on August 20, 1997.
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.
INCOMNET, INC.
Date: November 13, 1997 /s/ MELVYN REZNICK
--------------------------
Melvyn Reznick
President, CEO & CFO
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EXHIBIT 23.1
CONSENT OF STONEFIELD JOSEPHSON
INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
The undersigned independent certified public accounting firm hereby consents to
the inclusion of its report on the financial statements of Incomnet, Inc. for
the years ending December 31, 1996, 1995 and 1994, and to the reference to it as
experts in accounting and auditing relating to said financial statements, in the
Registration Statement for Incomnet, Inc., dated December 3, 1997.
/s/ Stonefield Josephson Accountancy Corporation
- ------------------------------------------------------
STONEFIELD JOSEPHSON ACCOUNTANCY CORPORATION
Santa Monica, California
December 3, 1997
