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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-KSB
ANNUAL REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended: November 30, 1999
Commission file number 0-14188
SURGE COMPONENTS, INC.
(Name of small business issuer in its charter)
New York 11-2602030
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1016 Grand Boulevard, Deer Park, New York 11729
(Address of principal executive offices) (Zip Code)
Issuer's telephone number, including area code: (631) 595-1818
Securities registered under Section 12(b) of the Exchange Act:
Common Shares, $.001 par value
Redeemable Class A Common Share Purchase Warrants
Securities registered under Section 12(g) of the Exchange Act:
Common Shares, $.001 par value
Redeemable Class A Common Share Purchase Warrants
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes (check) No __
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B contained herein, and no disclosure will be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-KSB or any
amendment to this Form 10-KSB. [X]
State the issuer's net sales for its most recent fiscal year. $12,147,025
The aggregate market value of the 4,389,959 shares of voting stock held by
non-affiliates of the Registrant, as of February 16, 2000 when the closing sale
price was $6.875 per share, was $30,180,968 (assuming solely for purposes of
this calculation that all directors, officers and greater than 5% stockholders
of the Registrant are "affiliates").
The number of shares outstanding of the issuer's common shares, par value $.001
per share, as of February 16, 1999, was 4,928,958
Documents Incorporated by Reference: None (See Item 14--Exhibits)
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PART I
Introductory Comment - Forward-Looking Statements.
Statements contained in this Annual Report on Form 10-KSB include
"forward-looking statements" within the meaning of Section 27A of the Securities
Act and Section 21E of the Securities & Exchange Act of 1934 (the "Exchange
Act"). Forward-looking statements involve known and unknown risks, uncertainties
and other factors which could cause the actual results of Surge Components, Inc.
and/or its wholly owned subsidiary, Challenge/Surge, Inc. ("we," "us" or the
"Company"), performance (financial or operating) or achievements expressed or
implied by such forward-looking statements not to occur or be realized. Such
forward-looking statements generally are based upon the Company's best estimates
of future results, performance or achievement, based upon current conditions and
the most recent results of operations and the industry as a whole and
management's good faith judgement. Forward-looking statements may be identified
by the use of forward-looking terminology such as "may," "will," "expect," "
believe," "estimate," "anticipate," "intends," "continue" or similar terms,
variations of those terms or the negative of those terms. Potential risks and
uncertainties include, among other things, such factors as:
o the Company's historical losses,
o the overall level of business and consumer spending for electronic
components,
o the market acceptance and amount of sales of the Company's products,
o the extent that the Company's distribution network and marketing programs
achieve satisfactory response rates,
o the efficiency of the Company's development and manufacturing operations,
o the competitive environment within the electronic components industry,
o the Company's ability to raise additional capital if and as needed,
o the cost-effectiveness of the Company's product development activities,
o the extent to which the Company is successful in developing,
manufacturing, distributing and licensing products
which are accepted by the market,
o the success of the Acquisitions contemplated by the Company of Global
Datatel, Inc. and Mail Encrypt.com, Inc., and entrance of the Company into
the Internet business, and
o the other factors and information disclosed in other sections of this
Annual Report on Form 10-KSB.
Shareholders and all other persons reading this Form 10-KSB should
carefully consider such risks, uncertainties and other information, disclosures
and discussions which contain cautionary statements identifying important
factors that could cause actual results to differ materially from those provided
in the forward-looking statements. The Company undertakes no obligation to
publicly update or revise any forward-looking statements, whether as a result of
new information, future events or otherwise.
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ITEM 1. DESCRIPTION OF BUSINESS
General
The Company is a supplier of electronic products and components. These
products include capacitors, which are electrical energy storage devices, and
discrete components, such as semiconductor rectifiers, transistors and diodes,
which are single function low power semiconductor products that are packaged
alone as compared to integrated circuits such as microprocessors. The Company's
products are typically utilized in the electronic circuitry of diverse products,
including, but not limited to, automobiles, cellular telephones, computers,
consumer electronics, garage door openers, household appliances, power supplies
and smoke detectors. The Company's products are sold to both original equipment
manufacturers ("OEMs"), who incorporate them into their products, and to
distributors of Surge's product lines.
Surge's products are manufactured predominantly in Asia by
approximately 15 independent manufacturers. The Company does not have any
binding long-term supply, distribution or franchise agreements with its
distributors. The Company acts as the exclusive sales agent through independent
sales representative organizations in North America for many of its
manufacturers pursuant to oral agreements. Through the Company's wholly-owned
subsidiary, Challenge/Surge, Inc., the Company also engages in the broker
distribution business. In such business, Challenge purchases name brand
electronic components and products, typically from domestic manufacturers and
authorized distributors, to fill specific customer orders. Challenge
historically purchased such components and products in the open market on the
best available terms and generally keeps small inventories. During the latter
part of 1999, Challenge began selling two new product lines which required
maintaining higher inventory levels. Challenge's revenues are generally derived
from the mark-up on the sale of tangible products. Challenge operates as a
separate entity and has certain sales representatives of its own, but generally
shares management and facilities with the Company.
The acquisition of Orbit Network, Inc. ("Orbit"), as disclosed by the
Company in prior filings, was terminated by the Company's Board of Directors in
August of 1999.
On December 8, 1999, the Company entered into an Asset Purchase
Agreement (the "Purchase Agreement") the terms of which provide for the
acquisition of all of the assets and certain liabilities (the "Global
Acquisition") of Global Datatel, Inc., a Nevada corporation ("Global") by a
wholly owned Delaware subsidiary of the Company. The Purchase Agreement replaced
a prior Merger Agreement and Plan of Reorganization with Global, dated October
8, 1999. On February 16, 2000, the Company entered into a Merger Agreement and
Plan of Reorganization (the "ME Merger Agreement") with MailEncrypt.com Inc.
("Mail"), the terms of which provide for the statutory merger of Mail (the "ME
Merger") into a wholly-owned Delaware subsidiary of the Company. Both
transactions provide, that if the transactions are approved by shareholders of
all required parties, then the Company will be reincorporated in Delaware as a
holding company named Superus Holdings, Inc. ("Superus"), wherein the existing
holders of the Company's Common Shares, par value $.001 per share ("Common
Shares") will receive a tracking stock (the "Class A Common Stock") of Superus,
relating solely to the performance and assets of the Company and the Company's
assets will be transferred to a wholly owned subsidiary of Superus. Superus will
issue a second tracking stock (the "Class B Common Stock"), directly to the Mail
and Global stockholders as sole consideration for the Global Acquisition and ME
Merger. Both the Purchase Agreement and the ME Merger Agreement, by their terms,
acknowledge the issuance to certain officers and directors of 5,300,000 options
to purchase Common Shares, which were originally issued in connection with the
terminated Orbit Transaction (the "Orbit Options").
Both the Global Acquisition and the ME Merger are subject to, among
other things, Global and Mail shareholder approval of execution of definitive
ancillary agreements, obtaining a fairness opinion from an independent
investment banker, the completion of appropriate ongoing due diligence and
approval of the respective Boards of Directors. Therefore, there can be no
assurance that the proposed transactions will be completed, or if completed,
will be on substantially the same terms as proposed.
The Company was incorporated under the laws of the State of New York on
November 24, 1981. The Company completed an initial public offering of its
securities in 1984 and a second offering (the "Public Offering") in August 1996
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in which it received net proceeds of approximately $4,807,000. The Company's
principal executive offices are located at 1016 Grand Boulevard, Deer Park, New
York 11729; and its telephone number is (631) 595-1818. Challenge/Surge, Inc. is
a New York corporation, was formed in 1988, and is a wholly owned subsidiary of
the Company ("Challenge").
Industry Background
The United States electronics distribution industry is composed of
manufacturers, national and international distributors, as well as regional and
local distributors. Electronics distributors market numerous products, including
active components (such as transistors, microprocessors, integrated circuits and
semiconductors), passive components (such as capacitors and resistors), and
electro mechanical, interconnect and computer products. The Company focuses its
efforts on the distribution of capacitors and discrete components, a small
subset of the electronics component market.
The electronics industry has been characterized by intense price
cutting and rapid technological changes and development which could materially
adversely affect the Company's future operating results. In addition, the
industry has been affected historically by general economic downturns, which
have had an adverse economic effect upon manufacturers and end-users of the
Company's products, as well as all distributors. Furthermore, the life-cycle of
existing electronic products and the timing of new product development and
introduction can affect the demand for electronic components including the
Company's products. Accordingly, any downturn in the electronics industry in
general, could adversely affect the Company's business and results of
operations. There are forces of change affecting the wholesale distribution
industry, including the electronics industry. Those forces of change, as
described in the 1998 Arthur Andersen report entitled "Facing the Forces of
Change", include electronic commerce, supply chain integration, strategic
alliances and globalization. The Company is finding itself needing to address
these dynamics as it plans its strategy for the next several years. While Global
and Mail each have less revenues than the Company, both of their businesses are
primarily Internet related. The Internet industry is also categorized as rapidly
developing and changing. Moreover, the technology industry as a whole, and
Internet companies in particular, tend to be extremely sensitive to the economy
and fluctuating Interest rates.
Products
The Company supplies a wide variety of electronic components bearing
the Company's private "Surge" label which can be broadly divided into two
categories -- capacitors and discrete components. For both of the fiscal years
ended November 30, 1998 ("Fiscal 1998") and November 30, 1999 ("Fiscal 1999"),
capacitors accounted for approximately 79% of the Company's sales while discrete
components accounted for approximately 21% of the Company's sales. Capacitors
and discrete components can be categorized based on various factors, including
function, construction, fabrication and capacity. The principal products sold by
the Company under the Surge name or brokered by Challenge are set forth below.
Capacitors
A capacitor is an electrical energy storage device used in the
electronics industry for varied applications, principally as elements of
resonant circuits, in coupling and bypass applications, blockage of DC current,
as frequency determining and timing elements, as filters and delay-line
components, and in voltage transient suppression (circuit protection devices).
The Company's product line of capacitors includes:
Aluminum Electrolytic Capacitors. These capacitors, which are the
Company's principal product, are storage devices used in power applications to
store and release energy as the electronic circuitry demands. They are commonly
used in power supplies and can be found in a wide range of consumer electronics
products. The Company's supplier in Taiwan has one of the largest facilities for
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(1)Published by Distribution Research and Education Foundation, Washington, D.C.
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these products in Taiwan. This facility is fully certified for the International
Quality Standard ISO 9002, which means that it meets certain stringent
requirements established in Europe and adopted throughout the world to ensure
that the facility's manufacturing processes, equipment and associated quality
control systems will satisfy specific customer requirements. This system is also
intended and designed to facilitate clear and thorough record keeping of all
quality control and testing information. This system is also intended and
designed to ensure clear communication from one department to another about the
information (i.e., quality control, production or engineering). This permits the
Company to monitor its quality control/manufacturing process information and to
respond to any customer questions.
Ceramic Disc Capacitors. These capacitors are the least expensive and
are widely used in the electronics industry. They are commonly used to bypass or
filter semiconductors in resonant circuits and are found predominantly in a wide
range of low cost consumer products including appliances, games and toys.
Mylar Film Capacitors. These capacitors are frequently used for noise
suppression and filtering. They are commonly used in telecommunication and
computer products. The Company's supplier in Taiwan has a facility fully
certified for the International Quality Standard ISO 9002.
Tantalum Capacitors. These capacitors are miniature in size and are
used predominately in timing circuits and applications which are critical in
response time, such as in smoke detectors and security equipment.
Discrete Components
Discrete components, such as semiconductor rectifiers, transistors and
diodes, are packaged individually to perform a single or limited function, in
contrast to integrated circuits, such as microprocessors and other "chips,"
which contain from a few diodes to as many as several million diodes and other
elements in a single package, and are usually designed to perform complex tasks.
The Company almost exclusively distributes discrete, low power semiconductor
components rather than integrated circuits.
Rectifiers. Low power semiconductor rectifiers are devices that convert
alternating current ("AC" power) into one directional current ("DC" power) by
permitting current in one direction only. They tend to be found in most
electrical apparatuses, especially those drawing power from an AC wall outlet.
The Company sells a wide variety of rectifiers, including Schottky barrier
rectifiers (a high speed rectifier which utilizes a metal to silicon barrier),
super-fast rectifiers, ultra-fast/high efficiency rectifiers, fast recovery
rectifiers (the time within which the current recovers from spikes of voltage or
current), fast recovery glass passivated rectifiers (a chip coated with a glass
material to protect the component from thermal stress in a circuit), silicon
rectifiers (utilize silicon rectifying cells designed to withstand large
currents and high voltages), soft recovery/fast switching rectifiers, high
voltage rectifiers, bridge rectifiers (connect multiple circuits in parallel),
flat pack surface mount rectifiers (chip style used in miniaturization), self
package surface mount rectifiers (chip style without leads and used in
miniaturization) and auto rectifiers. ISO 9002 and QS 9000 automotive
certification is giving Surge an opportunity to market its products in the
automotive segment.
Transistors. Transistors send a signal to the circuit for transmission
of waves. They are commonly used in applications involving the processing or
amplification of electric current and electric signals, including data,
television, sound and power. The Company sells many types of ISO 9002
transistors, including small signal transistors (designed for lower levels of
current), power transistors (designed for large currents to safely dissipate
large amounts of power), lead mounted transistors and surface mounted
transistors.
Diodes. Diodes are two-lead or surface mount components that allow
electric current to flow in only one direction. They are used in a variety of
electronic applications, including signal processing and direction of current.
Diodes sold by the Company include zener diodes (a silicon diode used as a
voltage regulator), high speed switching diodes and rectifiers, the most popular
type of diode.
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Other Products Available
Optoelectronic Devices. These devices are solid state products which
provide light displays, optical links, and fiber-optic signal coupling.
Applications vary from digital displays on consumer video equipment, to fiber
optic transmission of computer signals, to pattern sensing for regulation, such
as is found in automobile cruise controls. Optoelectronic devices sold by the
Company include a wide variety of light emitting diode products and numeric
display products.
Circuit Protection Devices. The Company's circuit protection devices
include transient voltage suppressors and metal oxide varistors, which protect
circuits against switching, lightning surges and other uncontrolled power surges
and/or interruptions in circuits. Transient voltage suppressors, which offer a
higher level of protection for the circuit, are required in telecommunication
products and are typically higher priced products than the metal oxide varistors
which are more economically priced and are used in consumer products.
Audible Signaling Components. These include audible transducers and
Piezo buzzers which produce an audible sound for, and are used in back-up power
supplies for, computers, alarms, smoke detectors, automobiles, telephones and
other products which produce sounds. These products have been used much more
frequently in place of conventional speaker types. The Company has initiated
marketing relationships with certain Asian manufacturers of audible components
to sell these products worldwide.
New Products. The Company is in the process of introducing new discrete
semiconductor components and capacitors which are intended to complement the
Company's existing product lines. These products are ones that are commonly used
in the same circuit designs as certain of Surge's other products and will
further provide a one-stop-shop for the customer. Some of these products are
common items used in all applications and others are niche items with a focus
towards a particular application. The Company is currently marketing surface
mount rectifiers which are used in miniature or compact products such as
cellular telephones and pagers. The Company is also marketing multilayer ceramic
capacitors widely used in computers and telecommunications applications for
filtering. The Company also plans to enter the Internet and E-commerce business
by acquiring Global and Mail. There is no assurance that the acquisition of
these entities' businesses will be completed, or that if successful, that the
Company will be able to compete successfully. Moreover, as the Internet industry
is relatively young, there is no way to predict future performance of these
businesses, or of the industry as a whole.
Inventory
The Company's products have been historically stable in price and have
not been very susceptible to obsolescence as are many other electronic
components. In order to obtain the best available price from its suppliers, the
Company will typically waive the right to obtain refunds if prices are
subsequently lowered prior to the Company's sale of the products, as well as the
right to return inventory to manufacturers. The Company generally tries to pass
these savings on to its customers. The Company intends to implement a bar code
system to improve the efficiency of its inventory control. A bar code system
will enable the Company to automatically record all inventory received, reduce
the open order status with the supplier by such amounts of inventory received
and create customer invoices based on shipments made to them.
In order to adequately service its customers' needs, the Company
believes that it is necessary to maintain large inventories which makes the
Company more susceptible to price and technology changes. The Company has used
the proceeds of its Public Offering to maintain its inventories. At any given
time, the Company attempts to maintain a three to four month inventory on
certain products in high demand for distributors and at least one month for
other products. The Company's inventory currently contains more than 50 million
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component units consisting of more than 3,000 different part numbers. Although
the number of components and products will continue to increase as the Company
continues to increase its inventories, it will still generally maintain a two to
four month inventory. The Company's products range in sales price from less than
one cent for a commercial diode to more than $2.00 for high power capacitors and
semiconductors. In Fiscal 1999 and 1998, the average per component sales price
of the products sold by the Company was approximately $.07. As of November 30,
1999 and November 30, 1998, the Company maintained an inventory of $1,442,067
and $1,159,111, respectively.
Challenge is in the broker distribution business and fills orders from
customers which need electronic components and products that are not readily
available from their suppliers. Currently, there is an shortage of electronics
products in the United States markets. The shortage of electronic products has
resulted in increased business among broker distributors. An increase in
Challenge's broker distribution business is reflected in the increase in net
sales from $2,922,643 in Fiscal 1998 to $4,671,404 in Fiscal 1999. Challenge
currently maintains larger inventories. Challenge is seeking to obtain product
rights to certain brand name product lines and establish direct relationships
with those manufacturers.
Although the Company cannot be certain, it believes that the broker
distribution business will continue to change and that many of such businesses
will have difficulties surviving if they have insufficient resources to compete
with the factory direct distributors. In light of this belief, Challenge is
considering developing a product line or group of lines manufactured in Asia to
be sold under the name of Challenge, in addition to its broker distribution
business.
Manufacturing
Surge obtains substantially all of its products from manufacturers in
Asia while Challenge historically purchased its products domestically although
it has entered into certain foreign purchase agreements. Approximately 57% of
the total goods purchased by Surge in Fiscal 1999 were manufactured in foreign
countries, with the majority purchased in Taiwan 52%, China 26%, South Korea
10%, India 4%, Hong Kong 5% and Japan 3%. The Company purchases its products
from approximately 15 different manufacturers, for many of which the Company
acts as exclusive sales agent in North America. While these manufacturers are
often the leading suppliers for OEMs, especially in the consumer market which is
extremely price sensitive, they are typically not the largest manufacturers for
these products. Management believes, however, that these manufacturers usually
offer lower prices and quicker response times than some of the largest
manufacturers. Most of the facilities which manufacture products for the Company
have obtained or have applied for the International Quality Standard ISO 9002
certification. The Company predominantly purchases its products in United States
currency in order to minimize the risk of currency fluctuations. In most cases,
the Company utilizes two or more alternative sources of supply for each of its
products with one primary and one complementary supplier for each product. The
products are manufactured to the Company's order with the "Surge" logo and
label. The Company is continually building relationships with suppliers and from
time to time adds new suppliers when needed. The Company's relationships with
many of its suppliers date back to the commencement of the Company's import
operations in 1983.
The Company generally does not enter into any binding, long term,
written agreements with any of its suppliers. Based upon the experience of the
Company's Management and the Company's positive working relationship with its
current manufacturers, the Company does not believe that written agreements are,
or shall be in the foreseeable future, necessary to continue to obtain its
products. The Company has established payment terms with its manufacturers
including letters of credit and 60 day open account terms.
For Fiscal 1999 two suppliers each accounted for in excess of 10% of
the Company's net purchases. The two are Lifu Electronics, a Taiwanese company,
and Master Instrument New York Company, Inc., a New York corporation. Purchases
from these suppliers in Fiscal 1999 were approximately $1,761,131, and
$1,288,116, respectively, or 19.9% and 14.5%, respectively. In Fiscal 1998
purchases from the foregoing two suppliers were approximately $1,264,215 and
$1,206,277, respectively, or 20.2% and 19.2%, respectively, of total purchases,
with purchases of a third supplier of $730,316, or 11.6% of total purchases.
However, the Company does not regard any one supplier as essential to its
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operations, since equivalent replacements for most of the products the Company
markets are either readily available from one or more of the Company's other
suppliers or are available from various other sources at competitive prices.
Nevertheless, the loss of, or a significant disruption in, the relationship with
any or all of the Company's two major suppliers would most likely have a
material adverse effect on its business and results of operations until a
suitable replacement could be obtained.
Marketing And Sales
The Company's sales efforts are directed towards OEM customers in
numerous industries where the Company's products have wide application. The
Company currently employs eleven sales and marketing personnel, including two of
its executive officers, who are responsible for certain key customer
relationships. The Company's executive officers also devote a significant amount
of time to developing and maintaining continuing relations with the Company's
key customers.
The Company uses independent sales representatives or organizations,
which often specialize in specific products and areas and, therefore, have
specific knowledge of and contacts in particular markets. Sales by the
independent organization Win-Cor Electronics Sales Corp. represented
approximately 15% of sales of the Company for Fiscal 1999. These organizations
normally employ between one and twelve sales representatives. The individual
sales representatives employed by the sales organizations generally possess the
expertise which enhances the scope of the Company's marketing and sales efforts.
This permits the Company to avoid the significant costs associated with creating
a direct marketing network. The Company has maintained relationships with
certain of its sales organizations since 1988 and continues to engage new sales
organizations as needed. The Company believes that additional sales
organizations and representatives are available, if required.
The Company engages independent sales representative organizations in
various regions throughout the United States for marketing to OEM customers and
distributors. In August 1999, the Company replaced its West Coast Regional Sales
Manager and at the same time the Company restructured its management so as to
subdivide its former Midwest Regional Sales Manager's duties among the West
Coast and East Coast Regional Sales Managers. The Company believes that such
regional sales managers will ensure that the Company's sales activities function
properly. The Company has initiated a formal national distribution program to
attract more distributors to promote Surge products. Surge has appointed a
National District Manager to develop and manage this program. The Company
expects this market segment to contribute significantly to the Company's sales
growth over time.
Many OEMs require their suppliers to have a local presence and the
Company's network of independent sales representatives are responsive to these
needs. In that regard, in order to service the growing importance of the
electronics community, during 1998 the Company opened a quality
support/engineering location and a sales location in California.In March 1999,
the Company opened a marketing office in Taiwan. This office will provide
marketing and customer service for the Asian market. The cost and related
expenses of this office have been minimal since the Company is utilizing the
same office space used by its supplier management group. The Company has been
advised that this facility suffered only minor damage in the September 1999
earthquake. There are no current plans to open additional locations.
Challenge will purchase any electronic products which a customer
requires. It, therefore, directly markets its services to the entire electronics
industry. However, Challenge's success has resulted primarily from its servicing
and purchasing capabilities and its reputation of being able to obtain "hard to
find" parts. Challenge's customers include several companies in
telecommunications, computers and power supply.
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Effective January 1, 2000, Challenge entered into a verbal agreement
which renewed a prior agreement to supply audible transducers for computer
keyboards to Intel Corporation. The agreement replaces a written agreement
entered into with Intel Corporation. The agreement is for one year and is
terminable at will by Intel Corporation. There can be no assurance Challenge
will continue to have a relationship with Intel.
As of November 30, 1999, the Company had distribution arrangements with
18 sales representative organizations. Sales organizations, which are generally
paid a 5% commission on net sales, are generally responsible in their respective
geographic markets for identifying customers and soliciting customer orders.
Pursuant to agreements with independent sales representatives, such
representatives are permitted to represent other electronics manufacturers, but
are generally prohibited from carrying a line of products competitive with the
Company's products. They develop a territory by selling to both distributors and
OEMs. These agreements are terminable on written notice by either party or if
breached by either party.
The Company utilizes the services of the Progressive Marketing Corp.,
Melville, New York, an unaffiliated marketing/public relations organization,
which publicizes the Company's achievements and helps the Company develop
greater name recognition and positioning in the electronics industry. On an
ongoing basis, this organization places announcements in trade journals
concerning new product introductions, the hiring of key personnel and/or of new
sales organizations or representatives by the Company.
Other Company marketing efforts include generation and distribution of
the Company's product catalogs and brochures and attendance at trade shows. The
Company has produced an exhibit for display at electronics trade shows
throughout the year. The Company's products were promoted at electronic
distribution shows in Las Vegas, Nevada in 1998 and 1999 and intends to exhibit
at the May 2000 show to continue its commitment and focus on the distribution
segment of the industry. The Company produces sales literature to advertise the
Company's products and to participate in additional trade shows.
Customers
The Company's products are sold to distributors and OEMs in such
diverse industries as the automotive, computer, communications, cellular
telephones, consumer electronics, garage door openers, smoke detectors, and
household appliances industries. The Company requests its distributors to
provide point of sales reporting which enables the Company to gain knowledge of
the breakdown of industries into which its products are sold. However, based on
its sales to OEMs, the Company believes that no one industry accounted for a
majority of the applications of the products it sold in Fiscal 1999 or Fiscal
1998. For Fiscal 1999, three customers accounted for 39.6% of the company's net
sales (Millennium Components 16.7%, Leviton Manufacturing Co. 11.5%, and
Chamberlain Group Inc. 11.4%). The Company's discrete components are often sold
to the same clients as its capacitors. These OEM customers typically accept
samples for evaluation and, if approved, the Company works towards procuring the
next orders for these items.
Typically, the Company does not maintain contracts with its customers
and generally sells products pursuant to customer purchase orders. The loss of
certain customers could have a material adverse effect on the Company, and in
fact, during Fiscal 1999 Challenge lost a customer that had accounted for over
10% of its sales as a result of the customer curtailing its business operations.
Because of the Company's contracts and good working relationships with its
distributors, the Company offers the OEMs, when purchasing through distributors,
extended payment terms, just-in-time deliveries and one-stop shopping for many
types of electronic products.
Competition
The markets for the Company's products are highly competitive. The
Company competes with numerous well-established foreign and domestic importers,
and numerous local, regional and national distributors. The Company's principal
competitors in the sale of capacitors include Nichicon, Panasonic, Illinois
Capacitor and NIC. Its principal competitors in the sale of discrete components
include General Instrument Corp., Motorola, Inc., Microsemi Corp., Diodes, Inc.
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and Samsung. Many of the Company's competitors are well established, with
substantial expertise, and possess substantially greater financial, marketing,
personnel and other resources than the Company. The Company believes it competes
effectively with such companies by providing equal or higher quality products at
lower prices, and with an additional emphasis on marketing and customer service.
The Company's motto is "never say no," as the Company offers same day
fulfillment without minimum purchase order requirements or other limitations and
generally maintains flexibility to ensure complete customer satisfaction.
Management believes that Challenge is able to compete effectively, in large
part, because of its sourcing and purchasing capabilities and its knowledge of
where "hard to find" parts are available.
Management Information Systems
The Company has made an investment in computer hardware and software.
The Company's management information systems ("MIS") consultants are responsible
for software and hardware upgrades, maintenance of current software and related
databases, and designing custom systems. The Company believes that its MIS
personnel are important to the Company's success and believes in continually
upgrading its hardware and software. As part of its MIS program, the Company
intends to commence individual bar coding on most products and intends to
implement a bar code system to improve the efficiency of its inventory control
system. All sales personnel of the Company are equipped with computer terminals
to assist in providing up-to-date reliable information to customers. The
Company's purchasing department manages the Company's inventory on a real time
computer system offering the sales and accounting departments complete knowledge
regarding inventory availability, income and expense levels, sales and product
line information. Management also analyzes various reports, including product,
profit, and sales trends using the Company's computer system. The Company
intends to continually evaluate and upgrade its IBM compatible computer system.
Customer Service
The Company maintains two full-time customer service employees whose
time are dedicated largely to respond to inquiries such as price quote requests,
delivery status of new or existing purchase orders, changes of existing order
dates, quantities, dates, etc. The Company intends to increase its customer
service capabilities.
Proprietary Information
The Company holds no patents and has no trademarks or copyrights
registered in the United States Patent and Trademark Office or in any state.
While such protection is not currently considered essential to the success of
its business, it may become important to the Company in the future.
The Company relies on proprietary know-how and will employ various
methods to protect its processes, concepts, ideas and documentation associated
with its proprietary products. However, such methods may not afford complete
protection, and there can be no assurance that others will not independently
develop such processes, concepts, ideas and documentation.
Foreign Trade Regulation
Most products supplied by the Company are manufactured in Asia,
including such countries as Taiwan, South Korea, Hong Kong, India, Japan and
China. The purchase of goods manufactured in foreign countries is subject to a
number of risks, including economic disruptions, transportation delays and
interruptions, foreign exchange rate fluctuations, imposition of tariffs and
import and export controls, and changes in governmental policies, any of which
could have a material adverse effect on the Company's business and results of
operations.
From time to time, protectionist pressures have influenced United
States trade policy concerning the imposition of significant duties or other
trade restrictions upon foreign products. The Company cannot predict whether
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additional United States Customs quotas, duties, taxes or other charges or
restrictions will be imposed upon the importation of foreign components in the
future or what effect such actions could have on its business, financial
condition or results of operations.
The ability to remain competitive with respect to the pricing of
imported components could be adversely affected by increases in tariffs or
duties, changes in trade treaties, strikes in air or sea transportation, and
possible future United States legislation with respect to pricing and import
quotas on products from foreign countries. The Company's ability to remain
competitive could also be affected by other governmental actions related to,
among other things, anti-dumping legislation and international currency
fluctuations. While the Company does not believe that any of these factors
adversely impact its business at present, there can be no assurance that these
factors will not materially adversely effect the Company in the future. Any
significant disruption in the delivery of merchandise from the Company's
suppliers, substantially all of whom are foreign, could have a material adverse
impact on the Company's business and results of operations.
Government Regulation
Various laws and regulations relating to safe working conditions,
including the Occupational Safety and Health Act, are applicable to the Company.
The Company believes it is in substantial compliance with all material federal,
state and local laws and regulations regarding safe working conditions. The
Company believes that the cost of compliance with such governmental regulations
is not material.
Backlog
As a result of an increase in sales, as of November 30, 1999, the
Company's backlog was approximately $3,698,735 as compared with approximately
$2,417,086 at November 30, 1998. Substantially all backlog is shipped by the
Company in 90 to 180 days. Year to year comparisons of backlog are not
necessarily indicative of future operating results.
Employees
As of November 30, 1999, the Company employed 24 persons, two of whom
are employed in executive capacities, seven are engaged in sales, one in
engineering, two in purchasing, four are engaged in administrative capacities,
two are in customer service, two are in bookkeeping and four are in warehousing.
Twenty-three (23) employees are employed full-time and one is employed part-time
by the Company. None of the Company's employees are covered by a collective
bargaining agreement. The Company considers its relationship with its employees
to be good.
ITEM 2. DESCRIPTION OF PROPERTY
The Company leases its executive offices and warehouse facility,
located at 1016 Grand Boulevard, Deer Park, New York, 11729, at an annual rental
of $72,176 during 1998 and $79,472 during 1999. The lessor is Great American
Realty of Deer Park Co., an entity owned equally by the Company's President,
Vice President and a Director, Mark Siegel. Rent is scheduled to increase by 3%
per annum during the term of the lease, which expires on December 31, 2008. The
facility consists of approximately 4,500 square feet of office space and
approximately 3,000 square feet of warehouse space. The Company remodeled the
warehouse to provide for a more efficient flow in the warehouse. During 1998,
the Company renovated the office facilities to allow for expansion of the sales
department, clerical, finance and purchasing departments. The Company believes
the new working environment will lead to greater productivity. Any leasehold
improvements will be and will remain the property of the lessor.
ITEM 3: LEGAL PROCEEDINGS
The Company is not currently subject to any legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
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PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED SHAREHOLDER MATTERS
The common shares, par value $.001 per share (the "Common Shares") and
the Redeemable Class A Common Share Purchase Warrants (the "Class A Warrants" ),
are respectively traded in the over-the-counter market and are quoted on the
National Association of Securities Dealers Automated Quotation System, Inc.
SmallCap Market ("Nasdaq") under the symbols "SRGE" and "SRGEW". In addition,
the Common Shares and Class A Warrants are listed on the Boston Stock Exchange
under the symbols "SRG" and "SRGW," respectively. Effective as of February 23,
2000, the symbols for the Common Shares and Class A Warrants have been changed
to "SPRS" and "SPRSW" respectively, on the Nasdaq, to "SRD" and "SRDW",
respectively on the Boston Stock Exchange.
The following table sets forth for the periods indicated (based on
fiscal year), the high and low bid prices of the Company's Common Shares from
December 1, 1997, through February 17, 2000, as reported by the National
Quotation Bureau, Inc. Such quotations represent prices in dollars between
dealers, do not include retail mark-ups, mark-downs or commissions, and do not
necessarily represent actual transactions.
High Low
---- ---
Security Trading Period
Common Shares
FISCAL YEAR ENDED NOVEMBER 30, 1998:
FIRST QUARTER
(December 1, 1997 - February 28, 1998) 2 13/16 1 15/32
SECOND QUARTER
(March 1, 1998 - May 31, 1998) 3 1/8 1 1/8
THIRD QUARTER
(June 1, 1998 - August 31, 1998) 21/2 11/16
FOURTH QUARTER
(September 1, 1998 - November 30, 1998) 1 1/2
FISCAL YEAR ENDED NOVEMBER 30, 1999:
FIRST QUARTER
(December 1, 1998 - February 28, 1999) 31/2 15/32
SECOND QUARTER
(March 1, 1999 - May 31, 1999) 5 27/32 1 3/8
THIRD QUARTER
(June 1, 1999 - August 31, 1999) 3 1/8 2 3/4
FOURTH QUARTER
(September 1, 1999 - November 30, 1999) 2 3/8 1 1/8
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FISCAL YEAR ENDING NOVEMBER 30, 2000:
FIRST QUARTER
(December 1, 1999 - February 17, 2000) 8 3/16 1 3/4
Class A Warrants
FISCAL YEAR ENDED NOVEMBER 30, 1998:
FIRST QUARTER
(December 1, 1997 - February 28, 1998) 13/16 3/8
SECOND QUARTER
(March 1, 1998 - May 31, 1998) 1 1/2 31/32
THIRD QUARTER
(June 1, 1998 - August 31, 1998) 1 1/2 1/4
FOURTH QUARTER
(September 1, 1998 - November 30, 1998) 9/16 3/32
FISCAL YEAR ENDED NOVEMBER 30, 1999:
FIRST QUARTER
(December 1, 1998 - February 28, 1999) 1 1/16
SECOND QUARTER
(March 1, 1999 - May 31, 1999) 13/16 3/16
THIRD QUARTER
(June 1, 1999 - August 31, 1999) 1 3/16 3/16
FOURTH QUARTER
(September 1, 1999 - November 30, 1999) 3/4 1/4
FISCAL YEAR ENDING NOVEMBER 30, 2000:
FIRST QUARTER
(December 1, 1999 - February 17, 2000) 3 3/4 5/8
On February 17, 2000, the closing bid price of a Common Share and a
Class A Warrant on the Nasdaq SmallCap market system were $ 6.75 and $2.50,
respectively.
As of February 16, 2000, the Company had 171 and 32 recordholders of
its Common Shares and Class A Warrants, respectively. At such time these were
the equivalent of approximately 4,928,958 Common Shares and 3,479,600 Class A
Warrants outstanding. As of November 26, 1999 the Company had approximately
2,304 beneficial owners of its Common Shares.
The Company has not paid any cash dividends on its Common Shares during
the last two fiscal years and does not anticipate paying any in the foreseeable
future. The Board of Directors will need to retain any earnings in order to
support the growth of the Company's business.
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Recent Sales of Unregistered Securities.
Non-Voting Redeemable Convertible Series A Preferred Stock
In connection with the acquisition, of all of the assets of Global and
pursuant to the Asset Purchase Agreement by and among the Company, GDIS
Acquisition Corp., and Global (the "Purchase Agreement") the Board of Directors
has designated, issued and deposited into escrow, an aggregate of 239,000 of the
1,000,000 authorized shares of "blank check" preferred stock which may be
designated by the Board of Directors as shares of Non-Voting Redeemable
Convertible Series A Preferred Stock, par value $.001 per share (the "Series A
Preferred Stock"), based on a formula of one share of Series A Preferred Stock
for every 100 issued and outstanding shares of common stock, par value $.001 per
share, of Global (the "Global Shares"). Upon shareholder approval of all
entities, consummation of the transaction and recapitalization of the Company,
each share of Series A Preferred Stock will be converted into 100 shares of
Superus Class B Common Stock which will be issued to the Global shareholders in
exchange for all of Global's assets and certain of its liabilities. The
Company's Common Shares will be re-designated as shares of Class A Common Stock,
and each two shares of Class A Common Stock will be convertible, at the option
of the holder thereof, into one share of Class B Common Stock for a six month
period following shareholder approval.
The Series A Preferred Stock is redeemable by the Company if the Global
Acquisition is not consummated by July 30, 2000, for a redemption price of $.001
per share. The Series A Preferred Stock also receives a liquidation preference
equal to $.001 per share of Series A Preferred Stock issued and outstanding,
plus all accrued dividends, and shall be paid prior to the holders of the Common
Shares in the event of liquidation.
While the Global Acquisition is dependent upon, among other things,
satisfactory completion of due diligence, receipt of a fairness opinion and
shareholder approval, the Company has designated and deposited the Series A
Preferred Stock into escrow as a good faith measure of its intent to close such
transactions.
It is intended that the Class A Common Stock and Class B Common Stock
will be registered for re-sale on a Joint Proxy/Registration Statement on Form
S-4 to be filed with the SEC which will also be used in connection with
obtaining all of the requisite shareholder approvals from the Global and Company
shareholders.
Convertible Promissory Notes
In a recent private offering commenced in December of 1999 (the "Note
Offering"), the Company has issued an aggregate of approximately $6,000,000
principal amount of 12% Convertible Promissory Notes (the "Convertible
Promissory Notes") to 82 investors (the "Note Purchasers") as of February 16,
2000. The Note Offering was a private offering pursuant to Rule 506 of
Regulation D of the Securities Act, and the Company reasonably believes that all
of the Note Purchasers and offerees were Accredited Investors, as defined in
Rule 501 of Regulation D of the Securities Act. The Convertible Promissory Notes
become payable on or before December 31, 2000
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subject to earlier automatic conversion upon shareholder approval and
consummation of the Global Acquisition, into one share of Class B Common Stock
of the Company, for every three dollars ($3.00) of principal and interest
outstanding thereon, or an aggregate of approximately 2,000,150 shares of Class
B Common Stock based on the total amount of principal and interest outstanding
as of February 16, 2000. The Company intends to continue the Note Offering until
a maximum of $7,000,000 principal amount of Convertible Promissory Notes are
sold, except that in no instance may the Convertible Promissory Notes convert
into more than 19.9% of the Company's equity shares without prior shareholder
approval.
The Note Offering was effected in part through Magnum Securities, Inc.
which acted as Placement Agent and received consulting fees therefore, in the
amount of approximately $430,000.
The holders of the Notes have been granted, by the Company, the right
to have all such shares underlying the Convertible Promissory Note, registered
for public resale, to the extent practical, on the next Registration Statement
filed by the Company with the Securities and Exchange Commission.
In the event the Global Acquisition is not consummated for any reason,
the Corporation is obligated, pursuant to the terms of the Convertible
Promissory Note, to call a shareholders meeting and file a proxy statement, for
purposes of permitting the Note Purchasers to convert their Convertible
Promissory Notes into Common Shares, at a conversion price of $2.50 of principal
and interest so converted as per Common Share.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
Except for historical information, the materials contained in this
Management's Discussion and Analysis or Plan of Operation is forward-looking
(within the meaning of Section 27A of the Securities Act and Section 21E of the
Exchange Act) and involve a number of risks and uncertainties. These include the
Company's historical losses, need to manage its growth, general economic
downturns, intense price cutting in the electronics industry, seasonality of
quarterly results, and other risks detailed from time to time in the Company's
filings with the Securities and Exchange Commission. Although forward-looking
statements in this Report reflect the good faith judgment of the Company's
management, such statements can only be based on facts and factors currently
known by the Company. Consequently, forward-looking statements are inherently
subject to risks and uncertainties, actual results and outcomes may differ
materially from the results and outcomes discussed in the forward-looking
statements. Readers are urged to carefully review and consider the various
disclosures made by the Company in this Report, as an attempt to advise
interested parties of the risks and factors that may affect the Company's
business, financial condition and results of operations and prospects. (See also
"Introductory Comment," Part I above).
Fiscal Year Ended November 30, 1999 as Compared to Fiscal Year Ended November
30, 1998.
Net sales for Surge Components, Inc. and Subsidiary (the "Company") for
the fiscal year ended November 30, 1999 ("Fiscal 1999") increased by $3,419,376,
or 39%, to $12,147,025, as compared to net sales of $8,727,649 for the fiscal
year ended November 30, 1998 ("Fiscal 1998"). The net sales for the Company
without Challenge's sales increased by $1,688,634, or 29% when compared to
Fiscal 1998. This growth was attributable primarily to increased sales volumes
as a result of the Company's investment in an increased sales force. In
addition, the Company's existing customers are buying additional product lines.
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<PAGE>
Challenge's net sales increased by $1,748,760 or 60% when compared to Fiscal
1998. This increase was primarily attributable to the economic effect of the
shortage of electronic components in the broker distributor market in which the
Company's subsidiary, Challenge, operates in the fourth quarter 1999. This
shortage has resulted in a higher demand of electronic products in the broker
market. There can be no assurance, however, that these improving conditions will
continue in 2000.
The Company's gross profit for Fiscal 1999 increased by $1,081,174, or
54%, as compared to Fiscal 1998. The increase in the Company's gross profit was
a result of increased sales and higher profit margins. The higher margins were
primarily a result of the Company making its operations more efficient by
reducing inventory acquisition costs. The Company is making an effort to improve
the efficiency of inventory management and has instituted a policy of increasing
direct shipments to its customer's factories overseas. This has resulted in a
substantial reduction of import related fees.
General and administrative expenses for Fiscal 1999 increased by
$312,149, or 18%, as compared to Fiscal 1998. These increases are primarily due
to costs associated with additional filings with the Securities and Exchange
Commission and costs related to the terminated merger with Orbit Network Inc.
Also, the increase is due to the hiring of additional staff such as office,
purchasing and warehouse personnel.
Selling and shipping expenses for Fiscal 1999 increased by $156,482, or
18%, compared to Fiscal 1998. These increases are primarily due to the Company's
commitment towards increasing sales and its related investment in additional
salespeople during Fiscal 1999. The Company is committed to increasing sales
through authorized distributors, global and domestic sales representatives, an
Internet Website, literature, and participation in trade shows.
Interest expense for Fiscal 1999 decreased by $34,936, or 100%, as
compared to Fiscal 1998. This decrease is due to the Company not purchasing
through letters of credit and or borrowing bankers acceptances. The Company
intends to continue utilizing letters of credit and bankers acceptances on an as
needed basis based on its cash needs.
Investment income for Fiscal 1999 decreased by $77,124, or 26%, as
compared to Fiscal 1998. This decrease is primarily due to the Company's use of
previously invested funds in its operations.
As result of the foregoing, the Company had net loss from operations
and net income of $(73,215) and $85,064 for Fiscal 1999, as compared to loss
from operations and net income of $(681,594) and $(274,166) for Fiscal 1998.
Liquidity and Capital Resources
As of at November 30, 1999 Compared to November 30, 1998
Working capital decreased by $148,392 for Fiscal 1999 from $5,825,337
at November 30, 1998 to $5,676,945 at November 30, 1999. This decrease resulted
primarily from the decrease in cash and marketable securities and an increase in
accounts payable and accrued expenses. The Company's Current Ratio (current
assets to current liabilities) decreased to 4.36:1 at November 30, 1999, as
compared to 5.12:1 at November 30, 1998, as a result of funds being used in
operations and increased accounts payable and accrued expenses. The average
number of days to collect receivables decreased from 57 days to 51 days.
Inventory turned more in Fiscal 1999 as a result of the Company's efficiency in
managing inventory and increased sales volumes. Working capital levels are
expected to be adequate to meet the current operating requirements of the
Company.
In April 1998, the Company renewed the letter of credit agreement with
its bank through May 31,1999 allowing the Company to obtain up to $800,000 in
outstanding letters of credit and $300,000 in direct borrowings with a maximum
borrowing limit of $1,000,000. The direct borrowings incur interest at the
bank's prime rate per annum. The agreement also provides for the creation of
banker's acceptances (drafts drawn on and accepted by a bank). Direct borrowings
are limited to advances based on 80% of eligible receivables and 25% of eligible
15
<PAGE>
inventory capped at $100,000. The Company is charged one-half percent (1/2%)
upon opening of the letter of credit, one-half percent (1/2%) on negotiation and
two percent (2%) per annum over the banker's acceptance rate over the borrowed
term. The agreement requires the Company to be in compliance with certain
financial ratios including a debt to equity ratio and a minimum amount of
tangible net worth. In May 1999, the letter of credit agreement with the bank
expired. The Company is negotiating a new agreement with the bank.
The Company intends to expand its facilities over the next several
years in order to achieve and maintain the growth expected primarily through the
increased penetration of the OEM and distribution market, the introduction of
new products and the upgrade of existing product lines. In order to effect this
expansion, the Company allocated a portion of the net proceeds from its July
1996 public offering toward the significant up-front expenditures associated
with the expansion of office and warehouse space at its current facilities in
addition to potentially establishing additional sales/stocking facilities in
other strategic locations. The Company renovated its current facilities during
1998 at a total cost of $237,000. Additionally, the renovation provides
additional space for test labs, which allow the Company to provide customers
with prompt information regarding the specifications of its products and
additional sales staff expected to manage the Company's sales growth. In May
1998, the Company leased an additional 2,500 square feet at its corporate
headquarters to facilitate the above changes and improvements, increase
warehouse space, improve efficiency and provide for the future expansion of
staff needs.
In addition to the costs associated with the expansion of the Company's
facilities, the Company expects to continue to incur significant operating
costs. These costs consist principally of payroll and marketing related charges.
The future profitability of the Company will therefore depend on increased
future sales levels. In March 1999, the Company opened a marketing office in
Taiwan. This office will provide marketing and customer service for the Asian
market. The cost and related expenses of this office have been minimal since the
Company is utilizing the same office space used by its supplier management
group. The Company has been advised that this facility suffered only minor
damage in the September 1999 earthquake.
Effective January 1, 2000, Challenge entered into a verbal agreement to
supply audible transducers for computer keyboards to Intel Corporation. The
agreement is for one year; however, it is terminable at will by Intel
Corporation. There can be no assurance Challenge will continue to have a
relationship with Intel.
In March 1999, the Company entered into an agreement with Future
Electronics Inc. ("Future") for the marketing, promotion and distribution of
Surge's products. The agreement is for a one-year period and automatically
renews for one-year periods unless terminated in writing by either party. Future
is a world wide authorized distributor of passive components. Management
anticipates that this relationship with Future will introduce Surge's products
to many new potential customers.
The Company has updated its equipment, procedures and personnel in the
hopes it will better enable itself to attract new customers as well as increase
the sales volume with its existing customers, and is seeking to expand sales to
its existing customer base by offering a broad range of complementary products.
In 1997, the Company established a Website, giving the engineering community
exposure and access to any and all information about the Company and its
products, which they would consider to include in their design. In January 2000,
the Company updated its Website capability.
<PAGE>
Some computers, software, and other equipment include programming codes
in which calendar year data is abbreviated to only two digits. As a result of
this design decision, some of these systems could fail to operate or fail to
produce correct results if "00" is interpreted to mean something other than the
year 2000. These problems were widely expected to increase in frequency and
severity as the year 2000 approached, and are commonly referred to as the "Year
2000 Problem."
While the Company has not suffered any material effects relating to the
Year 2000 Problem since January of 2000, the Year 2000 Problem could have latent
affects on computers, software, and other equipment used, operated, or
maintained by the Company or its suppliers and customers. Accordingly, the
Company reviews on an ongoing basis its internal computer programs and systems
to ensure that the programs and systems will not fail. The Company has been
advised by MIS Consultants and Friendly Software, that their own software has
been designed and developed with a resolution to the Year 2000 Issue and
therefore, its computer systems are Year 2000 compliant. The Company has spent
approximately $15,600 to become Year 2000 compliant and does not anticipate
incurring any additional costs.
In addition to computers and related systems, the operation of office
and facilities equipment, such as fax machines, photocopiers, telephone
switches, security systems, elevators, and other common devices may be affected
by the Year 2000 Problem. The Company has not, to date, experienced any failure
of such equipment, but no assurance can be made that such problems could not
arise in the future.
The Company estimates the total cost to the Company of completing any
required modifications, upgrades, or replacements of these internal systems will
not have a material adverse effect on the Company's business or results of
operations. This estimate is being monitored even after January 1, 2000, and
will be revised as additional information becomes available.
The Company will commence a program to pursue compliance by those with
whom it electronically interconnects and has initiated communications with third
party suppliers and customers to identify and, to the extent possible, to
resolve any possible issues that may have arisen involving the Year 2000
Problem. The Company's accounting system is not linked to any outside software
system. However, the Company has limited or no control over the actions of these
third party suppliers and customers. Thus, while the Company expects that it
will be able to resolve any significant Year 2000 Problems with these systems,
there can be no assurance that these suppliers and customers will resolve any or
all Year 2000 Problems with these systems before the occurrence of a material
disruption to the business of the Company or any of its customers. Any failure
of these third parties to resolve Year 2000 Problems with their systems in a
timely manner could have a material adverse effect on the Company's business,
financial condition, and results of operation. To date, no such third parties
hve reported any material Year 2000 Problems.
Even though no problems have become visible yet, the Company expects to
identify and resolve all potential Year 2000 Problems that could materially
adversely affect its business operations. However, management believes that it
is not possible to determine with complete certainty that all Year 2000 Problems
affecting the Company have been identified or corrected. The number of devices
that could be affected and the interactions among these devices are simply too
numerous.
<PAGE>
Based on the activities described above, the Company does not believe
that the Year 2000 Problem will have a material adverse effect on the Company's
business or results of operations.
While no material Year 2000 Problems have arisen or become visible to
date, the discussion of the Company's efforts, and management's expectations,
relating to Year 2000 compliance are forward-looking statements, and the Year
2000 compliance involves multiple issues. The Company's ability to achieve Year
2000 compliance and the level of incremental costs associated therewith, could
be adversely impacted by, among other things, the availability and cost of
programming and testing resources, and unanticipated problems identified in the
ongoing compliance review.
Approximately 57% and 38% of the total goods purchased by the Company
in 1999 and 1998 were manufactured in foreign countries and the majority of
Surge's purchases are made from manufacturers in Asia. Substantially all of
Challenge's products are purchased domestically. However, in order for Challenge
to remain competitive, they have begun importing purchases from manufacturers in
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Asia. In Fiscal 1999, this represented 16% of the total goods purchased by
Challenge. In addition approximately 12% and 4% of the 1999 and 1998 sales for
the Company and Challenge, respectively, are exported to various countries. The
Company has minimized the risk of currency fluctuations by purchasing and
selling its products in United States currency.
On December 29, 1998, the Company entered into a letter of intent to
purchase all the issued and outstanding capital stock of Orbit Network, Inc. in
exchange for 25,000,000 shares (76% of the then outstanding shares on a
fully-diluted basis) of the Company's common stock. This transaction was
terminated by the Company in August 1999.
In March 1999, the underwriters exercised a portion of their warrants
received during the Company's July 1996 Public Offering. In exchange for $8,736,
the underwriters received 54,600 Warrants. These Warrants are identical to those
issued pursuant to the Company's Public Offering.
In December 1999, the Company entered into two note agreements with the
bank for aggregate borrowings of $500,000. The notes, which accrue interest at
the prime rate, were due on December 31, 1999. These notes have subsequently
been paid.
During Fiscal 1999, the Company had net cash used in operating
activities of $977,656, as compared to $168,092 provided by operating activities
in Fiscal 1998. The decrease in cash used in operating activities resulted from
a increase in accounts receivable and inventory and increase in accounts payable
and accrued expenses, as partially offset by the Company's net income.
The Company had net cash used in investing activities of $266,315 for
Fiscal 1999, as compared to $1,214,945 for Fiscal 1998. In October 1999, the
Company lent Global $1,000,000 the funds for which came in part from the sale of
the marketable securities. The Company reinvested dividends, pursuant to its
investment program, into marketable securities. Additionally, the Company
incurred costs related to the improvements of their current facilities.
The Company had net cash provided by financing activities of $16,361
for Fiscal 1999, as compared to $461,620 used in financing activities for Fiscal
1998. This increase in the cash provided by financing activities was the result
of proceeds from issuance of warrants and exercised options. As a result of the
foregoing, the Company had a net decrease in cash of $1,227,610 during Fiscal
1999, as compared to a net decrease of $1,508,473 for Fiscal 1998.
The Company expects that its cash flow from operations, current
investment program and the Company's line of credit agreement will be sufficient
to meets its current financial requirements over at least the next twelve
months.
On December 8, 1999, the Company entered into an Asset Purchase
Agreement which provides for the purchase of all of the assets and assumption
of certain liabilities of Global, in exchange for approximately 23,900,000
shares of the Company's Class B Common Stock, which will be issued as a
"tracking stock" of Global's business if the Global Acquisition is approved and
consummated. The Assets of Global will be held by a wholly owned Delaware
subsidiary. Additionally, on February 16, 2000, the Company has entered into a
Merger Agreement and Plan of Reorganization to acquire MailEncrypt.com, Inc.
("Mail") the terms of which provide for the issuance of 1,800,000 shares of
Superus's Class B Common Stock to the four shareholders of Mail, and the merger
of Mail into a wholly owned subsidiary of the Company. The merger of Mail into
the Company is also to be conditioned on the consummation of the Global
Acquisition. The Class B Common Stock will also track the business of Mail. It
is also intended, that an entity to be formed called Superus Holdings, Inc.
("Superus"), will be formed as a Delaware corporation for purposes of
effectuating the ME Merger and Global Acquisition, issuing the Class A Common
Stock, Class B Common Stock and Class A Warrants, and becoming the Holding
Company of the businesses of the Company, Mail and Global. The Company intends
to issue a Joint Proxy/Registration Statement on Form S-4 to all shareholders of
Global and the Company for purposes of approving said transactions.
Additionally, the Company has incurred debt in the amount of
approximately $6,000,449 as a result of a private offering of Convertible
Promissory Notes in December through January of 2000. The Convertible Promissory
Notes accrued interest at a rate of 12% per annum commencing February 1, 2001,
or approximately $720,054 per annum, and is payable on or before December 31,
2000 if the Global Acquisition is not consummated. (See "Recent Sales of
Unregistered Securities" above.)
On October 8, 1999, the Company has made a secured loan to Global, in
the principal amount of $1,000,000, and received a 10% Convertible Secured
Promissory Note in exchange therefore (the "Global Note"). The Global Note was
secured by all of the assets of Global and is junior to certain secured bank
credit facilities of Global. Additionally, the loan was secured by 300,000
Global Shares which were pledged by Mr. Richard Baker, the President of Global.
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The Global Note was convertible into one Global Share for every three dollars
($3.00) of principal and interest outstanding on the loan, if the originally
contemplated merger with Global was not consummated. Effective February 1, 2000,
an additional $3,100,000 of proceeds derived from the Note Offering, pending
satisfaction of certain conditions, may be loaned to Global and the terms of the
Global Note were amended so as to increase the principal amount to a maximum of
$4,100,000 and increase the conversion ratio from $3.00 to $1.00 of principal
and interest outstanding on the Global Note for every share of Global converted
into. Simultaneously therewith, the number of shares pledged by Mr. Richard
Baker was increased from 300,000 Global Shares to 500,000 Global Shares.
If the Global Acquisition is completed, the obligations of Global under
the Global Note will be forgiven and discharged in full. If the Global
Acquisition is not consummated by July 31, 2000, the Global Note will become
convertible, or payable upon demand. The Company believes that Global may have
liquidity problems and may not be able to pay the amount due under the Global
Note if the Global Acquisition is not consummated. Additionally, none of
Global's securities are registered for resale. As such, in the event of a
default of the Global Note, or failure of the Global Acquisition to be
consummated for any reason, the Company has reason to believe that the 500,000
Global Shares pledged by Mr. Baker along with the shares of Global issuable upon
conversion of the Global Note and all of the assets of the Corporation as
secured by the Global Note, may not be sufficient to satisfy Global's
obligations under the Global Note. As such, the failure of the Global
Acquisition to close, could have material adverse consequences to the Company.
Inflation And Increasing Interest Rates
In recent years, the effects of inflation have "tightened," slightly,
as indicated by the average consumer price index, which has increased slightly
over the past two years. The Company has generally been able to offset the
impact of rising costs through purchase price reductions. As a result, inflation
has not had, nor is it expected to have, a significant impact on the Company's
business. However, inflation and increasing interest rates have had a
significant effect on the economy in general and, therefore, could affect the
Company's future operating results. Moreover, recent announcements by the
Federal Reserve, as well as increases in salaries and the GDP generally, has had
many Wall Street analysts predicting that the Federal Reserve will increase
interest rates during 2000. Even minor increases in interest rates can increase
the company's cost of capital and offset revenues. Moreover, the Company has
recently incurred $6,000,000 of debt as a result of the Note Offering, which is
expected to maximize to $7,000,000.
ITEM 7. FINANCIAL STATEMENTS
The financial statements to be provided pursuant to this Item 7 begin
on page F-1 of this Report, following Part III hereof.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
18
<PAGE>
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT
The Directors and executive officers of the Company are as follows:
Name Age Positions
---- --- ---------
David Siegel(1) 74 Chairman of the Board
Ira Levy 43 President and Director
Steven J. Lubman 44 Vice President, Principal
Financial Officer, Secretary
and Director
Mark Siegel(1) 45 Director
- ---------
(1) Member of the Audit Committee and the Compensation Committee
DIRECTORS AND EXECUTIVE OFFICERS
David Siegel has served as Chairman of the Board of Directors of the
Company since 1983. Mr. Siegel also serves on the Boards of Directors of Kent
Electronics Corp. and Micronetics Corp., each of which is a publicly traded
company. David Siegel is the father-in-law of Ira Levy and the father of Mark
Siegel.
Ira Levy has served as President of the Company and a Director since
its inception on November 24, 1981 and was a Vice President and Director of
Challenge/Surge, Inc. From 1976 to 1981, Mr. Levy was employed by Capar
Components Corp. ("Capar"), an importer and supplier of capacitor and resistor
products.
Steven J. Lubman has served as Vice President, Principal Financial
Officer, Secretary and a Director of the Company since its inception on November
24, 1981 and is the President and Director of Challenge/Surge, Inc. From 1975 to
1981, Mr. Lubman was employed by Capar.
Mark Siegel was appointed to the Board of Directors in October 1996.
Since 1985, Mr. Siegel has been the President of Mark Siegel Inc., d/b/a Great
American Electronics Corp., an electronics parts distributor. Mark Siegel is the
son of David Siegel.
All directors hold office until the next annual meeting of shareholders
and the election and qualification of their successors. David Siegel and Mark
Siegel comprise the Company's Audit and Compensation Committees with David
Siegel serving as Chairman of both. Officers are elected annually by the Board
of Directors and serve at the discretion of the Board.
Compliance with Section 16(a) of the Exchange Act
Pursuant to Section 16 of the Exchange Act, the Company's Directors and
executive officers and beneficial owners of more than 10% of the Company's
common stock, par value $.001 ("Common Stock"), are required to file certain
reports, within specified time periods, indicating their holdings of and
transactions in the Common Stock and derivative securities. Based solely on a
review of such reports on Forms 3, 4 or 5, provided to the Company and written
representations from such persons regarding the necessity to file such reports,
the Company is not aware of any failures to file reports or report transactions
in a timely manner during the Company's fiscal year ended November 30, 1999.
Committees and Meetings of the Board of Directors
The Company held two formal meetings of the Board of Directors during
the fiscal year ended November 30, 1998 ("Fiscal 1998") and took action by
written consent in lieu of a meeting of the Board of Directors on seven
occasions. The Company held one formal meeting of the Board of Directors during
19
<PAGE>
the fiscal year ended November 30, 1999 ("Fiscal 1999") and took action by
consent in lieu of a meeting of the Board of Directors on seven occasions.
Additionally, a special committee of the Board of Directors took action by
written consent on one occasion. The Audit and Compensation Committees held one
meeting during each of Fiscal 1998 and the Audit Committee held one meeting
during Fiscal 1999. David Siegel and Mark Siegel serve on the Company's Audit
and Compensation Committees with David Siegel as chairman. The Compensation
Committee reviews and approves the compensation to be paid to certain officers
of the Company.
ITEM 10. EXECUTIVE COMPENSATION
Directors Compensation
Directors currently receive no compensation for serving on the board of
directors other than reimbursement of reasonable expenses incurred in attending
meetings. David Siegel currently receives $750 per month in recognition for his
service to the Board of Directors as a member and President of the Audit and
Compensation Committees. Mark Siegel currently receives $500 per month for
serving on the Audit and Compensation Committees. Each outside director also
receives reimbursement of expenses incurred on behalf of the Company, as well as
options from time to time, at the discretion of the Board of Directors. On July
6, 1998, Mark Siegel and David Siegel were each granted options to purchase
10,000 Common Shares exercisable at $2.0937 per share in recognition of their
service on the board of directors, all of which vested immediately and expire on
July 5, 2003. On September 2, 1999, Mark Siegel and David Siegel were each
granted options to purchase 10,000 Common Shares, and Ira Levy and Steven Lubman
were each granted 50,000 shares, each exercisable at $1.46 per share, which
vested immediately and expire on September 1, 2004. On December 7, 1999, Mark
Siegel and David Siegel were each granted options to purchase 10,000 Common
Shares, and Ira Levy and Steven Lubman were each granted options to purchase
50,000 Common Shares, each exercisable at $2.6875 per share, which vested
immediately and expire on December 6, 2004.
On December 28, 1998, an aggregate of 5,300,000 options were issued to
Ira Levy (2,450,000), Steven J. Lubman (2,250,000), David Siegel (350,000) and
Mark Siegel (250,000) in connection with the Company's proposed acquisition of
Orbit Network, Inc. ("Orbit Options"). The Orbit Options were to become
exercisable on December 28, 2002 at $2.00 per share, and will expire on December
28, 2003. The Orbit Options were to become immediately exercisable if the Orbit
transaction was completed. Pursuant to the terms and provisions of the Global
Acquisition and the ME Merger, these options were to be amended so that the
accelerating events of the exercisability of the Orbit Options will be the
completion of the Global Acquisition. Upon the formation of Superus Holdings
Inc. the four directors will be granted an equal number of Superus options
("Superus Options") exercisable at a higher exercise price of $2.69 per share of
Class B Common Stock, under a Superus Stock Option Plan. Upon completion of the
Global Acquisition, and as settlement to such person's contractual rights, the
holders of the Orbit Options have agreed to relinquish all rights and
entitlement to the Orbit Options in exchange for the immediate exercisability of
the Superus Options. If the Company's Shareholders are asked to approve the
Global Acquisition, they will also be asked to separately ratify the grant of
the Superus options.
No member of the Board of Directors attended, in person or
telephonically, fewer than 75% of the total number of meetings of the Board and
committees thereof upon which he served during Fiscal 1999. (See also "Stock
Option Plan," "Option Grants in Last Fiscal Year," and "Item 11 - Stock
Ownership of Certain Beneficial Owners")
20
<PAGE>
Executive Compensation
SUMMARY COMPENSATION TABLE
The following table sets forth all compensation awarded to, earned by,
or paid for all services rendered to the Company during the fiscal years ended
November 30, 1999, 1998 and 1997 by those persons who served as Chief Executive
Officer and any Named Executive Officer who received compensation in excess of
$100,000 during such years.
<TABLE>
<CAPTION>
Long-Term
Annual Compensation Compensation
Shares
Name and Salary Bonus Other Annual Underlying
Principal Position Year ($) ($) Compensation Options(#)
- ------------------ ---- ------ ------ ------------- ------------
<S> <C> <C> <C> <C> <C>
Ira Levy 1999 $200,000 $ 51,996 0 50,000
President and CEO 1998 $200,000 $ 85,211 (2) 0 0
1997 $197,500 $ 52,325 (2) 0 75,000
Steven J. Lubman 1999 $200,000 $ 56,614 0 50,000
Vice President 1998 $200,000 $ 20,538 (2) 0 0
1997 $199,000 $ 53,565 (2) 0 75,000
-----------------------------------------------------------------------------
</TABLE>
- ---------------
(1) Ira Levy is also the Vice President and Director of Challenge. Mr. Lubman
is the President and Director of Challenge.
(2) The above compensation figures do not include the cost to the Company of
the use of automobiles leased by the Company, the cost to the Company of
benefits, including premiums for life insurance and any other perquisites
provided by the Company to such persons in connection with the Company's
business all of which does not exceed the lesser of $50,000 or 10% of such
person's annual salary and bonus.
Material Legal Proceedings
None.
OPTION GRANTS IN LAST FISCAL YEAR
The table below includes the number of stock options granted to the
named executive officers in the Summary Compensation Table during Fiscal 1999
and exercise information.
<TABLE>
<CAPTION>
Individual Grants
-----------------
Number of Securities Percent of Total Options
Underlying Options Granted to Employees in Exercise Expiration
Name Granted(#) Fiscal Year Price ($/sh) Date
---- --------------------- ------------------------ ------------- ----------
<S> <C> <C> <C> <C>
Ira Levy 2,450,000(1) 45.60 $2.00 12/28/03
50,000 0.91 $1.46 9/1/04
Steven J. Lubman 2,250,000 (1) 41.01 $2.00 12/28/03
50,000 0.91 $1.46 9/1/04
</TABLE>
- ------------
(1) Indicates Orbit Options issued to both Ira Levy and Steven J. Lubman on
December 28, 1998, in connection with the terminated Orbit transaction.
Currently the Orbit Options are all exercisable at $2.00 per share and
become exercisable on December 28, 2002. If the Global Acquisition is
approved and consummated, the current terms of the Purchase Agreement
relating to the Global Acquisition, provides that the Orbit Options
will become immediately exercisable for a like number of Class B Common
Stock, at an exercise price of $2.00 per share, and will remain the
same in all other respects. Upon the formation of Superus, as
contemplated, Messrs. Levy, Lubman, Siegel and Siegel will be granted
an equal number of Superus Options under Superus's stock option plan,
and said Superus Options will become immediately exercisable upon
completion of the Global Acquisition and as settlement of such persons
relinquishing any contractual rights to the Orbit Options, at the same
time, the Orbit Options will be forfeited. ("Director's Compensation"
above and "Item 11-Stock Ownership of Beneficial Owners" below.)
21
<PAGE>
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR
AND FISCAL YEAR END OPTION VALUES
The table below includes information regarding the value realized on
option exercises and the market value of unexercised options held by the named
executive officers, in the Summary Compensation Table during Fiscal 1999. The
numbers below are based on a market price of $2.00 per Common Share at the close
of business on November 30, 1999.
<TABLE>
<CAPTION>
Number of Value of
Shares Unexercised Unexercised
Acquired Options at FY-End(#) In-The-Money
on Value Exercisable/ Options at FY-End($)
Name Exercise (#) Realized ($) Unexercisable Exercisable/Unexercisable
---- ------------ ------------ ------------- -------------------------
<S> <C> <C> <C> <C>
Ira Levy -0- -0- 125,000 / 2,450,000 $69,250/0
Steven Lubman -0- -0- 125,000 / 2,250,000 $69,250/0
</TABLE>
Employment Agreements
The Company entered into Employment Agreements (the "Agreements") dated
as of February 1, 1996 with Ira Levy, President, and Steven J. Lubman, Vice
President. The Agreements provide that Messrs. Levy and Lubman shall devote all
of their business time to the Company, each in consideration of an annual salary
of $200,000 for the five-year period commencing on July 31, 1996. Bonuses to
Messrs. Levy and Lubman are to be based upon the performance of the Company and
determined at the discretion of the Board of Directors. Their salaries may be
increased annually during the term of their employment at the discretion of the
Board of Directors (or a Compensation Committee). Their Agreements provide that
during the term of employment with the Company and for a period of one year
following termination of employment, Messrs. Levy and Lubman are prohibited from
engaging in activities which are competitive with those of the Company. In March
1998, the employment agreements were amended to extend the term to July 30, 2003
and to provide that on July 30th of each successive year of the agreements, the
agreements shall renew for an additional year so that on each July 30th, there
will be five years remaining on the term of the agreements, unless terminated in
writing by either party. The agreements further provide that in the event of a
change of control ("Change of Control"), where Ira Levy or Steven J. Lubman is
not elected to the Board of Directors of the Company and/or is not elected as an
officer of the Company and/or there has been a change in ownership of at least
25% of the issued and outstanding stock of the Company, and such issuance was
not approved by either Ira Levy or Steven J. Lubman, then the non-approving
person(s) may elect to terminate his employment contract and receive 2.99 times
his annual compensation (or such other amount then permitted under the Internal
Revenue Code without an excess penalty), in addition to the remainder of his
compensation under his existing employment contract.
Amendments to Employment Agreements If Acquisition is Approved
The Company, Global and Acquisition Sub, as well as Messrs. Levy and
Lubman individually, have entered into a letter agreement, dated October 8,
1999, relating to the Employment Agreements of such person in the event the
Global Acquisition is consummated (the "Amended Employment Agreements"). Said
Amended Employment Agreements shall provide that if there is a Change of Control
(as defined above), exclusive of the Global Acquisition, the Mail Merger, or a
consolidation or merger of the business of Surge Components (other than where
Surge is the surviving company), or the sale of all or substantially all of the
assets of Surge or the nature of Surge's business materially changes, Messrs.
Levy or Lubman may exercise a right of first refusal to purchase all of the
outstanding common stock of Surge, or if no third party offer exists, then at
the fair market value of the stock. In addition, if Surge purposes to make or
receives a "firm commitment" public offering, Messrs. Levy and Lubman shall each
receive a warrant to purchase up to 9.5% of the Common Stock of Surge for
nominal value.
Stock Option Plan
In January 1996 the Company adopted and in February 1996 the
shareholders ratified, the 1995 Employee Stock Option Plan (the "Option Plan").
The Option Plan provides for the grant of options to qualified employees
(including officers and directors) of the Company, employees of the Company's
subsidiary, independent contractors, consultants and other individuals to
purchase an aggregate of 850,000 of Common Shares, as amended. The exercise
price of all options must be at fair market value of the Common Shares on the
date of grant. All currently outstanding options issued under the Option Plan
22
<PAGE>
will be given the holder thereof the right to convert into one-half as many
shares of Class B Common Stock if the Global Acquisition is consummated. As of
February 16, 2000, 716,000 options had been granted under the Option Plan,
636,300 were outstanding and 134,000 options were available for grant. Of the
636,300 options currently outstanding, an aggregate of 430,000 were held by
officers and directors as follows: Ira Levy (175,000), Steven J. Lubman
(175,000), David Siegel (40,000) and Mark Siegel (40,000).
On December 28, 1998, Ira Levy and Steven J. Lubman, officers and
directors, were granted 2,450,000 and 2,250,000 five year Orbit options,
respectively, and David Siegel and Mark Siegel, directors, were granted 350,000
and 250,000 options, respectively, each with an exercise price of $2.00 per
share. The options are not exercisable until the fourth anniversary date of the
date of grant, however, in the event the Company's merger with Orbit had been
approved by the shareholders, the options would have become immediately
exercisable. Pursuant to the Purchase Agreement, at the Effective Date, the
above options will be exchanged for options which are immediately exercisable on
a one-for-one basis for Class B Common Stock at an exercise price of $2.00 per
share. Upon formation of Superus, Superus will issue an equal number of options
under its stock option plan to the four directors, exercisable at $2.69 per
share and identical to the Orbit Options in all other respects. Upon completion
of the Global Acquisition, the Superus Options will become immediately
exercisable, as settlement of the four directors' relinquishing any contractual
rights relating to the Orbit Options.
ITEM 11. STOCK OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
The following table sets forth, as of February 16, 2000, certain
information concerning those persons known to the Company, based on information
obtained from such persons, with respect to the beneficial ownership (as such
term is defined in Rule 13d-3 under the Securities Exchange Act of 1934,
hereinafter referred to as the "Exchange Act") of Common Shares by (i) each
person known by the Company to be the owner of more than 5% of the outstanding
Common Shares based on filings with the Securities and Exchange Commission (the
"SEC") and listing other information, (ii) each nominee and Director of the
Company, (iii) each executive officer named in the Summary Compensation Table,
and (iv) all Executive Officers and Directors as a group. The Common Shares are
the only outstanding class of voting securities of the Company. Except as
otherwise indicated, all securities are beneficially owned, and investment and
voting power is held by, the persons named as owners.
<TABLE>
<CAPTION>
Name and Address Amount and Nature of Percentage of
of Beneficial Owner(1) Beneficial Ownership(2) Common Stock beneficially owned(3)
- ------------------- ----------------------- ----------------------------------
<S> <C> <C>
Ira Levy 432,000(4) 8.8%
Steven J. Lubman 430,000(5) 8.7%
David Siegel 40,000(6) .81%
Mark Siegel 66,998(6) 1.3%
All directors and executive officers
as a group (4 persons) 968,998(7) 19.66%
</TABLE>
- ----------
(1) The business and mailing address of each person is c/o Surge Components,
Inc., 1016 Grand Boulevard, Deer Park, New York 11729.
(2) Unless otherwise noted, the Company believes that all persons named in the
table have sole voting and investment power with respect to all Common
Stock or warrants and options beneficially owned by them. A person is
deemed to be the beneficial owner of securities that can be acquired by
such person within 60 days from the date hereof upon the exercise of
warrants or options. Each beneficial owner's percentage ownership is
determined by assuming that options or warrants that are held by such
person (but not those held by any other person) and which are exercisable
within 60 days from the date hereof have been exercised.
23
<PAGE>
(3) Based on the equivalent of approximately 4,928,958 Common Shares issued and
outstanding as of February 16, 2000.
(4) Includes 175,000 shares issuable upon exercise of currently exercisable
stock options. Includes shares of Common Stock held by Mr. Levy which are
subject to certain voting and transfer restrictions pursuant to a Stock
Purchase Agreement made by and between Mr. Lubman and Mr. Levy. See
"Certain Relationships and Related Transactions." Does not include options
granted on December 28, 1998 to purchase up to 2,450,000 Common Shares,
granted to Mr. Levy in connection with the terminated Orbit transaction.
These Orbit Options and all other Orbit Options granted to Messrs. Lubman,
Siegel and Siegel are to become exercisable on December 28, 2002, at $2.00
per share and expire on December 28, 2003. In the event that the Global
Acquisition and recapitalization of the Company are approved and completed,
such options will be forfeited and 2,450,000 Superus Options, which will
have been issued under Superus stock option plan to purchase the Class B
Common Stock at $2.69 per share, will become immediately exercisable. The
Superus Options will become immediately exercisable upon completion of the
Global Acquisition, in full settlement of Mr. Levy's contractual rights
relating to the Orbit Options.
(5) Includes 175,000 shares issuable upon exercise of currently exercisable
stock options. Includes Common Shares held by Mr. Lubman which are subject
to certain voting and transfer restrictions pursuant to a Stock Purchase
Agreement made by and between Mr. Levy and Mr. Lubman. See "Certain
Relationships and Related Transactions." Does not include Orbit Options,
granted on December 28, 1998 and expiring on December 28, 2003 to purchase
2,250,000 shares of Common Stock granted to Mr. Lubman. In the event the
Global Acquisition and recapitalization is approved and completed, these
options will be forfeited in exchange for the right to immediately exercise
Superus Options to purchase 2,250,000 shares of Class B Common Stock at
$2.69 per share. The Superus Options will become immediately exercisable
upon completion of the Global Acquisition, in full settlement of
Mr. Lubman's contractual rights relating to his Orbit Options.
(6) Includes 40,000 shares issuable upon exercise of currently exercisable
options. Does not include Orbit Options to purchase 350,000 and 250,000
shares of Common Stock, issued to David Siegel and Mark Siegel,
respectively. In the event the Global Acquisition and recapitalization is
approved and completed, such options will be forfeited in exchange for the
right to immediately exercise Superus Options to purchase 350,000 and
250,000 shares of Class B Common Stock respectively, at $2.69 per share.
The Superus Options will become immediately exercisable upon completion of
the Global Acquisition, in full settlement of such persons' contractual
rights relating to their Orbit Options.
(7) Includes 310,000 shares issuable upon exercise of currently exercisable
options.
Change of Control
As part of the terms of the Mail Merger, and in accordance with the
terms of an Employment Agreement, dated as of February 16, 2000, Mr. Adam
Epstein, a principal shareholder of Mail, has become the Chairman of the Board
of Directors of the Company. The company has entered into several agreements
which could result in change of Control of the Company. In particular, up to
approximately 26,000,000 shares of Class B Common Stock may be issued at the
effective time of the Global Acquisition and Mail Merger, not including exercise
of any options, warrants or conversion of certain Convertible Promissory Notes.
Recently there were only approximately 4,900,000 Common Shares issued and
outstanding. The holders of the Class B Common Stock will be entitled to vote
for one director, and will vote on a one for one basis with each share of Class
A Common Stock on all other matters, including election of the remaining
directors. Thus the voting power of the current Common Share holders (or,
subsequent to the effective time, the Class A Common Share holders) will be
outnumbered by approximately 5.4:1.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The Company has entered into five-year employment agreements which were
amended to automatically renew for an additional year on July 31st, with Ira
Levy, President, and Steven J. Lubman, Vice President, effective July 31, 1996
at a base annual salary of $200,000. These agreements contain non-competition
provisions and the payment of "golden parachutes" in the event of a change in
control of the Company, as defined. See Item 10. "Executive
Compensation-Employment Agreements."
24
<PAGE>
The Company's executive offices and warehouse facility are leased from
Great American Realty of Deer Park Co., a company whose stock is owned 33 1/3 %
each by Ira Levy and Steven J. Lubman, officers of the Company and Mark Siegel,
a Director. The monthly rental was $6,272 and $6,690 during Fiscal 1999 and
Fiscal 1998, respectively, increasing at 3% per annum during the term of the
lease which expires on December 31, 2008.
Ira Levy and Steven J. Lubman entered into a Stock Purchase Agreement
in March 1992 which relates to their respective share ownership in the Company.
Pursuant to the agreement, Messrs. Levy and Lubman each agreed to vote their
shares, for as long as the other party continues to own voting shares of the
Company, in such manner to elect each of them as a director of the Company.
Furthermore, in the event of the death of either Messrs. Levy or Lubman, the
survivor shall buy the decedent's shares of the Company. The purchase shall be
funded through the use of life insurance policies held by Messrs. Levy and
Lubman which name the other party as beneficiary. In addition, the agreement
grants Messrs. Levy and Lubman a right of first refusal to purchase each other's
shares in the event of disability, retirement or sales to third parties at an
agreed upon price.
See "Employment Agreements" are "Amendments to Employee Agreements If
Merger is Approved" above for information concerning Employment Agreements
entered into between the Company and Ira Levy and Steven Lubman and possible
changes thereto pending the Global Acquisition; and "Stock Options" above
concerning options granted to officers and directors of the Company.
The Company believes that the terms of each of the foregoing
transactions were no less favorable to the Company than could have been obtained
from non-affiliated third parties, although no independent appraisals were
obtained. Future transactions with affiliates of the Company, if any, will be on
terms believed by the Management to be no less favorable than are available from
unaffiliated third parties and will be approved by a majority of disinterested
directors.
On January 8, 1997, Mark Siegel and David Siegel , non-officer
directors, were each granted 10,000 shares of Common Stock exercisable at $3.50
per share in recognition of their service on the Board of Directors, all of
which vested immediately. These options were re-granted on June 30, 1997 at an
exercise price of $1.25 per share. On June 30, 1997, Ira Levy and Steven J.
Lubman, officers and directors, were each granted options to purchase 25,000
shares of common stock at an exercise price of $1.25, and on October 28, 1997
each were granted 50,000 options at an exercise price of $1.53.
On July 6, 1998, Mark Siegel and David Siegel, were each granted
options to purchase 10,000 shares of Common Stock, immediately exercisable at
$2.0937 per share in recognition of their services on the Board of Directors.
On December 28, 1998, Ira Levy and Steven J. Lubman, officers and
directors, were granted 2,450,000 and 2,250,000 five year options, respectively,
and David Siegel and Mark Siegel, directors, were granted 350,000 and 250,000
options, respectively, each with an exercise price of $2.00 per share. The
options are not exercisable until the fourth anniversary date of the date of
grant, however, in the event the Company's merger with Orbit had been approved
by the shareholders, the options would have become immediately exercisable.
Pursuant to the Purchase Agreement, and upon completion of the Global
Acquisition and recapitalization, the above options will be forfeited and an
equal number of Superus Options which are exercisable at $2.69 per share, for
Class B Common Stock, will become immediately exercisable by such persons, in
full settlement of such person's contractual rights relating to their respective
Orbit Options.
25
<PAGE>
ITEM 13. EXHIBITS, LIST AND REPORTS ON FORM 8-K
(a) Exhibits
<TABLE>
<CAPTION>
Exhibit No. Description
- ------------ ------------
<S> <C>
2.1 Asset Purchase Agreement, dated as of December 8, 1999, by and among the Company GDIS Acquisition Corp.
as Buyer, and Global Datatel, Inc., as Seller. (1)
3.1(a) Certificate of Incorporation of the Company, as amended. (2)
3.1(b) Certificate of Amendment to Certificate of Incorporation, with respect to designation of 269,000
shares of Non-Voting Redeemable Convertible Series A Preferred Stock.
3.2 By-Laws of the Company. (2)
4.1 Form of Underwriter's Warrants. (2)
4.2 Form of Public Warrant Agreement. (2)
4.3 Specimen Common Share Certificate. (2)
4.4 Specimen Class A Warrant Certificate. (2)
4.5 Form of 12% Convertible Promissory Notes issued in December 1999 private Note Offering.
9.1 Stock Purchase Agreement dated March 1992 by and between Ira H. Levy and Steven J. Lubman. (2)
10.1 The Company's 1995 Employee Stock Option Plan. (2)
10.2 Employment Agreement between the Company and Ira Levy. (2)
10.3 Employment Agreement between the Company and Steven J. Lubman. (2)
10.4 Revolving Credit Line Agreement between European American Bank and the Company. (2)
10.5 Agreement with Great American Realty of Deer Park dated June 1, 1998. (3)
10.7 Form of sales representative agreement. (2)
*10.8 Intel Corporation Purchase Agreement dated January 1, 1998. (2)
10.9 Amendment to Employment Agreement between the Company and Ira Levy. (3)
10.10 Amendment to Employment Agreement between the Company and Steven Lubman. (3)
21.1 Subsidiaries of the Company. (1)
27. Financial Data Schedule.
99.1 Subordinated Convertible Promissory Note in the principal amount of $1,000,000, issued by Global Datatel,
Inc. (4)
99.2 Subordinated Convertible Promissory Note in the Principal amount of $4,100,000, issued by Global Datatel,
Inc. as replacement of the $1,000,000 Promissory Note.
99.3 Pledge Agreement, dated October 8, 1999, by and among Richard Baker, Global Datatel, Inc.,
and Surge Components, Inc. (4)
99.4 Security Agreement, dated December 1, 1999, by and among Surge Components, Inc.,
GDIS Acquisition Corp., as Buyer and Global Datatel, Inc. (1)
</TABLE>
- -------------------
* Confidential Treatment for a portion of the contract has been granted by
the Securities and Exchange Commission.
(1) Incorporated by reference from the Company's Current Report on Form 8-K,
Date of Report - December 8, 1999.
(2) Incorporated by reference from the Company's Registration Statement on Form
SB-2 (No. 333-630 NY) declared effective by the Securities and Exchange
Commission on July 31, 1996.
(3) Incorporated by reference from the Company's Annual Report on Form 10-KSB,
for the Fiscal Year ended November 31, 1998.
(4) Incorporated by reference from the Company's Current Report on Form 8-K,
Date of Report - October 8, 1999.
26
<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, hereunto duly authorized.
SURGE COMPONENTS, INC.
By: /s/ Steven J. Lubman By: /s/ Ira Levy
--------------------- -------------
Steven J. Lubman, Ira Levy, Principal
Financial and Accounting
Officer President
In accordance with the requirements of the Securities Exchange Act of
1934, this report has been signed by the following persons in the capacities and
on the dates stated:
Signature Title Date
- --------- ----- ----
/s/ David Siegel Director February 18, 2000
- ---------------------
David Siegel
/s/ Ira Levy President, CEO (Principal February 18, 2000
- ---------------------- Executive Oficer and Director)
Ira Levy
/s/ Steven J. Lubman Secretary and Director February 18, 2000
- --------------------- (Principal Financial Officer)
Steven J. Lubman
/s/ Mark Siegel Director February 18, 2000
- ---------------------
Mark Siegel
27
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
Index to Financial Statements
for the Year Ended November 30, 1999
Independent Auditors' Report F - 2
Consolidated Balance Sheet F - 3 - 4
Consolidated Statements of Income and
Comprehensive Income F - 5
Consolidated Statements of Stockholders' Equity F - 6
Consolidated Statements of Cash Flows F - 7 - 8
Notes to Consolidated Financial Statements F - 9 - 20
F-1
<PAGE>
INDEPENDENT AUDITORS' REPORT
To The Board of Directors
Surge Components, Inc. and Subsidiary
We have audited the accompanying consolidated balance sheet of Surge Components,
Inc. and Subsidiary as of November 30, 1999 and the related consolidated
statements of income and comprehensive income, changes in stockholders' equity
and cash flows for each of the two years ended November 30, 1999. These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Surge Components, Inc. and
Subsidiary as of November 30, 1999 and the results of their operations and their
cash flows for the two years ended November 30, 1999 in conformity with
generally accepted accounting principles.
Seligson & Giannattasio, LLP
N. White Plains, New York
February 4, 2000
F-2
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEET
November 30, 1999
ASSETS
Current assets:
Cash (Note 2) $ 159,612
Note Receivable - Global Datatel, Inc. (Note 3) 1,000,000
Marketable securities (Note 2) 2,232,294
Accounts receivable (net of allowance for
doubtful accounts of $22,634) 2,251,640
Inventory 1,442,067
Prepaid expenses and taxes 201,153
Cash surrender value 82,187
-----------
Total current assets $7,368,953
Fixed assets - net of accumulated depreciation
of $183,290 (Note 4) 321,406
Other assets:
Deferred acquisition costs (Note 2) 63,687
Security deposits 2,985
Deferred tax asset (Note 9) 89,223
-----------
Total other assets 155,895
----------
Total assets $7,846,254
==========
See accompanying notes to consolidated financial statements.
F-3
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEET
November 30, 1999
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $1,283,067
Accrued expenses and taxes 408,941
----------
Total current liabilities $1,692,008
Commitments and contingencies
(Notes 2, 5, 6, 7, 8, 10, 11, 12, 13 and 15)
Stockholders' equity (Note 7):
Preferred stock - $.001 par value stock,
1,000,000 shares authorized, none issued
and outstanding --
Common stock - $.001 par value stock,
25,000,000 shares authorized, 4,858,958
shares issued and outstanding 4,859
Additional paid-in capital 6,386,063
Unrealized holding loss (Note 2) (52,856)
Retained deficit (183,820)
----------
Total stockholders' equity 6,154,246
----------
Total liabilities and stockholders' equity $7,846,254
==========
See accompanying notes to consolidated financial statements.
F-4
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
Year Ended November 30,
1999 1998
---------------------------
Sales $12,254,241 $8,925,948
Less returns and allowances 107,216 198,299
----------- ------------
Net sales 12,147,025 8,727,649
Cost of goods sold 9,068,308 6,514,813
Inventory reserve (Note 8) -- 215,293
----------- ------------
Gross profit 3,078,717 1,997,543
----------- ------------
Operating expenses:
General and administrative
expenses 2,071,834 1,759,685
Selling and shipping expenses 1,030,844 874,362
Depreciation 49,254 45,090
----------- ------------
Total operating expenses 3,151,932 2,679,137
----------- ------------
Loss from operations (73,215) (681,594)
----------- ------------
Other income (expenses):
Investment income 216,774 293,898
Interest expense -- (34,936)
Loss on disposal of assets (37,757) (7,936)
----------- ------------
Total other income (expenses) 179,017 251,026
----------- ------------
Income (loss) before income taxes 105,802 (430,568)
Income taxes (benefit) (Note 9) 20,738 (156,402)
----------- ------------
Net income (loss) 85,064 (274,166)
Other comprehensive (loss) income:
Unrealized holding (loss) gain on securities
arising during the period (188,319) 59,483
Reclassification adjustment - loss
on sale of securities, net of taxes of $14,714 23,044 -
----------- ------------
Total comprehensive loss $ (80,211) $ (214,683)
==========- ===========
Weighted average shares outstanding
Basic 4,858,024 4,836,835
Diluted 5,876,468 4,836,835
Earnings (loss) per share
Basic $ .02 $ (.06)
Diluted $ .01 $ (.06)
See accompanying notes to consolidated financial statements.
F-5
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED NOVEMBER 30, 1999 AND 1998
<TABLE>
<CAPTION>
Additional Unrealized
Preferred Stock Common Stock Paid-In Holding
Shares Amount Shares Amount Capital Gain
------ ------ ------ ------ ------- ----
<S> <C> <C> <C> <C> <C> <C>
Balance - December 1, 1997 -- $ -- 4,823,958 $4,824 $6,335,862 $ 75,980
Proceeds of issuance of stock -- -- 18,000 18 13,614 --
Proceeds of exercised options -- -- 11,000 11 20,232 --
Net unrealized gain in
marketable securities -- -- -- -- -- 59,483
Net loss for the period -- -- -- -- -- --
----- ----- --------- ------ ---------- ----------
Balance - November 30, 1998 -- -- 4,852,958 4,853 6,369,708 135,463
Proceeds of issuance of A warrants -- -- -- -- 8,736 --
Proceeds of exercised options -- -- 6,000 6 7,619 --
Net unrealized loss in marketable
securities -- -- -- -- -- (188,319)
Net income for the period -- -- -- -- -- --
----- ----- --------- ------ ---------- ----------
Balance - November 30, 1999 -- $ -- 4,858,958 $4,859 $6,386,063 $ (52,856)
===== ===== ========= ====== ========== ==========
<CAPTION>
Retained Total
Earnings Stockholders'
(Deficit) Equity
--------- ------
<S> <C> <C>
Balance - December 1, 1997 $ 5,282 $6,421,948
Proceeds of issuance of stock -- 13,632
Proceeds of exercised options -- 20,243
Net unrealized gain in
marketable securities -- 59,483
Net loss for the period (274,166) (274,166)
---------- ----------
Balance - November 30, 1998 (268,884) 6,241,140
Proceeds of issuance of A warrants -- 8,736
Proceeds of exercised options -- 7,625
Net unrealized loss in marketable
securities -- (188,319)
Net income for the period 85,064 85,064
---------- ----------
Balance - November 30, 1999 $(183,820) $6,154,246
========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
F-6
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended November 30,
1999 1998
---- ----
OPERATING ACTIVITIES:
Net income (loss) $ 85,064 $ (274,166)
Adjustments to reconcile net
income (loss) to net cash provided
by operating activities:
Depreciation 49,254 45,090
Deferred income taxes (1,192) (89,427)
Provision for losses on accounts receivable 6,910 --
Loss on disposal of assets 37,757 7,936
CHANGES IN OPERATING ASSETS AND LIABILITIES:
Accounts receivable (1,068,584) 354,570
Inventory (282,956) 69,830
Prepaid expenses and taxes (55,627) (78,369)
Cash surrender value (27,030) (25,368)
Accounts payable 177,767 145,227
Accrued expenses and taxes 100,981 12,769
---------- ----------
NET CASH PROVIDED BY (USED
IN) OPERATING ACTIVITIES (977,656) 168,092
---------- ----------
INVESTING ACTIVITIES
Purchase of marketable securities (196,298) (961,075)
Acquisition of fixed assets (45,873) (253,870)
Loan to Global Datatel, Inc. (1,000,000) --
Sale of marketable securities 975,856 --
---------- ----------
NET CASH USED IN INVESTING ACTIVITIES (266,315) (1,214,945)
---------- ----------
See accompanying notes to consolidated financial statements
F-7
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended November 30,
1999 1998
---- ----
FINANCING ACTIVITIES
Net borrowings under
letter-of-credit agreement $ -- $ (495,495)
Proceeds from issuance of warrants 8,736 13,632
Proceeds from exercised options 7,625 20,243
---------- ----------
NET CASH PROVIDED BY (USED IN)
FINANCING ACTIVITIES 16,361 (461,620)
---------- -----------
NET CHANGE IN CASH (1,227,610) (1,508,473)
CASH AT BEGINNING OF PERIOD 1,387,222 2,895,695
---------- -----------
CASH AT END OF PERIOD $ 159,612 $ 1,387,222
=========== ===========
SUPPLEMENTAL CASH FLOW INFORMATION:
Income taxes paid $ 11,618 $ 2,062
=========== ===========
Interest paid $ -- $ 34,936
=========== ===========
See accompanying notes to consolidated financial statements.
F-8
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOVEMBER 30, 1999
NOTE 1 - ORGANIZATION AND DESCRIPTION OF COMPANY'S BUSINESS
Surge Components, Inc. was incorporated in the State of New York and commenced
operations on November 24, 1981 as an importer of electronic products, primarily
capacitors and rectifiers, to customers located principally throughout the
United States. On June 1, 1988 the Company formed Challenge/Surge Inc., a
wholly-owned subsidiary to engage in the distribution of electronic component
products from established brand manufacturers to customers located principally
throughout the United States.
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and
its wholly-owned subsidiary. All material intercompany balances and transactions
have been eliminated in consolidation.
Marketable Securities
The Company accounts for marketable securities pursuant to Financial Accounting
Standards Board (FASB) Statement of Financial Accounting Standards (SFAS) Number
115 "Accounting for Certain Investments in Debt, and Equity Securities". Under
this standard, certain investments in debt and equity securities will be
reported at fair value. The Company's marketable securities, which consist
primarily of mutual funds, are being reported as securities held for sale. The
market value of these securities at November 30, 1999 is as follows:
Aggregate cost $2,285,150
Gross unrealized loss (52,856)
----------
$2,232,294
==========
Cost of the securities used in the computation of realized gains and losses is
determined using the average cost method. During 1999, the Company and
Subsidiary sold $975,856 of the above shares and had a realized loss of $37,757.
During 1998, there were no sales of these securities.
Inventories
Inventories, which consist solely of goods held for resale, are stated at the
lower of cost (first-in, first-out method) or market. The Company measures
inventory and cost of goods sold for interim financial statements by use of a
historically developed gross profit percentage. Annually, the Company adjusts
the inventory to reflect the results of a physical count. No material
adjustments were made to adjust to the physical count for the years ended
November 30, 1999 and 1998.
Depreciation and Amortization
Fixed assets are recorded at cost. Depreciation is generally provided on an
accelerated method (double-declining balance) for personal property and on the
straight-line method for real property over the estimated useful lives of the
various assets as follows:
F-9
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOVEMBER 30, 1999
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Furniture, fixtures and equipment 5 - 7 years
Transportation equipment 3 - 5 years
Leasehold Improvements 10 - 39 years
Maintenance and repairs are expensed as incurred while renewals and betterments
are capitalized.
Allowance for Doubtful Accounts
The Company, due to its customer base has experienced an insignificant amount of
bad debts. As a result, the Company has not provided for a material change in
the allowance for doubtful accounts.
Concentration of Credit Risk
Financial instruments that potentially subject the Company to concentrations of
credit risk consist principally of cash, notes and accounts receivable. The
Company maintains substantially all its cash balances in two financial
institutions. The balances are insured by the Federal Deposit Insurance
Corporation up to $100,000. At November 30, 1999 and 1998, the Company's
uninsured cash balances totaled $54,763 and $145,998, respectively. The Company
performs periodic reviews of the relative credit rating of its bank to lower its
risk. The Company believes that concentration with regards to accounts
receivable is limited due to its large customer base.
Deferred Acquisition Costs
Deferred acquisition costs consist of expenses incurred related to the purchase
of Global Datatel, Inc. which will be included in the purchase price and
amortized over a 20 year period.
Accrued Vacation Pay
Employees are required to take vacation in the year of entitlement. Accrued
unpaid vacation entitlement has not been significant.
Income Taxes
The Company's deferred income taxes arise primarily from the differences in the
recording of inventory reserves and depreciation expense for financial reporting
and income tax purposes. Income taxes are reported based upon the Company's
adoption of the Statement of Financial Accounting Standards (SFAS) number 109
"Accounting for Income Taxes".
Cash Equivalents
The Company considers all highly liquid investments with an original maturity of
three months or less to be cash equivalents.
F-10
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOVEMBER 30, 1999
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
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 disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Fair Value
The Company has a number of financial instruments, none of which are held for
trading purposes. The carrying value of cash, receivables and accounts payable
approximates fair value due to the short maturity of these instruments. The
carrying value of short-term debt approximate fair value based on discounting
the projected cash flows using market rates available for similar maturities.
Considerable judgment is necessarily required in interpreting market data to
develop the estimates of fair value, and accordingly, the estimates are not
necessarily indicative of the amounts that the Company could realize in a
current market exchange.
Earnings (Loss) Per Share
Earnings per share for the years ended November 30, 1999 and 1998 were computed
by dividing net income by the weighted average number of common and common
equivalent shares outstanding and is adjusted for the assumed conversion of
shares issuable upon the exercise of options and warrants. The Company had a net
loss for the year ended November 30, 1998 and, accordingly, common stock
equivalents are excluded as the effect would be anti-dilutive.
Year 2000 Computer Readiness
The Year 2000 ("Y2K") issue is the result of computer programs using a two-digit
format, as opposed to four digits, to indicate the year. Such computer systems
may be unable to interpret dates beyond the year 1999, which could cause a
system failure or other computer errors, leading to disruptions in operations.
In 1998, the Company developed and implemented a program for Y2K information
systems compliance at a cost of approximately $15,600. Accordingly, the Company
believes that its financial and information systems are now Y2K compliant. As to
third-party relationships, the Company believes that most of these parties
intended to be Y2K compliant by January 1, 2000. The Company has experienced
virtually no Y2K problems in January 2000 and does not expect to incur any
further costs.
Reclassifications
Certain prior year information has been reclassified to conform to the current
year's reporting presentation.
NOTE 3 - NOTE RECEIVABLE - GLOBAL DATATEL, INC.
In October 1999, the Company entered into a $1,000,000 Subordinated Convertible
Promissory Note agreement (the "Note") with Global Datatel, Inc. ("Global"). The
Note accrued interest at the rate of 10% per annum and was due on June 1, 2000
and was secured by certain Global stock owned by Global's president. Upon
completion of the acquisition of Global by the Company, the Note and accrued
interest would be forgiven. In January 2000, the Note was replaced, with a new
Note and available borrowing, pending satisfaction of certain conditions, in the
principal amount of up to $4,100,000. (Note 15)
F-11
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOVEMBER 30, 1999
NOTE 4 - FIXED ASSETS
Fixed assets consist of the following at November 30, 1999:
Furniture and fixtures $ 85,093
Leasehold improvements 250,719
Computer equipment 168,884
--------
504,696
Less - accumulated depreciation 183,290
--------
Total fixed assets $321,406
========
Depreciation expense for the years ended November 30, 1999 and 1998 was $49,254
and $45,090, respectively.
NOTE 5 - LETTERS OF CREDIT TO BANK
In May 1996, the Company entered into a letter of credit agreement with a bank
allowing the Company to obtain up to $800,000 in outstanding letters of credit
and $200,000 in direct borrowings. Among other provisions, the fees on the
letters of credit are one half percent (1/2%) upon opening the letter of credit,
one half percent (1/2%) on negotiation and two percent (2%) per annum over the
banker's acceptance rate over the borrowed term. The Company's assets
collateralize these borrowings. The agreement also contains provisions for the
creation of banker's acceptances and covenants requiring the Company to maintain
specified levels of tangible net worth. The direct borrowings incur interest at
a rate of prime plus one percent per annum.
In May 1999, the letter of credit agreement with the bank expired. The Company
is negotiating a new agreement with the bank.
NOTE 6 - RETIREMENT PLAN
In June 1997, the Company adopted a qualified 401(k) plan for all full-time
employees who are twenty-one years of age and have completed twelve months of
service. The Plan allows total employee contributions of up to fifteen percent
(15%) of the eligible employee's salary through a salary reduction mechanism.
The Company will make a matching contribution of twenty percent (20%) of each
employee's contribution for each dollar of employee deferral up to five percent
(5%) of the employee's salary. Net assets in the plan as of November 30, 1999
totaled approximately $130,000. Pension expense for the years ended November 30,
1999 and 1998 was $2,068 and $2,254, respectively.
F-12
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOVEMBER 30, 1999
NOTE 7 - STOCKHOLDERS' EQUITY
Preferred Stock
In February 1996, the Company amended its Certificate of Incorporation to
authorize the issuance of 1,000,000 shares of preferred stock in one or more
series, with each series to have such designations, rights and preferences as
may be determined from time to time by the Board of Directors.
In January 2000, the Company designated 260,000 shares of the 1,000,000
authorized shares of preferred stock as Non-Voting Redeemable Convertible Series
A Preferred Stock. These shares are entitled to share in dividends on a pro-rata
basis with the common shares if and when declared and each share is convertible
into 100 shares of Class B Common Stock, upon completion of the proposed
recapitalization of the Company. None of the preferred stock was issued as of
November 30, 1999.
Public Offering
On August 8, 1996, the Company completed a public offering (the "Public
Offering") under the Securities Act of 1933 as amended. The offering consisted
of 1,725,000 units, at a selling price of $3.20 per unit. Each unit consisted of
one Common Share (the "Common Shares") and one redeemable Class A Common Share
Purchase Warrant (the "Warrants"). Each Warrant entitles the holder to purchase
one Common Share for a period of five years commencing two years after the July
31, 1996 effective date of the Public Offering at a price of $5.00, subject to
redemption. At November 30, 1999, none of the warrants have been exercised.
1995 Employee Stock Option Plan
In January 1996, the Company adopted, and shareholders ratified in February
1996, the 1995 Employee Stock Option Plan ("Option Plan"). The plan provides for
the grant of options to qualified employees of the Company and its subsidiary,
independent contractors, consultants and other individuals to purchase an
aggregate of 350,000 common shares. In March 1998, the plan was amended to
increase the number of aggregate common shares available under the plan to
850,000.
Stock option incentive plan activity is summarized as follows:
Weighted Avg.
Exercise Price
Shares Per Share
Options outstanding December 1, 1997 304,000 $1.42
Granted 20,000 $2.09
Exercised (11,000) $1.25
-------
Options outstanding November 30, 1998 313,000 $1.52
Granted 187,000 $1.65
Exercised (6,000) $1.25
Canceled (4,000) $2.00
-------
Options outstanding November 30, 1999 490,000 $1.59
=======
Options exercisable November 30, 1998 250,500 $1.45
=======
Options exercisable November 30, 1999 437,750 $1.54
======= =====
Exercise prices for options outstanding as of November 30, 1999 ranged from
$1.25 to $3.20. The weighted-average remaining contractual life of these options
is approximately five years.
F-13
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOVEMBER 30, 1999
NOTE 7 - STOCKHOLDERS' EQUITY (Continued)
Additional Stock Options Granted
In December 1998, the Company granted options to purchase 5,300,000 shares of
the Company's common stock to certain of its officers and directors. The options
are exercisable four years from the grant date at an exercise price of $2 per
share. The options expire five years from the date of the grant.
In October 1995, the FASB issued SFAS No. 123, "Accounting for Stock-Based
Compensation". The Company currently accounts for its stock-based compensation
plans using the accounting prescribed by Accounting Principles Board Opinion No.
25 "Accounting for Stock Issued to Employees". Since the Company is not required
to adopt the fair value based recognition provisions prescribed under SFAS No.
123, it has elected only to comply with the disclosure requirements set forth in
the statement which includes disclosing pro forma net income and earnings per
share as if the fair value based method of accounting had been applied. The pro
forma net income and earnings per share for the year ended November 30, 1999 and
1998 would have been $(1,582,768) and $(245,296) and $(.33) and $(.05) had the
new method been applied.
Compensation to non-employees is accounted for based on the fair value of the
consideration received or the fair market value of the equity instruments
issued, whichever is more reliably measurable.
The fair value of each option grant was estimated on the date of the grant using
the Black-Scholes option-pricing model with the following weighted average
assumptions: expected volatility of 63.13%, 86.78% and 85.81% for awards granted
in 1999 and 136% for awards granted in 1998; risk free interest rate of 6.75%;
and expected lives of 4 to 5 years. The effects of applying SFAS 123 in the
above pro forma disclosures are not indicative of future amounts as they do not
include the effects of awards granted prior to 1997. Additionally, future
amounts are likely to be affected by the number of grants awarded since
additional awards are generally expected to be made at varying amounts.
Proposed Stock Repurchase
In June 1997, the Company offered to repurchase up to $500,000 worth of the
Company's issued and outstanding common shares and warrants on the open market
subject to the rules and regulations of the Securities and Exchange Commission.
As of the date of this report, no such purchases have been made.
Shareholder Protection Rights Plan
The Company has adopted a Shareholder Protection Rights Plan (the "Rights Plan")
whereby each shareholder of record on June 30, 1997 receives two rights to
purchase common shares at $.01 a share for a five year period. The Rights Plan
provides that if a person acquires more than twenty percent (20%) of the issued
and outstanding common shares of the Company, all shareholders of record, except
someone who becomes a 20% shareholder, shall be entitled to exercise the rights.
Upon the completion of the proposed acquisitions in Note 15, the Rights Plan
will be terminated.
F-14
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOVEMBER 30, 1999
NOTE 7 - STOCKHOLDERS' EQUITY (Continued)
Additional Shares Issued
On August 10, 1998, the Company issued 18,000 shares of the Company's $.001 par
value common stock to an officer of the Company. Compensation was reported based
upon the fair market value of the Company's common stock on the date of
issuance.
Exercise of Underwriter Warrants
In March 1999, the underwriters exercised a portion of their warrants received
during the Company's July 1996 Public Offering. In exchange for $8,736, the
underwriters received 54,600 Warrants. These Warrants are identical to those
issued pursuant to the Company's Public Offering.
NOTE 8 - RESERVE FOR SLOW MOVING INVENTORY
During the fourth quarter of 1998, the Company and its subsidiary wrote down a
portion of their inventories to its net realizable value. The reserves were
reflected as a charge to income in the year ended November 30, 1998 totaling
$215,293. The inventories reserved were items purchased for specific customers
with whom the Company no longer transacts business or new versions of the same
product are available at comparable pricing. These items are not readily
saleable to other customers. During the year ended November 30, 1999, the
Company sold $23,563 of these inventories.
NOTE 9 - INCOME TAXES
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amount of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes using the enacted tax
rates in effect in the years in which the differences are expected to reverse.
Deferred income tax assets and liabilities are comprised as follows at November
30, 1999:
Deferred tax asset:
Inventory reserves $89,274
Deferred tax liability:
Fixed assets 51
-------
Net deferred tax asset $89,223
=======
F-15
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOVEMBER 30, 1999
NOTE 9 - INCOME TAXES (Continued)
The Company's income tax expense consists of the following:
Year Ended
November 30,
1999 1998
------- -------
Current:
Federal $ 12,611 $ (70,934)
States 9,319 3,959
--------- -----------
$ 21,930 $ (66,975)
========= ===========
Deferred:
Federal $ (915) $ (64,515)
States (277) (24,912)
--------- -----------
$ (1,192) $ (89,427)
========= ===========
Provision for income taxes (benefit) $ 20,738 $ (156,402)
========= ===========
Pursuant to New York State law, the Company is required to carry forward net
operating losses of approximately $216,000, which will expire in 2018.
A reconciliation of the difference between the expected income tax rate using
the statutory federal tax rate and the Company's effective rate is as follows:
Year Ended
November 30,
1999 1998
------- -------
U.S. Federal income tax statutory rate 34% (34)%
State income tax, net of Federal
income tax (benefit) 6 (6)
Nontaxable dividends (18) (11)
Tax (benefit) from lower tax brackets (19) 19
Sale of previously reserved inventory 17 --
Other -- (4)
----- -------
Effective tax rate 20% (36)%
===== =======
NOTE 10 - RELATED PARTY TRANSACTIONS
Lease
The Company leases office and warehouse space through December 31, 2008 from a
corporation that is controlled by officers of the Company. The following is a
schedule of future minimum rental payments required at November 30, 1999:
F-16
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOVEMBER 30, 1999
NOTE 10 - RELATED PARTY TRANSACTIONS (continued)
Year Ending November 30,
2000 $ 77,332
2001 79,654
2002 82,048
2003 84,514
2004 87,047
2005 and thereafter 383,277
---------
$793,872
Rental expense for the years ended November 30, 1999 and 1998, was $84,767 and
$78,960, respectively.
NOTE 10 - RELATED PARTY TRANSACTIONS
Employment Agreements
The Company has employment agreements with two officers of the Company. Among
other provisions, the agreement allows for a base salary of $200,000 plus
bonuses based on performance through July 30, 2001. The agreement also contains
provisions prohibiting the officers from engaging in activities which are
competitive with those of the Company during employment and for one year
following termination. The agreements further provide that in the event of a
change of control, the current officers are not elected to the Board of
Directors of the Company and/or are not elected as an officer of the Company
and/or there has been a change in ownership of at least 25% of the issued and
outstanding stock of the Company, and such issuance was not approved by either
officer, then the non-approving officer may elect to terminate his employment
contract and receive 2.99 times his annual compensation (or such other amount
then permitted under the Internal Revenue Code without an excess penalty), in
addition to the remainder of his compensation under his existing employment
contract.
In March 1998, the employment agreements were amended to extend the term to July
30, 2003 and to provide that on July 30th of each successive year of the
agreements, the agreements shall renew for an additional year, so that on each
July 30th, there will be five years remaining on the term of the agreements,
unless terminated by written notice by either party.
NOTE 11 - INDEPENDENT REPRESENTATIVES
The Company has agreements with independent representatives who receive
commissions of 5% on the net amount of invoices rendered by the representative
after all trade discounts, freight, transportation allowances, sales taxes,
insurance and the like have been deducted. Among other provisions, the
representatives agree to not represent any person or entity manufacturing or
selling products which are competitive with products and services sold by the
Company throughout the term of the agreement. The agreements continue unless
terminated by written notice by either party or the agreement is breached by
either party.
F-17
<PAGE>
NOTE 12 - MAJOR CUSTOMERS
Revenues to single customers in excess of 10% of the Company's total sales
consists of the following:
Year Ended
November 30,
1999 1998
------- -------
Customer A $2,027,803 $ --
Customer B 1,381,463 --
Customer C 1,398,374 1,446,555
Customer D -- 920,438
NOTE 13 - MAJOR SUPPLIERS
Inventory purchased from one supplier in excess of 10% of the Company's total
purchases consists of the following:
Year Ended
November 30,
1999 1998
------- -------
Supplier A $1,761,131 $1,264,215
Supplier B 1,288,116 1,206,277
Supplier C -- 730,316
NOTE 14 - EXPORT SALES
Export sales consist of the following:
Year Ended
November 30,
1999 1998
------- -------
Surge Components Inc.
Canada $ 50,914 $ 13,847
Europe 4,244 39,212
Asia 1,151,378 209,836
Central America 32,977 --
Challenge/Surge Inc.
Canada $ 14,624 $ 12,845
Europe 70,130 --
Asia 162,177 64,212
F-18
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOVEMBER 30, 1999
NOTE 15 - SUBSEQUENT EVENTS
Common Stock
In December 1998, the Board of Directors proposed amending its Certificate of
Incorporation to increase the number of common shares authorized from
25,000,000. The proposed increase to the number of common shares is conditioned
upon shareholder approval.
Pending Acquisition of Global Datatel, Inc.
In October 1999, the Company entered into a merger agreement with Global
Datatel, Inc. ("Global"). In December 1999, the parties terminated the merger
agreement and the Company entered into an asset purchase agreement with Global.
Among other provisions, the Company agreed to purchase the assets of Global and
its subsidiaries in exchange for 239,000 shares of the Company's Series A
Redeemable Convertible Preferred Stock ("Series A Preferred"). Following
approval of the acquisition by the shareholders of the Company and Global, each
share of the Series A Preferred will automatically convert into 100 shares of
Surge's Class B Common Stock. Each holder of the current Class A Common Stock
Warrants shall have the right to purchase one share of the Class B Common Stock
pursuant to the same conditions as currently exists. In addition, each holder of
the Company's current common stock shall have the right to exchange two shares
of the Company's Common Stock for one share of Class B common stock. The
purchase is conditioned on the completion of regulatory and other approvals and
other conditions precedent.
Pending Acquisition of MailEncrypt.com Inc.
In January 2000, the Company entered into a letter of intent to purchase
MailEncrypt.com Inc. in exchange for 1,821,400 shares of the Company's Class B
Common Stock. The acquisition is subject to the execution of definitive
documentation, shareholder approval and the satisfaction of certain conditions
precedent.
Issuance of Stock Options
In December 1999, the Company granted options to certain of its employees and
consultants, pursuant to the Option Plan, to purchase 209,000 shares of the
Company's Common Stock at an exercise price of $2.6875 per share.
From December 1, 1999 through the date of this report, eight employees and one
consultant exercised 46,500 shares at an aggregate exercise price of $63,900.
Private Placement Offering
As of January 2000, the Company, had raised $6,000,449 through the sale of
convertible promissory notes in a private placement offering ("Private
Placement") pursuant to regulation D of the Securities Act of 1933, as amended.
The offering, as amended, is seeking to raise up to $7,000,000 of principal
amount of promissory notes. The use of all of the proceeds from the Private
Placement will be used to fund the activities of Global and MailEncrypt.com.
These notes accrue interest at the rate of 12% per annum and are due on or
before December 31, 2000. Upon approval of the acquisition of Global, these
notes will automatically be converted into the Company's Class B common stock at
a conversion price of $3 per share. In the event, the Global acquisition does
not occur, these notes will automatically be converted into the Company's
current common stock at a conversion price of $2.50 per share. Under no
circumstances will the promissory notes convert into more than 19.9% of the
equity shares of the Company, without prior shareholder approval.
F-19
<PAGE>
NOTE 15 - SUBSEQUENT EVENTS (Continued)
Subordinated Convertible Promissory Note
In February 2000, the Company replaced the previous note receivable with Global
Datatel, Inc. (Note 3) with a Subordinated Convertible Promissory Note
("Convertible Note") totaling up to $4,100,000. To date $1,000,000 has been
loaned to Global, and the remaining $3,100,000 may be loaned to Global, upon
satisfaction of certain conditions. The Convertible Note accrues interest at the
rate of 10% per annum. Upon completion of the acquisition of Global by the
Company, the Convertible Note and all accrued interest shall automatically be
forgiven. If the acquisition does not occur by July 30, 2000, the Company may,
at its own discretion, convert this note into the common stock of Global on a
dollar for dollar basis, at the conversion price equal to 90% of average closing
price of Global stock for the preceding 20 trading days or demand repayment. The
Convertible Note is secured by the pledging of certain shares of stock owned by
the President of Global.
Note Payable to Bank
In December 1999, the Company entered into two note agreements with a bank for
aggregate borrowings of $500,000. The notes, which accrue interest at the prime
rate, are due on December 31, 1999. These notes have subsequently been paid.
F-20
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARY
EXHIBIT II
COMPUTATION OF EARNINGS PER COMMON SHARE
Year Ended
November 30,
1999 1998
------- -------
Basic earnings:
Net income (loss) $ 85,064 $ (274,166)
---------- ----------
Shares:
Weighted common shares outstanding 4,858,024 4,836,835
Employee's stock options -- --
---------- ----------
Total weighted shares outstanding 4,858,024 4,836,835
---------- ----------
Basic earnings (loss) per common share $ .02 $ (.06)
========== ==========
Diluted earnings:
Net income (loss) $ 85,064 $ (274,166)
---------- ----------
Shares:
Weighted common shares outstanding 4,858,024 4,836,835
Employee stock options 1,018,444 --
---------- ----------
Total weighted shares outstanding 5,876,468 4,836,835
---------- ----------
Diluted earnings (loss) per common share $ .01 $ (.06)
F-21
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit No. Description
- ------------ ------------
<S> <C>
2.1 Asset Purchase Agreement, dated as of December 8, 1999, by and among the Company GDIS Acquisition Corp.
as Buyer, and Global Datatel, Inc., as Seller. (1)
3.1(a) Certificate of Incorporation of the Company, as amended. (2)
3.1(b) Certificate of Amendment to Certificate of Incorporation, with respect to designation of 269,000
shares of Non-Voting Redeemable Convertible Series A Preferred Stock.
3.2 By-Laws of the Company. (2)
4.1 Form of Underwriter's Warrants. (2)
4.2 Form of Public Warrant Agreement. (2)
4.3 Specimen Common Share Certificate. (2)
4.4 Specimen Class A Warrant Certificate. (2)
4.5 Form of 12% Convertible Promissory Notes issued in December 1999 private Note Offering.
9.1 Stock Purchase Agreement dated March 1992 by and between Ira H. Levy and Steven J. Lubman. (2)
10.1 The Company's 1995 Employee Stock Option Plan. (2)
10.2 Employment Agreement between the Company and Ira Levy. (2)
10.3 Employment Agreement between the Company and Steven J. Lubman. (2)
10.4 Revolving Credit Line Agreement between European American Bank and the Company. (2)
10.5 Agreement with Great American Realty of Deer Park dated June 1, 1998. (3)
10.7 Form of sales representative agreement. (2)
*10.8 Intel Corporation Purchase Agreement dated January 1, 1998. (2)
10.9 Amendment to Employment Agreement between the Company and Ira Levy. (3)
10.10 Amendment to Employment Agreement between the Company and Steven Lubman. (3)
21.1 Subsidiaries of the Company. (1)
27. Financial Data Schedule.
99.1 Subordinated Convertible Promissory Note in the principal amount of $1,000,000, issued by Global Datatel,
Inc. (4)
99.2 Subordinated Convertible Promissory Note in the Principal amount of $4,100,000, issued by Global Datatel,
Inc. as replacement of the $1,000,000 Promissory Note.
99.3 Pledge Agreement, dated October 8, 1999, by and among Richard Baker, Global Datatel, Inc.,
and Surge Components, Inc. (4)
99.4 Security Agreement, dated December 1, 1999, by and among Surge Components, Inc.,
GDIS Acquisition Corp., as Buyer and Global Datatel, Inc. (1)
</TABLE>
- -------------------
* Confidential Treatment for a portion of the contract has been granted by
the Securities and Exchange Commission.
(1) Incorporated by reference from the Company's Current Report on Form 8-K,
Date of Report - December 8, 1999.
(2) Incorporated by reference from the Company's Registration Statement on Form
SB-2 (No. 333-630 NY) declared effective by the Securities and Exchange
Commission on July 31, 1996.
(3) Incorporated by reference from the Company's Annual Report on Form 10-KSB,
for the Fiscal Year ended November 31, 1998.
(4) Incorporated by reference from the Company's Current Report on Form 8-K,
Date of Report - October 8, 1999.
<PAGE>
EXHIBIT 3.1(b)
CERTIFICATE OF AMENDMENT
of the
CERTIFICATE OF INCORPORATION
of
SURGE COMPONENTS, INC.
UNDER SECTION 805 OF THE BUSINESS CORPORATION LAW
The undersigned, being the Chief Executive Officer and the Secretary
(the "Secretary") of SURGE COMPONENTS, INC., (the "Corporation"), do hereby
certify and set forth:
1. The name of the corporation is SURGE COMPONENTS, INC. (the
"Corporation").
2. The date the Certificate of Incorporation of the Corporation was
filed with the Department of State is the 24th day of November, 1981.
3. Article FOURTH of the Certificate of Incorporation is amended by the
addition of a provision fixing the number, designation, relative rights,
preferences, and limitations of the Non-Voting Redeemable Convertible Series A
Preferred Stock as fixed by the Board of the Corporation pursuant to the
authority vested in it by the Certificate of Incorporation.
4. Article FOURTH of the Certificate of Incorporation is hereby amended
to add the following provision to the end of Article FOURTH:
A. Non-Voting Redeemable Convertible Series A Preferred Stock.
1. Number Authorized and Designation. Of the 1,000,000 shares of
preferred stock authorized under this Article FOURTH, the Corporation shall have
the authority to issue 260,000 shares designated as Non-Voting Redeemable
Convertible Series A Preferred Stock, $.001 par value (referred to herein as
"Series A Preferred Stock").
2. Rights, Preferences and Limitations. The relative rights,
preferences and limitations of Series A Preferred Stock are as follows:
(a) Dividends. The Series A Preferred Stock shall be entitled to
share dividends on a pro-rata basis with the Common Shares if and when declared.
The Series A Preferred Stock shall be paid dividends prior to payment of
dividends to Common Shareholders.
(b) Conversion.
-1-
<PAGE>
(i) Upon the approval of the shareholders of the Corporation
of the Global Acquisition (as hereinafter defined), the ME Merger (as
hereinafter defined) and the issuance of the Class A Common Shares in connection
therewith, and upon approval of the shareholders ("Global Shareholders") of
Global Datatel, Inc., a Nevada corporation ("Global") of the Global Acquisition,
all of the issued and outstanding shares of the Series A Preferred Stock will
automatically convert into Class B Common Shares at a rate of one hundred Class
B Common Shares for each share of Series A Preferred Stock so converted and the
Class B Common Shares will be issued directly to the Global Shareholders and the
ME Shareholders as consideration for the respective mergers. The acquisition of
all of the assets of Global by a wholly owned subsidiary of the Corporation is
referred to herein as the "Global Acquisition". The term "ME Merger" shall mean
the merger of MailEncrypt.com, Inc., a California corporation, into a wholly
owned subsidiary of the Corporation as approved by the shareholders (the "ME
Shareholders") of MailEncrypt.com, Inc.
(ii) Upon receipt by the Secretary of a duly endorsed
certificate of the vote of the shareholders of the Corporation, evidencing
shareholder approval in accordance with New York law of both the Global
Acquisition and the ME Merger, and the issuance of Class B Common Shares as
consideration therefore, and upon approval by the Global Shareholders of the
Global Acquisition in accordance with Nevada law, the Corporation shall, as soon
as practicable thereafter, cause to be issued to the holder(s) of Series A
Preferred Stock that number of whole shares of Class B Common Shares issuable
upon automatic conversion of the Series A Preferred Stock as provided herein.
(c) Redemption. In the event that the shareholders of the
Corporation do not approve at a meeting held for such purpose, the issuance of
the Class B Common Shares and either of the Global Acquisition or ME Merger
associated therewith, or the Global Shareholders do not approve, the Global
Acquisition, the Corporation shall unless the period for redemption is extended
by the Board, redeem such number of shares of Series A Preferred Stock as had
not been converted, by paying on the date set for redemption, which will be no
more than sixty (60) days and not less than thirty (30) days after the
shareholders' meeting at which such proposals were considered (the "Redemption
Date") an amount (the "Redemption Price") equal to the sum of $.001 per share of
Series A Preferred Stock, subject to the following terms and conditions:
(i) The Corporation shall give notice (the "Redemption
Notice") not more than sixty (60) days and not less than thirty (30) days prior
to the Redemption Date by first class United States mail to each holder of
record of shares of Series A Preferred Stock called for redemption (the
"Redeemed Shares") at his address appearing on the stock transfer books of the
Corporation.
(ii) The Corporation may pay the Redemption Price for any
Redeemed Shares from the surplus and stated capital of the Corporation, but no
such redemption shall be made if the Corporation would thereby become insolvent
or, if stated capital is used, the redemption would reduce the net assets of the
Corporation below the stated capital remaining after giving effect to the
cancellation of the Redeemed Shares.
(d) Voting Rights.
(i) The Series A Preferred Stock shall not entitle the holder
thereof to any voting rights, except as otherwise required by New York Law.
(e) Preemptive Rights. Holders of Series A Preferred Stock shall
have no preemptive rights.
(f) Liquidation Rights. Upon liquidation, dissolution or winding
up of the Corporation, whether voluntary or involuntary, each holder of shares
of Series A Preferred Stock shall be entitled to receive, in preference to any
distributions of any of the assets or surplus funds of the Corporation to the
holders of the Common Shares (or Class B Shares, if any) an amount equal to
$.001 per share of Series A Preferred Stock, plus an additional amount equal to
any dividends declared but unpaid on such shares before any payments shall be
made or any assets distributed to holders of any class of Common Shares. If,
upon any such liquidation, dissolution or winding up of the Corporation, the
assets of the Corporation shall be insufficient to pay the holders of shares of
the Series A Preferred Stock the amount required under the preceding sentence,
-2-
<PAGE>
then all remaining assets of the Corporation shall be distributed ratably to
holders of the shares of the Series A Preferred Stock. An amount equal to $.001
per share, plus an additional amount equal to any dividend declared but unpaid
on such Common Shares shall then be paid ratably to the holders of the Common
Shares. All assets remaining thereafter shall then be distributed, pari passu,
to all the holders of all Series A Preferred Stock and all Common Shares.
5. This Amendment of the Certificate of Incorporation of the
Corporation was authorized by the Unanimous Written Consent of the Board of
Directors of the Corporation, dated as of January 28, 2000, as authorized by
Article FOURTH of the Certificate of Incorporation.
IN WITNESS WHEREOF, the undersigned have signed this Certificate this
28th day of January, 2000, and do hereby affirm, under penalties of perjury,
that the statements contained herein have been examined by us and are true and
correct.
/s/ Ira Levy
-----------------------
Ira Levy
Chief Executive Officer
/s/ Steven J. Lubman
-----------------------
Steven J. Lubman
Secretary
-3-
<PAGE>
EXHIBIT 4.5
THIS NOTE AND THE COMMON STOCK ISSUABLE UPON CONVERSION OF THIS NOTE HAVE
NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933 AND MAY NOT BE SOLD,
PLEDGED, HYPOTHECATED, OR OTHERWISE TRANSFERRED, DISPOSED OF OR OFFERED FOR
SALE, IN WHOLE OR IN PART, IN THE ABSENCE OF AN EFFECTIVE REGISTRATION STATEMENT
UNDER THAT ACT COVERING THIS NOTE AND/OR THE COMMON STOCK ISSUABLE UPON
CONVERSION THEREOF, OR AN OPINION OF COUNSEL REASONABLY SATISFACTORY TO SNOW
BECKER KRAUSS P.C.. THAT AN EXEMPTION FROM REGISTRATION IS AVAILABLE.
CONVERTIBLE PROMISSORY NOTE
(the "Note")
SURGE COMPONENTS, INC.
Principal Sum: $_________________________
Holder: ________________________________
SURGE COMPONENTS, INC., a New York corporation (hereinafter called "Surge" or
the "Corporation"), hereby promises to pay the Principal Sum set forth above
(the "Principal Sum") to the order of the above-referenced holder (the "Holder")
on or before December 31, 2000 subject to earlier conversion as described below.
This Note shall accrue interest at the rate of twelve percent (12%) per annum
from and after January 1, 2000. Accrued interest shall be payable on February 1,
2001 and at maturity or on conversion (each, an "interest payment date").
Interest shall be computed on the basis of a 360-day year.
1. Issuance. This Note is being issued pursuant to the terms of a Note
Purchase Agreement between the Corporation and the Holder (the "Subscription
Agreement") which contains, among other things, certain representations by the
Holder as to Holder's sophistication as an investor. In addition, the
Subscription Agreement contains certain covenants of the Corporation relating to
the registration of the Common Stock into which this Note may be converted under
the Securities Act of 1933, as amended (the "Act").
2. Conversion.
(a) On the Stockholder Approval Date (as hereinafter defined in
subsection (d)), the outstanding principal balance of this Note shall
automatically be converted into shares of Class B Common stock, $0.001 par
value, of the Corporation ("Common Stock") at a conversion price of $3.00 per
share. In the event that shareholder approval is not obtained by either the
Corporation or Global Datatel Inc ("Global") for the proposed acquisition of
assets of Global by the Corporation, or if the Global purchase for any reason is
rescinded, the Corporation will file a proxy no later than April 15,2000 to seek
approval for the preferred stock to convert in to Surge shares of Class A Common
stock, $0.001 par value, of the Corporation ("Class A Common Stock") at a
conversion price of $2.50 per share upon.
(b) Simultaneously with the issuance of this Note, the Corporation
shall reserve for issuance on conversion of this Note the total number shares of
Common Stock issuable upon conversion of this Note (as such number may be
adjusted from time to time in accordance with (c) below, the "Conversion
Shares"). The Corporation shall use its best reasonable efforts promptly to list
on the Nasdaq SmallCap Market, all of the Conversion Shares.
(c) If any capital reorganization or reclassification of the Common
Stock, stock split, reverse stock split, stock combination, or consolidation or
merger of the Corporation with or into another corporation, or distribution of
the
-4-
<PAGE>
proceeds of any sale or conveyance of all or substantially all of its assets to
another corporation (a "Capital Event") shall be effected, then, as a condition
precedent of such Capital Event, the following provision shall be made: The
Holder of the Note shall, from and after the date of such Capital Event sale
have the right to receive upon conversion (in lieu of the shares of Common Stock
of the Corporation immediately theretofore issuable upon the exercise of
conversion rights), such shares of stock, securities or assets as would have
been issued or payable with respect to or in exchange for the number of shares
of Common Stock immediately theretofore issuable upon conversion of the Note
(regardless of whether the Note was actually convertible at such time). In any
such case, appropriate provision shall be made with respect to the rights and
interests of the Holders to the end that such conversion rights (including,
without limitation, provisions for appropriate adjustments) shall thereafter be
applicable, as nearly as may be practicable in relation to any shares of stock,
securities or assets thereafter deliverable upon the conversion of the Note.
(d) The Corporation will file with the SEC all documents necessary
to hold a meeting of stockholders within 30 days of this transaction unless the
Corporation is unable to obtain the required financial statements of Global and
its subsidiaries which it does not currently have. Among other things, approval
will be sought for the issuance of the Conversion Shares and such other shares
of Common Stock as may be issuable upon conversion of certain other notes of the
same tenor (collectively, the "SRGE Notes"). The Board of Directors of the
Corporation will recommend that the stockholders of the Corporation vote in
favor of such approval. The date on which such approval is obtained is referred
to herein as the "Stockholder Approval Date."
3. Issuance of Conversion Shares. The Corporation covenants and agrees
that all Conversion Shares will, upon conversion of the SRGE Notes and issuance
in accordance with the terms hereof, be duly and validly issued, fully paid and
non-assessable.
4. Events of Default and Acceleration of the Note.
(a) An "event of default" with respect to this Note shall exist if
any of the following shall occur:
(i) The Corporation shall breach or fail to comply with any
provision of this Note and such breach or failure shall continue for fifteen
(15) days after written notice thereof to the Corporation by any Holder of SRGE
Notes.
(ii) A receiver, liquidator or trustee of the Corporation or of
a substantial part of its properties shall be appointed by court order and such
order shall remain in effect for more than fifteen (15) days; or the Corporation
shall be adjudicated bankrupt or insolvent; or a substantial part of the
property of the Corporation shall be sequestered by court order and such order
shall remain in effect for more than fifteen (15) days; or a petition to
reorganize the Corporation under any bankruptcy, reorganization or insolvency
law shall be filed against the Corporation and shall not be dismissed within
forty-five (45) days after such filing.
(iii) The Corporation shall file a petition in voluntary
bankruptcy or request reorganization under any provision of any bankruptcy,
reorganization or insolvency law, or shall consent to the filing of any petition
against it under any such law.
(iv) The Corporation shall make an assignment for the benefit of
its creditors, or consent to the appointment of a receiver, trustee or
liquidator of the Corporation, or of all or any substantial part of its
properties.
(b) If an event of default referred to in clause (i) shall occur,
the Holder may, in addition to such Holder's other remedies, by written notice
to the Corporation, declare the principal amount of this Note, together with all
interest accrued thereon, to be due and payable immediately. Upon any such
declaration, such amount shall become immediately due and payable and the Holder
shall have all such rights and remedies provided for under the terms of this
Note and the Subscription Agreement. If an event of default referred to in
clauses (ii), (iii) or (iv) shall occur, the principal amount of this Note,
together with all interest accrued thereon, shall become immediately due and
payable and the Holder shall have all such rights and remedies, if any, provided
for under the terms of this Note and the Subscription Agreement.
-5-
<PAGE>
5. Interest Rate Limitation. It is the intent of Holder and the
Corporation in the execution of this Note, that the loan evidenced hereby be
exempt from the restrictions of applicable state usury laws. In the event that
for any reason, it should be determined that any such usury law is applicable to
this Note, Holder and the Corporation stipulate and agree that none of the terms
and provisions contained herein shall ever be construed to create a contract for
the use, forbearance or detention of money requiring payment of interest at a
rate in excess of the maximum interest rate permitted to be charged by the laws
of such state. In such event, if the Corporation shall collect monies which are
deemed to constitute interest which would otherwise increase the effective
interest rate on this Note to a rate in excess of the maximum rate permitted to
be charged by applicable state law, all such sums shall, at the option of
Holder, be credited to the payment of the sums due hereunder or returned to the
Corporation.
6. Miscellaneous.
(a) All notices and other communications required or permitted to be
given hereunder shall be in writing and shall be given (and shall be deemed to
have been duly given upon receipt) by delivery in person, by telegram, by
facsimile, recognized overnight mail carrier, telex or other standard form of
telecommunications, or by registered or certified mail, postage prepaid, return
receipt requested, addressed as follows: (a) if to the Holder, to such address
as such Holder shall furnish to the Corporation in accordance with this Section,
or (b) if to the Corporation, to it at its headquarters office, or to such other
address as the Corporation shall furnish to the Holder in accordance with this
Section.
(b) This Note shall be governed and construed in accordance with the
laws of the State of New York applicable to agreements made and to be performed
entirely within such state.
(c) The Corporation waives protest, notice of protest, presentment,
dishonor, notice of dishonor and demand.
(d) If any provision of this Note shall for any reason be held to be
invalid or unenforceable, such invalidity or unenforceability shall not affect
any other provision hereof, but this Note shall be construed as if such invalid
or unenforceable provision had never been contained herein.
(e) The waiver of any event of default or the failure of the Holder
to exercise any right or remedy to which it may be entitled shall not be deemed
a waiver of any subsequent event of default or of the Holder's right to exercise
that or any other right or remedy to which the Holder is entitled.
(f) Upon the occurrence of an uncured event of default, the Holder
of this Note shall be entitled to recover its legal and other costs of
collecting on this Note, and such costs shall be deemed added to the principal
amount of this Note.
(g) In addition to all other remedies to which the Holder may be
entitled hereunder, Holder shall also be entitled to decrees of specific
performance without posting bond or other security.
IN WITNESS WHEREOF, the Corporation has caused this Note to be duly
executed on the date set forth below
Dated: __________________________________________
SURGE COMPONENTS, INC.
By:____________________________________________
Ira Levy, Chief Executive Officer
-6-
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
consolidated balance sheet and statements of income filed as part of the report
on form 10KSB for the year ended November 30, 1999 and is qualified in its
entirety by reference to such report on form 10KSB.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> NOV-30-1999
<PERIOD-END> NOV-30-1999
<CASH> 159,612
<SECURITIES> 2,232,294
<RECEIVABLES> 2,274,274
<ALLOWANCES> 22,634
<INVENTORY> 1,442,067
<CURRENT-ASSETS> 7,368,953
<PP&E> 504,696
<DEPRECIATION> 183,290
<TOTAL-ASSETS> 7,846,254
<CURRENT-LIABILITIES> 1,692,008
<BONDS> 0
0
0
<COMMON> 4,859
<OTHER-SE> 6,149,387
<TOTAL-LIABILITY-AND-EQUITY> 7,846,254
<SALES> 12,147,025
<TOTAL-REVENUES> 12,363,799
<CGS> 9,068,308
<TOTAL-COSTS> 3,151,932
<OTHER-EXPENSES> 37,757
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 105,802
<INCOME-TAX> 20,738
<INCOME-CONTINUING> 85,064
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 85,064
<EPS-BASIC> .02
<EPS-DILUTED> .01
</TABLE>
