<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
(Mark One)
/X/ Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the quarterly period ended May 31, 2000
/ / Transition report pursuant to Section 13 or 15(d) of the Exchange Act
For the transition period from ____________ to ____________
Commission file number 0 - 14188
Surge Components, Inc.
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(Exact name of small business issuer as specified in its charter)
New York 11-2602030
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1016 Grand Boulevard, Deer Park, NY 11729
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(Address of principal executive offices)
(631) 595-1818
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(Issuer's telephone number, including area code)
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(Former name, former address and former fiscal year,
if changed since last report)
Check whether the issuer: (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days.
Yes X No
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APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS
Check whether the registrant filed all documents and reports required to be
filed by Section 12, 13 or 15(d) of the Exchange Act after the distribution of
securities under a plan confirmed by court.
Yes _______ No _______
APPLICABLE ONLY TO CORPORATE ISSUERS
State the number of shares outstanding of each of the issuer's classes of
common equity, as of the latest practicable date: As of June 30, 2000: 4,982,589
shares of common stock, par value $.001 per share.
Transitional Small Business Disclosure Format (check one):
Yes No X
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SURGE COMPONENTS, INC. AND SUBSIDIARY
Index to Form 10-QSB
for the Period Ended May 31, 2000
PART I . FINANCIAL INFORMATION
Item 1. Financial Statements:
Consolidated Balance Sheets 3 - 4
Consolidated Statements of Income and Comprehensive Income 5
Consolidated Statements of Cash Flows 6
Notes to Consolidated Financial Statements 7 - 10
Item 2. Management's Discussion and Analysis or Plan of Operation 11 - 17
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K 18
Signatures 18
2
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SURGE COMPONENTS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
May 31, November 30,
2000 1999
------ -------
<S> <C> <C>
ASSETS
Current assets:
Cash $ 5,305,172 $ 159,612
Note receivable - Global DataTel, Inc. 3,311,458 1,000,000
Note receivable - MailEncrypt.com, Inc. 750,000 --
Marketable securities 2,233,459 2,232,294
Accounts receivable (net of allowance for
doubtful accounts of $22,634) 2,974,612 2,251,640
Inventory 1,708,512 1,442,067
Prepaid expenses and taxes 114,355 201,153
Other current assets 169,333 82,187
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Total current assets 16,566,901 7,368,953
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Fixed assets - net of accumulated depreciation
of $209,682 and $183,290 331,607 321,406
----------- -----------
Other assets:
Deferred acquisition costs 294,303 63,687
Loan costs - net of accumulated amortization
of $232,739 308,950 --
Organization costs - net of accumulated
amortization of $263 7,616 --
Security deposits 2,985 2,985
Deferred tax asset 90,118 89,223
----------- -----------
Total other assets 703,972 155,895
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Total assets $17,602,480 $ 7,846,254
=========== ===========
</TABLE>
See accompanying notes to consolidated financial statements.
3
<PAGE>
SURGE COMPONENTS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
May 31, November 30,
2000 1999
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<S> <C> <C>
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 1,308,915 $1,283,067
Accrued expenses and taxes 1,457,499 408,941
Notes payable 7,000,000 --
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Total current liabilities 9,766,414 1,692,008
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Stockholders' equity:
Preferred stock - $.001 par value, 1,000,000
authorized; 269,000 shares Series A Preferred
Stock authorized, 239,000 issued and held in
escrow account by Surge in name of Global
DataTel, Inc. as of May 31, 2000, none
issued at November 30,1999 -- --
Common stock - $.001 par value,
25,000,000 shares authorized,
4,982,589 and 4,858,958 shares issued
and outstanding, respectively 4,983 4,859
Additional paid-in capital 6,672,128 6,386,063
Unrealized holding loss (123,034) (52,856)
Retained earnings (deficit) 1,281,989 (183,820)
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Total stockholders' equity 7,836,066 6,154,246
----------- ----------
Total liabilities and stockholders' equity $17,602,480 $7,846,254
=========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
4
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SURGE COMPONENTS INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
<TABLE>
<CAPTION>
Six Months Ended Three Months Ended
May 31, May 31,
2000 1999 2000 1999
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Sales $ 15,274,013 $ 4,537,397 $ 7,383,091 $ 2,312,431
Less returns and allowances 218,315 38,760 180,427 19,697
------------ ------------ ------------ ------------
Net sales 15,055,698 4,498,637 7,202,664 2,292,734
Cost of goods sold 10,027,827 3,319,995 4,853,888 1,691,708
------------ ------------ ------------ ------------
Gross profit 5,027,871 1,178,642 2,348,776 601,026
------------ ------------ ------------ ------------
Operating expenses:
General and administrative
expenses 1,510,486 934,322 792,972 469,511
Selling and shipping expenses 885,303 491,369 426,618 240,940
Depreciation and amortization 259,394 22,731 149,544 11,646
------------ ------------ ------------ ------------
Total operating expenses 2,655,183 1,448,422 1,369,134 722,097
------------ ------------ ------------ ------------
Income (loss) from operations 2,372,688 (269,780) 979,642 (121,071)
Other income and (expense):
Investment income 225,988 110,406 133,434 57,417
Interest expense (291,327) (2,668) (213,911) (1,672)
------------ ------------ ------------ ------------
Income (loss) before income taxes (benefit) 2,307,349 (162,042) 899,165 (65,326)
Income taxes (benefit) 841,540 1,275 337,386 (628)
------------ ------------ ------------ ------------
Net income (loss) 1,465,809 (163,317) 561,779 (64,698)
Other comprehensive (loss) income:
Unrealized holding loss on
securities arising during the period, net of tax (70,178) (158,109) (34,698) (19,954)
------------ ------------ ------------ ------------
Total comprehensive income (loss) $ 1,395,631 $ (321,426) $ 527,081 $ (84,652)
============ ============ ============ ============
Weighted average shares outstanding
Basic 4,931,374 4,857,084 4,973,747 4,858,958
Diluted 7,716,310 4,857,084 7,758,683 4,858,958
Earnings (loss) per share
Basic $ .30 $ (.03) $ .11 $ (.01)
Diluted $ .19 $ (.03) $ .07 $ (.01)
</TABLE>
See accompanying notes to consolidated financial statements.
5
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SURGE COMPONENTS INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Six Months Ended
May 31,
2000 1999
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<S> <C> <C>
OPERATING ACTIVITIES:
Net income (loss) $ 1,465,809 $ (163,317)
Adjustments to reconcile net
income (loss) to net cash provided
by operating activities:
Depreciation and amortization 259,394 22,731
Deferred income taxes (895) (518)
CHANGES IN OPERATING ASSETS AND LIABILITIES:
Accounts receivable (722,972) (2,908)
Inventory (266,445) 122,152
Other current assets (348) 27,877
Accounts payable 25,848 (369,979)
Accrued expenses and taxes 1,048,557 (140,123)
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NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES 1,808,948 (504,085)
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INVESTING ACTIVITIES
Purchase of marketable securities (71,342) (102,541)
Acquisition of fixed assets (36,593) (27,628)
Acquisition of organization costs (7,879) --
Deferred acquisition costs (230,616) --
Net advances to Global DataTel, Inc. (2,311,458) --
Net advances to MailEncrypt.com Inc. (750,000) --
----------- -----------
NET CASH USED IN INVESTING ACTIVITIES (3,407,888) (130,169)
----------- -----------
FINANCING ACTIVITIES
Proceeds from notes payable 7,000,000 --
Loan costs (541,689) --
Proceeds from exercise of employee stock options 164,394 7,500
Proceeds from exercise of warrants 5,155 --
Proceeds from exercise of underwriter units 116,640 8,736
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NET CASH PROVIDED BY FINANCING ACTIVITIES 6,744,500 16,236
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NET CHANGE IN CASH 5,145,560 (618,018)
CASH AT BEGINNING OF PERIOD 159,612 1,387,222
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CASH AT END OF PERIOD $ 5,305,172 $ 769,204
=========== ===========
SUPPLEMENTAL CASH FLOW INFORMATION:
Income taxes paid $ 201,000 $ 1,793
=========== ===========
Interest paid $ 4,191 $ 2,668
=========== ===========
</TABLE>
See accompanying notes to consolidated financial statements.
6
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SURGE COMPONENTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000
NOTE 1 - ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES
In the opinion of management, the accompanying consolidated financial statements
of Surge Components Inc., Challenge/Surge, Inc. and Superus Holdings, Inc.
contain all adjustments necessary to present fairly the Company's consolidated
financial position as of May 31, 2000 and November 30, 1999 and the consolidated
statements of income and comprehensive income for the six and three months ended
May 31, 2000 and 1999 and consolidated cash flows for the six months ended May
31, 2000 and 1999.
The consolidated results of operations for the six and three months ended May
31, 2000 and 1999 are not necessarily indicative of the results to be expected
for the full year.
Except as follows, the accounting policies followed by the Company are set forth
in Note 2 to the Company's financial statements included in its Annual Report on
Form 10-KSB, for the year ended November 30, 1999.
Formation of Subsidiary
In March 2000, the Company formed Superus Holdings, Inc. ("Superus"), a Delaware
corporation, as a wholly owned subsidiary of the Company. The Company is
currently doing business under the assumed name Superus Holdings.
Reclassifications
Certain prior year information has been reclassified to conform to the current
year's reporting presentation.
NOTE 2 - 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"), which are being
held in escrow by Surge. Following approval of the acquisition by the
shareholders of the Company and Global
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SURGE COMPONENTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000
NOTE 2 - PENDING ACQUISITION OF GLOBAL DATATEL, INC. (continued)
and a recapitalization of the Company including its merger with and into
Superus, each share of the Series A Preferred will automatically convert into
100 shares of Superus' Class B Common Stock, which is intended to be a tracking
stock reflecting Global's assets and includes other Internet operations. 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 Superus Class B Common Stock for a period of six months
following the effective date of the issuance of the Class B Common Stock. The
purchase is conditioned on the completion of regulatory and other approvals and
other conditions precedent. The Company has entered into an agreement with their
financial advisor to pay one million shares of Superus Class B Common Stock
contingent upon shareholder approval of both the recapitalization and
acquisition.
NOTE 3 - PENDING ACQUISITION OF MAILENCRYPT.COM, INC.
In February 2000, the Company entered into a merger agreement to purchase
MailEncrypt.com, Inc. ("Mail") in exchange for 1,821,400 shares of the Superus
Class B Common Stock. The acquisition is subject to shareholder approval and the
satisfaction of conditions precedent. The Company is paying a finder's fee of
one hundred thousand shares of Superus Class B Common Stock upon shareholder
approval of the recapitalization and merger agreement.
NOTE 4 - EXERCISE OF WARRANTS
In March 2000, the underwriters exercised a portion of their warrants received
during the Company's July 1996 Initial Public Offering. In exchange for $62,000,
the underwriters received 12,500 shares of the Company's Common Stock.
In March 2000, 1031 Class A Warrants were exercised in exchange for $5,155.
8
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SURGE COMPONENTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MAY 31, 2000
NOTE 5 - PRIVATE PLACEMENT OFFERING
In March 2000, the Company completed a $7,000,000 offering through the sale of
convertible promissory notes in a private placement offering ("Private
Placement") pursuant to Regulation D under the Securities Act of 1933, as
amended. The use of substantially all proceeds from the Private Placement, other
than the repayment of $1,000,000 to the Company, will be used to fund the
activities of Global and Mail. 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
Superus 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.
NOTE 6 - SUBORDINATED CONVERTIBLE PROMISSORY NOTE
In February 2000, the Company replaced the previous note receivable with Global
with a Subordinated Convertible Promissory Note ("Convertible Note") totaling up
to $6,250,000. Through May 31, 2000, $3,311,458 has been loaned to Global, and
the remaining $2,938,542 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 pledge of certain shares of stock owned by
the President of Global.
9
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SURGE COMPONENTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FEBRUARY 29, 2000
NOTE 7 - PROPOSED REORGANIZATION
Subject to shareholder approval and the approval of the Global acquisition, the
Company intends to transfer all assets and liabilities of Surge Components, Inc.
and Challenge/Surge, Inc. to a newly-formed wholly-owned subsidiary. Surge
Components, Inc. would then merge into Superus, which would become the parent
company.
NOTE 8 - EMPLOYMENT AGREEMENTS
On March 20, 2000, the Company entered into an agreement with Craig Carlson. The
agreement, which names Mr. Carlson as Vice President of Corporate Development,
calls for a base salary of $150,000 per annum, subject to increase in certain
circumstances. Pursuant to the agreement, Mr. Carlson also received options to
purchase 200,000 shares of Superus Class B Common Stock, 35,000 of which are
exercisable six months after the Effective Date of the Recapitalization and the
balance exercisable ratably on a monthly basis over 42 months. The options
expire four years after the Recapitalization.
NOTE 9 - SUBSEQUENT EVENT
In July 2000, the Company set up a bonus pool for certain of its employees,
totaling 10% of certain pretax income for the quarter ended May 31, 2000.
10
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Item 2. 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 ability to complete its pending merger, acquisition and
recapitalization, obtain shareholder and other necessary approvals, the merged
entity's ability to combine and work together and grow the companies, periodic
downturns and improvements in their respective industries, dependence on the
Internet, timely acceptance of new products, intense price competition in their
respective industries, lack of historical profitability, need to manage the
Company's growth, 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, and 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 and the
Company's Annual Report on Form 10-KSB for the year ended November 30, 1999,
both of which have been filed with the Commission. These reports 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. The
forward-looking statements made herein speak only as of the date hereof and the
Company disclaims any obligation to provide updates, revisions or amendments to
any forward-looking statements made herein to reflect changes in the Company's
expectations or future events.
Results of Operations
Net sales for Surge Components, Inc. and Subsidiary (the "Company") for the
six months ended May 31, 2000 increased by $10,557,061, or 235%, to $15,055,698
as compared to net sales of $4,498,637 for the six months ended May 31, 1999.
The Company's net sales for the three months ended May 31, 2000 increased by
$4,909,930, or 214%, to $7,202,664 as compared to net sales of $2,292,734 for
the three months ended May 31, 2000. The net sales for the Company without
Challenge/Surge, Inc. ("Challenge"), one of the Company's subsidiaries,
increased by $857,595 or 25% when compared to the six months ended May 31, 1999.
This growth was attributable primarily to increased sales volumes with new
customers, 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. The net sales for Challenge increased by $9,682,152, or 880% when
compared to the six months ended May 31, 1999. This increase was primarily
attributable to the economic effect of the shortage of electronic components
during the first half of fiscal 2000 in the broker distributor market in which,
Challenge operates. This shortage has resulted in a higher demand of electronic
products in the broker market. There can be no assurance, however, that these
substantially improved conditions will continue throughout 2000.
11
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The Company's gross profit for the six months ended May 31, 2000 increased
by $3,849,229, or 327%, as compared to the six months ended May 31, 1999. The
Company's gross profit for the three months ended May 31, 2000 increased by
$1,747,750, or 291%, as compared to the three months ended May 31, 1999. Gross
margin as a percentage of net sales increased from 26.2% in the six months ended
May 31, 1999 to 33.4% in the six months ended May 31, 2000. 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 economic effect of
the shortage of electronic components in the broker distributor market. Also,
the Company is 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 customers' factories overseas. This has resulted in a substantial
reduction of import related fees.
General and administrative expenses for the six months ended May 31, 2000
increased by $576,164, or 62%, as compared to the six months ended May 31, 1999.
For the three months ended May 31, 2000, general and administrative expenses
increased by $323,461, or 69%, as compared to the three months ended May 31,
1999. The increase is primarily due to performance bonuses. The Company also
hired additional staff such as office, purchasing and warehouse personnel in the
latter part of 1999. The Company's subsidiary, Superus Holdings, Inc.
("Superus") incurred approximately $162,000 of expenses relating to salaries,
rent and public relations.
Selling and shipping expenses for the six months ended May 31, 2000,
increased by $393,934, or 80%, as compared to the six months ended May 31, 1999.
For the three months ended May 31, 2000, selling and shipping expenses increased
by $185,678, or 77%, as compared to the three months ended May 31, 1999. This
increase is primarily due to the increased sales commissions resulting from the
increase in sales for the year. The Company is committed to increasing sales
through authorized distributors, global and domestic sales representatives, an
Internet Web site, literature, and participation in trade shows. Challenge has
published a catalog for the new audible and fan product lines it now carries.
Interest expense for the six months ended May 31, 2000 increased by
$288,659, as compared to the six months ended May 31, 1999. Interest expense for
the three months ended May 31, 2000 increased by $212,239, as compared to the
three months ended May 31, 1999. This increase is primarily due to the Company
incurring debt in the amount of $7,000,000, as a result of a private offering of
Convertible Promissory Notes in December 1999 through March 2000.
Investment income increased by $ 115,582 for the six months ended May 31,
2000 as compared to the six months ended May 31,1999. Investment income
increased by $76,017 for the three months ended May 31, 2000, as compared to the
three months ended May 31, 1999. This increase is primarily due to the interest
due on the notes due from Global DataTel, Inc. and MailEncrypt.com, Inc.
12
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As a result of the foregoing, the Company had net income of $1,465,809 for the
six months ended May 31, 2000, as compared to a net loss of $163,317 for the six
months ended May 31, 1999. The Company had net income of $561,779 for the three
months ended May 31, 2000, as compared to a net loss of $64,698 for the three
months ended May 31, 1999.
Liquidity and Capital Resources
Working capital increased by $1,123,545 during the six months ended May 31,
2000 from $5,676,945 at November 30, 1999, to $6,800,487, at May 31, 2000. This
increase resulted primarily from the increase in cash, proceeds from notes
payable, notes receivable, accounts receivable and inventory, as partially
offset by the increase in notes payable and accrued expenses and taxes. The
Company's Current Ratio decreased to 1.7:1 at May 31, 2000, as compared to 4.4:1
at November 30, 1999. Inventory turned about twice as much in the six months
ended May 31, 2000 as compared to the six months ended May 31, 1999. The average
number of days to collect receivables decreased from 51 days to 32 days. This
resulted primarily from an acceleration in terms on the additional sales from
the shortage of electronic components in the broker distributor market.
Management believes that working capital levels are 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 $200,000 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
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 renovated its current facilities during 1998 at a total cost of
$237,000. Additionally, the renovation provides additional space for test labs,
which allows the Company to provide customers with prompt information regarding
the specifications of its products and provides space for additional sales
staff. 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 staffing 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 maintaining
increased sales levels. In March 1999,
13
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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 has been minimal since the Company is utilizing the same
office space used by its supplier management group.
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 that 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 Web site, 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 Web site capability.
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 February and March 2000,
the underwriters exercised a portion of their warrants received during the
Company's July 1996 Public Offering in exchange for $116,640, the underwriters
received 23,400 Shares.
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, were due on December 31, 1999. These notes have been repaid.
During the six months ended May 31, 2000, the Company had net cash provided
by operating activities of $1,808,948, as compared to $504,085 used in operating
activities in the six months ended May 31, 1999. The increase in cash provided
by operating activities resulted from the Company's significant increase in
revenues and earnings and accrued expenses and taxes, offset, in part, by
increases in accounts receivable, inventory, depreciation and amortization.
14
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The Company had net cash used in investing activities of $3,407,888 for the
six months ended May 31, 2000, as compared to $130,169 for the six months ended
May 31, 1999. As discussed more fully below, the Company loaned an aggregate of
$3,061,458 to Global Datatel, Inc. ("Global") and MailEncrypt.com, Inc.
("Mail").
The Company had net cash provided by financing activities of $6,744,500 for
six months ended May 31, 2000, as compared to $16,236 for the six months ended
May 31, 1999. This increase in the cash provided by financing activities was a
result of the net proceeds from a private placement and the result of the
proceeds from the exercise of stock options. As a result of the foregoing, the
Company had a net increase in cash of $5,145,560 during the six months ended May
31, 2000, as compared to a net decrease of $618,018 for the six months ended May
31, 1999.
The Company expects that its cash flow from operations, current investment
program and the Company's private placement will be sufficient to meets its
current financial requirements over at least the next twelve months.
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 May 31, 2000 stock options totaling 99,200
shares at an aggregate exercise price of $164,394 were exercised.
In March 2000, the Company formed, a Delaware corporation, Superus
Holdings, Inc. ("Superus") as a wholly owned subsidiary of the Company. Subject
to shareholder approval and the approval of the Global Acquisition, the Company
intends to transfer all assets and liabilities of Surge Components, Inc. and
Challenge/Surge Inc. to a newly formed wholly owned subsidiary. The Company
would then merge into Superus, which would become the parent company
(collectively, the "Recapitalization").
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 239,000 shares of the
Company's Series A Preferred Stock, which will be converted into the 23,900,000
shares of Superus' Class B Common Stock, 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 of Superus. Additionally, on
February 16, 2000, the Company entered into a Merger Agreement and Plan of
Reorganization to acquire Mail, the terms of which provide for the issuance of
1,821,400 shares of Superus' Class B Common Stock to the four shareholders of
Mail, and the merger of Mail into a wholly owned subsidiary of Superus. The
merger of Mail into Superus is also conditioned on the consummation of the
Global Acquisition. The Class B Common Stock will also track the business of
Mail. Superus was formed for the purpose of effectuating the Mail Merger and
Global Acquisition, issuing the Class A Common Stock, Class B Common
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Stock and Class B Warrants, and becoming the holding Company of the businesses
of the Company, Mail and Global. The Company intends to issue a Joint Proxy
Statement to all shareholders of Global and the Company for purposes of
approving said transactions.
As of May 31, 2000, the Company has incurred debt in the amount of
$7,000,000 as a result of a private offering of Convertible Promissory Notes.
The Convertible Promissory Notes accrue interest at the rate of 12% per annum
commencing February 1, 2000, or approximately $712,000 per annum, and is payable
on or before December 31, 2000, if the Global Acquisition is not consummated. In
March 2000, the Company completed the Private Placement.
On October 8, 1999, the Company 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 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 then Chairman of Global.
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.
In February 2000, the Company replaced the Global Note with a Subordinated
Convertible Promissory Note ("Convertible Note") totaling $6,250,000 and
increased the conversion ratio from $3.00 to $1.00 of principal and interest
outstanding on the Global Note for every share of Global stock issued upon
conversion. Simultaneously therewith, the number of shares pledged by Mr.
Richard Baker was increased from 300,000 Global Shares to 500,000 Global Shares.
Through May 31, 2000, $3,311,458 has been loaned to Global, and the remaining
$2,938,542 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 31, 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 former Chairman of
Global.
If the Global Acquisition is not consummated by July 31, 2000, the Global
Note will become convertible, or payable upon demand. The Company does not
believe that Global would be able to pay the amount due under the Convertible
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 on the Convertible Note, or failure of the Global Acquisition to be
consummated for any reason, the Company has reason to believe that the security
and assets of Global may not be sufficient to satisfy Global's obligation under
the Convertible Note. As such, the failure of the Global Acquisition to close,
could have material adverse consequences to the Company.
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On June 2, 2000, the Company executed a pledge agreement where by it took
effective control of the assets of Global. Under the terms of the Agreement, the
Board of Directors and a sufficient number of shareholders of Global have
consented to pledge all of the company's assets and certain of its liabilities
to Superus in furtherance of satisfying a condition precedent to closing the
sale of such assets to Superus.
In February 2000, the Company entered into an agreement with Mail whereby
the Company loaned $750,000 to Mail. The Note bears interest at the rate of 10%
per annum and is due July 30, 2000. Upon completion of the acquisition of Mail
by the Company, the note and all accrued interest shall automatically be
forgiven. In the event the acquisition of Mail is terminated, the Note is
convertible into the common stock of Mail.
On February 16, 2000, the Company entered into an employment agreement with
Adam Epstein. The agreement, which names Mr. Epstein as Chairman of the Board
and acting Chief Executive Officer, calls for a base salary of $200,000 per
annum, subject to increase in certain circumstances. Pursuant to the agreement,
Mr. Epstein also received 5 year options to purchase 1,500,000 shares of Superus
Class B Common Stock, 300,000 of which are immediately exercisable and the
balance exercisable ratably on a monthly basis over 36 months.
On March 20, 2000, the Company entered into an agreement with Craig
Carlson. The agreement, which names Mr. Carlson as Vice President of Corporate
Development, calls for a base salary of $150,000 per annum, subject to increase
in certain circumstances. Pursuant to the agreement, Mr. Carlson also received 4
years options to purchase 200,000 shares of Superus Class B Common Stock, 35,000
of which are exercisable six months after the Effective Date of the
Recapitalization and the balance exercisable ratably on a monthly basis over 42
months.
In February 2000, the two founders of Mail each entered into one-year
employment agreements with Superus, which are to be followed, by six-month
consulting agreements. They have, in turn, licensed to the Company the software
language they developed specifically for Mail.
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 resulted in increased
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 approximately $7,000,000 of debt as a result of the Note
Offering.
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PART II
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits.
Exhibit No. Description
----------- -----------
11.2 Statement re: Computation of per share earnings.
27. Statement re: Financial Data Schedule
(b) Reports on Form 8K
A current report on Form 8-K was filed by the Company on June 19,
2000, as amended on June 22, 2000, to report on Item 2, an
"Acquisition or Disposition of Assets" which occurred on June 2, 2000.
A current report on Form 8-K was filed by the Company on June 27, 2000
to report on Item 5, an "Other Event" which occurred on June 19, 2000.
SIGNATURES
In accordance with the requirements of the Securities Exchange Act of
1934, the registrant caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
SURGE COMPONENTS, INC.
By: /s/ Steven J Lubman
-------------------------
Steven J. Lubman
Vice President, Principal
Financial Officer, Secretary and
Director
Dated: July 14, 2000
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