<PAGE> 1
EXHIBIT 99.2
PRODUCTIVITY ENHANCEMENT
PRODUCTS, INC. AND
SUBSIDIARIES
Consolidated Financial Statements
for the Year Ended January 2, 2000,
and Independent Auditors' Report
<PAGE> 2
INDEPENDENT AUDITORS' REPORT
To the Board of Directors of
Productivity Enhancement Products, Inc.
and Subsidiaries:
We have audited the accompanying consolidated balance sheet of Productivity
Enhancement Products, Inc. and its majority-owned subsidiaries (the Company) as
of January 2, 2000, and the related consolidated statements of income and
comprehensive income, shareholders' equity, and cash flows for the year then
ended. These consolidated financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audit.
We conducted our audit in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of Productivity Enhancement Products,
Inc. and its majority-owned subsidiaries as of January 2, 2000, and the results
of their operations and their cash flows for the year then ended in conformity
with accounting principles generally accepted in the United States of America.
As discussed in Note 11, the Company sold all assets of its majority-owned
subsidiary, BeadleNet LLC, on October 19, 1999. Effective November 25, 1999,
BeadleNet LLC was dissolved.
/s/ Deloitte and Touche
June 9, 2000
Costa Mesa, California
<PAGE> 3
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
AS OF JANUARY 2, 2000
--------------------------------------------------------------------------------
<TABLE>
ASSETS
<S> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 2,245,675
Investments available-for-sale, restricted 5,999,658
Accounts receivable, net of allowance for doubtful accounts of $27,600 at
January 2, 2000 1,196,544
Inventories, net 404,666
Prepaid expenses 60,648
-----------
Total current assets 9,907,191
PROPERTY AND EQUIPMENT, net 124,437
DEFERRED TAX ASSETS 16,757
OTHER ASSETS 94,872
-----------
$10,143,257
===========
</TABLE>
See notes to consolidated financial statements
3
<PAGE> 4
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
AS OF JANUARY 2, 2000 (CONTINUED)
--------------------------------------------------------------------------------
<TABLE>
<S> <C>
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 522,045
Accrued expenses 547,337
Deferred revenue 303,648
Income taxes payable 1,891,695
Deferred tax liabilities 1,084,512
Current portion of capital lease obligations 8,363
Current portion of notes payable 30,076
------------
Total current liabilities 4,387,676
CAPITAL LEASE OBLIGATIONS, less current portion 5,516
NOTES PAYABLE, less current portion 32,232
COMMITMENTS (Note 9)
SHAREHOLDERS' EQUITY:
Common stock, $0.00004 par value; 100,000,000 shares authorized; 5,125,000
shares issued and outstanding 43,000
Notes receivable (31,000)
Accumulated other comprehensive income 1,885,953
Retained earnings 3,819,880
------------
Total shareholders' equity 5,717,833
------------
$ 10,143,257
============
</TABLE>
See notes to consolidated financial statements
4
<PAGE> 5
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF INCOME AND COMPREHENSIVE INCOME
FOR THE YEAR ENDED JANUARY 2, 2000
--------------------------------------------------------------------------------
<TABLE>
<S> <C>
REVENUES:
Product revenues $ 5,050,160
Engineering and other revenues 896,633
-----------
Total revenues 5,946,793
COST OF REVENUES 3,048,450
-----------
GROSS PROFIT 2,898,343
SELLING, GENERAL, AND ADMINISTRATIVE EXPENSES 2,311,513
WRITE-OFF OF NOTE RECEIVABLE 366,519
-----------
OPERATING INCOME 220,311
OTHER EXPENSE, net (7,109)
-----------
INCOME BEFORE PROVISION FOR INCOME TAXES 213,202
PROVISION FOR INCOME TAXES (72,239)
-----------
INCOME FROM CONTINUING OPERATIONS 140,963
DISCONTINUED OPERATIONS:
Loss from operations of discontinued business, net of minority interest
participation of $355,000, and tax benefits of $416,469 (670,801)
Gain on sale of discontinued business, net of minority interest participation of
$2,652,495, and tax provision of $2,160,330 3,479,615
-----------
NET INCOME 2,949,777
OTHER COMPREHENSIVE INCOME:
Net unrealized gain on available-for-sale securities, net of taxes of $1,248,650 1,885,953
-----------
COMPREHENSIVE INCOME $ 4,835,730
===========
</TABLE>
See notes to consolidated financial statements
5
<PAGE> 6
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
FOR THE YEAR ENDED JANUARY 2, 2000
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Accumulated
Common stock other
----------------------- Notes comprehensive Retained
Shares Amount receivable income earnings Total
--------- ---------- ---------- ------------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
BALANCE, January 1, 1999 5,000,000 $ 12,000 $ -- $ -- $ 870,103 $ 882,103
Exercise of stock options 125,000 31,000 (31,000)
Net unrealized gain on available-for-sale
securities, net of taxes of $1,248,650 1,885,953 1,885,953
Net income 2,949,777 2,949,777
--------- ---------- ---------- ---------- ---------- ----------
BALANCE, January 2, 2000 5,125,000 $ 43,000 $ (31,000) $1,885,953 $3,819,880 $5,717,833
========= ========== ========== ========== ========== ==========
</TABLE>
See notes to consolidated financial statements
6
<PAGE> 7
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
FOR THE YEAR ENDED JANUARY 2, 2000
--------------------------------------------------------------------------------
<TABLE>
<S> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 2,949,777
Adjustments to reconcile net income to net cash used in continuing operating
activities:
Loss from discontinued business 670,801
Gain on sale of discontinued business (3,479,615)
Provision for doubtful accounts (48,390)
Depreciation and amortization 134,496
Deferred taxes (114,409)
Loss on sale of property and equipment 61,314
Changes in operating assets and liabilities (net of effects from disposition):
Accounts receivable (328,535)
Inventories (111,293)
Prepaid expenses (23,032)
Accounts payable 104,503
Accrued expenses 369,733
Deferred revenues 67,643
Income taxes payable (371,173)
Other long-term liabilities (16,282)
Other assets (30,000)
-----------
Net cash used in continuing operating activities (164,462)
Net cash used in discontinued operating activities (579,801)
-----------
Net cash used in operating activities (744,263)
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment (116,595)
Proceeds from sale of discontinued business 3,406,000
Distributions to minority members of BeadleNet LLC (722,797)
-----------
Net cash provided by investing activities 2,566,608
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments on obligations under capital leases (19,581)
Proceeds from issuance of notes payable 70,189
Repayments on notes payable (28,658)
-----------
Net cash provided by financing activities 21,950
</TABLE>
See notes to consolidated financial statements
7
<PAGE> 8
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEAR ENDED JANUARY 2, 2000 (CONTINUED)
--------------------------------------------------------------------------------
<TABLE>
<S> <C>
NET INCREASE IN CASH AND CASH EQUIVALENTS $1,844,295
CASH AND CASH EQUIVALENTS, beginning of year 401,380
----------
CASH AND CASH EQUIVALENTS, end of year $2,245,675
==========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION - Cash paid during the year
for:
Income taxes $ --
==========
Interest $ --
==========
NONCASH INVESTING AND FINANCING ACTIVITIES:
Noncash proceeds in connection with sale of BeadleNet LLC -
investments available-for-sale, restricted $4,850,000
==========
Distributions of shares of common stock of Watchguard
Technologies, Inc. to minority members of BeadleNet LLC $1,994,570
==========
Note receivable related to distributions $ 64,872
==========
Issuance of common stock from stock option exercises in exchange
for note receivable $ 31,000
==========
Unrealized gain on available-for-sale securities, net of taxes
of $1,248,650 $1,885,953
==========
</TABLE>
See notes to consolidated financial statements
8
<PAGE> 9
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEAR ENDED JANUARY 2, 2000
--------------------------------------------------------------------------------
1. NATURE OF OPERATIONS
Productivity Enhancement Products, Inc. (the Company) engineers and
manufactures a variety of electronic products in both the data
recognition and financial security markets. The data recognition
products focus on hand-held bar code reading devices and radio frequency
identification systems for the industrial and commercial marketplace.
The Company is a provider in the emerging Internet security market,
which includes data encryption products and noncash transaction cards.
Products are produced and sold out of the corporate office in Laguna
Hills, California.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation - The accompanying consolidated financial
statements have been prepared in accordance with accounting principles
generally accepted in the United States of America.
Principles of Consolidation - The consolidated financial statements
include the accounts of Productivity Enhancement Products, Inc. and its
majority-owned subsidiaries, PEP Smart Systems, LLC and BeadleNet LLC.
These subsidiaries were dissolved prior to January 2, 2000. All
intercompany balances and transactions have been eliminated in the
accompanying consolidated financial statements. Prior to dissolution,
any revenues, assets, and liabilities related to PEP Smart Systems, LLC
were insignificant except a note receivable for approximately $367,000
due to the Company from the minority shareholders. This note was written
off during the year ended January 2, 2000, due to collection
uncertainties.
Fiscal Year - Beginning in fiscal 1999, the Company's fiscal year ends
on the Sunday closest to December 31 (January 2, 2000 for fiscal 1999).
Discontinued Operations - Discontinued operations in the accompanying
consolidated financial statements include the Company's majority-owned
subsidiary, BeadleNet LLC. See Note 11 for additional information
regarding the nature of operation and disposition of the Company's
discontinued operations.
Stock Split - In 1998, the Company's Board of Directors approved a
4-for-1 stock split related to the Company's common stock effective
January 2, 1998. All share and per share amounts have been restated to
reflect the stock split for all periods presented.
Cash and Cash Equivalents - Cash and cash equivalents represent highly
liquid securities, consisting primarily of uninsured money market
accounts, with original maturities of less than 90 days.
9
<PAGE> 10
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEAR ENDED JANUARY 2, 2000 (CONTINUED)
--------------------------------------------------------------------------------
Investments Available for Sale - The Company's investments in publicly
traded equity securities are classified as available for sale and stated
at fair value in accordance with Statement of Financial Accounting
Standards (SFAS) No. 115, Accounting for Certain Investments in Debt and
Equity Securities. The Company records unrealized gains and losses as a
separate component of stockholders' equity in accumulated other
comprehensive income.
Inventories - Inventories consist of finished goods, work-in-progress,
and raw materials and are valued at the lower of cost or market
(first-in, first-out method).
Property and Equipment - Property and equipment are stated at cost, less
accumulated depreciation and amortization. Depreciation and amortization
are computed using the straight-line method over the assets' lives,
which range from three to five years. Leased assets are depreciated over
the lesser of the useful life of the asset or the remaining life of the
lease.
When assets are retired or otherwise disposed of, the cost and the
related accumulated depreciation are removed from the accounts and any
resulting gain or loss is recognized in operations for the period.
Renewals and betterments which extend the life of an existing asset are
capitalized, while normal repairs and maintenance costs are expensed as
incurred.
Other Assets - Other assets consist of interest-bearing notes receivable
from related parties of $64,872 and unrelated parties of $30,000 (Note
11).
Revenue Recognition - The Company recognizes revenue from product sales
at the time of shipment. Revenue from engineering and other services is
recognized when the work is performed.
Revenues related to contracts that require significant modification or
customization are accounted for in conformity with Accounting Research
Bulletin No. 45, Long-Term Construction-Type Contracts, and Statement of
Position (SOP) 81-1, Accounting for Performance of Construction-Type and
Certain Production-Type Contracts. Revenues from such contracts are
recognized on the percentage-of-completion method, measured by the
percentage of costs incurred to date to estimated total contract costs
for each contract. This method is used because management considers
costs incurred to date to be the best available measure of progress on
these contracts.
Contract costs include all direct material and labor costs related to
contract performance. General and administrative costs are charged to
expense as incurred. Provisions for estimated losses on uncompleted
contracts are made in the period in which such losses are determined.
Changes in job performance, job conditions, and estimated profitability
may result in revisions to costs and income and are recognized in the
period in which the revisions are determined.
Provisions for Anticipated Losses on Contracts - Provision for estimated
total contract losses on uncompleted contracts is made in the period in
which such losses are determined in accordance with SOP 81-1. The
Company has accrued approximately $96,000 of contract losses at January
2, 2000.
10
<PAGE> 11
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEAR ENDED JANUARY 2, 2000 (CONTINUED)
--------------------------------------------------------------------------------
Deferred Revenue - Deferred revenue consists of customer prepayments on
product orders. Those amounts are deferred when received and recognized
as revenue at the time of shipment.
Long-Lived Assets - The Company accounts for the impairment and
disposition of long-lived assets in accordance with SFAS No. 121,
Accounting for the Impairment of Long-Lived Assets and Long-Lived Assets
to Be Disposed Of. In accordance with SFAS No. 121, long-lived assets to
be held are reviewed for events or changes in circumstances which
indicate that their carrying value may not be recoverable. There was no
such impairment of the value of such assets as of January 2, 2000.
Accounting For Income Taxes - The Company accounts for income taxes in
accordance with SFAS No. 109, Accounting For Income Taxes, which
requires the recognition of deferred tax liabilities and assets for the
expected future tax consequences of events that have been included in
the financial statements or tax returns. Under this method, deferred tax
liabilities and assets are determined based on the differences between
the financial statements and the tax bases of assets and liabilities
using enacted rates in effect for the year in which the differences are
expected to reverse. Valuation allowances are established, when
necessary, to reduce deferred tax assets to the amount expected to be
realized.
Software Development Costs - Costs incurred in the research and
development of new software products and enhancements to existing
software products are expensed as incurred until technological
feasibility has been established. After technological feasibility is
established, any additional costs would be capitalized in accordance
with SFAS No. 86, Accounting for the Costs of Computer Software to Be
Sold, Leased or Otherwise Marketed. Because the Company believes that
its current process for developing software is essentially completed
concurrently with the establishment of technological feasibility, no
internally generated software development costs have been capitalized as
of January 2, 2000.
Concentration of Credit Risk - The Company's revenues are generated
primarily from product sales and engineering services. The Company
performs ongoing credit evaluations of its customers and does not
require collateral for its receivables. The Company establishes an
allowance for doubtful accounts based on factors surrounding the credit
risk of specific customers, historical trends, and other information.
Customer Concentrations - During the year ended January 2, 2000, sales
to two customers accounted for approximately 66% of total revenues. Each
of these customers accounted for greater than 10% of total revenues for
the year ended January 2, 2000. The loss of, or reduction in, revenues
to these customers would have a material adverse effect on the Company's
business, operating results, and financial condition. No other customers
accounted for more than 10% of total revenues for the year ended January
2, 2000.
11
<PAGE> 12
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEAR ENDED JANUARY 2, 2000 (CONTINUED)
--------------------------------------------------------------------------------
Use of Estimates - The preparation of financial statements in conformity
with accounting principles generally accepted in the United States of
America 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.
Stock-Based Compensation - SFAS No. 123, Accounting for Stock-Based
Compensation, requires the determination and disclosure of compensation
costs implicit in stock option grants or other stock rights. Under the
employee transaction provisions, companies are encouraged, but not
required, to adopt the fair value method of accounting for employee
stock-based transactions. Companies are also permitted to continue to
account for such transactions under Accounting Principles Board (APB)
Opinion No. 25, Accounting for Stock Issued to Employees, but are
required to disclose in a note to the financial statements pro forma net
income or net loss as if the company had adopted SFAS No. 123. The
Company will continue to account for employee stock-based compensation
under APB Opinion No. 25.
Comprehensive Income - The Company adopted SFAS No. 130, Reporting
Comprehensive Income, which establishes standards for the reporting and
display of comprehensive income. Comprehensive income is defined as all
changes in a company's net assets except changes resulting from
transactions with shareholders. At January 2, 2000, the Company had
accumulated other comprehensive income comprising net unrealized gains
on available-for-sale securities, net of taxes.
In June 1998, the Financial Accounting Standards Board (FASB) issued
SFAS No. 133, Accounting for Derivative Instruments and Hedging
Activities. SFAS No. 133 establishes new accounting and reporting
standards for derivative financial instruments and for hedging
activities. SFAS No. 133 requires the Company to measure all derivatives
at fair value and to recognize them in the balance sheet as an asset or
liability, depending on the Company's rights or obligations under the
applicable derivative contract. In June 1999, the FASB issued SFAS No.
137, which deferred the effective date of adoption of SFAS No. 133 for
one year. The Company will adopt SFAS No. 133 no later than the first
quarter of fiscal year 2001. Adoption of the new method of accounting
for derivatives and hedging activities is not expected to have a
material impact on the Company's financial statements.
12
<PAGE> 13
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEAR ENDED JANUARY 2, 2000 (CONTINUED)
--------------------------------------------------------------------------------
3. PROPERTY AND EQUIPMENT
Property and equipment consist of the following at January 2, 2000:
<TABLE>
<S> <C>
Machinery and other equipment $ 119,832
Furniture and fixtures 74,170
Office equipment 150,497
Leasehold improvements 24,059
---------
368,558
Less accumulated depreciation and amortization (244,121)
---------
$ 124,437
=========
</TABLE>
At January 2, 2000, included in machinery and other equipment is $56,151
of equipment under capital leases. At January 2, 2000, accumulated
amortization of assets under capital leases was $43,167.
4. INVESTMENT IN SECURITIES
At January 2, 2000, all of the Company's investments are in equity
securities and classified as available for sale. At January 2, 2000,
investments in equity securities have a cost of $4,113,705, gross
unrealized gains of $1,885,953, net of taxes of $1,248,650, gross
unrealized losses of zero and an estimated fair value of $5,999,658.
There were no proceeds from the sales of equity investments during the
year ended January 2, 2000. The equity securities are comprised
primarily of unregistered shares of Watchguard Technologies, Inc. common
stock and certain shares have been pledged as collateral through October
2000 (Note 11).
5. ACCRUED EXPENSES
Accrued expenses consist of the following at January 2, 2000:
<TABLE>
<S> <C>
Accrued payroll and bonus $195,194
E-commerce cash receipts owed to Watchguard Technologies, Inc. 122,588
Accrued contract losses 95,853
Accrued vacation 31,200
Other 102,502
--------
$547,337
========
</TABLE>
13
<PAGE> 14
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEAR ENDED JANUARY 2, 2000 (CONTINUED)
-------------------------------------------------------------------------------
6. LINE OF CREDIT
The Company has executed a revolving credit agreement with a bank which
provides for maximum borrowings of $750,000. The Company's available
credit under this agreement is the lesser of $750,000 or 80% of the
aggregate amount of eligible accounts receivable as established by the
definitions in the credit agreement. As amended, borrowings under the
credit agreement bear interest at the bank's reference rate plus 1.0%
(9.50% at January 2, 2000). The revolving credit agreement includes
certain financial covenants including minimum tangible net worth. The
Company was in compliance with all financial covenants as of January 2,
2000. There were no amounts outstanding under the credit agreement as of
January 2, 2000.
7. CAPITAL LEASE OBLIGATIONS
The Company leases certain computer equipment under capital leases that
expire at various dates through August 2001. Minimum annual lease
commitments under capital leases as of January 2, 2000 are as follows:
<TABLE>
<CAPTION>
Fiscal year:
<S> <C>
2000 $ 9,265
2001 5,712
--------
Total minimum lease payments 14,977
Less amount representing interest (1,098)
--------
Present value of minimum lease payments 13,879
Less current portion (8,363)
--------
$ 5,516
========
</TABLE>
8. NOTES PAYABLE
Notes payable consist of the following at January 2, 2000:
<TABLE>
<S> <C>
Note payable to a bank bearing interest at the bank's
prime rate plus 1.5% (9.25% at January 2, 2000)
payable in monthly principal and interest installments
of $829 from November 1998 to May 2001, collateralized
by primarily all assets of the Company $12,402
</TABLE>
14
<PAGE> 15
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEAR ENDED JANUARY 2, 2000 (CONTINUED)
--------------------------------------------------------------------------------
<TABLE>
<S> <C>
Note payable to a bank bearing interest at the bank's prime rate plus 1.5%
(9.25% at January 2, 2000) payable in monthly principal and interest
installments of $2,050 from April 1999 to March 2002, collateralized by
primarily all assets of the Company $ 49,906
--------
62,308
Less current portion (30,076)
--------
$ 32,232
========
</TABLE>
Principal maturities of notes payable consist of the following at
January 2, 2000:
<TABLE>
<CAPTION>
Fiscal year:
<S> <C>
2000 $30,076
2001 26,165
2002 6,067
-------
$62,308
=======
</TABLE>
9. COMMITMENTS
The Company leases office space and certain equipment under operating
leases which expire on various dates through September 2000. Future
annual minimum lease payments under noncancelable operating lease
arrangements at January 2, 2000 are as follows:
<TABLE>
<S> <C>
Fiscal year 2000 $114,636
========
</TABLE>
Rental expense under operating leases was approximately $131,978 for the
year ended January 2, 2000.
10. INCOME TAXES
The provision for income taxes consists of the following for the year
ended January 2, 2000:
<TABLE>
<S> <C>
Current:
Federal $70,977
State 14,669
-------
85,646
</TABLE>
15
<PAGE> 16
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEAR ENDED JANUARY 2, 2000 (CONTINUED)
--------------------------------------------------------------------------------
<TABLE>
<S> <C>
Deferred:
Federal $(10,833)
State (2,574)
--------
(13,407)
--------
$ 72,239
========
</TABLE>
A reconciliation of the provision for income taxes to the amount of income tax
expenses that would result from applying the federal statutory rate of 34% to
income before income tax provision is as follows for the year ended January 2,
2000:
<TABLE>
<S> <C>
Provision for income taxes at statutory rate 34.0 %
General business credit (4.1)
State taxes, net of federal benefit 3.7
Other 0.4
----
34.0 %
====
</TABLE>
Net deferred tax assets (liabilities) are as follows as of January 2,
2000:
<TABLE>
<S> <C>
Current:
Unrealized gain securities $(1,248,650)
Bad debt allowance 11,824
Accrued vacation 13,366
Inventory reserve
Warranty reserve 4,284
State tax accrual difference 127,826
Other 6,838
-----------
(1,084,512)
Long Term:
Depreciation and amortization 16,757
-----------
Net deferred tax assets (liabilities) $(1,067,755)
===========
</TABLE>
16
<PAGE> 17
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEAR ENDED JANUARY 2, 2000 (CONTINUED)
--------------------------------------------------------------------------------
11. DISPOSITION OF BUSINESS
BeadleNet LLC - BeadleNet LLC was formed on January 1, 1999, as a
majority-owned subsidiary of the Company and as a provider of secure
Internet and networking solutions. Effective October 19, 1999, the
Company sold the assets of BeadleNet LLC, pursuant to an asset purchase
agreement dated as of October 19, 1999 to Watchguard Technologies, Inc.
The total purchase price comprised: (1) $3,406,000 in cash paid at
closing, and (2) 335,931 unregistered shares of Watchguard Technologies,
Inc. common stock issued at closing with a fair value of $4,850,000. Of
these unregistered shares, 173,160 are pledged as collateral to
Watchguard Technologies, Inc. until certain indemnification obligations
are satisfied through October 19, 2000.
Loss from operations of discontinued business and gain on sale of
discontinued business are reflected net of amounts attributed to
minority interest participation. Minority interest participation was
affected by direct distribution of 138,152 unregistered shares of
Watchguard Technologies, Inc. common stock with a fair value of
$1,994,570, cash of $722,797 to the minority interest members of
BeadleNet LLC and the minority members' initial cash contribution of
$355,000. The Company received a note receivable in the amount of
$64,872 from an officer of BeadleNet LLC in exchange for a portion of
the minority interest participation. This note receivable is due during
fiscal 2001. BeadleNet LLC revenues, assets, and liabilities were
insignificant at the date of sale. BeadleNet LLC recorded net losses of
$1,442,270, net of tax benefits of $416,469 and minority interest
participation of $355,000 during the year ended January 2, 2000.
Effective November 25, 1999, BeadleNet LLC was dissolved.
In connection with the Asset Purchase Agreement, Watchguard
Technologies, Inc. was obligated to pay an additional $1,000,000 in
contingent consideration, comprised of $400,000 in cash and a number of
unregistered shares of Watchguard Technologies, Inc. common stock with a
fair value of $600,000, which became due upon completion and delivery of
certain technology items. These technology items were completed and
delivered and the Company received $400,000 in cash and 20,189 shares of
Watchguard Technologies, Inc. common stock with a fair value of $600,000
during January 2000. The Company distributed 14,132 of these shares of
Watchguard Technologies, Inc. common stock and approximately $280,000 in
cash to a minority member of BeadleNet LLC during January 2000. This
contingent consideration was recognized as a gain by the Company during
January 2000.
12. SHAREHOLDERS' EQUITY
Repurchase of Common Stock - During August 1998, the Company repurchased
5,000 shares of common stock at $0.32 per share from an employee.
17
<PAGE> 18
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEAR ENDED JANUARY 2, 2000 (CONTINUED)
--------------------------------------------------------------------------------
Compensation Expense - On January 1, 1999, BeadleNet LLC issued a total
of 2,894,000 members' units to an officer of BeadleNet LLC for no
consideration. Management estimated the fair value of these members'
units to be approximately $0.03 per unit. The Company has recorded
compensation expense of $91,000 for this issuance during the year ended
January 2, 2000, which is included in loss from operations of
discontinued business in the accompanying consolidated financial
statements.
Stock Option Plan - In January 1997, the Company adopted the 1996 Stock
Incentive Plan (the Plan), which provides for the granting of up to
1,000,000 incentive and nonstatutory stock options to purchase common
stock to officers, employees, and consultants. The incentive and
nonstatutory stock options may not be issued at prices less than the
fair market value at the date of grant. All options expire at a maximum
of 10 years from the date of grant. Incentive and nonstatutory stock
options vest ratably over four years and two years, respectively.
Stock option activity under the Plan is as follows:
<TABLE>
<S> <C> <C>
Outstanding, January 1, 1999 859,000 $ 0.29
Granted (weighted-average fair value
of $0.12 per share) 309,000 $ 0.28
Exercised (125,000) $ 0.25
Canceled (167,000) $ 0.28
--------
Outstanding, January 2, 2000 876,000 $ 0.30
========
</TABLE>
18
<PAGE> 19
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEAR ENDED JANUARY 2, 2000 (CONTINUED)
--------------------------------------------------------------------------------
The following table summarizes information about stock options
outstanding as of January 2, 2000:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
---------------------------------------- --------------------------
WEIGHTED-
AVERAGE WEIGHTED- WEIGHTED-
REMAINING AVERAGE AVERAGE
EXERCISE NUMBER CONTRACTUAL EXERCISE NUMBER EXERCISE
PRICE OUTSTANDING LIFE PRICE EXERCISABLE PRICE
----------- ----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
$0.20 285,000 7.22 $0.20 270,743 $0.20
$0.28 267,000 9.84 $0.28 20,547 $0.28
$0.30 10,000 7.94 $0.30 5,144 $0.30
$0.32 314,000 8.64 $0.32 154,115 $0.32
------- -------
876,000 450,549
======= =======
</TABLE>
The Company applies APB Opinion No. 25, Accounting for Stock Issued to
Employees, and related interpretations to account for the Plan. Had compensation
cost for the Plan been determined based on the fair value at the date of grant
consistent with the method of SFAS No. 123, the Company's net income would have
been the pro forma amount indicated below:
<TABLE>
<S> <C>
Net income, as reported $2,949,777
Net income, pro forma $2,929,352
</TABLE>
The fair value of options granted under the Plan was estimated on the
date of grant using the Black-Scholes option-pricing model, with the
following weighted-average assumptions during fiscal 1999: no dividend
yield, risk-free interest rate of 6.0%, zero volatility, and an expected
life of ten years.
13. RELATED-PARTY TRANSACTIONS
The Company entered into an agreement with an officer of the Company
whereby the Company will lease the officer's airplane and pay insurance
costs related to the airplane. The lease agreement shall remain in force
until canceled by either party. Total costs related to this agreement,
recorded by the Company during the year ended January 2, 2000, were
approximately $8,400.
During fiscal 1999, the Company made automobile lease and
insurance-related payments totaling approximately $16,200 on behalf of
an officer of the Company.
19
<PAGE> 20
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEAR ENDED JANUARY 2, 2000 (CONTINUED)
--------------------------------------------------------------------------------
14. SUBSEQUENT EVENTS
On February 26, 2000, the Company approved a plan to buy at a price of
$2.00 per share all shares of common stock issued under the Company's
1996 Stock Incentive Plan and stock options issued under the Company's
1996 Stock Incentive Plan outstanding as of January 2, 2000 (upon
vesting). The Company expects to pay approximately $2,034,000 through
fiscal 2003 related to this Plan. The Company expects to record
approximately $1,076,000 of compensation expense and related costs
during fiscal 2000 related to this Plan.
On March 3, 2000, the Internal Revenue Service approved the request of
the Company to be taxed as an S corporation under the provisions of the
federal and state tax codes.
20
<PAGE> 21
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
AS OF JANUARY 2, 2000 AND JULY 2, 2000 (UNAUDITED)
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
JANUARY 2, JULY 2,
2000 2000
----------- -----------
(UNAUDITED)
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 2,245,675 $ 283,333
Investments available-for-sale, restricted 5,999,658 11,198,240
Accounts receivable, net of allowance for doubtful accounts of
$27,600 and $24,022 at January 2, 2000 and July 2, 2000 1,196,544 1,025,271
Inventories, net 404,666 697,691
Prepaid expenses 60,648 82,529
Income taxes receivable 71,278
----------- -----------
Total current assets 9,907,191 13,358,342
PROPERTY AND EQUIPMENT, net 124,437 213,073
DEFERRED TAX ASSETS 16,757
OTHER ASSETS 94,872 94,872
----------- -----------
$10,143,257 $13,666,287
=========== ===========
</TABLE>
See notes to consolidated financial statements
21
<PAGE> 22
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
AS OF JANUARY 2, 2000 AND JULY 2, 2000 (UNAUDITED) (CONTINUED)
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
JANUARY 2, JULY 2,
2000 2000
------------ ------------
(UNAUDITED)
<S> <C> <C>
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 522,045 $ 678,434
Accrued expenses 547,337 357,842
Deferred revenue 303,648 297,432
Income taxes payable 1,891,695
Deferred tax liabilities 1,084,512 1,435,055
Current portion of capital lease obligations 8,363 45,312
Current portion of notes payable 30,076 728,576
------------ ------------
Total current liabilities 4,387,676 3,542,651
CAPITAL LEASE OBLIGATIONS, less current portion 5,516 4,378
NOTES PAYABLE, less current portion 32,232 20,322
SHAREHOLDERS' EQUITY:
Common stock, $0.00004 par value; 100,000,000 shares authorized; 5,140,000 and
5,125,000 shares issued and outstanding at
July 2, 2000 and January 2, 2000 43,000 46,000
Notes receivable (31,000) (31,000)
Accumulated other comprehensive income 1,885,953 6,706,935
Retained earnings 3,819,880 3,377,001
------------ ------------
Total shareholders' equity 5,717,833 10,098,936
------------ ------------
$ 10,143,257 $ 13,666,287
============ ============
</TABLE>
See notes to consolidated financial statements
22
<PAGE> 23
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE OPERATIONS FOR
THE SIX MONTHS ENDED JULY 4, 1999 AND JULY 2, 2000 (UNAUDITED)
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
SIX MONTHS ENDED
-----------------------------
JULY 4, JULY 2,
1999 2000
----------- -----------
(UNAUDITED)
<S> <C> <C>
REVENUES:
Product revenues $ 2,103,600 $ 2,932,587
Engineering and other revenues 557,987 521,465
----------- -----------
Total revenues 2,661,587 3,454,052
COST OF REVENUES 1,810,034 2,250,087
----------- -----------
GROSS PROFIT 851,553 1,203,965
SELLING, GENERAL, AND ADMINISTRATIVE EXPENSES 831,448 1,590,026
WRITE-OFF OF NOTE RECEIVABLE 350,000
----------- -----------
OPERATING LOSS (329,895) (386,061)
OTHER INCOME (EXPENSE), net (6,519) 16,570
----------- -----------
LOSS BEFORE PROVISION (BENEFIT) FOR INCOME TAXES (336,414) (369,491)
PROVISION (BENEFIT) FOR INCOME TAXES (113,987) 349,858
----------- -----------
LOSS FROM CONTINUING OPERATIONS (222,427) (719,349)
DISCONTINUED OPERATIONS:
Loss from operations of discontinued business, net of minority
interest participation of $151,223, and tax benefits of $141,142 (211,713)
Gain on sale of discontinued business, net 276,470
----------- -----------
NET LOSS (434,140) (442,879)
OTHER COMPREHENSIVE INCOME:
Net unrealized gain on available-for-sale securities, net of taxes 4,820,982
----------- -----------
COMPREHENSIVE INCOME (LOSS) $ (434,140) $ 4,378,103
=========== ===========
</TABLE>
See notes to consolidated financial statements
23
<PAGE> 24
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
CONDENSED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JULY 4, 1999 AND JULY 2, 2000 (UNAUDITED)
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
SIX MONTHS ENDED
-----------------------------
JULY 4, JULY 2,
1999 2000
----------- -----------
(UNAUDITED)
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (434,140) $ (442,879)
Adjustments to reconcile net loss to net cash used in
continuing operating activities:
Loss from discontinued business 211,713
Gain on sale of discontinued business (276,470)
Provision for doubtful accounts (49,216) (3,578)
Depreciation and amortization 62,597 59,374
Deferred taxes 49,729 170,895
Changes in operating assets and liabilities
(net of effects from disposition):
Accounts receivable 157,392 174,851
Inventories (27,073) (293,025)
Prepaid expenses (17,928) (21,881)
Accounts payable 855 156,389
Accrued expenses 128,845 (189,495)
Deferred revenues (27,172) (6,216)
Income taxes payable (227,606) (85,205)
----------- -----------
Net cash used in continuing operating activities (172,004) (757,240)
Net cash used in discontinued operating activities (321,701) (1,877,768)
----------- -----------
Net cash used in operating activities (493,705) (2,635,008)
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment (46,534) (91,760)
Net proceeds from sale of discontinued business 375,275
Distributions to minority members of BeadleNet LLC (280,000)
----------- -----------
Net cash (used in) provided by investing activities (46,534) 3,515
</TABLE>
See notes to consolidated financial statements
24
<PAGE> 25
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JULY 4, 1999 AND JULY 2, 2000 (UNAUDITED) (CONTINUED)
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
SIX MONTHS ENDED
-----------------------------
JULY 4, JULY 2,
1999 2000
----------- -----------
(UNAUDITED)
<S> <C> <C>
CASH FLOWS FROM FINANCING ACTIVITIES:
Net borrowings under line of credit $ 200,000 $ --
Payments on notes payable and obligations under capital leases (21,143) (33,849)
Proceeds from issuance of notes payable 64,000 700,000
Proceeds from issuance of common stock related to the exercise
of stock options 3,000
----------- -----------
Net cash provided by financing activities 242,857 669,151
----------- -----------
NET DECREASE IN CASH AND CASH EQUIVALENTS (297,382) (1,962,342)
CASH AND CASH EQUIVALENTS, beginning of period 401,380 2,245,675
----------- -----------
CASH AND CASH EQUIVALENTS, end of period $ 103,998 $ 283,333
=========== ===========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW
INFORMATION - Cash paid during the period for:
Income taxes $ 126,000 $ 2,116,200
=========== ===========
Interest $ 6,860 $ 4,940
=========== ===========
NONCASH INVESTING AND FINANCING ACTIVITIES:
Noncash proceeds in connection with sale of BeadleNet LLC -
investments available-for-sale, restricted $ -- $ 600,000
=========== ===========
Distributions of shares of common stock of Watchguard
Technologies, Inc. to minority members of BeadleNet LLC $ -- $ 419,991
=========== ===========
Unrealized gain on available-for-sale securities, net of taxes
of $196,405 $ -- $ 4,820,982
=========== ===========
Acquisition of property and equipment and/or capital lease agreements $ -- $ 56,250
=========== ===========
</TABLE>
See notes to consolidated financial statements
25
<PAGE> 26
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE SIX MONTHS ENDED JULY 4, 1999 AND JULY 2, 2000 (UNAUDITED)
--------------------------------------------------------------------------------
1. BASIS OF PRESENTATION
The financial statements at July 2, 2000, and for the six months ended
July 4, 1999 and July 2, 2000 are unaudited, but include all adjustments
(consisting only of normal recurring adjustments) that the Company
considers necessary for a fair presentation of financial position and
operating results. Operating results for the six-month periods ended
July 4, 1999 and July 2, 2000 are not necessarily indicative of results
that may be expected for any future periods.
The accompanying unaudited interim financial statements have been
prepared with the assumption that users of the interim financial
information have read Productivity Enhancement Products, Inc. and
subsidiaries' audited financial statements for the year ended January 2,
2000. Accordingly, footnote disclosures which would substantially
duplicate the disclosures contained in these audited financial
statements have been omitted from these unaudited interim financial
statements. While management believes the disclosures presented are
adequate to make these financial statements not misleading, these
financial statements should be read in conjunction with Productivity
Enhancement Products, Inc. and subsidiaries' audited financial
statements and related notes.
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the amounts
reported in the financial statements. Actual results may differ from
those estimates.
2. ADDITIONAL CONSIDERATION RELATED TO THE SALE OF BEADLENET, LLC
In connection with the Asset Purchase Agreement between the Company and
Watchguard Technologies, Inc., Watchguard Technologies, Inc. was
obligated to pay an additional $1,000,000 in contingent consideration,
comprised of $400,000 in cash and a number of unregistered shares of
Watchguard Technologies, Inc. common stock with a fair value of
$600,000, which became due upon completion and delivery of certain
technology items. These technology items were completed and delivered
and the Company received $400,000 in cash and 20,189 shares of
Watchguard Technologies, Inc. common stock with a fair value of $600,000
during January 2000.
On January 14, 2000, the Company's Board of Directors approved this
additional consideration to be distributed 30% to the Company and 70% to
the former minority member of BeadleNet, Inc. Accordingly, the Company
distributed 14,132 of these shares of Watchguard Technologies, Inc.
common stock and approximately $280,000 in cash to the former minority
member of BeadleNet LLC during January 2000. This contingent
consideration, less the amounts distributed to the former minority
member of BeadleNet LLC and legal costs was recognized as a gain by the
Company during the six months ended July 2, 2000.
26
<PAGE> 27
PRODUCTIVITY ENHANCEMENT PRODUCTS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE SIX MONTHS ENDED JULY 4, 1999 AND JULY 2, 2000 (UNAUDITED) (CONTINUED)
--------------------------------------------------------------------------------
3. SIGNIFICANT EVENTS
Effective January 3, 2000, the Company changed its tax status from a C
corporation to an S corporation. As an S corporation, the Company shall
not be subject to federal income tax but is only subject to a 1.5%
franchise tax in the State of California. For the six months ended July
2, 2000, the provision for income taxes of $349,858 represents the
adjustment necessary to eliminate deferred tax assets, as adjusted, as a
result of the Company's change in tax status to an S Corporation. The
Company will also be subject to federal and state income taxes on built
in gains in the event assets are sold or disposed of during the ten year
period subsequent to the change in status. The deferred income tax
liability of $1,435,055 at July 2, 2000 represents primarily the
estimated built in gains taxes on available-for-sale securities. At July
2, 2000, the Company has recorded income taxes receivable of $71,278,
which represents the estimated refund due from its 1999 federal and
state income tax returns.
In connection with the Company's purchase of shares of common stock
issued under the Company's 1996 Stock Incentive Plan and stock options
issued under the Company's 1996 Stock Incentive Plan outstanding as of
January 2, 2000 ( upon vesting), the Company recorded compensation
expense of approximately $700,000 during the six months ended July 2,
2000. This amount is included in selling, general, and administrative
expenses in the accompanying condensed consolidated statements of
operations and comprehensive operations.
4. SUBSEQUENT EVENTS
In October 2000, the Company was acquired by Dense-Pac Microsystems,
Inc. (Dense-Pac), a designer and manufacturer of proprietary and
patented three-dimensional high-density memory products. Dense-Pac
issued 884,167 shares of common stock in exchange for all capital stock
of the Company and the book value of liabilities. In connection with
this transaction, the Company's available-for-sale investments were
distributed to a shareholder of the Company.
* * * * * *
27
