<PAGE>
FORM 10-QSB
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended August 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________
Commission file number 01-10076
APPLIED RESEARCH CORPORATION
----------------------------------------------
(Exact name of small business issuer as
specified in its charter)
Colorado 86-0585693
- --------------------------------- -----------------------
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification Number)
8201 Corporate Drive, Suite 1110, Landover, Maryland 20785
---------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
(301) 459-3773
---------------------------------------------------
(Registrant's telephone number, including area code)
----------------------------------------------
(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 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 [X] No [ ]
As of October 15, 1998, the Company had 6,311,083 shares of its $.01 par value
common stock outstanding.
Transitional Small Business Disclosure Format (check one): Yes [ ] No [X]
<PAGE>
<PAGE>
FORM 10-QSB
APPLIED RESEARCH CORPORATION
INDEX
-----
Part I: FINANCIAL INFORMATION Page No.
- ------- --------------------- -------
Item 1 Financial Statements
Condensed Consolidated Balance Sheets -
August 31, 1998 (unaudited) and May 31, 1998 3-4
Condensed Consolidated Statements of Operations -
Three months ended August 31, 1998 and
1997 (unaudited) 5
Condensed Csolidated Statements of Cash Flows -
Three months ended August 31, 1998 and
1997 (unaudited) 6-7
Notes to Condensed Consolidated Financial Statements 8
Item 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations 9
Part II: OTHER INFORMATION
- -------- -----------------
Item 1 Legal Proceedings 10
Item 2 Changes in Securities 10
Item 3 Defaults Upon Senior Securities 10
Item 4 Submission of Matters to a Vote of Security Holders 10
Item 5 Other Information 10
Item 6 Exhibits and Reports on Form 8-K 10
Signatures 11
<PAGE>
<PAGE>
APPLIED RESEARCH CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
August 31, May 31,
1998 1998
(Unaudited) (Audited)
------------- -------------
<S> <C> <C>
ASSETS
- ------
CURRENT ASSETS
Cash $ 31,454 $ 46,965
Accounts receivable, net 163,974 163,477
Due from Space Applications Corporation,
short-term 251,033 34,900
Other current assets 16,471 14,774
------------- -------------
TOTAL CURRENT ASSETS 462,932 260,116
------------- -------------
PROPERTY AND EQUIPMENT, AT COST
Furniture and equipment 20,728 20,728
Computer equipment 136,458 136,458
Leasehold improvements 200 200
------------- -------------
157,386 157,386
Less accumulated depreciation and
amortization 137,286 131,892
------------- -------------
NET PROPERTY AND EQUIPMENT 20,100 25,494
------------- -------------
OTHER ASSETS
Due from Space Applications Corporation,
long-term - 287,500
------------- -------------
TOTAL ASSETS $ 483,032 $ 573,110
============= =============
</TABLE>
See accompanying notes to the condensed consolidated
financial statements.
<PAGE>
<PAGE>
APPLIED RESEARCH CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS - Continued
<TABLE>
<CAPTION>
August 31, May 31,
1998 1998
(Unaudited) (Audited)
------------- -------------
<S> <C> <C>
LIABILITIES
- -----------
CURRENT LIABILITIES
Liabilities not subject to compromise:
Notes payable, current maturities $ 540 $ 2,120
Loans payable to officers and directors 43,368 44,810
Accounts payable 289,465 263,995
Accrued salaries and benefits 39,434 39,434
Accrued payroll taxes and withholdings 18,807 6,874
Other accrued liabilities 53,338 62,125
Deferred revenue 54,895 64,267
------------- -------------
Total liabilities not subject to compromise 499,847 483,625
------------- -------------
Liabilities subject to compromise:
Accounts payable - 272,338
Accrued salaries and benefits 198,003 382,781
Accrued payroll taxes and withholdings 150,000 166,039
Accrued interest and penalties 34,338 395,563
------------- -------------
Total liabilities subject to compromise 382,341 1,216,721
------------- -------------
TOTAL CURRENT LIABILITIES 882,188 1,700,346
------------- -------------
STOCKHOLDERS' DEFICIT
- ---------------------
Preferred stock, $.10 par value,
40,000,000 shares authorized, none issued - -
Common stock, $.0005 par value,
60,000,000 shares authorized, 6,811,083
shares issued and 6,311,083 shares
outstanding 3,155 3,155
Capital in excess of par value 1,140,529 1,140,529
Accumulated deficit (1,542,840) (2,270,920)
------------- -------------
TOTAL STOCKHOLDERS' DEFICIT (399,156) (1,127,236)
------------- -------------
TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIT $ 483,032 $ 573,110
============= =============
</TABLE>
See accompanying notes to the condensed consolidated
financial statements
<PAGE>
<PAGE>
APPLIED RESEARCH CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
THREE MONTHS ENDED AUGUST 21, 1998 AND 1997
-------------------------------------------
<TABLE>
<CAPTION>
1998 1997
(Unaudited) (Unaudited)
------------- -------------
<S> <C> <C>
Revenue $ 97,314 $ 132,583
------------- -------------
Operating costs and expenses:
Direct cost of services 58,135 61,827
General & administrative expenses 73,739 86,280
------------- -------------
Total operating costs and expenses 131,874 148,107
------------- -------------
Operating loss from continuing operations (34,560) (15,524)
------------- -------------
Other (income) expense:
Interest expense, net 370 374
Other, net (2) 3,121
------------- -------------
Total other (income) expense 368 3,495
------------- -------------
Loss from continuing operations before
income taxes (benefit) (34,928) (19,019)
------------- -------------
Income taxes (benefit) (294,700) (537,600)
------------- -------------
Income from continuing operations 259,772 518,581
------------- -------------
Income (loss) from discontinued operations
before reorganization items, net of income
tax (tax benefit) of $(37,700) in 1997 3,806 (32,024)
Reorganization items:
Professional fees (3,811) (27,805)
Income (loss) from the sale of discontinued
operations, net of income tax (benefit)
of $(14,100) in 1998 and $575,300 in 1997 (22,367) 914,306
------------- -------------
Income (loss) from discontinued operations (22,372) 854,477
------------- -------------
Net Income before extraordinary item 237,400 1,373,058
------------- -------------
Extraordinary item, net of income
taxes of $308,800 490,680 -
------------- -------------
Net Income $ 728,080 $ 1,373,058
============= =============
Net income per common share:
Income before discontinued operations $ 0.04 $ 0.08
Income (loss) from discontinued operations - 0.14
------------- -------------
Income before extraordinary items 0.04 0.22
------------- -------------
Income from extraordinary item 0.08 -
------------- -------------
Net income per common share $ 0.12 $ 0.22
============= =============
Weighted average number of shares outstanding 6,311,083 6,311,083
============= =============
</TABLE>
See accompanying notes to the condensed consolidated
financial statements
<PAGE>
<PAGE>
APPLIED RESEARCH CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
THREE MONTHS ENDED AUGUST 31, 1998 AND 1997
-------------------------------------------
<TABLE>
<CAPTION>
1998 1997
(Unaudited) (Unaudited)
------------- -------------
<S> <C> <C>
Cash flows from operating activities:
Cash received from customers $ 87,444 $ 1,127,709
Cash paid to suppliers and employees (95,850) (1,663,274)
Interest paid (272) (16,503)
Income taxes paid - (900)
------------- -------------
Net cash used by operating activities
before reorganization items (8,678) (552,968)
------------- -------------
Operating cash flows from reorganization items:
Professional fees paid for services
rendered in connection with the
Chapter 11 proceeding (3,811) (27,805)
------------- -------------
Net cash used by reorganization items (3,811) (27,805)
------------- -------------
Net cash used by operating activities (12,489) (580,773)
------------- -------------
Cash flows from investing activities:
Proceeds received from the sale of
discontinued operations - 1,172,400
Capital expenditures - (2,807)
------------- -------------
Net cash provided from investing activities - 1,169,593
------------- -------------
Cash flows from financing activities:
Advances from (repayments to) loans from
officers and directors (1,442) 7,500
Proceeds of loans from receivables
assignment - not subject to compromise - 308,336
Repayment of loans from receivables
assignment - not subject to compromise - (812,379)
Repayment of equipment loan -
not subject to compromise (1,580) (1,451)
------------- -------------
Net cash used in financing activities (3,022) (497,994)
------------- -------------
Net (decrease) increase in cash (15,511) 90,826
Cash at the beginning of period 46,965 228,414
------------- -------------
Cash at the end of period $ 31,454 $ 319,240
============= =============
</TABLE>
See accompanying notes to the condensed consolidated
financial statements
<PAGE>
<PAGE>
APPLIED RESEARCH CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS - Continued
THREE MONTHS ENDED AUGUST 31, 1998 AND 1997
--------------------------------------------
<TABLE>
<CAPTION>
1998 1997
(Unaudited) (Unaudited)
------------- -------------
<S> <C> <C>
Reconciliation of net income to net cash
provided from (used by) operating activities:
Net income $ 728,080 $ 1,373,058
Adjustments to reconcile net income to
net cash provided rom (used by) operating
activities:
Depreciation 5,394 10,206
Amortization - 1,332
Gain (loss) from the sale of discontinued
operations 22,367 (914,306)
Income (tax) benefit generated by gain on
the sale of discontinued operations 14,100 (575,300)
Extraordinary item (490,680) -
Income tax benefit generated by
extraordinary item (308,800) -
Changes in assets and liabilities:
Decrease (increase) in accounts receivable (497) 714,442
Decrease in inventory - 2,324
Increase in other current assets (254,297) (14,669)
Decrease in other assets 287,500 7,359
Decrease in accounts payable -
subject to compromise - (50,000)
Increase in accounts payable -
not subject to compromise 25,470 30,368
Decrease in accrued salaries and benefits -
subject to compromise (34,900) (182,581)
Decrease in accrued salaries and benefits -
not subject to compromise - (195,831)
Decrease in accrued payroll taxes and
withholdings - subject to compromise - (559,367)
Increase (decrease) in accrued payroll taxes
and withholdings - not subject to compromise 11,933 (101,351)
Decrease in other accrued liabilities -
not subject to compromise (8,787) (75,916)
Increase (decrease) in accrued interest
and penalties - subject to compromise - (49,641)
Decrease in deferred revenue (9,372) -
Decrease in income taxes payable - (900)
------------- -------------
Net cash used by operating activities $ (12,489) $ (580,773)
============= =============
</TABLE>
See accompanying notes to the condensed consolidated
financial statements
<PAGE>
<PAGE>
APPLIED RESEARCH CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. BASIS OF PRESENTATION
---------------------
The Condensed Consolidated Balance Sheet as of August 31, 1998, the Condensed
Consolidated Statements of Operations for the three months ended August 31,
1998 and 1997, and the Consolidated Statements of Cash Flows for the three
months ended August 31, 1998 and 1997, have been prepared by the Company and
are unaudited. In the opinion of management, all adjustments (which include
only normal recurring adjustments) necessary to present fairly the financial
position, results of operations and cash flows at August 31, 1998, and for all
periods presented, have been made.
The Company owns 95% of ARInternet which was formed during November, 1994.
However, because the minority interest in net losses of ARInternet exceeded
the carrying value of the minority interest amount at August 31, 1998, no
minority interest has been reflected in the Condensed Consolidated Financial
Statements.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting
principles have been omitted. It is suggested that these Condensed
Consolidated Financial Statements be read in conjunction with the Financial
Statements and Notes thereto included in the Company's Annual Report on Form
10-KSB for the fiscal year ended May 31, 1998. The results of operations for
the period ended August 31, 1998, are not necessarily indicative of the
operating results for the full year.
2. INCOME (LOSS) PER COMMON SHARE
------------------------------
In February 1997, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 128, "Earnings per Share"
(SFAS no. 128). This statement established standards for computing and
presenting earnings per share. In accordance with this statement, basic net
income (loss) per share of common stock has been computed based on the
weighted average number of shares of common stock outstanding for the period.
Diluted net income per share of common stock is computed on the weighted
average number of shares of common stock and common stock equivalents
outstanding for the year. Diluted net income (loss) per share has not been
shown in 1998 and 1997 as the stock options would be anti-dilutive.
3. RECLASSIFICATIONS
-----------------
Certain amounts in the Condensed Consolidated Balance Sheet as of May 31,
1998, the Condensed Consolidated Statements of Operations for the three months
period ended August 31, 1997, and the Condensed Consolidated Statements of
Cash Flows for the three months then ended have been reclassified to conform
to the August 31, 1998, presentation.
4. VOLUNTARY PETITION FOR RELIEF UNDER CHAPTER 11/SALE OF ARM'S ASSETS AND
MANAGEMENT'S PLANS TO CONTINUE AS A GOING CONCERN
-------------------------------------------------------------------
On April 2, 1996, ARM filed a petition for relief under Chapter 11 of the
federal bankruptcy laws in the United States Bankruptcy Court for the Southern
District of Maryland. Neither ARC, ARS nor ARInternet filed for relief.
Under Chapter 11, certain claims against ARM in existence prior to the filing
of the petition for relief under the federal bankruptcy laws were stayed while
ARM continued business operations as Debtor-In-Possession. These claims are
reflected in the information provided in Note 6 under "liabilities subject to
compromise". Claims secured against the ARM's assets ("secured claims") also
were stayed, although the holders of such claims had the right to move the
court for relief from the stay. Secured claims were secured primarily by
liens on ARM's property, including ARM's accounts receivable.
On April 5, 1996, ARM received an emergency hearing with the Bankruptcy Court
to determine its request to pay its employees their pre-petition wages as well
as continue to operate the business. Prior to the emergency hearing, ARM
reached an agreement with the IRS and its principle lender, CFC, to allow the
company to continue to operate and borrow money from CFC against its billed
receivables. Under this agreement, ARM agreed to pay $15,000 a month starting
April 1996, towards its arrearage with the IRS. The April payment consisted
of $13,600 of cash seized by the IRS on April 1, 1996. Subsequent monthly
payments continued to be made directly to the IRS by CFC from borrowings made
by ARM. ARM was also required to remit to the IRS collections on certain
billed receivables that were outstanding as of April 2, 1996 (the final
vouchers on 14 old contracts, which totaled approximately $136,700). In
addition, as part of the agreement with the IRS and as required by the
Bankruptcy Court, ARM was required to remit its post-petition taxes when due
and provide proof of such payments to the IRS and the Court on a timely basis.
The Bankruptcy Court approved the agreements with the IRS and CFC, and
approved ARM's operating budget for 15 days through April 21, 1996.
Thereafter, these agreements continued to be renewed by the Bankruptcy Court.
While ARM was in bankruptcy, it curtailed accruing interest on all pre-
petition obligations except the amounts owed CFC, the secured lender approved
by the Bankruptcy Court.
SALE OF ARM'S GOVERNMENT CONTRACTS.
- -----------------------------------
On March 3, 1997, the Company accepted a contract for the sale of certain of
ARM's assets for $1.475 Million from Space Applications Corporation ("SAC").
The sale was subject to Bankruptcy Court approval, which was scheduled for
April 11, 1997. At the hearing, a total of three qualified bidders attended,
and after extensive bidding, an offer was accepted for $1.75 Million from SAC.
The purchase price was payable as follows: $1,172,400 of cash at closing,
$322,400 payable over three years and the assumption of liabilities totaling
$255,200.
Because of the change in the purchase price as well as in the distribution of
funds, the original SAC contract required modifications. An amendment to the
contract reflecting these changes was signed on April 16, 1997. A Bankruptcy
Court order documenting the bidding procedure was approved by the Bankruptcy
Court on May 30, 1997. The sale was subject to the successful novation of
ARM's Government contracts. This request was approved on June 19, 1997, at
which time the sale was completed with payment of the cash portion of the
purchase price being placed in escrow. The cash placed in escrow was
subsequently disbursed to creditors.
A list of the purchased and excluded assets is on the following page:
Purchased Assets Excluded Assets
---------------- ---------------
- - All Contracts rights - ARM's charter and status as a
(including project contracts), corporation, its minute book, stock
- - All inventory, transfer records, and similar records
- - All books and records, relating to ARM's organization,
- - All furniture, fixtures and existence or capitalization, and the
equipment, capital stock of ARM,
- - All proprietary rights - Billed accounts receivable as of
(patents, etc.), closing,
- - All unbilled accounts - Intercompany receivables,
receivable relating to - All of ARM's cash accounts,
expired contracts as of - ARM's rights to occupy real property
January 31, 1997, pursuant to leases of real property an
- - All other unbilled accounts and any leasehold improvements made
receivable as of the closing thereto,
date - Any other property identified by the
Purchaser prior to the closing.
PLAN OF REORGANIZATION/PAYMENT AND PRE-PETITION LIABILITIES.
- -----------------------------------------------------------
After the sale was completed, ARM filed a Plan of Reorganization, which, among
other things, specified how much of the outstanding pre-petition liabilities
would be paid and over what period of time. On July 30, 1998, the Plan was
approved by the Bankruptcy Court. Between the monies generated from the sale
of ARM's contracts rights plus the collection of outstanding accounts
receivable (which were not part of the sale), there was not sufficient monies
to liquidate all of ARM's pre-petition liabilities. The condensed
consolidated balance sheet at August 31, 1998, have been adjusted to reflect
the amount that is currently expected to be paid as part of the approved Plan
of Reorganization. Should ARM continue to incur additional professional fees
over the amounts currently accrued, by agreement, the additional professional
fees will decrease the amounts to be paid to the state tax creditors. See
note 6 for additional information.
COLLECTION OF THE INTER-COMPANY AMOUNTS OWED TO ARM.
- ---------------------------------------------------
As of April 2, 1996, ARS owed ARM approximately $1.2 Million and ARInternet
owed ARM $0.4 Million. These amounts resulted from ARM paying certain
operating expenses of ARS and ARInternet during their start-up phases and
providing continued money thereafter to fund operations. Since these amounts
are owed to ARM, the ultimate collection of these advances was controlled by
the Bankruptcy Court. As part of the approved Plan of Reorganization,
ARInternet agreed to pay as settlement for the inter-company amounts owed to
the Debtor: 1) $150,000 over three years, 2) half of any net surplus in cash
flow derived from ARS or ARInternet operations after debt service, and 3) half
of the net profit from any future sale of ARInternet. This settlement is
secured by a lien on all assets of ARS and ARInternet, and was personally
guaranteed by the President of ARC.
IMPACT ON ARC AFTER THE SALE OF ARM'S ASSETS WAS COMPLETED.
- ----------------------------------------------------------
During the fiscal year ended May 31, 1998, ARM's operations constituted 37% of
ARC's total revenue. The sale transferred essentially all of ARM's assets and
operations to the Purchaser and eliminated all of ARM's revenues. Therefore,
ARS and ARInternet are the only remaining operating entities. Up until the
bankruptcy filing, ARM had been forced to continue to fund ARS's and
ARInternet's operations. During the fiscal year ended May 31, 1996, (through
April 2, 1996), ARM funded approximately $204,600 of ARS and ARInternet
expenses. After April 2, 1996, because of the ARM bankruptcy proceedings, ARM
ceased all such advances and ARS and ARInternet were forced to fund their own
operations. ARS is still not operating at cash flow breakeven, so it is
doubtful that it can survive without a substantial infusion of cash or a
significant increase in revenues. Management is considering several options
for ARS, including ceasing its operations. ARInternet on the other hand, as
of May 31, 1998, had approximately 750 subscribers and had essentially reached
breakeven operations. Management believes that ARInternet's revenues and
business will continue to grow and that ARInternet will ultimately be a
successful business on its own, however there can be no assurance of this.
The sale of ARM's assets dramatically changed the Company's balance sheet and
statement of operations. Through the bankruptcy proceeding, all of ARM's
debts, which totaled approximately $1.4 million at July 30, 1998, will be
either liquidated or discharged (See Note 6). If ARS and ARInternet's
revenues can be increased to produce net profits and a positive cash flow, the
Company may in fact benefit from the sale of ARM's assets. However, unless
and until this occurs, the Company may not have sufficient capital to achieve
its current business plan, which raises substantial doubt as to the Company's
ability to continue as a going concern after the sale of ARM's assets.
5. DISCONTINUED OPERATIONS
-----------------------
On June 19, 1997, the Company consummated the sale of substantially all of the
assets of ARM to SAC (the "Sale"). Accordingly, results from operations for
ARM have been shown as discontinued operations for the three months ended
August 31, 1998 and 1997.
A reconciliation of the sales price to the net cash received is presented
below:
<TABLE>
<CAPTION>
<S> <C> <C>
Sales price $ 1,750,000
Less: Payments due over a period of one to three years (322,400)
Less: Assumption of vacation liability (255,200)
-------------
Net cash received at closing $ 1,172,400
=============
</TABLE>
Distribution of the cash received at closing was as follows:
<TABLE>
<CAPTION>
<S> <C> <C>
Internal Revenue Service - pre-petition taxes $ 609,000
Employees - pre-petition 401(k) contributions 271,017
Employees - pre-petition expenses 50,000
Administrative expenses associated with sale of ARM 60,000
Cash held in Escrow for administrative claims 182,383
-------------
Net cash received at closing $ 1,172,400
=============
</TABLE>
Of the deferred amounts referenced above, $34,900 was due and paid during June
1998. The remainder of $287,500 was due in two installments, $162,500 in June
1999 and $125,000 in June 2000. ARM reached agreement with all of the
creditors involved to accept a discounted current payment in lieu of the
scheduled payments. The amount shown in the August 31, 1998 condensed
consolidated balance sheet as Due from Space Applications Corporation was paid
into escrow during August 1998. During September 1998, ARM received
Bankruptcy Court approval and this money is expected to be remitted to the
various creditors during October 1998.
A summary of ARM's results from operations for the three months ended August
31, 1998 and 1997 are shown below:
THREE MONTHS ENDED AUGUST 31, 1998 AND 1997
- -------------------------------------------
<TABLE>
<CAPTION>
1998 1997
(Unaudited) (Unaudited)
------------- -------------
<S> <C> <C>
Revenue $ - $ 280,683
------------- -------------
Operating costs and expenses:
Direct cost of services - 174,190
Indirect operating costs - 74,224
General & administrative expenses 128 108,793
------------- -------------
Total operating costs and expenses 128 355,207
------------- -------------
Operating loss from discontinued operations (128) (74,524)
------------- -------------
Other (income) expense:
Interest expense, net (99) 14,490
Other, net (3,835) (19,290)
------------- -------------
Total other expense (3,934) (4,800)
------------- -------------
Income tax (tax benefit) - (37,700)
------------- -------------
Income (loss) from discontinued operations
before reorganization items 3,806 (32,024)
Reorganization items - professional fees (3,811) (27,085)
------------- -------------
Loss from discontinued operations $ (5) $ (59,829)
============= =============
</TABLE>
6. EXTRAORDINARY ITEM
------------------
On July 30, 1998, the Bankruptcy Court confirmed ARM's plan of
reorganization. The confirmed plan resulted in the following adjustments to
ARM's August 31, 1998 Balance Sheet:
<TABLE>
<CAPTION>
August 31, 1998 August 31, 1998
Balance Sheet Balance Sheet
Before After
Adjustment Adjustment
for Approved for Approved
Plan of Plan of
Reorganization Reorganization Difference
--------------- --------------- ------------
<S> <C> <C> <C>
ASSETS
- ------
CURRENT ASSETS
Cash $ 28,678 $ 28,678 $ -
Accounts receivable
from customers, net 127,010 127,010 -
Intercompany advances
receivable 1,601,205 150,000 (1,451,205)
Due from Space Application
Corporation, short-term 251,033 251,033 -
Other current assets 12,184 12,184 -
-------------- -------------- -------------
TOTAL CURRENT ASSETS 2,020,110 589,906 (1,451,205)
-------------- -------------- -------------
TOTAL ASSETS $ 2,020,110 $ 589,906 $(1,451,205)
============== ============== =============
LIABILITIES
- -----------
CURRENT LIABILITIES
Liabilities not subject
to compromise:
Accounts payable $ 134,812 $ 134,812 $ -
Other accrued
liabilities 51,753 51,753 -
-------------- -------------- -------------
Total liabilities not
subject to compromise 186,565 186,565 -
-------------- -------------- -------------
Liabilities subject to
compromise:
Accounts payable 272,338 - (272,338)
Accrued salaries and
benefits 347,882 198,003 (149,879)
Accrued payroll taxes
and withholdings 166,039 150,000 (16,039)
Accrued interest and
penalties 395,562 34,338 (361,224)
-------------- -------------- -------------
Total liabilities subject
to compromise 1,181,821 382,341 (799,480)
-------------- -------------- -------------
TOTAL CURRENT LIABILITIES 1,368,386 568,906 (799,480)
-------------- -------------- -------------
STOCKHOLDERS' EQUITY
- --------------------
Investment by ARC 1,029,621 1,029,621 -
Accumulated Deficit (377,897) (1,029,621) (651,724)
-------------- -------------- -------------
TOTAL STOCKHOLDERS' EQUITY 651,724 - (651,724)
-------------- -------------- -------------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $ 2,020,110 $ 589,906 $(1,451,205)
============== ============== =============
</TABLE>
The company accounted for the reorganization as a troubled debt restructuring
whereby, the gain on the restructuring of the pre-petition liabilities of
$799,480 was aggregated and treated as an extraordinary item in the
accompanying condensed consolidated statement of operations. The
extraordinary item has been shown net of the income tax expense of $308,800.
Inter company receivables are eliminated in consolidation and therefore these
adjustments did not impact the consolidated statement of operations. However,
these write downs did impact ARM's, ARS' and ARInternet's individual balance
sheets and their individual statement of operations. This will also have
income tax consideration in the states where these companies do not file
consolidated tax returns. However, it is expected that these companies will
have sufficient net operating losses to offset any potential income generated
by this transaction.
7. SUPPLEMENTAL SEGMENT INFORMATION
--------------------------------
The Company's continuing operations have been classified into two business
segments:
<TABLE>
<CAPTION>
ARS ARInternet Consolidated
------------ ------------ ------------
<S> <C> <C> <C> <C>
Sales to unaffiliated customers:
Quarter ended:
--------------
August 31, 1998 $ 19,955 $ 77,359 $ 97,314
August 31, 1997 $ 36,542 $ 96,041 $ 132,583
Operating loss from continuing operations
before other (income) expense and income taxes:
Quarter ended:
--------------
August 31, 1998 $ (1,698) $ (31,862) $ (33,560)
August 31, 1997 $ (1,243) $ (14,281) $ (15,524)
</TABLE>
Operating loss equals total net revenues less operating expenses.
ARM's results have been reported as discontinued operations in the
accompanying condensed consolidated financial statements, since the Company
sold substantially all of the operating assets of ARM (see Note 5).
<PAGE>
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS FROM OPERATIONS
Overview
- --------
Applied Research Corporation ("the Company") is comprised of two wholly owned
subsidiaries, Applied Research of Maryland, Inc. ("ARM") and ARSoftware
Corporation ("ARS"), and a majority owned subsidiary, ARInternet Corporation
("ARInternet"). ARM currently consists of three unincorporated divisions:
Technical Services Division, Instruments Division and ARInstruments Division
("ARInstruments"). Management's Discussion and Analysis of Financial
Condition and Results of Operations takes into consideration the activities of
the Company as a whole and each individual operating entity where necessary.
Management's Discussion and Analysis should be read in conjunction with the
Company's Condensed Consolidated Financial Statements, including the footnotes
thereto.
Results from Operations - Three Months Ended August 31, 1998 Compared to 1997
- -------------------------------------------------------------------------
FROM CONTINUING OPERATIONS
The Company's revenues for the quarter ended August 31, 1998, were $97,314, or
27% below revenues of $132,583 for the same period during 1997. The decrease
of $(35,269) in revenues during the quarter ended August 31, 1998, is
attributable to the decrease in ARInternet's revenues of $(18,682) or (19%),
and the decrease in ARS' revenues of $(16,587) or (45)% over the same period
in 1997. The decrease in ARInternet's revenue were caused by a reduction in
the number of subscribers serviced by the company, which the company beliefs
is primarily related to the company not offering digital access capability.
Subsequent to August 31, 1997, ARInternet contracted to upgrade its services
for digital access capability. The decrease in ARS' revenues related to a
decrease in the amount of products sold.
The Company's direct cost of services decreased $(3,692) or (6)%, from $61,827
during the quarter ended August 31, 1997, to $58,135 during the same period in
1998. Of this amount, ARInternet increased $10,214 or 30%, while ARS' cost of
services decreased $(13,906) or (49%). The increase in direct costs of
ARInternet related to the increase in the basic connectivity services, while
the decrease of ARS' direct costs related to the decrease in sales for the
quarter compared to the same period in 1997.
General and administrative ("G&A") expenses decreased $(12,541) or (15)%, from
$86,280 in 1997, to $73,739 during 1998. Most notably, the G&A expenses
associated with ARInternet decreased $(11,314), or (15)% due to a reduction in
the amount of salaries. ARS' G&A expenses decreased $(1,227) or (13%), which
was attributed to the reduction in personnel costs. The decrease in
ARInternet's G&A expenses related to a reduction in staffing during 1997 when
compared to the same period in 1998.
As a result of the foregoing, the Company realized a operating loss from
continuing operations for the quarter ended August 31, 1998, of $(34,560)
compared to a operating loss of $(15,524) for the same period during 1997.
ARS realized a operating loss of $(1,698) for the quarter ended August 31,
1998, which loss represented a regression of $(455) or (37)% from the
operating loss of $(1,243) during the same period in 1997. ARInternet
realized a operating loss of $(31,862) for the quarter ended August 31, 1998,
which represented a regression of $(17,581) from the operating loss of
$(14,281) during the same period in 1997.
Interest and other expenses decreased $(3,127), from $3,495 for the quarter
ended August 31, 1997, to $368 during the quarter ended August 31, 1998. The
increase was primarily related to a decrease in the amount of penalties that
are being incurred.
The Company realized a loss from continuing operations before income taxes of
$(34,928) for the quarter ended August 31, 1998, compared to a loss from
continuing operations of $(19,019) during the same period in 1997. This
change in results from continuing operations was primarily caused by the
decrease in ARInternet's operating income. The Company realized income from
continuing operations of $518,581 during 1997 and $259,772 during 1998, after
the realization of the income tax benefit associated with the gain in the sale
of ARM of $537,600 during 1997, and the tax benefit associated with the
extraordinary item of $294,700 during 1998.
Based on the foregoing, income (loss) per common share from continuing
operations changed from $0.08 in 1997 to $0.04 in 1998.
FROM DISCONTINUED OPERATIONS
ARM's revenues for the quarter ended August 31, 1998, were $0, or (100)% below
revenues of $280,683 for the same period during 1997. The decrease in
revenues during the quarter ended August 31, 1998, is attributable to the sale
of ARM which was effective June 19, 1997. Effective with the sale of ARM, all
of ARM's direct employees terminated their employment relationships with ARM
and, as a result, all revenues of ARM ceased.
ARM's direct cost of services decreased $174,190 or 100%, from $174,190 during
the quarter ended August 31, 1997, to $0 during the same period in 1998.
ARM's decrease in direct costs was due to the decrease in direct labor due,
which, in turn, was due to the sale of ARM.
ARM's indirect operating costs decreased $74,224 or 100%, from $74,224 during
the quarter ended August 31, 1997, to $0 during the quarter ended August 31,
1998. This decrease is directly related to a decrease in direct labor costs
incurred.
ARM's general and administrative ("G&A") expenses decreased $108,665 or 100%,
from $108,793 in 1997, to $128 during 1998. The decrease in ARM's G&A
expenses was directly attributable to the sale of ARM. ARM may, however,
continue to incur some minor G&A expenses while winding down ARM's affairs in
the Bankruptcy Court, which is expected to take a few months.
As a result of the foregoing, ARM realized an operating loss for the quarter
ended August 31, 1998, of $(74,524) compared to an operating loss of $(128)
for the same period during 1997. The $74,396 decrease in ARM's 1998 operating
margin was primarily related to the sale of ARM's contracts and the
discontinuation of ARM's operations.
ARM's interest and other expenses increased $866, from $(4,800) for the
quarter ended August 31, 1997, to $(3,934) during the quarter ended August 31,
1998. Net interest expense decreased $14,589 or 101% from 1997. The decrease
in interest costs was the result of ARM paying off its secured debt during
July 1997. Other expenses increased $15,456 or 80% during the quarter ended
August 31, 1998. The amounts shown under other expenses represent collections
on receivables that had been written off in previous years.
During 1998, ARM reported a gain before the gain (loss) on the sale of ARM of
$3,806 for the quarter ended August 31, 1998, compared to a loss of $(32,024)
during the same period last year.
Liquidity and Capital Resources - 1998 Compared to 1997
- -------------------------------------------------------
Total assets decreased $90,078 or 16%, from $573,110 at May 31, 1998, to
$483,032 at August 31, 1998. Total liabilities on the other hand decreased
from $1,700,346 to $882,188 over the same period, or a decrease of $818,158,
or 48%.
The most significant reason for the decrease in total assets was the decrease
in the amount due from Space Applications Corporation. During June 1998, Space
Application Corporation paid $34,900, the installment due from the June 1997
sale. Additionally, during the quarter ended August 31, 1998, the Company
extended Space Applications Corporation a discount of $36,467 for a current
payment of $251,033 on the remaining installment payments of $287,500. All of
the creditors agreed to the discounted payment.
The most significant reasons for the $16,222 increase in post-petition
liabilities collectively, were increases in: accounts payable increased by
$25,470 as well as accrued payroll taxes and withholdings by $11,933, offset
by decreases in notes payable of $1,580, loans payable to officers and
directors of $1,442, other accrued liabilities of $8,787 and deferred revenue
of $9,372. The majority of the post-petition accounts payable consisted of
unpaid professional fees related to the bankruptcy proceeding, which must be
court approved by the Bankruptcy Court before they can be paid.
The decrease in pre-petition liabilities of $(834,380) resulted receipt of the
installment payment of $34,900 from Space Applications Corporation as well as
the write off of $799,480 resulting from the discharge of these liabilities
upon the approval of the Plan of Reorganization by the Bankruptcy Court on
July 30, 1998.
The Company's working capital deficit improved $1,020,974 or 71% during the
quarter ended August 31, 1998, from a deficit of $(1,440,230) at May 31, 1998
to a deficit of $(419,256) at August 31, 1998. This was primarily the result
of the discharge of $799,480 pre-petition liabilities as a result of the
approval of the plan of reorganization.
FILING OF CHAPTER 11 PETITION BY ARM
The following is a chronology of the events leading up to ARM filing for
protection under Chapter 11 of the United States Bankruptcy laws on April 2,
1996, as well as a discussion of what has happened since the filing and
subsequent signing of an agreement to sell the majority of ARM's assets to
SAC.
Because ARM was in default under its December 1, 1995, installment agreement
with the IRS, the Company's assets were subject to immediate seizure and
possible sale by the IRS. To that end, on April 1, 1996, the IRS issued Levy
Notices to ARM's bank, financing company and the majority of its customers.
On April 2, 1996, the IRS attempted to close ARM. As a result, on April 2,
1996, ARM was forced to file for protection under Chapter 11 of the United
States Bankruptcy Code.
On April 5, 1996, ARM received an emergency hearing with the Bankruptcy Court
to determine its request to pay its employees their pre-petition wages as well
as continue to operate the business. Prior to the emergency hearing, ARM
reached an agreement with the IRS and its principle lender, CFC, to allow the
company to continue to operate and borrow money from CFC against its billed
receivables. Under this agreement, ARM agreed to pay $15,000 a month starting
April 1996, towards its arrearage with the IRS. The April payment consisted
of $13,600 of cash seized by the IRS on April 1, 1996. Subsequent monthly
payments continued to be made directly to the IRS by CFC from borrowings made
by ARM. ARM was also required to remit to the IRS collections on certain
billed receivables that were outstanding as of April 2, 1996 (the final
vouchers on 14 old contracts, which totaled approximately $136,700). In
addition, as part of the agreement with the IRS and as required by the
Bankruptcy Court, ARM was required to remit its post-petition taxes when due
and provide proof of such payments to the IRS and the Court on a timely basis.
The Bankruptcy Court approved the agreements with the IRS and CFC, and
approved ARM's operating budget for 15 days through April 21, 1996.
Thereafter, these agreements continued to be renewed by the Bankruptcy Court.
While ARM was in bankruptcy, it curtailed accruing interest on all pre-
petition obligations except the amounts owed CFC, the secured lender approved
by the Bankruptcy Court.
SALE OF ARM'S GOVERNMENT CONTRACTS.
On March 3, 1997, the Company accepted a contract for the sale of certain of
ARM's assets for $1.475 Million from Space Applications Corporation ("SAC").
The sale was subject to Bankruptcy Court approval, which was scheduled for
April 11, 1997. At the hearing, a total of three qualified bidders attended,
and after extensive bidding, an offer was accepted for $1.75 Million from SAC.
The purchase price was payable as follows: $1,172,400 of cash at closing,
$322,400 payable over three years and the assumption of liabilities totaling
$255,200.
Because of the change in the purchase price as well as in the distribution of
funds, the original SAC contract required modifications. An amendment to the
contract reflecting these changes was signed on April 16, 1997. A Bankruptcy
Court order documenting the bidding procedure was approved by the Bankruptcy
Court on May 30, 1997. The sale was subject to the successful novation of
ARM's Government contracts. This request was approved on June 19, 1997, at
which time the sale was completed with payment of the cash portion of the
purchase price being placed in escrow. The cash placed in escrow was
subsequently disbursed to creditors.
A list of the purchased and excluded assets is on the following page:
Purchased Assets Excluded Assets
---------------- ---------------
- - All Contracts rights - ARM's charter and status as a
(including project contracts), corporation, its minute book, stock
- - All inventory, transfer records, and similar records
- - All books and records, relating to ARM's organization,
- - All furniture, fixtures and existence or capitalization, and the
equipment, capital stock of ARM,
- - All proprietary rights - Billed accounts receivable as of
(patents, etc.), closing,
- - All unbilled accounts - Intercompany receivables,
receivable relating to - All of ARM's cash accounts,
expired contracts as of - ARM's rights to occupy real property
January 31, 1997, pursuant to leases of real property an
- - All other unbilled accounts and any leasehold improvements made
receivable as of the closing thereto,
date - Any other property identified by the
Purchaser prior to the closing.
PLAN OF REORGANIZATION/PAYMENT AND PRE-PETITION LIABILITIES.
After the sale was completed, ARM filed a Plan of Reorganization, which, among
other things, specified how much of the outstanding pre-petition liabilities
would be paid and over what period of time. On July 30, 1998, the Plan was
approved by the Bankruptcy Court. Between the monies generated from the sale
of ARM's contracts rights plus the collection of outstanding accounts
receivable (which were not part of the sale), there was not sufficient monies
to liquidate all of ARM's pre-petition liabilities. The condensed
consolidated balance sheet at August 31, 1998, have been adjusted to reflect
the amount that is currently expected to be paid as part of the approved Plan
of Reorganization. Should ARM continue to incur additional professional fees
over the amounts currently accrued, by agreement, the additional professional
fees will decrease the amounts to be paid to the state tax creditors. See
note 6 for additional information.
COLLECTION OF THE INTER-COMPANY AMOUNTS OWED TO ARM.
As of April 2, 1996, ARS owed ARM approximately $1.2 Million and ARInternet
owed ARM $0.4 Million. These amounts resulted from ARM paying certain
operating expenses of ARS and ARInternet during their start-up phases and
providing continued money thereafter to fund operations. Since these amounts
are owed to ARM, the ultimate collection of these advances was controlled by
the Bankruptcy Court. As part of the approved Plan of Reorganization,
ARInternet agreed to pay as settlement for the inter-company amounts owed to
the Debtor: 1) $150,000 over three years, 2) half of any net surplus in cash
flow derived from ARS or ARInternet operations after debt service, and 3) half
of the net profit from any future sale of ARInternet. This settlement is
secured by a lien on all assets of ARS and ARInternet, and was personally
guaranteed by the President of ARC.
IMPACT ON ARC AFTER THE SALE OF ARM'S ASSETS WAS COMPLETED.
During the fiscal year ended May 31, 1998, ARM's operations constituted 37% of
ARC's total revenue. The sale transferred essentially all of ARM's assets and
operations to the Purchaser and eliminated all of ARM's revenues. Therefore,
ARS and ARInternet are the only remaining operating entities. Up until the
bankruptcy filing, ARM had been forced to continue to fund ARS's and
ARInternet's operations. During the fiscal year ended May 31, 1996, (through
April 2, 1996), ARM funded approximately $204,600 of ARS and ARInternet
expenses. After April 2, 1996, because of the ARM bankruptcy proceedings, ARM
ceased all such advances and ARS and ARInternet were forced to fund their own
operations. ARS is still not operating at cash flow breakeven, so it is
doubtful that it can survive without a substantial infusion of cash or a
significant increase in revenues. Management is considering several options
for ARS, including ceasing its operations. ARInternet on the other hand, as
of May 31, 1998, had approximately 750 subscribers and had essentially reached
breakeven operations. Management believes that ARInternet's revenues and
business will continue to grow and that ARInternet will ultimately be a
successful business on its own, however there can be no assurance of this.
The sale of ARM's assets dramatically changed the Company's balance sheet and
statement of operations. Through the bankruptcy proceeding, all of ARM's
debts, which totaled approximately $1.4 million at July 30, 1998, will be
either liquidated or discharged (See Note 6). If ARS and ARInternet's
revenues can be increased to produce net profits and a positive cash flow, the
Company may in fact benefit from the sale of ARM's assets. However, unless
and until this occurs, the Company may not have sufficient capital to achieve
its current business plan, which raises substantial doubt as to the Company's
ability to continue as a going concern after the sale of ARM's assets.
Inflation
- ---------
The Company anticipates increases in costs associated with the operation of
the business and reflects this in the cost of living escalation factors
proposed on all new work. In addition, the Company is continually researching
areas to minimize cost increases and strives for improved efficiencies in all
aspects of its business environment.
<PAGE>
<PAGE>
PART II - OTHER INFORMATION
Item 1: Legal Proceedings
-----------------
None
Item 2: Changes in Securities
---------------------
None
Item 3: Defaults Upon Senior Securities
-------------------------------
None
Item 4: Submission of Matters to a Vote of Security Holders
---------------------------------------------------
None
Item 5: Other Information
-----------------
None
Item 6: Exhibits and Reports on Form 8-K
--------------------------------
Exhibits:
Exhibit 27 - Financial Data Schedule
Reports on Form 8-K:
None
<PAGE>
<PAGE>
APPLIED RESEARCH CORPORATION AND SUBSIDIARIES
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
/s/ S.P.S. Anand October 21, 1998
- ------------------------------------------ ----------------
Dr. S.P.S. Anand Date
President and Chief Executive Officer
/s/ Dennis H. O'Brien October 21, 1998
- ------------------------------------------ ----------------
Dennis H. O'Brien Date
Vice President and Chief Financial Officer
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEETS AND CONSOLIDATED STATEMENTS OF OPERATIONS FOUND ON
PAGES 3,4 AND 5 OF THE COMPANY'S FORM 10-QSB FOR THE THREE MONTHS ENDED AUGUST
31, 1998 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL
STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> MAY-31-1998
<PERIOD-END> AUG-31-1998
<CASH> 31,454
<SECURITIES> 0
<RECEIVABLES> 165,602
<ALLOWANCES> 1,628
<INVENTORY> 0
<CURRENT-ASSETS> 462,932
<PP&E> 157,386
<DEPRECIATION> 137,286
<TOTAL-ASSETS> 483,032
<CURRENT-LIABILITIES> 882,188
<BONDS> 0
0
0
<COMMON> 3,155
<OTHER-SE> (1,542,840)
<TOTAL-LIABILITY-AND-EQUITY> (399,156)
<SALES> 97,314
<TOTAL-REVENUES> 97,314
<CGS> 131,874
<TOTAL-COSTS> 131,874
<OTHER-EXPENSES> 368
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 370
<INCOME-PRETAX> (34,928)
<INCOME-TAX> (294,700)
<INCOME-CONTINUING> 259,772
<DISCONTINUED> (22,372)
<EXTRAORDINARY> 490,680
<CHANGES> 0
<NET-INCOME> 728,080
<EPS-PRIMARY> .12
<EPS-DILUTED> .12
</TABLE>
